James Roberts is a senior audit partner at BDO LLP. After training with Binder Hamlyn he became a partner there in 1986 and in Arthur Andersen when it acquired the firm. His audit clients have always included a mix of public and private clients across a broad range of sectors and he has been responsible for the accounting work on over 20 IPOs. At BDO, James is responsible for the firm’s Gatwick office and is public policy spokesperson on audit and accounting matters. James is married with two student children and lives in West Sussex in the United Kingdom. His interests outside business include music, gardening, and reading.
Being an auditor when markets are falling and companies have become extremely defensive and inward-looking must pose particular challenges?
There is no doubt that everything is much more fraught when markets are crashing. These circumstances make management’s life much more difficult. In a very uncertain environment, when all the figures, the key numbers for a company, are in play, it becomes particularly challenging for both management and auditors. For a start, very volatile markets create in turn a great deal of volatility in corporate balance sheets, and users of accounts do not understand as well as they might how to view this volatility when they are looking at the accounts. It becomes very difficult for them to judge what is “real” and actually matters, as against what is simply an artifact of a particular accounting process.
Auditors need to understand these difficulties but there is no doubt that it does take us into difficult philosophical terrain. When you have that much volatility, what are the accounts actually telling you?
Of course, from an investor’s perspective, the accounts should only be one among a number of information sources feeding in to the decision-making process. That said, however, users have a right to believe that the accounts will offer something of a guide to future performance and provide a snapshot of the overall position of the company. What they want, in order to get this information from the accounts, is for the accounts to reflect a clear view of the underlying business reality.
If there is a criticism to be made of the current thrust of the accounting standards bodies, with mark-to-market accounting, for example, it is that some of the standards work seems to have gone beyond the underlying business realities. There is a large and growing gulf between accounting standards and the practical reality of business. Buyers of businesses, for example, do not sit down and compile a list that attempts to identify each element of an enterprise individually. They don’t say: alright, the brand is worth so much, the current value of contracts is worth so much, so I’ll add all these bits together and that is what I will pay. What the potential buyer of a business looks at primarily is future earnings. That determines what they are prepared to pay. Assets may be part of the mix but they have no stand alone meaning. Your focus, as a buyer, is on the return that is capable of being generated by those assets.
This takes us directly to the fact that there is a growing gulf between accounting standards and the business person’s perception of what constitutes the realities of business. In general, accounting standards are not intuitively accessible to business people and this is particularly true of the International Financial Reporting Standards (IFRS). The feeling from business is that IFRS introduces a level of complexity that goes way beyond how they have always done business. They have a sense that IFRS is attempting to reach some Nirvana of theoretical perfection in accounting theory that is just irrelevant to their concerns and interests.
The “revolution” in accounting standards began in areas such as share option scheme accounting and share rewards, where the standards setters felt that the real costs of these schemes were not being fully recognized and reported on by companies. From there it has moved on to embrace acquisition accounting and fair value accounting, where the profession is now concerned with attempting to evaluate the market value of a business’s assets and liabilities at the point in time where the accounts are drawn up. For business people, in a time where property values, say, are depressed, or even if they are inflated relative to the past year, bringing the new value into the balance sheet has no real meaning if they are not planning to dispose of the asset concerned. And if they are selling the property, then the sales price will provide that value. So they see no or little value from a mark-to-market exercise.
In a sense, it seems that the profession has lost balance between the various principles that underlie any financial reporting framework. Under the old UK Generally Accepted Accounting Principles (GAAP), the concept of Prudence was very much to the fore. Now it is just one of the elements in the new GAAP set by IFRS, rather than being a watchword for accountants and auditors alike.
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