WeatherStorm Forensic Accounting Long-Short ETF™ (FLAG)

Forensic Accounting 101

What is Forensic Accounting?

Forensic accounting is a detailed method of examining and analyzing publicly available financial statements. This approach often searches for the “red flags” of aggressive accounting and revenue recognition practices that some companies have been found to employ.

What are some of the red flags forensic accounting attempts to identify?

Red flags that forensic accounting attempts to identify include fictitious revenue, accelerated revenue recognition, inventory issues, unsustainable margin expansion and financial ratio adjustments.

What do these “red flags” mean?

Red flags may indicate underlying business problems that negatively impact the value of a company’s stock.

How might an unexamined financial statement mislead investors?

There are numerous ways that company management may overstate revenues to make things look better in the present, even though the revenues may not be sustained or may eventually suffer.

For example, company management may offer an existing customer an incentive to sign a contract today, allowing the company to immediately book the revenue. Without that incentive, the customer might have signed the contract next quarter and the revenue would be booked then.

This practice isn’t illegal or even unethical, but it distorts the real performance of the company’s underlying business. It does this by stealing revenue from the future and pulling it into the present. In this example, if demand to sign contracts with the company was strong, management would have never engaged in this practice in the first place.

So how can forensic accounting and investing be used together?

Forensic accounting pulls back the curtain on financial statements and assesses the quality of revenues, sustainability of margins, sources of earnings growth, and consistency of cash flow. This may help investors identify and avoid stocks that are on course to potentially lose value due to the poor underlying business results being currently masked.

Besides simply avoiding companies with “red flags,” forensic accounting identifies financial statements that are attractive because of their avoidance of aggressive accounting tactics. These companies are dubbed to have “high quality earnings” and may be favorable to investors over the long term.

How can I access the benefits of forensic accounting?

Instead of hiring a forensic accountant, a more convenient and cost efficient way to access forensic accounting analysis is to consider the Forensic Accounting Long-Short ETF™ (FLAG). FLAG seeks to track The Forensic Accounting Long-Short Index™. The index combines the science of accounting with the art of investing through a rules based stock selection process.

 

Carefully consider the Fund's investment objectives, risk factors, charges and expenses before investing. This and additional information can be found in the Fund's prospectus, which may be obtained by visiting www.flagetf.com. Read the prospectus carefully before investing.

This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice.

Investing involves risk, including the possible loss of principal. Because the Fund will be shorting stocks, it will incur expenses relating to those transactions. The use of short sales could increase the exposure of the Fund to the market, increase losses, and increase the volatility of returns.

There is no guarantee that the Fund or the index will achieve its investment objective.

Exchange Traded Concepts, LLC serves as the investment advisor, and Vident Investment Advisory serves as a sub advisor to the fund. The Funds are distributed by SEI Investments Distribution Co., which is not affiliated with Exchange Traded Concepts, LLC or any of its affiliates. Check the background of SIDCO on FINRA’s BrokerCheck. WeatherStorm Capital™ have been licensed for use by Exchange Traded Concepts, LLC. FLAG Funds are not sponsored, endorsed, issued, sold, or promoted by IDS, nor does this company make any representations regarding the advisability of investing in the FLAG Funds.