Author Archives: praneetha.chilumuri

This is an article in the Financial Times dated 11/22. It discusses the effect of Nestle shifting from one method of revenue recognition to another. This example shows how companies have different ways of reporting and the effects/ repercussions of shifting from one method to another.
“Some SFr16bn ($16.1bn) of turnover will vanish from Nestlé’s top line when the world’s biggest food group changes the way it reports revenues on January 1 next year. But the move, which brings it into line with the rest of the industry on accounting for promotional discounts, would have the benefit of boosting Nestlé’s emerging market exposure from about 35 per cent to about 40 per cent, said Jamie Isenwater, analyst at Deutsche Bank.
The reporting shift will put the proportion of Nestlé’s revenues from emerging markets level with that of Danone, the French dairy products group, although still below Unilever’s 50 per cent. Nestlé has been an outlier among peers by reporting revenues without deducting promotional discounts. This means, for example, a two-for-one deal on Kit Kats is reported on the top line as two packs even though the second one generates no revenues.
From January these promotional discounts will be subtracted from the proceeds of sales. The move will reduce Nestlé’s reported sales, which came in at SFr108bn last year, by about 15 per cent, the company said. Mr Isenwater said: “So the purely mathematical impact is that developed market sales fall by SFr16bn and those in emerging markets don’t change.”
In a statement, Nestlé said the changes would “reduce reported sales by about 15 per cent as expenses such as discounts … and promotions for retailers will in future be deducted from proceeds of sales”. It added: “The change will, however, have no impact on absolute net profit, earnings per share, cash flows or items on the Group’s balance sheet.”

A company’s future depends not only on the revenue generated but also on the investor psychology. If investors keep faith in the company, its chances of survival are high. This relation between the investor psyche and a company’s future makes most companies paint a picture-perfect future! However, the auditor steps in as a guardian and ensures that a true picture is projected.

MD & A may not always be the best indicator of the “real” deal.In the Pan Am case, Pan Am MD & A looks highly optimistic  and uses positive indicators like “strong revenue and passenger traffic” and costs due to” efforts to improve” to describe the road-map. However, the auditor report draws a a grim picture with doubts about the going concern capability of the airline company. Similarly, Trinsic speaks of an optimistic future where they “anticipate” and “expect” higher revenue.

In most cases to boost investor morale, the company makes efforts to negate the effect of the auditor’s report. To justify the report, it may resort to use of English language, attribute losses to global events and “positive” efforts by the company to improve service. Few such examples are, use of positive words like “high”, “better” and “strong”, changes attributed to world currencies against US dollar etc.

Moral of the story: As an investor you may want to look beyond the silver lining, into the thunder and lightning!