Analysing what's wrong with the analysts

AS THE season of goodwill approaches, this column is going to bat for the downtrodden and unfortunate. London's mayor and company analysts should be top of anyone's list. Some of my best friends are analysts. They are having a bad time. There is one particular unfortunate, whom it would be unkind to name. He thought that Enron was a strong buy, just before the company went belly up.

The incident is instructive. How could anyone know what the company was worth? Even the management probably hoped for survival. The accounts were certainly no help. The management has admitted they were meaningless. Past profits were overstated by zillions.

It is standard practice to value firms on the basis of earnings. But no-one knows what these earnings are. This poses a conundrum to the honest and offers an opportunity to others.

The problem is not just the particular lies of individual companies, it is general. Accountants, using what are called generally accepted principles, tell us the US stock market sells at 40 times earnings. But it is hard to sell at these multiples. So what is generally accepted is unacceptable to analysts. If you ask an analyst the market's price-earnings ratio he will give you another figure. Readers would not expect it to be higher.

But seriously, what are analysts expected to do? It is a job for which pessimists need not apply. Shares are bought in ignorance, sold in panic.

Edward Chancellor has spilled the beans in the November edition of Prospect Magazine. He recounts how a friend applied for a job as an analyst - possibly we share some of the same friends. His friend was faxed the headhunter's meeting notes with the company - by mistake, we must assume. These made clear the applicant should 'have no pretence as to how the analysts' business works...corporate finance is a critical part of the group and the bank does not want analysts who are prissy about their independence. They need to be strong on marketing'.

The final punchline was that applicants should be in need of money - expensive tastes, big mortgages, schools etc. If this is the kind of person you want, you will no doubt get them.

I have worked with many decent, honest, upright analysts over the past 40 years. They must despair at the way their trade has been degraded. No reasonable man will blame the people or excuse the system. The City needs to recognise things have gone wrong.

When things go wrong, it is a problem of motivation nine times out of 10. This is made plain by the headhunter's notes. Paul Myners' suggestion for cleaning the Augean stables was to abolish commissions. His idea should not be allowed to die. If analysts were paid by corporate finance departments their nonsense would be above board.

Anyway, I have done my best to defend analysts. Readers will have to wait for my defence of Mayor Ken Livingstone.

www.smithers.co.uk