Brian, Yes, you are naive about reported eps. The companies have a myriad of tricks they can use and most momentum stock companies "manage" earnings as long as they can. These tricks are not illegal, in most cases. They simply produce eps that have no relation to the actual condition of the company.
Auditors are a joke. I have managed portfolios that were audited by what used to be called Big Eight firms. I used options and futures. The recent college grads sent out to audit me had no idea what options and futures were. How did they learn? I taught them. That is hardly a second source acting as a watchdog. I believe that is true in most industries. Some MBA/CPA from Wharton, to slam my old school, will get lost within 30 seconds when he starts talking derivatives with Citicorp or SDRAM with Micron Tech. Simple facts of life. BTW, this is one of the reasons so many accounting firms are named in lawsuits when a real scam is going down. They sign off unless you rub their noses in something illegal.
But, even within the legal structures, there is something called quality of earnings, that can vary greatly. I suggest you get hold of Ted O'Glove's "Quality of Earnings Report," if it is still published. Ted rips the face off the eps reports of a great many firms and gives pats on the back to the few honest ones.
Let's face it, everyone who matters at a firm is paid with stock options and on stock performance these days. Still, these tricks are not new. They have been with us ever since I've been in the business (yes, when we had to fight off brontosauri to get to work -g-) and it is the wise investor who approaches every eps report looking for the fakeouts. Taking them at face value makes you lose face, eventually. BTW, there is a good book about how Price, Waterhouse was duped by or conspired with Penn Central to defraud shareholders in the 1960s, in what was at that time ended up being the largest bankruptcy in history. Sorry, can't remember the title right now.
On Gateway, the Santa Claus comment is simple. SG&A simply did not go down in the fourth quarter if they had used conservative accounting. That is impossible given the number of stores they opened and the fact that it is their biggest sales quarter. They did something, and I suspect used part of the writeoff they took in the previous quarter, to fudge the number enough to look almost respectable and "make their year."
As far as sharp pencil goes, good growth companies usually hold something back in boom times to throw in to their reports in lean times. Heck, even Steve Covin, who thinks Compaq walks on water, admits that Compaq has a quarter or two in the bag even if real world business turns down slightly. What you have to do is figure out when the fit is hitting the shan long before the firms are required to report it.
If everybody knows about what is going on, why did nary an analyst on the Street mention that in order to fund its huge stock buyback program in 1997, IBM increased debt by 18 pct.? Simple, the company didn't talk about it and most Street analysts go along with everything the company's say. Otherwise, no access. It isn't all stupidity, though some of it is. It is the fact that they need access to survive. And it means we can't count on them to give us the true story. We have to dig ourselves. Some of us compare the highly touted $1.9 billion of stock buybacks vs. the extra $4.5 billion in debt and say there may be something rotten in Denmark. Especially when the company shows no growth even with this trick. Others prefer to wait until after the stock collapses.
As far as the majority of other investors being wrong, that is the cornerstone of contrarian investing, by far the most profitable way to invest over the long term.
So, basically, the companies are spin doctors, the average investor is a moron, the accountants are usually just fooled or blinded by potential fees or the loss of same, but occasionally in a conspiracy with cos., and few analysts know their fannies from a hole in the ground, and even fewer dare act upon their knowledge in fear that they will become a pariah.
Welcome to reality and high profits.
MB
|
