Bristol-Myers Impersonates Betty Crocker
By Bill Fleckenstein
12/12/2002 17:59
Index Close Change
Dow 8537.92 -51.22
S&P 500 901.53 -3.43
Nasdaq Composite 1399.30 +2.71
Nasdaq 100 1039.98 +3.64
Russell 2000 395.36 +1.48
Semiconductor Index (SOX) 321.23 -2.38
Bank Index 761.04 -2.60
Amex Gold Bugs Index 136.87 +10.26
Dow Transports 2336.46 -11.60
Dow Utilities 206.33 +1.12
NYSE advance-decline +227 -13
Nikkei 225 8708.69 -18.97
10-year Treasury Bond 4.01% +0.012
Connect-the-Dot Data Disconnect : The overnight markets were mostly weaker, as were our stock-index futures, until the retails-sales number, ex-autos, printed a gain of 0.5%, vs. expectations of 0.2%. (Total retail sales actually rose 0.4%, precisely what was expected.) That was deemed to override the fact that jobless claims saw a gigantic spike from about 350,000 to about 440,000. Regular readers know I have little use for the initial unemployment-claims statistics, and that way too much is made of all these numbers.
Cubby Holistic Trading : That said, in the early going, people tried to have a party on the piece of the news that they thought fit their case. An immediate miniblast to the upside saw most indices gain around 0.5%, with the Nasdaq doing a bit better. Then a little selling set in, such that after the first couple hours, the Dow and S&P were slightly red, while the Nasdaq managed to stay green.
Quiet-Time Quarantine : After the early-morning roller coaster, the market basically flopped and chopped for the rest of the day, near the low end of the range. The day's range was one of the smallest we've seen lately. Basically, the tape more or less went to sleep. With the exception of precious metals and precious-metal stocks, there really wasn't much action, though the housing stocks did manage to come to life today, as did the biotech stocks, on the back of better numbers from Amgen AMGN .
Snooze You Can Use : Quite often, after the market has gone quiet like this, a big move is in the offing. The bulls can give you their reasons, and the bears can give you their reasons. We'll just have to sit back and see how it plays out. However, I don't think many people are set up for the bearish outcome, so if it starts to unfold, things could become ugly quickly. To the extent that the dollar is now weakening, and the metals have caught a bid, this may indicate that lower equity prices are ahead, though that certainly is not anything one can take for granted.
Greenbacks and Rose-Colored Glasses : Away from stocks, the big news was that gold exploded higher, closing up $6.60 to $332.10, a new high for the move. Silver was also up, 2%, to $4.75. Fixed income was unchanged. The dollar, however, was beaten with the ugly stick, both against the yen and the euro. It has all the looks of finally being recognized as the piece of confetti that it is. I don't think very many people around the world are prepared to deal with the consequence of a "tainted" dollar. In the currency markets, nothing matters until something matters, and then, whatever that is, it's the only thing that matters. If the dollar ever starts to cut loose to the downside, it will take literally a miracle to save it.
The Sheen of Safe Harbor : Even so, currency problems in the form of cascading currencies, especially one as potent as the world's reserve currency, are indeed very rare. But if something goes wrong, I suspect that ultimately, the consequent move in gold would make what happened in the Internet stocks seem tame. We shall see if it plays out that way, but in any case, it's certainly something that people should think about. It is why I have long advocated positions in gold, silver, Newmont Mining NEM , and Pan American Silver PAAS , of which I am a director.
It Takes a Pillage to Raise a Profit : Turning to the news, The Wall Street Journal today ran one of the finest articles I have ever read in a mainstream publication: "At Bristol-Myers, Ex-Executives Tell of Numbers Game," by Gardiner Harris. Everybody on the planet who owns even one share of stock, or who owns shares in any mutual fund, needs to read this article. It will open their eyes to how companies play the game of phony earnings, and thus help them to become much better investors.
What Mr. Gardiner has basically done, by speaking to 27 current and former executives (whose names have obviously been withheld), is to construct a primer on earnings management 101. Before talking about some of these games, let me just say that Bristol-Myers BMY is not an isolated case. I have found these tactics to be rampant in corporate America, both past and present.
Low Red-Blood Sale Count : In essence, the story begins by outlining the first telltale problem: "Bristol-Myers sales rose just 6% in total from 1998 through 2001, and much of that was due to the purchase of another drug business. Yet the company managed to report total earnings growth of 67%, or 37% after a charge for breast-implant litigation." This is the tip-off that something is wrong: soaring earnings per share in the face of anemic top-line growth.
The Grand Creativity Canyon : A handful of high-fixed-cost businesses in the world can score dramatic earnings gains once they get past the break-even point, i.e., they have few variable costs. But those businesses are very rare, and it's pretty easy to spot them. Generally, when you see a sizable disconnect between sales and earnings growth, it's a warning sign. This is a case I have made over and over about IBM IBM .
Gain-on-Assailable Accounting : Another frequent IBM tactic, using one-time asset sales to reduce SG&A (selling, general, and administrative expenses), helped perpetuate the Bristol-Myers' earnings magic. As Mr. Gardiner notes: "Some former executives say the company used such proceeds to reduce selling, general and administrative expenses, a practice that accounting critics say can give a misleading impression of a company's overhead. The SEC has said proceeds from asset sales should be listed as other income and expenses." What companies would do is to sell off a division and lower the SG&A, thus boosting profits in that particular quarter.
Take Two Write-Offs and Conference-Call in the Morning : In any case, as the story proceeds to show, Bristol-Myers branched into other areas of creative accounting, as well. It took write-offs and one-time charges that allowed it to later improve results by selling off pieces of the business. Of course, as if to take a page from the "all industries do it" playbook, the company took to channel-stuffing, to try to make quarterly earnings projections, a maneuver that ultimately came back to haunt it.
Intel Signs Up for Managed (Earnings) Care : This is the problem: By focusing on its short-term goal of "beating the number," the venerable Bristol-Myers engineered itself into a position of compromising its long-term health. Many, many companies in America are guilty of this, my favorite example, of course, being Intel INTC , for reasons I have delineated in the past, and may have time to reprise in the future. In any case, I strongly encourage everyone to read this very well-laid-out story about how corporate America misrepresents its financial results.
Hocus-Pocus Police, Now Recruiting : And as you read, keep in mind the companies that you own. Ask yourself if they could be guilty of playing these games. When companies do, problems don't necessarily turn up immediately. But they do tend to arise eventually, and afterward, the result is often a debacle. If you have overpaid for a company whose growth is not what it seems, that of course just makes matters worse. Anyway, making money in the stock market is not easy. You have to do work, and you have to know what you're doing. Understanding the games that managements play to try to fool you is an integral part of being prepared.
The Prosperity Premium : Finally, in the potential-sign-of-the-times department, I'd just like to point out a story in today's New York Times headlined "Connecticut Town Bemoans a Tax on Millionaires." Apparently, in an effort to help close a serious budget shortfall, Gov. John Rowland has proposed a higher income tax on residents who earn more than $1 million a year. In well-to-do Darien, the Times writer went looking for feedback, which ranged from "outrage" to "suck it up and shut up." In any case, if the Robin Hood revenue idea becomes a trend, there will be serious ramifications, thought at this juncture, I haven't yet had a chance to think through what they all might be. |
