There’s no denying General Electric (NYSE:GE) has waved enough accounting red flags since early 2017 to lend some credence to Harry Markopolos’ fraud claims. In short, Markopolos says the company’s propagating a $38 billion accounting fraud that could ultimately make General Electric stock worthless.
There’s a flipside to that coin though. The approach Markopolos has employed is suspicious. Further, accusations that he’s only looking to drag the GE stock price lower — on behalf of a hedge fund with a short position — don’t seem far-fetched.
And “suspicious” was the exact word that former SEC Chairman Harvey Pitt used in assessing the saga thus far.
But what arouses the most distrust is Markopolos’ color and nature of his 175-page slideshow. He based his expose on publicly available data. Arguably, such information would have raised alarms already if there was something to it.
Markopolos Report Aims for Emotional Response
Markopolos’ exact words? The alleged accounting scandal GE has created is “bigger than Enron and WorldCom combined.”
And perhaps it is.
Everything else about the report, however, reads more like a sales pitch than a legal, or even accounting-based report. In it, we don’t find out what exactly was fraudulent about GE’s admittedly flawed oversight standards.
Case in point: further into the report’s introductory paragraph, Markopolos writes, “It’s been 17 years since WorldCom so we’re long overdue for something like GE.”
How does one quantify or qualify a period of time as a likelihood for the next major accounting scandal?
It’s the last paragraph of the report’s introduction, though, that’s so eyebrow-raising. He notes, “If you love analyzing accounting fraud as much as we do, we’re sure you’ll find our slide deck a gripping read.”
Read that sentence again very carefully. It’s possible Markopolos and his team approached the matter with an agenda. The statement also tacitly instructs anyone who can actually bore through a mind-numbing number of slides how they should feel about General Electric, and GE stock, afterwards. Indeed, the heavy use of adjectives, adverbs and ugly comparisons like WorldCom and Enron are meant to invoke an emotional rather than rational response. At one point the commentary even compares GE’s long-term care insurance accounting standards to “Soviet era transparency.”
Plus, the report was prepared for an unnamed hedge fund with a short position in General Electric stock. Thus, this erases any doubt that Markopolos was trying to drive the GE stock price down.
GE Stock May Not Be an Opportune Target After All
Jacob Frenkel, former senior counsel for the SEC Division of Enforcement, suggested the SEC would want to explore Markopolos’ “intent behind issuing the information publicly” as part of any subsequent investigation. That’s especially true now that Markopolos disqualified himself from as much as a 30% whistleblower bounty by not approaching the SEC instead of publicly touting the accusation.
Except, maybe it isn’t all that surprising after all.
The SEC’s whistleblower program is well intended, even if some aspects of it are poorly conceived. One clever nuance of the program, however, is that it only awards the bounty of between 10% and 30% on the money collected from proven fraud if the information is new, or had been obscured.
As Markopolos acknowledged, all of the information utilized to create the report was already publicly available. Again though, that being the case, it’s likely the red flags would have been raised before now.
To that end, a thorough read of each slide calls into question the soundness of some of the underlying logic. For example, on slide 14, Markopolos asks “How does a 3% loss lead to a $22 billion write down?” That was referencing the 2018 loss GE’s Power division reported. This was the same year it took a huge accounting charge largely related to the acquisition of Alstom that turned out to be a bust.
The answer to his question is, the loss was an operating one. The write down in question was a balance sheet matter. The two aren’t necessarily related.
The shadow of doubt cast on the company — in bold red print no less — certainly took the hoped-for toll on the GE stock price at that time though.
Much of the report reads the same way.
Bottom Line for General Electric Stock
In his defense, Markopolos does raise some legitimate concerns. It would be naive to think all of General Electric’s dirty laundry has already been exposed, even to insiders. This is a behemoth of a company. And it operates several distinct divisions with what’s arguably not enough of a firewall among them.
This is the same company that disclosed not just a $22 billion write down on its Alston deal, but a $6 billion charge against its insurance business early last year. If the company was looking to cover something up, it’s doing a poor job of it.
Is its accounting oversight sloppy? Sure. Self-serving? Probably. But fraudulent? That’s a tough claim to prove, and Markopolos arguably didn’t.
The great irony is, had he focused instead on his best three specific arguments, and explained them in a way free of color and bias, he may have gotten traction. Instead he focused on quantity rather than quality, laying out 144 slides’ worth of more criticism than substance. It’s unlikely many people will be able to read through it all.
Then again, maybe that was the point.
Perhaps there’s something to it. But somehow, the recent weakness in General Electric stock feels more like an opportunity than a glimpse its future.
As of the time of this writing, James Brumley did not hold a position in any of the aforementioned securities. To learn more about James, visit his site at jamesbrumley.com, or follow him on twitter at @jbrumley.