Now that the hullabaloo around IBM’s 2Q11 earnings report is receding into the background, it’s time to have a gander at the only number on our corporate financial statements that is still a somewhat reliable indicator of actual earnings due stockholders.
So, for a minute, let’s try to forget the hype and lies and silly metrics that “analysts” and their Big Media abettors make us swallow, and let’s focus on the very basics. Corporations by definition have a capital structure. At the top are the CEO and his lieutenants, who extract from the company whatever riches they choose, in whatever way they find suitable, wherever (offshore or in the US) it benefits them the most. Then come various layers of secured creditors (usually Wall Street firms), followed by other stakeholders, government entities, and various bond holders, followed by unsecured creditors. At the bottom are preferred stock holders, and beneath them, common stock holders.
Common stock holders, in other words, get what’s left over. And where do we find what’s left over for IBM’s stockholders? On the balance sheet, per IBM’s 2Q11 Earnings Press Release, in the line item, “Total IBM stockholders’ equity.”
This, again by definition—I’m not reinventing the wheel here—is the cumulative wealth that IBM in its 100-year history has earned and retained for its stockholders as of June 30, 2011: $23,127,000,000.
The same line, as of December 31, 2010: $23,046,000,000.
The difference between the two, again by definition, is the amount IBM made and retained for its stockholders during 1Q11 and 2Q11: $81,000,000.
That’s $81 million. Not the $6.5 billion the income statement shows as “net income.”
Another indicator that IBM isn’t profitable in any real sense for its stockholders is its constant issuance of new debt, the latest of which was announced in the WSJ today. If IBM had made so many billions year after year, why would it need to borrow money in the first place? Why did it have to get bailed out by the New York Fed during the financial crisis when the corporate paper market suddenly got expensive? Why did the FDIC (that’s you, me, and other taxpayers) have to guarantee bonds IBM issued during the crisis? If it really made north of $5 billion a year, year after year, wouldn’t it have enough money left over at the end of the month to meet payroll without borrowing?
Of course, it would. If it actually made that kind of money.
Then there is more evidence: Two line items in its balance sheet, Goodwill and Intangible assets – net. They’re expenses IBM has already incurred and paid for, but they have been parked temporarily on the balance sheet as assets, though they will have to be expensed on the income statement at a later time. That is, they will have to be written off. When that happens, “analysts” will pointedly ignore those write-offs and focus on a different number, using terms like operating income or more humorously, income excluding items. And that number will of course beat their expectations.
IBM’s Goodwill of $25.6 billion and Intangible assets of $3.2 billion are nothing to sneeze at. As these are already incurred expenses that will hit the income statement in the future, you may want to deduct them from “Total IBM stockholders’ equity” to obtain something closer to true equity. Call it “tangible stockholder equity” or “net tangible assets” as Yahoo does at the bottom of its type of balance sheet. And this is what you get:
|Total IBM stockholders’ equity||23,127,000,000|
|Less intangible assets||-3,200,000,000|
|Tangible stockholder equity||-5,673,000,000|
Ahem, it’s negative. After 100 years of existence, IBM’s tangible stockholder equity is effing negative!
If that happened to your house, we’d say you’re “upside-down,” that you owe more on your house than the house is worth. Many owners have figured this out by now and are walking away. The house itself, however, has value, just not to the owner. IBM stockholders are in the same position because IBM has too much debt.
“How’s that possible?” you ask.
Well, our purposefully complex Generally Accepted Accounting Principles (GAAP) allows companies to account for their activities in wondrous ways. Some people more daring than me contend that the sole purpose of GAAP is to obfuscate reality.
“OK,” you say, “but they’re paying a dividend.” True. But IBM issues bonds to obtain the cash it needs to pay dividends and buy back stock. Thus, it’s taking money from new investors to spoon-feed it to old investors—the definition of a Ponzi scheme.
“OK, fine,” you say, “but what about the $11.7 billion in cash on its balance sheet?”
There are two issues with that: One, IBM is chockfull with debt, $90 billion to be precise, and whatever cash IBM has, is borrowed money. Imagine, you get a loan for $100,000, and the bank deposits that $100,000 into your account. Is that money really yours?
And two, when the financial crisis hit and the corporate paper market became difficult to access, many of the largest corporations in the US, including stalwarts like IBM and GE, were running short on cash to meet their operating costs, such as payroll, despite huge cash balances on their balance sheets (they ended up getting bailed out by their cronies at the Fed). What does this tell you? That much of the cash is an accounting mirage, that in fact, it doesn’t exist. “It’s overseas,” corporations say in their defense. And some of it is. But in 2004, when Congress provided for a tax holiday to repatriate these vast riches, disappointingly small amounts trickled back. What about the rest of the cash? Like I said, an accounting mirage.
The financial crisis has shown what happens when that scheme comes apart. But between financial crises, it suddenly seems to make sense again.
Now, I’m not picking on IBM (I could have chosen any number of large companies). I’m picking on our accounting system. I consider IBM a good company with solid products and services and reasonably effective management. OK, it’s afflicted with a common disease, the incredibly shrinking US workforce (though its overseas workforce is ballooning)—but hey, everyone’s doing that. And its revenue increase for 2Q11 was largely due to the weakness of the dollar. Nevertheless, I consider IBM a well-run company. It’s just that there isn’t anything left over for stockholders, and even bondholders are getting shafted. Because it has way too much debt.
“But what about the stock price of over $180?” you say.
Yes, I’d buy it at that price if I knew for sure for sure that I could hawk it off to a greater fool for more money. And during the next crisis, IBM will either get a bailout or go the way of another company with too much debt, GM. Stockholders just never know.
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