Yearly report offers insight in verbiage

PERSONAL FINANCE

March 19, 2000|By EILEEN AMBROSE

DAFFODILS and lacrosse players are showing up on the fields, which can mean only one thing for shareholders: It's time for the annual report and proxy statement.

Spring is the time that companies tend to send these yearly updates to shareholders. Some investors won't even sneak a peak, while others dutifully thumb through the glossy annual report. Still fewer will tackle the proxy, a colorless document that seems to beg to be ignored.

With the Internet and other up-to-the-minute sources, investors today have more ways to get information about the companies they own. Even so, proxies and annual reports can yield insights into the company and its management that might help investors decide whether they want to remain a shareholder, financial experts say.

The problem for many investors is separating the boilerplate language and chief executive officer euphoria from the true picture of the company. Financial experts who comb these documents offer these suggestions:

Begin with the letter from the president or other top executive in the annual report.

The best letters are straightforward, address problems the company might have had and what it plans to do to correct them, experts said. Good letters also focus less on past performance and more on future strategies and outlook.

"If the letter feels like a puff piece, a red flag should go up," said Preston Athey, portfolio manager of T. Rowe Price Associates' Small-Cap Value Fund in Baltimore.

Jump next to the figures.

Look at the financial summary over the past few years to see that the company is making progress and that earnings and revenues are growing, Athey said.

Mature companies or industries grow slower than young businesses in hot sectors. A mature company might see its annual revenues and earnings grow 5 percent to 12 percent, Athey said. Revenues at newer companies can be expected to go up about 30 percent, although earnings might not keep the same pace, especially if acquisitions have been made, he said.

Review the cash-flow statement, particularly from operations, which tells you where the company's money comes from and where it goes, said George Martin, president of the Maryland chapter of the National Association of Investors Corp.

A company with a high cash flow can support additional growth or pay more in dividends, Martin said. Those with little or negative cash flow might have to support their normal operations by selling stock and other assets or taking on debt, he said. Then check out the company's debt. "Debt is not bad," Martin said. "Debt is good if it's well-managed and if you don't have too much."

Compare current assets to current liabilities. This will tell you if the company can pay its bills and bank debt over the next year, said Donald Owen, a senior manager of Legier & Materne, a New Orleans consulting and accounting firm.

For a longer perspective, check out the company's debt-to-equity ratio over the years, Martin said. Is debt up or down, and why?

A company that borrows money to grow might have fewer shareholders and retain more control, he said. The drawback is that the debt must be paid back with interest, which doesn't happen when the company issues stock.

Read the Management's Discussion and Analysis for further explanation of the numbers and an outlook for the company and its industry, suggested Mark Bartlett, managing partner of Ernst & Young in Baltimore. It's here, too, that you can read about any unusual litigation the company may be involved in, he said.

Don't forget the auditor's letter at the end, which usually states that the financial statements conform with generally accepted accounting principles. Be wary of the letter that can't attest to that or questions whether the company can meet its obligations, Athey said. "If you read something like that, the company has big problems." Next, look at the proxy, which includes executive compensation, directors' backgrounds and what proposals will be voted on during the annual meeting. Proxies aren't easy reading.

"They are intimidating, dense print on fine paper," said Nell Minow, editor of the Corporate Library, a Web site about corporate governance and performance.

Turn first to the chart that compares the stock performance over the past five years to that of its peers and the overall market, Minow recommended.

Your company should perform at least as well as its peers. If it lags, "that's a sign you have a problem," Minow said.

Next, look at executive compensation. Executives whose companies perform well deserve to be paid well, experts said. "What I really don't like is if the company is doing poorly and the executive gets a monster bonus and stock options," said Scott Horsburgh, a chartered financial analyst with Seger-Elvekrog Inc., a Bloomfield Hills, Mich., money manager.

Review the background of directors, who are supposed to be your watchdogs over management. Do the directors have experience in the industry or come from same a size company that would help them provide guidance?

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