An often overlooked part of Amazon's balance sheet gives clues to the company's thinking behind the $13 billion Whole Foods acquisition: goodwill.
Goodwill — the amount Amazon paid for beyond what's valued on Whole Foods' balance sheet — accounted for $9 billion, or roughly 70 percent, of the $13 billion acquisition price, according to Amazon's annual report disclosed last week.
That means 70 percent of the cost was for things that are hard to measure, like Whole Foods' potential for future growth, while only 30 percent was spent on buying actual assets, like existing stores or business relationships.
"The acquisition price is being allocated mostly to goodwill, suggesting that Amazon is mostly buying the opportunity to break into this business, not because of Whole Foods' existing business," said Alan Brott, an accounting professor at Columbia University.
The heavy goodwill balance shows Amazon's confidence in turning Whole Foods into a bigger revenue driver in the future. But it also adds risk: Goodwill is tested for impairment every year, and when acquisitions don't work out as expected, companies must write it off, directly impacting the bottom line.
Peter Atwater, president at the financial research firm Financial Insyghts, said the risk of a goodwill write off is important, pointing to other tech giants that had to write off large goodwill values in recent years, such as Microsoft with Nokia or Hewlett Packard with Autonomy.
On top of that, the Whole Foods deal stands out because the 70 percent goodwill portion is higher than most other deals involving a physical store brand, Atwater said. Companies that don't own a lot of tangible assets, like software makers, tend to draw higher goodwill, but it's rare for companies in physical retail to get such high goodwill in a deal. For example, when CVS paid $1.9 billion for Target's pharmacy business in 2015, only $916 million, or 48 percent, of the deal accounted for goodwill.
"It's a very significant premium for a company that's in an old industry like grocery shopping," Atwater said. "The issue is going to be whether strategically they can create the value that is now reflected in the balance sheet in the form of that goodwill."
As a result of the Whole Foods acquisition, Amazon's goodwill balance has ballooned to $13.4 billion as of the end of 2017, the highest ever, and the first time it accounted for more than 10 percent of its total assets.