by Bill Steele

Created on: August 28, 2008

Accounting and its many aspects

The word "accounting" can cover a multitude of activities and skills, but most understand it to mean the keeping of records of the financial transactions of an organisation. This can cover everything from the entry of the basic information into the accounting system to the sophisticated analysis some very clever people use in presenting their company's results to analysts and shareholders.

Most people understand accountants to be neutral observers bean counters whose sole concern is to assimilate pure facts and write them down. In fact accounting is an art, not a science. The requirement in the UK is that accounts show a "true and fair view" of the company's affairs, not a correct one. There are many areas where judgement is required rather than simply evidence, although the good accountant will obtain (and write down) evidence to support his judgement. Accountants talk about recording "substance over form" record the substance of a transaction rather than necessarily the legal form if that presents a more true picture of what is going on. The reason for this is, of course, that it is very difficult to come up with a rule that covers every eventuality. Its also the reason why accountants can be misled into accepting the version of events presented by management.

However, in the quest to create a common set of rules for all, we are in danger of satisfying no-one. I'm told the Securities and Exchange Commission has recently brought out proposals to scrap US GAAP in favour of IFRS, the international rules. US GAAP has always been rule based and it was those rules which led to the Enron scandal, where the accounts complied with all the rules but were very misleading but the SEC is in danger of swapping one set of inadequate rules for a worse one. The measurement criteria used in IFRS are so complex and vague, and because they require additional and expert judgement to apply, don't really provide comparability. If you don't like what your valuation expert is telling you, you can always find one who will agree with you.

In addition, they have provided a whole new level of allegedly impartial language jargon which makes it doubly difficult for an ordinary shareholder to work out what is going on. I would not be surprised if a lot of analysts don't really understand it either.

I worked with UK GAAP for many years and while everyone knew that historical cost was not a good representation of current assets values at least everyone knew that it was historic and could make an investment judgement accordingly. A certification by some "expert" that the figures correspond to some complex IFRS "valuation criteria" does not really help.

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