There are a legion of stories of the demise of accounting in corporate America running around out there–loose and undaunted, and perhaps somewhat exaggerated. As one corporate accounting bungle after another makes its way to the top of the headlines, the media reports on them as if detailing out a home brewing recipe. Accounting snafus are not always as simple as their layman’s understanding would have it. One thing that laymen–including economists and business journalists and wannabee critics–don’t understand is accounting. Unless, of course, they’ve had prior experience. For only accountants who have actually done accounting essentially understand accounting.
Quite recently, GM again announced an earnings restatement, and the eager press, all-too-anxious to jump on the “oh no, another restatement!” bandwagon, do so without ever understanding what a restatement really is. I read several stories that told the layman nothing about what is actually happening.
A restatement is a revision of a previous financial statement. It is an acknowledgement of error in the recording of accounting transactions, whether the transactions are misrepresentative because of fraud or error.
One decent write-up comes from the business page of the International Herald Tribune.
There was a time when General Motors was seen as the paragon of financial quality. Its bonds were rated triple-A, and it was known for the most conservative accounting. Let other companies use liberal accounting rules to make results look better. GM did not need such things.
The announcement late Thursday that General Motors would revise profit figures for every year of this decade, and would have to restate the 2005 earnings it had already reported, shows how far the icon has fallen. Less than a year after it lost its investment-grade bond rating, its bonds are viewed as middling even among junk bonds.
“You have to question what controls are in place,” said Charles Mulford, an accounting professor at Georgia Tech. “When companies like GM are profitable, there is not a need to engage in aggressive accounting,” he added. “What we are seeing now is a pattern of very aggressive accounting that took them well beyond the limits of generally accepted accounting principles.”
GM, among its myriad problems, is having issues with some supplier discounts that it took before they were earned, leaving them with deferred credits instead of that which they claimed as having been earned; reductions to income that were instead taken as a reduction to shareholders’ equity; and misrepresentation of cash flows, where perhaps some positive cash flow in the “investing” category may have showed up as “operating” cash flows, making the company look more healthy cash-wise.
What’s the reason for this? Is it all purely in error? Of course, the bulk of such problems are due to the fact that publicly-held companies are living quarter-to-quarter in an effort to keep the eyes on Wall Street in their favor, and to keep the executive bonus programs on the radar map–programs that are oftentimes the result of regulatory/tax avoidance and/or minimization. Should quarterly earnings not keep pace with analysts’ expectations or within executive bonus boundaries, disaster looms, and corporate heads get fired. The expectations and mindset inherent with short-term thinking is such that time preferences are severely distorted, turning the tables from long-term stabilization and growth for steady earnings power to short-term profit grabs and/or calculated financial statements that brandish exactly what the execs want others to see. Creative accounting, as some call it.
Another issue in the workplace is the awful state of education and thus the lack of skillsets in corporate finance. MBAs and not CPAs are dominating the finance environment. Some companies that have been subjected to restatements have taken a stance on training and skills, and are retaining CPAs with proven track records–and only CPAs–at the top corporate levels to do the tough accounting work and research.
Corporate politics also play a role, as premium jobs are given to non-threatening kinsmen, political favorites, long-term hangers-on, and those who are known to attach their lips to the behinds of others so skillfully that surgical removal becomes necessary. It’s all a part of the human experience, and it is what it is. But now, with accounting snafus hanging out to dry like stained undergarments on a neighbor’s clothesline, it’s time for the profession to put its house in order before accountants become less trusted than, God forbid, lawyers.
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Back in the day (before handheld battery-powered calculators became ubiquitous in the mid-70s), accountants used mechanical and then, beginning in the early part of the 20th century, electrical calculators — not slide rules. There’s a good reason: slide rules add and subtract logarithms (a good way to do multiplication and division with a few significant digits), but not so useful for adding and subtracting. The slide rule “class” consists of engineers and scientists, not accountants.
And on a further curmudgeonly note: you don’t, always, need to be an expert in a field to know when something is wrong. A lot of accounting activity is focused on earnings management ( read stock price management). You don’t need a CPA to get the debits and credits right — but you do need one to plan and execute accounting strategies that take advantage of the multitude of loopholes created by the “bright line” accounting standards that have been created over the last 30 years. And you’d be doing your employer a disservice if you didn’t know and use them. Where is the line between accounting standard “avoidance” and “evasion?” If accountants can’t (won’t?) tell the difference, why isn’t lay opinion just as good?
Just my opinion as a CPA and a one-time engineering student in the early 60s.
Getting people to understand accounting is nearly impossible, considering people who practice the profession can barely agree on treatments, much less trying to explain it to a layman. We all know how complex the tax law is, hence why 100 preparers get 100 different answers. Unfortunately, GAAP and GAAS seem to be heading in the same direction.
Once upon a time, the house of GAAP was relatively easy to navigate. But there has been an explosion of FASB’s and all the position papers from the AICPA, and interpretations by FASB bureaucrats, and it is progressing faster than an accountant, who wants to apply the rules judiciously, can keep up with and still maintain a 55 hour work week and have a family.
So trying to understand it thoroughly enough to apply it, and then try and explain it to someone who doesn’t know a debit from a contra-account is nearly impossible. And of course we live in a society that if it isn’t black and white, it must be some sort of hoodwinking. Of course the government adores accrual accounting when it serves them, but it becomes a “cookie jar” when they don’t.
There’s a basic concept here that perhaps some things are just so inherently complex that it is impossible to show “the masses”. There are those who cry for transparency!!! – but such is impossible even in relatively small operations.
Perhaps what we in the profession need to do first and foremost is regain the position, especially as far attest work, is that we are making only a few positive statements of the reality of what is at hand, we aren’t making investment decisions for people. It seems we’ve been drifting further away from historically provable data to subjective valuations and now even making postive assertions, not just of basic going concern, but the value of the investment as a whole. VERY dangerous territory. But we continue to live in an irrational world where people want a level of security provided by some other, nearly other-wordly, source. Accountancy shouldn’t allow itself to be sucked into such a vortex. But it seems that there are plenty of people in the profession who are perfectly willing to do just that.
Lastly, how do we expect people to have any notion of accountancy when the Federal Government itself has, on an accrual basis, a $44 trillion retained deficit? When the Biggest Big of all issues fantasy as reality, how do you try and champion the cause of rational thinking from the get go?
I have to agree with the first commenter, W. Dunn, who said:
The mere fact that a company is restating earnings doesn’t indicate that they did anything wrong. However, as the same periods are restated over and over, it becomes clear that the company cannot determine reliable numbers because it doesn’t have them internally. At some point, the message is that the numbers are their best guess and that they will never know for sure.
Accounting is not an exact science. That is why there are still accountants left in this world, else, they would have been replaced by computers a long time ago.
Dear Mr. W. Dunn:
Don’t know why you would choose to treat the slide rule reference as an egregious misstep of unforgiveable proportions, however, I hate to dissapoint: the slide rule indeed *was* used by accountants and finance professionals, and in fact, was used well up into the 60s by some of the more diehard types amongst my accounting colleagues. The jokes about accountants & slide rules are numerous, and not because they “didn’t use them.”
Some Public Accounting Bodies–in Ireland, for one–still allow the use of slide rules for the examination process, if so desired.
The slide rule was not only for engineers and scientists.
Logic tells me that if government didn’t exist (no taxes, no regulations, etc.)a significant portion of current accounting jobs wouldn’t exist either.
I’m not an accountant but I think most people understand what’s meant by this statement.
Comments are welcome.
Good point. If you look on financial job websites the biggest growth is in compliance accounting. Apparently, between SOX and Spitzer there is really no where else to run.
“Accountancy is not perfect. The precision of its statements is only illusory. The valuations of goods and rights with which it deals are always based on estimates depending on more or less uncertain and unknown factors.”
The Theory of Money and Credit p. 234
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