You don’t count

Opaque reporting in company accounts is not in the public interest says Richard Murphy.

The failings of accounting have been afforded much attention of late. This has been actively appropriate. Many failed companies, dragged down by financial shenanigans of which no prior warning was given in too many cases, provide ample justification for the criticisms.

The focus of the debate has been on the audit profession, and most especially the Big Four firms who audit almost all the large companies in the UK and around the world. That the debate is at its most fevered in the UK is not surprising. What is little appreciated is that three of those four firms – PricewaterhouseCoopers (PwC), Deloitte and Ernst and Young – are headquartered in the UK. Only KPMG has its head office elsewhere – in the Netherlands or Switzerland, depending on how you interpret these things.

The UK has also been at the blunt end of many of the more egregious corporate failures, from banks that fell over in 2008 to,
more recently, HHS, Carillion, Interserve, Patisserie Valerie and others.

The demand for reform has, however, been focused almost solely on the need for a separation of the audit functions of these firms from the other activities that they undertake. On that issue I have, with Saila Stausholm at Copenhagen Business School, undertaken a lot of research. There can be no doubt there are massive conflicts of interest inherent in these firms. They rarely earn more than 30% of their income from audit. And what we also know from that research is that they underpin the whole network of tax havens that have created so much of the tax loss suffered by countries around the world.

“It is very obvious that the public interest in accounts requires that companies publish data in them that extends far beyond that needed by shareholders.”

So when it comes to forming an audit opinion on the accounts of their clients, the evidence that these firms are conflicted by the other services that they supply is overwhelming. On that basis, like most people with an interest in this issue, I support the compulsory separation of the audit functions of these firms from the rest of their activities so that they are entirely independent operations. However, I am also quite convinced that this will not solve all the accounting problems that we have faced in the UK. That is because the accounts that are prepared by UK companies are currently unfit for purpose in the twenty-first century. This needs some explanation.

The trouble with accounting in the UK and much of the rest of the world is that it remains dedicated to the idea that accounts are only prepared for the benefit of shareholders and the other providers of capital to a company. The accounting professions’ regulators, which are wholly captured at present by those reflecting the interests of accountants and their clients, have in fact stated this to be the purpose of current financial reporting. But they are wrong.

The accounting profession and its associated accounting standard setters are meant to act in the public interest. And, I would suggest, it is very obvious that the public interest in accounts requires that companies publish data in them that extends far beyond that needed by shareholders because other data is often required by the other stakeholders of a company.

In this context, to define which the stakeholders of a company might be is particularly important. The fact that there are at least six stakeholder groups who have an interest in the accounts that a company might produce has been recognised since the 1970s. These groups are:

  • the suppliers of capital to a company;
  • the people a company trades with;
  • the company’s employees;
  • the company’s regulators;
  • its tax authority; and
  • civil society in the places that host its activities.

At present accounting-standard setters suggest that all but the first of those six groups are not of primary concern to them and that the others cannot assume that accounts are prepared for their benefit.

“Unless we succeed, business and its accountants will continue to take us all for a ride.”

This problem is compounded in the UK by the fact that since the early 1990s the accounting disclosures of UK limited companies required on public record have been substantially reduced. It is now the case that well over 90% of all UK companies can file a very limited balance sheet on public record and still fulfil their legal requirements. As a result many of the stakeholders of UK companies have literally no way of securing any meaningful accounting data on the companies that employ them, or which they trade with, while civil society is left with almost no data at all on which to appraise the impact of the companies that community’s host.

It is to overcome these deficits in accounting that I have, with others, launched the Corporate Accountability Network. It has two goals. The first is to promote accounting standards that meet the needs of all users of accounts. And the second is to ensure that the resulting data is available to everyone who wants it free of charge and on public record.

The logic behind this demand is simple. Society gives company shareholders limited liability – or the right not to pay the debts of the companies they own if they go bust. It’s an extraordinary privilege. And it passes the cost of corporate bankruptcy to everyone else in society. The very least that companies can do in exchange is to account to all of us about what they do in a format that we can understand. And, I stress, this requirement must apply to all companies, because no one has the ability to know which companies might create a risk without data being available on all of them.

Achieving these goals is the Corporate Accountability Network’s goal. Unless we succeed, business and its accountants will continue to take us all for a ride that none of us can any longer afford. In saying that, I do so with concern for all stakeholders, including business themselves because, if anything, they are at greatest risk from this current accounting failure.

“Millions of small businesses in the UK need to appraise the risks that they face from their own customers. Right now they cannot.”

As anyone who has run a business knows, extending credit is a risky business, but virtually unavoidable in a modern business environment. This means the millions of small businesses in the UK need to appraise the risks that they face from their own customers. Right now they cannot. The information to do so is not available to them to do so. And that is absurd when the data is available to the shareholders of those concerns and sharing it would be virtually costless. Let no one say then that this is an anti-business proposal. Instead it’s all about making sure that business really does add value, while imposing as small a cost as possible on society.

Richard Murphy

Richard Murphy is a chartered accountant and a political economist, an anti-poverty campaigner and a tax expert. He is Professor of Practice in International Political Economy at City University, London …

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