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The European mergers and acquisitions (M&A) scene appears different this year from ever before. But the change has nothing to do with fresh strategic thinking or economic sentiment, and bears no relation to the influence of private equity or the abundance of deal finance.
M&A appears different in the most literal sense, because the numbers that tell the story of every transaction -- stowed away in company accounts and statutory filings -- are themselves being transformed.
The accounting revolution that has swept the European Union (EU) -- the introduction of International Financial Reporting Standards (IFRS) -- has taken M&A with it. And deal making is helping disprove the sceptics who said IFRS did not matter because it was merely about cosmetics.
Extra disclosure requirements and new rules on the calculation of key figures are changing the terms in which M&A is thought about and thus changing deals themselves: delaying some, affecting prices, and apparently leading to a few being canned entirely.
That at least is according to the accountants, who tend to talk about IFRS in more profound terms than company finance chiefs and investment bankers.
But although the standards are unlikely to affect the strategic rationale for deals, warnings about potentially embarrassing post-deal earnings figures under IFRS deserve consideration.
The most significant implications of IFRS 3, the accounting standard on business combinations, pivot on a change in the treatment of goodwill.
The term in the past has denoted the amount of cash or shares paid by an acquirer for everything other than a target's tangible assets -- encompassing the assorted mixture of brands, customer relationships, know-how and patents that make up most of the value of modern companies.
Under IFRS, however, this huge pool of intangibles is almost drained dry.
As Richard Winter, partner at PwC, explains: "When a company makes an acquisition, intangible assets that were formerly part of an amorphous blob of goodwill are now required to be identified separately, valued and held on the balance sheet, leaving goodwill as a residual amount."
This applies to all deals because IFRS has outlawed "mergers": there are now only "acquisitions" in the language of accounting. And this is more than a technical exercise in neat housekeeping.
As with other aspects of IFRS -- such as rules on stock options and hedging -- the M&A standard is likely to encourage greater discipline by making acquirers think more carefully about whether the intangibles they are bidding for really add up to the sum they are offering.
KPMG said in a recent report that chief executives and finance directors would no longer be able to justify the premium paid for a purchase with airy references to a "valuable customer base" and "excellent technology".
Mr Winter at PwC adds: "A number of companies have said that in future they will consider formally identifying and valuing intangible assets as part of the due diligence process before completing a deal, Some have also said it will make them more cautious about finalising a purchase price."
That sounds prudent when one appreciates that, thanks to IFRS, all those calculations will be thrust out into the open.
The fine details of this year's big agreed deals -- such as Pernod Ricard's takeover of Allied Domecq -- remain largely under wraps, but will be laid bare when accounts are published for 2005.
The first point of interest for analysts and number hungry investors is likely to be amortisation charges.
Companies had to amortise old-style goodwill over a period of several years for the sake of prudence, making the assumption that what they had acquired was slowly shedding value.
The vast majority of analysts, however, ignored what was seen as a meaningless non-cash charge: when amortisation led Vodafone to the largest loss in UK corporate history it was shrugged off by the market.
That is now likely to change because amortisation is required asset by asset, allowing analysts to make more discerning judgments about whether it makes sense to include at least some of the charges in their earnings calculations.
What remains of the goodwill, meanwhile, is subject to an annual impairment test. That requires companies to make calculations -- often on abstract foundations given the elusive nature of the subject -- about whether the expected future cash flows generated by that goodwill still support its valuation.
A big writedown charge in the first set of accounts after an acquisition will eat a hole into earnings and not say much for a CEO's judgement with money.
So post-deal earnings trends are likely to be more "lumpy".
And even without dramatic one-off hits, the item by item amortisation charges are expected to exert a drag on earnings growth.
As a result it could take longer for the most closely watched metric of deal success -- earnings per share -- to climb higher and prove that a deal is delivering the value it promised.
Investors will need to be asked for more patience but they themselves will have the raw data to work out whether a slow-burning deal is really just plain bad.
KPMG warns that regulators too are likely to pore over M&A accounting. Different intangible assets can be "given" different lifetimes by accountants and there is not yet much precedent in Europe on which to base judgments.
Pointing out that shorter lifetimes lead to bigger annual amortisation charges, KPMG says: "In attempting to soften the short term blow to earnings, companies may attempt to shift some of the value of short-lived assets to those with longer lives.
"But beware," it continues. "Regulators keep a close check on such earnings 'arbitrage' and may well ask companies to readjust accounts, while auditors may refuse to sign off the accounts."
Company executives who leave IFRS to the accountants do so at their peril.
Under syndication arrangement with FE
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