Novice Investing - Unclean Book, Unclear Future

Date: Monday 01st 2008f December 2008 05:22:50 PM

Unclean Book, Unclear Future - 07/13/2006

By: Novice Investing Staff

In our ten reasons for selling, we outline 10 various reasons why you should sell your investment. One of them is when your stock holding has an unclean book. (selling reason # 2). Unclean book by definition is when there is past accounting errors, be it deliberate or not. Either way, companies with questionable book generally get their stocks punished and shareholders took a beating.

What should you as shareholders do when your stock has questionable accounting practice? If nobody is well aware of it, then you should sell it... fast! Once revealed, the stock in question will drop so hard that you would probably quit investing altogether. Here are several examples:

CNET Networks Inc. (CNET). While we had spoken favorably of CNET's line of business, stock price had taken a beating and off more than 50% from its peak. After missing analyst's earning estimate, the company had announced several investigations regarding it expenses it options.

Take Two Interactive Inc. (TTWO). The company had been facing scandals regarding its wildly popular Grand Theft Auto franchise. Recently, it was embroiled in an option saga that roiled its stock price. Currently, stock price is down more than 65% from its 52 week high.

Signs of companies with potential accounting trouble:
1. Stock Options. To be fair, stock option needs to be treated as expense. Generally, these companies will issue massive stock options (to pump up net income). What this will eventually do is the dilution of existing shareholders. To mask this problem, the companies will try to buy back its own shares, which many thought as the good news. However, this buy back merely cancel the dilutive effect of stock options. Meaning: money coming out without benefiting shareholders. In layman terms, this is called expense. Stock option is an expense and should be treated as such.

2. Pro Forma earnings. This term gets popular during the internet bubble of the early 2000s. Pro Forma earnings will exclude certain one time expense which often times occur more than once! If you write off your assets every time you report earnings, then those write off is actually an expense! Stay away from companies that use pro forma earnings. They are generally use to hid weakness in the fundamental.

3. Agressive Accountings. This means companies that inflate revenue while deflate expense. One simple example would be depreciation expense. If one company takes 20 years to depreciate its entire fix assets while competitors of the same field take less than ten years, then the company is inflating its earning. You do not want that kind of company in your portfolio.

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Disclaimer: The sole purpose of this article is educational. This article is merely the opinion of the writer and is not in any way a buy/sell recommendation regarding Take Two Interactive Inc. (TTWO) or any other securities.

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