Companies in Britain, West Germany and Japan have an advantage in taking over U.S. companies because of the way their nations' laws handle payments for the "good will" of the company being acquired, a congressional report says.
According to a recent report by the General Accounting Office, the investigative arm of Congress, the advantage comes from differing accounting and tax policies on good will -- the amount of purchase money over and above the value of the purchased company's assets.
"Because British and West German accounting methods allow firms to avoid declines in future earnings, these firms may be willing to outbid U.S. firms in acquiring other U.S. firms," wrote Allan I. Mendelowitz, senior associate director of the GAO.
"In addition, Canadian, Japanese and West German companies benefit from improved after-tax cash flow by being able to deduct costs of good will from taxable income."
Last year British Petroleum completed its acquisition of the Standard Oil Co. for $7.5 billion; Hanson Trust, a British conglomerate, took over Kidde Inc. for more than $1.8 billion; and Blue Arrow, a British employment company, acquired Manpower Inc. for $1.33 billion.
The report is dated Dec. 28, but was distributed to reporters this week. It was requested by Rep. Richard T. Schulze (R-Pa.), ranking minority member of the subcommittee on oversight of the House Ways and Means Committee.
The report said that foreign "direct investment" in the United States has grown from $28 billion in 1975 to $209 billion in 1986. Direct investment means acquiring 10 percent or more of a company's stock, rather than buying a few shares on Wall Street.
Domestic direct investment has grown, too, so the proportion of foreign holdings has been fairly stable for the past 10 years -- about 5 percent of the total on average. The proportion peaked at 9.1 percent in 1980 and has gone down since.
Britons have been the most active investors here, with their holdings going from $18.5 billion in 1981 to $51.4 billion in 1986. Investment by the Japanese grew at a faster rate, from $7.7 billion to $23.4 billion. Dutch and Canadian investors have also been among the most active.
The report said the good-will advantage of investors from other countries works this way:
When a U.S. company buys another company, the amount it pays for good will is considered an asset. The amount must be deducted from the earnings of the purchaser within 40 years. When a British or West German company buys another company, in this country or elsewhere, it can just deduct the cost of the good will from the value of its stock. That way, earnings are not reduced.
A British company buying an American company can also decide to deduct the cost of good will from its earnings, but British law permits it to spread those deductions over as long a period as it likes -- more than the 40 years to which a U.S. buyer would be limited. That way, the effect on earnings is reduced for the British company.
A Japanese company that takes over one in the United States must deduct the cost of good will from its earnings within five years. If it takes the long view, that can be an advantage: after five years there are no more deductions to make.
Companies in Japan and Canada -- and since the beginning of 1987, West Germany -- can also deduct from their taxable income in their own countries whatever they pay for the good will of firms they take over, a deduction that is not permitted in the United States.