Terry Smith on finding company accounting mistakes (5 examples)

TL;DR

Despite improvements in accounting, the problem lies in whether anyone is actually reading financial reports and taking action, as exemplified by notable cases such as IBM, Clorox, Carillion, and Wirecard.

Transcript

um and i think actually accounting has substantially improved i think the problem with accounting now isn't the accountants it's whether or not anybody's actually reading the things and doing anything about it and i'm going to give you five examples of that to uh to maybe bring you slightly more up to date but certainly a lot more up to date and ac... Read More

Key Insights

• 😌 Accounting has improved, but the issue lies in the lack of attention and action taken after financial reports are released.
• 🫠 Investors and analysts need to read and analyze financial reports thoroughly to identify potential mistakes or discrepancies.
• 🍗 Adjusted numbers can be misleading, with companies trying to present a fictional, more favorable profit figure by excluding significant expenses.
• 😒 The misuse or non-use of financial information is a common problem that can lead to disastrous investments and financial collapses.

Questions & Answers

Q: How did IBM's $1.9 billion cash flow mistake go unnoticed by investors?

The mistake was spotted by analysts analyzing IBM's 2009 annual report, who brought it to the attention of the company's investor relations department. However, no other investors seemed to have noticed or asked any questions about the discrepancy, including Warren Buffett's team.

Q: How did Clorox handle their cash flow reporting error?

When Clorox was notified of their mistake regarding the treasury stock purchase reporting, they admitted the error but did not take any action to correct it immediately. They assured shareholders that the correction would be made in the following year's accounts.

Q: What did Carillion's poor cash conversion suggest about the company?

Carillion's negative cash conversion indicated that they were generating less cash than their reported profits, raising concerns about the reliability and sustainability of their earnings. This inconsistency signaled potential underlying issues with the business.

Q: Why were the red flags and warnings about Wirecard's fraud ignored?

Despite numerous warnings from analysts and publications about potential fraud at Wirecard, investors failed to take notice. The lack of accountability and failure to read and analyze the available information led to significant losses for those invested in the company.

Summary & Key Takeaways

• IBM's 2009 annual report revealed a $1.9 billion cash flow mistake that was overlooked by investors and Warren Buffett's team, resulting in a disastrous investment for Berkshire Hathaway.

• Clorox mistakenly reported a positive treasury stock purchase in their cash flow, highlighting the lack of attention and care given to financial reports.

• Carillion, a UK construction business, had poor cash conversion and unreliable profits, indicating a potential problem before its ultimate collapse.

• Wirecard, a German payment processing company, showed numerous red flags and warnings of fraud that were ignored by investors, leading to a significant downfall.