Did the Indian economy really grow due to early nineties liberalisation? Well, they surely did, but was it the only growth driver (as people keep mentioning it)? Or there were other important factors, which grew the Indian economy? Well, let’s find out. This article is a summary of the book – India Uninc. written by …
Book Reviews & Reads
In the previous set of articles, we have climbed the first two mountains in our quest to conquer financial shenanigans, with one big climb still to come. Until now, we have focused on assessing the performance of companies using two separate metrics: earnings and cash flow. However, our quest is not yet over. In this article we discuss the importance of using other “key metrics” to evaluate a company’s performance and economic health, and we expose tricks that companies could use to cloud the picture and mislead investors.
CF Shenanigan No. 1: Shifting Financing Cash Inflows to the Operating Section
CF Shenanigan No. 2: Shifting Normal Operating Cash Outflows to the Investing Section
CF Shenanigan No. 3: Inflating Operating Cash Flow Using Acquisitions or Disposals
CF Shenanigan No. 4: Boosting Operating Cash Flow Using Unsustainable Activities
To inflate tomorrow’s operations, management would simply hold back today’s revenue or gains and accelerate tomorrow’s expenses or losses into the current period. Now you might be thinking why would a company want to report smaller profits? Consider a company that is growing like gangbusters and is unsure of what tomorrow holds, or one that has benefited from a large windfall gain or a huge new contract.
Investors rely on the information that they receive from corporate executives to make informed and rational securities selection decisions. This information is assumed to be accurate, whether the news is good or bad. While most corporate executives respect investors and their needs, some dishonest ones hurt investors by misrepresenting the actual company performance and manipulating the company’s declared earnings. Part 2 fleshes out the Earnings Manipulation (EM) Shenanigans which inflate current period earnings and suggests how skeptical investors can ferret out these tricks to avoid losses.
Enron’s revenue went up more than 10 times in just 5 years from $9bn to $100bn whereas, its net profit was hardly doubled (in 2000 vs. 1995).
Clearly something was wrong as it took Walmart – 10 years to go from a revenue of $10bn to $100bn, 31 years to General Motors, 27 years for Ford and 17 Years for ExxonMobil but Enron did it in just 5 years.
It was the largest corporate bankruptcy in U.S. history (until WorldCom declared bankruptcy seven years later followed by Lehman Brothers in 2008).
This article is an excerpt from the well-known book ‘From Graham to Buffett and Beyond’. The 4th Chapter of the book explains in detail how can we calculate the Reproduction cost (i.e. Replacement cost) of a company, i.e. the cost for setting up a new similar company. The following is a summary of the same.