Table Of ContentAH INVESTIGATION OF CORPORATE FINANCIAL
STATEMENTS FROM AN INVESTMENT STANDPOINT
A T hesis
P resented to
th e F aculty of th e School of Commerce
and B usiness A dm inistration
•Hie U n iv ersity o f Southern C a lifo rn ia
In P a rtia l F u lfillm en t
of th e R equirem ents fo r th e Degree
M aster of B usiness A dm inistration
hy
J* Cass in Claris:
February 1942
UMI Number: EP43159
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This thesis, written by
............................J.fc..£ASjSIH..CLASK.....................................
I
under the direction of h.Ajsi Faculty Committee,
($•1 c
and approved by all its members, has been
presented to and accepted by the Council on
Graduate Study and Research in partial fulfill
ment of the requirements for the degree of
MASTER OF BUSINESS ADMINISTRATION
Dean
Secretary
Faculty Committee
Chairman
TABLE OF CONTENTS
CHAPTER PAGE
I . INTRODUCTION AND STATEMENT OF PURPOSE . . . . 1
Purpose of th e in q u iry . . . . . . . . . . 2
Statem ent of th e purpose .................................... 2
C o n tro llin g f a c t o r s . . . . . 2
Method o f procedure and o rg an izatio n . . . 6
The procedure . . . . . . . . . . . . . . 6
The o rg an izatio n . . ..................... . . . . . 7
Review o f lite ra tu re . . . . . . . . . . 7
I I . THE INCOME STATEMENT.......................... 10
S ales . . . . . . . . . . . . . . ..................... 10
Cost o f sa le s and e x p e n s e s ..................................... 11
D epreciation ............................................... . . . . . 15
O ther deductions . . . . . . . . . . . . . 18
Summary . . . . . . . . . ..................................... . 21
H I . SURPLUS ADJUSTMENTS .......................... 22
IV. THE BALANCE SHEET.................................................................... 26
Cash . . . . . . . . . . . . . . . . . . . 26
i
M arketable s e c u ritie s . . . . . . . . . . . 27
R eeeivables . . . . . . . . . . . _29
In v en to ries . . . . . . . . . . . ..................... 30
P ro p erty account ........................................ 33
C urrent lia b ilitie s and debts. . . . . . . 36
Sum m ary................................... 37
i i i
CHAPTER PAGE
Y. CONCLUSION . . .............................. 39
A d d itio n al in q u irie s .................... 45
BIBLIOGRAPHY . . . . . .......................... . . . . . . . . . . . 46
APPENDIX 49
LIST OF TABLES
TABLE PAGE
I . Tobacco Com panies* S ales of C ig are tte s and Net
E arnings p er Share fo r P ast Ten Y ears . . . . 49
I I . S elected Item s from C hrysler C orporation*s
F in an cial Statem ents fo r Y ears 1929 and 1940. 50
I I I . W estern Union Company*s E arning Statem ent
Showing D epreciation Reported to Stockholders
and G overnm ent...................... . . . . ; ......................... 51
IT . P ennsylvania-D ixie Cement Company’s E arnings
Statem ent Showing D epreciation B eported to
S tockholders and Government . . . . . . . . 52
Y. Sw ift & Company’s Treatm ent of **Reserve fo r
Inventory P rice D ecline" . . . . ........................... 55
VI. In te rn a tio n a l H arvester Company’s Income
Statem ent In d ic a tin g Number of Reserve
E n trie s . . . . . . . . . . . . . . . . . . . 54
V II. Comparison of S urplus A djustm ents of Union
C arbide & Carbon Company and A llied
Chemical & Dye Company ......................... 55
V III. A llied Chemical & Dye Company’s Treatm ent of
M arketable S e c u ritie s . . . . . . . . . . . . 56
2X. O il Companies’ Fixed A ssets and Underground
R eserves ........................................................... . . . . . . 57
CHAPTER I
mTRomrcTicN and statement of purpose
I t can be f a ir ly said th a t by fa r th e m ajo rity of
in v esto rs today have a t b est only a bare knowledge of
fin a n c ia l rudim ents and investm ent p rin c ip le s. To some
degree th is can be traced to th e fa c t th a t over th e p a st h a lf
century ow nership o f e n te rp rise s has passed from th e sm all
community of in te re s ts to a w idespread d iv e rs ific a tio n o f
p a rt ow ners. T ogether w ith th is tre n d has gone th e r e lin
quishm ent o f the in v e s to r's p erso n al acquaintanceship w ith
a ll th e e n te rp ris e 's problem s, re s u ltin g in the in s titu tio n
of absentee management.
To th e layman of th is p ast e ra , a su b sta n tia l knowl
edge of th e in tric a c ie s of investm ent was not n e c e ssa rily
p re re q u isite to h is su ccess. Knowing f i r s t hand most of th e
fa c to rs th a t created w ealth and p ro fits , he needed only to
apply common sense in order to achieve a good re s u lt.
At the p resen t tim e, however, th e layman is perhaps
one part-ow ner out of a to ta l o f h a lf a m illio n ; in a ll
p ro b a b ility he has never seen th e in sid e of th e p la n t nor
in q u ired from whom m a te ria ls are purchased or to whom prod
u c ts are so ld ; in sh o rt, he is now dependent upon some
stra n g e r to advise him of the a ff a irs of h is company.
Xt is p ra c tic a lly a tru ism th a t th e more minds a se t
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of fa c ts must pass through from its in cep tio n to th e fin a l
re s u lt, th e more apt i t is to be d is to rte d . Much the same
process tak es p lace betw een the a c tu a l re s u lts of th e oper
a tio n s of a company and the fin a l conception o f the re s u lts
in th e mind of th e investor* The fa c ts have passed through -
th e minds of th e management and acco u n tan ts, and may even
have been m odified through in te rfe re n c e from Governm ental
agencies, before th ey reach the in v e sto r.
I . PURPOSE OF THE INQUIRY
Statem ent of th e purpose. The o b ject of th is in q u iry
was to consider and c ritic iz e a few of the p e rtin e n t con
fu sin g and m isleading statem en ts, as w ell as some of the
short-com ings o f corporate re p o rts presen ted to stockholders
as th e ir prim ary source of fin a n c ia l in fo rm atio n . A lso,
th e re was the d e sire to p resen t a c tu a l exam ples in a su f
fic ie n tly v iv id manner to in sp ire the stu d en t o f investm ent
problem s and th e in v esto r to analyze c a re fu lly and v e rify
a l l th e statem ents of supposed fa c t th a t come to th e ir
a tte n tio n .
C o n tro llin g fa c to rs . Inasmuch as accounting d eals
w ith th e c o lle c tio n , a sso rtin g , and reco rd in g o f fig u res
p e rta in in g e ith e r to th e o p eratio n s or s ta tic condition of
an e n te rp rise , th o se who read fin a n c ia l re p o rts are very
s
lik e ly to attach .-to them th e same degree o f f in a lity and
p re c isio n th a t th ey would a tta c h to m athem atics. For p u r
poses o f v e rific a tio n as to accuracy o f a d d itio n and sub
tra c tio n , th is assum ption is p e rfe c tly c o rre c t; fo r purposes
of proper in te rp re ta tio n of th e fig u re s, or of a sc e rta in
ing, fo r exam ple, w hether a c e rta in item should be c a p ita l
ized fo r fu tu re am o rtizatio n or charged as a cu rren t ex
pense, th e assum ption th a t re p o rts are acceptable re g a rd le ss
of the m eaning behind them sim ply because they are a rith m e t
ic a lly c o rre c t, can lead one fa r a fie ld from th e r e a litie s
of a s itu a tio n . A ccounting in one sense is an exact science,
su b ject to m athem atical p re c isio n , but in another sense i t
is a re la tiv e scien ce, c o n sistin g la rg e ly o f statem ents o f
opinion which are su b ject to in te rp re ta tio n s and in d iv id u a l
judgm ents *
In a p p reciatin g th e d if f ic u ltie s under which fin an
c ia l statem ents are prepared, i t must be kept in mind th a t
accountants are the em ployees of th e management of corpora
tio n s , and in both broad and sp e c ific ways are su b ject to
th e ir d e sire s. In p rep arin g th e ir re p o rts, accountants may
be forced to compromise between th e d e sire s o f th e manage
ment and th e ir own self-im posed stan d ard s, so th a t w hile a
statem ent may not be in s tr ic t accordance w ith th e ir stan d
ard of p ra c tic e , i t may, n e v e rth e le ss, rep resen t th e b est
p o ssib le method of se ttin g fo rth a l l th e d ata, when th e
4
re s tric tio n s surrounding th e case are considered.
As an illu s tr a tio n , many larg e co rp o ratio n s had un
broken earning and dividend records fo r tw o, th re e , and more
decades p rio r to 1932, but in th a t y ear p ro fita b le opera
tio n s were most d if f ic u lt to m ain tain . Would i t not be
q u ite n a tu ra l fo r the management to w ish to keep the record
of p ro fits unbroken i f a t a l l p o ssib le w ithout tak in g too
g reat lib e r tie s w ith the accounting p o licy ? From an exam
in a tio n of sev eral hundred re p o rts, th is assum ption appears
to be p e rfe c tly tru e , and th e su sp icio n is stro n g th a t many
com panies, both a t th a t p a rtic u la r tim e as w ell as subse
quently, have taken too many lib e r tie s in th e ir fin a n c ia l
statem ents subm itted to sto ck h o ld ers. F o rtu n ately , th e
standards of accounting p ra c tic e have advanced so ra p id ly
In th e p ast th ree decades through th e profession*^ own e f
fo rts , and through Industry*s e ffo rts tow ard u n ifo rm ity ,
th a t in the not to o d is ta n t fu tu re most of th ese abuses may
have disappeared.
There is a v a st d ifferen ce in th e q u a n tity of in
form ation divulged by any re p re se n ta tiv e group of corpora
tio n s . To a larg e degree th ese varying q u a n titie s of in
form ation, as w ell as d ifferen c e s in accounting p o licy , may
be a ttrib u te d to v a ria tio n s in th e requirem ents o f dissim
ila r in d u s trie s . However, even w ith a sin g le In d u stry th e
re p o rts of one company may d iffe r from those o f another
