For debt investors, which GAAP was primarily designed for, write-downs are analytically helpful. They provide a more accurate assessment of the liquidation value of a company’s assets. For equity investors, on the other hand, write-downs are not helpful because they distort the return on invested capital (ROIC) of a company.
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.
Most investors are not aware of how many corporate managers destroy shareholder value because accounting rules allow them to erase their mistakes from financial statement. A little-known accounting trick called an “asset-write down” allows managers to simply remove assets and shareholders’ equity from the balance sheet as if they never existed.
Investors must beware companies that report artificially high profits due to asset-write-down loophole.