More Smoke and Mirrors

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As promised, we look into the Green dog’s new set of (accounting) tricks.

As we mentioned yesterday, AMD is writing off another $880 million off its investment in ATI.

What should you make of this?

In all likelihood, AMD has been shopping around the consumer products part of what used to be ATI and found that it isn’t going to get much money for it, nowhere near what they paid for it.

So what they did was the accounting equivalent of slashing the price for the division before actually selling it.

Why would they do that? Well, if they hadn’t done this, if they sold the division next week or month, they would have to show a huge loss on the sale of the division. So instead, they’re taking the loss now, so when the sale happens, it will look like AMD broke even or maybe even “made” money.

Of course, if you have a memory that lasts more than a week and math ability greater than a gnat’s, you’ll realize that six is one-half dozen of the other, and it is, but many have neither and will get fooled by the smoke and mirrors.

Another game AMD appears ready to play involves the sale of the fabbing equipment from Dresden.

Quick accounting lesson: If you’re a business and you buy equipment for the purpose of making money, you are generally allowed to deduct a portion of what you paid for the equipment against your profit/tax each year as you use. This is usually called depreciation, the idea being that you gradually lose the value of the asset as you use it.

Depreciation is only a very rough measurement of this loss, and very often, a business can depreciate the entire cost of an item, but can still sell it and get some money for it. When that happens, the business has a gain on the sale of the property, and must add that gain to their profit/tax.

So, for instance, if AMD bought $1.5 billion of fab equipment for Fab30, depreciated $1.2 billion of that over the course of years, then sold it for $500 million, they would have a gain of $200 million, which is roughly what AMD actually did.

Such an event is perfectly normal and natural. It only becomes funny business when it comes to characterizing the nature of the gain/profit.

Say you own an auto repair shop, and you own a lot of expensive equipment. Making money by using the tools is one thing, making money by selling the tools is quite another. For one thing, once you sell the tools, you aren’t going to be making any more money by using them in their business. You had a one-time gain, as opposed to a regular day-in, day-out income.

It is a general, basic accounting principle that you are supposed to separate any one-time gains and losses from your regular, ongoing income/losses. This is to let people easily see how the regular ongoing business is doing.

To put it mildly, AMD has been playing fast and loose with these rules in their public presentations the last couple years, calling ongoing expenses one-time and vice versa, and it looks like they’re going to do it big-time again next week.

This report indicates that AMD plans to add the gain from the sale of its Fab30 equipment to its gross margin. That’s accountantese for saying that they’re going to treat the sale of fab tools like it were the sale of CPUs, treating a one-time gain like it were regular ongoing income.

Why would they want to do that? Well, a few quarters ago, the executives said that they would reach “operational breakeven” point fairly shortly. First, it was around the middle of the year, then it was 3Q.

To make a long story short, there’s no way AMD can hit “operational breakeven” for Q2 legitimately, but they probably “would” if they included the fab equipment gain as regular income. I would bet dollars to donuts that this is exactly what AMD will do when it releases its earnings next Thursday, and they’ll try to spin this into a great triumph (and maybe hand themselves some extra bonuses and stock options afterwards).

Now I’m sure that at least some, maybe most of those reading this have had their eyes glaze over. Unfortunately, at least some, maybe most of those who will end up writing about this, even the “financial” reporters, will have their eyes glaze over, too.

Unfortunately, that’s what some people in certain high positions are counting on, and even more unfortunately, they’ll be assisted by some who can see, but are more than happy to help to pull the wool over their own eyes and those of others.

The Big Bias

The very sad fact is that with not many exceptions, there’s a bias in favor of AMD in the computer hardware press. Some don’t even pretend otherwise. This is mostly because there a bias in favor of AMD in the computer hardware press readership.

Why? The argument is as follows: It is in our best interest to have AMD around to compete against Intel, so we will slant the news in favor of AMD, or repeat whatever they tell us without question or thought, or ignore/minimize the bad news or deceptions.

I’m sure many of you reading this are saying something like, “What’s wrong with that?”

Well, what was wrong with Enron doing what it did? What was wrong with Worldcom? What was wrong with all the financial institutions that have gone belly-up or are halfway there lately? They all played the same kind of smoke-and-mirror games we see from Green, and eventually, they all got burned.

What’s wrong with that is that when you live by smoke and mirrors, eventually it catches up with you, no matter how complacent those watching are. And people get hurt, hurt badly as a result. Ask the former Enron and WorldCom and Bear Stearns employees and stockholders about their pensions and 401K plans and life savings.

You see, when people find out they can get buy and even prosper with smoke and mirrors rather than real success, they get hooked on them. It’s just so much easier and rewarding than doing the hard job, especially if the hard job means firing yourself.

But if it stays all smoke and mirrors, eventually it catches up with you and suddenly blows up in your face, and then all the people who let you get away with it for so long jump up and down and say, “I never dreamed this would happen!”

Sometimes, it’s cruel to be kind. You’ve heard of “enablers,” people who allow others to do bad or destructive to themselves or others.

Isn’t that what we’re really talking about here?

Ed


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