Jim Cramer on the Stock Market: Why You Should Sell Accounting Dramas

NEW YORK (Real Money) -- When the FBI comes knocking, as it did with American Realty Capital Properties (ARCP) this weekend because of the intentional hiding of an overstatement by one of the officers of the real estate investment trust, it's a real bad sign.

When the FBI gets involved, you know the feds are skipping the step of the Securities and Exchange Commission looking in to it, jumping over the step of the Justice Department examining it and just going right for arrests because of a suspicion of some serious white-collar crimes. 

Normally you would expect that, if the company voluntarily came forward and tossed over its own execs to the government, as does seem to be the case, you wouldn't need the FBI, right? The SEC could take a look and decide if there should be criminal prosecutions and then refer them to Justice. But now we know the feds blew right through that phase. So we have to presume there's more to it. Maybe much more.

Otherwise, the amount of money involved in the overstatement, arguably no more than $27 million, simply isn't enough to make me feel that the situation is dire. Plus I think that if you read through the documents and listen to the conference call, you know that the company appropriately turned the matter over to the audit committee, which then investigated it separately from management, which is exactly what Sarbanes-Oxley says needs to be done. All of the documents were frozen and the processes that the government wants to see followed were followed. 

Therefore, before this FBI news (on which the company had no comment when asked by Reuters), you could certainly think that the stock of ARCP, one of the biggest publicly traded real estate trusts, which traded twice as high as it does now just last spring, could be a buy with that juicy 11.2% yield that certainly isn't in jeopardy if there is no more to the story. Down 20% did seem like an over-reaction. 

But when the FBI gets involved, that suggests that the feds do not think the correct processes were followed. FBI involvement suggests to me that the feds may think ARCP conducted a sham internal examination.

The federal government gets called in only if it thinks that the company's cooperation is phony, or because the crime is so egregious that someone has to be taken out in handcuffs right now. Maybe the investigators think that the fired execs were pressured into the overstatement to make the quarter? Maybe there is a concern that the top-level people knew all along?

So, therefore, I have to resort to my time-honored "accounting irregularities equals sell" rule that has kept me from some very attractive opportunities but has also stopped me from losing huge amounts because it turned out something very big and very bad was happening.

Now, it is entirely possible that once the arrests are made and the FBI goes no further, it will be time to buy. But the risks changed dramatically with the FBI involved, and now you simply can't make an investable case for the company, no matter how much cash flow it has and no matter how great its properties really are.

Action Alerts PLUS, which Cramer co-manages as a charitable trust, has no positions in the stocks mentioned.

Editor's Note: This article was originally published at 6:11 a.m. EST on Real Money on Nov. 3.

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