October Madness: The Gap Between GAAP and Reported Earnings

Also, America West execs to forego pay, more SEC actions.


The earnings reporting period that gets under way in a week or so should be prove mighty interesting.

Clearly, a lot of companies are going to miss their consensus forecasts. But beyond that, this next batch of earnings reports will underscore the true creativity of finance executives.

First, a number of businesses will no doubt explain away their woes with the words ”September 11” or ”terrorist attacks.” Some excuses will be legitimate; many won’t.

Further, expect to see some fascinating numbers coming out of Silicon Valley — pro forma numbers, to be precise. If only they were.

The fact is, technology companies have been the biggest embracers of pro forma results, which are really only hypothetical numbers. Or, more aptly, they are the numbers that the companies want you to think about — even though those numbers rarely reflect the true health of a company’s ongoing operations.

Obviously, pro forma numbers are generally much different than the ones companies must submit to the Securities and Exchange Commission. Those results, which must be calculated under Generally Accepted Accounting Principles, are frequently buried in corporate press releases.

If you don’t think there’s a disparity between pro forma results and GAAP results, chew on this: The Associated Press did an in-depth analysis of earnings reports by the 100 largest technology companies in northern California. The wire service calculated that, under GAAP standards, the 100 companies have reported combined losses of around $71 billion. Using pro forma figures, however, these same companies reported a tidy profit of $10 billion.

What accounts for the difference? Accounting. The AP survey noted that under GAAP, the 100 companies reported about $82.8 billion in bad investments, layoffs, and other special charges this year, up from $5.6 billion last year. The wire service found that JDS Uniphase alone accounted for $50.6 billion in losses.

Granted, pro forma figures have their place on a financial statement, particularly when used to exclude extraordinary events that don’t impact a company’s true performance. That includes things like noncash writeoffs for intangible assets associated with an acquisition.

But managers at some companies like to exclude items like inventory writeoffs when reporting pro forma results. Amazon.com, for example, has occasionally excluded stock-based compensation costs, goodwill amortization, and impairment-related and restructuring charges when reporting pro forma results.

Accountants at FASB seem to think the use of pro forma results is an important issue. According to the Associated Press, the independent accounting rules-making organization has set October 5 as a deadline for submitting comments on the issue. Stay tuned.

SEC Settles Complaint with Manufacturing CFO

The Securities and Exchange Commission said it settled an administrative proceeding against Paul S. Jurewicz. Jurewicz was chief financial officer at Sabratek Corp. when a number of the company’s employees engaged in a scheme to overstate Sabratek’s reported revenue. See the second part of our recent story.

Without admitting or denying the findings, Jurewicz consented to cease and desist from committing or causing any violation and any future violation of federal securities laws, and to pay disgorgement and prejudgment interest totaling $17,907.

According to the SEC, from the first quarter of 1998 through the first quarter of 1999, certain employees of Sabratek engaged in a scheme to overstate the company’s reported revenue by improperly including revenue from purported sales of infusion pumps and billings from consulting services that were largely not performed.

”As Sabratek’s chief financial officer from July 1998 to April 1999, Jurewicz contributed to the misrepresentations by causing to be prepared and reviewing financial statements, and by signing the Form 10- Q for the third quarter of 1998, Form 10-K for 1998, and the management representation letters to the auditor for these periods,” the SEC stated in announcing the settlement. “Jurewicz was reckless in not knowing that Sabratek’s financial results were materially overstated. Further, Jurewicz did not devise or maintain a system of internal accounting controls to ensure that Sabratek’s revenue from sales and billings was accurately recorded.”

Today’s Layoff News

Hewlett-Packard Co. said it will have to cut more jobs than initially anticipated before its planned acquisition of Compaq Computer Corp. is completed next year, according to an SEC filing.

HP and Compaq said they expected to cut 15,000 jobs at the combined company when they announced the merger last month. And that was before the September 11 disaster.

It also didn’t help that on Monday night, Compaq warned that it will report a third-quarter operating loss and lower-than-expected sales, due to the September 11 attacks, a typhoon and other factors.

In other layoff news:

  • Cognex Corp., a maker of image-analysis hardware and software used by semiconductor and electronics companies, said it will cut 85 jobs due to declining demand. These would be its first major layoffs since 1985. Cognex said that about 25 of the positions cut were contractors and unfilled jobs. About 30 positions will be cut at its corporate headquarters, with the remainder at other locations.
  • WorldCom Inc. said it will cut about 1,000 jobs, or about 10 percent of its European workforce, due to lower capital spending and a restructuring in the region.
  • Inktomi Corp. announced it will slice 150 jobs as part of a plan to return to profitability.
  • Specialty chipmaker Cirrus Logic Inc. said it will cut 300 jobs, or 30 percent of its workforce.
  • Voice and data services company XO Communications Inc. said it would lay off 8 percent of its staff even though it announced that it would meet revenue and earnings estimates for the third quarter.
  • Raytheon Aircraft Co. said it will cut at least another 750 jobs, citing the softening economy and the September 11 terrorist attacks.
  • Wyndham International Inc. said it is laying off about 1,600 people, or 5 percent of its workforce.
  • Meanwhile, as a good-faith gesture, America West Airlines said its top executives decided to forego all or part of their compensation for the remainder of the year as it began to lay off employees. Chief executive, president, and chairman Douglas Parker asked the board to halt his compensation for the remainder of the year while four executive vice presidents have volunteered to cut their pay by 25 percent. Each member of the board will also forego compensation through the end of the year. Other U.S. carriers, including United Airlines, have announced similar plans.

In Brief

  • The airlines are trying to woo back business travelers. United Airlines said it will cut business fares by as much as 50 percent and even remove the Saturday- stay requirement. for many tickets bought in advance. The rest of the airlines will probably match the offer.
  • Converge Inc., an electronics and high-technology industry exchange, said it is closing its supply-chain services operations. The move could hurt Manugistics Group Inc., which sold a license for its supply-chain management software to Converge and owns a stake in the exchange, and VerticalNet Inc., which also owns a large stake.
  • The Supreme Court said it won’t hear a hiring discrimination case against Northwest Airlines Corp. Two courts already rejected arguments of a woman who claims her gender was the only thing that kept her from becoming a pilot.
  • Cablevision Systems Corp. said its CSC Holdings unit is redeeming two issues of senior subordinated notes. It is redeeming its 9 1/4 percent senior subordinated notes, due 2005, at a price of 103 percent plus interest, and its 9 7/8 percent senior subordinated notes, due 2006, at 104.938 percent plus interest. The company will use funds from its bank credit line to redeem the bonds.
  • How much money are state and local governments losing from not taxing E-commerce? In 2001, the figure probably computed to $13.3 billion, according to a study by the Center for Business and Research at the University of Tennessee. Professors there previously estimated the loss at $9.4 billion. By 2011 the figure will probably swell to more than $54 billion, according to the center.
  • Novell Inc. said on Monday it had filed suit in federal court to stop Microsoft Corp. from spreading ”false and misleading” statements that Novell was shifting away from software development.

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