Saturday, December 29, 2012

HP-Autonomy acquisition under US Government Investigation - the Adventure Continues

The investigation over the $11.1 billion 2011 Autonomy (founded by Mike Lynch)  acquisition by Hewlett Packard   is growing into an even  larger  legal soap opera. The  US Federal Bureau of Investigation (FBI), the Securities and Exchange Commission (SEC), and the Serious Fraud Office are  all now involved.  Accounting firm  Deloitte, one of the advisors in the deal, is going to be quite busy responding to inquiries. KPMG may have to get involved, as well. Meg Whitman and the rest of the Hewlett Packard board will be having chats, as well. 

There are a number of ways to value an acquisition.  One of the most rigorous methods is using discounted cash flow analysis. Doing revenue multiple based on similar companies is another way.  However, revenues are fuzzy.  You can sign a 10-year contract, and depending on the deal, recognize the revenue at one time, or spread the revenue over a 10-year period.  Ditto with the costs associated with the sale.  There are hard dollars associated with determining profitability, as well as soft dollars.   

Much  of the value of an acquisition rests on the discounted cash flows from future revenues based on projections.  If the projection drops, the value of the acquisition drops. And if the drop is material, it has to be reflected on the acquiring company’s (HP’s) books. Hence, the $8.8 billion write-down.

In a December 28 article ZD Net article,    “HP-Autonomy acquisition under US govt investigation”, ZD quoted from a blog posted by founder and former Autonomy CEO Mike Lynch. 

Lynch said HP had failed again to provide detailed calculation on its US$5 billion write-down of Autonomy or publish an explanation of the allegations it made against his former management team. 
"Furthermore, it is now less clear how much of the $5 billion write-down is in fact being attributed to the alleged accounting issues, and how much to other changes in business performance and earnings projections.  This appears to be a material change in HP's allegations," he said. 

Lynch again dismissed any claims of impropriety and pledged to cooperate with the DOJ investigation.  "We continue to reject these allegations in the strongest possible terms.  Autonomy's financial accounts were properly maintained id in accordance with applicable regulations, fully audited by Deloitte, and available to HP during the due diligence process."

It has already been written how Autonomy was sloppy in where they assigned revenues and costs between the hardware and software in some of their deals.  This is going to cost them  if it is determined in the investigation  that they ignored US generally accepted accounting principles  (GAAP).  The IRS does not like to be shortchanged. 

However,   Hewlett Packard (CEO Meg Whitman and the HP Board) would have to approve of  this adjusted valuation.  If it was largely based on  adjusting the  forecast  of future revenues downward, and this was then used this in calculating the $8.8 billion  write-down of the deal, HP should be willing to share this information.

The firm, Robbins Geller Rudman & Dowd LLP filed a class action suit against Hewlett-Packard last week in November. They’re probably enjoying this.

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