Presentation on theme: "Accounting Analysis Identifying accounting distortions –caused by estimation error, bad GAAP, or management manipulation From a valuation perspective,"— Presentation transcript:
Accounting Analysis Identifying accounting distortions –caused by estimation error, bad GAAP, or management manipulation From a valuation perspective, –Correcting the distortion = Forecasting the distortion’s reversal But you have to know the distortion exists!
the RI model and accounting distortions suppose firm has 100 in SE, but you believe that 8 of their assets are worthless. you forecast 12 of NI next year, but only 4 in NI the year after when they will write off the worthless assets. now suppose that you restate accounting so that SE = 92.
the RI model may be immune to accounting manipulation but are you? 1997 1998 1999 2000 2001 2002 2003 … beg. bkv earning FCF beg. bkv earning FCF beg. bkv earning FCF beg. bkv earning FCF beg. bkv earning FCF beg. bkv earning FCF beg. bkv earning FCF
Salton, Inc. Who are they? –makers of the George Foreman Grill (1/3 of sales) and other small appliances. What is their strategy? –manufacture in Asia –sell to K-Mart, Wal-Mart etc. Can they sustain a competitive advantage? http://www.esalton.com/store/application
load Salton into eVal close any open eVal files browse to CD, “Salton” folder open file “Salton Benchmark Valuation” with students we simply pass them a raw data file to import under the “Input Historical Data” step on the User’s Guide.
Salton’s Past Performance
The Deal with George Foreman the old deal with George: 60% of gross profit –approximately $64 million in 1999 the new deal with George: $122 million pmt, amortized over 15 years (after 8.1 amortization 113.9 as of yr end) How will the deal change the financial statements going forward? Is this an accounting distortion? correcting the balance sheet today versus forecasting the correction in the future? http://www.biggeorge.com/familyman/familyman.htm
accounting distortions Suppose Foreman Trademark has a 3 year life. Adjusted amounts based on amortization over 3 years = 40.5M/yr or 32.4M more than As Reported
removing the 113.9M asset benchmark price is $1417.84 ( with 9/30/2000 valuation date ). –move $113,900K from Intangibles to Other Assets method 1: write off in year 1 –put -8.5% for Other Income in 2001, 0 thereafter –set Other Assets/Sales = 0% in 2001 and beyond –results in value = $1571.55 –note that debt/asset ratios are 19.9 and 38.1 method 2: remove asset in year 0 –set Other Asset = $0 in 2000 –lower Retained Earnings by $113,900K in 2000 –note the debt/asset ratios (19.9 current and 38.1 LT) –reset debt/asset ratios to 19.9 and 38.1 each year –results in value = $1571.57. So value is the same in either case, BUT WHY DOES VALUE INCREASE?
Salton Redux what was the point again? –accounting distortions influence on valuation when we correct doesn’t matter –the asset writeoff in year 0 or year 1 but don’t let a distorted past influence your forecasted future –margins were artificially improved by the long amortization period –what does it mean to say the asset is “worthless”? –extreme valuation caused by naïve extrapolation of past sales growth overstatement of profitability