By now you know the drill. An accounting faux pas surfaces, the company in question has to restate earnings, and wham, bam, its stock price tumbles. Such scenarios have turned investing in stocks into a walk in a minefield. So should investors wait until accounting reforms eliminate the threat? Not necessarily, say Wharton accounting professors Scott Richardson and Irem Tuna, who in a new study contend that investors can spot risks and shy away in time to safeguard their money.
Richardson and Tuna studied 225 firms forced to restate financial results between 1971 and 2000 and found they tended to report higher accruals (portions of net income not accounted for in cash flow) than their peers. "Sometimes firms under pressure to meet earnings targets book greater accruals than they will actually receive," says Tuna.
Among the 225 firms, accruals averaged 8.7 percent, compared with 3.9 percent for other firms. "Look at the accrual company reports and see if it's unusual with regard to other firms in their industry," Tuna says. If so, proceed with caution-or better yet, turn around.
Ever spent frantic hours searching for critical documents? Then you probably appreciate the value of organization--but that alone won't make you good at it. Reality dictates that most of us fall short when it comes to keeping all our important papers in one place--and we'd probably all end up pulling our hair out if we ever had to figure out where our loved ones keep their papers. That's what makes "Your Family Records Organizer" ($14.95), an interactive CD-ROM from Kiplinger's Personal Finance (www.kiplinger.com) so helpful. The PC- and Mac-compatible disc contains 17 different forms--each accompanied by tips from Kiplinger's editors-that simplify record-keeping by storing the physical locations of all your important documents, as well as lists of family members, key advisors and business affiliations. Users with Microsoft Word can download the Organizer to their hard drives and update it accordingly; those without Word can fill out PDF forms for printing. Either approach will help you keep track of documents that might otherwise get lost among the confetti in the paper parade of life.
Sure, personal loans from public companies to their top execs are a huge no-no these days, but life insurance? Providing death benefit insurance, after all, has long been common practice. But that was before the Sarbanes-Oxley Corporate Responsibility Act, which bans "extensions of credit in the form of a personal loan" to employees. Legal experts say the law makes it risky for companies to provide "split-dollar" life insurance, arrangements where a company pays the premiums on a life-insurance policy. Why? Under split-dollar arrangements, the executive uses a portion of the cash built up tax-free in the policy to reimburse the company when he or she retires--a transaction that works, in effect, like an interest-free loan.
While the law doesn't expressly forbid split-dollar deals, companies have read the fine print and are backing away from initiating them. But existing loans present a Catch-22. Thanks to a grandfather clause, loans that took effect before July 30, 2002, technically can remain in effect as long as they're not "materially changed."
"But if the employer keeps paying premiums in, someone can say 'Aha, you are continuing to extend more credit all the time,' which violates the act," explains Tom Lauerman, a partner in the Washington, DC, law office of Foley & Lardner. "If they stop, is that a material change?" The solution? Err on the side of safety by using cash accumulated in the policy to pay current premiums or seeking a grace period from your insurer until the SEC makes a final call on the issue.
Jennifer Pellet is a New York City-based freelance writer specializing in business and finance.