Howard M. Schilit - Financial Shenanigans: How to Detect Accounting Gimmicks and Fraud in Financial Reports

Copyright 2018 by Howard M. Schilit. All rights reserved. Except as permitted under the United States Copyright Act of 1976, no part of this publication may be reproduced or distributed in any form or by any means, or stored in a database or retrieval system, without the prior written permission of the publisher.

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In loving memory of Rob Schilit, Howards dear brother,

who contributed enormously to prior editions of

Financial Shenanigans, and is an ongoing source of inspiration.

He is sorely missed.

PART ONE
ESTABLISHING THE FOUNDATION

PART TWO
EARNINGS MANIPULATION SHENANIGANS

PART THREE
CASH FLOW SHENANIGANS

PART FOUR
KEY METRIC SHENANIGANS

PART FIVE
ACQUISITION ACCOUNTING SHENANIGANS

PART SIX
PUTTING IT ALL TOGETHER

Reflections on My Last 25 Years

Howard Schilit

Fall 2017

Dear Friends,

Having recently reached my sixty-fifth birthday, I began reflecting on my life and the many changes over the last quarter century since writing the first edition of Financial Shenanigans. In short, I feel very blessed. On a personal level, my wife Diane and I love spending time with our three young grandchildren, and are eagerly awaiting our fourth. Professionally, I am enjoying building my second business, a forensic accounting consultancy called Schilit Forensics, with my fantastic partners and coauthors, Jeremy Perler and Yoni Engelhart.

In addition to the research engagements we work on for our clients, we spend a fair amount of time teaching the trade of forensic accountingto investors, regulators, journalists, and graduate students. After a recent presentation at Stanfords Graduate School of Business, my partners and I realized that seven long years had passed since publication of the last edition of Financial Shenanigans and that almost 25 years had passed since the first edition. Over that time, more than 100,000 readers have purchased the book around the globe, including translations in Chinese, Japanese, and Korean. Weve learned a lot in the intervening years, and as such we felt it timely to share with you the latest accounting tricks as well as a more considered account of the most important lessons from the last quarter century.

But before turning the pages forward to begin this new edition of Financial Shenanigans, lets turn back the clock 25 years to share the beginning of my search for shenanigans and the unexpected and exciting journey since 1990.

As a professor of accounting at American University in Washington, D.C., I began researching the most prominent accounting frauds over the prior 40 years. Many have been documented in Accounting and Auditing Enforcement Releases (AAER) at the U.S. Securities and Exchange Commission (SEC). I began using many of those interesting vignettes in teaching my Intermediate Accounting and Auditing classes. As I saw that the students found those stories fascinating, I started publishing articles on this subject to share with a larger group. And, of course, the next logical step to reach an even greater audience was to write a book.

Shortly after my forty-first birthday, in early 1993 McGraw-Hill published the first edition of Financial Shenanigans. The book introduced readers to seven broad categories of earnings misrepresentations, identified 20 discrete techniques that management might employ, and sprinkled in many examples of actual companies that had been sanctioned for tricking investors.

A few pleasant surprises emerged after the book was released. First, lots of readers reached out to thank me for shedding light on the steps that investors could take to safeguard their wealth. Second, the book had made its way into the ranks of big institutional investors, who sought to hire me to train their analysts on how to spot companies playing accounting games. Eventually they began asking me to examine the companies in their portfolios. Fortunately, on several occasions, I was able to use these techniques to alert them of major problems, and they were very thankful for keeping them out of harms way.