Why accountants should spend less time on the numbers and more time explaining the results 

Philip Maguire, CPA, CA, is a principal in Glenidan Consultancy Ltd. Read his first article in this series: Why accountants should recognize the bias in accounting standards and use it to our advantage.

IN MY last article I left off at the conundrum of why market value is so far below book value with the concern that our profession is losing relevance. I mentioned three factors that contribute to this gap. 

Conservatism: Conservatism mandates that assets should be recorded at “the lower of cost or market.” However, should fortunes change in subsequent periods, these write-downs cannot be reversed. Until this principle is abandoned there will always be a gap between market and book value. 

Goodwill: Accounting standards generally do not recognize internally generated goodwill. The only circumstance that goodwill can be recognized as an asset is a third-party, arms-length purchase of another business (and the purchase price exceeds the fair value of tangible assets assumed). However, the gap between market value and book value for most organizations can only be explained by intangible assets such as intellectual property. Until the profession acknowledges these assets there will always be a gap between market and book value. 

Capitalized costs: In some instances the accounting standards permit internally generated costs to be recorded as an asset, such as software development. However this asset is limited to the costs incurred and does not reflect what the software is worth in the market. 

Accounting standards are at a crossroads 

The accounting profession is at a crossroads. On the one hand are accountants who support financial statements prepared on a cost-basis. These accountants believe that the primary role of financial reporting is to record what has happened. On the other hand are the fair value accountants who believe that the financial statements should reflect the prospects of the organization — its economic value. 

This divergence of opinion was highlighted at a conference in 2016 with representatives of the Financial Accounting Standards Board (US GAAP) and the International Accounting Standards Board (IFRS). Opinion was split on whether to recognize goodwill as an asset in a business combination. On the one hand were the accountants who argued that the purchase price paid by an arms-length party is the best measure of the fair value of tangible and intangible assets assumed. If there was an excess in the purchase price it is fair to recognize this as goodwill.

On the other hand were the accountants who argued that the prevalence of goodwill write-offs in subsequent periods calls into question whether there was value in the first place. These accountants believe that, rather than recording goodwill as an asset, the purchase price excess should be expensed in the year of acquisition. In particular these accountants are concerned with management’s explanation that the write-down is a “non-cash charge.” It is a cash charge in the period incurred! 

Where are we today? 

The combination of historical and current valuation requirements in the balance sheet, income statement and statement of cash flows have resulted in financial statements that are too difficult to understand without explanations. These explanations are contained in the notes to the financial statements, management discussion and analysis, press releases, conference calls with analysts, annual reports and so on. Furthermore, new accounting standards require explanations from the standard setters and guidance by the accounting firms in order that filers can comply with the requirements.

So what can we do?

While the accounting bodies grapple with the competing demands of cost versus fair value there is one aspect of our role that we can improve upon. As the complexity of financial reporting has increased so too has the volume of words. Unfortunately in many cases the narrative only adds to the confusion. 

For example, the CPA Canada Competency Map, issued in 2022, contained this guidance for “creating future-ready CPA’s.” To quote: “We are increasingly part of broader interconnected systems where people are connected with each other, things are connected with other things and people are connected with things … Collaboration is increasingly prominent in and facilitated by a hyperconnected world.” 

Fortunately this trite guidance was followed by the observation that “The accounting body of knowledge continues to expand and is overloading accounting curriculums.” 

The goal of every accountant should be to simplify, rather than complicate, the narrative. As Steve Jobs said, “Simple can be harder than complex: You have to work hard to get your thinking clean to make it simple. But it’s worth it in the end because once you get there, you can move mountains.” 

Too many accountants try to impress the reader with their vast comprehension of the issues. However, the accountant who can write a report in one page, for example, has to focus on the issue, alternatives and recommendation. There is no room for unnecessary or fancy words. 

One of the most impressive observers of human nature in the workplace, Cyril Parkinson, noted that “Work expands according to the time available for its completion.” This is known as Parkinson’s Law. This Law explains why so many organizations become burdened with administrative tasks at the expense of productivity. I will explore the implications of this Law in the next article. 

Only by writing concise explanations can the accountant direct all levels of management to focus on those essential, two or three at most, business drivers. In this manner the accountant can take charge of the numbers and the narrative and be seen as essential to the well-being of the organization. 

Philip Maguire, CPA, CA, is a principal in Glenidan Consultancy Ltd. His practice focuses on internal controls over financial reporting for a number of publicly listed companies on the Toronto Stock Exchange. Philip teaches a number of CPD (continuing professional development) courses in Canada, England & Wales and Ireland.