“It’s just a tool. For accounting as we know it, double-entry bookkeeping is a fundamental technology. Financial accounting still uses it,” he says.
Bookkeeping and financial accounting are two different things. The information a proprietor receives about the past via bookkeeping is vital intelligence that assists in running the business. Financial reporting is another matter. It involves how the proprietor chooses to present the data to outsiders and is aimed primarily at investors.
Peter Roebuck, head of the school of accounting at the Australian School of Business, agrees that financial reporting could be characterised as sophisticated marketing – albeit, marketing that is regulated and audited, he stresses.
A four-year run of News Corporation’s financial reports provides an example of the bravura of modern-day financial accounting. In the late 1980s, then finance director Richard Sarazen made profit after tax on operating earnings (also referred to as profit before extraordinary earnings) appear as A$364.364 million in 1987, A$464.464 million in 1988, A$496.496 million in 1989 and A$282.282 million in 1990.
Such figures are either beating odds of one in one trillion against such a run of coincidences, or making financial accounting into a sport, wrote investigative journalist Neil Chenoweth in Virtual Murdoch: Reality Wars on the Information Superhighway, his 2001 biography of News Corporation founder Rupert Murdoch.
Pacioli might be amazed by the conventions of modern accounting standards, and admiring of the wizardry practised by today’s financial accounting experts. But he probably would not recognise it as familiar, says Olsen, because the conventions of reporting to the market, along with the legal concept of a company, have been adopted since his time.
Obstacles to responsibility
The push to make companies more responsible has to contend with many adversities, and to most observers double-entry bookkeeping is the least of them. Commentators generally agree that limited liability is a more important determinant of corporate behaviour. If a limited liability company is sued, its non-director shareholders cannot lose more than their investment and will incur no other losses.
Limited liability legislation in Europe and the UK during the late 19th-century solved a problem that did not exist until ownership and control began to separate in industrialising economies at the start of the Industrial Revolution. Namely, that people who stump up cash to finance large-scale operations but don’t make operational decisions, also don’t want to bear the consequences if operational decisions go wrong.
Today this all-care, no-responsibility model has led to shareholder pressure on companies to make big profits and make them as fast as possible. Some say the pressure on directors has become unbearable when combined with the social push to make directors personally responsible for their decisions. It’s a crunch, and there’s no solution in sight.
The opacity of financial reports is another obstacle along the road to better corporate behaviour. But it’s not as if the international community is blind to the problems caused by headlong economic growth. Global technocrats are putting an enormous amount of effort into developing a method of integrated reporting to take corporate disclosure beyond the sustainability report.
Financial accounting is focused on financial capital, explains Roger Simnett, professor of financial accounting and auditing at the Australian School of Business, who is on the content task force of the International Integrated Reporting Committee.
“[Financial accounting] is about your ability to make money. People are looking for more than that today. We’re hoping that companies with good integrated reports will eventually pay a lower cost of capital,” he says.
The aim of an integrated report is to relay to the public how the board is managing risks to the sustainability of a company’s operations. These risks typically include remuneration, ethics, and environmental issues. The term integrated is somewhat misleading, because the report is not an alternative to the financial report, rather, as conceived at present, it is a parallel document. A beta version of this new reporting genre already exists, and is this year being trialled by a group of about 60 multinationals.
At the corporate level, the integrated report as presently formulated will, arguably, not force shareholders and management to see the world through a radically different lens. That’s good for those afraid that upsetting the status quo will result in paralysis. But some are concerned that a half-way measure will reassure without solving the problem.
John Purcell, professional accounting body CPA Australia’s policy adviser on environment, social, and governance issues, concedes that integrated reporting does not require companies to measure the value of the natural resources they consume in daily operations. But he adds: “It seeks to do it.”
With all the discussion about social and environmental responsibility, when double-entry bookkeeping is considered, it seems that an intriguing “what-if” question has been lost. What if Pacioli had included in his theory of costs the value of the environmental or social welfare resources depleted by business activity?
“That might have made a difference to how our financial accounting developed,” agrees Purcell. So why didn’t he? “He had no motivation to. You could shift that burden on to other people.”
UNSW’s Peter Roebuck makes an even pithier response to the question. “Maybe Venice would never have been built,” he jokes.
Beyond neutrality
Double entry is not a neutral tool. Convention dictates what is considered a cost, accounting formulas value those items, and it is easy to ignore such basics as the value of clean air and clean water. Nowadays, partly due to the paradigm-busting theories of Karl Marx and Friedrich Engels, it’s harder to ignore the value of a safe and fair workplace.
But the reassessment of capitalism by Marx and Engels had shortcomings as a prescription for economic organisation. However, their theory about fair exchange of labour did not contain a complementary theory of accounting.
Which comes back to Gleeson-White’s call for a fundamental reassessment of accounting. Her brief discussion in the book about including environmental factors in the national accounts (gross domestic product) is sceptical about the seriousness of governments in Australia and elsewhere to tackle the challenge.
The framers of the integrated reporting standards say it will achieve change because of the positive effect that clear disclosure will have on a company’s share price. This hypothesis relies on three assumptions: that integrated reporting will become mandatory globally; that capital markets are efficient allocators of financial resources; and that large fund managers will choose sustainable practices over quick profits. None of those factors is a sure thing.
Gleeson-White does well to alert a wider circle of the population than accountants that the important decisions being made in this arena are critical to creating a more balanced world economy.
