It’s been over six months since the Grumpies’ last Groupon commentary.  Remember the financial restatements, revenue corrections , SEC criticism of the Company’s non-GAAP performance metrics, the internal control weaknesses over financial reporting, and public critiques of reported operating cash flows? Well, quite honestly, many of us had just tired of the Company’s story, until recently that is.  But two events during the past month, Andrew Mason’s “resignation” and the Company’s 2012 10-K securities filing, made it impossible for me to remain silent any longer.  As the marketing slogan suggests, Groupon is simply “the gift that keeps on giving.”

First, there’s Mr. Mason’s so-called “resignation” letter.  Let’s be clear here…according to Groupon’s Form 8-K filed on February 28th, “Andrew D. Mason was terminated as Chief Executive Officer.”  Unbelievable are those that actually praised Mr. Mason’s letter.  But what really troubles me is that at least one person found his memo to employees “geeky, hilarious, and touching,” and another titled it a “charming goodbye letter.” I think more appropriate descriptors might be immature and irresponsible.  Why am I being so grumpy about this?  Let’s not forget that the Company incurred a $9 billion loss in value (a decline from a $12.7 billion IPO valuation to an estimated $3 billion value on February 28th) during his tenure as CEO.  Phrases like “ I’m OK with having failed at this part of the journey,” or “maybe I’ll figure out how to channel this experience into something productive” are simply not acceptable. And for those that applaud his wisdom about having the “courage to start with the customer,” what about the investors?  How could Mr. Mason have forgotten about them in his letter? Those who invested $9 billion in his business education should be outraged!  His company’s loss in market capitalization makes today’s college tuition look amazingly affordable, if not downright cheap.  Okay, enough of Mr. Mason…let’s turn to Groupon’s most recently filed 10-K.

The first thing the 10-K does is confirm what Matthew Lynley reported in “Groupon Is No Longer a Daily Deals Business.”  It appears that the Company has a new mission.  According to last year’s 10-K:

Groupon is a local commerce marketplace that connects merchants to consumers by offering goods and services at a discount…By bringing the brick and mortar world of local commerce onto the Internet, Groupon is creating a new way for local merchant partners to attract customers and sell goods and services.
— 2011 10-K, page 3

But the recently filed 2012 10-K reveals a major change that has profound implications for Groupon’s business model and processes:

Our mission is to become the operating system for local commerce. Groupon seeks to reinvent the traditional small business world by providing merchants with a suite of products and services, including customizable deal campaigns, credit card payments processing capabilities and point-of-sale solutions to help them attract more customers and run their operations more effectively.
— 2012 10-K, page 3

Apparently, management finally realized that its original “daily deals” strategy just wasn’t creating much value or delivering on the differentiation dimension. So, now Groupon has decided to pursue a more Amazon-like approach.  While a dubious strategic shift, it does makes sense given Jason Child’s (Chief Financial Officer) tenure with Amazon from 1999 to 2010 (2012 10-K, page 11).  Also, don’t forget that Jeffrey Holden, Sr. Vice President of Product Management, also spent time at Amazon between 1997 and 2006 (2012 10-K, page 11).  When a plan is not working, it is not uncommon for some managers to fall back on what they know best.

But before we get to the financials, let’s reflect on what the Company’s redirection means for performance measurement (i.e., the numbers).  A new strategy means new processes, which in turn affect metrics and reported results. This means that traditional financial statement analysis (FSA) cannot be relied upon to provide its usual meaningful results.  FSA’s ratio and trend analyses are founded on the assumption of stable relationships, so when a company is transforming itself, the usefulness of these tools is somewhat limited.  Further complicating FSA is the Company’s decision to reclassify financial statement items from prior years (2012 10-K, page 69).  Does Groupon bother to tell us where the changes are?  Of course not.  Nevertheless, here are a few grumpy observations.

My biggest concern is the Company’s continuing struggle with estimates (and judgment).  Remember how the grumpies complained last August about Groupon’s “unusual” gain on an e-commerce transaction that created second quarter profitability (see Groupon: Still Accounting Challenged)?  This was a gain driven solely by the Company’s own estimates of fair value, the reasonableness of which we questioned at the time.  Well, guess what?  We were right again!  In the fourth quarter (literally at the eleventh hour), the Company revised its value estimate of its F-tuan investment downward by almost 40 percent resulting in a write-down of $50.6 million (2012 10-K, page 84). This turnabout almost completely reverses the pre-tax $56 million gain that Groupon reported in the second quarter of 2012. 

And while I’m on the topic of estimates and valuation, let’s not forget intangibles. Goodwill just keeps on growing from 9.4 percent of assets in 2011 to 10.17 percent in 2012.  With the Company’s new mission and related business models, one can’t help but wonder what the implications are for previously recorded goodwill, particularly since the Company couldn’t get F-tuan’s number right.  And a change in strategic direction clearly must impact intangibles.  In fact, cracks are beginning to appear in the goodwill numbers.  International segment revenue actually declined 15.9 percent in the final quarter of 2012 (2012 10-K, page 38) raising questions about reported international goodwill amounts.  More troubling is that liabilities exceed assets for the EMEA and LATAM reporting units, and that Groupon actually looked at possible impairment for these units this year (2012 10-K, page 53).  Ultimately, the Company decided that no write-down was necessary, but you have been warned again.  In fact, I suspect this year’s 10-K language may be signaling an impairment charge in the very near future.

And then there is the Company’s deferred tax asset (DTA) intangible.  As you may recall, the Grumpies first sounded the alarm on this intangible almost one year ago exactly in “Groupon’s First 10-K: Looking Under the Hood.” Well, guess what?  The Company is still reporting a loss because it FINALLY recorded an allowance for the DTAs which it likely will never (ever) be able to use.  It’s the increase in the DTA allowance (and several other tax factors) that drove the Groupon’s effective tax rate to an astronomical 153.7 percent in 2012 (see 2012 10-K, pages 46, 54, 104, and 114).  This is what we warned you would happen in our previous blog postings, and it has come to pass.  This is just more evidence of the Company’s struggle to make reliable estimates.  If I were the regulators, I would consider the Company’s F-tuan write-down, it’s delay in reserving for its DTAs, and its forthcoming goodwill impairment as evidence of a potential material weakness in controls over financial reporting as it relates to fair value estimation.  Heads up SEC…you too E&Y!

No review of Groupon would be complete without a discussion of non-GAAP performance metrics, and the Company does not disappoint us again.  Yes, Groupon still relies on non-GAAP metrics (2012 10-K, page 47), but there are changes. The Company has shed its infamous CSOI metric in favor of “operating income (loss) excluding stock-based compensation and acquisition-related expense (benefit), net.”  What would the acronym for this mouthful be?  OIESBCAEN?  I think I liked CSOI better…nevertheless, it’s still a curious metric that inflates operating performance.  And there’s more…last year, the gross billings metric was considered by the Company to be an “operating metric” (2011 10-K, page 41), while now it is reported as a financial metric (2012 10-K, page 31).  

What’s the big deal?  Gross billings is a total sales number that does not deduct the merchant’s share of transaction revenue.  Thus, gross billings is not a valid financial performance indicator…for goodness sakes, it doesn’t even appear in the financial statements. Moreover, to report gross billings as a financial performance metric actually decreases financial reporting transparency!  Why?  Well, Groupon reports growth rates in gross billings of 35 percent and 434.7 percent for 2012 and 2011, respectively (2012 10-K, page 35).  Yet gross profit (a “real” financial indicator) decreased from 83.9 percent in 2011 to 69.2 percent in 2012 (2012 10-K, page 41).  Now, you tell me…which sounds better, huge growth rates in gross billings or declines in gross profit?

While I’m on the topic of performance, despite the declines in gross profit percentage, income from operations has turned positive for the first time primarily due to reduced marketing expenses. The dramatic reversals in marketing and selling, general, and administrative (SG&A) expenses may reflect the Company’s changing business model, but given Groupon’s past reporting issues, one wonders if some of this expense volatility is due to the aforementioned decision to reclassify financial statement items.  Just a thought. And did you notice that the percentage of stock based compensation as a percent of operating expenses is increasing (2012 10-K, page 35)?  Why are managers continuing to reward themselves so highly despite continued losses, diminishing growth, and stock price declines?

Could there possibly be anything else you ask?  Well yes, there are a couple of lesser financial reporting issues that continue to irritate this grumpy old accountant.  Operating cash flows (OCF) have declined in 2012 despite accounts receivable liquidations, and the decrease is largely due to diminishing contributions of merchant payable flows to reported OCF.  We warned you about this in “Groupon’s First 10-K: Looking Under the Hood.”  

And why isn’t inventory reported separately as a current asset on the balance sheet?  Given the Company’s new retail strategy, the $40 million inventory amount reported in the notes (2012 10-K, page 89), and the existence of separate accounting policy note (2012 10-K, page 70), inventory has earned its own line item disclosure on the face of the balance sheet.

Then there is the Company’s segment disclosure. Groupon acknowledges having four reporting units: North America, Europe, Middle East and Africa (EMEA), Asia Pacific (APAC), and Latin America (LATAM) (2012 10-K, page 70). Yet, the Company only discloses two business segments, North America and International.  Oh, Groupon is probably GAAP compliant here basing their reporting on the size of the individual reporting units.  But why can’t the Company just report all four units, and why the need to deduct certain expenses in calculating segment operating income (see note (2) in 2012 10-K on page 106)?  Is this the 2012 version of last year’s CSOI?

So, where does all of this leave us? 

  • The Company is operating without a permanent CEO. 
  • The Company has abandoned its old mission in favor of a new one.
  • The Company is transitioning to an untested business model which raises serious balance sheet valuation questions, particularly given management’s recent estimation difficulties.
  • The Company continues to struggle with providing consistent and reliable financial reports, its efforts now further complicated by its current state of flux.
You tell me.  At my advancing age, I just can’t take any more April Fool’s Day surprises!

This essay reflects the opinion of the author and not necessarily that of The American College, or Villanova University.

AuthorAnthony Catanach
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Well, the auditing profession appears to have finally hit the “bottom of the barrel.”  The demise of the respected Arthur Andersen firm in the wake of the Enron scandal was a huge disappointment.  And now PricewaterhouseCoopers (PwC) has failed us by not living up to the high standards set by its legacy firm.  For those of you too young to remember, Price Waterhouse & Co. was the Brooks Brothers of the accounting and auditing profession at one time.  As Mark Stevens in The Big Eight noted in 1981 (yes, over 30 years ago), Price worked hard “to retain its image as the gilt-edge CPA firm.”  My how times have changed!

So what happened?  On March 7, 2013, the Public Company Accounting Oversight Board (PCAOB ) reported that the PwC had failed to address certain audit related quality control criticisms levied at the firm in previous PCAOB inspection reports, not once but twice, first in March 25, 2009 and then again in August 12, 2010.  What makes this so interesting is that the issues raised in those previously issued reports would have remained “private” had PwC simply corrected the problems within 12 months of the reports’ issuance.  While this is not the first time that one of the Big Four has thumbed their noses at the PCAOB (Deloitte felt the PCAOB’s wrath in October 2011), it is surprising that “a leader in the profession” (and yes, those are PwC’s own words) has done so. You may recall that the Grumpies were not wild about this behavior the first time it happened.

Well, Lynn Turner, a former Chief Accountant of the U.S. Securities and Exchange Commission (SEC), in a recent email (March 7th) to his distribution list, has asked the million dollar question:

What kind of leaders are running the firms, what type of governance do they have, that provides that type of response to the regulator?

Just look at PwC’s response to the PCAOB in its March 7, 2013, Release No. 104-2013-054:

The Part II comments relate to some of the most complex, judgmental and evolving areas of auditing. Our actions relating to those areas, during the 12 months following issuance of the  comments and thereafter, have included providing our audit professionals with enhanced audit tools, training and additional technical guidance to promote more consistent audit execution. We believe that these efforts have been important positive contributors to audit quality at our firm. We are proud of our focus on continuous improvement and of the dedication and high quality audit work performed by our partners and other professionals.

Wow!  This hints at an admission by PwC that its highly paid auditors were not properly trained to audit publicly traded firms.  If this is indeed the case, we surely can’t overlook the ethical implications of a firm contracting to do work for which it was not qualified. This never would have happened at Price Waterhouse & Co. What really bothers this grumpy old accountant is that PwC just doesn’t get it. The old “we’ll try harder” language is just not acceptable.

Just look at a couple of the more glaring audit quality control problems plaguing PwC.  First, there is the supervision issue.  Apparently, some PwC engagement partners are spending miniscule amounts of time on their engagements (see PCAOB Release No. 104-2009-038A  page 23).  Remember, these are the same engagements that PwC (in responding to the PCAOB) indicated involved “some of the most complex, judgmental and evolving areas of auditing.”  How could PwC allow this to happen?

Particularly troubling is PwC’s “let them eat cake” attitude in addressing PCAOB concerns such as “failure to adequately challenge management assumptions, excessive reliance on management's responses to inquiries, and the failure to respond appropriately to potential issues identified during the audit.”  Apparently, PwC engagement teams view cumulative audit knowledge and experience (CAKE, a PwC acronym) as a “source of substantive assurance” in their audit model, which may have undervalued skepticism, supervision, and good old fashioned audit procedures (see PCAOB Release No. 104-2009-038A page 14).

And while I am on the topics, skepticism and supervision are NOT just about technical competency and/or having someone review your work.  Skepticism and supervision require competency, experience, judgment, and strength of character, traits typically found only in seasoned, grumpy old auditors…like engagement partners.  So, is it really surprising that the PCAOB found problems in these areas given the firm’s reduction in partner engagement time?

Also, let’s be clear on what the PCAOB really means by “quality control system.” This is the audit model itself…the activities and procedures used by an accounting and auditing firm to actually execute an audit.  So, when the PCAOB finds problems with how PwC audits estimates, fair value, and revenue recognition; evaluates controls; and uses specialists, it raises serious questions about how the firm’s business processes function. So, what PwC and its three other Big Four cronies really need is a new “audit model.” 

As you may recall, a financial statement audit opinion is supposed to certify that a company’s reports comply with generally accepted accounting principles (GAAP).  Complicating matters is the fact that GAAP has become so “complex” and “judgmental” (and those are PwC’s own words) that the current audit model (essentially unchanged for 75 years) may no longer be useful.  Evidence that today’s GAAP is wreaking havoc among auditors can be found in another PCAOB report (Release No. 2013-001) dated February 25, 2013 which summarizes results for inspections conducted in 2007-2010 of 578 audit firms involving 1801 audits.  Just look at some of the problem audit areas identified by the PCAOB…these again are all significantly judgment focused: revenue recognition, fair value measurement, business combinations and related intangibles, and estimates.  So, as the Financial Accounting Standards Board (FASB) makes it headlong rush into fair value reporting and abandons two key qualitative characteristics of financial reporting, faithful representation and verifiability (discussed in Concept Statement No. 8), it just may be a major contributor to poor quality auditing by promulgating accounting rules that are filled with measurement error and impossible to verify.  Yes, FASB may be killing the auditing profession!
Some of the FASB’s finest work surfaces at the heart of the auditors’ problems: software transactions, multiple-deliverables, gross vs. net. (see PCAOB Release No. 2013-001 pages 11 and 12).  Yes, the some of the very same issues that the grumpies have been harping about for several years. The complexity of such transactions begs for accounting experience, and it is sheer lunacy to expect junior auditors (those with less than five years of diverse experience) to deal with these transactions.  
Then there is fair value accounting, the centerpiece of the FASB’s standard-setting for the past decade.  When it comes to assessing controls and substantively auditing assumptions and valuation models (see PCAOB Release No. 2013-001 page 17), today’s auditors seem to fail miserably at both junior and senior levels.  Again, we must ask why?  Despite all of the firms’ assertions, audit staffs simply haven’t been trained adequately in the accounting and auditing of these transactions.  Heck, in most cases, the clients don’t understand them either.  And who gave us the accounting that motivated (or in some cases encouraged) these transactions…the FASB!
Then there is the FASB’s stubborn commitment to goodwill and asset impairment testing.  If management doesn’t know why it paid an excess purchase price for an acquisition, can you really expect an auditor to ascertain the veracity of recorded goodwill amounts?  Why does FASB continues to play this goodwill game?  Could it be that mandating goodwill write-offs at the date of an acquisition might stifle M&A activity, since manager overpayments would be exposed to investors?  But does this really matter since research shows that most acquisitions fail to achieve their strategic goals thus rendering recorded goodwill meaningless?  Bottom line…how do you expect inadequately supervised (and often junior) auditors to audit client assumptions and estimates for assets that have no tangible existence?  The auditor has been set up to fail…by FASB!
Next, there is the issue of analytical procedures (see PCAOB Release No. 2013-001 page 32).  In the old days (when I was a junior auditor), analytical procedures resided in the domain of experienced auditors (i.e., audit seniors and above). Today, junior accountants many of whom are not even trained in fundamental financial statement analysis are commonly tasked with evaluating management explanations.  The situation is so pathetic in fact that all too often juniors fill their analytical working papers with such trite phrases as “appears reasonable, pass further work,” when additional work is in fact needed.
Then, there is the inability of today’s auditors to assess fraud risk (see PCAOB Release No. 2013-001 page 35).  With so little audit work being done by seasoned, experienced auditors, this deficiency is not unexpected.  Junior auditors would not recognize a fraud today if it jumped up and smacked them in the face.  Even in my old audit days, we laughed about giving junior auditors that old task “review the general ledger for significant/unusual transactions.”  Without experience and business sense, the young auditor will always fail in this task.
But am I suggesting that the Big Four may NOT be THE problem?  Of course not, they represent themselves as being competent to audit, so they must suffer the consequences if they don’t comply with PCAOB standards. Moreover, the Big Four are simply “reaping what they have sown.” PwC et al. may actually be getting what they deserve, since they lobbied mightily for many of the judgmental GAAP standards we now have (including the adoption of international financial reporting standards).  And why did the large accounting and auditing firms promote such accounting rules?  While they will never admit it, in part to reduce their legal liability for bad audits…after all it’s harder to be sued (and lose) when auditing a client’s estimates or judgments.  Unfortunately for them, however, the PCAOB has unmasked their shoddy auditing of judgment related accounting areas. The big accounting firms simply can’t audit the “new accounting” because they use an outdated audit model driven by antiquated staffing mixes which ignore the importance of experience and wisdom. And if inadequate partner supervision time is not a big enough problem for these firms, their relatively young mandatory retirement ages rob them of the talent they most need to audit subjective accounting issues…the senior folks who actually have experience, insights, and judgment.
So, what’s the solution?  First, dump the current cast of FASB (and IASB) characters and replace them with some practicing grumpy old accountants (that excludes Ed and me of course) who take the qualitative characteristics of useful financial information (Chapter 3, FASB Concept Statement No. 8) seriously, and who will restore such concepts as faithful representation and verifiability to the standard setting process.  The notion of relying on and/or auditing management estimates and assumptions given today’s increasingly subjective accounting is simply ludicrous.

Second, the PCAOB must move the auditing profession away from its historical audit pyramid where relatively inexperienced and inadequately trained “grunts” labor long hours to make their audit partners wealthy.  That may have worked when business transactions were much simpler, local, and slower paced.  But with today’s transaction complexity, speed, and globalization, what we need to have for quality audits is senior manager and partner time…not rookie time.  The tired, old, audit pyramid needs to be scrapped and should have gone the way of rolodexes, printed encyclopedias, phone books, film, bank deposit slips, and answering machines…AWAY.

Finally, the auditing profession must stop forcing their elder statesmen (those over 60) into retirement.  By forcing these early departures, these firms are throwing away one of (if not THE) most valuable assets that they have….experience.

So, while it brings tears to this grumpy old accountant’s eyes to see the demise of what I remember as such a great firm, PwC and the other large accounting firms are getting exactly what they deserve for promoting bad accounting standards: impossible to audit balance sheets!

This essay reflects the opinion of the author and not necessarily that of The American College, or Villanova University.

AuthorAnthony Catanach

The last I heard, the purpose of financial reporting was to provide information that investors, creditors, and others can use to make decisions.  Well, when a publicly traded company fails to file its required financial statements, and market regulators let it get away with it, that’s a real problem.  How are investors and creditors supposed to evaluate their investments?  And that’s the $3 billion question being asked of Chimera (CIM) by Aaron Elstein in “A mythical name and profits, too?

Here is a company that has neither filed a quarterly report since November 18, 2011 (for the quarter ended September 30, 2011), nor an annual report since February 28, 2011 (for the year ended December 31, 2010).  Yet, securities regulators permit Chimera to operate, and allow its stock to be listed and traded.  John Maxwell at the Motley Fool has described this situation as “inexcusable,” and that’s an understatement, for all the questions this situation raises.

Okay, why no financial statements? According to its Form 8-K filing with the Securities and Exchange Commission (SEC) on March 1, 2012, the Company needed additional time to “review the application of GAAP guidance to certain of its non-Agency assets.”  But then the story gets interesting when Chimera “fires” Deloitte as its auditor on March 11, 2012, replacing them with Ernst & Young.  What’s particularly curious is that the Company kept Deloitte to audit its 2011 10-K which has yet to filed. Then, in an August 1, 2012 Form 8-K filing, we learned of Chimera’s erroneous accounting for its non-agency residential mortgage-backed securities portfolio.  Basically, the Company accounted for this portfolio as if it were high credit quality, rather than reflecting its actual poor quality, necessitating a correction to reduce net income by almost $700 million during the affected reporting period (fiscal years ended 2008 through 2010).  And just recently, on March 1, 2013, Chimera notified the SEC in a Form NT 10-K filing that its annual financial statements for the fiscal year ended December 31, 2012 are not yet ready either.  However, there is a bit of good news…according to the filing, Chimera has finally completed its review of the accounting policies for its non-agency residential mortgage-backed securities portfolio, and that its 2011 annual report is forthcoming.  Better late than never, right?  Well, that’s just the first of my many questions.

Let’s start with the accounting error, or as today’s politically correct accountants call it, the restatement.  Given all of the expertise that Deloitte’s New York office presumably gained accounting for, auditing, and valuing financial instruments during the financial crisis of 2007 and 2008, it is unbelievable that it didn’t discover the “erroneous” accounting earlier.  My review of Chimera’s 2010 10-K uncovered plenty of clues that the Company’s non-agency residential mortgage-backed securities (RMBS) portfolio was “poor quality.”  Here are just a few:

  • Page F-14 reveals that non-agency RMBS with an estimated fair value of $2.5 billion had over $412 million in unrealized losses.  That’s unrealized losses of over 14 percent of their cost.
  • Page F-15 reports that 48.1 percent of all RMBS’s are rated below B or are not rated at all.
  • Page F-17 indicates that non-agency RMBS are collateralized by Alt-A mortgages of subprime fame, 56.1 percent of which were originated during the 2007 pre-bust mortgage boom, and 57.8 percent financed properties in the overheated California market.
So you tell me…does that sound like a high quality mortgage securities portfolio?  How could such an “error” have occurred?  Surely it wasn’t due to accounting ineptitude, after all, according to Aaron Elstein, Chimera's CEO received $35 million in compensation in 2011. That kind of money should buy some expertise, right?  And according to the Company’s proxy statement (Schedule 14A) Deloitte received a whopping $827,625 in audit and audit related fees for 2010 for its work on what should be a fairly straight-forward engagement.  The balance sheet is nothing more than securities funded by repurchase agreements and collateralized debt.  How could Deloitte not see the accounting problem for three years?  
Given the magnitude of this accounting “bust,” it’s pretty clear that Chimera’s internal controls over financial reporting don’t work, and Deloitte will no doubt confirm that in the near future (and after the fact).  However, given that the Company has only been operating since November 21, 2007, I would have thought that Deloitte would have carefully scrutinized accounting policies and procedures for this young entity, particularly with such rapid growth in the high risk RMBS portfolios.  Chimera’s total assets increased over 400 percent between fiscal year ends 2007 and 2010 (2010 10-K, 50).  And again, this is Deloitte New York…a Big Four firm center stage on Wall Street.  Is it any wonder they were fired?
But that raises yet another question?  You can’t fault Chimera for canning Deloitte, but why rely on the firm that couldn’t find the accounting problem to “fix” it? That’s right…E&Y doesn’t take over as auditor until the 2012 fiscal year engagement.  It just gets “curiouser and curiouser!”  Oh, you might argue that the Company will save money by having Deloitte clean up its (Chimera’s) mess, but let’s be realistic…E&Y is going to bill Chimera heavily anyway when it takes over given the material weaknesses, accounting errors, risky investments, and valuation issues.  E&Y is going to re-audit a lot of what Deloitte does anyway, so why not just have E&Y audit the delinquent years and restatements?
And then there’s the delay in fixing the accounting.  With all of Deloitte New York’s 2007 financial crisis expertise, as well as the Company’s own management experience, why is it taking so long to fix the books and issue an audit report?  Could the tardiness be signaling something else?  Is the situation worse than represented?  Are the books and records in shambles?  Or is it the RMBS portfolios that are causing the problems…after all these are Alt-A loans?  And then there’s always the possibility of an auditor-client conflict despite what is documented in the auditor termination letters.  It would not be surprising if the two parties disagreed over the magnitude of the RMBS valuation adjustments.  Or has the audit been completed, and Deloitte is “sitting” on the report at the client’s request for some reason?  See what kinds of questions surface when a company is not transparent?
And if you think these concerns are too farfetched, what about the creditors?  According to Chimera’s 2010 10-K (F-22 and F-23), the Company’s RMBS portfolios were funded significantly by short-term repurchase agreements (repos) and securitized debt.  How are these creditors functioning without some type of valuation information?  Normally, short-term repo borrowings are re-priced and renewed based on underlying collateral values.  Since the Company has not been forced into bankruptcy by these lenders, it seems reasonable to assume that these creditors have renewed Chimera’s short-term borrowings.  But what collateral valuation data did these creditors use to make their refinancing decisions?  Did they receive some “private” RMBS information that was not made available to investors and regulators?  If so, that might suggest that the delays in correcting the accounting error and issuing financial statements may be unjustified, right?  

And then there are the regulators…why do they “rubber stamp” extension request after extension request by the Company?  According to Chimera’s February 14, 2013 Form 8-K, the New York Stock Exchange has given the Company one final extension until March 15th to file its 2011 10-K.  So some very stale data may be forthcoming shortly.  But can’t the NYSE see the potential problems associated with the issues raised above?  And given the tardiness of the 2011 10-K, why is the NYSE cutting Chimera so much slack with the delinquent 2012 10-K?

See what chaos a lack of transparency in financial reporting can create?  Chimera is definitely living up to its name when it comes to its financial reports…for the past months, the Company’s reports have been nothing more than a “fanciful mental illusion” that create so many questions, and provide too few answers.  In a post 2007 financial crisis environment, one would not have expected that such a situation would be tolerated.

This essay reflects the opinion of the author and not necessarily that of The American College, or Villanova University.

AuthorAnthony Catanach