Playing the Market - Accounting tricks etc.

[CheskiChips]

Please note that some companies do creative book keeping like showing higher sales than actually is or inventory adjustments that artificially boosts stock price. So, you have to watch these folks.

I think that's illegal, occasionally auditors check the books for inconsistency. How often do you believe this happens?

[kmguru]

I think that's illegal, occasionally auditors check the books for inconsistency. How often do you believe this happens?

It is illegal, but proving it is difficult unless there is a sting operation from someone who complains. Even then, SEC does not spend the resources as the case with Bernie Madoff.

One company I did some work for, would take the Point Of Sales data every night and then run a special algorithm before transfering to the accounting system with a secret adjustment module that is done by the finance department. When asked for the logic so that we have the right numbers go out, I had a visit by a senior official. Sometimes data corruption does occur from the POS system that are also adjusted by another group based on an average data set which can easily be set upward or downward manually.

In another place, a retail company counted distressed merchandise as good merchandise. The whole idea is to jack up the sales numbers while also adjusting your expenses such that you have basically same net income but your gross is higher. Then that gross would show that you are doing really great and your stock goes up.

You can always have an excuse that the computer messed up - and it happens 70% of the time. One company implemented a PeopleSoft system but modified the logic such that it meesed up data transfers. So people had to manually enter the same data six places to balance the books. In this case, one can easily fudge it.

In one large European company in USA I worked for - they used accounting codes that has little relation with where the money was being spent reasoning that it comes from the same income. But codes have rules like you can not deduct more than 50% for meals expenses. Co-mingling of funds does mess up the accounting process. Is it by design or a mistake?

Then the grand daddy of all logic called American Productivity. The number used for the calculations are wrong. It shows high when it is not. Then that has a influence in the stock market. There is all types of manipulations that goes on...

[Billy T]

Mod hat: There is a thread about what posters think are good current stock buys at:
http://www.sciforums.com/showthread.php?t=92397

So I have moved the original posts 1 & 2 there. (They are posts 66 & 67 there.)

SUMMARY: If your post is related to choosing stocks & investments, as original OP was, please post at the above link. Thanks.

{by edit}: This threat did continue with more posts, like the current 1 & 2 related to legalities related to stocks, etc. so now has an extended name reflecting that instead of which stock to buy.

[joepistole]

It is illegal, but proving it is difficult unless there is a sting operation from someone who complains. Even then, SEC does not spend the resources as the case with Bernie Madoff.

One company I did some work for, would take the Point Of Sales data every night and then run a special algorithm before transfering to the accounting system with a secret adjustment module that is done by the finance department. When asked for the logic so that we have the right numbers go out, I had a visit by a senior official. Sometimes data corruption does occur from the POS system that are also adjusted by another group based on an average data set which can easily be set upward or downward manually.

In another place, a retail company counted distressed merchandise as good merchandise. The whole idea is to jack up the sales numbers while also adjusting your expenses such that you have basically same net income but your gross is higher. Then that gross would show that you are doing really great and your stock goes up.

You can always have an excuse that the computer messed up - and it happens 70% of the time. One company implemented a PeopleSoft system but modified the logic such that it meesed up data transfers. So people had to manually enter the same data six places to balance the books. In this case, one can easily fudge it.

In one large European company in USA I worked for - they used accounting codes that has little relation with where the money was being spent reasoning that it comes from the same income. But codes have rules like you can not deduct more than 50% for meals expenses. Co-mingling of funds does mess up the accounting process. Is it by design or a mistake?

Then the grand daddy of all logic called American Productivity. The number used for the calculations are wrong. It shows high when it is not. Then that has a influence in the stock market. There is all types of manipulations that goes on...

There is legal manipulation that goes on as well. A lot of folks do not understand that there is a lot of subjectivity that goes into accounting. Earnings are theoritical based on a set of assumptions management makes about the business. Those assumptions have a funny habit of changing based on the expectations of Wall Street or the needs of management.

[CheskiChips]

It is illegal, but proving it is difficult unless there is a sting operation from someone who complains. Even then, SEC does not spend the resources as the case with Bernie Madoff.

One company I did some work for, would take the Point Of Sales data every night and then run a special algorithm before transfering to the accounting system with a secret adjustment module that is done by the finance department. When asked for the logic so that we have the right numbers go out, I had a visit by a senior official. Sometimes data corruption does occur from the POS system that are also adjusted by another group based on an average data set which can easily be set upward or downward manually.

In another place, a retail company counted distressed merchandise as good merchandise. The whole idea is to jack up the sales numbers while also adjusting your expenses such that you have basically same net income but your gross is higher. Then that gross would show that you are doing really great and your stock goes up.

You can always have an excuse that the computer messed up - and it happens 70% of the time. One company implemented a PeopleSoft system but modified the logic such that it meesed up data transfers. So people had to manually enter the same data six places to balance the books. In this case, one can easily fudge it.

In one large European company in USA I worked for - they used accounting codes that has little relation with where the money was being spent reasoning that it comes from the same income. But codes have rules like you can not deduct more than 50% for meals expenses. Co-mingling of funds does mess up the accounting process. Is it by design or a mistake?

Then the grand daddy of all logic called American Productivity. The number used for the calculations are wrong. It shows high when it is not. Then that has a influence in the stock market. There is all types of manipulations that goes on...

I had a friend who audited for the SEC, he in general said that they didn't find too many intentional errors. Most of the companies he audited had clean books, the majority of complaints came from bad systems that indicated bad books. I think the problem might be a few things; actuaries are either intentionally coerced into displaying figures incorrectly or incompetent and upgrading existing systems to new file management systems is very costly and inefficient. When a company is 100 years old, its very likely some of database management systems are 20 years old, they may not even have ways to manage current transactions that simply didn't exist 20 years ago. Upgrading the 20 year old system requires a company to import maybe...6 to 10 years of data into a new system...the complex nature of the conversion often leads to fact distortion.
In general I think it's an unintentional result of inefficient systems rather than an intentional mis-representation.

[kmguru]

In general I think it's an unintentional result of inefficient systems rather than an intentional mis-representation.

As long as you or the auditors believe that, then no one will suspect cooking the books. I have been a process auditor from the government side for a company that paid a fine of $1.5 Billion to the Feds where they inflated the numbers. The inflated numbers was the result of clever programming. There is a lot goes on than that meets the eye....

[CheskiChips]

As long as you or the auditors believe that, then no one will suspect cooking the books. I have been a process auditor from the government side for a company that paid a fine of $1.5 Billion to the Feds where they inflated the numbers. The inflated numbers was the result of clever programming. There is a lot goes on than that meets the eye....

No kidding? I'm somewhat shocked to hear this. How they can find so many programmers to make these programs without speaking out, must pay them well or keep them in the dark.

[kmguru]

All it takes is ONE. :)

[Billy T]

interesting observation by the Economist:

"Everyone agrees, for example, that accounting values are often flaky and that cashflow matters most when valuing a firm or trying to work out if it might go bust. The profitability of any activity, too, must be assessed before the magnifying effects of leverage are taken into account. In bank-land, however, anything goes.* Accounting, not cash, is king. And most common yardsticks for measuring performance are all in some way distorted by leverage, not least return on equity (ROE). ..."

From: http://www.economist.com/businessfinance/economicsfocus/displaystory.cfm?story_id=14744822

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*Not so in Brazil, banks are well regulated and very sound, in part because they must lend 50% of their demand deposits to the government (a 50% reserve ratio!) To compenstate the spread between what they charge for a loan and the interest they pay to depositors is one of the world's highest. Short term automatic loan covering a check without funds has interest rate of about 135% / per year, as I recall! (I never use it of course.) Despite this the current inflation is less than 4.5% and the bank interest on deposties is about 0.7% / month. I.e. the real rate of return is no longer the world's highest as it was for years, but is No. 4, last I read these numbers