[ --Part One-- Sunbeam Corporation (Symbol: SOC) ]
Now how about that Sunbeam (SOC)...I'm interested in seeing if the recent shortfall could have been foreseen.
After examining the recent 10-K Sunbeam filed on 3/6/98, I found some significant warning signs that could either (1) have allowed the diligent investor to sidestep the subsequent 50% collapse in Sunbeam's share value or (2) have made a short-seller or a market-neutral fund manager look pretty darn impressive.
But first, we need an understanding of the concepts that are critical to this analysis. Pulling a segment from Post # 6 of this thread for review:
An excerpt from Financial Shenanigans, page 136:
The Relationship between Sales and Accounts Receivable
Whenever a company sells merchandise on account, it ships merchandise before it is paid for. In most cases, inventory growth should mirror growth in sales. That is, if sales are growing by 10 percent, accounts receivables should also be growing by about 10 percent.
If accounts receivables are growing much faster than sales, it usually means that the company is having trouble collecting from customers. If the condition persists, the company will eventually experience negative cash flows.
Keep this in mind.while moving on to the next relevant concept, on page 133 of the same text:
The Relationship between Sales and Inventory
Think of inventory as merchandise waiting to be sold. A company tries to anticipate future sales and stocks inventory to meet that demand. In most cases, growth in inventory should mirror growth in sales. One sign of trouble is when inventory is growing much faster than sales, possibly indicating that inventory is not selling well or is obsolete.
Consider how the bloated inventory on one company's balance sheet signaled a future downturn in profits. One example given in Schilit's Financial Shenanigans is about Crazy Eddie, a New York City-based electronic equipment retailer:
An early warning that Crazy Eddie was having problems was that inventory was growing much more rapidly than sales. From 1985 to 1986, sales increased 88%, but inventory jumped 125%. This problem persisted in 1987 when sales increased 34%, but inventory increased 83%.
Word began spreading that Crazy Eddie was fiddling with its inventory and profit reports to maintain its high stock price. Eddie Antar resigned in late 1996, and in January of 1987, the company reported that same-store sales for the prior quarter had dropped 20% and that net income had plunged 90%. The end had come for Crazy Eddie:
In 1986, the stock had lost over half its value, from a high of $21.63 to a low of $9.13.
In 1987, the bottom really fell through, and the price collapsed even further, from a high of $11.63 to a low of $1.25.
Ouch.
Now how about this.
From page 137:
Sales versus Both Inventory and Accounts Receivable
As demonstrated earlier, a company is likely to face problems if either inventory or receivables is growing much faster than sales. If both categories are growing faster than sales, the problems are magnified.
A company called Regina in the late 1980's faced such a development, and a quarter after the release of its financial statements, the stock price, which reached $27.50 in August 1988, closed at $4.00 following an announcement that the company's financial statements contained materially incorrect information.
It is said that by comparing the increases in sales with the changes in both receivables and inventory, investors and lenders would have been duly warned. A closer look at its financial statements shows that Regina's sales for the quarter ended March 31, 1988, grew a healthy 28%, but its inventory increased 52%, and receivables increased 54%--a sign that inventory was not selling and that receivables were not collected.
With both inventory and receivables increasing much more rapidly than sales, shrewd analysts and investors should have detected a major warning sign when the March 31 financial statements were released. Unfortunately for those who failed to notice this warning, the stock price fell almost 85% from August to September.
Now for the drum roll... |
