Faithful readers of the Calcbench blog know that we often talk about the importance of goodwill assets on the balance sheet, and how the potential impairment of goodwill is always something to keep in mind.

Today we have a great example of what we mean: circuit manufacturer Analog Devices ($ADI).

Analog came to our attention because we had been compiling a list of S&P 500 firms whose goodwill assets were a high portion of total assets. Analog placed near the top of that ranking, with $12.26 billion in goodwill against $21.4 billion in total assets — a ratio of 57 percent.

But wait, one of our interns said. Didn’t Analog do a big acquisition a few years ago? How much did goodwill account for that deal?

So we opened our Interactive Disclosures database, and researched what Analog has been reporting for business combinations disclosures. Sure enough, Analog had acquired Linear Technologies in 2016 for $15.7 billion. Buried in the disclosures was the purchase price allocation Analog reported for that deal. We shaded the goodwill item in blue:

So Analog is carrying $12.26 billion in goodwill on the balance sheet — and 86 percent of that amount is tied up in this single deal with Linear. That’s a mighty big bet to place on one acquisition.

Now let’s review quarterly revenue at Analog from the start of 2017 through Q2 2020:

Hmmm. Clearly revenue popped in the middle of 2017 as Linear’s business started showing up on Analog’s financial statements. We even found an old press release from that time where Analog said it expected Linear to add at least $160 million to Q2 revenue for 2017.

Since then, however, the trend has not been impressive. So was the $10.5 billion allocated to goodwill in that deal actually worth it?

It’s not Calcbench’s place to answer that question. We simply provide the data — and in this case, when you review the data, suddenly that question about Linear seems like a fair one to ask.

We also peeked at the balance sheet for Analog Devices. The firm has $8.1 billion in liabilities, and $11.77 billion in shareholder equity. In other words, almost all of Analog’s shareholder equity is tied up in the goodwill from that Linear deal.

That is, if the Linear deal turned out to be a disaster and the company had to impair the whole $10.5 billion, shareholder equity would pretty much evaporate. Yes, such an extreme example is unlikely — but even a more modest impairment would still result in a substantial reduction of equity.

Our point is simply that analysts following Analog need to consider its goodwill balances carefully. That line item is far more consequential to firm value than one might assume at first glance. Hence we obsess over goodwill and impairments all the time around here.

While we’re on the subject, let’s also give a shameless plug for our first-ever Calcbench webinar, happening on Tuesday, Oct. 20 at 12:30 pm ET — where an in-depth look at goodwill and impairment will be the subject. It’s free and will be a great time, so register today!