Off-balance-sheet entities are assets or debts that do not appear on a company's balance sheet. Investors use balance sheets to understand a company's assets and 澳洲幸运5官方开奖结果体彩网:liabilities and to evaluate its 澳洲幸运5官方开奖结果体彩网:financial health. Because assets are better than liabilities, companies want to have more assets and fewer liabilities on their balance sheets. Some will place their obligations into off-balance-sheᩚᩚᩚᩚᩚᩚ⁤⁤⁤⁤ᩚ⁤⁤⁤⁤ᩚ⁤⁤⁤⁤ᩚ𒀱ᩚᩚᩚet entities.

Understanding Off-Balance-Sheet Entities

澳洲幸运5官方开奖结果体彩网:Off-balance-sheet entities allow companies to remove assets or debts from their balance sheets. For exa🥂mple, oil-drilling companies often es꧋tablish off-balance-sheet subsidiaries as a way to finance oil exploration projects.

A 澳洲幸运5官方开奖结果体彩网:parent company can set up a 澳洲幸运5官方开奖结果体彩网:subsidiary and 澳洲幸运5官方开奖结果体彩网:spin it off by selling a 澳洲幸运5官方开奖结果体彩网:controlling interest (or the entire company) to investor𒅌s. This sale would generate profits for 💞the parent while transferring the potential risk of the new business failing to investors. Once this transaction is completed, the subsidiary no longer appears on the parent company's balance sheet.

The Dangers of Off-Balance-Sheet Entities

Off–balance-sheet entities c꧟an be used to artificially inflate profits and make companies appear to be more financially secure than they are.

A complex and confusing array of 澳洲幸运5官方开奖结果体彩网:investment vehicles—including but not limited to 澳洲幸运5官方开奖结果体彩网:collateralized debt obligations, 澳洲幸运5官方开奖结果体彩网:subprime-mortgage securities, and 澳洲幸运5官方开奖结果体彩网:credit default swaps—are used to remove debt from corporate balance sheets. The parent company lists proceeds from the sale of these items as assets but does not list the finan𒆙cial obligations that come with them as liabilities.

For example, consider loans made by a bank. When issued, the loans are typically kept on the bank's books as an asset. If those loans are 澳洲幸运5官方开奖结果体彩网:securitized and sold off as investments, the securitized debt (for which the bജank is liable) is no🙈t kept on the bank's books.

This accounting maneuver helps the issuing firm's stock price and artificially inflates profits, enabling CEOs to claim credit for a solid balance sheet and reap huge bonuses for them.

A History of Fraud

The Enron scandal was 𒁃one of t🦩he first developments to bring the use of off-balance-sheet entities to public attention.

In Enron's case, the company would build an asset such as a power plant and immediately claim the projected profit on its books even though it hadn't made one dime from it. If the revenue f𝓀rom the power plant was less than the projected amount, instead of taking the loss, the company would transfer these assets to an off-the-books corpꦇoration, where the loss would go unreported.

The entire banking industry participated in the same practice, often through the use of credit default swaps (CDS). The practice was so common that just 10 years after JPMorgan's 1997 introduction of the CDS, it grew to an estimated $45 trillion business, according to the 澳洲幸运✱5官方开奖结果体彩网:International Swapꦯs and Derivatives Association.

That's more than twice the size of the U.S. stock market, but it was only the beginning. The CDS market would later be reported to be worth in excess of $60 trillion.

The use of leverage further complicates the subject of off-balance-sheet entities. Consider a bank that has $1,000 to invest. This amount could be invested in 10 shares of a stock that sells for $100 per share. Or the bank could invest the $1,000 in five 澳洲幸运5官方开奖结果体彩网:options contracts that wou♏ld give it control over 500 shares instead of just 10. This practice would work out quite favorably if the stock price rises, and quite disastrously if the price falls.

Now, apply this situation to banks during the 澳洲幸运5官方开奖结果体彩网:credit crisis and their use of CDS instruments, keeping in mind that some firms had 澳洲幸运5官方开奖结果体彩网:leverage ratios of 30-to-1.

When their bets went bad, American 澳洲幸运5官方开奖结果体彩网:taxpayers had to step in to bail the firms out in order to keep them from failing. The financial gurus who orchestrated the failures kept their profꦅits.

The Future of Off-Balance-Sheet Entities

An attempt to limit the use of off-balance-sheet entities was incorporated into the Sarbanes-Oxley Act, which decreed that public companies have an obligation to prꩵovide proof of the accuracy of their financial reporting in their annual audits𓂃.

As part of that law, public companies have since 2003 been required to report all off-balance-sheet arrangements in their quarterly and annual financial reports to the Securities and Exchange Commission (SEC).

Efforts to change accounting rules and pass legislation to limitಞ the use of off-balance-sheet entities do not change the fact that companies still want to show more assets ᩚᩚᩚᩚᩚᩚ⁤⁤⁤⁤ᩚ⁤⁤⁤⁤ᩚ⁤⁤⁤⁤ᩚ𒀱ᩚᩚᩚand fewer liabilities on their balance sheets.

With this in mind, they continue to find ways around the rules. Legislation may reduce the number of entities that don't appear on balance sheets but 澳洲幸运5官方开奖结果体彩网:loopholes will continue to remain firmly in place.