In the first chapter of Financial Shenanigans, Schilit outlines three distinct examples of companies that have gotten a bit too creative with their accounting: Enron, WorldCom, and Symbol Technologies.
Enron: Most Imaginative Fabrication of Revenue
In the case of Enron, the first major warning sign was impossibly rapid growth of the corporation. Over the course of five years, Enron grew by over $90 billion in revenue. To put this in scale, Walmart, the company whose growth is even somewhat comparable to Enron’s, accomplished this feat in ten years. Enron grew twice as fast. The second warning sign of fraud was the unequal growth between sales and profit. Generally, when a company's sales go up by a certain percentage, the profit produced will increase by the same percentage. In Enron’s case, however, there were instances where sales increased by over 150% while profit only increased by less than 10%. Unsurprisingly, they weren’t able to keep this act up for long. In 2001, the company disclosed a $586 million downward revision in net income. Soon after, they disclosed another $1.2 billion downward revision in stockholder’s equity.
WorldCom: Most Brazen Creation of Fictitious Profit and Cash Flow
WorldCom’s manipulation ended up with massive overstatements of both earnings and cash flow. Their M&A-focused strategy allowed them to find loopholes in reporting their numbers, the most prominent one being “reloading reserves”. When WorldCom made an acquisition, they would write off part of the cost and use it to create reserves, which could then be transferred into revenue. In addition to writing off costs on acquisitions, WorldCom commonly capitalized things like line costs, which goes against GAAP. In GAAP, only assets that depreciate are allowed to be written off (in order for them to be properly depreciated). These costs, however, were one-time, so they were not allowed to be written off. To make matters worse, the CEO of the company had to pay off a personal margin call, so he convinced the board to give him extra bonuses in the form of corporate bonds and stocks in order to maintain the loan. Unsurprisingly, WorldCom went bankrupt, leaving bondholders with 37 cents for every dollar and stockholders with nothing.
Symbol Technologies: Most Ardent and Prolific Use of Numerous Shenanigans
Symbol Technologies used by far the widest variety of manipulation techniques to meet Wall Street’s expectations. First, Symbol used a reserve to smooth out earnings. In the years where they made substantially more than the last, they would write off some of those earnings using bogus one-time costs and transfer the earnings to a “cookie jar”, a sort of rainy day fund that they could draw revenue out of during down years. To meet sales estimates from Wall Street, Symbol would often “stuff the channel” and ship products too soon, or even when customers had not ordered anything. In addition, they deferred things like insurance costs to boost earnings and cash flow. For careful readers, there were obvious signs of fraud within the company. These included dramatic jumps in inventory, surges in soft assets, decreasing allowance for doubtful accounts, rounding up earnings to meet the Street’s expectations, and cash flow that lagged behind net income.
Synopsis (Taken from goodreads)
Presents tools that one who is potentially affected by misleading business valuations can use to research and read financial reports, and to identify early warning signs of a company's problems. This work contains chapters, data, and research that reveal contemporary shenanigans that have been known to fool even veteran researchers.