Thursday, June 26, 1997

Chaos in the accounting world

The way in which accounting information is raised, processed and presented is of unquestionable relevance as an important part of the commercial and economic development of the country. There is a direct relationship between the quality of this information (how it is presented and interpreted) and how the diverse economic agents will act in the interests of the Nation as a whole. A few years ago, the Venezuelan Institute of Certified Public Accountants published their Statement of Accounting Standards No. 10 in which it established “Norms for the inflationary adjustment of financial statements” better known as “reexpresion”. The application of these regulations is obligatory as of the 31st of December 1995 and, in effect, calls for the elimination of the traditional financial information based on historical data.

The object of the following commentary is to call attention to the serious problems created by the application of these standards. In no way is the implied criticism motivated by a blind defense of traditional regulations and the presentation of economic information based on historical data. In the same vein, it is not an effort to establish responsibilities for the chaos caused by the application of the norms, which must evidently be amply shared.

The principal problem is that the immense majority of the players, may they be accountants, managers, directors, shareholders, investment advisors, credit analysts, politicians, lawyers, professors or members of the Securities and Exchange Commission and the Bank Superintendency, don’t have the slightest idea of what this is all about, and more significantly, of what the reexpressed financial statements mean. In essence, the blind leading the blind.

All financial statements are applied using “generally accepted principles”. This implies a certain level of awareness and understanding and if these do not exist, there is an evident contradiction and inherent falseness to this assertion. The most extreme example of this is evident in the public accountants, upon who the accountancy board has imposed an obligatory practice without previously insuring that they have previously acquired the necessary knowledge to apply the standards. The most frightening fact is, however, that those few who have managed to gain some understanding of the standards, are in effect those that most seriously criticize them. A minimum amount of caution would call for the simultaneous publication of both reexpressed and historical financial figures, since the latter, although not devoid of problems, still constitute the base upon which the country has developed its analytical capacity.

Another problems is the lack of coordination between the accounting principles and other traditional legal norms. What implication does this have with regards to the Commercial Code (Código de Comercio)? On what basis will dividends be paid out? What financial statements must be presented to public registrars? The answer from the legal establishment for these questions is often “consult your auditors”. Auditors will in turn often say “those are matters to be settled by your shareholders and legal council”. In reality, all these questions should be directed at those who drafted this legislation and, in this sense, we should be asking the Finance Committee of Congress to initiate an investigation and come up with some answers, quickly.

In order to understand the possible implications, it is enough to state as an example that the new accounting principles often result in the reexpression of financial figures to such an extent that a firm posting losses is turned into a firm with positive results and vice-versa. By saying this, I am not implying that the reexpression in these cases is not based on real facts. However, due to the importance and delicate nature of the same, the process should occur under the hands-on supervision of qualified experts and all parties must understand how it works and what it means. As most often happens, however, the reexpression is executed through the use of costly computerized methods, “black boxes” that perform these intricate multiplications and divisions at pentium-level velocities, spitting out the final results, unfathomable to most mortals, and therefore basically useless as decision making tools. 

Perhaps we should be developing simpler alternatives for reexpression based on the saying “lo perfecto es enemigo de lo bueno” and that would allow the survival of accounting methods that don’t require massive computers, software or auditing Swat teams.

Where responsibilities lie if and when fraud is committed through the improper use of reexpression must be closely analyzed. Accountants have previously been limited to simply registering historical facts. Today, prodded by their own accountancy board to interpret figures, they have seen their own quotas of responsibility sky-rocket.

We urgently need to solve the inconsistencies and avoid the dangers of this Pandora’s Box. I realize these comments may seem exaggerated to some, but unfortunately they are true. All that is required to understand the possible implications for the country of this accounting chaos, is a bit of that elusive resource named intellectual honesty. For the benefit of all, lets apply it.