Confessions
Of A Former Auditor
by Richard Lehmann, Publisher
Forbes/Lehmann Income Securities Investor
The
current wave of accounting concerns is welcome because it instills
caution in an investment market that too recently succeeded by
shooting from the hip. Aside from this, it is a necessary comeuppance
for those thirty-something MBAs running their investment portfolios
as if numbers tell the whole truth. Accounting is not an exact
science nor are corporate managers meticulous in telling on themselves.
I was an auditor for PriceWaterhouseCoopers for many years and
I can attest that manipulation of the books goes on in most corporations
usually for the good of shareholders. This is due in no
small part to the market's knee-jerk reaction to short-term disappointments.
I ask you, what shareholder really benefits from class-action
suits automatically filed by predatory tort lawyers just days
after any unexpected earnings shortfall? Since auditors don't
certify quarterly results, management has leeway to lag in reporting
bad news while preparing shareholders.
Aside from the numbers,
there are any number of corporate events, which all investors
equity and fixed income should be on the look out
for.
- CEO Retirement. When the top dog is scheduled to retire, it will generally be a bumper quarter or year. He wants to go out with a bang, as well as a big bonus and high exercise price on his remaining options. Needless to say, the follow-on year should be a downer. For example, just look at General Electric.
- CEO Overhaul. If the new CEO is an outside hire or replaces one who left under a cloud, look out! The first priority of such an executive, if he's smart, is to write off anything not nailed down. In this case, the follow-on year should look quite good.
- Restructuring Rumblings. If management begins talking about reorganizing or restructuring the business, expect bad news. Such talk is a euphemism for big-time screw-ups that need to be buried in a larger event. The news here is negative, but oddly enough the market often reacts positively, perhaps because it's pretty good at knowing that when guys can't shoot straight the bad news is factored in. Also, often the write-offs have unburdened future years earnings.
- New Beancounters. When the company auditors resign voluntarily, run for the phone. This is almost always bad. We are likely to see it happening a lot more, post Enron. Similarly, when the company decides to change auditors suddenly, look out. This can mean they wouldn't go along with some questionable transactions or practices. In today's market there will be little tolerance for this.
- CFO Leaves. The top financial guy should have the inside scoop on the company's books. If he quits or even worse, is fired, there is usually big trouble brewing.
- PR Doubletalk. If
the pace of company press releases slow and/or begin using terms
like unforeseen, may result in or could portend, watch out. Also,
any "special" announcements are worrisome. Assume the
worst when you see wording such as, "We have retained the
services of ____ to (investigate, explore, pursue, study) the
(possibilities, alternatives, remedies) for ____."
- Informal Inquiries. Of course if the company reports that it has received noticed of an informal inquiry from the SEC, Justice Department or any other regulatory body head for the exit, fast.
And
don't think that by merely buying a mutual fund instead of investing
directly, you will be spared. Fund managers are just as sheepish
as Well Street analysts. Plenty of fund managers owned Enron
while the stock plummeted. Investors need to take responsibility
for their decisions. A Morningstar Star rating is no insurance
policy.
Editor's Note: Richard
Lehmann is the publisher of the Forbes/Lehmann Insome Securities
Investor, 60 Fifth Ave., New York, NY 10011, 1 year, 12 issues,
$195, www.incomesecurities.com.
