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Mail Call, 11/18/05

Nov 18

Written by: Jack Ciesielski
11/18/2005 7:17 AM

Here's a good question from Ryan S., a portfolio manager:

"Wouldn't it be useful for companies to show a Trailing-Twelve Months (TTM) Income Statement and three different balance sheet dates in their 10-q and/or K's?

Naively, it doesn't seem to me this would entail a lot of additional work on the companies part.

As you know, when a second quarter 10-q arrives it will show the 3 months and 6 months I/S results.

I'd much prefer the 3 months and a TTM I/S.

Then for some industries (retailing comes to mind) with seasonal aspects the presentation of two Balance Sheet dates (current and previous year-end's) isn't all that beneficial (to me). You need the last years comparable quarter to get an idea of how Working Capital is trending and such.

Maybe I'm just getting lazy in my old age. But, it just strikes me that if the goal is to give investors (and others) useful information making these changes would seem a step in that direction."

The easy answer is that financial statements are presented this way because that's all that Regulation S-X requires of publicly-traded companies. I agree: it would be much more useful for investors to spend time with financial statements prepared in the fashion you describe. And there is nothing to prevent companies from preparing them that way, either; the requirements in place are minimums, not prohibitions against releasing additional information. Figure this: companies can present rickety pro forma earnings under Regulation G if they want. They could easily present trailing information on a GAAP basis, too. From a technical standpoint, it would be a lot easier: the firm wouldn't have to be worried about its presentation rationale.

So - what stops companies from presenting information the way you propose? I suspect there are a couple reasons:

- There's nothing in it for them. Grinding out pro forma numbers will entertain analysts and perhaps result in a higher stock price. Presenting more information, as you suggest, will only aid analysis and probably increase the quality of investor and analyst questions and observations.

I don't know of too many managements screaming "Stop tossing me softballs!" to analysts...

- There's increased legal exposure. That's probably the most compelling reason for companies to spurn such presentations. The more information you hang out in public, companies figure, the more grist for the plaintiff's bar.

- If analysts can do it for themselves, why do it for them? Put it another way: if analysts and investors can put this information together on their own (after the conference call, of course) and presentation by the company would increase risks and bother for management, where's the incentive for management to provide the information?

What would make it change? The FASB is working on a financial performance reporting project that takes on many more issues than this, but they are considering some of the issues you mention - but not necessarily going in the direction you suggest. They've decided, in these early stages that "at a minimum, full sets of financial statements for two annual periods (the current and prior annual period) for all business entities. This would mean an entity would present three statements of financial position, two statements of earnings and comprehensive income, two statements of changes in equity, and two statements of cash flows." and "not to provide guidance regarding financial information voluntarily presented beyond the required minimum (that is, full sets of financial statements for two annual periods)." Bye-bye, three year annual earnings presentations.

As for the "trailing" interim earnings reports, they're being considered in a later segment of the project. No preliminary decisions on whether or not they belong in the financial reporting package. But keep your fingers crossed, keep an eye on the project, and let the FASB know your thoughts when they expose a document. And also bear in mind: the SEC would likely have to seriously amend Reg S-X to make FASB's changes stick for publicly-traded firms.

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Pension & Other Benefit Plans: A Look Ahead

Investors in firms with defined benefit pension plans always face the risk of suddenly being pushed farther back in line when it comes to being served their returns. Variability in plan assets and variability in benefit plan obligations are the reason: poor asset returns coupled with sinking interest rates always spell tough times for defined benefit plan funding. In that regard, this year’s asset returns combined with the Fed’s “Operation Twist” add up to “Operation Agony” for defined benefit pension plans. If trends continue along their current path, firms that may have anticipated moving to more realistic pension accounting - like Honeywell, AT&T and Verizon already have done - might forego that decision. It could be just too painful.

Pensions aren’t the only kind of benefit plan affected by Operation Twist. Other postemployment benefit (OPEB) plans share much the same accounting model as pensions, including the calculation of a projected benefit obligation that similarly incorporates a discount rate - one that will also be affected by Operation Twist. The net OPEB obligations were slightly less than pension obligations at the end of 2010, but also promise to grow in 2011. Investors perceive them as less threatening than pension obligations because they don’t require funding. Strangely, there are a number of firms that are recognizing income from these benefit plans - without ever creating a dime of cash for investors.

A recent edition of The Analyst’s Accounting Observer dissects these issues, and is available only to paid subscribers. A condensed version is available for free upon request. To receive it, send an e-mail to Brenda Rappold at brappold@accountingobserver.com, with “PENSIONS” in the subject line.

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