Anyone Have Experience with Fraudulant Companies?

[SharperDingaan]

We all have experience with rapidly expanding companies; seeking funds to push their first mover advantage.

All very sexy  .... but apparently nobody has ever actually understood what a cost accounting text - is actually telling you.

 

If you use absorption costing (IFRS methodology), an inventory increase will reduce operating expenses by capitalizing some of it as inventory cost. The result is artificial higher earnings per share, discounted at a rate that includes future growth; & the faster the rollout - the more the benefit ;) All perfectly legal.

 

So next time you get the fast mover doing a stripper dance, & everyone is hot & bothered; you should be too - selling the hell out of it!

Something your broker is definitely not going to tell you.

 

SD

 

 

 

 

[dpetrescu]

ItsAValueTrap, You did say CLR [corrected] I recently lost 100% of my OTM CRM put so I'm biased

[ItsAValueTrap]

I was talking about Continental Resources, Inc.  (NYSE:CLR)

[SpecOps]

I read a great book on this called The Financial Numbers Game

 

I mainly value a company based on cash flow which is much harder to manipulate and easier for auditors to check, but it has been known to be manipulated like in the case of Enron.

 

The only way to have a chance of detecting fraud is to go through the financial statements and look out for the things this book describes.

[yadayada]

with enron you still could have seen it tho. Dont blindly look at net cash from op, also look how that cash is generated. With enron you could have seen that it came from sale of assets to certain companies (which were also owned somehow by enron). They paid for it by borrowing money with those companies using enron stock as collateral. In alot of cashes where they mess with cash flow statements, you could easily raise enough eyebrows and red flags to not invest.

[randomep]

For example, let's say a company's netnet is based largely on its inventory but the inventory is exaggerated.

 

Look at the number of inventory turns and compare that to a real business in the same industry.  If they are reporting fake inventory, the inventory turns will likely get worse and worse.

 

The key mechanism to prevent fraud is the audit.

No....

 

Historically, auditors have rarely caught fraud.  (To be fair sometimes they do.  But it's rare.)  Let me be clear: their job is NOT to catch fraud.  Their duty to catch fraud is limited.

 

YOU should take responsibility for what you invest in.  If you don't understand it (and I don't understand a lot of the stuff out there), then I would stay away.  If you don't trust management's integrity, I would definitely stay away.  Outside of the stock market, it wouldn't make sense to invest with shady people... so why do it when it comes to the stock market?

 

Auditors aren't going to protect you.

Regulators aren't going to protect you.

I'd recommend you do your own due diligence.

 

What I am talking about is deterrence. I recall that many a Ponzi scheme required a corrupt or colluding auditor (think Madoff).

 

Your line of reasoning says that the TSA and all the national security stuff they do after 9/11 is useless because they rarely/never have caught someone trying to take over a plane with box cutters.

 

 

[ItsAValueTrap]

Well you could look into the history of Chinese reverse mergers.  All accounting firms failed to detect fraud and fraud was rampant among Chinese reverse mergers.

[randomep]

Well you could look into the history of Chinese reverse mergers.  All accounting firms failed to detect fraud and fraud was rampant among Chinese reverse mergers.

 

Because of Corrupt auditors. To me a Chinese auditor is an oxymoron.

 

Obviously if you can't trust the auditor you don't have a real audit.

[yadayada]

I read from a muddywaters report that you can also see it in the taxes they paid. Because that is the hardest to fake or something. Anyone know more about this?

[ItsAValueTrap]

You can check to see if a company's taxes make sense.

 

However, some frauds will intentionally overpay their taxes to avoid suspicions.  This happened with Crazy Eddie.

[jschembs]

Excellent topic. I'm fascinated by the hunt for frauds, and the feel of vindication when your suspicions, often cast aside as a vendetta or conspiracy theory by longs or those with vested interest in perpetrating the fraud (think Einhorn's battle with Allied Capital), are confirmed.

 

Undoubtedly there are some frauds out there right now. I think frauds oftentimes begin as "little white lies," for example where management achieves substantial top line growth but fights the inevitable decline in growth rates by playing games with revenue. These obviously aren't as deleterious as Enron, Worldcom, et al, but are likely much more prevalent right now - particularly given the absurd valuations the market places on above-average growth in this low-growth macro environment.

 

Just brainstorming, I could see companies offering significant discounts at quarter-end (not fraudulent, but certainly not in shareholders' best interest) or burying sales discounts and other marketing costs that could conceivably be tied to specific deals in operating expenses. The latter certainly helps explain how companies like CRM can generate billions of dollars in revenue at 75% gross margins and not generate an operating profit.

[dpetrescu]

Someone recently posted a John Hempton interview in a different topic. Great insights on fraud -scumbags as he calls them.

https://soundcloud.com/the-odd-lot/john-hempton-audio-interview

 

At 50:30 point he mentions that gold miners that keep finding high grade ore are most likely frauds. If additional ore is announced price will increase 4-fold or so. He mentioned an unnamed gold miner that kept serially announcing new findings, he at one point considered investing with him because, although a fraud, he kept increasing the market value of every company he touched.

 

I know exactly the person he is talking about. In my pre-value investing days not too long ago I noticed this same pattern. This gold miner's name is Joseph Gutnick, he would buy worthless penny stock shells (often in unrelated industries like clothing retailers) and add on land to the company's books and claim the land had more and higher grade ore than the same land had years ago. He also set up a very complex ownership structure between his many ventures. There were articles in which he claimed divine intervention in his findings (he is also a rabbi and had very prominent connections -was a friend of the Israeli prime minister at the time) It was quite amazing, he had a record of doing this with a handful of companies that went up 6fold or so from the time he became involved. George Soros even invested in three of his companies. Interesting to know that the analyst was eventually fired. I still keep GORV (-99.7%) in my portfolio as a reminder.