How GM Avoided A $30 Billion Loss: With A Little Juggling

So you think GM had a big profit last year? There are other people who say that GM should have reported a $30 billion loss. At least as long as GAAP (Generally Accepted Accounting Principles) are applied. How did that happen? It’s a puzzle palace of assets out of thin air, of non-paid taxes on assumed future earnings. It started in 2010 …

Back in 2010, Bloomberg and Ed Niedermeyer took GM to task over a bookkeeping entry called “goodwill.” It’s what’s also called an “intangible” asset, an asset that usually is hard and often impossible to get one’s hands on. If you buy a company, goodwill is easy: It’s the difference between the fair value of the net assets and the purchasing price. Apart from that, goodwill pretty much is what you want it to be – within not always clear limitations. So there you thought a lot of people did not think too highly of GM after the bailout, but in 2010, goodwill was GM’s largest non-current asset, to the tune of $30.2 billion. Without that extremely intangible asset, GM would have had a negative equity of $6.3 billion. If you want to know more about this, refer to Ed’s article from 2010.

This article also explained that as GM’s creditworthiness improves, the goodwill balance would decline. Perversely, improved results “could make GM’s goodwill vulnerable to write-downs in future periods, which would reduce earnings,” as the article said. Think of it as channel stuffing on a much, much grander scale.

This write-down happened in 2012. GM took a goodwill impairment charge of about $27 billion. Then how did GM end up with a $7.9 billion operating profit and a $4.9 billion net profit for 2012? With another intangible entry. GM adjusted its earnings with a tax benefit of $35 billion for a “deferred tax valuation release.”

What’s that, you ask? Mark Modica of the National Legal and Policy Center explains it:

“My understanding of the tax benefit, in simple terms, is that GM is taking as income the $35 billion in tax savings it says it will have in the future as a result of the sweetheart deal it got when the Obama Administration allowed it to have billions of dollars in tax-loss carryover credits, thus giving the company years of tax-free income.”

In other words, GM made a profit this year by booking the taxes saved on profits it will make in the future. Welcome to the New Old GM. Without this juggling act, GM would be deep in the reds, Modica says:

“GM uses non-GAAP (Generally Accepted Accounting Principles) to calculate its calendar year operating income of $7.9 billion. The GAAP number does not allow the tax benefit and is a bit more troubling at a LOSS of $30.4 billion.”

Undoubtedly, the pro-bailout, pro-UAW, and pro-Obama crowd is already typing comments along the lines that the National Legal and Policy Center is an organization that makes the Tea Party look like a group of bleeding-heart liberals. Wait, there are others that don’t think too highly of the accounting abracadabra:

Investopedia:

“The amount of deferred income tax is based on tax rates in effect when temporary differences originate. It is an income-statement-oriented approach. It emphasizes proper matching of expenses with revenues in the period when a temporary difference originates. Finally, it is not acceptable under GAAP. …Management can use changes in the allowance to “manipulate” NI (net income) by affecting income tax expense. Analysts should scrutinize these types of changes.”

Wikinvest:

“A valuation allowance depends a great deal on management assumptions – who’s to say how high a company’s future profits will be, and therefore whether the company will be able to take advantage of its deferred tax assets? If management changes its assumptions about future earnings, the valuation allowance changes, and the difference is reported as earnings, today. So, management at companies with valuation allowances can directly change reported earnings today by changing assumptions about earnings tomorrow. Changing a valuation allowance is one way that management can manage or manipulate its earnings.”

Fool.com:

“Keep a watchful eye on valuation allowances. Because they’re based on very subjective estimates, they’re an easy way for management to manipulate earnings. For example, if a company has a $100 million valuation allowance to offset $100 million in DTAs, and management realizes it’s going to miss earnings by $2 million, it can make slightly more aggressive assumptions to release $2 million in its valuation allowance, which flows to net income and allows the company to meet earnings.”