What does PetroChina have in common with Exxon Mobil? Hutchison Whampoa with Wal-Mart? China Mobile or Cheung Kong with Cisco Systems, Intel, or Dell? The answer in all cases is most interesting: nothing -- not when it comes to accounting standards, anyway. And to put my conclusion first, thank goodness for this.
The thought arises from a superbly executed piece of research just published by CLSA Emerging Markets, the research side of Credit Lyonnais Securities Asia. CLSA consultant John May set out to compare the relative merits of Asian and American accounting standards -- an interesting exercise in the era of Enron, Arthur Andersen, and "pro forma" reporting of earnings. May's conclusions stand our generally accepted (if you will) assumptions about accounting practices East and West more or less squarely on their heads.
It turns out that the Asian companies in May's sampling have far NASDAQ-reliable reporting habits than companies atop the NASDAQ and the S&P 500. Who ought to be learning from whom, you have to ask?
That Asian companies suffer a stock-price penalty because of lower, sloppier, less stringently codified and regulated accounting practices has been a given for years. The quality of earnings reporting among US companies is so much higher, you see, and this justifies higher price-to-earnings ratios among US listings.
The idea doesn't come from nowhere. Asian markets are less developed than those of the US and the West in general. A scandal a season was the general rule when I first got to Asia 20 years ago, and a lot of them had to do with cooked books.
Investing in Asian markets consequently had a high-wire aspect to it.
The penalty is perfectly measurable today. Applying the US-backed Generally Accepted Accounting Principles (GAAP) as the yardstick, May's samples yielded the following: P/E's of leading NASDAQ-listed companies were 159 times earnings during the first three-quarters of last year; for S&P 500 companies, the figure was 37, and for the companies in his Asian sample, share prices were a mere 8.4 times earnings.
Measured according to the higher earnings the companies proclaimed in their press releases, the US ratios were less out of line: a ratio of 52 for NASDAQ, 31 for the S&P 500.
May measured the distance between GAAP and the increasingly popular use of pro forma earnings -- profit excluding whatever expenses the companies say shouldn't really count. "For the top five NASDAQ companies, pro forma earnings were 206 percent better than GAAP earnings," May says in The Gap in GAAP, his CLSA report. ``For the top five S&P 500 companies, earnings were 17 percent better, while taking the S&P 500 as a whole, earnings improved by 57 percent."
What happened with his Asian sampling? When May applied GAAP standards to their earnings reports, the difference went the other way: Asian companies had understated their earnings by 3.2 percent. May's explanation is simple: "Analysis of Asia's top five companies by market cap [and a sample of others]," he writes, "indicates that reporting in Asia has not been infected by the pro forma virus that is running rampant in the US."
I love May's designation of his samples -- they sound like outlaw gangs. "The NASDAQ Five" are Microsoft Corp, Cisco Systems Inc, Intel Corp, Dell Computer Corp, and Oracle Corp.
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