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Fraudulent Earnings - Quick Icahn Video on CNBC. I think it is disgusting.


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Quick 2 minute video of Carl Icahn on CNBC.  Note the CNBC didn't seem to think his point was important.

http://video.cnbc.com/gallery/?video=3000391298&play=1

 

He mentions briefly how there is GAAP and then mgmt often says ignore GAAP here is what I think are real earnings.

 

I completely agree with Icahn and I think many, many mgmt teams basically promote fraudulent earnings.  It is fraud in plain sight.  I read a lot of annuals and the ones where mgmt uses unadjusted GAAP earnings analysis are the exception.  These charges are often ANNUAL Non recurring charges.  Every business on the planet is trying to become more efficient and effective so when a business spends money on restructuring that is normal operations.  It is money out of the pockets of shareholders.  It has really become a disgusting practice in my view so that is why I bring it up here.  Also - if you are basing your Value on these mgmt earnings you may want to recheck your numbers.

 

Note: There are exceptions.  Non-economic amortization from M&A is a great one.  Depreciation of real estate that is above maintenance capex, but they are rare. 

 

FASB is comprised of a highly intelligent group of accountants who have to come up with accrual based accounting for tons of scenarios and if you have ever read any of their proposals/rules you would be very careful to challenge them.  They are independent and have deep accounting knowledge (unlike mgmt) so don't write off the GAAP rules quickly.

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Interesting thanks. It reminds me of a presentation I saw from David Einhorn about oil companies, that advertise how cheap their stock price is compared to cash flows while totally ignoring that the huge investment has been made to get the oil out of the ground and the return on capital is a pittance. Analyzing unadjusted earnings is definitely a rarity now I agree.

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FASB is comprised of a highly intelligent group of accountants who have to come up with accrual based accounting for tons of scenarios and if you have ever read any of their proposals/rules you would be very careful to challenge them.  They are independent and have deep accounting knowledge (unlike mgmt) so don't write off the GAAP rules quickly.

 

The obvious challenge is that FASB tries to make accounting objective when it is actually subjective:

 

“…accounting [is] the language of practical business life. It was a very useful thing to deliver to civilization. I’ve heard it came to civilization through Venice which of course was once the great commercial power in the Mediterranean. However, double-entry bookkeeping was a hell of an invention. And it’s not that hard to understand. But you have to know enough about it to understand its limitations - because although accounting is the starting place, it’s only a crude approximation. And it’s not very hard to understand its limitations. For example, everyone can see that you have to more or less just guess at the useful life of a jet airplane or anything like that. Just because you express the depreciation rate in neat numbers doesn’t make it anything you really know

 

-- Charlie Munger

 

 

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FASB is comprised of a highly intelligent group of accountants who have to come up with accrual based accounting for tons of scenarios and if you have ever read any of their proposals/rules you would be very careful to challenge them.  They are independent and have deep accounting knowledge (unlike mgmt) so don't write off the GAAP rules quickly.

 

The obvious challenge is that FASB tries to make accounting objective when it is actually subjective:

 

“…accounting [is] the language of practical business life. It was a very useful thing to deliver to civilization. I’ve heard it came to civilization through Venice which of course was once the great commercial power in the Mediterranean. However, double-entry bookkeeping was a hell of an invention. And it’s not that hard to understand. But you have to know enough about it to understand its limitations - because although accounting is the starting place, it’s only a crude approximation. And it’s not very hard to understand its limitations. For example, everyone can see that you have to more or less just guess at the useful life of a jet airplane or anything like that. Just because you express the depreciation rate in neat numbers doesn’t make it anything you really know

 

-- Charlie Munger

 

The more relevant you make your depreciation info source, the more costly and/or unreliable it becomes. Accounting bodies are just trying to make the best of an imperfect world, often having to choose the lesser of two craps. Munger's quote is an appreciation of that fact, not an attack on accounting bodies' competency.

 

A little bit less relevance of information (not even that much, really, SL depreciation has been shown to be a pretty sturdy proxy in general AFAIK) is a small price to pay for a cheap, simple and reliable process. Keep in mind USGAAP also allows the depreciation of cap assets by units of production, which is a halfway-type compromise, but nobody uses it, and there's a reason for that.

 

How would you personally improve on FASB's standards?

 

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Quick 2 minute video of Carl Icahn on CNBC.  Note the CNBC didn't seem to think his point was important.

http://video.cnbc.com/gallery/?video=3000391298&play=1

 

He mentions briefly how there is GAAP and then mgmt often says ignore GAAP here is what I think are real earnings.

 

I completely agree with Icahn and I think many, many mgmt teams basically promote fraudulent earnings.  It is fraud in plain sight.  I read a lot of annuals and the ones where mgmt uses unadjusted GAAP earnings analysis are the exception.  These charges are often ANNUAL Non recurring charges.  Every business on the planet is trying to become more efficient and effective so when a business spends money on restructuring that is normal operations.  It is money out of the pockets of shareholders.  It has really become a disgusting practice in my view so that is why I bring it up here.  Also - if you are basing your Value on these mgmt earnings you may want to recheck your numbers.

 

My favorite example from recent weeks is a social media company symbol MEET.    As I read their disclosures, they are paying something around 10% of their market cap per year to the executives as stock-based compensation, then they very conveniently create a bogus non-GAAP "Adjusted EBITDA" valuation measure that takes out that stock based compensation.    Why is this kind of thing even legal.  It's disgusting and it is theft from shareholders in plain sight.

 

Maybe one way to raise awareness of this problem would be to have a regulation that requires a company that uses a non-GAAP earnings metric to *always* include the GAAP metric side by side.  That way if they use their bogus "Adjusted EBITDA" measure 100 times in a filing, the true GAAP EBITDA will appear 100 times as well, immediately next to the bogus reference.  Retail investors will be more likely to ask questions about how to reconcile the two numbers if they see both side by side many times.  Take away the power of companies to use lies - exclusively - in their public filings. 

 

 

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For some companies, GAAP earnings is a relevant metric. For others, it's next to useless.

 

I don't see any problem with management doing a spin job if they want... it's ultimately up to investors to determine how they value a company, and the GAAP numbers are there if that's what they prefer.

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

2) Insane EBITDA adjustments include "pro forma synergy estimates", " restructuring expense (happens every year)", "one time legal / transaction fees", "Management and Consulting Fees" and "executive stock compensation".

 

I used to work for a company owned by private equity (CD&R) and run by ex GE executives and every single quarter end the accounting team would raid the balance sheet for accruals and find addbacks for EBITDA. If you think that publically traded companies manipulate earnings than you should really try to get a hold of PE backed private companies, it is a whole other world.

 

For perspective, the company had a $40M operating loss and $360M of Pro Forma Adjusted EBITDA haha

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

 

What real estate related companies like REITs, developers, etc or companies growing through acquisitions?

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

2) Insane EBITDA adjustments include "pro forma synergy estimates", " restructuring expense (happens every year)", "one time legal / transaction fees", "Management and Consulting Fees" and "executive stock compensation".

 

I used to work for a company owned by private equity (CD&R) and run by ex GE executives and every single quarter end the accounting team would raid the balance sheet for accruals and find addbacks for EBITDA. If you think that publically traded companies manipulate earnings than you should really try to get a hold of PE backed private companies, it is a whole other world.

 

For perspective, the company had a $40M operating loss and $360M of Pro Forma Adjusted EBITDA haha

 

So, what you are saying is that every investment banker and PE executive that uses EBITDA all the time don't know what they are doing???  :o  The reason they use EBITDA is that it is a useful figure that serves as a proxy for the cash flow power of the business before the impact of capital structure and tax rates.  Since it is part and parcel of the way professionals in the financial services industry speak, they know what EBITDA is and isn't.  If one doesn't like it, go ahead and use Net Income, Cash Flow from Operations or whatever other metric you'd prefer. 

 

As to the "insane" adjustments that you refer to, I would argue that I would much rather know what all of these individual line items are and decide for myself if they should or should not be backed out as I conduct my analysis.  Hard to argue that you are hurt by knowing what these expenses are.

 

And as to the adjustment the CD&R guys were making, I assume that as part of their credit agreement, they needed to maintain certain leverage ratios as measured by "Adjusted EBITDA".  If you worked for this company, presumably you'd prefer that they did NOT trip their debt convenants? :) 

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

2) Insane EBITDA adjustments include "pro forma synergy estimates", " restructuring expense (happens every year)", "one time legal / transaction fees", "Management and Consulting Fees" and "executive stock compensation".

 

I used to work for a company owned by private equity (CD&R) and run by ex GE executives and every single quarter end the accounting team would raid the balance sheet for accruals and find addbacks for EBITDA. If you think that publically traded companies manipulate earnings than you should really try to get a hold of PE backed private companies, it is a whole other world.

 

For perspective, the company had a $40M operating loss and $360M of Pro Forma Adjusted EBITDA haha

 

So, what you are saying is that every investment banker and PE executive that uses EBITDA all the time don't know what they are doing???  :o  The reason they use EBITDA is that it is a useful figure that serves as a proxy for the cash flow power of the business before the impact of capital structure and tax rates.  Since it is part and parcel of the way professionals in the financial services industry speak, they know what EBITDA is and isn't.

 

And as to the adjustment the CD&R guys were making, I assume that as part of their credit agreement, they needed to maintain certain leverage ratios as measured by "Adjusted EBITDA".  If you worked for this company, presumably you'd prefer that they did NOT trip their debt convenants? :)

 

Bull$hit is still bull$hit, no matter how many people speak BS language.

 

I too have worked for and with PE / PE run companies and I'd argue that the "private" in PE is the big reason why so much BS goes on. As for those that work for the company, I'll say a prayer for them. Too bad the owners sold them out to the vultures.

 

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I'm using EBITDAOECOGS(earnings before interest,taxes,depreciation,amortization, operating expenses and cost of goods sold) to evaluate the earnings power of businesses nowadays. Get with the times everyone.

Lol, that's funny. Will use this!

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

2) Insane EBITDA adjustments include "pro forma synergy estimates", " restructuring expense (happens every year)", "one time legal / transaction fees", "Management and Consulting Fees" and "executive stock compensation".

 

I used to work for a company owned by private equity (CD&R) and run by ex GE executives and every single quarter end the accounting team would raid the balance sheet for accruals and find addbacks for EBITDA. If you think that publically traded companies manipulate earnings than you should really try to get a hold of PE backed private companies, it is a whole other world.

 

For perspective, the company had a $40M operating loss and $360M of Pro Forma Adjusted EBITDA haha

 

So, what you are saying is that every investment banker and PE executive that uses EBITDA all the time don't know what they are doing???  :o  The reason they use EBITDA is that it is a useful figure that serves as a proxy for the cash flow power of the business before the impact of capital structure and tax rates.  Since it is part and parcel of the way professionals in the financial services industry speak, they know what EBITDA is and isn't.

 

And as to the adjustment the CD&R guys were making, I assume that as part of their credit agreement, they needed to maintain certain leverage ratios as measured by "Adjusted EBITDA".  If you worked for this company, presumably you'd prefer that they did NOT trip their debt convenants? :)

 

Bull$hit is still bull$hit, no matter how many people speak BS language.

 

I too have worked for and with PE / PE run companies and I'd argue that the "private" in PE is the big reason why so much BS goes on. As for those that work for the company, I'll say a prayer for them. Too bad the owners sold them out to the vultures.

 

I'm not saying they don't know what they are doing, I think they know exactly what they are doing which is providing a manipulative measure of a company's earnings power. EBITDA is not a good proxy for cash flow. A good proxy for cash flow is.... cash flow.

 

On a seperate note, I Luckily found a new role at a Company that actually makes money.

 

Cheers

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Quick 2 minute video of Carl Icahn on CNBC.  Note the CNBC didn't seem to think his point was important.

http://video.cnbc.com/gallery/?video=3000391298&play=1

 

He mentions briefly how there is GAAP and then mgmt often says ignore GAAP here is what I think are real earnings.

 

I completely agree with Icahn and I think many, many mgmt teams basically promote fraudulent earnings.  It is fraud in plain sight.  I read a lot of annuals and the ones where mgmt uses unadjusted GAAP earnings analysis are the exception.  These charges are often ANNUAL Non recurring charges.  Every business on the planet is trying to become more efficient and effective so when a business spends money on restructuring that is normal operations.  It is money out of the pockets of shareholders.  It has really become a disgusting practice in my view so that is why I bring it up here.  Also - if you are basing your Value on these mgmt earnings you may want to recheck your numbers.

 

My favorite example from recent weeks is a social media company symbol MEET.    As I read their disclosures, they are paying something around 10% of their market cap per year to the executives as stock-based compensation, then they very conveniently create a bogus non-GAAP "Adjusted EBITDA" valuation measure that takes out that stock based compensation.    Why is this kind of thing even legal.  It's disgusting and it is theft from shareholders in plain sight.

 

Maybe one way to raise awareness of this problem would be to have a regulation that requires a company that uses a non-GAAP earnings metric to *always* include the GAAP metric side by side.  That way if they use their bogus "Adjusted EBITDA" measure 100 times in a filing, the true GAAP EBITDA will appear 100 times as well, immediately next to the bogus reference.  Retail investors will be more likely to ask questions about how to reconcile the two numbers if they see both side by side many times.  Take away the power of companies to use lies - exclusively - in their public filings.

 

I believe TWTR paid more in stock-based comp LTM than they generated in revenues, and that comp isn't an expense in their adjusted EBITDA measure. Most software/tech companies exclude stock-based comp from adjusted EBITDA.

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

2) Insane EBITDA adjustments include "pro forma synergy estimates", " restructuring expense (happens every year)", "one time legal / transaction fees", "Management and Consulting Fees" and "executive stock compensation".

 

I used to work for a company owned by private equity (CD&R) and run by ex GE executives and every single quarter end the accounting team would raid the balance sheet for accruals and find addbacks for EBITDA. If you think that publically traded companies manipulate earnings than you should really try to get a hold of PE backed private companies, it is a whole other world.

 

For perspective, the company had a $40M operating loss and $360M of Pro Forma Adjusted EBITDA haha

 

So, what you are saying is that every investment banker and PE executive that uses EBITDA all the time don't know what they are doing???  :o  The reason they use EBITDA is that it is a useful figure that serves as a proxy for the cash flow power of the business before the impact of capital structure and tax rates.  Since it is part and parcel of the way professionals in the financial services industry speak, they know what EBITDA is and isn't.

 

And as to the adjustment the CD&R guys were making, I assume that as part of their credit agreement, they needed to maintain certain leverage ratios as measured by "Adjusted EBITDA".  If you worked for this company, presumably you'd prefer that they did NOT trip their debt convenants? :)

 

Bull$hit is still bull$hit, no matter how many people speak BS language.

 

I too have worked for and with PE / PE run companies and I'd argue that the "private" in PE is the big reason why so much BS goes on. As for those that work for the company, I'll say a prayer for them. Too bad the owners sold them out to the vultures.

 

I'm not saying they don't know what they are doing, I think they know exactly what they are doing which is providing a manipulative measure of a company's earnings power. EBITDA is not a good proxy for cash flow. A good proxy for cash flow is.... cash flow.

 

On a seperate note, I Luckily found a new role at a Company that actually makes money.

 

Cheers

 

EBITDA is not bull$hit, notwithstanding WEB's claims to the contrary.  Contrary to what you say, its widespread usage speaks directly to its usefulness.  In contrast, Cash Flow can swing wildly from year to year for a host of reasons that do NOT speak to the underlying earnings power of the business.  Feel free to take exception to the adjustments, but I would certainly want to know about various costs/benefits that are not likely to be recurring. 

 

I do agree with you that prayers should be said for the employees as PE people are amongst the greediest people on the planet and will $crew over the employees without a second thought.  Therefore, I am glad to hear that you've found a better place to work.

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I'm using EBITDAOECOGS(earnings before interest,taxes,depreciation,amortization, operating expenses and cost of goods sold) to evaluate the earnings power of businesses nowadays. Get with the times everyone.

 

That was so funny! I good laugh aloud.  Actually I am just using revenue multiples now these expenses are too complicated!

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Non GAAP Adjusted EBITDA is definitely one of my pet peeves and one of the most misleading metrics that exists.

 

1) Evaluating a company using EBITDA is ridiculous because D&A are real expenses or rather they reflect real expenses that occurred in the past. Very rarely can a company operate without any capex

 

2) Insane EBITDA adjustments include "pro forma synergy estimates", " restructuring expense (happens every year)", "one time legal / transaction fees", "Management and Consulting Fees" and "executive stock compensation".

 

I used to work for a company owned by private equity (CD&R) and run by ex GE executives and every single quarter end the accounting team would raid the balance sheet for accruals and find addbacks for EBITDA. If you think that publically traded companies manipulate earnings than you should really try to get a hold of PE backed private companies, it is a whole other world.

 

For perspective, the company had a $40M operating loss and $360M of Pro Forma Adjusted EBITDA haha

 

So, what you are saying is that every investment banker and PE executive that uses EBITDA all the time don't know what they are doing???  :o  The reason they use EBITDA is that it is a useful figure that serves as a proxy for the cash flow power of the business before the impact of capital structure and tax rates.  Since it is part and parcel of the way professionals in the financial services industry speak, they know what EBITDA is and isn't.  If one doesn't like it, go ahead and use Net Income, Cash Flow from Operations or whatever other metric you'd prefer. 

 

As to the "insane" adjustments that you refer to, I would argue that I would much rather know what all of these individual line items are and decide for myself if they should or should not be backed out as I conduct my analysis.  Hard to argue that you are hurt by knowing what these expenses are.

 

And as to the adjustment the CD&R guys were making, I assume that as part of their credit agreement, they needed to maintain certain leverage ratios as measured by "Adjusted EBITDA".  If you worked for this company, presumably you'd prefer that they did NOT trip their debt convenants? :)

 

Yes, The PE guys, Investment bankers, etc are stupidly using a generally totally useless measure of business earnings by using EBITDA.  It reminds of the salesman that sells a bunch of BS to everyone then ends up believing it himself.  It is not right because a lot of people use it, it is right because it is logical.  EBITDA leaves out 2 very important items - maintenance capex and tax costs.  Both are different depending on the specific business and location of pretax profits. Depreciation is generally a close proxy to maint capex. 

 

Think about it - when someone says this business is trading at 5x EBITDA what does that tell me?

When I hear EBITDA I wonder if the toothfairy is going to pay for capex.     

 

 

 

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By itself EBITDA is not too useful, but if you're comparing valuations or leverage across firms with different capital structure, a metric like EV/EBITDA or Net Debt/EBITDA is pretty helpful. I guess you can make the argument that EV/EBIT, EV/(EBITDA-capex) or EV/FCF is better, but at the end of the day they're all imperfect shortcuts..

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