On November 10th Hertz (HTZ) filed yet another regulatory form, indicating for the third straight quarter that the company would be forced to delay the release of its financial statements. This is their third non-timely filing in a row since May 2014, when the pending accounting matters were disclosed, and the company has not yet filed its required quarterly financial statements for any period this year.
In the most recent disclosure, Hertz cited the “ongoing nature of the Company’s previously announced thorough review of its internal financial records for fiscal years 2011, 2012 and 2013” as the main reason for its inability to complete its financial statements. This continues the discussion of Hertz’s problems, which we have previously written about here and here.
In the past few months, Hertz has had more than a few significant events, including the resignation of CEO Mark Frissora, and shareholders activists Carl Icahn and Jana Partners boosting their positions in the company. This shareholder involvement wasn’t enough to keep the company’s stock from sliding further: on October 15th HTZ was trading as low as 18.5, more than 40% off its August 19th high of 31.6.
In this post, however, we would like to focus on a specific challenge Hertz is facing right now, namely, the accounting investigation. As we discussed in our previous posts, such investigations can be costly. Direct costs include those related to additional accounting and legal personnel and outside consultants, and indirect costs include missed business opportunities and CEO replacement expenses.
We have been asked whether such a long investigation is unusual. To evaluate this question, we used Audit Analytics’ Restatements database to identify NYSE and NASDAQ companies that disclosed a financial restatement between January 2011 and November 2014. We further sorted the restatements by the time it took the companies to release amended financial statements. Out of 1,450 restatements identified, only 20 (including Hertz), or less than 1.5%, had investigations pending for at least 170 days.
But how much do those investigations weigh on a company’s performance? In the table below, we attempted to show the performance of restating companies for the 180 days subsequent to filing restated financial statements. We performed this analysis only for 10-K filers with share price of at least $5 and average volume of at least 100K shares. We further eliminated restatements with a positive impact or with no impact on net income. We used SPY as a benchmark to evaluate the stocks’ performance. In cases where financial statements were released after market close, we used the next day’s opening price to calculate returns. (Click to expand image.)
As we can see from the table, only 4 out of 7 companies have filed restated financial statements so far. ITT Educational (ESI) filed restated financial statements less than a month ago, but the stock has already gained about 40% since. Both Tech Data (TECD) and Orthofix (OFIX) significantly outperformed SPY, while Diamond Foods (DMND) – underperformed. However, even for DMND, restated financial statements marked a significant positive milestone – the turnaround was just much slower than for the rest of the companies in the group.
It is important to note that this analysis comes in the midst of a record bull market, when investors are looking for signs of weakness to get in. The positive effect of final resolution may be short lived, and not indicative of the quality of financial reporting or long term business prospects. But one thing is clear, however: long, costly investigations and a lack of reliable financial statements pose significant risks for investors, and the eventual resolution is perceived as a very positive sign.
Audit Analytics is not a registered investment adviser. In this post, we are neither giving nor attempting to give any investment or trading advice. This post did not attempt to evaluate the business side of the restating companies. No investment should be made without a good understanding of growth perspectives.