A General Motors Chevrolet Traverse and Buick Enclave vehicles go through the assembly line in Lansing, Michigan.
How is it that auto companies spend so much money and there is such vague disclosure on where it’s going? Or how their ambitious projects are progressing? Investors should be pushing accounting standards boards and companies to give them more.
With the onset of electric cars and autonomous vehicles, companies are increasing their focus on technology and technical know-how over the traditional nuts and bolts of putting vehicles together. But it’s hard to see this in their financial statements.
These firms splash out on research and development budgets — they are some of the biggest spenders in the corporate world. But there are few details about how this money is being allocated as it finds a home in intangible assets, or other undetermined line items. Several other associated costs like information technology and employee training get buried.
Part of the problem is, investors aren’t asking for more — and they could be a potent force. Instead, they turn elsewhere for alternative information. For instance, on Thursdays they crowd up the U.S. Patent Office website to see what companies have been up to over the last 18 months. What’s registered for any number of technologies, the scope of inventions and how far firms have progressed, gives a sense that real work is being done. Such details around technological attributes will “alleviate investors’ information uncertainty surrounding R&D activities,” a December draft study on patent disclosures by New York University’s Deepak Hegde finds.
In the U.S. and elsewhere, companies sometimes provide numbers they don't necessarily have to disclose but that may give investors something more to work with, like adjusted earnings before interest and taxes, or free cash flow. Sifting through management discussion and analysis can also give some clues.
None of it is really scientific — it’s mostly an art.
In the past, companies operating in industries where technology is changing swiftly and there is obvious value-creation through intangibles have been pressured to disclose more. In “The End of Accounting and the Path Forward for Investors and Managers,” Baruch Lev, a professor at New York University, and co-author Feng Gu trace this. A review of pharmaceutical giant Pfizer Inc’s annual 10-K filings showed that in the 1990s the firm said a lot less about its product pipeline than it did by the end of the decade. But what motivated this, the authors write, was demand from investors and analysts for more relevant information by asking more detailed questions on earnings calls. This wasn’t an effort to diminish the firm’s “credit for enhanced transparency.” Now, extensive disclosure is the norm in the pharma and biotech sectors.
In the auto industry, despite the enormous pronouncements over the last few years, no-one’s asking the hard questions. Earnings calls are still peppered with inquiries about targets and aspirations, and broad electrification strategies. But analysts seem content with vague answers.
In General Motors Co. fourth quarter earnings call in February, an analyst asked “I’m just trying to understand strategically, over the next 10 years, 15 years, is GM ready to shrink or is GM going to be aggressive?” In response, chief executive officer Mary T. Barra said, “I think we’re going to be aggressive because I think we’ve got the technology, we’ve got the talent, we have the manufacturing capability.”
There’s a growing sense of complacency around these large, old-school firms. With auto companies’ financial statements, investors now tend to ignore topline information like earnings and margins. Instead they turn to cash flows. As Arndt Ellinghorst, an analyst covering the sector from Sanford Bernstein points out, there are “factual differences in accounted costs” across companies. “Cash earnings are very different from P&L [profit and loss] earnings.”
Varying capitalization, and depreciation and amortization schedules “have created multi-billion distortions between companies’ cash and accounting earnings.” The latter, he says, tends to create the “illusion of profits.”
This needs to drive more open investor dissatisfaction. Vague statements and numbers shouldn’t be okay.
Stellantis NV, for instance, formed out of the merger of Fiat Chrysler Automobiles NV and PSA Group, said in its 2020 full year financial filing, released in March, that a part of the cost of revenues 1 “contribute to regulatory compliance” but “are not separately quantifiable” because they’re elements within broader initiatives relating to powertrain upgrades and alternatives.
Meanwhile, details on asset write-downs tend to be unspecific. They could relate to money poured into previous, unsuccessful efforts on technology, for instance. That’s surprising for the incumbent automakers that tend to have the highest average after tax write-downs and new entrants that are even higher on a per asset basis, according to data compiled by New Constructs LLC.
More broadly, dealing with research and development costs in financial statements has been an area of research for decades. Over time, how firms manage these line items has evolved too. However, the root of the issue still holds: There isn’t much disclosure, uniformity or a way to value future benefits.
As the auto industry undergoes a structural change, giving everyone more information to work with could help. For instance, the electrification overhaul means there will be large costs around recalls as the trial and error process continues. And that’s okay. However, stakeholders should be able to see how far the impact goes beyond just a lump-sum cost, provisions or a backward-looking impact to net income.
Disclosure may be the best way to faster electrification.
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In connection with FCA Group results
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
To contact the editor responsible for this story:
Ruth Pollard at rpollard2@bloomberg.net
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