Terry Smith Straight Talking

Cameron's veto was consistent with history

There was a wonderful letter in the FT yesterday from a Mr Shenkman. He has clearly got a better grasp of history than those who have claimed that David Cameron’s veto of changes to the Lisbon Treaty and the UK’s alleged isolation as a result is in some way a reversal of British foreign policy towards the Continent.
 
I have a strong interest in history as I have a first class honours degree in the subject and in my view Mr Shenkman is right. For hundreds of years Britain’s successful policy with regard to the Continent has been to ally with the weaker powers to prevent a single power dominating the Continent. This which would have been to our detriment as an island off the coast of mainland Europe whose prosperity has depended upon trade with the wider world.
 
This policy was implemented during the Napoleonic Wars when the successful military intervention of Nelson and Wellington prevented the Continental System from being imposed upon Europe, and again in the twentieth century with two world wars fought against Germany.
 
There may no longer be a military dimension to the current problems in Europe (although I think we should hesitate before dismissing that possibility given the historic instability of south east Europe). There is, however, little doubt that the Eurozone has been used as an instrument for Germany to dominate the Continent through productive might and David Cameron’s veto is consistent with the aims of centuries of successful British policy on Europe which it would be foolish to abandon.

 

Financial Times, Letters to the Editor
Long tradition of holding other powers in check
From Mr Gregory Shenkman.

Sir, Perhaps the history I studied at Cambridge was different to that absorbed some years later by Jonathan Powell at Oxford (“Cameron has betrayed 200 years of history”, December 12). Mr Powell suggests....

Read the full text at http://www.ft.com/cms/s/0/9f1ca328-1c4c-11e1-af09-00144feabdc0.html#axzz1gJnGZzdi

 

(Those of you without a subscription can access a limited number of articles each month via FT.com's free registration.)

Isolation Hysteria and the IMF

I am frankly amazed by the outpouring of hysteria from some politicians and the media on the subject of David Cameron’s use of the veto over changes to the Lisbon Treaty.

To listen to some in politics and the media bemoaning what they claim is the resulting ‘isolation’ of the UK you would think that the UK should accede to any request from the EU in order to avoid this fate. Why? The Euro, which these proposed changes were designed to support, has been a predictable disaster for almost all the countries involved other than Germany.

It is also worth bearing in mind that many of these commentators-such as Ken Clarke and Michael Heseltine- were vociferous supporters of us joining the Euro. Indeed, Michael Hesletine thinks we still should-an unusual case of trying to join a sinking ship. Had we done so, we too would now be bankrupt and quite possibly governed by an unelected official appointed by the EU, as Greece and Italy are. These commentators were wrong when they wanted us to join, so why should we listen to them now?

We should now move onto redefine and renegotiate our relationship with or within the EU, starting with the question “What do we get for the£50m per day we send to Brussels?”. If we do not get what we want, we should accept that the UK’s future, like its past, success will lie in being an open economy servicing and trading with nations with which it has historic connections in the Americas, Asia, Africa and Europe.

One aspect of the “deal” at last week’s EU summit puzzled me. It was seeing Christine Lagarde, the Managing Director of the IMF (a Frenchwoman-her predecessor being maybe not coincidentally a Frenchman) proudly announce that the EU countries (other than Britain’s) central banks were going to make loans to the IMF of €200 billion. This might seem counter intuitive-how can countries which are to put it mildly short of money make a loan to someone else? Of course the answer is that the funds would be loaned to the IMF for it to loan back to the Eurozone.

That is obviously a circular piece of none too subtle legerdemain, but the hope was that other countries would join them with additional funding. This hope was rather dashed when the Canadians immediately announced that they has no interest in subscribing funds to rescue the ‘rich continent’ of Europe. Sensible people the Canadians: they dragged themselves back from being a basket case in 1994 with spending cuts which restored a budget surplus and have not experienced a banking crisis. They also just announced withdrawal from the Kyoto protocol on climate change. Following the refusal of China to take part in such nonsense despite the myriad rumours, I can only assume that this latest leg to the circular Ponzi scheme that is now the Eurozone is a non starter.

The Brown Bottom

With the gold price hitting new nominal highs I thought it was a good moment to remind ourselves about the consequences of Gordon Brown’s sale of much of the UK’s gold reserves.

In 1999-2002 he sold 395 metric tons of gold at an average price of $275 an ounce. Today the price stands at $1749 an ounce. No wonder Brown’s sale on the gold price charts is known as The Brown Bottom. He also gave notice to the market that the sales would take place, thereby giving market participants every opportunity to drive the price down in advance.

Here are my calculations of the value which would have accrued if we still held the gold today:

	Sold then	Value now
	99 - 02	2011
Quantity sold tons	395	395
Average price $/oz	$275	$1,700
Sum realised US$m	$3,477	$21,492
Exchange rate avge.	$1.52	$1.63
Sum realised £m	£2,287	£13,185

The 2012 Olympics are estimated to cost some £9billion, so we could have paid for the Olympics with the amount of value he surrendered and had over £2billion in change left.

As of December 2010, estimated gold reserves were as follows:

US	8,133 tons
Germany	3,401 tons
Italy	2,452 tons
France	2,435 tons
UK	315 tons

The impact of the man’s stupidity is breathtaking.

 

The Today Programme, BBC Radio 4 Interview on 14 April

This morning I was interviewed on Radio 4’s Today Programme about share buybacks. Friend or foe to shareholders? Destroyer or creator of value?  You might think the answer is obvious, but think again.

Almost 20 years on from publishing my book, Accounting for Growth, I am exposing another loophole in the accountancy rules which is allowing companies to appear to have created value when they have not.  You can listen to the interview here at approximately 2:42 hours, and read my arguments in full here.

 

Share buybacks - Friend or Foe?

Almost 20 years on from publishing my book, Accounting for Growth, I am exposing another loophole in the accountancy rules which is allowing companies to appear to have created value when they have not.

Today I am publishing a paper scrutinising the in vogue use of share buybacks - are they a friend or foe to shareholders? Do they create or destroy value? You might think the answer is obvious, but think again.

The problem is that when a company repurchases shares they disappear from the balance sheet and this can be used to distort measures of company performance.  Simply by executing a share buyback rather than paying out dividends, companies can inflate their Earnings Per Share (EPS) and are almost universally seen to have created value for shareholders when mostly they clearly have not.

Capital allocation decisions are amongst the most important decisions which management of companies make on behalf of shareholders. Yet share buybacks are not sufficiently understood by company investors and commentators, and maybe even by company management. One of the most important facts that is continually overlooked is that share buybacks only create value if the shares repurchased are trading below intrinsic value and there is no better use for the cash which would generate a higher return.

Most share buybacks destroy value for remaining shareholders, and management is able to get away with this as the current accounting for share buybacks conceals their true effect.

So what needs to change?

1. Management should be required to justify share buybacks by reference to the price paid and the implied return and compare this with alternative uses for the cash. 
2. Investors and commentators should analyse share buybacks on exactly the same basis as they would if the company bought shares in another company. 
3. Investors and commentators should use return on equity to analyse the effect of share buybacks rather than movements in earnings per share.
4. Share buybacks need to be viewed with more than average scepticism when done by companies whose management are incentivised by growth in EPS. 
5. Accounting for share buybacks should be changed so that the shares remain as part of shareholders funds and as an equity accounted asset on the balance sheet in calculating returns. 

My analysis is detailed and presented in the form of a paper with accompanying PowerPoint slides (which can be accessed below) - for any shareholder, analyst or director, I can guarantee it is worth a close read.

 

 

The Rain Makers

Published in the Sunday Business March 1999

When he published accounting for growth in 1992, Terry Smith was doubly damned: his employer UBS Phillips and Drew, sacked him and then sued him. Smith’s “crime” was to use real company accounts, indeed some of his own clients’ accounts, to illustrate his bullet-point exposé of creative accounting techniques

Some of the companies got wind off their inclusion and made loud noises , UBS P&D told him to withdraw the book; Smith their head of research, refused and had to walk.

The controversy did Smith a great favour, although he would not have said so at the time. He had lost a job, had a young family to support and faced a legal battle with a triple-A-rated bank. But in the end accounting for growth sold more than 100,000 copies, becoming a standard text on many business courses.

And now he is about to publish again. His new book, Corporate Pathology, looks at why companies die and dissects the remains of some of the biggest corporate collapses of recent years. It may not foment the furore Accounting for Growth inspired, but is likely to be read just as avidly. The mention of Smith’s name may provoke fear and loathing in some of the country’s grandest boardrooms, but it also commands respect.

UBS ought to have known better than to expect Smith to back down. He had come to them after a falling out with his previous employer, BZW. It was Smith who wrote the infamous sell-note on the company’s parent, Barclays. The bank tried to put a brave face on it, claiming it illustrated the independence of its research, but Smith’s card was marked. When he was passed over as head of research he left.

For the past seven years Smith has been a director of Collins Stewart, the boutique stock broking outfit, where he handles a growing number of institutional clients.

It is the kind of company that suits him. “Terry was never one to work for a big company,” says a friend. “He could never toe the party line they impose. Collins Stewart is small enough and Terry’s role big enough to keep him happy.” Collins Stewart also keeps him very busy, especially now the firm handles European stocks and is about to open a New York office.

Smith is known for his hard work, high standards of professional conduct and a self confidence that led one former colleague to remark, jokingly, “The words: I’m not infallible but I could be wrong were made for him.”

His methodology is based on rigorous attention to accounts, with special emphasis on cash flow. He has no time for those who merely talk to directors about the state of their company and then reproduce their comments as fact. “That’s not doing analysis,” he says, “that’s taking dictation. “The answers he insists are in the numbers.

Colleagues within Collins Stewart regard him as a personable and approachable man and his sense of humour, often self-depreciating , is much valued. He is as ready to talk of his East London roots as he is of his love of horse riding with his daughters, hunting in the Essex Countryside, and vintage cars.

His accent is educated estuarine, more Trevor Brooking than Trevor McDonald, and some have tried to characterise him as an East End David taking on establishment Goliath or as a barrow boy with attitude.

But Our Tel, as he mockingly refers to himself, I was never a Del boy. A first in history and an MBA underpin an intellectual acumen highly regarded by investors whose cause he champions against “companies that take liberties.” His system of analysis, he says is an adversarial one: corporate finance advisors and investors are not on the same side and if one has to fight to get at the facts, then fight he will.

Sir David Tweedle, chairman of the accounting standards board, has no doubt of the value of Smith’s work, especially Accounting for Growth. Terry’s twelve bullet-points, or blobs, married with our own agenda here and his book highlighted for all how close to the wind some companies were sailing back in the Eighties. It ripped apart what was allowed to happen then we have now tackled all those “blobs.”

A former colleague summed up “Terry can be very intimidating to work with because of who he is and what he knows and expects; but in the pub he is good fun. ‘Essex man meets ethics man’.” 

© Sunday Business

The Lex Column: Mr Blobby’s returns

Appeared in The Financial Times on 16 July 1996

Few authors have popularised the arcane world of accounting as successful as Mr Terry Smith, UBS’s former head of research. Back in 1992, his notorious “blob guide” identified a dozen ruses used to inflate reported profits and named the companies which employed them most. Four years on, as the second edition of Mr Smith’s Accounting for Growth is about to be published, the state of British accounting is much improved: the Accounting Standards Board has closed, or is in the process of closing, most of the loopholes Mr Smith highlighted.

But what about the companies that figured prominently in Mr Smith’s blob guide? Some, like Grand Metropolitan and Trafalgar House, have been disappointing investments. But others, like British Aerospace and Granada, have been phenomenal successes. Indeed, anybody who bought shares in just those companies which used seven or more of the ruses Mr Smith identified would have done rather well. Since the book was published, such a portfolio would have risen 116 per cent –outperforming the market by 30 per cent.

The blob guide was, of course, never intended as a simple method for picking stocks. It was designed to make investors think by sowing scepticism about the figures companies report. Mr Smith especially wanted to wean shareholders from their fixation on earnings per share as the only measure of corporate success and look at yardsticks like cash flow and return on investment as well. Despite everything the ASB has done in recent years, Mr Smith’s broader purpose remains as valid today as ever.

© The Financial Times Limited. All rights reserved.

Enlisting mother to figure it out - Interview - Terry Smith

Robert Bruce finds Terry Smith unrepentant in his updated Accounting for Growth

Appeared in The Times on 15 July 1996 

When a book on company accounts sells 80,000 copies you know that something is up. Terry Smith, who was sacked as head of UK company research at UBS Securities in 1992 when the first edition of his book, Accounting For Growth, appeared, has now produced an updated second edition. And he is gloriously unrepentant about the furore the book created. "Telling a publisher not to publish because there was a row brewing was a bit like giving someone a tanker full of petrol with which to extinguish a fire," he says in the introduction to the new edition.

The row then was about the infamous "blobs". Smith created a Major Companies Health Check table listing 12 creative accounting techniques and showing which major companies used which. This was why British Airways and Grand Metropolitan, under the then Sir Allen Sheppard, brought pressure to bear on UBS. GrandMet had won the unfortunate accolade of being the Top 200 company awarded the most blobs.

"It is a supreme irony", says Smith in the new book, "that after the first edition was published and I was fired and sued, I had to check the accuracy of a number of entries, including GrandMet's, and found that I had missed one: GrandMet was using ten techniques."

This time around the "blob" guide has been dropped. Smith feels that it diverted people's attention from the real issues. "You couldn't quantify the extent of a `blob'," he says. "They were being used as a sort of `magic bullet' solution and magic bullet solutions have no value."

For Smith the real issues are the analysis of accounts and the ability of users to spot when companies are being economical with the truth. "The users are the biggest problem," he says. "If people are silly enough to disregard the figures then they are still going to come a cropper, regardless of whatever rules and regulations are in force."

In the book he uses BTR as an example and its use of acquisition accounting after it bought Hawker Siddeley in 1990. "In 1992, BTR had used provisions of £305m (not all of which were for Hawker Siddeley) in reporting pre-tax profits of £1,085m," Smith points out. "Think about that. One third of reported profits were there only because BTR had provisions with which to cover costs. In the first half of 1993, a further £81m were utilised, of which £47m were for Hawker Siddeley, in reaching profits of £602m. This left £93m of Hawker Siddeley provisions outstanding.

"It did not require a brain the size of a planet to work out that the Hawker Siddeley provisions would be exhausted in 1994, and that then BTR might struggle to maintain its profitability."

Smith raised these issues at meetings of institutional investors. But the response he received only confirmed his view that the problem is as much with the analysts as with the accounts. "You didn't need to do a great deal of analysis," he says, "and it certainly wasn't rocket science." He cites one example where the analysts' questions homed in on the use of a new BTR product at Denver Airport. "That," says Smith, "is trainspotting, not analysis."

In his book he concludes that "the problem is not whether it is truly possible to spot creative accountancy, or whether financial weakness and failure can be detected by a systematic approach. The problem lies not in devising this analysis but rather in the human inability to accept objectivity."

Smith felt the BTR experience was "a very instructive episode". In the book he recalls how "when I was touring institutional investors to talk about BTR one of the retorts I frequently received was `Ah, but BTR generates cash'. This statement in itself is almost meaningless." He goes on: "How much cash was BTR producing? The same as its profits (taken at an equivalent point in the cashflow statement and profit and loss account: it is no use comparing operating cashflow with retained profits), or more or less? What return on capital did the cashflow represent? Were the cashflows generated by repeatable items such as operating profits, or was the company squeezing working capital, or making disposals for cash which could not be repeated?"

Smith is fond of testing the figures against "what my mother would have thought the company meant". On that basis "of course BTR were generating cash, but was it the right amount?". His lambasting of the analysts has a serious underlying point. "People", he says, "lose sight of what the Stock Exchange is for. It is a method of allocating capital. Good companies should go up in share price and the cost to them of capital should drop. Bad companies should suffer a fall in share price and their cost of capital should rise. It is a serious point. The system should ensure that bad companies are starved of capital and cannot do any more damage to the economy. The capital should go to good companies which are creating wealth."

This is where the analysts come in. "In a social sense", says Smith, "the analysts should work as a conduit."

From his experience Smith thinks analysts are poor at their work and as a result companies that are disguising their performance get away with it and suck in capital that ought to be placed elsewhere in the market.

"People", says Smith, "have to relearn the story of the Emperor's new clothes. Otherwise we might just as well have a company statement saying `we have had a jolly good year' and leave it at that."

Smith goes on: "The problem is that we have bred the wrong culture of analysts. They tend to be people with industry experience rather than people who understand accounts. And analysts are all terribly polite and put up with all the strange wooliness. In the US they are much ruder and blunter."

The four years since Smith's first book has seen the rise of the Accounting Standards Board under the chairmanship of Sir David Tweedie, and a wholesale shakeout of the rules that govern financial reporting.

Smith is impressed. "The foundation of the Bureau was a recognition that there was a great deal wrong with UK accounting," he says. "Tweedie has set about correcting this with an almost evangelical zeal."

But he also recognises that "whatever rules you put in place, smart people will find a way to express a distorted and flattering picture of their performance".

And he is worried that we are at a point in the economic cycle where good news is preferred to bad. "In the third or fourth year of a recovery people's desire to hear about reform wanes. The balance of power between the gamekeepers and the poachers has swung back to the corporate sector and the momentum of reform is slackening."

But Smith's conclusions remain the same: "The investor must perform his own analysis," he says. They should ask questions. They should be objective. And they should wonder what their mothers would think of the meaning behind specific company policies.

But "if the answer is not satisfactory in terms of allaying the investor's concern that creative accounting is in use then the best solution is not to invest", he concludes.

Accounting for Growth, by Terry Smith, is published by Century at £14.99.

© The Times

Playing with numbers - Business Focus

By Terry Smith
Appeared in The Sunday Times on 14 July 1996

Accounting for Growth was "the book they tried to ban". I was UBS's head of research and was sued because of the revelations. But the book became a No1 bestseller as investors clamoured to read my guide to the accounting tricks used by corporate Britain, some of which had decimated share portfolios during the recession.

There were complaints before publication. The first came from Tiphook, whose chairman, Robert Montague (subsequently declared bankrupt), asked UBS to have his container-leasing company dropped from the book. But Montague did not have enough clout to cause a problem.

This came when Grand Metropolitan discovered that it had the largest number of mentions in my Accounting Health Check table (it became known as the "blob guide" because each piece of creative accounting earned a blob).

Lord Sheppard, GrandMet's chairman, did not like this and pressure was brought to bear. When this did not work, Sir Colin Marshall, a GrandMet non-executive director and at that time chief executive of British Airways, a UBS corporate-finance client, also intervened.

UBS told me to halt publication and when I refused I was suspended, then fired and sued. The rest, as they say, is history, so why repeat these old war stories? There are three reasons. One is that investors who think they are smart enough to spot all the conflicts of interest that may work against them in the post-Big Bang City are mistaken, as my experience showed. The second is that my analysis was proved broadly accurate as the recession developed. The highest-scoring companies in the blob guide were (in descending order of blobs) GrandMet, Ladbroke, Trafalgar House, Albert Fisher, British Aerospace, Ratners, Queens Moat Houses, Lonrho and Tiphook. All subsequently underperformed or worse. The real disasters were Queens Moat, Ratners and Tiphook, where investors lost most of their money. But even the mighty GrandMet sharply underperformed the market over the next couple of years.

Third, what else can we learn from this episode? If I ran a company and an analyst decided to criticise my accounts, I would not attack him in public or call his boss and demand a retraction, or his dismissal. Rather, I would smile knowingly and hope the poor misguided fellow drove the share price down so I could buy a few more shares.

In my experience, when companies start issuing threats and bringing pressure to bear to stop criticism, this is a better indicator that something is wrong than all of the "blob guides", accounting books, analysts' circulars and charts put together. As the saying goes, "hollow vessels make the greatest sound". BUT can investors spot problems before a chairman starts threatening an analyst?

In the latest edition of my book, I have avoided the blob guide. Concentrating alone on any single number such as earnings per share or even my own blob guide is dangerous. Here instead are some investment survival techniques, while below I highlight companies that have used questionable accounting techniques.

There has been a resurgence of the takeover boom in the 1990s and I believe takeovers and disposals are the main driving forces behind creative accounting. For this reason the companies highlighted have all been chosen at least partly for their takeover activity. Although takeovers tend to lead to a honeymoon period when the market is entranced by apparent earnings growth, in reality they rarely enhance shareholder value.

Successful investment is a filtering process: companies have to pass through various filters to be eligible for investment. Several successful investors seem to use such an approach. Jim Slater uses "sieves" such as a low price/ earnings multiple when compared with the growth rate. Filters such as this or good cashflow per share are useful in whittling the universe of shares down to a few. They are worth studying further. Once you have identified a stock as interesting, there are some tests you can apply to see whether there are telltale signs of creative accounting.

Read the accounts thoroughly, including the notes. I am talking about the profit and loss account, balance sheet and cashflow, not the chairman's blurb. Hence the suggestion: read the accounts backwards. When did you last read a chairman's statement saying: "We have made a hash of running the company and you should not invest in it". So why are you bothering to read it first?

You are unlikely to learn much from simply reading the accounting statements. Calculate the numbers as you go along as follows:

What is the operating margin (operating profit divided by sales) and how does this compare with rival companies and previous years for the same company. If the margins are apparently much better than the competition there should be a good reason.

Remember Wickes, Spring Ram and BM Group, where apparently superior margins were in fact the result of creative accounting or worse, and investors lost their shirts as a result. By contrast, Coca-Cola's superior margins are the result of powerful branding and competing in a virtual duopoly with Pepsi.

Cashflow is another key number. How does operating cashflow compare with operating profit? Is it larger (good) or smaller (bad) and does cashflow consistently outstrip profits or vice versa. How does the cashflow look after deducting capital spending, and how does this "free cashflow" compare with earnings per share? Remember, cash is king. It is much harder to "create" cashflow than profits, and cash is a fact whereas profits are a matter of opinion.

Calculate the returns the company is generating, as you would for any other form of investment such as a building-society deposit. Divide pre-interest or operating profit by total debt and equity capital to get Return on Capital Employed (ROCE). Remember to include goodwill written off, as excluding it can give a false impression of returns.

How does this return compare with yardsticks such as the long gilt yield, a risk-free return, and how has it been moving in recent years? A company would need to be growing strongly for you to accept a current return lower than the gilt yield. Also examine the returns using operating and free cashflow. If these are much lower than the profit returns, be suspicious. If they are higher, so much the better.

Read the accounting policies in the notes. Do any give cause for concern, such as expenses being capitalised? If so recalculate how profits would look with these expenses in the profit and loss account. Have any changed since last year? If so why and what is the effect of the change on profits and cashflows?

Calculate the depreciation charge as a percentage of fixed assets. Over how many years are the assets being written off, and does this seem sensible given their nature? Has the percentage written off changed from last year, and if so are assets being written off more or less quickly?

BTR's depreciation charge changed after its Hawker Siddeley takeover from 10% of assets to less than 7%. This has effectively boosted 1995 profits by about £160m and it is low relative to peer group companies such as Hanson, Tomkins and Williams.

If a depreciation charge is abnormally low it may have to be corrected, leading to lower reported profits. If it is not corrected, cashflows will continually undershoot profits because the capital spending to maintain fixed assets will continually exceed depreciation, a situation in which BTR finds itself.

Look at the tax charge on the published accounts, not least because the Inland Revenue has far more information about a company's activities than you have from the accounts.

If a company's tax charge is below the corporation tax rate, ask why. There may be a straightforward explanation, such as tax losses brought forward or operations in a low-tax country such as Hong Kong. But, generally, if the tax charge is subnormal, it indicates that the Revenue does not regard a portion of profits as taxable.

Avoiding low tax-charge companies in the 1980s would have enabled investors to miss out on some big losers. They included Polly Peck, Queens Moat and Costain.

Last, look at interest paid or received. Is this a reasonable percentage of average cash or debt in the opening and closing balance sheets?

AN APPARENTLY high return on cash or low cost of debt may indicate that the company is subject to seasonal cashflows, or has made large acquisitions or disposals during the year. But it may also indicate that the company is window dressing its balance sheet to make the debt look low. Remember, a balance sheet is only a snapshot of a company's finances on a particular day, and companies usually choose as their year end a time that paints the best picture. For retailers, Christmas takings appear on the December 31 balance sheet.

An apparently high return or low debt cost may also show that a company is mismatching currency assets and borrowings to bolster profits by taking advantage of differential interest rates between currencies.

Sometimes if the income from this mismatching is routed through an offshore tax haven, you can pick it up from either the apparently low interest charge for the size of the group's borrowings or the low tax charge. Hanson, which has substantially underperformed in recent years, has had a tax charge over the past 12 years ranging from 15.3% to 28.9%. 

Accounting for Growth by Terry Smith is published by Random House at £14.99

© The Sunday Times

Mr Blob is back with a vengeance

By Nils Pratley
Appeared in the Daily Telegraph on 13 July 1996

Terry Smith caused a furore with his first attack on City accountants. Nils Pratley sets the scene for his second salvo.

TERRY SMITH, a leading City scribbler who provoked one of the most entertaining City rows for years with his book exposing suspect accounting methods, is back with part two. Last time, his unashamed attacks on the profits massaging he alleges was executed by some of Britain’s largest companies lost him his job.It caused acute embarrassment to Swiss investment bank UBS, where he was head of research, and lasting damage to the share price of Grand Metropolitan, the Smirnoff vodka and Ha¨ agen-Dazs ice cream giant which came bottom of the class. Accounting for Growth, mark two, is out on Monday and the targets are as big as ever. BTR, the conglomerate whose shares have fallen 27pc this year, is the company that receives most flak this time. Smith, 43, is a pure outsider who, according to his critics, attracts trouble. Before his first book, Accounting for Growth, he was best known in the City for allegedly punching a fund manager at a black-tie dinner and, as the analyst at stockbroker BZW, for advising clients to sell shares in its parent company, Barclays Bank. Smith, who talks precisely and quickly, replies ‘‘no, no and no’’ to allegations that he is ‘‘proud, arrogant and abrasive’’. But he adds: ‘‘It is a difficult job unless you have some kind of ego because you have to think you are right and others are wrong.’’ He is an unlikely hero of the accountancy world. His father was a lorry driver who contracted asbestosis after a brief spell working in an asbestos factory. His mother, he says, ‘‘cooked my dad’s dinner’’. It was an East End upbringing. George and Billy Walker were friends of the family and lived around the corner. These days he has a flat inWapping and has just bought a Georgian rectory in Essex with his wife Barbara; they have two daughters. He drives a Porsche 911 Carrera and also owns an AC Cobra, a fast 1960s sports car. He also keeps a horse, which he rides in one-day events and cross-country trials, and has a yacht moored in Cork in Ireland. He gained a first class degree in history at Cardiff University but turned down the offer of a lectureship to make some serious money instead. He joined Barclays, where he managed the Pall Mall branch before being dispatched to the finance department. There, he came into contact with stockbroking analysts and eventually joined their ranks. Between 1984 and 1989, he reigned supreme as the number one rated banking analyst and was an obvious candidate when UBS was hunting for a £300,000-ayear head of research. It was all achieved without training in formal accountancy, apart from an MBA course. ‘‘I think, in terms of analysing things, it may be a bit of handicap to be an accountant,’’ he says. ‘‘If you have enough aptitude to work out the numbers and what they mean without being an accountant you probably have an advantage because you are not in a straight - jacketed way of thinking.’’

Accounting for Growth started life as his first major research for UBS. The recession was looming and Smith sensed that accounting would become a hot subject. He suspected that much of the increase in corporate profitability in the 1980s was the result of accounting sleight of hand rather than genuine growth. Polly Peck and British & Commonwealth had gone to the wall, despite reporting profits until the last. How could it happen? One of Smith’s maxims was an old one — cash is king. ‘‘Profits are someone’s opinion (or true and fair view) whereas cash is a fact,’’ he wrote, after identifying 12 accounting techniques, all of them legal, that tended to flatter profits. The eye-catching element of research was the ‘‘major companies accounting health check’’, better known as the ‘ ‘blob guide’’. Here, Smith placed a blob

against the name of each company for each questionable technique it used. Institutional investors loved it and for two consecutive years voted it the best research they had seen. Douglas Ferrans, chief executive of Scottish Amicable Investment Managers, is a longstanding fan. ‘‘Terry won’t take anything at face value,’’ he says.

‘‘He is hyper-critical of any number that is presented to him by a company, particularly in a report and accounts. Others are now doing the same thing but Terry was genuinely ahead of his time and has done a lot of good.’’ But even some of his greatest admirers in the City say he can be prickly. Neil Tyson, fund manager at Prolific, says, half in jest:

‘‘I think it’s the Napoleon complex with being so small [Smith is about 5ft 7in tall]. He comes across as a bit arrogant but you just have to give as good as you get with him. Everything is either right or wrong and there is never any grey area with Terry. Professionally, I find him very useful.’’ David Poutney, banking analyst at Panmure Gordon and a friend and colleage for over 20 years, says: ‘‘What he does have is a very cutting wit. He definitely does not suffer fools gladly and he can be very aggressive.’’ The drama began when Smith was invited by publisher Random House to turn the Accounting for Growth research into a book. Tiphook, the container rentals group, knew it would be featured and wanted to know what was being said. So, too, did Grand Met, which discovered from early press reports that it had scored the most blobs. Sir Allen Sheppard,Grand Met’s chairman, inquired. Then, Sir Colin Marshall, British Airways chairman and a Grand Met non-exectuive director, did the same. UBS and Smith rowed internally for while, with the bank arguing that in-house rules laid down that research should be shown to companies in advance and Smith saying there was no such guideline and that the book was now in the hands of Random House. UBS then sued the publisher and first suspended, then fired, Smith. Smith counter-sued and the actions were settled out of court only 18 months later. The episode touched raw nerves. UBS vigorously defended itself against the charge that it was appeasing angry clients; Smith denied he had engineered the dispute; Ernst & Young waded into the argument , denouncing the book as ‘‘dangerous and irresponsible’’. Even to this day, the details of who said what are being cleared up. In March this year, within a week of retiring from Grand Met, Sir Allen, now Lord Sheppard, fixed a meeting with Smith. ‘‘All I wanted him to know was, just for the record, that I didn’t try to get him sacked,’’ says Lord Sheppard. ‘‘I also congratulated him on the fact that, although he didn’t do our share price any good, he had handled the whole thing quite skilfully in terms of public relations.’’ For Smith, the moral is clear. ‘‘I feel vindicated on a number of counts,’’ he says. ‘‘The two companies that complained were Tiphook and Grand Met. Tiphook has, for all practicable purposes, gone bust and Grand Met has underperformed the market by a huge amount, which is not a bad record.’’ Smith’s personal earnings, meanwhile, have outperformed. Thanks to the row, the book sold an astonishing 55,000 copies. He is now a partner at Collins Stewart, a boutique stockbroking house, and says he makes more than he ever did at UBS. As a sideline, he has even tried his own hand at business, becoming an Athena franchisee. ‘‘I had the only franchise agreement that had a put option to sell the thing back to Pentos [the parent company],’’ he says. His timing was impeccable. He exercised the option in November 1994; by New Year, the receivers were in at Pentos. He manages all his own money, showing a bias for small companies.

At the moment he is ‘‘pretty liquid’’ but has investments in Azlan, Business Post, Quadramatic, and Rutland Trust. Amid all the fuss, it is easy to overlook the fact that one of the main aims of the books is to help investors, large and small. For both, he has a message: ‘‘You can’t get some guy to write you a guide for £14.99 that will make you a fortune. You have to read the guide, and an awful lot besides, and then do a lot of hard work. It is sad but true.’’

© Telegraph Media Group Limited 1996