Tricks and Tactics

Scandal

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Let me talk to you about one thing na marami naka miss. I have a good feeling na kahit kayo ay na miss ninyo ang idea na to.

Have you heard about people saying na you should put your money on fundamentally sound/good companies? It is a good advice. No brainer di ba? Lalagay mo pera mo sa mga companies/Businesses na kumikita kasi yan ang mga companies na siguradong aakyat.

If you think about it napaka ganda na advice ito and it makes perfect sense…until you bump into this blog post!

What is Fundamental Analysis? Fundamental analysis is a method of determining a stock’s real or “fair market” value by examining related economic and financial factors. Fundamental analysis is the process of looking at a business at the most basic or fundamental financial level. This type of analysis examines the key ratios of a business to determine its financial health.

In short, you look at a stock’s earnings and compare it sa kanyang price if fair, under or over  valued ba ito.

Now, let me sprinkle a little magical idea. What if…. what if lang ha. What if…
Hmmmm… Earnings ng isang company ang sukatan ng economic health nito… What if… peke yung nadeclare na earnings? Does fundamental analysis still have merit?

You would probably look at me like I’m insane. “Peke ang earnings…gumagawa gawa na naman si gandakoh ng kwento para lituhin ang newbies” “Anong akala mo sa mga third party auditors, PSE at SEC incompetent?” ” Eh di wow, ikaw na magaling!”

I maybe am insane for thinking this way. Ok, lets assume I am insane. No question na ha insane na ako. Since insane ako at wala naman maniniwala sakin would it be fair if I present you some facts? I promise pure facts lang. Game?

Enron.

Does that name sound familiar?

“The story of Enron Corporation depicts a company that reached dramatic heights only to face a dizzying fall. The fated company’s collapse affected thousands of employees and shook Wall Street to its core. At Enron’s peak, its shares were worth $90.75; when the firm declared bankruptcy on December 2, 2001, they were trading at $0.26. To this day, many wonder how such a powerful business, at the time one of the largest companies in the United States, disintegrated almost overnight. Also difficult to fathom is how its leadership managed to fool regulators for so long with fake holdings and off-the-books accounting.

By the fall of 2000, Enron was starting to crumble under its own weight. CEO Jeffrey Skilling hid the financial losses of the trading business and other operations of the company using mark-to-market accounting. This technique measures the value of a security based on its current market value instead of its book value. This can work well when trading securities, but it can be disastrous for actual businesses.
 
In Enron’s case, the company would build an asset, such as a power plant, and immediately claim the projected profit on its books, even though the company had not made one dime from the asset. If the revenue from the power plant was less than the projected amount, instead of taking the loss, the company would then transfer the asset to an off-the-books corporation where the loss would go unreported. This type of accounting enabled Enron to write off unprofitable activities without hurting its bottom line.”
 
To make the story short niluto nila ang earnings nila. They make it appear na kumikita sila at walang lugi. If you want a deeper understanding sa nangyare maraming documentary about it na nasa youtube.

“Okay, tama ka sa enron but that is in US and it has nothing to do sa PSE” I was expecting you to say that and that leads us to my next example:

2GO SCANDAL

Conglomerate SM Investments Corp. (SMIC) has debuted into the logistics business by buying a 34.5-percent stake in the parent company of publicly-listed 2GO Group Inc., the country’s biggest integrated supply chain operator. They hired SGV to do a financial audit. It did not looked good. The books were cooked which after a lot of drama it eventually ended in a restated financial statement.
The restated results showed that 2G0 had a significant decline in the 2015 net income to P109.131 million, or 90 percent lower than the profit of P1.08 billion it disclosed in the 2015 annual report.
2GO in 2016 said its restated profit was P344.035 million, also 74 percent lower than the P1.34-billion income it earlier reported.
2GO said restated figures in the first quarter of 2017 showed the company posted a net loss of P264.86 million, a reversal from a profit of P267 million it earlier reported.
2GO’s equity, which stood at P3.66 billion in the first quarter of 2017. Previously, its equity was stated at P6.59 billion, a difference of 80 percent.

Can you believe that? Actual profit was 90% lower!

Companies with securities registered with SEC as well as those publicly listed are required to disclose annual and quarterly financial reports. These are important documents that investors and stockholders examine when making a business decision to partner with or invest in a company.

Rule 68 of the Securities Regulation Code also requires publicly-held companies to file financial reports that are accurate, truthful, and complete and prepared according to a set of “Internationally Accepted Principles of Accounting.”
Under SEC rules, these must also be examined and reported by internal and independent auditors to ensure that details in reports are accurate and true.

Those financial statements were two years back. Oh my. 90% lower than the actual income. Do you understand what that means? It means na lahat ng P/E, EPS, Book Value, etc for that period was wrong.

Financial Statement Manipulation.

Hindi ito nawawala primarily dahil sa conflict of interest between the independent auditor and the corporate client. Also, compensation of corporate executives is directly tied to the financial performance of the company. As a result, they have a direct incentive to paint a rosy picture of the company’s financial condition in order to meet established performance expectations and bolster their personal compensation.

It’s not legal na lutuin yung books but the truth is napakaraming paraan para gawin ito legally. Let me give you an example.

If malapit na cut off sa earnings report you can oversupply goods sa client mo at e list yun as sales. Lets say you supply tissue sa isang fastfood. This is just an example kasi mahirap e simplify so I will use this one. You supply tissue sa isang fast food. You supply 100k boxes of tissue normally. Kapag malapit na cut off sa earnings report you can supply 2 Million boxes of tissue at e list yun as sales or nabenta then lagay mo sa contract na pwede e balik ng fastfood ang excess kasi goods yun. In reality 100k boxes of tissue padin diniliver mo but your sales eh 2 Million boxes nabenta mo then few weeks later nireturn ang 900k boxes na excess. Pwede rin for four years na contract you will be paid 100 Million by the fast food sa tissue supply mo but instead na e spread out yun sa 4 years ay e lump sum mo at e declare as sales. One more area is yung mahiwagang Non-Recurring Expenses at yung Other income/expenses.

2GO is not the first company to have issues sa financial statement and they wont be the last. If you do a good amount of research may mga ganyang pangyayare na din involving other stocks.

You need to understand kung saan galing ang financial statement. Mula yan sa company mismo. Audited by third party but those third party need din nila “alagaan” clients nila which are the companies.

You may still look at me as insane but let me leave you with this question na I want you to think about. If earnings can be manipulated, what happens to fundamental analysis tools such as P/E,EPS,P/B,etc.?

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