Also from National Post 19 feb 2001
Nortel's tumble is no surprise
Earnings picture not as bright as it seems, Veritas says
Barry Critchley
Financial Post
Value managers and the analysts who work for Veritas Investment Research, an independent, stand-alone equity research shop, are among those not surprised at the meltdown in Nortel Networks Corp. For them the real surprise is that it didn't happen much earlier.
The value managers have argued for the past couple of years that Nortel's financial performance doesn't justify the large multiple that investors have attached to it. For a long time no one paid any attention to them and their talk of intrinsic value -- but Friday was payback time.
And clients of Veritas -- a firm formed by Mike Palmer (a former research boss at a trio of firms) and Al Rosen, a professor of accounting at Toronto's York University -- should not be surprised either. "Initially a lot of people thought that we must be smoking dope," Palmer said Friday, when referring to the results Veritas has generated from examining Nortel's financial position. "But as the Nortel stock price goes down more people think that maybe we weren't so stupid after all."
Last November Veritas issued a report focusing on nine issues that investors in Nortel should be aware of. (It first published on Nortel last summer.) Veritas followed that report with a seven-pager last month.
That report focused, in part, on Nortel's accounting, which is presented on a quarterly basis under Canadian and U.S. GAAP (or generally accepted accounting principles).
In an interview Friday, Palmer said there was a straightforward focus to the firm's work on Nortel.
"All we were saying is that Nortel was trying to distract the world from the real numbers. They are presenting this set of numbers when the actual numbers show that they were losing money under generally accepted accounting principles; and they were also burning through a lot of cash."
Palmer said the message was lost, in part, because his firm is one of the few that exist on publishing research.
"We do pure research and we can afford to say things that others can't," he said.
Some of the highlights of its recent report include:
- Nortel reports to the market its "net earnings from operations applicable to common shares." In Nortel's third-quarter report, that term takes five lines to define. For Q3 of 2000, that number was US$574-million, which becomes a net loss of US$586-million after acquisition-related costs, stock option compensation from acquisitions and divestitures, and one-time gains are taken to account.
- The report shows that so-called earnings from operations for the first nine months of 2000 were US$1.49-billion. The report contrasts that with a reported operating loss during the same three quarters of US$1.94- billion.
"How many investors know that there was a US$3.43-billion difference in the first nine months of 2000 between Nortel's 'earnings from operations' and its 'operating income'?" asks Veritas.
Veritas adds that Nortel's financial statements should be compared on the same basis as that of its competitors. "If you put them on the same basis, then Nortel was overvalued," Palmer said Friday.
Central to Veritas's research was an examination of Nortel's cash flow statement.
Under U.S. GAAP, Nortel used US$921-million of cash in operating activities and a further US$1.2-billion in plant and equipment expenditures for the first three quarters of 2000. But it reduced its cash requirements by selling US$1.74-billion of businesses and investments.
"In order to fund their deficit they sold assets," explained Palmer, who said that such a strategy doesn't justify a share price of 70 times earnings. "If a company can't generate cash, it's going to get in trouble."
bcritchley@nationalpost.com |
