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With a flurry of accounting scandals hitting corporate America in recent times, financial frauds are now a norm rather than an exception. Amidst such realizations, it would be interesting to know what difference the new valuation framework proposed by S&P makes.
Revelations about dishonest accounting by companies like Tyco, Global Crossing, WorldCom, and more recently Merck have rocked not only Wall Street but have sent shivers down the spine of investors across the globe as well. Shockingly, everyone was caught unawares: Be it regulators, credit rating firms, analysts or investors. And, woefully, it seems there is no stopping the accounting scandals, with America On Line's accounting fraud becoming the latest to hit the market. Is there anything wrong with the valuation metrics currently in use? Or, is it simply that they are inadequate enough to help detect modern financial shenanigans? Standard & Poor's (S&P), the global rating agency thinks so.
S&P defines core earnings as after-tax earnings generated from a corporation's principal business or businesses. The new metrics focuses on a company's ongoing operations. It includes all the revenues and costs associated with a company's core or ongoing operations and excludes revenues or costs that arise in other parts of the business, such as unrealized gains or losses from hedging activities. According to the rating firm, items that reflect ongoing operations include compensation of employees, expenditures for materials and supplies, and depreciation of capital equipment used in production. The items, which the firm identifies, as being not related to operations include litigation settlements, expenses related to mergers or acquisitions, and costs related to financing. The agency says that these revenues or expenses are important and may be significant, but they are not representative of the company's core operations.
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