GAAP

Fudging Non-GAAP numbers is nothing new: everyone does it, even if it means that real, operating earnings for IBM (and most other companies) are substantially lower, and sure enough IBM's real EPS was $5.73. But this is just the tip, because one has to look deep into the income statement to find just how it is that IBM, whose pre-tax income actually declined by 11% could post a 14% increase in non-GAAP EPS. The answer: taxes. And just like Bank of America, IBM decided to crater its Q4 tax rate, which was 25.5% in Q4 2012 and in Q4 2013 dropped to... 11.2%. Seriously IBM? Incidentally, this epic accounting gimmick is also why one should look at IBM's revenues which were a debacle: not only did they miss expectations of a $28.3 billion in Q4, printing at $27.7 billion, but were down 5%. And while most revenue items were weak, the piece de resistance was Systems and Tech revenue, which cratered 25%!

Yesterday Bank of America beat thanks to (among other things) ye olde "plunge in the effective tax rate" gimmick which let it beat EPS by two cents instead of missing by three. Today it was Goldman's turn to "beat" lowered EPS expectations of $4.18, posting a substantial beat of $4.60. So did Goldman also fudge its tax rate? Not exactly: instead, what Goldman did was to reduce its compensation benefits from $2.4 billion to $2.2 billion, which meant the firm's compensation margin declined from 35.2% to a tiny 24.9% of revenue. Had Goldman kept the comp margin flat it would have missed EPS by about 50 cents. However, unlike the other "banks" Goldman at least did post a notable beat in GAAP revenues (it was reluctant to use a non-GAAP top line, hear that Jamie?) as well, with Q4 sales rising from $6.7 billion in Q3 to $8.8 billion, on expectations of $7.8 billion. However, compared to a year ago, the top line was 5% lower, while Net Income of $4.60 was 21% lower than a year earlier.

"For the first time this quarter, we were able to clearly observe the existence of funding costs in market clearing levels" - JPM

Non-GAAP EPS, sure. But non-GAAP revenues? Up until today one would think that kind of accounting gimmickry is solely reserved for the profitless one-hit wonders of the world, i.e. Tesla, but moments ago we just saw JPM report two sets of revenues: one which was the firm's GAAP revenue, and which was $23.156 billion, and another, far higher number, which was $24.112 billion which JPM described as revenue on a "managed basis" or also known as non-GAAP, and largely made up as they go along. So continuing with the other fudges, JPM also reported Net Income of $5.3 billion, or EPS of $1.30, once again on a pseudo-GAAP basis. However, this wouldn't be JPM if it didn't have a boat load of adjustments, and sure enough it did as per the waterfall schedule below. As can be seen, the biggest benefit aside from the $0.32 DVA & FVA (yes, blowing out your CDS is profitable once more), was the $0.27 in litigation charges. Of course, for these to be an addback, they have to be non-recurring instead of repeated, guaranteed every quarter, but once again, who cares.  And since we choose to stick with GAAP, the bottom line is that JPM revenues dropped from $23.7 billion in Q4 2012 to $23.2 billion this quarter, while EPS dropped from $1.39 to $1.31. Oh, and yes: for the purists, here is the bottom line: of that $5.3 billion in "earnings", $1.3 billion or double the expected (at least from Barclays) $616MM, came from loan loss reserve releases. Accounting magic wins again.

We noted on Thursday, when Alcoa reported, that "non-recurring, one-time" charges are anything but; indicating just how freely the company abuses the non-GAAP EPS definition, and how adding back charges has become ordinary course of business. But it's not just Alcoa, and as David Stockman, author The Gret Deformation, notes Wall Street’s institutionalized fiddle of GAAP earnings made P/E multiples appear far lower than they actually are, and thereby helps perpetuate the myth that the market is "cheap."

The one item that caught our attention in the just released earnings was the GAAP EPS: a whopping loss of $2.19/share. Ok so, Alcoa added back a few things to get the Non-GAAP number: about $2.1 billion in goodwill impairment and restructuring charges to be precise - happens all the time. The only problem is that for Alcoa, this indeed happens all the time! The chart below shows just how freely Alcoa abuses the non-GAAP EPS definition, and how adding back charges has become ordinary course of business for the alluminum company. Very much in the same way as adding back litigation charges for JPM is now a quarterly ritual...

What does the true earnings picture of companies tell us about the market? Simple: it is overvalued relative to historical averages on every single basis, and not just the much discussed recently 10 year average used in the Shiller PE which has the market now at a 25x multiple. In short: the trailing EPS of 18x GAAP and 16.3x Non-GAAP is higher than the comparable GAAP and non-GAAP multiple for the long term, 1910-2013 average (15.8x and 14.5x), and while in line with the GAAP average for the 1960-2013 period, it is overvalued relative to the 15.9x non-GAAP average. However, if one excludes the 1997-2000 tech bubble, the historical average multiples drop even more to 17.7 and 15.2.

As readers may or may not recall, one of the main arguments the bulls had in early 2008, a month after the recession had already begun (according to the NBER's retrospective conclusion over a year later) to justify that the S&P 500, which had recently hit all time highs of 1546, was not in a bubble is that the projected EPS for the following year, 2009, were 120, which meant the multiple was an oh so very cheap 12x. The same analysis with the even nearer, 2008, S&P EPS which at that point were expected to print just below 100, suggested the S&P at around 1500 was a "healthy" 15x multiple. Unfortunately as the events of 2008 showed, not only did the financial system nearly implode, but earnings, both actual and projected, cratered. The result is that the 2009 EPS which was initially forecast to be $120 ultimately ended up being half of that, or $60 (see chart below), which also meant that the forward multiple of a "very cheap" 12x or so ended up being, drumroll, just a tad bubbly 24x!

It is hard to believe that the end of the year is fast approaching.  This weekend's list of things to ponder covers a range of issues that caught our attention this week. Will the economy continue to grow, are stocks under owned, what about Fed - rising credit risk (and collapsing credit risk premia) and the question of "when or if to taper?"  These are all important questions that all investors must answer as the new year rapidly approaches.

Back in August, we joked that in the Tesla press-release the one most often used word was Non-GAAP (43 times). Conveniently, we provided a word cloud of the company's Q2 release for the visual learners to grasp just this. That TESLA's earnings were an epic non-GAAP adjustment joke was only further cemented by the fact that the company itself provided a bridge between its GAAP and Non-GAAP earnings.  Now, the euphoria is over and  the story is different, as not only has the company's self-reported and erroneous record of making the safest car in the world gone up in flames, but the momentum appears terminally broken and following today's most recent 11% drop, TSLA stock could soon be headed for double digit territory again. More importantly, however, the end of the momentum story means that those who care about such anachronisms as fundamentals can once again look beneath the hood of TSLA to get the true story of what is really going. There, with the help of Bloomberg's forensic accounting sleuth Jonathan Weil one uncovers nothing but cockroaches.

The implication of this particular and quite unprecedented shadow banking circle jerk, which could very easily make even the direct wealth transfer resulting from trillions in QE pale by comparison, is so stunning that we leave it up to the reader to come to their own conclusion.

I have a business I would like to sell you. Let’s run over the numbers first. First and foremost, I have to be honest, this business has not implemented a budget in five years. I know that seems like an insane way to run a business, but I can assure you that management is comprised of highly intelligent, ethical people.

The kabuki theater that passes for governance in Washington D.C. reveals the profound level of ignorance shrouding this Empire of Debt in its prolonged death throes. Ignorance of facts; ignorance of math; ignorance of history; ignorance of reality; and ignorance of how ignorant we’ve become as a nation, have set us up for an epic fall. It’s almost as if we relish wallowing in our ignorance like a fat lazy sow in a mud hole. The lords of the manor are able to retain their power, control and huge ill-gotten riches because the government educated serfs are too ignorant to recognize the self-evident contradictions in the propaganda they are inundated with by state controlled media on a daily basis.

Judging by the plunge in IBM stock after hours (accounting for a major portion of the Dow Jones Non-industrial Average Index), the CFO can't pay shareholders with hopium and rumors. The reason: while IBM beat EPS modestly with a very adjusted bottom line of $3.99, beating estimates of $3.96, driven mostly by this: "IBM’s tax rate was 16.0 percent, down 8.6 points year over year" (assuming a flat tax rate Y/Y, GAAP EPS would plunge from $3.68 to $3.30), it was revenues - that ongoing 2013 horror story for the "stawk" and economic "recovery" - that was the problem, because instead of printing at $24.74 billion where it was expected, sales missed by a whopping $1 billion, or $23.72 billion. Of note: while America revenues of $10.3 billion dropped just 1%, and Europe was actually up 1%, it was the all important China and Japan, i.e. Asia-Pacific, where revenues cratered by an unprecedented 15%! So much for both Abenomics and the Chinese "recovery." And what's worse, the Emerging Market callamity of Q3 finally took a big bite: "Revenues in the BRIC countries — Brazil, Russia, India and China — were down 15 percent." Time to push the global recovery myth to the 4th half of 2013 (the third half is where the government shutdown will be squeezed).

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