Tuesday, May 30, 2023

Now that most companies have filed their 2022 annual reports and we’ve already written many posts about those disclosures, today let’s look at the next wave of 2022 reports now arriving fast and furious into the Calcbench databases.

Proxy statements.

Proxy statements can be invaluable sources of information for financial analysts, especially those at institutional investors with long-term holdings. The proxy contains information about executive compensation, expertise (or the lack thereof) among the board of directors, audit fees the company is paying, who holds large amounts of company stock, and much more.

And as always, Calcbench indexes as much of that data as possible, to allow for quick and easy analysis.

For example, Masimo Corp. ($MASI) filed its 2022 proxy statement on May 27. We randomly decided to peek at the company’s audit fees for 2022, which are disclosed on Page 69 of the document. Much to our surprise, we saw that audit fees doubled last year. See Figure 1, below.

Why the sudden spike in audit fees? From the proxy statement alone, one doesn’t know. The report of the board’s audit committee, which accompanies Figure 1 above, doesn’t discuss any significant accounting investigation that Masimo might be undertaking, or any recent merger that might have expanded the business and thus the work that Masimo’s audit firm (Grant Thornton, if you’re curious) is doing.

We did, however, use our nifty “show tag history” feature to see that this year’s jump in audit fees is indeed an eye-popping spike. See Figure 2, below.

Yikes. Suddenly Masimo’s annual audit is almost as expensive as a Taylor Swift ticket. What’s going on?

Using our Footnote Disclosure Tool, we hopped over to Masimo’s disclosures of controls and procedures; that’s where a company typically discloses weaknesses in financial reporting, which can explain a jump in audit fees. Except, Masimo reports that its financial controls and procedures are fine. Then we looked up the independent audit report from Grant Thornton.

Ah, there’s the answer: Masimo acquired a company called Sound United in April 2022 for $1.06 billion. More than $600 million of that purchase price went to assorted intangible assets, and Grant Thorton flagged the valuation of those assets as a critical audit matter.

That does not automatically mean that Masimo’s valuation of those assets was wrong. It only means that valuation of intangible assets is an important item that needs close scrutiny from the board and the audit firm; it’s also something that can keep an audit firm mighty business, which leads to higher fees.

One can also compare annual disclosures from 2021 and 2022, to get a sense of how much the merger expanded Masimo’s operations. Almost every line item on the income statement is up sharply. See Figure 3, below.

Sure, some of those increases might be due to Masimo’s natural growth or external factors such as inflation; but the Sound United merger is a big factor too.

Yet another way to look at audit fees is to chart them as audit fees per $1,000 of revenue.

In that case, Masimo in 2021 had $2.24 million of audit fees for $1.24 billion of revenue. Do the math, and that means for every $1,000 of revenue, $1.80 went to audit fees. 2022 saw $4.4 million of audit fees against $2.035 billion of revenue; that works out to $2.10 per $1,000 of revenue.

The dollars are small, but in relative terms the jump is appreciable. So the question for next year is whether audit fees per $1,000 in revenue stabilize, or go up even more. If they keep climbing, that means the auditors are keeping themselves busy. Financial analysts might want to ask why.

FREE Calcbench Premium
Two Week Trial

Research financial & accounting data like never before. Get features designed for better insights. Try our enhanced Excel Add-in. Sign up now to try the Premium Suite.