Taking GAAP Earnings at Face Value Puts Investors at Risk

The more investors understand about how GAAP net income omits valuable information, the better equipped they are to find truly hidden gems, or those companies with growing economic earnings and undervalued stock prices.

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ICYMI: Most Attractive & Most Dangerous Stocks Update, Earnings “Recovery” Still an Illusion & Special Offer

Here’s what happened at New Constructs this past week.

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GAAP-Based Return on Invested Capital: Explanation & Examples

GAAP-based ROIC is based on a simplified after-tax profit (NOPAT) and invested capital that can easily be calculated using only the income statement and balance sheet.

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The Earnings Recovery Is A Sham

Our analysis of the latest 10-K filings for the 2,600 largest and most actively-traded companies shows that the much-hyped end to the earnings recession is an accounting illusion.

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What’s The Problem With Non-GAAP Earnings?

Non-GAAP earnings are back in the crosshairs. 15 years after the Enron scandal first prompted the SEC to create rules for non-GAAP metrics, the proliferation of these pro forma results have led to renewed scrutiny.

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Why Companies Overpay For Acquisitions

Overpriced acquisitions are far from a new phenomenon, but they’ve been especially prevalent in recent months. As a result, we’ve gathered some ideas about the various reasons companies ignore the evidence and continue to overpay for acquisitions.

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The SEC Is Starting To Worry About Non-GAAP Earnings

We’ve been sounding the alarm on non-GAAP earnings for several years now. Companies exploited the wide leeway granted by the SEC to present their business in a more favorable light.

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David Trainer Presents at Interactive Brokers’ Traders Webinar Series

Join CEO David Trainer to learn exactly how New Constructs allows you to grow your wealth the smart way. This webinar was hosted by Interactive Brokers as part of their Traders Webinars.

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Danger Zone: Stocks With Most Misleading Non-GAAP Earnings

Companies usually pitch these alternative metrics as “supplementary” data to help investors get a “better” view of the profitability of the business. Instead, we see red flags, not a better view.

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Analyst Notes: Definitions

The “Analyst Notes” column on the stock screener at newconstructs.com features insights into corporate events or disclosures that cause us to question the validity of a company’s financial reporting or the efficiency of the market for its stock.

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FASB Changes Standard For Revenue Recognition

The Financial Accounting Standards Board (FASB) issued a new set of standards for revenue recognition along with the International Accounting Standards Board (IASB) on Wednesday.

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GAAP Opinion versus Economic Fact

GAAP financial statements generally fail to meet equity investors’ analytical needs. We try to calculate something that does.

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Discussing FASB’s Lease Proposal

On August 27th, I met with my fellow members of the FASB’s Investor Advisory Committee (IAC) to discuss the proposed treatment of operating leases on the balance sheet by the Financial Accounting Standards Board (FASB).

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Net Deferred Tax Assets and Liabilities – Valuation Adjustment

Deferred Tax Asset

We subtract net deferred tax liabilities (DTLs minus DTAs) from our calculation of shareholder value as they are real future cash obligations that limit the amount of money available for distribution to shareholders.

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Overfunded Pension Plan Assets – Invested Capital Adjustment

Overfunded pension assets are similar to excess cash, and should not be included in the calculation of return on invested capital (ROIC).

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Danger Zone 7/22/13: EPIQ Systems (EPIQ)

EPIQ Systems (EPIQ) is in the Danger Zone this week. The legal technology solutions provider has misleadingly high reported earnings due to a funny accounting rule. Analysts and investors looking at reported earnings have assigned unreasonably high expectations to EPIQ.

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Discontinued Operations Removed from Invested Capital – Invested Capital Adjustment

Most investors would never know that discontinued operations distort GAAP numbers by over-stating assets on balance sheets and distorting the picture of a company’s ability to generate a return on that capital.

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Off-Balance Sheet Debt – Invested Capital Adjustment

Investors who ignore off-balance sheet debt are not holding companies accountable for all of the capital invested in their business. By adding back off-balance sheet debt to invested capital, one can get a true picture of the value that management is creating for shareholders. Diligence pays.

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Implied Interest For Operating Leases – NOPAT Adjustment

Converting GAAP data into economic earnings should be part of every investor’s diligence process. Performing detailed analysis of footnotes and the MD&A is part of fulfilling fiduciary responsibilities.

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Should Directors Ignore Those One-Time Items?

I do not think so. The question, however, is not so much about what directors ignore. You cannot ignore something about which you are unaware.
The real issue is that most directors and investors are simply unaware of the many one-time items because they are buried deep in the annals of footnotes in annual reports or 10-K filings.

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