Smoothing Out Earnings Is Finance-Speak For “Cooking The Books”

When I hear financial industry insiders opine that they need vehicles and procedures which allow them to ’smooth earnings,’ I get very suspicious. Why? That very thought process was the business model which led to the failures of Freddie Mac (FRE) and Fannie Mae (FNM).

I witness it again in Bloomberg’s commentary, Beware Bankers Spinning Story of Smooth Results:

The financial results that companies give investors are supposed to paint a picture of how things are. Banks and their regulators want to turn that notion on its head so they can spin a smooth tale of how they would like things to be.

Sadly, some accounting rule makers may be ready to appease banks and the politicians who back them. If that happens, financial results will change from a vital tool for investors to a vehicle catering to managers, regulators and employees.

The practical result of such approaches would be to allow banks to report smoother results that supposedly reflect their long-term prospects. For banks, smoother profits would presumably lead to higher share prices. For regulators, less volatile results would supposedly make it easier to maintain financial stability.

Make no mistake, these accounting procedures are merely a formula for the continuation of a ‘heads we win, tails you lose’ approach which was so prevalent in causing this crisis in the first place.

Investors should not be so naive as to think otherwise. If these procedures are fully implemented, then rigorous risk management will go right out the window and prospects for real, long term economic prosperity along with it.

Regrettably, I have little confidence that the ‘wizards in Washington’ have the intellectual capacity, the moral fortitude and unquestioned integrity to take this issue on and truly protect the American public.

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Comment by Jamie

2009-09-15 07:40:01

Isn’t “cooking the books” itself financial-speak for “fraud?” Certainly it isn’t a culinary term.

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