Goodwill Hunting

A couple weeks ago, there was a good discussion on this blog about capital standards and goodwill (see comments).

Goodwill is an intangible asset, which can arise from a strong brand name, good customer relations, good employee relations and any patents or proprietary technology. In case of business combinations, goodwill is the difference between the market value and book value of the target firm.

However, intangible assets such as goodwill are particularly difficult to turn into cash and can lose value if a financial institution’s overall franchise deteriorates.

When calculating tier-1 capital for a bank, goodwill net of deferred tax liabilities arising from a business combination is subtracted from a bank's equity capital.

But a similar adjustment is not made when calculating the net worth of a credit union. The Federal Credit Union Act defines net worth as "the retained earnings balance of the credit union, as determined under generally accepted accounting principles, together with any amounts that were previously retained earnings of any other credit union with which the credit union has combined."

According to NCUA, federally-insured credit unions reported almost $496 million in goodwill as of the end of the first quarter of 2011. Between March of 2010 and March of 2011, goodwill reported on the books of credit unions grew by 53 percent.

Chartway FCU of Virginia Beach has seen a large increase in its goodwill, which presumably arose from its acquisition of two failed Utah credit unions. At the end of 2009, it did not report any goodwill. As of March 2011, goodwill was almost $49.8 million.

For some credit unions, if you netted out goodwill, there would be a material drop in their level of net worth.

For example, Texans Credit Union, which is in conservatorship, is reporting goodwill of $18.4 million as of March 2011. Goodwill is equal to 56.67 percent of Texans Credit Union's net worth.

There are 14 credit unions where goodwill is at least 10 percent of the credit union's net worth. Five credit unions report goodwill is at least 25 percent of their net worth.