Jason Zweig: How Companies Use the Latest Profits Fad to Fool You

Johnny HopkinsJason Zweig, Value Investing NewsLeave a Comment

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Here’s a great article by Jason Zweig at the WSJ which discusses how companies use the latest profits fad to fool investors:

Eighty-six years ago this week, the stock market hit its worst low. Today, with markets near all-time highs, things aren’t as different as you might think.

Then, as now, companies and investors were engaged in a massive power struggle. Then, companies were worth far more than investors thought — and would do almost anything to keep investors from unlocking the hidden value. Today, companies may be worth less than investors think — and are equally intent on preventing investors from noticing.

On June 1, 1932, the great investment analyst Benjamin Graham published an essay called “Inflated Treasuries and Deflated Stockholders: Are Corporations Milking Their Owners?”

That day, the predecessor of the S&P 500 index hit its all-time low of 4.40. The Dow Jones Industrial Average closed at 44.93. Total trading volume was 1.8 million shares.

Amid the bearish stupor, Graham detected something outrageous: Companies were cloaking their true worth from investors.

In the boom of the Roaring Twenties that preceded the 1929 crash, investors had complacently pumped billions into new stock offerings, wrote Graham, with “excessive emphasis being laid on the reported earnings — which might only be temporary or even deceptive.”

After the crash, companies were flush with cash and investors beggared. Still, leading businesses refused to liquidate their stagnant operations and wouldn’t pay out cash in extra dividends or by repurchasing their stock. This despite the fact many traded below the value of their cash per share.

The few companies that did buy back shares often first cut or skipped a dividend, spooking investors into thinking bankruptcy was looming. Financial reporting was sparse, and making the business look even worse than it was paid off — for insiders.

“Corporation treasurers sleep soundly while stockholders walk the floor,” growled Mr. Graham.

Today’s high-flying market looks like a polar opposite. But information is still power.

You can read the rest of the article at the WSJ here.

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