But even the well-oiled machine couldn’t hide the decline.
Despite what you might think, there’s a difference between our financial markets and casinos in Las Vegas: casinos aren’t rigged.
In a casino, the odds are officially against you. You know what they are, and you subject yourself to them – statistically speaking – to lose money … while having a blast.
Wall Street on the other hand has become an ingenious hocus-pocus machine where even the most taken-for-granted and often-cited data points are systematically inflated. Yet this particular trick – one of many – is perfectly legal. It’s how it is supposed to be done. And that makes it even more insidious.
The S&P 500 companies account for about 75% of the US equity market capitalization. So when aggregate revenues of the S&P 500 companies rise or fall, it’s an important indicator as to what is happening in the US business scene. It’s also a gauge of the global economy since many of these companies derive their revenues from around the world. So we pay close attention to it.
With 87% of the S&P 500 companies having reported first-quarter results so far, according to FactSet, revenues fell 1.6% from the first quarter 2015, when revenues had already fallen from Q1 2014. It’s the fifth quarter in a row of year-over-year revenue declines. The revenue recession continues.
But it’s actually worse than that.
For example, Telecom Services. According to Wall Street data, revenues in the sector soared 11.2% year-over-year. FactSet cautions that the biggest – or rather only – contributor to growth was AT&T, which reported $40.5 billion in revenues, up a dazzling 24%.
Alas, AT&T is a slow-growth or no-growth behemoth. So it acquires companies to grow its revenues. The last big fish it caught was DirecTV, whose revenues now adorn AT&T’s income statement. But DirecTV wasn’t included in the “Telecom Services” sector before the acquisition. The acquisition brought it and its revenues into the sector.
Without that one deal, year-over-year revenue growth in the Telecom Services sector would have been a nearly invisible 0.3%. The dazzling revenues growth of 24%? A mirage caused by M&A.
AT&T’s acquisition of DirecTV combined two S&P 500 companies into one and put both their revenues under one ticker symbol (T). This made room in the S&P 500 index for another company.
So Signet Jewelers was added to the index last July to fill that vacant slot. In the fourth quarter, this addition inflated S&P 500 revenue growth by $2.4 billion year-over-year. But not a single extra thing or service was sold to get that “revenue growth,” and there was zero impact on the economy.
The same thing happened when Broadcom was acquired by Avago. Both were S&P 500 companies. After the acquisition, their revenues were combined, and in February, the slot left vacant by Broadcom was filled by Federal Realty Investment Trust, whose revenues of $2.4 billion for the quarter were added to the aggregate revenues of the S&P 500 companies, thus generating $2.4 billion in year-over-year “revenue growth” for the index, and zero for the economy.
The US has been through a multi-year merger boom with hundreds of acquisitions over the past years that inflated S&P 500 revenue growth, earnings growth, and all kinds of other metrics.
So far this year, 12 companies were added to the index to fill vacant slots, which had opened up for two reasons:
- 8 slots: other S&P 500 companies acquired 8 companies that had already been in the S&P 500, such as Broadcom’s acquisition by Avago.
- 4 slots: Tenet, Gameshop, Ensco, and Fossil Group were kicked out of the index.
The 12 companies that were added had combined revenues in their last reported quarter of $16.5 billion. The four companies that got kicked out had combined revenues of $10.4 billion (including Tenet’s $5 billion). The difference: $6.1 billion.
In other words, these transactions had the net effect of adding $6.1 billion to S&P 500 revenue growth without a single extra thing having been sold. The net effect on the economy was zero. The net effect on investors was that they were duped.
In the second half last year, $7.0 billion of this sort of hocus-pocus revenue growth was added to the S&P 500 companies. It has been going on quarter after quarter, year after year, and is starting to add up. But that’s only part of it.
S&P 500 companies also acquire companies that are not in the S&P 500 index. These might be smaller companies, privately held companies of all sizes, or even large foreign companies that had been traded on foreign exchanges. Each acquisition brings these acquired revenues into the S&P 500 index and inflates its “revenue growth” — though they do zero for the overall economy.
This is only one of the many gears in Wall Street’s well-oiled hocus-pocus machine. Among the other gears are share-buybacks funded with debt, “ex-bad-items pro-forma earnings reports, and fanciful accounting. They’re all designed to make investors’ head spin.
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