The vast majority of companies that reported their fourth-quarter earnings between Jan. 1 and Feb. 1 did so without completing an audit, a practice that experts say could have troublesome consequences.
Data provided by research firm Audit Analytics shows that of 174 companies with a market cap of at least $10 billion that reported earnings in that period, just six filed their 10-K and auditors report with the Securities and Exchange Commission on the same day or earlier.
That means the remaining 168 put out unaudited full-year numbers, or only partially audited numbers with their earnings announcement. A recent study found that auditors in that situation can feel pressure to stick with the numbers that have already been released and are reluctant to suggest corrections or adjustments.
“The companies who are filing earnings and 10-Ks with auditor’s opinions are making a conscious effort to produce accurate reporting,” said Joseph Schroeder, an assistant professor of accounting at Indiana University, and co-author of a recent research report on auditors’ judgments when companies release earnings before audit completion.
“They want investors to have timely information but they also want the information to be reliable,” said Schroeder.
Those companies are also clearly working with their auditor to get the full 10-K filing to investors quickly, a sign that they have robust accounting systems that can produce the information in a timely manner after year-end, he said.
One of those companies, tobacco giant Altria Inc. MO, +0.25% , agreed.
‘Earnings reports have become less and less reliable, and investors are understandably increasingly skeptical. The next step should be increasing skepticism about boards who permit sloppy, unaudited numbers to be released, and I predict we will begin to see withholding of votes for audit committee members who allow this to happen.’ Nell Minow, ValueEdge Advisors
“We maintain disciplined systems of internal controls and financial reporting and have open, ongoing communication with our independent auditor, which has allowed us, for a number of years now, to disclose our year-end earnings and audited financial statements at around the same time,” an Altria spokesman told MarketWatch.
United Rentals Inc. URI, +0.25% , another timely filer, said its success in getting year-end results out at the same time as the 10-K and auditor’s report is the result of people, process and systems.
“There is a tremendous amount of focus, coordination, and effort that goes into our quarterly and year-end closing processes,” Andrew Limoges, United Rentals’ vice president and controller, told MarketWatch.
“It begins with our experienced and technically strong team, which is aided by the architecture of our ERP and General Ledger systems. In addition to providing high quality and timely financial support, we also partner with our auditors to help drive efficiencies. Combined with good planning and prioritization, we’ve been very pleased with our ability to rapidly complete our SEC filings around a tight close process,” said Limoges.
The other four companies that had timely audits are Amazon.com Inc. AMZN, -1.62% , satellite radio company Sirius XM Holdings Inc. SIRI, +0.89% cable and media company Charter Communications Inc. CHTR, -0.10% and defense contractor Northrop Grumman Corp. NOC, +0.75% . Charter actually filed its 10-K a day before its earnings release, while the others filed their on the same day earnings were reported.
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A significant lag between an earnings release and 10-K filing can be a big deal.
Citigroup Inc. C, -1.27% , for example, did not file its 10-K for 2017 until 18 days after its earnings release, and it may have made a difference for investors. The bank reported a net loss of $6.2 billion on Jan. 16, 2018, including an estimated negative impact of $22 billion related to the new tax law. But in the 10-K filed later on Feb. 23, the net loss was nearly 10% wider at $6.8 billion, and the negative impact of tax reform was reported as $22.59 billion.
Citi kicked off earnings reporting season this year on Jan. 14 and has yet to file its 10-K.
Meanwhile, United Continental Holdings Inc. UAL, +0.35% , Delta Air Lines Inc. DAL, +0.12% , JPMorgan Chase & Co. JPM, -1.00% , Wells Fargo & Co. WFC, -0.89% and UnitedHealth Group Inc. UNH, -2.64% took 17 days to complete their filings last year. This year, the companies all reported results in January and have not yet filed 10-Ks.
Another 11 companies had lags of 16 days, while seven took 15 days and five took 14 days.
Nell Minow, vice chair at ValueEdge Advisors, said lag time is bad news for investors who rely on earnings to provide a clear view of a company’s financials.
“Earnings reports have become less and less reliable, and investors are understandably increasingly skeptical,” she said. “The next step should be increasing skepticism about boards who permit sloppy, unaudited numbers to be released, and I predict we will begin to see withholding of votes for audit committee members who allow this to happen.”
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To be sure, a delay in filing a 10-K does not break SEC rules. Rules stipulate that large accelerated filers, or companies with market values of at least $700 million, have 60 days from the end of the fiscal year to file.
Accelerated filers, or companies with market values of $75 million or more but less than $700 million, have 75 days from the end of 2018, which this year means March 16. And nonaccelerated filers, or companies with market values of less than $75 million, have 90 days from the end of 2018, meaning March 31 this year.
But the practice of leaving a wide gap between an earnings release and the release of a fully audited 10-K leaves auditors that find adjustments are needed in a tough spot. They know that the market will react negatively to a revision, particularly a downward revision, and that can make them reluctant to push for changes. That risk increases if the auditor fears losing a client or is too close to the client.
“In this situation, auditors frequently exhibit biased decision processing and lower judgment quality after adopting the client’s financial reporting goal of avoiding any adjustments,” Schroeder said last month when interviewed by MarketWatch.
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The practice of leaving wide gaps has exploded in the last 15 years. Before 2004, about 75% of annual earnings announcements were released on or after the audit report date, but the Sarbanes-Oxley Act of 2002 added additional audit requirements related to internal control audits and audit workpaper documentation that resulted in audits taking 16 days longer to complete, on average, according to another research paper published in 2010.
That paper found that audit lags in 2000 to 2003 period averaged 46 to 50 days, only to widen to 62 to 65 days from 2004 to 2005.
“To the extent the new regulations increase the proportion of firms announcing earnings prior to the audit report date, we expect a commensurate decrease in the reliability of preliminary earnings information in the marketplace,” wrote the authors of that report, which was published by the Harvard Law School Forum on Corporate Governance and Financial Regulation.
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