Archives for posts with tag: Accounting

As an accountant and CPA, I always thought I understood basic financial concepts. Net Earnings was computed by deducting all your expenses from Sales. And Cash Flow was, well, cash flow, or your Net Earnings plus Depreciation. These were defined by generally accepted accounting principles or GAAP and used to publish a firm’s financial results.

Well, guess what? That is not the way it is anymore. I started to discover this when some of the young people I advise go to work for firms like Salesforce. For many high growth technology firms, like this one, there really aren’t much Net Earnings anyhow and they even report Sales in ways I was never taught!

So recently the Wall Street Journal had an article called “Fanciful Measures of Profit.” This trend does go back to my days in the 1990’s at USG Corporation. USG had borrowed huge sums of money and due to the interest expense (and a slump in the construction markets) we had no earnings. So we reported EBITDA, Earnings before Interest, Taxes and Depreciation. As their CFO, I would joke to investors that when you have no earnings, you report EBITDA instead. My old friend, Warren Buffet’s partner, Charlie Munger, called these “bullshit earnings”, and he was not far off. But the fun did not end there!

The Journal reported that this year alone, companies have filed 450 documents with the Security Exchange Commission, SEC, with variations of my old EBITDA. A popular one is EBITDAO which adds back the cost of stock options issued to management. There is also ones that add back pension cost, leasing cost, exploration costs and almost anything else you can dream up. Technically, all these so-called financial measures must be shown with the traditional GAAP reported earnings. But in quarterly earnings calls and meetings with investors, firms primarily stress these adjusted earnings calculations because it makes them look better. And stock analysts have adapted and now use many of these new earnings measures when they review a firm and recommend their stock.

I am having a hard time with all this. I was taught that, in the end, all firms need to make real net earnings and to generate cash flow to survive and grow. But today companies get around this by borrowing money and issuing more stock. And if the firm, like Salesforce, is in a trendy field like software platforms on the cloud and is growing rapidly, no one seems to care if they have GAAP profits or not. Salesforce stock has climbed over 80% in three years without much real Net Income at all. This was also the story of high sales and stock growth without earnings for years for companies like Amazon and Facebook.

So what to do? Every investor needs to decide for themselves. For every Amazon, Facebook or Salesforce that soars and succeeds, there are dozens of firms that fail. Or, heaven forbid, the next great idea comes along and wipes out the competitive advantage, market share and quickly the value of their stock!

But I have decided that even an old CPA needs to be open to the way this new economy of ours is working and to make some investments in firms that may not have met my conservative old standards. After all, my wife, Tricia, is the one who insisted in 2004 we buy stock in some small computer firm called Apple! (We should have bought more!)

Only time will tell if this new investment approach works!

No it is not dead yet, but my old world of Accounting is taking a lot of hits.

A new book is coming out called The End of Accounting and the Path Forward for Investors and Managers (Wiley Finance books). The premise, per an excerpt in the Wall Street Journal, is that accounting focuses on the past often using arcane rules and estimates. Historically, reported earnings contain a number of one time gains and losses for items like foreign currency or restructuring costs as well as estimates for useful lives of assets to depreciate or bad debt expense etc. And, of course, this is all true.

What the book’s authors are concerned about is that more forward looking information like new customers, new technology, capacity utilization or in retail, same-store sales, are not given the impact they deserve since these measures are often a better predictor of the future and thus a firm’s long term stock value. And, of course, this is all true.

The article brings up the idea that reported earnings (and especially losses) may make it hard to judge the real value of a firm. They cite Tesla who despite over a billion dollars in losses the last two years is considered, by some, as a great innovator and valuable firm. If you read my prior blog posting, you know how I feel about Elon Musk and his money losing, government subsidized businesses. But the point certainly could be valid for the early years of many tech startups like Facebook.

A separate Wall Street Journal article was titled, “Accounting Blurs Profit Picture”. The message here was that only about 6% of the Standard&Poor 500 firms exclusively use Generally Accepted Accounting Principles or GAAP to close their books. Theses firms include Home Depot and Apple, two very different companies and industries.

What most other public firms do is that besides reporting the required GAAP earnings information, they will separately report some other form of Cash Earnings which excludes a number of the one time charges mentioned above. This practice occurs in almost half of all published earnings reports. These firms are supposed to “reconcile” their GAAP results with their hybrid, customized results. The Securities Exchange Commission (SEC) is following up with eighty companies about if and how they accomplish this.

So, as an old CFO and CPA, where do I believe this is going and what should a typical investor do? To my old accounting profession, I would strongly suggest they find ways to either accommodate alternate earnings presentations or enforce the rules of GAAP even if it means adding some more forward looking, but meaningful, information. For the average investor, understanding financial statements has never been easy and now it is much harder. The key for an investor who is looking to invest in one of two companies like Home Depot or Lowes, is to spend more time reviewing their results to understand if you are comparing apples or oranges. In many cases, the security analysts who follow these firms may provide you the best information versus the firms’s own published reports.

Good lucking in sorting it all out and investing in a world where accounting is, if not dead, strongly abused!

That was, more or less, the headline from a Wall Street Journal article. The article explained that the role of most CFOs was becoming more big picture and strategic and less number oriented. Thus CFOs sought out these non-traditional type of people for their finance organizations. The fact that colleges teach you basic accounting but not leadership or decision making was really starting to hamper some accountants from getting hired. The other single skill noted as often missing was the ability to communicate and present findings to your peers or bosses.

As I have written before, business and even accounting is really Not About the Numbers. Being able to generate the raw data is only a very small part of the job. The key is being able to summarize and clearly present this information to your audience. This means that business and life is about People and figuring out how to communicate with them. Often we can learn this with experience but there are other ways.

As an old Accountant myself, I have some suggestions on how young people can learn some of these more advanced CFO type skills while they are just starting out or at least early in their work career.

The best places to learn more strategy, decision making and presentation skills early are the following:

One is to go into public accounting. It can be a local, regional or one of the national firms. Here you learn to sell yourself as you travel to meet different clients. You can also move into a management role quickly by being in charge of a client engagement. You do not have to stay forever although obtaining your CPA certificate, which requires a couple years practice in most states, is a good idea. So two to four years is great. And you can leave for a Manager or Director job in a private or public firm.

Second is to join a smaller, private firm or, harder yet, to setup your own private business. In my first job outside of public accounting with Donn Corporation, within a few years I had done the entire financial gauntlet of duties-treasury, accounting, tax-and I was working on acquisitions and part of the firm’s overall strategy group. This may be a bit fast and unusual but in smaller, private firms you have a much better chance of getting involved in a very wide range of activities. And you can make yourself more valuable there or to the next firm you join.

The last place you will learn this diverse skill set is to join a large, public company. You will start out as a very detail, number crunching analyst and usually move up or around slowly. Often those who start in the Corporate Accounting group stay there, with some moves up over time. Those who start in Treasury the same thing. It is often unusual or even difficult in some large companies to move between the various financial groups. The exception are firms like General Electric that have a two year rotating financial management for some high potential people. Then you can learn a lot and get great exposure within the large firm.

So remember that Accounting and Business are really not about the numbers so learn the other people-oriented skills that can help you move up rapidly in your career!

Note: my book The Business Zoo is finally about to be launched this month on Amazon and Kindle. I will let you know!

Chicago’s weekly newspaper, Crains, just had a headline story called, “The Hottest Job Sector”. It was about my original profession, Accountants. The article explains that local accounting graduates at downtown Depaul University are averaging $55,000 starting salaries with an 88% hire rate. The nearby University of Illinois accounting class had 98% get jobs!

Does this surprise me? Not really. As any of my blog readers know, I spent considerable time advising, for free, young people on their job searches and careers. Some are accountants or finance people but others are from more general business backgrounds or even other non-business fields.

The easiest “clients” I deal with are accounting graduates. This is true both if they are right out of school or, even easier, if they have been working for a while. Why is this? Because accounting graduates have a very marketable skill that organizations want. Big public firms, smaller private firms and even not for profits, all need accountants. Accountants are useful to analyze, and make sense of, the ever increasing mounds of data, or as we say now, Big Data, that all organizations seem to generate.

The hardest “clients” to work with are from very general business programs like Marketing or, even worse, Communications (which was my wife, Tricia’s, background). Why is that? Because, other than the fact they have a college degree, they have No immediate marketable skills! I get emotional sometimes when I meet with these young people and try to explain to them that cold-calling for an investment firm or an advertising firm may be the best and only option they have for a first job. After they do that for six months to a year in a major city like Chicago they can move into something better, but will still not make what the Accounting graduates make.

What about Finance majors? Isn’t that the same as Accounting? NO, or I would have titled this blog differently. Finance sounds like Accounting but it is more theoretical and less useful directly out of school. Accounting.

Sometimes young people tell me they can not major in Accounting because they struggle with math. When I received my undergraduate degree, I only took one math class in college, which is now being taught to my grandkids in the sixth grade! Accounting is about solving a puzzle and understanding some concepts, like debits equal credits and assets equal liabilities plus capital. For many bright young people, Accounting can be learned.

So for those entering college, think about it. Do you want to be in the group of graduates where 90% plus get jobs with pay above the average graduate? And parents please tell your children or for some of us our grandkids that Accountants Rule!

Wall Street Journal 2/27/14: Firms Alter Bonus Playbook and Use Nonstandard Accounting Measures to figure (Management) Payouts

Public company earnings are reported in quarterly and annual reports using what accountants, auditors, and the Security and Exchange Commission call ” generally accepted accounting principles.” These GAAP earnings or a multiple of them, based on how the firm is viewed in the stock market, creates the market price of the stock. Shareholders make money when the stock price increases.

But nowadays some 28% of the largest U.S. public firms calculate Management Compensation using different measures. These firms may start with the reported GAAP earnings but then add back various expenses to make the earnings higher. Some of these add back items can be the cost of stock options (usually to the same group), the write-off of an acquisition premium (or goodwill) even when those same executives may have overpaid to buy another company, and so on.

You are thinking, this is absurd! And very unfair and inappropriate! Well, get used to it. The number of large firms doing this has more than doubled in the last few years and I doubt it will decrease unless the public makes such a stink that the SEC or Boards of Directors force companies to change. One large, public firm in the article, medical products company McKesson’s shareholders voted 3 to 1 to stop this practice, and to require shareholder approval of executive compensation. But their Board of Directors (who are elected by the same shareholders) declined to adopt this measure. The Board cited that they “exercise great discipline” in deciding upon pay. Last year’s McKesson’s calculation started with the reported GAAP earnings of $.75 a share and some how added back enough to get them to $7.21 a share. Now I was the CFO of two large public companies, but even I was impressed with that story of financial artistry!

As discussed several times in my blogs, Shareholders elect the Board of Directors who in turn elect the Senior Executives. Boards rely on the company’s Human Resource people and outside Advisors to decide these matters. In over a decade of Board meetings I attended, only once did a Director get so upset that he convinced the others to throw out an obviously flawed Management Compensation plan. This needs to happen much more often.

In my book, The Business Zoo, I have written that in Board Meetings, the firm’s CEO should explain a new Management Compensation plan and its impact on pay. Not the Senior HR person or the CFO (yes HR often asks us to do controversial things) and certainly not an outside Consultant. If the Board has trouble understanding this new plan, they should hire their own Consultant to explain it or reject the plan until they do understand it and its implications.

And Shareholders, who have the ultimate power, should vote out Boards of Directors who allow practices or compensation plans that enrich Senior Management in ways that are not consistent with Shareholder’s value.

As a retired business guy, I get a lot of enjoyment of working with and advising young people on their careers. Friends or work associates of my own age group I avoid advising. They should be retired or about to be because it is almost impossible to get a new paying  job after a certain age. But the younger “kids”, as I call them are fun to work with. The most challenging group are those just leaving college and about to enter the workforce.

Getting that first real job is always hard. This is not just because of the economy today, which is slowing improving from a few years ago. It is also that companies are not hiring like they did a decade or so ago. Companies use new technology to get their increasing workload done, not new staff.  On campus recruiting is way down and has given way to online employment boards at many firms. I tell young people that it is a full-time job to get a full-time job. And some of the young people are easier to help than others.

The easiest ones to advise are those with a specific degree that has some technical aspect to it. With business degrees this would include accounting, finance or some computer degrees. In nonbusiness fields this would include engineers. These majors are easy because the world still keeps hiring these folks since they come with some skill that can be used right away. My old field of accounting, even more than finance, is a great example of this. Small firms, startups, large public companies and even not for profits all need people who can do basic accounting work. If you combine one of these degree areas with a MBA that is great too, especially if you have worked for even a couple years before getting your MBA. One of our friends’ son had worked as an engineer for a few years before receiving his MBA and got a great starting job with a subsidiary of GE Capital by applying online!

This brings me to the hardest young business degree people to help. You may have guessed, its marketing which is only slightly better than communications. These areas sound good when you are in school but when you are looking for a job, not so good. I tell young people with these degrees their best hope is to get a job with a well known firm doing cold calls to try to sell something. It might be a financial service firm where you are doing screening calls to be passed onto someone with only slightly more experience. Or, as one of my young clients did, advertising cold calls for a radio station in Chicago. Cold calling is brutal, humiliating and prone to early burn out. But if you are either with a well known firm or selling some well known product or service, your time of suffering can lead to a much better job elsewhere. Because now you have something on your resume! Our radio ad calling young person is now, a couple moves later, the Director of Alumni Events for a major university.

So, as I am allowed to preach as a blogger, hear this young people! Choose your major in college wisely and with an eye to one that could actually help you get a good job afterwords. This will make both your life and the work of any advisor you meet go much easier. Thanks.