Optical components

Goodwill Clobbers Corning

Corning Inc. (NYSE: GLW) is the latest company to give an advance warning of disappointing earnings following its decision to write off nearly $3 billion from its balance sheet.

Corning, which admits it overestimated the strength of the telecom recovery, will include a charge of between $2.8 billion and $2.9 billion in its third quarter results, the company announced yesterday evening (see Corning Takes Q3 Charges).

The charges will toss the company into the red, as analysts are expecting net income of $221 million for the quarter ended in September, according to Reuters Research.

The company will release its third quarter numbers after the market closes on October 20.

Last night's news hit Corning's stock by nearly 3 percent in pre-market trading, as it dipped 32 cents to $11.03.

While much of Corning's focus these days is on liquid crystal displays, the charges stem from its telecom business. They include a $1.4 billion erasure of goodwill related to telecom, and another $420 million to cancel the already postponed expansion plans at its Concord, N.H.-based optical fiber plant. The remaining $1 billion is an allowance against deferred income taxes.

Corning's balance sheet shows $1.7 billion in goodwill, $1.6 billion of which comes from its telecom business. Nearly all of that will be wiped out with the third-quarter charges.

The problem is that the telecom recovery is coming too slowly. As much as Corning has cut back, it seems the company still overestimated the volume of telecom business it would be getting.

"We are not seeing significant signs of the broad uplift in industry conditions previously projected for 2005 and beyond," says CFO James Flaws in a written statement. As a result, the cash flow from Corning's telecom business can "no longer support the goodwill related to this segment," Flaws says.

Specifically, Corning doesn't see the pricing for fiber getting any better, because the telecom industry still carries an oversupply of long-haul capacity. Moreover, Corning's LEAF premium fiber has become a bust. Sales have dropped to basically nothing, officials said on a conference call this morning, and during the past year, Corning has come to believe that the business won't be coming back.

"We are seeing increasing evidence that single-mode [fiber] is going to be used for jobs that previously would have [used] LEAF," Flaws said on the conference call.

What's interesting is that the goodwill writeoff isn't directly related to fiber. The goodwill came mostly from photonics, based on Corning's acquisitions during the bubble. But according to Corning officials, accounting rules state that goodwill be treated as a single entity, so it's possible for a weak forecast in one area (fiber) to cause a writeoff of goodwill generated by another area (photonics).

It's one more speed bump in the telecom recovery. Several telecom-related companies have announced bad news for their September-quarter earnings. (See Earnings Warning Turns Redback Blue, Adtran Falls Short in Q3, Avici Target out of Reach , Nortel Sees Light Revenues, Slow Growth, Broadcom Lowers Q3 Guidance, and Inventory Bugaboo Haunts Chips.)

Corning's telecom work these days consists of selling optical fiber, with a particular eye towards fiber-to-the-premises. The company sold its optical components division to Avanex Corp. (Nasdaq: AVNX) last year (see Avanex to Buy Alcatel, Corning Units).

Goodwill's intangibility makes it a sticky subject. JDS Uniphase Corp. (Nasdaq: JDSU; Toronto: JDU) built up goodwill, for example, by overpaying for startups during the bubble. As the market crashed, JDSU had to recalculate the value of those acquisitions, wiping out more than $40 billion of goodwill (see JDSU's Acquisition Hangover and JDSU Writes Off Billions More).

As with JDSU, Corning's losses will look enormous but aren't expected to interrupt cash flow.

Goodwill aside, Corning is writing off $420 million related to the expansion of its manufacturing facility in Concord, N.H. Construction was halted in October 2002, and Corning's prognosis is grim: "We no longer believe that the global optical fiber market will ever reach a demand level that would justify completing this facility," Flaws states.

The first phase of the Concord plant was up and running, but is now being shut down and depreciated, actions included in the $420 million charge. If fiber demand picks up, Corning might reopen this portion of the facility, Flaws says.

Corning will discuss the charges in a conference call at 8:30 a.m. Eastern today.

— Craig Matsumoto, Senior Editor, Light Reading

For more info on the state of industry financials, check out the coming Light Reading Live! event:

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LegoAss 12/5/2012 | 1:12:11 AM
re: Goodwill Clobbers Corning Goodwill should simply be removed from the balance sheet altogether since it is totally subjective. The worth of a company and its image/name/brand cannot be subjectively calculated. Thoughts?
lightbridge 12/5/2012 | 1:12:10 AM
re: Goodwill Clobbers Corning If goodwill is removed from the balance sheets, every acquisition will result in a loss for the acquiring company: The book value of the acquired co is almost always lower than the purchase price GÇô be it paid in cash or stock.

What do you think that means for the willingness of larger companies to acquire start-ups? Or, for the price they are willing to pay?

opto 12/5/2012 | 1:12:09 AM
re: Goodwill Clobbers Corning this is because GAAP rules are very specific on how book value is calculated, and they significantly understate the value of a company for many reasons, not all of which are for things like brand value and forward revenue projections. The current method with goodwill is necessary and appropriate.
whyiswhy 12/5/2012 | 1:12:08 AM
re: Goodwill Clobbers Corning The acquiring company SHOULD show a loss (charge) for the difference between the BV (worth) and the MV (cost) of the acquired company.

The transaction should be handled AS IF the company sold their stock at market, and paid cash for the stock of the other company. Because that is what actually happens at the investment bank. Goodwill hides the cash, and the taxes that should flow from it.

Let the market decide if the loss is justified by the gains the acquisition genertates. And let the companies pay their fair share in taxes.

That's tough, not because of the taxes, but because few acquisitions ever generate any gains, let alone the ones projected to justify their acquisition price.

Tufftitty, too bad.
rjs 12/5/2012 | 1:12:06 AM
re: Goodwill Clobbers Corning I agree with whyiswhy.

It seems simple arithmetic to me. But then again,
nothing is simple with the investment bankers and analysts.

It seems that the analysts and bankers are trying to
hide something by obfuscating charges. Let the market decide, the books should not be re-decorated
and interpreted for the average investor. Arithmetic speaks loud and clear for itself.

Most average investors and mom and pop business have enough common sense to use simple arithmetic to invest in a "pizza store/grocery store/ etc"
and account for goodwill appropriately.

How dare the CFOs and the investment bankers and analysts tell the average joe how to look at goodwill! It seems that the average Joe has been a
whole lot better in estimating it than them.

Dr.Q 12/5/2012 | 1:12:05 AM
re: Goodwill Clobbers Corning . I'm sure that Goodwill Industries will appreciate the $2.8 Billion dollar donation that Corning is making to them, even though it is not in cash but in-kind assests. It would be nicer to have assests like blankets for those chilly autumn night for those sleeping on the streets.
. Maybe they could put some of the hardware in their Goodwill retail stores so unemployed former tech workers could at least own a piece of their history.

- Dr. Q
deauxfaux 12/5/2012 | 1:12:03 AM
re: Goodwill Clobbers Corning Why

Let me resolve your confusion once more.

WhyCo is a successful, public telecom company that was formed with $1 investment and ultimately had a net book value of $100,000 and a market value (share price * fully diluted outstanding shares (including options for its bloated management team)) of $1,000,000. WhyCo makes $200,000 in income/yr. BobbyMaxCo buys WhyCo in a friendly takeover at market value.

Scenario 1: WhyCo shareholders sell immediately. The insane management of BobbyMaxCo writes off the entire value of Goodwill (Market Value-Book Value), because they know that their screwed up thinking will ultimately cause the doom of the company. Boom.....$900,000 gets written off against the earnings of the company. But since Goodwill writeoffs don't get subtracted from WhyCo's stellar earnings, the still pays taxes on its $200,000 in earnings at corporate income rates. Unfortunately, none of this matters to the shareholders who have a $999,999 capital gain that THEY pay taxes on (Proceeds-original investment). The auditors step in and say "why did you write off this Goodwill?" you are turning cash, which is much, much larger than the book value of $1. Who are you trying to fool saying that your business is worth $1? So reverse the writeoff or find yourself another auditor and in the mean time, suit up in charcoal stripes."

Scenario 2: FauxCo buys WhyCo in a hostile takeover for 20% over market. WhyCo shareholders sell immediately. All goodwill stays on the books. The company's tax situation doesn't change. The shareholders are still responsible for their capital gains taxes (since they made the money), the company is still responsible for its taxes against earnings.

Bottom line: you are ranting about nothing
deauxfaux 12/5/2012 | 1:12:02 AM
re: Goodwill Clobbers Corning You've hit the nail on the head.

1)As soon as management knows that the cash generating portion of the acquired business is less valuable than thought, they've got to report it as a goodwill writeoff.

2) As for LEAF, I just think that they couldn't keep their heads in the sand any longer. DWDM deployments in any form are few and far between. When they happen they're just filling out empty slots and not adding fiber. LEAF isn't a good fit for very many of the Asian build outs either.

Sad and Ugly situation
materialgirl 12/5/2012 | 1:12:02 AM
re: Goodwill Clobbers Corning So LEAF was developed for DWDM, which is not being used because so much fiber is lying fallow they just light up dark lines instead?
materialgirl 12/5/2012 | 1:12:02 AM
re: Goodwill Clobbers Corning In their conference call, management stated that the whole goodwill problem came from a changed perception of future cash flows. Those cash flow perceptions changed because their outlook for LEAF went to zero, while their outlook for single mode fiber volumes remained the same as ever. Without the prospect of high LEAF margins, cash flows tanked. What does this say about the future of optical network buildouts?
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