Put GAAP Ahead of Pro Forma, NIRI Says

Investor-relations group spells out tough new guidelines for reporting earnings. Also: PwC auditors might face criminal charges for their work on Tyco executive pay scheme.

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The National Investor Relations Institute (NIRI) adopted a tough set of guidelines for companies when they report earnings, including more forthcoming reporting of pro forma results.

The guidelines arose from a 10-point program NIRI announced back in April as a way of helping to restore investor trust and confidence.

“The quality and content of quarterly earnings releases varies widely,” said Louis M. Thompson, president and chief executive officer of NIRI. “Implementation of these guidelines will result in consistency and a higher standard of information in the releases—an important means of regaining credibility among the investing public.”

NIRI is urging companies to do some or all of the following when they release quarterly earnings results:

  • Include a complete income statement and a complete balance sheet. NIRI said the income statement should include data for the current quarter and comparison with the prior-year quarter and, if it’s “informative,” to the sequentially previous quarter, with similar comparisons for the year to date. The balance sheet should include data for the current period and the previous fiscal year-end and, if it is informative, comparisons with the comparable period in the previous year. “This disclosure gives investors the information to determine free cash flow and the company’s ability to meet its financial requirements,” said NIRI in a report.
  • Put generally accepted accounting principles earnings up front and before pro forma results. NIRI has for some time encouraged companies to announce GAAP earnings on the first page of the earnings release, ideally in the first paragraph and before their discussion of pro forma results. Pro forma results should be reconciled to GAAP earnings, either through words or the use of a table, NIRI recommends. Only GAAP earnings should appear in headlines of a release.
  • Include key information in the earnings announcement. NIRI acknowledged that added information that investors need or want in order to evaluate a company’s results is included in the Management’s Discussion and Analysis (MD&A) of the 10-K and 10-Q filings. It noted, however, that while that information is discussed in conference calls and in filings made with the Securities and Exchange Commission, it’s often omitted from press releases. “This makes it harder for investors to obtain the information unless they listen to the conference call or wait for the relevant SEC filings,” added NIRI.
  • Either include a summary MD&A with the earnings announcement or make other “critical” information part of the release. That would improve transparency and encourage companies to be more forthcoming and expansive in disclosure, the institute contends.

The critical information might include:

—A brief description of the company’s business, which clarifies how it makes money.

—The primary factors or trends, both short- and long-term, causing revenues to increase, decrease, or remain flat.

—A brief discussion of what drives other key data, such as gross profit; sales, general, and administrative (SG&A) expenses; other income (or expense); interest expense; income taxes; and the effect of currency translation or transaction on net income.

—An explanation of any charges, including both pre- and after-tax numbers, and whether there will or could be similar additional charges in future quarters.

—A brief discussion of liquidity and capital resources, including debt levels and key ratios, the adequacy of cash resources, cash provided from operations, capital expenditures, any anticipated changes in financing, and any share repurchases.

—Key industry-specific measures that a company uses to evaluate performance, such as same-store sales growth for retailers or net-interest margin for financial institutions.

—Any material changes in accounting practices adopted during the quarter, made either because of changes in Financial Accounting Standards Board requirements or because of company choice.

—The company’s current expectations for sales and earnings (if the company provides such guidance at all).

Prosecutors Mull PwC Charges

Manhattan District Attorney Robert Morgenthau might bring criminal charges against PricewaterhouseCoopers LLP auditors who were responsible for reviewing the compensation of former Tyco International Ltd. chief executive L. Dennis Kozlowski, according to published reports.

The big question is whether PwC auditors broke the law when they failed to disclose that a proxy statement didn’t include a $33 million bonus paid to Kozlowski, according to Bloomberg.

You may recall that less than two weeks ago we reported that Tyco was being questioned by Morgenthau. “We have no reason to believe we will be anything but a provider of information for them,” PwC spokesman Steven Silber told the Wall Street Journal at the time.

According to Wednesday’s Bloomberg report, prosecutors seem more interested in turning up the heat on the PwC auditors so they will testify against Koslowski.

“An auditor at Pricewaterhouse represents a particularly dangerous witness,” George Washington University law professor Jonathan Turley, a white-collar crime expert, told the wire service. “A defense attorney for the auditors would probably be exploring who they can offer up for a generous deal.”

Bloomberg identified Rick Scalzo as the lead PwC partner for the firm’s Tyco account, citing company filings.

The most interesting part of the story is that the district attorney is reportedly investigating an individual auditor rather than the firm itself. If PwC were indicted and later convicted, if would likely suffer a fate similar to that of Andersen, which was automatically suspended from auditing public companies.

Why It’s Hard to Issue Bonds

Wondering why so many companies are having trouble bringing new bond issues to market?

It’s simple: jittery investors are afraid of them.

The evidence is in the spreads between corporate bonds and comparable Treasuries. The spreads are now at a record width for the decade.

The average yield on investment-grade corporate bonds is now 2.51 percentage points over Treasuries, the widest in at least 10 years, according to Merrill Lynch & Co.

The yield difference between junk bonds and Treasuries has been around 10 percentage points since mid-August, recently reaching an all-time gap of 10.82 percentage points.

The solution? An improvement in corporate profits. Then investors won’t be worried about companies’ ability to pay the principle and interest in a timely way.

Interestingly, the spread between corporate bonds and Treasuries hit its intrayear low of 1.58 percentage points as recently as June 5, according to Merrill.

The upshot: companies that want to issue debt now may pay an average of $9.3 million more in annual interest costs for every $1 billion borrowed than they would have if they sold in early June, provided Treasury yields remain unchanged.

This explains why just $144 billion worth of corporate bonds have been issued this year, compared with $204 billion in the same period last year.

Even so, now is a very good time for top-rated companies to issue bonds.

For example, Bloomberg points out that Wells Fargo & Co., rated Aa2 by Moody’s, recently sold $300 million of five-year notes with a coupon of just 3.75 percent. “People who aren’t creditworthy can’t get money,” treasurer Nino Fanlo told Bloomberg. “Companies that are in good shape can.”

Finally, an IPO

Meanwhile, there has finally been an initial public offering sighting.

Newcastle Investment Corp. Wednesday priced 7 million shares at $13 a pop, ending a two-month stretch without an IPO. Bear, Stearns & Co. was the lead underwriter.

The company initially hoped to sell the shares for between $14 and $15 apiece.

Newcastle invests in real-estate securities and other real-estate-related assets, and is managed by Fortress Investment Group LLC.

Newcastle is the first company to go public since Windrose Medical Properties Trust, a real-estate investment trust, went public nearly eight weeks ago.

This was also the longest dry spell in more than 10 years.

Gaming Company, CFO Settle With SEC

The SEC filed and settled financial fraud charges against Las Vegas Entertainment Network, alleging the gaming company inflated its assets by millions of dollars, according to published reports. In addition, the regulatory agency filed charges against CFO Carl Sambus and CEO Joseph Corazzi, alleging they filed the false statements regarding the company’s assets.

The company’s investor-relations consultant Jay Goldberg was also charged with hyping Las Vegas Entertainment stock without disclosing he had received 85,000 company shares as compensation.

The company and the executives settled without admitting or denying the allegations.

The SEC alleged the company listed a counterfeit $3 million “gold certificate” and $3.5 million worth of expired marketing rights on its balance sheets as assets.

Corazzi and Sambus agreed to be barred from serving as an officer or director of a public company, and to pay fines of $75,000 and $25,000, respectively.

Goldberg will pay a civil penalty of $10,000.

Short Takes

  • Suddenly Martha Stewart doesn’t look like such a big crook after all. While the Feds continue to investigate whether she illegally sold 4,000 shares of ImClone Systems stock based on insider information, yielding proceeds of about $228,000, it looks like her gains were a mere rounding error compared with the total amount of money others took home.

It seems that ImClone employees ranging from directors to a warehouse manager sold $244 million in company stock in the two months before regulators rejected an application for the company’s Erbitux cancer drug, according to Bloomberg, citing the House Energy and Commerce Committee.

  • Independent Bank Corp., parent of Rockland Trust Co., said it will adopt a new accounting standard related to financial institution goodwill, which will result in an increase in previously reported six-month earnings by 6 cents per share and boost projected full-year earnings by 12 cents per share.

As we reported last week, on October 1 FASB issued Statement No. 147, Acquisitions of Certain Financial Institutions, which provides guidance on the accounting for the acquisition of a financial institution. It permits financial institutions to reclassify the intangible asset associated with bank branch acquisitions to goodwill.

  • UBS Warburg earlier this week announced that Sen. Phil Gramm (R-Tex.) will join the company as vice chairman. In this role he will advise clients on corporate finance issues and strategy. Senator Gramm plans to join the firm at the end of his term. As vice chairman he will work closely with vice chairmen Lord Brittan and Ken Costa, who are based in London.

Senator Gramm is retiring after serving 24 years in Congress, 18 of them as senator.

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