Howard Schilit? Has anyone here read the CFRA report on ESST? Schilit's track record is pretty impressive.
Reuters -- March 10, 2002
Independent Researcher Is in Demand
By Thi Nguyen
NEW YORK (Reuters) - These days, investors are hunting for a product Wall Street doesn't have to offer: Hard-hitting, independent research.
That's why Howard Schilit, a former accounting professor who investigates accounting ploys to identify cases where investors are being misled, is seeing his business thriving.
His service is gaining momentum as Wall Street securities analysts, the traditional source of buy-and-sell recommendations for investors, have seen their status slip.
These are the dark days for Wall Street's research units: Criticism has swirled around analysts, many of whom issued wildly optimism reports on stocks, especially tech shares, even as they tumbled. The low point came as many were still issuing ''buy'' recommendations just days before Enron Corp.'s collapsed.
``Given the Enron debacle, investors are looking for additional research capability, particularly on accounting issues,'' said Franklin Morton, head of research at Ariel Capital Management which oversees $6 billion in assets. ``They need another set of eyes because most money managers can not count on Wall Street's recommendations.''
But for Schilit, who founded Center for Financial Research and Analysis in 1994, things couldn't be better. His more skeptical view of stocks is a strong selling point in a market wracked with uncertainty, as it has been for months.
``Even before Enron, our business picked up dramatically with Sept. 11,'' said Schilit.
Schilit's firm had already created something of stir with reports that found accounting problems and irregularities. In the late 90s, he was among the first to attack the accounting methods of Internet companies such as Microstrategy before their share prices collapsed. He also made a name for himself by calling attention to problems at Sunbeam and Cendant before their problems came to light.
``When people got nervous, they buy our service just like people buy insurance,'' said Schilit. ``Now, with all the attention, it's nice -- but it's exhausting.''
Fund investors pay handsomely to get the service, which costs tens of thousands of dollars a year. The subscriber list has grown to 470 institutional investors and mutual funds, including Fidelity Investments and Putnam Investments, and hedge funds -- who make money by betting the stock prices will go down -- making up some 40 percent of the list.
The firm has been adding some 10 new clients each month in the past couple of years, and the rate has doubled in January and quadrupled in February, said Schilit, who is now also expanding his business to Europe and Asia.
The growth hit a spurt at the onset of the Enron scandal, in which ex-auditor Andersen admitted its partners had destroyed documents related to its audit, and Enron allegedly concealed critical financial information from investors.
``It's useful to have independent CPAs (Certified Public Accountants) because auditors are paid by companies,'' said Joe Stocke, chief investment officer at StoneRidge Investment Partners, who has subscribed to Schilit's reports in the past two years. ``Independence is what we find useful.''
FRAUD DETECTIVE
Back in the Rockville outfit in suburban Maryland, Schilit's staff of 12 analysts are crunching numbers in companies' 10-Ks and 10-Qs and buried footnotes in annual reports. The job is to detect early signs that a company is headed for trouble by focusing on aggressive accounting moves that might camouflage a sagging business.
``Money managers need our research because they don't have as much knowledge to understand accounting quirks,'' said Schilit, who in 1993 published a book, ``Financial Shenanigans: How to Detect Accounting Gimmicks & Fraud in Financial Reports,'' an instant hit among financial professionals.
The firm, which now covers some 600 public companies, in a typical day would alert clients of potential financial problems in two U.S. and an European firms.
Schilit doesn't get credit for blowing the whistle on Enron's accounting woes. His firm of six analysts at the time was busy tracking the technology, healthcare and retailing companies that it covered for clients.
Still, he's considered enough of an expert on Enron that he was called to testify before Congress in hearings last week on the collapsed company -- and he was critical of the methods analysts used to cover the energy trading giant. Enron's weak cash flow should have sent a warning, he said.
``Enron's profits for a period of six months were $1 billion, but its cash flows were negative,'' said Schilit. ``That should have raised the flag.''
Responding to the analysts' complaint that Enron fooled them into believing it was a good investment, Schilit told the Congressional panel that the risks underlying Enron's complex balance sheet were plain to see for anyone who cared to look closely.
Analysts, including Raymond Niles at Citigroup Inc. unit Salomon Smith Barney and Curt Launer at Credit Suisse First Boston, clung firmly to ``buy'' and ``strong buy'' ratings on Enron's stock even as it lurched toward bankruptcy.
``For any analyst to say there were no warnings in the public filings, well, they couldn't have been reading the same filings I read,'' Schilit told the Senate panel last Wednesday. His new book on financial shenanigans, due to come out in March, has a chapter on Enron.
All information Schilit uses to spot companies' potential financial scams is accessible to any investor, he said.
FREE OF CONFLICTS OF INTERESTS
Stock analysts climbed to market stardom in the bullish 1990s, when it was easy to issue ``buy'' recommendations. But they have stumbled in recent years as the market has retreated and they have failed to pull in their horns.
Less than 2 percent of all analyst recommendations were ''sells'' or ``strong sells'' during the go-go years and, with only a slight shift since, that is still true today, said Charles Hill, director of research at research firm Thomson Financial/First Call.
Such an imbalance will continue until deep-seated conflicts of interests are resolved within an industry that underwrites, owns, sells and promotes stocks, Hill and other critics said.
For Schilit, it's crucial to be regarded as highly independent. He insists in keeping his research business free of conflicts of interests by not selling and buying stocks based on his research like some other research firms.
``If we tell a negative story and I also tell clients that I short the stock, that will create conflicts of interests,'' said Schilit. ``When you also have hedge funds, you can't have the same degree of independence.'' |
