Threat to Investors: Lax Accounting Standards

A terrific article in the Financial Times argues that loose accounting standards increasingly make pending disasters difficult to predict. The article walks through the history and evolution of fair value accounting (and why it replaced historical cost numbers), and details multiple examples of how it has been manipulated.

Since 2007, the total goodwill on the balance sheets of S&P 500 companies had rocketed from $1.8tn to $2.9tn by 2016, much of it used to collateralise acquisition debt.

When Carillion collapsed in January, the group had only impaired £134m of the £1.5bn of goodwill on its balance sheet, even though at least one large acquisition had negative net assets of nearly £200m and was only solvent because of explicit support from the parent group.

The latter is incredibly interesting in a market where publicly traded companies increasingly secure funding to invest in private companies. It should be of some concern to the shareholder’s of these entities when the information they rely on to make educated investment decisions fails to recognize a pending liquidation of the scope described above. Per the article: “The problem with fair value accounting is that it’s very hard to differentiate between mark-to-market, mark-to-model and mark-to-myth.”

Source: Jonathan Ford and Madison Marriage | "The big flaw: auditing in crisis" | The Financial Times | 07/31/2018 | Visit