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A Threat to the Internet Economy

"The use of pooling accounting has contributed significantly to technology development and job creation in this country and has resulted in the strongest capital markets in the world. Elimination of pooling as proposed by the Financial Accounting Standards Board could stifle technology development and erode the competitive advantage the U.S. currently enjoys."

-- Dennis Powell, Vice President and Corporate Controller

Issue
The Financial Accounting and Standards Board (FASB) has stated its intention to eliminate "pooling of interests," the longstanding accounting method by which the majority of U.S. corporate mergers take place. Pooling is particularly vital to information technology companies -- those responsible for over one-third of America's extraordinary economic growth over the past 5 years.

Impact
By eliminating pooling, the FASB could:
Impede innovation & investment in new technologies
Slow overall economic growth of high-tech companies
Significantly reduce merger & acquisition activity
Impact shareholder value and artificially reduce corporate earnings
Reduce the number of small entrepreneurial companies that will be able to develop or compete with established companies.

Position
Cisco supports retention of pooling accounting for corporate mergers and acquisitions. The FASB and SEC should complete existing analyses of this critical issue, including the impact of the proposed change on the U.S. economy, before taking action. Cisco welcomes the opportunity to work with FASB and with lawmakers on this important question.

Background
For about 50 years, two methods have been used to track business combinations:
Pooling, which is a blending of two companies' assets where stock is exchanged; and
Purchaseaccounting, where the acquired company’s intangible assets such as goodwill must be identified, valued and written down (amortized) against earnings over an arbitrary period of time

Pooling has been used and widely accepted throughout this period by companies in all industry sectors. In 1998, 55% of all mergers and acquisitions (by dollar value) used the pooling method of accounting, contributing over $900 billion to the US economy. (Merrill Lynch, 1999). Pooling is often preferred in mergers of highly valued companies, where the mandatory goodwill amortization of the purchase method could distort public perceptions of corporate fiscal strength.
America Online used pooling to acquire Netscape Communications. Without pooling, the merged company would have reported $653 million in paper losses despite $35 million actual profits.
According to Goldman Sachs, a hypothetical merger between Intel and Microsoft would create an enormously profitable company in reality, that, on paper, would need to report an annual loss under purchase accounting.

In September of last year, FASB issued an exposure draft advocating the elimination of pooling accounting by January 1, 2000. FASB followed with a White Paper supporting its draft and two field hearings seeking public comment.
66% of comment letters urged retaining pooling in some form

The U.S. Senate has expressed interest in and concern about this issue.
In March, 2000, the Senate Banking Committee held hearings on this topic:
  FASB told Congress it does not consider the economic impact of its decisions
  FASB told Congress it is not studying the economic impact of this decision
Following the Senate hearings, on March 29, 2000, 11 Senators sent a letter to Chairman Jenkins urging FASB to study the issue further before taking action.
On June 14, the Senate Banking Committee held a roundtable discussion on accounting for goodwill.

Likewise, the U.S. House of Representatives has examined the topic and urged caution:
On, House Commerce Committee Chairman Bliley called upon the Securities and Exchange Commission to study the economic impact of eliminating the pooling method of accounting and report back to the Committee on March 15, 2001.
On May 4, 2000, the House Commerce Committee Subcommittee on Finance and Hazardous Waste conducted a hearing at which Dennis Powell, testifying again on behalf of Cisco urged the retention of pooling.

Notwithstanding industry and Congressional concerns, FASB has stated that it still intends to eliminate the pooling method of accounting in the first quarter of 2001, before studies of the economic impact of this decision are completed. FASB has expressed a willingness to consider changes to the purchase method of accounting that might mitigate the impact of its imposition on the new economy.

Cisco Involvement
Cisco is participating with the Technology Network (TechNet) and other associations on this important issue and has taken a number of steps:
Joined with others in the New Economy Two Thousand ("NETT") Coalition to respond to FASB's proposed changes. The NETT coalition is working to educate FASB and policy makers about the impact of the proposed changes on the economy.
Met with FASB and SEC officials directly to discuss concerns
Testified at FASB hearing in San Francisco on behalf of retaining pooling
Testified at U.S. Senate Banking Committee on the issue and participated in the Senate Banking Committee roundtable on valuing goodwill.
Testified at U.S. House Commerce Committee on the issue.

Fast Facts
55% of all acquisitions industry wide in 1998 involved pooling
There were 11,400 U.S. mergers and acquisitions in 1998, at a combined value of $1.62 trillion.
There were 5,485 EU mergers and acquisitions in 1998, at a value of $510 billion.
There were 2001 mergers and acquisitions throughout Asia in 1998, accounting for $60 billion.
If America Online could not have used pooling to acquire Netscape Communications, the merged company would have been saddled with $688 million in annual goodwill write-offs and turned the next year's $35 million actual profit into a $653 million paper loss.

Useful Links
National Venture Capital Association
"Valuing the New Economy," Merrill Lynch White Paper (June 1999).
CapNet Coalition Issue Brief
Senate Hearings on Pooling Accounting (March 2, 2000)
Testimony of Cisco Systems' Dennis Powell
House Hearings on Pooling Accounting (May 4, 2000)
FASB Chairman Ed Jenkins' Testimony before the House Commerce Committee
Rep. Chris Cox's statement on the elimination of pooling
ITAA position paper
Semiconductor Equipment & Materials International letter to FASB
TechNet position paper
Financial Accounting Standards Board (FASB)

Last Updated: August 31, 2000