Now, Muddy Waters may be shifting its focus to Silicon Valley. According to The Wall Street Journal, Block will look to find tech companies that are exaggerating their earnings with creative accounting measures.
In the past, reports from Muddy Waters have been enough to send shares of target companies tumbling. Could investors awake to find that Block has issued a report on one of their holdings?
Is Salesforce.com profitable or not?
Like many companies, salesforce.com, inc. (NYSE:CRM) reports two sets of earnings: one based on GAAP, another on the opinions of the company’s management (non-GAAP).
But with Salesforce, there’s a stark difference. According to standard accounting rules, Salesforce is losing money. But according to salesforce.com, inc. (NYSE:CRM)’s management, it’s profitable.
As Barron’s points out, this is primarily due to stock-based compensation. Standard accounting rules require companies to include this in their earnings; Salesforce would prefer investors overlook it.
For the last quarter, the difference was between a loss of $0.12 per share and a profit of $0.10. A quarter before that, it was even worse — a loss of $0.14 compared to a gain of $0.51.
And any way you look at it, salesforce.com, inc. (NYSE:CRM) is an expensive stock. Even using the company’s non-GAAP accounting figures, shares are trading with a price-to-earnings ratio of nearly 100 — compared to a figure of roughly 18 for the broader market.
Netflix’s off-balance sheet liabilities
Video streaming giant Netflix, Inc. (NASDAQ:NFLX) may have some issues with off-balance sheet liabilities. In order to function, the company must buy the rights to stream content owned by other companies — something that’s becoming increasingly more expensive.
These agreements often take the form of multi-year pacts, and saddle the company with billions of dollars in future obligations.
As Zerohedge has pointed out, not all of these obligations are being accounted for. As of the end of March, Netflix, Inc. (NASDAQ:NFLX) had $5.7 billion of content liabilities. Only $2.4 billion of it was listed on the company’s balance sheet.
In terms of Netflix’s financial metrics, these off-balance sheet liabilities — if accounted for — could completely change the company’s price-to-book ratio.
How important is that to Netflix, Inc. (NASDAQ:NFLX)’s investors? Frankly, probably not much. The stock already trades with a price-to-book ratio over 15 and a PE ratio over 500 — extremely high figures on a relative basis.
Investors in Netflix are probably more intrigued with future possibilities rather than Netflix, Inc. (NASDAQ:NFLX)’s current financial state.
Groupon has long faced accounting-related criticism
Okay, Groupon Inc (NASDAQ:GRPN) isn’t a Silicon Valley company — it was founded in Chicago. But it’s a new tech company, and Groupon has faced accounting-related scrutiny for quite some time.
Business school professor Anthony Catanach runs the blog Grumpy Old Accounts. He’s been an outspoken critic of Groupon’s accounting methods since before it even went public. In his most recent post on Groupon Inc (NASDAQ:GRPN), he calls the company out on a number of issues.
In particular, Catanach finds fault with the company’s goodwill, which he notes keeps growing. He also writes that the company’s transition from an old business model (daily deals) to a new one (something roughly akin to Amazon.com, Inc. (NASDAQ:AMZN)) raises serious “balance sheet valuation questions.”
Further, Catanach questions the company’s earnings metrics, which he notes could make the company’s financial performance look misleading:
“No review of Groupon would be complete without a discussion of non-GAAP performance metrics…Yes, Groupon still relies on non-GAAP metrics…The Company has shed its infamous CSOI metric in favor of “operating income (loss) excluding stock-based compensation and acquisition-related expense (benefit), net.”…it’s still a curious metric that inflates operating performance.”
The Muddy Waters effect
In the past, reports from Muddy Waters have been enough to put companies under, or at least send shares down sharply. Sino Forest, for example, was de-listed, and its auditor resigned.
Other companies have emerged relatively unscathed. Shares of Spreadtrum Communications, Inc (ADR) (NASDAQ:SPRD) rebounded completely after the company rebuked an “open letter” from Muddy Waters in the summer of 2011.
It’ll be interesting to see which U.S.-based companies Muddy Waters decides to target. Will the reports be as devastating to U.S. tech stocks as they’ve been to Chinese reverse mergers? Given that many of these companies already trade at absurd valuations, questions about their accounting practices might not have much effect.
Joe Kurtz owns shares of Groupon Inc (NASDAQ:GRPN). The Motley Fool recommends Netflix, Inc. (NASDAQ:NFLX) and Salesforce.com. The Motley Fool owns shares of Netflix.
The article Could One of These Stocks Be the Next Muddy Waters Target? originally appeared on Fool.com.
Salvatore “Sam” is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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