This may lead to a great debate, IMHO, or a pit rant. Also, I only made it to cost accounting in college, so I am not very knowledgable. So for now, it is an honest question.
Now I hear that Xerox may be in big financial trouble for overstating income over several years. WTF? Will this end?
Overstating income sounds a little crazy to me. If you overstate income, you owe more taxes. When an individual does his taxes, if he is smart, will take all legal deductions available. These big companies are overstating revenue and profit, thus owing more taxes, which will increase their chances of getting caught.
If you overstate income, stock value gets inflated, and top execs exercise their options, get it cheap, and sell it (artificially) dear, and make millions. Company gets screwed, regular employees get screwed, top management and financial officers make out like bandits. IMHO.
Stock price to a very large extent is a function of how much money the company makes. So if it looks like you are making more money the stock price goes up. Most Executives are paid in part with stock to a rising stock price. Executive bonuses etc. also tend to be tied in some way to how much the company is making.
Maybe they’re interested in pushing up stock prices because that would make mergers more profitable - shareholders of a company to be taken over often are paid in stock of the new parent corporation.
If you plan on stealing someone’s money, you gotta get your hands on it, first.
Showing a large income is just a form of the old “salting the gold mine” trick. Not even the dumbest sucker will invest in gold mines if there is no gold.
Microsoft and Comcast are good example of companies doing just what the OP suggests, using legal, conservative accounting practices to reduce their tax costs.
In both cases, the senior officers own - and continue to hold onto - a big chunk of the company and treat the company as a long-term asset.
It’s my understanding that companies that are servicing a large debt load (a la WorldCom) also need to paint a confident, rosy picture for the lenders/bankers. One blink, one balk, and the whole shebang could come tumbling down.
There are plenty of ways to cut the tax load so that overstating your income isn’t going to bother you in that area.
As others have pointed out, overstating income does improve the stock price (in the short term, until people catch on). That’s good for people with stock options, and also makes the management look good to the stockholders.
My post isn’t anything new. Just reinforcing what has been said before.
The executives who overstate a company’s income aren’t interested in the long run, best interests of the company, the employees, the customers or anyone else but themselves.
I also beleive that the “profit” that a company files for the tax department is very different than the “profit” it files for public consumption. One idea floated recently was to equate the two, so if a company announces big profits, it should pay big taxes too.
Microsoft got caught. Microsoft was accused of smoothing its quarterly results by setting aside artificially large reserves to reduce revenues with the idea of reversing that procedure to record the revenues in less profitable future periods.
The signed a consent decree and admitted no wrongdoing. The media reported it, but the story came and went rather quickly.
Just before all hell broke loose with quite a few other corporate disclosures …
Microsoft takes the conservative accounting approach of deferring a portion of its revenue on software sales to cover future technical support on those sales. It’s a legitimate concept, identical to deferring sales revenues for future expected warranty repairs.
The IRS argument was that the deferral amount was excessive (and reducing Microsoft’s tax burden excessively), not that that the tactic was improper or being used to “smooth” future results.
The story came and went rather quickly because it wasn’t any big deal at the time - and certainly not as interesting as companies cooking the books to make themselves look more profitable.
Road Rash beat me to it. Concealing actual profits from the IRS is a crime and for a publicly held company is also a violation of the Securities Laws. Not that the SEC would ever notice. Or if they did, under the present regime, a slap on the writst would be the punishment.
No I think that it is possible to claim different things as profit and loss, depending on whether you are reporting to wall st, the SEC, or the IRS. You are not trying to conceal anything, just that the legal definition of “profit” depends on who is looking, where the money goes and when. E.g many companies make vast profits but pay very little tax. I can’t find anything on the IRS, but this is the sort of problems that happen, at least on a state level
