9/25/2017 0 Comments Creative AccountingThis week, I began to conduct a financial analysis on Progressive Waste Management. While surveying the strength of Progressive, however, another topic actually came to the front of my mind: cooking the books.
Cooking books is the modification of certain accounting rules in order to make a company appear healthier or more stable. Although many see this as fraudulent, it oftentimes is not. For example, Microsoft has some creative accounting methods that allow for excess earnings to be “saved for a rainy day” -- placed separately from normal earnings until they have a year with lower earnings, when they will inject some money from that rainy day fund. This essentially allows for earnings to be smooth year over year, signaling financial stability. While reading through Progressive’s financials, many opportunities for creative accounting practices came to light, especially within their merger and acquisition (M&A) accounting practices. The various methods for accounting for orders, inventory, and goodwill could cause some major disparities in M&A situations, allowing a company to hide things like unstable cash flow or profit. Although I understood the signs of cooked books, I quickly realized that I did not have the accounting background necessary to find where specifically they cooked their books. After doing a deeper dive into these various creative accounting practices, particularly through reading the book Financial Shenanigans by Howard Schilit, I was able to find some companies that cooked their books and pinpoint likely places where they had opportunities to use some of the previously described creative accounting practices. Having this newfound knowledge under my belt allowed me to better understand basic corporate accounting practices and familiarized me even more with the financials of any company that I come across. As ISM continues throughout the year and my research becomes even more rigorous and complex, the basic accounting skills that I began to develop this week will become even more developed and ultimately allow me to feel more comfortable with one of the most basic skills an investor needs to be successful.
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