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Saturday October 31, 06:00 PM
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U.S. investors alarmed about tax assets
By Dan Wilchins
NEW YORK (Reuters) - U.S. investors are becoming increasingly alarmed about a new wave of writedowns that may be looming in an obscure corner of banks' balance sheets.
At least two banks in recent weeks have written down assets which essentially represent cash flow expected from future tax benefits.
Banks must reduce the value of these, known as "deferred tax assets," if they are unsure that they will generate enough taxable income in the future to realize the benefits.
When a bank or other company posts a big loss, the result is a theoretical reduction in their future tax bill, which they can record as an asset on their books. After multiple quarters of losses, many banks have big deferred tax assets.
The issue is likely to come up soon as banks prepare their fourth quarter financial statements, and auditors pressure them to come clean on valuations after multiple quarters of losses.
Several investors that spoke to Reuters said that concerns about deferred tax assets have weighed on bank stocks in recent sessions. Bank stocks fell about 9 percent this week, compared with a 4 percent decline in the broader market.
"It could become an issue as bank profitability moves further out into the future, and we rack up more and more losses for now," said James Ellman, president of hedge fund Seacliff Capital.
"The consensus was banks would come back to profitability fast, but that seems less likely now," Ellman added.
Writedowns can have a substantial impact on a company's net worth, hurting an industry that globally has recorded more than $1 trillion of losses since the credit crunch began.
Accounting expert Robert Willens estimates that Citigroup could have to take a $10 billion writedown on the value of its $38 billion deferred tax asset in the fourth quarter, or about 7 percent of the value of the company's equity on its books.
Other analysts are not so sure that the bank will have to write down that much, and the bank said it did not know where Willens' figures came from.
But the possibility of such a big hit spooked the market, and Citigroup's shares fell 5.1 percent to $4.09 on Friday.
TRICKY RULES
The rules for writing these assets down are myriad and complicated and depend on the subjective assessments of auditors and management. Banks can partially adjust the value of their deferred tax assets without writing them off entirely.
In a conference call organized by Morgan Stanley, accounting expert Tony Catanach said that banks could be pressed to write down their deferred tax assets if they have recorded losses for the past several years, and are likely to in the future.
A write down may also be in order if there are questions about whether a bank is likely to remain a going concern, or if the bank lost a major customer.
Banks can follow strategies to retain tax assets, such as selling assets that can generate taxable income. Catanach said Citigroup's plan to keep its deferred tax assets seems reasonable.
"It sounds doable, it really sounds doable," he said.
Concerns about deferred tax assets first cropped up last week, when Synovus Financial Corp and the South Financial Group took big charges.
Synovus took a $149 million charge linked to its deferred tax assets, about 5 percent of its net worth as a company, while the South Financial Group took a $203 million charge that wiped out more than 10 percent of its equity value.
(Reporting by Dan Wilchins)
