Asset write-downs are nothing short of shareholder destruction. If wealth, as I contend, tends toward destruction in the long run, an investor has two choices: not to invest, or, to do something that shifts the odds in one’s favour. Not taking into account management’s destruction of shareholder value is not, one would imagine, an example of tilting the odds in one’s favour. One must always make a rigorous examination of the footnotes and management discussion & analysis (MD&A) of company reports, and make the appropriate adjustments to its reported data in order to determine the true state of the economics of a business and find economic activities such as asset write-downs.
Asset write-downs occur when the fair value of an asset, what it would fetch on the market, falls below its carrying value, the cost of an asset less accumulated depreciation or amortisation, forcing the book value, what appears on the balance sheet, to be written down, perhaps even completely, to its fair value. Write-downs and write-offs are important signals to debt investors of the deteriorating quality of collateral, but in sending those signals, they muffle another: the historical invested capital put into the business by its shareholders. So, a firm’s return on invested capital (ROIC) rises because invested capital, the denominator in ROIC, is shrunk after a write-down. In effect, this penalises firms with no write-downs when compared with firms with write-downs. The thing to do is to treat asset impairments as non-operating, adding their cumulative after-tax value to invested capital. The after-tax write-down expense should also be added to NOPAT. Given that firms receive a deferred tax benefit from writing down an asset, I include the after-tax impact of an asset-write down in my models.
The most common forms of write-downs are goodwill and intangible impairments, and write-downs of plant, property, and equipment (PP&E) and other long-lived assets. An example of an asset write-down is the $2.43 billion in write-downs that Meta Platforms reported on page 100 of its 2023 10-K.
David Trainer, of the revolutionary investment research firm, New Constructs, remarked in a report on asset write-downs that,
Given that management is paid to create value, not destroy it, an asset write-down represents management’s failure to allocate capital effectively.
“Red Flag: Asset Write-Downs Reveal Risk” by David Trainer