Go to Jeff Salisbury LWGate Home Page.From: "Kelly Short" <kelly.short@neoris.com>
Subject: RE: [CANSLIM] Now Xerox?
Date: Fri, 28 Jun 2002 11:14:19 -0500
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David,
=20
I hope you are wrong about the end of this empire- but history does seem =
to repeat itself.
=20
I found a comprehensive list of client defections from Andersen- might =
be a good place to start looking for the next whale:=20
Andersen Client Defection List: =
http://forbes.com/2002/03/13/0313andersen.html
- -----Original Message-----
From: David Taggart [mailto:dctag@mavericktrading.com]
Sent: Friday, June 28, 2002 10:52 AM
To: canslim@lists.xmission.com
Subject: RE: [CANSLIM] Now Xerox?
Well I have a few votes. I vote TYC it is still trading at around 14. =
Emotionally I agree with AOL I cant stand them but I doubt they =
dissapear. My biggest call is our government. One day all this debt =
will catch up to them I have no idea when but we are now an empire so =
sooner or later we will crumble like those of the past. It sounds doomy =
and gloomy but eventually it will happen.
- -----Original Message-----
From: owner-canslim@lists.xmission.com =
[mailto:owner-canslim@lists.xmission.com]On Behalf Of Kelly Short
Sent: Friday, June 28, 2002 9:48 AM
To: canslim@lists.xmission.com
Subject: RE: [CANSLIM] Now Xerox?
Katherine,
=20
Thanks for the article (I haven't read it yet but I'm sure it will =
provide a nice distraction this afternoon). My cohorts and I are =
discussing which company will be the next whale to wash ashore with =
accounting scandal. Perhaps the group would like to predict which =
company will be next (because Xerox/WorldCom are not the last). I'll =
start:
=20
These are just hunches at this point- I'll be researching them later =
today:
1. Something in the telecom/media sector- AOL Time Warner maybe?
2. Something in the technology sector- Sun or Apple?
3. anything from the Andersen Top 20 Client list
=20
I'd enjoy hearing other's predictions. Perhaps we should start a pool- =
people could pick squares- at least somebody would make money!
=20
Kelly
- -----Original Message-----
From: Katherine Malm [mailto:kmalm@earthlink.net]
Sent: Friday, June 28, 2002 10:30 AM
To: canslim@lists.xmission.com
Subject: Re: [CANSLIM] Now Xerox?
Here's some background on earnings from Briefing.com for those less =
familiar with EBITDA, etc.
=20
- --Katherine
=20
PS Xerox's accounting woes go back *years*.... P-U....
=3D=3D=3D=3D=3D=3D=3D=3D=3D=3D
=20
The Earnings Confidence Problem - Part I=09
25-Jun-02 14:18 ET=09
=09
[BRIEFING.COM - Robert V. Green] In the midst of the more scandalous =
market problems, the earnings confidence problem is not receiving the =
attention it should. Here is more on the topic.=20
The Market Problems
The current market suffers from the following ailments:=20
* Distrust of management - from excessive comp to outright fraud. Tyco =
is the best example.=20
* Distrust of accounting - Andersen=20
* Distrust of analysts - Blodgett
These three problems get all the press and attention.=20
But a deeper problem is afflicting the buy side - a growing concern =
about the validity of earnings reporting.=20
The Earnings Problem
Accounting rules have always been flexible enough to allow most =
companies a far amount of flexibility both in revenue recognition and =
expense recognition. Even when earnings reporting was somewhat =
standardized, some companies were criticized for how they recognized =
revenue and expense.
But in the last five years, the types of earnings that companies have =
driven Wall Street to focus upon have become questionable.=20
There are four different basic types of earnings today:
* GAAP earnings: Generally Accepted Accounting Principles - A standards =
board that publishes rules on how expenses should be booked. Generally, =
all types of expenses are deducted.=20
* As reported: Earnings excluding extraordinary items (as defined by =
GAAP), changes in accounting charges, charges related to discontinued =
operations (plant closings, etc.)=20
* Operating earnings: As reported earnings but excluding "one-time" =
charges which do not fit the GAAP definition of "extraordinary"=20
* Proforma earnings: Loosely defined "as if" analysis. Originally =
designed to provide comparison data for mergers.
GAAP accounting principles are guidelines for accountants, not =
investors. The GAAP standards are guidelines for how a company should =
keep its books, not how the company should report earnings.=20
For example, a basic principle behind GAAP is that revenue must be =
booked over the time period for which services and product are =
delivered. If a two year $200,000 contract is pre-paid in cash, up =
front, the entire $200,000 cannot be booked in the quarter in which the =
contract is signed. However, the revenue does not have to be booked as =
$25,000 per quarter for two years. A fair amount of flexibility, =
sometimes negotiated by auditors, is possible for how much of a contract =
can be booked in each quarter.=20
GAAP covers expenses as well as revenues, of course.=20
As reported earnings are the historical standard for earnings. Until the =
mid-eighties, in fact, there was little debate over how earnings should =
be reported as everyone used "as reported" earnings as a standard. For =
the most part, there was no difference between "as reported" earnings =
and any other methodology because one-time charges were not as common. =
Furthermore, companies did not actively seek, as they do today, to have =
certain expenses classified as "one-time."=20
Operating earnings are designed to allow comparisons between quarters =
and years for a company. One time charges in any quarter are excluded =
because these would distort the comparison. Operating earnings became =
important when it became clear that Wall Street would completely ignore =
any "one-time" charges, and focus solely on earnings growth. This =
provided a strong incentive for companies to classify large expenses as =
one-time charges.=20
An example of one company's aggressive attempt to get charges classified =
as one-time was Excite's 1997 $40 million marketing deal with Netscape. =
Now long forgotten, Excite paid Netscape up-front for a four-year deal =
to be the principal search engine at the Netscape web site. Excite tried =
to classify the entire $40 million payment as a one-time charge in a =
single quarter. By doing so, Excite was almost profitable. At Briefing =
we highlighted this event as an indicator of the times. The SEC later =
forced Excite to restate the payment as a four-year expense. But many, =
many companies were successful in getting major expense outlays =
classified as "one-time" which improved income statements.=20
The focus on operating expenses led to the development of the "EBITDA" =
concept, which is "Earnings Before Interest, Taxes, Depreciation, and =
Amortization." The EBITDA concept, which has to be calculated from the =
line items shown on an operating earnings report, was designed to show =
the basic business model of the company, without regard to =
cost-of-capital. If capital were free, then EBITDA would be earnings.=20
The focus on EBITDA has fallen from favor in recent times for one single =
reason: Interest. The interest payments on bonds, which are excluded =
from EBITDA calculations, has ruined many debt-ridden.=20
Only through focusing on EBITDA projections could a company like Exodus =
Communications raise so much debt that their interest payments exceeded =
their gross margin. That won't happen again for decades.=20
Pro-forma earnings are very hard to define today. The original purpose =
of pro-forma earnings calculations was to show the effects of a merger =
in a format that allowed a single income statement to combine only the =
operating models of each company, and exclude the actual costs of making =
the merger.=20
Under the pro-forma for merger guidelines, pro-forma calculations could =
only be used for one year, after which the company should start =
reporting as-reported earnings for the combined entities.=20
However, companies soon learned that as long as they made a new merger =
each year, they could continue reporting pro-forma earnings =
indefinitely. This "flexibility" in how earnings could be reported led =
to "pro-forma" meanings that were never intended, including stock option =
compensation expenses and R&D "in-progress" write-offs.=20
The Erosion of Earnings Confidence
The now long-departed CFO of Amazon.com, Joy Covey, was the unsung hero =
of bringing pro-forma earnings to the popularity they enjoyed. She did =
so by diverting attention away from standardized earnings reports.=20
Ms. Covey invented the concept of "EBITMA" which was defined "EBITDA =
plus marketing." She was successful in convincing Wall Street that =
marketing costs were equivalent to capital investment, a concept which =
looks ridiculous in retrospect. But in the early days of the internet, =
marketing and brand development was equated with capturing "territory" =
which, presumably, everyone thought could never be lost. (Tell that to =
investors in Excite.)=20
Nevertheless, Joy Covey was successful in convincing investors, =
particularly convertible bond investors, to focus on the EBITMA concept. =
It was a crucial element in selling the $2 billion in Amazon.com bonds =
that built the company. After all, if you ignore the interest payments =
on the bond, and you consider spending the bond principal on marketing =
as "not an expense," Amazon's income statement would look great!.=20
The problem, of course, is that bond holders don't care about earnings =
statements. They just care about the payments. The jury is still out on =
whether Amazon.com will eventually be able to pay the principal on their =
bonds. (See the Stock Brief of: 14-May-01 =
<http://www.briefing.com/scripts/sub/stocks/PowerAnchor.asp?varArticleID=3D=
SB20010514082806rvgreen> Amazon.com's Bond Problem.=20
After Joy Covey established the principle of EBITMA, internet companies =
began using all types of non-earnings related statistics to show growth. =
Page views, registered users, unique monthly visitors are just some of =
the meaningless examples that became popular. (Surely you remember.)
When "non-revenue statistics" becoming drivers of stock prices, (around =
1998) pro-forma earnings increased in popularity. After all, a pro-forma =
income statement that showed some kind of earnings progress looked a lot =
more "real" than the phony statistics being coughed up by internet =
companies.=20
But when the bubble collapsed, everyone began questioning earnings =
quality. It didn't happen overnight, and it didn't happen all at once. =
But as a long, slow evolutionary force, earnings confidence has eroded, =
and is still present today.=20
The Aftermath
The evolution of earnings focus over the past 10 years has led us to =
today's situation: a basic lack of confidence in many companies income =
statements.=20
Amazon.com still reports earnings on a pro-forma basis. In their Q1 =
income statement, you can take your choice of earnings:=20
* Pro-forma: $25 million profit=20
* Operating: $2 million profit=20
* Net (as-reported): $(23) million loss
The earnings format you choose is not relevant, frankly. It is far more =
important to the stock value what format the guy next to you chooses.
After all, value to you is primarily determined by what someone else =
will pay, not by what you pay.=20
Even GE
Even solid companies like General Electric have come under scrutiny =
because of the extremely complex financial situations. Unraveling a GE =
earnings report has now become a major task. Where GE only had to beat =
earnings estimates by $0.01 each quarter to count on an ever increasing =
stock price, today that is not enough.
GE stock is down 50% in the last two years despite having only missed =
one earnings estimate in the last four years and having continual =
year-over-year growth in earnings averaging 15%.=20
This bears repeating: GE, as representative a stock as you can get of =
the overall economy, is down 50% since September 2000. During that time =
period, they have grown earnings at over 11% (year-to-year basis) and =
beat or met earnings estimates every quarter except one. The one =
shortfall was October 2001, the quarter of the Attack on America and GE =
was only one penny short.=20
Why can't GE get any respect? The only definable long-term culprit is a =
decline in confidence in GE's earnings numbers. During the same eight =
quarter time-period, GE revenue growth rate has been consistently =
falling. From a growth rate of 24% and 20% in 00Q1 and 00Q2, growth has =
steadily fallen, and even was negative for most of 2001.=20
Flat or declining revenue combined with continuing increasing earnings =
leads to only one conclusion: you can't keep this up forever. =
Eventually, GE will be unable to book the earnings number higher than =
previous years. When (if), that happens, GE stock will be further =
devastated. Until then, the slow erosion of confidence causes the stock =
price to decline.
GE is just one good example of how confidence in earnings numbers has =
been eroding over time since the bubble collapse. Until greater =
confidence in earnings numbers is established, you can expect further =
difficulties in the market overall.=20
Standard & Poors is now pushing for a standardized calculation for =
earnings reporting, called Core Earnings. We will have more on this =
concept in Part II of this story, to appear later this week.
Comments may be emailed to the author, Robert V. Green, at =
rvgreen@briefing.com=20
- ----- Original Message -----=20
From: Winston Little <mailto:wlittle1@peoplepc.com> =20
To: canslim@lists.xmission.com=20
Sent: Friday, June 28, 2002 9:47 AM
Subject: Re: [CANSLIM] Now Xerox?
They all used EBITDA.. which Warren Buffett in May said is the currency =
of a
crook ... they all have a smell about them.
- ----- Original Message -----
From: "Kelly Short" < kelly.short@neoris.com>
To: < canslim@lists.xmission.com>
Sent: Friday, June 28, 2002 9:46 AM
Subject: [CANSLIM] Now Xerox?
Enron, WorldCom- nothing. Xerox off by $6B. (Yes- that's "B" as in boy!)
Kelly
_____ =20
For your protection, this e-mail message has been scanned for viruses.=20
Visit us at http://www.neoris.com/=20
_____ =20
_____ =20
For your protection, this e-mail message has been scanned for viruses.=20
Visit us at http://www.neoris.com/=20
_____ =20
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<DIV><SPAN class=3D850481216-28062002><FONT face=3DArial color=3D#0000ff =
size=3D2>David,</FONT></SPAN></DIV>
<DIV><SPAN class=3D850481216-28062002><FONT face=3DArial color=3D#0000ff =
size=3D2></FONT></SPAN> </DIV>
<DIV><SPAN class=3D850481216-28062002><FONT face=3DArial color=3D#0000ff =
size=3D2>I hope=20
you are wrong about the end of this empire- but history does seem to =
repeat=20
itself.</FONT></SPAN></DIV>
<DIV><SPAN class=3D850481216-28062002><FONT face=3DArial color=3D#0000ff =
size=3D2></FONT></SPAN> </DIV>
<DIV><SPAN class=3D850481216-28062002><FONT face=3DArial color=3D#0000ff =
size=3D2>I=20
found a comprehensive list of client defections from Andersen- might be =
a good=20
place to start looking for the next whale:=20
<DIV><SPAN class=3D849591116-28062002><FONT face=3DArial color=3D#0000ff =
size=3D2>Andersen Client Defection List: <A=20
href=3D"http://forbes.com/2002/03/13/0313andersen.html">http://forbes.com=
/2002/03/13/0313andersen.html</A></FONT></SPAN></DIV></FONT></SPAN></DIV>=
<BLOCKQUOTE dir=3Dltr style=3D"MARGIN-RIGHT: 0px">
<DIV class=3DOutlookMessageHeader dir=3Dltr align=3Dleft><FONT =
face=3DTahoma=20
size=3D2>-----Original Message-----<BR><B>From:</B> David Taggart=20
[mailto:dctag@mavericktrading.com]<BR><B>Sent:</B> Friday, June 28, =
2002 10:52=20
AM<BR><B>To:</B> canslim@lists.xmission.com<BR><B>Subject:</B> RE: =
[CANSLIM]=20
Now Xerox?<BR><BR></FONT></DIV>
<DIV><SPAN class=3D486294915-28062002><FONT face=3DArial =
color=3D#0000ff size=3D2>Well=20
I have a few votes. I vote TYC it is still trading at around =
14. =20
Emotionally I agree with AOL I cant stand them but I doubt =
they=20
dissapear. My biggest call is our government. One day all =
this=20
debt will catch up to them I have no idea when but we are now an =
empire so=20
sooner or later we will crumble like those of the past. It =
sounds doomy=20
and gloomy but eventually it will happen.</FONT></SPAN></DIV>
<BLOCKQUOTE dir=3Dltr style=3D"MARGIN-RIGHT: 0px">
<DIV class=3DOutlookMessageHeader dir=3Dltr align=3Dleft><FONT =
face=3DTahoma=20
size=3D2>-----Original Message-----<BR><B>From:</B>=20
owner-canslim@lists.xmission.com=20
[mailto:owner-canslim@lists.xmission.com]<B>On Behalf Of </B>Kelly=20
Short<BR><B>Sent:</B> Friday, June 28, 2002 9:48 AM<BR><B>To:</B>=20
canslim@lists.xmission.com<BR><B>Subject:</B> RE: [CANSLIM] Now=20
Xerox?<BR><BR></FONT></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2>Katherine,</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2></FONT></SPAN> </DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2>Thanks for the article (I haven't read it yet but I'm sure =
it will=20
provide a nice distraction this afternoon). My cohorts and I are =
discussing=20
which company will be the next whale to wash ashore with accounting =
scandal.=20
Perhaps the group would like to predict which company will be next =
(because=20
Xerox/WorldCom are not the last). I'll start:</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2></FONT></SPAN> </DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2>These are just hunches at this point- I'll be researching =
them later=20
today:</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff size=3D2>1.=20
Something in the telecom/media sector- AOL Time Warner=20
maybe?</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff size=3D2>2.=20
Something in the technology sector- Sun or =
Apple?</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff size=3D2>3.=20
anything from the Andersen Top 20 Client list</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2></FONT></SPAN> </DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2>I'd enjoy hearing other's predictions. Perhaps we should =
start a=20
pool- people could pick squares- at least somebody would make=20
money!</FONT></SPAN></DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2></FONT></SPAN> </DIV>
<DIV><SPAN class=3D349173315-28062002><FONT face=3DArial =
color=3D#0000ff=20
size=3D2>Kelly</FONT></SPAN></DIV>
<BLOCKQUOTE dir=3Dltr style=3D"MARGIN-RIGHT: 0px">
<DIV class=3DOutlookMessageHeader dir=3Dltr align=3Dleft><FONT =
face=3DTahoma=20
size=3D2>-----Original Message-----<BR><B>From:</B> Katherine Malm =
[mailto:kmalm@earthlink.net]<BR><B>Sent:</B> Friday, June 28, 2002 =
10:30=20
AM<BR><B>To:</B> canslim@lists.xmission.com<BR><B>Subject:</B> Re: =
[CANSLIM] Now Xerox?<BR><BR></FONT></DIV>
<DIV>Here's some background on earnings from Briefing.com for =
those=20
less familiar with EBITDA, etc.</DIV>
<DIV> </DIV>
<DIV>--Katherine</DIV>
<DIV> </DIV>
<DIV>PS Xerox's accounting woes go back *years*.... P-U....</DIV>
<DIV>=3D=3D=3D=3D=3D=3D=3D=3D=3D=3D</DIV>
<DIV> </DIV>
<DIV>
<TABLE cellSpacing=3D0 cellPadding=3D4 width=3D"100%">
<TBODY>
<TR>
<TD class=3Dheader>The Earnings Confidence Problem - Part =
I</TD></TR>
<TR>
<TD><FONT class=3Ddate face=3DVerdana=20
size=3D1><STRONG>25-Jun-02 14:18 =
ET</STRONG></FONT></TD></TR>
<TR>
<TD height=3D8><STRONG><FONT face=3DVerdana=20
size=3D1></FONT></STRONG></TD></TR>
<TR>
<TD>
<P>[BRIEFING.COM - Robert V. Green] In the midst of the more =
scandalous market problems, the earnings confidence problem =
is not=20
receiving the attention it should. Here is more on the =
topic. </P>
<H3>The Market Problems</H3>
<P>The current market suffers from the following ailments: =
</P>
<UL>
<LI>Distrust of management - from excessive comp to =
outright=20
fraud. Tyco is the best example.=20
<LI>Distrust of accounting - Andersen=20
<LI>Distrust of analysts - Blodgett</LI></UL>
<P>These three problems get all the press and attention. =
</P>
<P>But a deeper problem is afflicting the buy side - a =
growing=20
concern about the validity of earnings reporting. </P>
<H3>The Earnings Problem</H3>
<P>Accounting rules have always been flexible enough to =
allow most=20
companies a far amount of flexibility both in revenue =
recognition=20
and expense recognition. Even when earnings reporting was =
somewhat=20
standardized, some companies were criticized for how they =
recognized=20
revenue and expense.</P>
<P>But in the last five years, the <I>types</I> of earnings =
that=20
companies have driven Wall Street to focus upon have become=20
questionable. </P>
<P>There are four different basic types of earnings =
today:</P>
<UL>
<LI>GAAP earnings: Generally Accepted Accounting =
Principles - A=20
standards board that publishes rules on how expenses =
should be=20
booked. Generally, all types of expenses are deducted.=20
<LI>As reported: Earnings excluding extraordinary items =
(as=20
defined by GAAP), changes in accounting charges, charges =
related=20
to discontinued operations (plant closings, etc.)=20
<LI>Operating earnings: As reported earnings but excluding =
"one-time" charges which do not fit the GAAP definition of =
"extraordinary"=20
<LI>Proforma earnings: Loosely defined "as if" analysis.=20
Originally designed to provide comparison data for=20
mergers.</LI></UL>
<P><B>GAAP</B> accounting principles are guidelines for =
accountants,=20
not investors. The GAAP standards are guidelines for how a =
company=20
should keep its books, not how the company should report =
earnings.=20
</P>
<P>For example, a basic principle behind GAAP is that =
revenue must=20
be booked over the time period for which services and =
product are=20
delivered. If a two year $200,000 contract is pre-paid in =
cash, up=20
front, the entire $200,000 cannot be booked in the quarter =
in which=20
the contract is signed. However, the revenue does not have =
to be=20
booked as $25,000 per quarter for two years. A fair amount =
of=20
flexibility, sometimes negotiated by auditors, is possible =
for how=20
much of a contract can be booked in each quarter. </P>
<P>GAAP covers expenses as well as revenues, of course. </P>
<P><B>As reported</B> earnings are the historical standard =
for=20
earnings. Until the mid-eighties, in fact, there was little =
debate=20
over how earnings should be reported as everyone used "as =
reported"=20
earnings as a standard. For the most part, there was no =
difference=20
between "as reported" earnings and any other methodology =
because=20
one-time charges were not as common. Furthermore, companies =
did not=20
actively seek, as they do today, to have certain expenses =
classified=20
as "one-time." </P>
<P><B>Operating earnings</B> are designed to allow =
comparisons=20
between quarters and years for a company. One time charges =
in any=20
quarter are excluded because these would distort the =
comparison.=20
Operating earnings became important when it became clear =
that Wall=20
Street would completely ignore any "one-time" charges, and =
focus=20
solely on earnings growth. This provided a strong incentive =
for=20
companies to classify large expenses as one-time charges. =
</P>
<P>An example of one company's aggressive attempt to get =
charges=20
classified as one-time was Excite's 1997 $40 million =
marketing deal=20
with Netscape. Now long forgotten, Excite paid Netscape =
up-front for=20
a four-year deal to be the principal search engine at the =
Netscape=20
web site. Excite tried to classify the entire $40 million =
payment as=20
a one-time charge in a single quarter. By doing so, Excite =
was=20
almost profitable. At Briefing we highlighted this event as =
an=20
indicator of the times. The SEC later forced Excite to =
restate the=20
payment as a four-year expense. But many, many companies =
were=20
successful in getting major expense outlays classified as =
"one-time"=20
which improved income statements. </P>
<P>The focus on operating expenses led to the development of =
the=20
"EBITDA" concept, which is "Earnings Before Interest, Taxes, =
Depreciation, and Amortization." The EBITDA concept, which =
has to be=20
calculated from the line items shown on an operating =
earnings=20
report, was designed to show the basic business model of the =
company, without regard to cost-of-capital. If capital were =
free,=20
then EBITDA would be earnings. </P>
<P>The focus on EBITDA has fallen from favor in recent times =
for one=20
single reason: <I>Interest.</I> The interest payments on =
bonds,=20
which are excluded from EBITDA calculations, has ruined many =
debt-ridden. </P>
<P>Only through focusing on EBITDA projections could a =
company like=20
Exodus Communications raise so much debt that their interest =
payments exceeded their gross margin. That won't happen =
again for=20
decades. </P>
<P><B>Pro-forma earnings</B> are very hard to define today. =
The=20
original purpose of pro-forma earnings calculations was to =
show the=20
effects of a merger in a format that allowed a single income =
statement to combine only the operating models of each =
company, and=20
exclude the actual costs of making the merger. </P>
<P>Under the pro-forma for merger guidelines, pro-forma =
calculations=20
could only be used for one year, after which the company =
should=20
start reporting as-reported earnings for the combined =
entities. </P>
<P>However, companies soon learned that as long as they made =
a new=20
merger each year, they could continue reporting pro-forma =
earnings=20
indefinitely. This "flexibility" in how earnings could be =
reported=20
led to "pro-forma" meanings that were never intended, =
including=20
stock option compensation expenses and R&D "in-progress" =
write-offs. </P>
<H3>The Erosion of Earnings Confidence</H3>
<P>The now long-departed CFO of Amazon.com, Joy Covey, was =
the=20
unsung hero of bringing pro-forma earnings to the popularity =
they=20
enjoyed. She did so by diverting attention away from =
standardized=20
earnings reports. </P>
<P>Ms. Covey invented the concept of "EBITMA" which was =
defined=20
"EBITDA plus marketing." She was successful in convincing =
Wall=20
Street that <I>marketing costs were equivalent to capital=20
investment,</I> a concept which looks ridiculous in =
retrospect. But=20
in the early days of the internet, marketing and brand =
development=20
was equated with capturing "territory" which, presumably, =
everyone=20
thought could never be lost. (Tell that to investors in =
Excite.)=20
</P>
<P>Nevertheless, Joy Covey was successful in convincing =
investors,=20
particularly convertible bond investors, to focus on the =
EBITMA=20
concept. It was a crucial element in selling the $2 billion =
in=20
Amazon.com bonds that built the company. After all, if you =
ignore=20
the interest payments on the bond, and you consider spending =
the=20
bond principal on marketing as "not an expense," Amazon's =
income=20
statement would look great!. </P>
<P>The problem, of course, is that bond holders don't care =
about=20
earnings statements. They just care about the payments. The =
jury is=20
still out on whether Amazon.com will eventually be able to =
pay the=20
principal on their bonds. (See the Stock Brief of: <A=20
=
href=3D"http://www.briefing.com/scripts/sub/stocks/PowerAnchor.asp?varArt=
icleID=3DSB20010514082806rvgreen">14-May-01=20
Amazon.com's Bond Problem.</A> </P>
<P>After Joy Covey established the principle of EBITMA, =
internet=20
companies began using all types of non-earnings related =
statistics=20
to show growth. Page views, registered users, unique monthly =
visitors are just some of the meaningless examples that =
became=20
popular. (Surely you remember.)</P>
<P>When "non-revenue statistics" becoming drivers of stock =
prices,=20
(around 1998) pro-forma earnings increased in popularity. =
After all,=20
a pro-forma income statement that showed <I>some kind of=20
earnings</I> progress looked a lot more "real" than the =
phony=20
statistics being coughed up by internet companies. </P>
<P>But when the bubble collapsed, <I>everyone </I>began =
questioning=20
earnings quality. It didn't happen overnight, and it didn't =
happen=20
all at once. But as a long, slow evolutionary force, =
earnings=20
confidence has eroded, and is still present today. </P>
<H3>The Aftermath</H3>
<P>The evolution of earnings focus over the past 10 years =
has led us=20
to today's situation: a basic lack of confidence in many =
companies=20
income statements. </P>
<P>Amazon.com still reports earnings on a pro-forma basis. =
In their=20
Q1 income statement, you can take your choice of earnings: =
</P>
<UL>
<LI>Pro-forma: $25 million profit=20
<LI>Operating: $2 million profit=20
<LI>Net (as-reported): $(23) million loss</LI></UL>
<P>The earnings format <I>you choose</I> is not relevant, =
frankly.=20
It is far more important to the stock value what format =
<I>the guy=20
next to you chooses.</I></P>
<P>After all, value <I>to you</I> is primarily determined by =
what=20
someone else will pay, not by what you pay. </P>
<H3>Even GE</H3>
<P>Even solid companies like General Electric have come =
under=20
scrutiny because of the extremely complex financial =
situations.=20
Unraveling a GE earnings report has now become a major task. =
Where=20
GE only had to beat earnings estimates by $0.01 each quarter =
to=20
count on an ever increasing stock price, today that is not=20
enough.</P>
<P><I>GE stock is down 50% in the last two years despite =
having only=20
missed one earnings estimate in the last four years and =
having=20
continual year-over-year growth in earnings averaging 15%. =
</I></P>
<P>This bears repeating: GE, as representative a stock as =
you can=20
get of the overall economy, is down 50% since September =
2000. During=20
that time period, they have grown earnings at over 11% =
(year-to-year=20
basis) and beat or met earnings estimates every quarter =
except one.=20
The one shortfall was October 2001, the quarter of the =
Attack on=20
America and GE was only one penny short. </P>
<P>Why can't GE get any respect? The only definable =
long-term=20
culprit is a decline in confidence in GE's earnings numbers. =
During=20
the same eight quarter time-period, GE revenue growth rate =
has been=20
consistently falling. From a growth rate of 24% and 20% in =
00Q1 and=20
00Q2, growth has steadily fallen, and even was negative for =
most of=20
2001. </P>
<P>Flat or declining revenue combined with continuing =
increasing=20
earnings leads to only one conclusion: <I>you can't keep =
this up=20
forever. </I>Eventually, GE will be unable to book the =
earnings=20
number higher than previous years. When (if), that happens, =
GE stock=20
will be further devastated. Until then, the slow erosion of=20
confidence causes the stock price to decline.</P>
<P>GE is just one good example of how confidence in earnings =
numbers=20
has been eroding over time since the bubble collapse. Until =
greater=20
confidence in earnings numbers is established, you can =
expect=20
further difficulties in the market overall. </P>
<P>Standard & Poors is now pushing for a standardized=20
calculation for earnings reporting, called Core Earnings. We =
will=20
have more on this concept in Part II of this story, to =
appear later=20
this week.</P>
<P>Comments may be emailed to the author, Robert V. Green, =
at <A=20
=
href=3D"mailto:rvgreen@briefing.com">rvgreen@briefing.com</A> =
<!--(RVG)--></P></TD></TR></TBODY></TABLE></DIV>
<BLOCKQUOTE=20
style=3D"PADDING-RIGHT: 0px; PADDING-LEFT: 5px; MARGIN-LEFT: 5px; =
BORDER-LEFT: #000000 2px solid; MARGIN-RIGHT: 0px">
<DIV style=3D"FONT: 10pt arial">----- Original Message ----- =
</DIV>
<DIV=20
style=3D"BACKGROUND: #e4e4e4; FONT: 10pt arial; font-color: =
black"><B>From:</B>=20
<A title=3Dwlittle1@peoplepc.com=20
href=3D"mailto:wlittle1@peoplepc.com">Winston Little</A> </DIV>
<DIV style=3D"FONT: 10pt arial"><B>To:</B> <A=20
title=3Dcanslim@lists.xmission.com=20
=
href=3D"mailto:canslim@lists.xmission.com">canslim@lists.xmission.com</A>=
=20
</DIV>
<DIV style=3D"FONT: 10pt arial"><B>Sent:</B> Friday, June 28, =
2002 9:47=20
AM</DIV>
<DIV style=3D"FONT: 10pt arial"><B>Subject:</B> Re: [CANSLIM] =
Now=20
Xerox?</DIV>
<DIV><BR></DIV>They all used EBITDA.. which Warren Buffett in =
May said=20
is the currency of a<BR>crook ... they all have a smell about=20
them.<BR><BR>----- Original Message -----<BR>From: "Kelly Short" =
<<A=20
=
href=3D"mailto:kelly.short@neoris.com">kelly.short@neoris.com</A>><BR>=
To:=20
<<A=20
=
href=3D"mailto:canslim@lists.xmission.com">canslim@lists.xmission.com</A>=
><BR>Sent:=20
Friday, June 28, 2002 9:46 AM<BR>Subject: [CANSLIM] Now=20
Xerox?<BR><BR><BR>Enron, WorldCom- nothing. Xerox off by $6B. =
(Yes-=20
that's "B" as in boy!)<BR><BR>Kelly<BR><BR></BLOCKQUOTE>
<HR>
For your protection, this e-mail message has been scanned for =
viruses.=20
<P>Visit us at <A =
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<HR>
<P></P></BLOCKQUOTE></BLOCKQUOTE>
<HR>
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<P>Visit us at <A =
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