I remember many years ago talking to a leading equity analyst about how he interpreted the different reports from companies in his sector - telecoms as I remember. He said that each company had a different approach to reporting, reflecting its origins and history, its management style etc. For some at the more aggressive end of the spectrum he would downgrade their claims by 10% and for those more cautious beings, he'd up-rated by a similar amount. If nothing more, this simple example highlighted that reporting is an art not a science and that management judgement is a critical component we should ignore at our peril.
But on reflection, I wonder whether we have moved in a direction which underplays both these critical aspects. By trying to create a reporting model that is formulaic management judgement and prudence have been pushed to the back-seat. Those in the standard setting community may argue the direction of travel has been a necessary response to curtail extremes in earnings management. While this may be true we need to think carefully about the unintended consequences of creating a system that treats business managers more like children than adults.
Personally, I believe we have been trying to use the reporting model to overcome shortcomings in corporate governance. This is never going to work in the long run as the credit crunch has shown. What we need to do is spend more time ensuring that the governance and reporting models align and work towards a common end game. No one has asked the question yet (watch this space) as to whether the governance and oversight of financial institutions was aided by or undermined by the substance of today's financial reporting model. Did it assist with business understanding? Did it encourage the right dialogue? Did it encourage the application of judgement and prudence? I'll leave it to you to form your own views.
The reason why this issue is so important is that it reflects a critical challenge facing the world post the credit crunch. Do we move to a world that has more rules and treats the corporate sector even more like children, further clogging up board meetings and sub committees with box ticking? It might seem like the easy option, more robust and certainly more politically expedient. Or do we go for something that requires an adult solution where the fundamental challenge is to change corporate behaviour. I know which one I would like.
If you'd like to give some more thought to this whole area I'd refer you in the direction of two very different pieces. Firstly I would encourage you to read 'How to do what's RIGHT?' from a close friend Professor Roger Steare. You won't be surprised to know that this is an issue many large companies are trying to get their minds around in a world that is in danger of drowning under a compliance wave. And secondly, a challenging article for those wedded to IFRS, written by Tim Bush for Accountancy Magazine entitled "Is the view true and fair?':
Download Article - Is the View True and Fair - Tim Bush
I don't agree with all that he has to say but it does make you stop and think. And thinking is something we need to do a lot more of in the coming months.
David
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