Читать книгу Winning Investors Over - Baruch Lev - Страница 31

In 1999, Gateway Inc., a direct marketer of personal computers and related products, embarked on a diversification strategy—dubbed venturing beyond the box—offering software, Internet access services, and training and support programs to customers. By the end of 1999, Gateway’s beyond-the-box income reached 20 percent of total earnings, seemingly demonstrating the success of the diversification program. Soon, however, things turned ugly. The tech bubble burst in 2000, the economy fell into a recession, and demand for computers and related products plummeted. Gateway, however, continued to present a happy face. While competitors reported a significant softening of demand and the consequent reduction in revenues and earnings, Gateway managers consistently claimed they were bucking the trend and reported increasing revenues and earnings to boot. How did Gateway manage, in the words of an analyst, to immunize itself from the vagaries of the market?

The SEC provides the answer.¹⁶ In late 1999, Gateway initiated a program to sell computers on credit to persons who were previously rejected because of poor-credit status. At first, management characterized the program “a test” and limited it to $10 million. Soon, however, as Gateway’s revenues declined and the specter of missing analyst estimates loomed large, it aggressively accelerated the program. In the second quarter of 2000, this high-risk sales drive—for which Gateway’s internal delinquencies estimates reached 40 percent—generated sales of $112 million (5 percent of second-quarter revenues). The SEC contends that Gateway violated securities regulations—the requirement to disclose known trends and uncertainties that could have an unfavorable impact on earnings—by failing to inform investors that a significant part of revenues came from a new, high-risk customer group. Nor did Gateway adequately provide for the expected loan losses for this program. But this wasn’t all.

The third quarter of 2000 saw further business deterioration, yet Gateway assured investors that its sales “remain robust” and the consensus revenue growth estimate of 16 percent would be achievable, despite a Gateway internal document, dubbed “Gap to Consensus,” to the contrary. How did Gateway close the gap? You guessed it. By accelerating sales to poor-credit customers, thereby adding $84 million to quarterly revenues.¹⁷ While the quality of Gateway’s receivables continued to deteriorate—poor-credit receivables reached 37 percent of total receivables at the end of the third quarter—management reduced the loan loss reserve by $34.5 million, inflating reported income by the same amount. This enabled the company to report $0.46 EPS, precisely meeting the consensus estimate. For good measure, Gateway improperly booked a gain of $4.3 million from receivables sales in the second quarter and shipped $21 million worth of PCs to warehouses at the end of the third quarter in 2000, improperly recording this channel stuffing as revenues.

Analysts celebrated Gateway’s third-quarter “performance”—meeting the consensus against all odds—leading one analyst to state that the company’s business model “gives them an advantage over everyone.” On October 13, 2000, the day following the third-quarter earnings release, Gateway’s stock followed suit, increasing 22 percent. So much for analysts’ prescience. Less than a couple of months later, however, Gateway’s manipulations ran out of steam, and its stock plummeted by two-thirds: from $53.11 in October 13, 2000, to $17.99 on December 31, 2000.

Note that Gateway engaged in a combination of accounting manipulations (cutting the bad-debt reserve) and real manipulative activities (increasing sales to poor-credit customers). The latter schemes, such as cutting R & D or maintenance to “make the numbers,” are particularly damaging because they exacerbate an already deteriorating business.¹⁸