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ANALYSIS
March 2, 2009
Sagging Index no longer reflects what’s going on in the market, some say, Replacements? Google it, to start.
March 2, 2009
Downward price spiral will actually boost the cost of capital for most companies. CFOS, take note.
March 2, 2009
The latest bailout at AIG could be a preview of how the president will deal with Wall Street.
March 2, 2009
No corporate defaults. Big debt offerings. Percolating CP issuance. Things may be looking up in the capital markets.
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January 14, 2008 12:01 AM ET
Do financial restatements mean anything these days? The Securities and Exchange Commission Advisory Committee on Financial Reporting is looking into the huge increase in financial restatements by public companies since Sarbanes-Oxley was passed in 2002—a review triggered, at least in part, by SarbOx critics who contend that restatements are expensive, time consuming and of questionable value to shareholders, who increasingly ignore them. The first academic study examining how such restatements affect companies’ ability to secure bank loans, however, suggests that lenders find the information important. In fact, the authors of the report found that businesses that reported financial gaffes—whether intentional or not—ended up paying substantially higher interest rates on loans. The research also revealed that restatements led to stricter terms for borrowers. The study, conducted by Professors John Graham of Duke University, Si Li of Wilfred Laurier University and Jiaping Qiu of McMaster University, looked at data from a U.S. Government Accountability Office (GAO) database of 919 restatements announced by 800 public companies between Jan. 1, 1997 and June 30, 2002. The professors then combed through a database maintained by Loan Pricing Corp., which collects information on commercial loans made to both U.S. and foreign corporations. They found that the subsequent loan spreads for companies that made restatements—measured in basis points over the London interbank offered rate (Libor)—increased to about 210 basis points from an average of 141. At companies where restatements were a result of fraud rather than error, the spread increased by another 35 basis points, to 245 points over Libor. On a $100 million bank loan, that 104-basis-point premium works out to more than $1 million in extra annual interest expense. And the price effect was not short-lived. Mr. Graham said that three years out from reissuing financials, the spread over Libor for the average company remained about 35 basis points higher than before the restatement. Price wasn’t the only thing affected by restatements either. The study found that loans contracted after restatements tended to have “significantly shorter maturity, higher likelihood of being secured [by assets] and more covenant restrictions.” The loans, post-restatement, also tended to be more concentrated, with fewer lenders participating. The authors presume that lenders perceived a greater risk in the loans and thus heightened monitoring activities—something for which they also charged higher annual and upfront fees. “Many of the significant restatements moved loan prices, but the non-interest-rate effects were also very important,” said Mr. Graham. The study’s conclusions would seem to fly in the face of contentions that rejiggered financial statements aren’t important to the users of those statements. Still, some observers believe that the parade of restatements since the passage of Sarbanes-Oxley has desensitized investors to reissued financials. “It’s an interesting study, but it relates to a period when about 1% of public companies were making restatements,” said Robert Pozen, chairman of the SEC Advisory Committee. “Last year about 10% of companies restated their financials.” In fact, 1,301 restatements were filed by U.S. public companies in 2007, according to proxy adviser Glass Lewis. That’s 42% more than were made in the entire five-year period studied in the report. Added Mr. Pozen: “Pre-Sarbanes-Oxley data may not be as relevant to what’s happening now.” Certainly, SarbOx and its emphasis on internal financial controls have made both corporate accounting executives and external auditors more conservative—and more likely to find errors. “The restatements made prior to Sarbanes-Oxley had more meat on the bone,” said Mark Grothe, an analyst with Glass Lewis who tracks restatements by public companies. “Now they often involve more technical things.” Those “technical” errors, Mr. Pozen suggested, might be better accounted for as cumulative adjustments in a company’s current financial statements, rather than in a restatement. Toward that end, the subcommittee of the SEC advisory group studying restatements was expected to recommend last Friday that companies and auditors employ a “sliding scale” for evaluating the materiality of financial reporting errors. Indeed, an interim report filed by the subcommittee in November stated that “certain restatements may not require immediate action…and that in the majority of situations, only the financial statements that would be included in a company’s most recent filing would require restatement.” As Mr. Pozen put it, “It doesn’t serve companies or investors to have a high volume of restatements and cause people to wonder which ones are important.”
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