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Accounting in Crisis?. Financial Reporting at a Crossroads. Laws of Accounting. Trial Balances don’t Bank reconciliations never do Working capital does not Return on investments never will. The “New” Pledge of Allegiance. - PowerPoint PPT Presentation
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Accounting in Crisis?
Financial Reporting at a Crossroads
Laws of Accounting
Trial Balances don’t
Bank reconciliations never do
Working capital does not
Return on investments never will
The “New” Pledge of Allegiance
One nation, under greed, with stock options and tax shelters for all.
Proposed following a June 26, 2002 U.S. court decision that the present version is unconstitutional.
Consider Three Quotations
Quotation #1
Transparent accounting plays an important role in maintaining the vibrancy of our financial markets.
Alan Greenspan Chairman, Board of Governors of
The Federal Reserve Board
Quotation #2
The single most important innovation shaping the (American capital) market was the idea of generally accepted accounting principles. We need something similar internationally.
Lawrence H. Summers Former Secretary of the Treasury.
Quotation #3
The quality of information we now receive from companies in the U.S. is about the best we have ever seen and exceeds that of almost any other nation.
Abby Joseph Cohen Chair, Investment Policy Committee Goldman,
Sachs & Co.
What is the “purpose” of Accounting?
Objective #1
Financial reporting should provide information that is useful to present and potential investors and creditors and other users in making rational investment, credit, and similar decisions.
Objective 1 continued
The information should be comprehensible to those who have a reasonable understanding of business and economic activities and are willing to study the information with reasonable diligence.
Objective #2
Financial reporting should provide information to help present and potential investors and creditors and other users in assessing the amounts, timing, and uncertainty of prospective cash flows.
Objective #3
Financial reporting should provide information about the economic resources of an enterprise, the claims to those resources (obligations of the enterprise to transfer resources to other entities and owners’ equity), and
Objective #3 continued
The effects of transactions, events, and circumstances that change its resources and claims to those resources.
First-Order Feedback System
ProcessInputs Outputs
SensorControl
Feedback Loop
EnvironmentBoundary
Source documents
Recording & posting
Trial balanceReporting
Transaction or event
Analysis
The Accounting Process
Ongoing events in world
Recording Data Bank
ClassifyingInformation
Accounting Information System
Boundary
First . . . Consider this
Accounting is all about accuracy.
Accounting is all about hard numbers.
Accounting is all about accountability.
Accounting is a time-honored tool for making hard decisions about dollars and cents, about profits and losses.
First . . . Consider this
Accounting is the land of bean counters, of number crunchers – men and women with green eyeshades and calculators.
Accounting says Baruch Lev, Professor of Accounting and Business at New York University’s Stern School of Business is increasingly irrelevant.
First . . . Consider this
The problem, says Lev, is that the systems of accounting and financial reporting that are being used today date back more than 500 years.
These systems are not only part of the old economy, they’re part of the old, old economy.
First . . . Consider this
Luca Pacioli, an Italian mathematician who lived in Venice in the 1400s developed double-entry bookkeeping in order to offer business people a simple method for keeping track of their transactions – and even more important, for making sense of the way they did business.
First . . . Consider this
“If you cannot be a good accountant,” Pacioli wrote, “you will grope your way forward like a blind man and may meet great losses.”
The Evolution of the Knowledge Professional
Robert K. Elliott and Peter D. Jacobson Accounting Horizons, March 2002
Introduction
Wealth creation depends on knowledge work as never before, a change full of implications for those who provide information services.
We argue that a new economic model has created a need for a new type of information professional.
Four Economic Paradigms
Hunting and Gathering
Agriculture
Industry
The Information Economy
Your Questions
Is it possible that the role of the new information professional will never be fully defined? Since technology is now advancing at such a rapid rate, could the role of the new information technology professional be a moving target?
Your Questions
Is the new paradigm really coming, or is this simply a case of divergent specialties resulting from an increasingly complex world?
Your Questions
Is it possible for a profession to consciously “reinvent” itself? If so, what are some examples of professions who have succeeded (or tried and failed)?
Your Questions
The author argues that the accounting profession should take the initiative to expand its role in the information economy and serve as the foundation of the new information professional. Are there other professional disciplines that might serve as well or better as a foundation for the new information professional?
Your Questions
In light of the scandals that occurred after the commentary was written, do accountants have an opportunity to fulfill the role of the knowledge professional in the new economy.
Aren’t there other professions that have just as much claim to lead the “information economy?”
Your Questions
As the “information economy” continues to improve making information more easily and readily available to each individual, will there not be fewer positions for these trusted knowledge professionals since their efficiency will be greater than those of today? Conversely, would each individual then become responsible for being their own knowledge professional?
Your Questions
Is it possible that the evolution of the accountant/auditor profession will end in a merger with the finance profession? Or will software replace them both?
Your Questions
Is this field moving so fast that when teaching new methods, they will be outdated by the end of the semester? Does the teaching professional need to be revolutionized as well?
Financial Reporting at a Crossroads
Michael H. Sutton Accounting Horizons December 2002
Some Challenging Questions
Can we believe in and rely on the independent audit?
Can we believe that our accounting and disclosure standards provide the transparency that is essential to investors and the public?
Some Challenging Questions
Can we rely on self-regulatory systems to ensure audit quality and to root out and discipline substandard performance?
No one wants Congressional Required Accounting Principles (CRAP makes a pretty lousy acronym!)
Some Challenging Questions
Can we rely on corporate governance processes – oversight by boards of directors and audit committees – to ride herd on management and to see to it that auditors do their job?
Some Recommended Changes
Regulatory Processes
Timely and thorough investigations of circumstances that may involve fraudulent financial reporting.
Objective and fair assessments of the role and performance of auditors.
Timely and meaningful discipline of auditors and firms that violate acceptable norms of conduct.
Regulatory Processes
Regular oversight and periodic examinations of the policies and performance of independent auditors.
Timely and responsive changes in professional standards and guidance when a need for improvements is identified.
Your Questions
The words “in a timely manner” were used throughout the article in reference to auditors reporting information. What would be considered “timely” in the eyes of the law.
Your Questions
How were auditors ever entrusted to fulfill their duties when they reported to top management of the firm they audited?
Your Questions The author points to information asymmetry
between insiders and the investing public as a source of inefficiency in capital markets and asserts that auditors can “balance the scales” by providing accurate and trustworthy information about business entities. How far do you believe the auditing function can reduce this asymmetry and level the playing field between insiders and the investing public?
Your Questions
Is there a way to redefine the accounting system to ensure that a “single financial reporting failure” is not a disaster that wipes out “decades of hard work, planning, and saving?”
Your Questions
How can the bonds between managers and independent auditors be entirely broken when large amounts of money from corporations fund the independent auditors?
Your Questions
Why did the Enron and WorldCom failures demand meaningful reforms, but past failures did not?
Your Questions
Were the financial reporting of Enron and WorldCom legal or within the rules of accounting authorities?
Your Questions
The FASB rules currently permit distorting financial reporting of Special Purpose Entities. Why?
So . . . What is “wrong” with Accounting?
Accounting in the 21st Century
Testimonies Before the U.S. Senate Banking Committee
The Traditional View of Accounting
“Transaction” oriented
Narrow focus on financial data
Reporting is periodic and not real-time
Limited accessibility of information
Too high a level of aggregation
The Traditional View of Accounting
Limited flexibility which prevents answering queries that cross functional boundaries.
The Fundamental Accounting Problem
Fundamental Accounting Problem
We are using a 500-year-old system to make decisions in a complex business environment in which the essential assets that create value have fundamentally changed.
Baruch Lev Professor of Accounting NYU Stern School of Business
New Math for a New Economy www.fastcompany.com
Intangible Assets
Assets associated with product innovation (R&D)
Assets associated with a company’s brand
Structural assets – better, smarter, different ways of doing business.
Monopolies (barriers to entry).
Intangible Assets
Expensive to acquire and to develop.
Extremely difficult to manage
Property rights are fuzzy
Violation of Matching Principle
Accounting is based on the matching principle.
Good matching = good income number.
Knowledge assets = mismatch.
The Sarbanes-Oxley Act of 2002
Public Companies Accounting Reform and Investor Protection Act of 2002
Sarbanes-Oxley Act of 2002
Directly impact these groups:CPAs and CPA firms auditing public
companies.
Publicly traded companies, their employees, officers, and owners. (Includes CPAs employed by publicly traded companies as CFOs or in their finance department)
Sarbanes-Oxley Act of 2002
Directly impact these groups:Attorneys who work for or have as clients
publicly traded companies; and
Brokers, dealers, investment bankers and financial analysts who work for these companies.
PCAOB
Establishes a new Public Company Accounting Oversight Board (PCAOB).
Board compositionTwo must be or must have been CPAs
Three must not be and cannot have been CPAs
PCAOB
Board composition – continuedChair may be CPA, but must not have
practiced accounting during the five years preceding appointment.
Appointed by the SEC.
Subject to SEC oversight
PCAOB - Funding
The Board will be funded by public companies through mandatory fees.
Accounting firms that audit public companies must register with the Board and pay registration and annual fees.
PCAOB – Standard Setting
The Board will issue standards or adopt standards set by other groups or organizations, for audit firm quality controls for the audits of public companies.
PCAOB – Standard Setting
These standards include: auditing and related attestation, quality control, ethics, independence and “other standards necessary to protect the public interest.”
The Board has the authority to set and enforce audit and quality control standards for public company audits.
PCAOB – Other Powers
Investigative and Disciplinary authority
International authority
The Sarbanes-Oxley Act of 2002
New Roles for Audit Committees and Auditors
Audit Committees & Auditors
Auditors report to audit committee
Audit committees must approve all services
Auditor must report new information to audit committee
Offering specified non-audit services prohibited
Audit Committees & Auditors
Audit partner rotation
Employment implications.
The Sarbanes-Oxley Act of 2002
Criminal penalties and protection for whistleblowers.
Criminal penalties
Failure to maintain workpapers
Document destruction
Securities fraud
Fraud discovery
Protection for whistleblowers