Mafia Buzz 2002
January 2002 (20 Minutes)
Accountancy
The IASB is sending signals that it will not be pushing for full fair
value accounting for financial instruments in the short term. The
banks are lobbying against full fair value accounting and it seems
as if the lobbyists are exerting more pressure on the IASB than the
purists are. Sir David Tweedie still insists that in the long term
they will move to full fair value accounting (he is a purist) but
says that work on this will probably only start in five years. (The
next back down will be to retain hedge accounting, which the
purists have been fighting to destroy.) (Page 7)
According to a recent discussion paper called Valuing Intangibles
published by the ICAEW, financial directors want to measure
intangibles but analysts feel that this is a waste of time because
they, as part of their valuation process, automatically arrive at the
value of intangibles. Both groups are anti standard setters
requiring intangibles to be measured and recognised. The study
found that, other than focusing on cash flow and the investment fit
into the fund, 60% of a company’s value is determined by “soft
factors” such as management strategy and processes, efficiency
and use of intangibles, size, turnover, quality of management and
staff, staff incentives and gut feel. (Page 8)
Quote: “The proposals might be criticised by others, but an
inability to solve all problems does not justify inaction.” (Our
authorities need to understand this principle!) (Page 8)
The ICAEW is to introduce mandatory practice review. (Playing
catch-up with RSA!) (Page 8)
Consolidator Tenon has issued a profit warning and the share price
has dropped by 30%. (I have been against this concept for years.
I wonder how the clients of the auditing firms that were taken over
by the “consolidator” feel about this?) (Page 8)
Another IT company was found to be overstating its turnover, in
this case by 93%! The share price has fallen from 198p to 7p.
The auditors are in for the high jump! (Our local practice review
insists on verifying completeness of revenue and validity of
expenses. Had the UK auditors done this, they would not be
facing court action. Listen to Gillian, she is trying to help you!)
(Page 9)
Joe Berardino of Andersen writes: “Standard setting is too slow.
Responsibility for administering discipline is too diffuse and
punishment is not sufficiently certain to promote confidence in the
profession.” (Page 10)
The statement on investment property only permits freehold
property to be recognised at fair value, not leasehold property. A
company called Hongkong Land wiped 88% of its equity off its
balance sheet because leasehold property has to be amortised over
the lease in terms of the statement on leasing and may not be
valued in terms of the statement on investment property. A lobby
group has been set up to try to persuade the IASB to change this.
(Page 11)
Because of dissatisfaction with the results achieved using GAAP,
many companies provide pro-forma information in their financial
statements. SEC has objected to this and has stated that if proforma information is provided, it must be reconciled back to the
GAAP information. If not done, anti-fraud legislation could be
applied against the company. (Page 11)
Canada has issued a new standard requiring that stock options be
recognised at fair value as an expense. In the past, for example,
goods and services paid for with stock options went unrecorded.
(Note that the US’s standard still has to be passed by Congress, so
the fight is still on in that country.) (Page 11)
The AIMR found from a survey that 80% of financial analysts and
portfolio managers want to see share options treated as an expense
in the income statement. (Time to take heed of what the users
want for a change? Or is the preparer lobby going to win again?)
(Page 14)
The average accountant’s salary in the UK, after bonuses and
other perks, is ₤117 771 p.a. (No wonder there is an exodus from
RSA.) (Page 14)
It became known in October 2001 that the Boots pension fund (we
are talking big money here) moved from an equity bond ratio of
75/25 to 0/100. There have been arguments for and against this
action. What the trustees did was to crystallise a surplus in the
pension fund thereby reducing the risk to the employees and the
company. One must wonder if this is a wise long-term strategy or
merely a strategy to get out of the market when it had peaked.
The interesting by-product of this event was the reaction on the
share price on publication of the news – it did not move! (Page 48)
Robert Bruce takes a look at the move from the word “audit” to
the word “assurance”. He states that the word “audit” has
unpleasant connotations (like being sent to bed with no supper)
whereas the word “assurance” has a certain “Aura” and
“Mystique” (sounds like the names of lap dancers) to it. (Page 49)
If a dividend is proposed and declared before the year-end, it must
be raised as a liability. What does the recipient do? Raise it as
revenue on the last day to register? There has been much debate
on this. I believe that the answer is to accrue it when declared.
(Page 98)
If a defined post-retirement benefit fund does not meet the
definition of a plan asset, it is recognised as an asset on the
company’s balance sheet, with the obligation being recognised as
a liability. (Page 98)
A new batch of exposure drafts from the IASB is on its way: first
time application of GAAP, business combinations, financial
instruments, banking activities and share based payments. The
IASB set a target to have these statements completed by the end of
2002. (Page 100)
Ron Patterson looks at the demise of the prudence concept. He
argues that this concept is a feature of many statements (inventory,
PPE, provisions, etc.) and feels that it should be a fundamental
concept. (Hanging onto the past dear Ron?) (Page 105)
In an excellent article by Henrietta Thompson, the problems with
the implementation of AC116 are addressed. Points raised are:

Ignorance of the standards

Recognition of a surplus in the fund

The normal v abnormal treatment in the income statement

The impact on the results of the company

The fact that the actuaries only value the fund every 3 years

The impact of changed assumptions when valuing obligations

Valuing the scheme assets at the balance sheet date

The time it takes actuaries to produce the values
(These points are of concern here in RSA and are not, in many
instances, being addressed.) (Page 108)
The directors of a company called Gameplay in the UK decided
that the costs of preparing consolidated financial statements and a
cash flow statement did not outweigh the benefits and felt that a
qualified audit report was in the best interests of the shareholders!
(A smoke screen to cover up more serious problems in the
company?) (Page 112)
Liverpool Football Club has changed its accounting policy of
amortising its intangible assets (player’s contracts) from the period
of the original contract to the period of the extended contract. In
the year the player signs the extension, the unamortised portion of
the intangible asset is written off over the new contract period.
1
Mafia Buzz 2002
An employment condition of a psychiatrist working in the UK was
that he periodically underwent personal psychotherapy (they go
mad themselves if they don’t!).
The revenue authorities
disallowed this expense, as its purpose was to enable him to
perform his duties and was not in the performance of his duties!
(And you thought our SARS was mean?) (Page 119)
The UK is looking at an alternative to an audit of a small company
called the IPR (independent professional review). This service is
cheaper than an audit and, in some cases, is more effective as it
focuses on the big picture (analytical review). However, it picks
up fewer errors. (Page 123)
Often auditors are called upon to give a special report to a third
party such as a potential lender. Auditors should weigh up the
level of risk taken against the compensation received for taking
this risk. They should also point out to lenders that they are
unable to give an opinion on future income and solvency of a
client as no amount of audit evidence could support such an
opinion. (Page 124)
The UK is in the process of reviewing its laws on small
companies. The feeling is that “small” should be replaced with
“private” – it looks like SAICA is on the same track. (Page 129)
A study was conducted on the reasons for failures of SMEs and
found that the lack of regular quality accounting information was
top of the list. (Page 130)
Accountancy SA
Linda de Beer and Alta Prinsloo say that there is a joint initiative
between SAICA and the JSE to form a GAAP Monitoring Panel to
which GAAP contraventions will be reported. They also
acknowledge that private companies are being burdened by having
to comply with Statements of GAAP and they are going to form a
committee (another one) to look into the matter. (Page 8)
Danie Coetsee writes about classification of financial instruments
– mainly quoting the statement. He gives some basic examples to
illustrate the statement. (Page 13)
Nigel Payne lists the primary characteristics of corporate
governance per the draft King 2, which is based on ethics,
integrity and disclosure:
1. Discipline: Adherence to correct and proper behaviour.
2. Transparency: Facilitate meaningful analysis of AFS.
3. Independence: Avoid conflicts of interest.
4. Accountability: Enable investors to query director’s actions.
5. Responsibility: Correcting and penalising mismanagement.
6. Fairness: Balancing the interests of all stakeholders.
7. Social responsibility: Response to social issues.
My article was on problems between the analyst and GAAP. (Page
29)
AIMR Advocate
From a letter to the editor (shortened): “Our credit department
approved a loan submitted by my supervisor with the proviso that
the client could prove that he had liquid assets exceeding an
amount of $250 000. My supervisor wrote on the letterhead of
another bank that this was indeed so, forging the signature of the
bank manager. When I queried this, my supervisor said: “it is not
what you can do to reach our monthly targets, it is what you must
do.” On approaching the head of my department, I got the same
response. What do I do?” The answer given was to document that
whole situation and report it to the firm’s head of compliance.
(People and companies victimise whistleblowers so if this was my
brother, I would advise him to document the whole story and get
the heck out of there as fast as possible.) (Page 6)
Canada has set a goal to harmonise with US GAAP. (Alliances
are being formed and the battle lines are being drawn.)
Financial Mail
Venture capital is alive and well in RSA. Promoters, who earn
hefty commissions, target selected investors with prospectuses that
show wildly unrealistic projections. These investors are left with
unlisted stock that cannot be sold. When, and if, investors receive
annual reports, the picture presented is very different to the
prospectus picture. (Suckers are born daily.) (11th, page 26)
Exceptional returns from SA property trusts and loan stocks over
the past three years have highlighted asset diversification as the
cornerstone of sound investment portfolio construction. (Note:
The past is not a guarantee for the future.) (11th, page 38)
Donald Rumsfeld says of Bin Laden: “We know for certain that
he is in Afghanistan, some other country or dead.” 11th, page 58)
In a letter to the editor supporting the death penalty, the writer
says that it is God’s responsibility to forgive criminals and it is our
responsibility to facilitate their meeting as soon as possible. (18th,
page 8)
The chances of a managed investment fund beating the Alsi index
are 1000:1 and investing in an index fund is a no-brainer. (Letter
to editor, 25th page 11).
Why were investors happy to invest in Enron at a PE of 80 when
all it did was trade in oil? One big lesson to learn from this event
was: “Diversify your investments!” (25th, page 49)
Fortune
John Dingell, the democratic representative from Michigan, says
that self-regulation in the accounting profession is not working.
(7th, page 55)
Auditing has become a commodity and firms are using it as a loss
leader to open the door to more profitable consulting contracts.
(This is the main reason why small auditing practices do not want
to see the demise of the audit for small companies. They will lose
work to the Certified Financial Accountants.) (7th, page 55)
Harvey Pitt, the new SEC chairman (who used to be Andersen’s
lawyer) does not want reform in the profession. He is calling for
clearer language in F.S., prompt, disclosure of material
information and disclosure by the auditors of the three to five
subjective accounting decisions that are the most important to the
company’s financial status. (I think that the last idea is great!) (7th,
page 56)
Marie worked for Enron for 15 years investing 15% of her salary
into her pension plan, which invested the total amount into Enron
(what else!). At the age of 61 she had amassed $500 000 and
started contemplating retirement. (Weep for her! Lesson? It
starts with a “D”.) (7th, page 76)
Economists watch the yield curve for clues as to future economic
trends. When the yield curve is downward sloping (short-term
interest rates are higher than long-term), indications are that there
will be an economic slowdown. When the yield curve slopes
upwards (long-term interest rates are higher than short-term) there
is almost always an economic recovery in sight. Another indicator
to watch is the gap between corporate bond rates and government
bond rates (the corporate credit spread). The wider the spread, the
bleaker is the corporate performance outlook. So if markets are
buoyant but there is a downward sloping interest yield curve and
corporate credit spreads are increasing, reduce your exposure to
equities, subject to the other indicators such as corporate earnings.
(7th, page 78)
Sustained high achievement requires not just a sharp intellect but
also physical strength, emotional intelligence and a strong sense of
2
Mafia Buzz 2002
purpose. Fear, anger and frustration reduce our capacity to
perform. The sense of challenge, possibility, determination and
positive fight is what makes it possible for us to apply our talent
and skill. We must continuously refine our vision and purpose
statements and to map our plans for change and achievement. (7 th,
page 84)
A letter to the editor asks why stealing from employees,
shareholders, the consuming public and the taxpayer is becoming
the standard way of doing business. (I know! People have
forgotten that real joy comes from the simple things in life –
sunsets (and rises), walking in the bush, swimming in the sea or a
mountain stream, watching a good movie, etc. Instead they have
become materialistic, which costs money. What is the easy way to
get money? Take it!) (21st, page 9)
You can make money on the stock exchange by realising that the
market determines the price of equities based on its expectations.
These expectations are ever changing and market prices reflect
these changes. If you can predict when the market will revise its
expectations, you can coin it! How do you do this? By applying
fundamental analysis techniques (which the market seems to have
abandoned) to the company and its equity instruments, taking your
own views as to increases in revenues, margins, ability to generate
cash flows, growth, etc. and to assess the market views in relation
to your own. (Not a bad idea but a lot easier said than done.) (21 st,
page 79)
Techtalk
The IASB is considering changing the requirement to amortise
goodwill and intangible assets.
The 9/11 event may not be used as an excuse to allocate expenses
to extraordinary items.
ED149 (auditing fair value measurement and disclosure) and
ED150 (effect on the audit of financial statements where the
Internet or other public network is used) have been issued for
comment.
IFAC is looking at ways of assisting small and medium practices.
STRATE has had an impact on script count audits to verify
existence. Auditors will now have to rely on the electronic
records of CSDPs
The CFA Digest
Companies that make a voluntary decision to provide greater
levels of disclosure are valued by investors, which should lead to a
reduction in the cost of capital. (Page 3)
How is this for strategic thinking: A biotechnology company was
awaiting approval for a drug that it developed. If approval were
granted the company would need cash to launch the product so it
bought call options on its own shares. Drug approved, price
skyrocket, sell call options, make the money to launch the product.
The story had a sad ending: the drug was not approved and the
share price fell by 35%. But what a fantastic idea! (Page 10)
February 2002 (20 Minutes)
Accountancy
Japan, which contributes $3 million p.a. to the IASB, lifted its
threat to pull out of the standard setting process over its
unhappiness about the possible elimination of the pooling of
interest (or, as we know it, the uniting of interests) method of
business combinations. (Australia, New Zealand and Hong Kong
have already eliminated this method.) (Page 8)
SEC would like to see in place a tough, no nonsense, fully
transparent disciplinary system, subject to independent leadership
and regular monitoring of accounting firms. (Page 8)
A member of the Nokia board was recently fined ₤70 000 for
exceeding the speed limit in Finland by 25kph – fines in that
country are based on the offender’s earnings. (Page 11)
There will always be a potential threat to the independence of
auditors as long as those to whom they report have the power to
appoint and dismiss them. The writer rejects the idea that the
public sector should get involved in their appointment and
suggests that auditors of auditors could be a possible solution.
(Additional costs and delays, but, hey, more income for our
profession!) (Page 24)
There is much controversy in the UK about the concept of
“consolidators”, i.e. companies taking over the services supplied
by smaller audit practices and consolidating them into one large
practice. Tenon has, by following this approach, become the 10th
largest firm in the UK. But not all is well in this industry. (If you
are tempted to go this route (there are consolidators operating in
RSA) read this article and you may think again. (Page 26)
Financial directors (short-term thinking, cost cutting
beancounters) and marketing directors (spendthrift, creative, longterm developers of brands and markets) are gradually
understanding each other’s point of view. Accountants are
starting to understand, for example, that brands are important
where product differentiation is difficult and that there is a need to
incur marketing expenditure even where an immediate return on
investment cannot be justified. Accountants need to develop new
techniques to measure and evaluate advertising and promotional
spends so as to optimise investment in this area. (For a business to
be successful there should be synergy between the production,
marketing, personnel and accounting functions, not conflict.)
(Page 34)
Over the years English case law has accepted that “fraud” is to
“deprive by deceit” (Isn’t that beautiful?) This article warns that
one should not institute an action at law if the intention is a moral
crusade (typical in a divorce). Don’t go to court unless you can
demonstrate actual loss. (My view is don’t go to court – the only
winners are the legal guys and dolls.) (Page 45)
Research shows that smaller companies tend to hold more cash in
relation to total assets whereas larger companies with access to
capital markets hold less cash. Excess cash leads to small
increases in capital expenditures, acquisition spending and
dividends paid to shareholders. (Page 13)
Dr Trisha Greenhalgh’s articles are always excellent – she writes
on medical matters. This month she explains what a MET is (one
calorie burned per kilogram of body mass per hour). If you are
looking to lose weight, work out at 5 METs (equivalent to a brisk
walk) over a long period of time (one hour), whereas if your goal
is cardiovascular fitness, work out at 10 to 15 METs for short
periods (five minutes). She says that weight lifting is good for
bones and muscles. (Page 46)
Time
If you are thinking of building a website, read the article on pages
50 to 51.
Anyone who destroyed records out of stupidity should be fired.
Anyone who destroyed records to try to circumvent our
investigation should be prosecuted. (21st, page 18, commenting on
the Enron affair)
Does your audit committee add value or does it just go through the
motions? Audit committees should:



Set themselves measurable objectives
Review their performance against their objectives
Assess the business risks and the responses to them
3
Mafia Buzz 2002

Assess the degree of prudence in the financial statements

Avoid temptation to become bureaucratic or process driven
(Page 68)
The IASB has issued SICs 27, 28, 29, 30, 31 and 33. (I will be
getting hold of them and updating your GAAP material if you did
a workshop in 2002.)
Canada has approved its standard on differential reporting. It will
apply to enterprises with no public accountability and where all of
the owners entitled to vote have given their unanimous consent in
writing. (We started our initiative more or less when they did.
They are one step away – just need final approval. How many
steps do we still have to go? Have we even started?) (Page 78)
Ron Paterson welcome’s the IASB’s intention to do away with
black lettering in its standards. (Page 82)
The second, and last, part of the article on post-retirement benefits
deals with, among other things, the situation where the employees
of a group of companies belongs to the group defined benefit
scheme. In the subsidiaries, it may not be possible to identify the
fund assets and obligations attributable to that company so in each
subsidiary the fund will be dealt with as a defined contribution
fund. However, on consolidation, it will be dealt with as a defined
benefit fund. (Page 84)
The IASB is here to stay and it means business! But it will not all
be plain sailing what with the attack on it by the Japanese and the
Enron scandal. Behind the scenes they have been working hard.
By May 2002, there will be 14 new exposure drafts out, including
EDs on business combinations and share based payments. (Just
when we thought that we could have some peace and quite!) (Page
95)
I was in the middle of preparing my valuation manual for
participants of my valuation workshops when I came across the
article on pages 104 to 106. I was able to pick up some good ideas
from it but was disappointed to see that, in a journal of this stature,
they talk about using Ebitda as a basis for valuing the operations
of a company! (Page 104)
The latest version of the UK’s Financial Reporting Standard for
Smaller Entities (FRSSE) is on pages 115 to 151. (The world is
passing us by!)
Accountancy SA
And now for something completely different! I think that SAICA
is opening itself up to attack by publishing some of the comments
made in this article. If you are an activist from the 60’s or in your
early 20’s, you will enjoy this one. (Page 3)
Jan Kotze’s article on sustainable competitive advantage makes
the following points:
1. Your products and services should provide value.
2. You must swiftly respond to customer demands.
3. Ideas and information drive the new economy.
4. To seize the initiative your must be flexible.
5. Continuous improvement is essential to being competitive.
6. Develop a strategy that gives you a competitive advantage.
7. Focus on your core competencies.
8. Get all managers involved in strategic thinking.
9. Encourage learning through making mistakes, if necessary.
(Page 14)
Bernard Agulhas writes about what is happening in public sector
accounting. I am so impressed to see that they are now coming
around to understanding that AC statements cannot be imposed on
NGOs without major modifications, e.g. museum assets do not
have to be impaired because they are not generating economic
benefits!
If you are wondering whether your pay is sufficient, read page 19
where rates of pay for accountants are set out.
Carolina Koornhof and Danie du Plessis from Tukkies deal with
red flags that lenders or investors should look out for before
committing cash to a company. The top ten are:
1. Dishonest and unethical management.
2. An audit qualification: a break down in controls.
3. Suspension or de-listing from the stock exchange.
4. Poor reputation of management in the community.
5. Autocratic management.
6. Frequent changes in directors, legal council or auditors.
7. Doubt as to the ability to continue as a going concern.
8. Continuous problems with regulators.
9. Unpleasant surprises.
10. Lots of profits but no cash flows.
(Page 21)
My article called “Your dog is fat” was about how not to take
decisions. The topic was on deferred tax and the short-term
insurer. The point I made was that one can’t leave tough decisions
to committees to resolve. See next month’s Techtalk were SAICA
announced that the committees could not solve the problem with
deferred tax and the insurer. (Page 31)
Penelope Webb looks at the morality of the structured tax schemes
that abound in RSA and compares them to the infamous film and
plantation schemes that were touted by reputable auditing firms in
the past. (Page 33)
Business Day
Michael Raynor of Deloitte Consulting says that it is a waste of
time trying to predict the future and has come up with a concept
termed strategic flexibility:
1.
2.
3.
4.
Understand the drivers of change that affect the business.
Create a strategy that is optimal for each scenario.
Build resources for each strategy.
Monitor the environment. When it makes sense to act, act.
Walking away from an option is not always a bad thing.
Financial Mail
Jaumain Georges, in a letter to the editor, does some interesting
arithmetic:
1. Had you invested R100 000 in 1984 with a typical financial
institution, you would have today R1,3 million. (15% p.a.)
2. The price of a BMW 518 in 1984 was R9 000 and a meal in a
top restaurant R7. The cost today is 20x (18% p.a.).
3. Had you invested R100 000 in dollars in 1985 and earned 7%
p.a., you would be worth today R4,5 million (24% p.a.).
(1st, page 10)
Bram Meyerson says that companies should allocate more
resources to developing systems and solutions to deliver new
products and services (and existing ones) and on research
activities to find new ways to deliver value to the business. (1 st,
page 58)
Before starting an investment programme you should define your
risk tolerance level, high, medium or low. (I hear stories that
young CAs starting out on their careers are choosing low risk
(money market) investments for their defined contribution pension
funds!) (1st, page 85)
Stephen Cranston draws attention to the poor administration of
pension funds in RSA. (I was chatting to someone the other day
who specialises in auditing pension funds and he told me that he
had to qualify 17 of the past 24 funds he had audited.) Mr.
Cranston suggests that members of funds should become proactive
and wake the trustees up! (1st, page 87)
4
Mafia Buzz 2002
Mr. Alan Greenspan said: “If you thought that you understood my
comments, then I did not make myself clear.” (1 st, last page)
Techtalk
A Plummer, in a letter to the editor, asks why there has been such
little comment on the legislation on pension funds that was
promulgated in December, 2001. He states that this legislation
will be the final nail in the coffin for defined benefit plans.
(Maybe this is why there has been so little comment: companies
have already moved away from DBPs to DCPs. But I wonder
how many people have looked into the retrospective implications
of this legislation?) (8th, page 12)
SAAS 910, engagements to review financial statements, has
replaced AU333.
Sharon Wood looks at some of the actual and proposed legislation
affecting pension funds. New rules on how trustees should invest
the funds and the possibility of having to invest part of the funds
in “Socially Responsible Investments” are being considered.
Retrospective legislation has just been passed requiring funds to
find and pay past members part of the surplus in a fund. (Guess
who will end up paying for all this? The members of the fund will
foot the bill. I am so pleased I do not belong to a pension fund! If
you do, your pension is being eroded, my friend. You had better
start making your own plans.) (8th, page 69)
Shoprite’s MD Mr Whitey Basson stated that the group was
paying R78 million p.a. rentals on uneconomic leases, hence the
poor margins at the company. (Did the auditors not tell
Mr. Basson about the statement on provisions and the requirement
to provide for onerous contracts?) (22nd, page 59)
Fortune
The real tragedy of Enron was that thousands of employees
invested their entire pension into the company’s shares and lost
the lot. (4th, page 19)
The merger of AOL and Time Warner has resulted in $155 billion
being wiped off the market capitalisation of the two companies. A
goodwill impairment of $40 to $60 billion is to be taken. (So
much for the merger of all time!) (4th, page 57)
Geoffrey Colvin asks why there was not more of an outcry when
Kmart shut its doors. Its job losses are more than Enron, its
purchases were $25 billion p.a., it was in a straightforward
business and yet, in relation to Enron, this failure went almost
unnoticed. (My answer: Enron involved scandal, which sells
newspapers, whereas Kmart was just dull, pathetic management.)
(18th, page 15)
Warren Buffett suggests that audit committees should ask the
auditors the following three questions:
1. If you were solely responsible for preparing the company’s
financial statements, would they have been different?
2. If you were an investor would the information you receive
give you the necessary understanding of the financial
performance of the company?
3. Would you be happy with the company’s internal control
procedures if you were the CEO? (18th, page 23)
IBM’s revenues were up only 5% in 2001 yet its earnings were up
by 20%. This was achieved by financial engineering, e.g. buying
back its own shares, using the surplus in its pension plan and
managing its tax rate down. (The US could learn a thing or two
about financial engineering if they came to RSA and studied our
techniques!) (18th, page 38)
SAICA News
Mr Sehoole wrote to all members and associates to inform them of
the work that SAICA was doing to address the fallout from the
Enron affair, e.g. work on disciplinary procedures, the legal
backing project and the formation of the review panel.
The IASB is working on a new statement that will give guidance
to companies preparing financial statements for the first time
under International Accounting Standards.
To protect the public from incompetent financial service
providers, the Government is seeking to regulate anyone who
furnishes any recommendation, guidance or proposal to clients in
respect of the purchase of any investment or financial product.
(Looks like we will have to be careful with our portfolio
management workshop – may end up with a R1 million fine or 10
years or both!)
Time
Memories of Nick Leeson surfaced in Ireland with a new rogue
trader called John Rusnak taking Allied Irish for $750 million.
This is not quite in the same league as Nicky boy’s $1,3 billion
but questions are being asked: “Did the banks not learn from
Barings Bank’s experience?” (18 February, page 38)
March 2002 (20 Minutes)
Accountancy
Sir David Tweedie says that the US standards are generally
accepted as the most comprehensive and detailed in the world but
that does not mean that every individual standard is the best or that
the US approach to standards is the best. He says that the rule
book mentality lends itself to finding ways of getting around the
standards. (Page 16)
The Confederation of British Industry is to lobby the government
over the statement on retirement benefits due to the volatility it is
producing in financial statements. (The users of financial
statements know how to deal with this volatility – they don’t just
look at the bottom figure anymore. Wakeup CBI.) (Page 16)
Commentary is coming in on the IASB’s IFRS (the new name for
IAS – better get used to it!) new preface. Criticism is levelled at
confining the statements to general-purpose profit-orientated
entities. (This is what they were designed for, silly. Leave NGOs
and SMEs to get on with developing standards that are appropriate
to them.) Some are calling for a “true and fair” override. (This is
not possible, as it will undermine the standards.) Some are
opposed to the idea of scrapping the black lettered paragraphs.
(For what it is worth, I liked this idea and will be sad to see it go.)
(Page 17)
Guess who is dying to say “I told you so!”? Mr. Arthur Levitt,
past chairman of SEC. He tried to push for auditor independence
while in office but was blocked by congress. The senator who
opposed him has come out with an apology following the Enron
affair. Joseph Lieberman conceded that “the gatekeepers were not
keeping the gate and the watch dogs were not watching.” (Page
17)
The IASB is starting to come under pressure. The Japanese and
the French are not happy that the IASB intends to patch IAS 39
(financial instruments). The secretariat is of the opinion that they
need to do “something” to the statement so that people can use it.
(Sounds wishy-washy to me!) (Page 20)
The UK’s and Canadian’s ASBs are questioning the point of
adopting a statement such as IAS39 when they know that it is
going to change in the near future. (Agree!) (Page 20)
5
Mafia Buzz 2002
The problem with separating the auditing function from other
functions, such as consulting is that the auditing function provides
an ideal opportunity to cross-sell other services. Other services
make up a large proportion of an audit practice’s revenue and to
ban auditors from giving these other services would be a major
blow to the viability of auditing practices. (Page 23)
One must question whether the IASB will be able to maintain its
independence considering the way it is funded. Contributors (e.g.
Japan) could put pressure on the standard setters by threatening to
withdraw their contributions if they do not like what is being
produced. (Page 29)
A letter to the editor criticises FASB for withdrawing the
requirement to amortise goodwill and other intangibles. The
auditor maintains that all assets are costs held in suspense, which
eventually have to be recovered. He states that this will encourage
companies to overpay for acquisitions and employees’ bonuses
will now increase as such costs no longer have to be expensed.
(Page 29)
The cover feature discusses the traditional budgeting process,
looks alternatives and asks the question: does budgeting really add
value to a company? (I read somewhere that Virgin Atlantic, for
example, does not prepare budgets.) (Page 32)
The annual cost of fraud in the UK is ₤13,8 billion. This article
encourages companies to collect evidence that will stand up in
court and report fraud to the police. By not reporting fraud, one
sends the message to the perpetrator that there is little downside
and lots of upside for his or her activities. (I reported a massive
fraud that was taking place in a public hospital about ten years
ago. I collect the evidence and made a statement only to be told
that the police could take it no further. A year later, the Sunday
Times blew the story. By then the Government had lost millions
of rands. A waste of time in RSA?) (Page 72)
Here is an age-old story. Two equal partners are in business. One
is active and the other passive. Active makes an offer to Passive
to buy her out. Passive gets advice from a CA who finds that
Active has been understating the profits of the business by
manipulating GAAP to get the shares at a cheap price! (I was
holding a valuation workshop at Strachan Tayler in Durban
recently – an awesome knowledgeable and experienced team of
partners these. One of the partners told us of a concept called the
“Texas Auction”. It works like this: if two people are in a
negotiation such as this, and they cannot agree on a price, the
partnership agreement must give the seller the right to buy the
shares from the buyer at the offer price. Don’t you think that this
is absolutely brilliant?) (Page 67)
Roger Hughes of PwC says that any auditor who is willing to
compromise his or her independent judgement must be mentally
deranged to put the firm and its partners in jeopardy of losing
everything. He states that the brand name of any audit firm rests
on integrity. He states that the failure rate of audits is very low
and when failures do occur it is due to misplaced trust,
incompetence or bullying. He believes that the safeguards built
into auditing standards and guidelines are adequate. (Well said
sir. I am in full agreement, but there is only one problem: we all
need to be reminded of these standards periodically. Maybe this is
where the answer lies: an annual dedication service to integrity!
Joking.) (Page 81)
The ICAEW’s audit and assurance faculty has issued guidance for
auditors on auditing defined benefit retirement schemes. It can be
downloaded from www.icaew.co.uk/auditassfac.
(Come on
SAICA, we need this guidance desperately in RSA.) (Page 85)
You can download the draft statement on accounting for insurance
contracts from www.iasb.org.uk. (Page 95)
The abuse of reporting standards appears to lie at the heart of the
Enron crisis, i.e. non-disclosure of related party transactions and
the off balance sheet treatment of structured finance vehicles. The
author looks at:

US GAAP (consolidation is based on a legal view, i.e.
ownership, with specific rules regarding SPEs)

UK GAAP, which consolidates “quasi-subsidiaries”

International GAAP, which provides for the consolidation of
SPEs where the substance of the relationship indicates
control, e.g. bear the majority of the risks or rewards
(Page 98)
Ron Paterson talks about the capitalisation of borrowing costs. In
the US it is compulsory to capitalise borrowing costs, the UK
gives an option, favouring capitalisation and IAS gives an option
favouring expensing. The IASB has now come out in favour of
scrapping capitalisation! (For once, RP does not give his view!
Also confused, RP? I have always been in favour of
capitalisation, if additional borrowing costs were incurred.) (Page
100)
Sir David Tweedie says that the IASB will be ready with their
long-term plans in May 2002. The board discussed five
important projects at its technical session:
1.
The statement on employee benefits, where a quirk was
discovered which needed immediate rectification.
2. The statement on business combinations, which is going to
require major surgery if convergence is going to happen.
3. The improvement project: lots of exciting improvements
being considered – can’t wait for them to be published!
4. A new statement on reporting performance, which seems to
be taking an absolute age to process.
5. Insurance contracts - an incredibly difficult standard on
which to get consensus.
(Page 106)
A synopsis of the new SIC standards is contained on page 114:
SIC27: Evaluating the substance of transactions involving the
legal form of a lease. If a series of transactions involving the legal
form of a lease are linked and the overall effect cannot be
understood without reference to the series of transactions as a
whole, they should be treated as one transaction. (This often
happens where leases are tax structures.)
SIC28: Business combinations – date of exchange and fair value
of equity instruments. The date of the acquisition is the date the
acquirer gains control of the operations. The fair value is the
quoted price at the date of exchange unless the price is considered
to be an unreliable.
SIC 29: Disclosure of service concession arrangements. This
statement merely sets out the disclosures necessary in this
situation.
SIC 30: Reporting currency: translation from the measurement
currency to the presentation currency. Use the standards in
AC112 when presenting financial statements in a currency other
than the measuring currency for convenience of users. Such
financial statements should not be part of the official ones.
SIC 31: Revenue – barter transactions involving advertising
services. Such revenue should be measured at the fair value of
the advertising services provided.
SIC33: Consolidation and equity method: potential voting rights
and allocation of ownership interests. When assessing control or
significant influence, should consider potential voting rights that
6
Mafia Buzz 2002
are currently exercisable or convertible.
However, when
calculating minority interest or share of profit of associate, these
potential voting rights should be ignored.
It is suggested that, to avoid being seen to be dependent, retired
audit partners should not join the board or the audit committee of
a former firm’s client. (Page 134)
Accountancy
David Damant writes about headline earnings. He admits that
what the users really want is sustainable earnings. However, as it
is not possible to get agreement on what this concept, the next best
thing is headline earnings. The concept of headline earnings is to
take the gains and losses on capital items out of earnings to be left
only with trading earnings. (One has to ask the question: are we
not flogging a dead horse here? DD stated that in RSA there was
a committee of financial analysts looking at the original statement.
This is incorrect. There was no such committee.) (Page 3)
Professor Saul Klein quotes a book called The Lexus and the
Olive Tree by Thomas Friedman, which lists what makes a
successful country. He converts the positives into negatives, i.e.
what makes an unsuccessful country. This is scary reading as
what makes an unsuccessful country is a perfect description of
RSA; e.g. “The country would emphasise and support its unique
linguistic diversity, and avoid unifying its people through the
imposition of a common language.” (Page 7)
Mike Henderson looks at the gap between salaries of top
management and the lower level workers. With the disclosure of
CEO salaries, questions are being asked if 100 times the worker’s
salary is a fair salary for a CEO. Reduce this ratio and we lose our
top people. COSATU wants the ratio to be brought down to 8!
(Page 17)
Steven Firer writes on the move to fair value accounting. He
concludes that full fair value accounting will convert the balance
sheet into a true statement of economic net worth. (Page 19)
Howard Cooke suggests that one can earn higher returns for
money held in trust for the beneficiaries if the money is pooled
and rates negotiated. (Page 21)
My article was a summary of the survey we did on differential
reporting. 2 284 took part in this survey. (Just as an aside, I never
received any acknowledgement of the work put into this survey or
for the personal costs incurred by me. The letter to SAICA
referred to in the article was never acknowledged. So on behalf of
all the small audit practitioners in RSA, who I was trying to
support, “thank you Charles”.)
Penelope Webb (what a pleasure to read this lady’s articles)
advises you not to let SARS grind you down when trying to stand
up for your rights. (Page 31)
Nigel Payne looks at corporate government issues following the
Enron meltdown. He places most of the blame for Enron on the
lack of corporate governance (greed, dishonesty, complex
transactions, lack of risk management and internal control,
conflicts of interest, etc.) and points to poor guidance from the
audit committee for the fiasco. He says that internal audit’s focus
is primarily on operational as opposed to financial risks and
controls and thus the potential for cross reliance may be limited.
He says that it takes a brave audit committee to choose one firm to
provide internal and external audit services. (Page 34)
The editor never passed Hilton Shuttleworth’s letter onto me so I
have not replied to it yet – watch this space. (Page 37)
There is a cute letter from a student from Queenstown
complaining about the smear campaign against auditors. He
believes that auditors are not that dull and feels that SAICA
should do something to stop the attack! What he does not realise
is that we are the butt of jokes because we are so successful! If we
really were dull, the advertisers would leave us alone. (Page 37)
AIMR Exchange
In response to the collapse of Enron, the Association for
Investment Management and Research (the crowd that issue the
Chartered Financial Analysts qualification) placed a paid
advertisement in the Wall Street Journal and Financial Times
giving its reasons for the crash (damage control?). These were the
points made:
1.
Auditors and issuers dominate the setting of standards for
financial statements, and not users.
2. The IASB should be free from political pressures.
3. GAAP should not permit preparers to structure transactions
to suit them.
4. The impression given was that analysts were to blame for the
mistakes made when the analysts were the victims of flawed
financial reporting.
(Let’s face facts, all the parties must share part of the blame for
this disaster:
1.
2.
The directors for being totally deceitful.
The standard setters in the US for not having solid standards
on SPEs.
3. The authorities for impeding the work of the standard setters.
4. The analysts for not asking the right questions.
5. The investors for not diversifying their investments.
6. The auditors for not being strong enough to stand up to the
directors.
Every one is trying to blame the other party.) (Page 1)
Business Day
BBC’s boss has developed a system for people who put other
peoples good ideas down: he issues a yellow card to the negative
one that says: “Cut the crap and make it happen.” (4th, page 5)
Sanchia Temkin questions the dual role of lawyers in acting as
board members and as legal advisors to companies. (This lady is
great!) 12th, page 3)
Minister Manual has delayed the implementation of the
Accountancy Professional Bill. Reasons given are the Enron
affair (what has this got to do with RSA?) and the demise of Regal
(poor management blamed on the auditors?), Saambou (why
should the auditors take the blame for this one) and Unifer (must
auditors get involved in the business plans of their clients?). (Isn’t
it lovely having a scapegoat?) (12th, page 16)
“Profurn bowed to shareholder pressure and restated its headline
earnings per share from 12,8 cents to a loss of 31,7 cents. The
shareholders wanted capital items to be passed through the
balance sheet. The change means that the cost of cancelling its
joint ventures is included in the income statement. The initial
results were in accordance with GAAP. The restated headline
earnings are also in accordance with GAAP.” (And we pay good
money to read this garbage!) (25th, page 12)
Citizen
British workers are being rewarded with new titles instead of
increases in salary. Some creative ideas are:

“Optical illuminator enhancer” for window cleaner

“Stock replenishment executive” for shelf stacker

“Technical sanitation assistant” for washroom attendant
(9th)
7
Mafia Buzz 2002
Financial Mail
Where there is any doubt about a company’s accounting or
corporate governance, management must be aware that investors
will heavily penalise the company’s share price. (1 st, page 46)
ApexHi is praised for its communication to the financial
community. (1st, page 75)
SARS disallowed a taxpayer’s 1992 assessed loss. After many
years of fighting, SARS gave in and allowed it. SARS then
disallowed assessed losses for later years on the basis that the
company had not objected to them in time. The taxpayer had
focused on defending the 1992 one and had forgotten to defend
later ones. (When SARS plays games like this it alienates
taxpayers.) (8th, page 107)
Marriott conducted an interesting survey on retirees to formulate
their strategy for providing products to retired persons. Some of
the findings were:
1. Income of retirees ranged from R5 000 to R18 000 p.m.
2. Cash flow and capital preservation are the main goals of
retirees.
3. Concerns of retirees were inflation, the fall in the rand,
medical costs, falling interest rates and the state of the
economy.
4. High on the list of investment goals was not eating into their
capital base, growing their capital base and income
generation.
Marriott point out that retirement planning is a long-term project
and that there will be a tug of war between increasing wealth and
preserving capital (return and risk). It is essential to build the
wealth destroyer, i.e. the inflation factor, into your plans. (8th,
page 110)
McKinsey, the international business consultants, found from a
survey conducted that global institutional investors would pay up
to 22% more for the equity of a company with good corporate
governance – per Mervyn King of the King report fame. (29th,
page 13)
In some industries more than 60% of the workers are infected with
the HIV virus and yet few are reporting on how this would affect
their future financial health. It has been calculated that companies
with 250 workers could be facing bills of R27 million p.a. King 2
recommends that companies report on this aspect of their
operations. (What about a provision?) (29th, page 19)
Fortune
Most analysts shrug off giant goodwill write-downs. However,
this shrinks the equity asset base and increases the debt-equity
ratio thereby increasing the cost of capital. (Do we really include
goodwill in the assets when calculating cost of capital?) (4th, page
15)
Those investing in debt securitisations are in for a shock when
they discover that they are the proud owners of Enron’s and/or
Kmart’s debt. Banks use financial engineering techniques to
reduce risk, e.g. credit derivative, but someone took the risk of
such debt and a time bomb is about to explode. (4th, page 16)
Liberty News
Munich Re, the world’s biggest re-insurer is worried about the
possible risks for insurers arising from meteorite crashes! (If it is
big enough there won’t be anyone to pay out, so why worry?)
Maneo
Claude O’Flarherty is of the opinion that the delay in passing the
Accountancy Professions Bill is not helping to reduce the
expectations gap and protecting the investor. He also states that
some of the reporting of corporate failures is speculative and, at
times, downright misleading. He states that we should get the
facts before taking action. (Claude, did you not know that facts
just get in the way of decision making and authorities will find
any excuse to avoid the effort of having to take action?) (Page 1)
Sunday Times
Graydon Morris states that if you have assets in the $250 000 to
$5 million range, you are considered to be one of the many
affluent people. To be rich you need $10 million and to be super
rich $100 million. (I get depressed reading things like this!) (24th,
page 13)
RMB’s Asset Management philosophy is:
1.
They are disciplined in applying their investment philosophy
and they stick to it. They educate their clients to have faith in
the process and not allow their emotions to get in the way of
their decisions. (Our CawB team’s philosophy!)
2. A top down asset allocation team makes decisions about
exposure to different asset classes such as shares, bonds and
properties.
3. A sector allocation team decides on when there should be
changes in the weightings between different sectors such as
resources, financials industrials and real estate.
4. A bottom up team focuses on security selection.
(A superb approach.) (24th, page 13)
The three criteria for good managers are:
1. Be honest – go beyond mere compliance with laws
2. Be frugal – remember the extravagances of the dot.coms
3. Be prepared – strategic planning is essential to success
(31st)
Larry Valkin and Carol Jones show how hidden costs
(commissions (4,5%) and administration fees (3%)) can turn a
managed investment fund’s return of 15% p.a. into 6,5% p.a.
(Note that R100 000 will grow to R6,6 million at 15% p.a. over 30
years but only to R0,7 million at 6,5% p.a. Manage your own
investments I say. (31st)
Techtalk
I am delighted about the introduction of the AC500 series
statements. There are many IASC quirks that we need to sort out
in RSA. I wish the committees well with this new concept.
IFAC has released new independence rules (Enron fallout).
SAICA is looking for nominations for a committee to work on
differential accounting – a committee to solve this problem? Why
don’t they listen to the 2 200 members who have already voiced
their opinions?
A committee was formed to solve the deferred tax problem with
the contingency reserve (refer to my article called “Your dog is
fat”) in the February journal. Two meetings were held and no
consensus could be reached on the matter so the problem was left
unsolved, i.e. your dog will stay fat. If decisions in real life were
only taken if consensus was reached, the world would come to a
standstill!
Berkshire Hathaway
I downloaded the financial statements of Berkshire Hathaway Inc.
for the year ended 31 December 2001. Mr WB had his worst year
in history (since 1965). His net asset value fell by 6,2% (never
before had a fall in NAV). The fall in the S&P 500 was 11,9%
during the same period, so relatively, he did not do so bad. Some
gems from his annual report (always a delight to read) are:
1. It is common to see shareholders losing billions of dollars
while the CEOs, promoters and other higher-ups who
fathered these disasters walk away with extraordinary wealth.
They encourage others to buy the shares while they are
quietly selling.
8
Mafia Buzz 2002
2.
3.
4.
In our companies managers buy shares, not options. They
face the downside of decisions as well as the upside. They
incur a cost of capital. They can’t “re-price” their stakes.
What they paid for is what they live with. (Seems W.B. is not
in favour of options for staff!)
In the insurance industry we all made a fundamental
underwriting mistake by focusing on experience, rather than
on exposure thereby assuming a huge terrorism risk for
which we received no premium.
Bad terminology is the enemy of good thinking. When
companies or investment professionals use terms such as
“EBITDA” and ‘Pro forma”, they want you to unthinkingly
accept concepts that are dangerously flawed.
New Auditing Exposure Drafts
ED 149 deals with auditing fair value measurements and
disclosures. Guidance on this issue is badly needed but don’t
expect any major breakthroughs in this statement.
ED 150 deals with electronic commerce using the internet or
other public networks and how this affects the audit of financial
statements.
JaWell, No Fine
Pension plans can overlay an equity market-neutral fund with
equity index futures to create a synthetic long equity portfolio. To
the extent that the hedge-fund component outperforms its funding
cost, the alphas may be transferred back to a long-only equity
portfolio via derivatives. In theory, one can reverse this process to
form a pseudo hedge fund; that is, an equity long-only manger’s
alpha over an equity index can be transferred back to an absolute
return fund by shorting equity futures. (A bunch of loonies, I tell
you! (Financial Analysts Journal, volume 58, no. 2, page 16)
Seen on a T-shirt in the mountains: “One tequila, two tequila,
three tequila, floor.”
Tidbits
Did you know that Francis Bacon – philosopher, historian and
essayist – the most distinguished man ever to occupy the office of
Lord Chancellor, the UK’s senior judge, was fired because of
taking bribes? His defence was that he never allowed a bribe to
affect his judgement. (Did I miss the definition of a bribe?)
Mr Alan Greenspan commented that a firm is inherently fragile if
its value added emanates more from conceptual as distinct from
physical assets. The rapidity of Enron’s decline is an effective
illustration of the vulnerability of a firm whose market value
largely rests on capitalised reputation.
Monique Rissen-Harrisberg, chief executive and founder to The
Voice Clinic states that the ten personal assets needed to take you
to the top are (accountants take note):
1. Personality plus.
2. A high emotional quotient.
3. Good vocal habits (she can help you here)
4. Managing information (see Mafia Buzz!)
5. Being able to participate with others
6. Creating strategic alliances (networking)
7. Being open to change (an accountant???)
8. Keep learning (Mafia Buzz?)
9. Stay healthy!
April 2002 (25 Minutes)
Accountancy
George Bush has outlined ten proposals to safeguard shareholders
from another Enron type disaster. They are based on providing
better information to investors, making corporate officers more
accountable and developing a stronger more independent audit
system. (Page 9)
FASB has voted to tighten the rules on consolidations as a result
of the Enron disaster. An SPE is be consolidated by its primary
beneficiary when it lacks sufficient independent economic
substance. Independent economic substance is when the SPE is
able to fund or finance its operations without assistance or reliance
on the primary beneficiary. (Page 9)
FASB is thinking of becoming more flexible by reducing the
number of members from seven to five and shortening the
comment period. (Page 9)
A new survey has found that 71% of practising accountants want
to ban auditors from doing non-audit work where there is a public
interest (note, not for small non-listed companies!). (Page 10)
The IASB has rejected claims that its framework will not permit
share options to be expensed. (I am looking forward to reading
their arguments.) (Page 12)
The IASB is considering looking at SMEs. (They should focus on
setting standards for general-purpose financial statements and
leave SMEs alone!) (Page 13)
There is a major push in the UK to abandon FRS 17 and move to
IAS 19 (employee benefits). (Page 17)
Liberty International was hauled over the coals for treating the
excess purchase price of a property portfolio as part of the cost of
the properties and not goodwill. (Surely there can be no goodwill
when one buys a few properties?) They were required to restate
their balance sheets and create goodwill. (Page 18)
The following are possible consequences of the Enron fiasco:
1.
Audit firms will be banned from providing non-audit services
to audit clients (presumably only where the interest of the
general public is at stake).
2. US accounting rules will change.
3. Changes will be made to campaign funding in the US.
4. Banks and their analysts will be doing some soul searching.
(Page 22)
A professor expounded a theory that marriage increases wealth.
In a letter to the editor, a correspondent suggests that the reason
for this is that spouses work longer hours to avoid having to spend
time together! (Page 29)
A CFO should outsource their administration to keep the clutter at
bay. S/he is there to ensure that the numbers are correct and that
the business is properly controlled. S/he needs to understand the
financial consequences of strategic decisions. Strategic thinking
and risk management are strategically linked. S/he needs to
enable others to achieve their aims and goals. Leadership,
emotional intelligence, strategic thinking, communication,
interpersonal skills, coaching, people management and risk
management are foremost among the new competencies required
by a CFO. (Page 33)
John Shuttleworth challenges the myth that the longer equities are
held, the lower is the risk. He agrees that the longer equities are
held the higher is the likelihood that they will outperform bonds.
However, he says that the size of the shortfall when equities
under-perform should be factored into the equation. Paul
Samuelson says that it is a blunder, if not a crime, for a fiduciary
trustee to believe that equities’ risk decreases over time. (The S&P
500 in the US has fallen by over 30% in the past few months.)
Liz Fisher says that many firms rely too heavily on their existing
clients for business when they should be looking at ways to win
new clients. If firms ensure that existing clients get exactly what
they need and potential clients are constantly reminded of their
9
Mafia Buzz 2002
name, the firm will eventually reap dividends. Some ideas for
better servicing existing clients are:

Offering unlimited free telephone support

Being clear regarding the fee structure

Offering quality care

Building up a relationship of trust and confidence

Maintaining a database of client information
(Page 79)
Chris Swinson wonders whether quarterly reporting is a good
thing. He suggests that it encourages the belief that recent
performance is a guide to future performance. (Page 85)
When FASB proposed expensing employee stock options in the
early 1990’s they caused a furore. Congress objected so FASB
backed down by only requiring pro-forma information to be given
as to the effect on profits. A recent survey by the AIMR (1 944
members responded) found that 89% were of the opinion that
employee stock options are employee compensation and 83% said
that they should be expensed. (Page 96)
Allister Wilson suggests that the goal of true and fair financial
reporting has been overshadowed by the quest for mechanical
adherence to accounting standards. He states that accounting
standards and fair presentation should go hand in hand. (Maybe
they should look to our Companies Act, which states that financial
statements must fairly present in accordance with . . .) (Page 97)
Keith Cornish states that it is probably not sensible or relevant to
adopt IAS in full in emerging markets. (No comment.) (Page 99)
Ron Paterson, as usual, hits the nail on the head. He says that no
amount of standard setting will make devious people honest. He
believes that the International Standards need a statement similar
to FRS 5 in the UK (Reporting the substance of transactions) and
that fair presentation should be preserved as the underlying
principle of reporting. (Similar thoughts to Allister’s.) (Page 100)
Accountancy SA
Bernard Agulhas poses the question: “Can the profession survive
another onslaught?” He believes that a holistic solution is
required. IFAC has embarked on the formation of various task
forces to address the problem. (One wonders whether forming
task forces, committees and boards will really solve the problem.)
Bernard states that a true professional should not require standards
and rules to govern moral and ethical behaviour – it should be
something that truly comes from within. (Are there really enough
“true professionals” around to do what needs to be done? Maybe
we should go the way of the US – legislate jail time for immoral
and unethical behaviour where public interests are at stake.) (Page
2)
Illse French and Dudley Wright give an excellent summary of the
Pension Funds Second Amendment Act, which became operative
on 7 December 2001. Extracts from their article are: (page 5)
1.
2.
3.
4.




All actuarial surpluses in the fund belong to the fund.
The employer is not entitled to any part of the surplus until
an apportionment has been made.
The board of the fund (75% approval) must submit a scheme
for the proposed apportionment of any surplus to the
Registrar.
The apportionment may include:
Improvements of benefits to existing members
Increases to benefits of former members
Allocation to member surplus accounts
Allocation to employer surplus accounts
5.
A representative of former members must be appointed for
former members who left the fund going back to 1 January
1980.
6. Member surpluses may be used to improve benefits or reduce
contributions.
7. Employer surpluses can be used for a variety of purposes,
e.g. contribution holiday, medical aid subsidies, improving
health benefits, etc. Cash can only be taken on the
liquidation of the fund.
Abel Dlamini’s article deals with financial management capacity
building in terms of the Public Finance Management Act. (Page 9)
Zahn Hulme looks at the brain drain and possible brain gain when
those leaving the country return. She lists the following ten main
reasons for leaving RSA:

Better prospects

Higher earnings

Improved safety and security

Better future for children

No confidence in the future of RSA

Affirmative action policies of the government

Deterioration in social services

Decline in quality of life

Lower tax rates

A decline in standards.
Over 80% of those who leave are in the 26 to 35 year bracket.
Over 50 years, the percentage is 0%! (Page 14)
My article is about the reaction of the analyst to deceit discovered
in the published financial statements of companies. (Page 19)
Nigel Payne writes about his passion, namely, risk management.
He states that auditors should assess the board’s understanding of
risk in determining whether or not to accept the audit and in the
design of the audit procedures. He believes that value at risk
models should augment value-based management and that
management should identify and monitor key performance
measures daily to keep their finger on the pulse of the business
operations. (Page 21)
Raymond Swenson asked why Enron should affect small
practitioners. Claude O’Flaherty responded that every auditor
must observe the highest professional standards regardless of the
style of the practice. (I met a delegation from Canada, the US,
Australia and New Zealand the other evening and told them that
small companies in RSA were forced to comply with International
Accounting Standards and the response was: “This is a waste of
valuable resources.” My response was: “No, it is a redistribution
of income.” Hang in there Ray, my man, you can make lots of
money out of your clients if you toe the profession’s line!)
Business Day
The companies rated as excellent in the financial reporting
category in RSA are Absa, African Bank, Afrox, Allan Gray
Property, Anglogold, Anglo Platinum, Aveng, Avmin,
Barloworld, BOE, Edcon, Firstrand, Goldfields, Illovo, Implates,
Investec, Iscor, Kersaf, Liberty, Nampak, Nedcor, PPC, SAB,
Sanlam, Sappi, Sasol, Stanbic. (It is interesting to note that 11 of
these companies get me to address their staff in-house on GAAP.)
(4th)
The overhaul of RSA’s corporate laws is being planned.
Optimists say that it will take at least four years for the process to
be complete. (So small private companies will have to incur
unnecessary costs in the meantime preparing financial statements
complying with international standards. Why they can’t delete
10
Mafia Buzz 2002
paragraph 5 of schedule 4 as an interim measure I will never
know.) (29th)
Financial Mail
LeisureNet paid DM10 million for half a German company that
had no assets or liabilities. (What is the auditor’s responsibility in
a case like this? To insist that the investment be impaired at the
balance sheet date. I don’t believe that the auditor can be held
responsible for the decisions of management. This is something
that the Government and the public do not quite understand.) (12th,
page 6)
Mr Mboweni wrote to the Financial Mail objecting to being called
by his first name! (Isn’t that fascinating? I would feel honoured to
be called by my first name in a journal. I would object to being
called "Hattingh”! Just shows you how the cultures differ in our
beautiful diverse country.) (12th, page 12)
A shareholder, who lost R16 million on a share investment, sued
the directors of a company for negligence and won. The directors
argued that they had a fiduciary duty to the company, not to the
shareholders. The court held that the shareholder could sue on
behalf of the company. Jacqui Pile, the author of the article, states
that this could result in more directors taking out professional
liability insurance. (This would relieve the auditors of some of the
pressure brought on by company failures.) (12th, page 23)
SEC has accused Xerox of using accounting tricks to overstate its
pre-tax operating performance by $1,5 billion in the four years to
2000. (19th, page 61)
Fortune
Geoffrey Colvin says that companies should stop trying to guide
analysts by talking their earnings up or down. They should rather
focus on giving investors more data to allow them to assess the
situation. (1st, page 23)
The first rule of asset allocation is to protect what you’ve got. The
second rule is to grow your investments. To do this you should
have a plan, e.g. 40% into super safe cash and bonds 40% into
equities and 20% into speculative investments. You must then
stick to your plan. (We are debating this aspect at length in our
Chartered Accountants Wealth Builder workshops.) (1st, page 72)
The fight is on in the US: Do you or do you not account for
employee options as an expense? A powerful lobby from
commerce and industry is lining up to defeat the proposal to treat
options as an expense in the income statement. Warren Buffett
says: “If employee stock options aren’t compensation, what are
they? If compensation isn’t an expense, what is it? If expenses
don’t go to the income statement, where do they go?” Logic is not
the issue here. What’s at stake is massive reductions in reported
earnings of companies with falls in market prices and a resultant
impact on the economy. (I wonder if they are not over-reacting?
Surely analysts already take options into account in their valuation
models? Passing a journal entry should not have an impact on the
value of a company.) (15th, Page 28)
With the exception of 1992 when changes to accounting rules
drove profits of US companies down, this year saw the highest fall
in the Fortune top 500 companies’ profits in 48 years. 97 of the
500 companies reported losses totalling $148,5 billion with one
company, JDS Uniphase making a loss of $56 billion. (15th, page
94)
What do you do if you work in a nuclear power plant and you find
that control procedures are being by-passed? Blow the whistle?
The gent who did this was ostracised by his company and then
fired. He cannot find employment and his wife walked out on him
because he cannot provide for her anymore! Studies have found
that 90% of whistleblowers can expect some kind of reprisal.
(Many years ago a newly qualified CA joined a listed company.
He found that it was grossly overstating its assets, with the
blessing of its auditors. He approached me for advice. After
considering all the options I advised self-preservation: walk away
and shut up! I am not prepared to do this and that is why I am
unemployable!) (15th, page 183)
Techtalk
SAICA has released ED 151 on headline earnings for comment.
A new series of statements called statements of investment
practice has been created to accommodate this statement. It will
be interesting to see what other statements are issued under the
SIP banner.
An amendment to AC116 has been published for comment. I am
awaiting the final draft before sending it to you.
AC500 and AC501 exposure drafts have been issued. AC500 will
be the preface to this series and AC501 deals with STC accounting
issues.
IFAC has issued two new statements on the audit of banks: audits
of the financial statements of banks and the relationship between
banking supervisors and the bank’s external auditors.
SAAS 4012 to 4015 have been revised and are now SAAPS 1001
to 1003 and 1009. The statements are computer assisted audit
techniques, environments – on-line computer systems, IT
environments – stand-alone personal computers and IT
environments – database systems.
The effective date for disclosure of individual directors’
remuneration is for years commencing 1 March 2001.
IFAC has issued various guides on IT in final and draft form. If
you are into IT, go to www.ifac.org/store for information.
Various task forces have been formed around the world to do
damage control after the Enron affair. One initiative is the
creation of a forum of firms (FoF). (No amount of committees,
forums, task forces and boards will solve the problem. We need
legislation that provides jail time.)
Time
A 56 year-old Briton has been sentenced to eight years in jail, 800
lashes and $500 000 for selling alcohol in Saudi Arabia. (Now
here we have the punishment fitting the crime!) (22 nd, page 18)
A 60 year-old US Congressman faces up to 63 years in prison for
taking bribes and kickbacks and filing false tax returns. (60 + 63
= 123!) (22nd, page 18)
At least one in 10 children in the Western world was not sired by
the man believed to be the father. (22nd, page 42)
May 2002 (30 Minutes)
Accountancy
Financial analysts recommended Enron stock although privately
they knew that it was garbage. Enron’s bankers knew that the
quality of the earnings was suspect but kept quite. Under time
pressures, audit work is routinely falsified. And regulators often
engage in cover-ups. (What chance do investors have?) (Austin
Mitchell, Labour MP for Great Grimsby) (Page 1)
PwC dropped two clients due to suspect business transactions!
(Great stuff!) (Page 8)
The introduction of FRS 17 (employee benefits) in the UK is
causing waves. Electrical retail store Dixons has closed its final
salary scheme to new members blaming the new statement. The
Conservative Party is calling for the statement to be delayed to
avoid a catastrophic reduction in pensions savings.
The
11
Mafia Buzz 2002
Confederation of British Industry is calling for changes to the
rules in the statement. (Page 13)
Japanese banks are defying IASs by valuing investments at the
average price for the month preceding the year-end. (Page 13)
Global Crossing’s network capacity swaps made with its
competitors are under scrutiny. (Page 14)
13% of women surveyed recently said that their fantasy date
would be with a financial director. Only firemen and policemen
came ahead of financial directors. (Something positive to come
out of the Enron affair!) (Page 14)
Xerox knowingly increased revenue and earnings by accelerating
recognition of revenues, used “cookie jar” reserves, disguised
loans as asset sales and otherwise manipulated its accounting in
violation of GAAP. KPMG declined to sign off Xerox’s 2000
accounts and was, as a result, fired as auditors by the firm. SEC is
talking about bringing charges against KPMG! (Auditors just
cannot win, can they!) (Page 15)
Enron boosted its revenue by the sale of “wholesale energy
contracts” and derivatives, some deals taking place with its own
SPEs. Despite this increase in revenue, working capital fell. They
revalued contracts and included such revaluations in cash flows.
By the use of SPEs they were able to hide massive losses and
debt. The banks, who earned hundreds of millions of dollars in
fee income from Enron employed analysts who encouraged other
to invest in the company,. (Page 20)
Brian Singleton-Green argues for FRS 17 saying that the
arguments against the statement are either idiotic (like requiring
asset values to be valued at an average value at the year-end) or
late (like arguing that the statement should be delayed). (Page 30)
Customer relationship management (CRM) includes making
contact with the business easy, enjoyable, hassle-free, faster,
cheaper and safer. Companies need to know who their customers
are, how much they spend, what they spend the money on and the
correct contact details. One area companies should concentrate on
is answering the telephone. (My secretary telephoned an audit
firm last week and asked for someone by name. She did not
pronounce the name correctly and was ridiculed by the person
who took the call!) (Page 34)
Professor Higgs, dean of Henley Management College, says that
the key to being oneself is emotional intelligence, which he breaks
down into seven elements:

Self-awareness: awareness of your own feelings and the
ability to recognise and manage them

Emotional resilience: The ability to perform well and
consistently under pressure

Motivation: The drive and energy to achieve results in the
face of challenge and rejection

Interpersonal sensitivity: To be aware of the needs and
feelings of others and to use this awareness to effectively
interact with them

Influence: The ability to persuade others to change their
viewpoint

Intuitiveness: The ability to use insight when faced with
ambiguous or incomplete information

Conscientiousness and integrity: To keep committed and act
in line with ethical standards
(Page 41)
Buyers should be sceptical when evaluating a cash business as it is
easy to exaggerate or hide profits in such operations. (Page 44)
John Shuttleworth states that equity investment by a pension fund
makes no difference to the value of the company. He states that a
pension fund obligation is merely long-dated liabilities of the
business and that changing the mix of the assets that are used as
collateral to meet these liabilities has no effect on the size of the
liability. He says that one may as well reduce the pension fund
risk by funding the liability with bonds. He says that funding the
liability with equities means that there is a mismatch between the
obligation and the assets, which the company has to underwrite.
(Do you see the obvious flaw in JS’s thesis?) (Page 52)
Emma Keelan encourages auditing firms to supply investment and
other financial services to clients. Clients in the UK trust their
accountants and are driving the initiative. (The practitioner can do
the investment planning with the client and then hand the client’s
investment portfolio over to a reputable asset manager. The
practitioner can then help the client monitor and measure
performance of the assets and take action when necessary.) The
article ends with these words: “We are second to vicars. As
auditors, integrity is bred into us – ask clients which profession
they most trust and they will say their accountant.” (Where has
Emma been in the last year?) (Page 72)
Non-executive directors (NEDs) are appointed to a board to
contribute to the development of the company’s strategy and to
provide expertise. However, they have a control and monitoring
function too and it is necessary for them to address these functions
if confidence in the capital markets is to be restored. It is essential
that they have the independence to challenge the executive
management and draw attention to dubious practices. (Page 79)
James Mendelssohn is of the opinion that small auditing firms are
being made to pay for the greed of the big five. The cost of the
media blitz by the profession is being funded out of contributions
made by all practitioners but is only benefiting one section of the
profession. He feels that the clients may start voting with their
feet. (Page 80)
Andrew Oswald has worked out that more doctors in a society
does not increase the average life of the community. (Page 81)
Chris Cantwell is warning all players to get their act together for
the introduction of the statement on employee benefits. (Page 83)
Ron Paterson addresses an issue that has been one of my
contentions for ages and that is accounting standards are now
dictating how businesses are being run. This should not be the
case. Business decisions should be in the best interests of the
long-term value to all stakeholders. He gives an example of
companies paying higher finance costs to get assets and debt off
the balance sheet. (We have all seen this in RSA). Another
example is of take-overs being thwarted because of the subsequent
accounting for the take-over. Other examples given are the
proposed accounting for employee options, post-retirement
benefits, etc. (As an example, Transnet used to give their retired
staff the facility to travel at 10% of the normal cost on their trains,
busses or aircraft using spare capacity. This arrangement
benefited Transnet and their staff. It was withdrawn when talk
started on providing for post-retirement benefits.) (Page 96)
SIC 32 only permits internally generated website costs to be
capitalised if the site meets the six recognition criteria in the
statement on intangible assets. Capitalisation does not apply if the
site is used purely for advertising of products or promotion
purposes. (I would have said that advertising and promotion does
result in future economic benefits. Maybe accountants do not
believe in this. Would one argue then that a large billboard
constructed by a company cannot be capitalised?) (Page 104)
Canada has published its first series of questions and answers on
its statement on share-based compensation. (I wonder if they will
pursue this statement now that the US congress has rejected it for
US companies?) (Page 105)
The IASB is making progress on business combinations, the first
time application of IFRSs, insurance contracts, reporting
12
Mafia Buzz 2002
performance and share based payments. As soon as the EDs are
out, Mafia Buzz will give you the details. (Page 105)
Accounting SA
Daniel Malan discusses a survey carried out on ethics in RSA
organisations. It found that a basic ethics infrastructure was in
place in most of the organisations surveyed but that the ethical
practices have not been integrated into management practices, e.g.
58% did not provide training on the application of the code. The
article contains a checklist of questions management should ask
when implementing a code of ethics. (Page 5)
Pieter von Wiellig and Craig West ask whether companies are
ready for the implementation of AC116. Management must
understand the challenge, the actuaries must get the figures ready
and the auditors must be prepared to apply their minds to the
recognition, measurement, presentation and disclosure problems.
(Page 12)
Nigel Payne gives an excellent synopsis of the 2002 King Report.
Get the report and study it. Then read Nigel’s article. (Page 16)
My article dealt with GAAP challenges analysts face. (Page 29)
AIMR Advocate
The National Association of Securities Dealers and the New York
Stock Exchange have filed new rules with SEC to address research
analyst conflicts of interests. The new rules would:
1.
Refortify the fire-wall between investment banking and
research.
2. Restrict analysts’ compensation from being related to
investment banking deals.
3. Improve disclosures of investment banking relationships with
issuers in research reports.
4. Reduce the potential for analysts to personally benefit from
investing ahead of or to the disadvantage of investors.
5. Improve accountability for the performance of analyst
ratings.
FASB is considering reducing the number of members on its
board to five to accelerate the standard setting process.
Business Day
Merrill Lynch was fined $100 million for misleading investors
with their stock ratings so that they could earn lucrative
investment banking fees. (22nd)
Executalk
1.
Work is progressing to address the Enron fallout.
2.
The GAAP monitoring panel has been approved.
3.
Work is “starting” on SME gaap.
Financial Mail
Unit Trusts promise above average long-term returns but seldom
deliver. The article goes on to show how fees eat into the returns
and discusses how direct investments would have fared against
unit trust investments over time. Recommendation: Go direct.
(Only if you know what you are doing!) (3 rd page 85)
An excellent article appears on pages 36 to 44 of 27th May’s
Fortune called “Why companies fail”. Most companies fail
because of managerial error. The recent events have been
described as “an incremental decent into poor judgement” caused
by a success-oriented culture, mind-numbing complexity and
unrealistic performance goals exposed when the violation of
standards became the standard. Corporate sins such as denial,
hubris, ego, wishful thinking, poor communication, lax oversight,
greed and deceit all added up to a failure to execute. It is a fact
that people are less likely to make optimal decisions after
prolonged periods of success. Managers were quick to blame
currency fluctuations, problems in Latin America and every
excuse they could find but the real cause: A bad business model.
Management must start to see the stock price as a by-product of
their efforts and not the driver. They should become good
stewards of the shareholders’ money. They should avoid quick
fixes. They should avoid a culture of risk taking without
accountability, profit taking without disclosure and conflicts of
interest without safeguards. Alan Greenspan feels that a firm is
inherently fragile if its value-added emanates more from
conceptual as distinct from physical assets. Three suggestions are
made:
1.
2.
3.
Reengineer the board.
Turn employees into corporate governors (watchdogs).
Banish Ebitda and other fads.
Star
Standard and Poor have decided to count stock options as an
expense when assessing a company results. (16th)
Techtalk
If you are involved in holding funds on behalf of the public or
giving investment advice or acting as an investment brokering
service, you had better look into the financial intelligence centre
act, which deals with money laundering.
If you are into IT, download a paper entitled e-business and the
accountant: risk management for accounting systems in an ebusiness environment from www.ifac.org/store.
Time
Some of the research teams in investment houses promise to praise
a company’s stock in return for underwriting and other deals. This
resulted in analysts recommending stock to their clients they did
not believe in. One analyst earned over $10 million in
underwriting fees in return for favourable recommendations on the
company’s share price. He rated WorldCom as a strong buy until
the price was down by 88%. (20th page 74)
The UK government’s strategy is to put the responsibility for
funding retirement onto the individual. A typical 30 year-old
educated Brit has not even started to think of saving for
retirement. The Association of British Insurers estimates that
there is a $39 billion gap between what people are actually saving
and what they should be saving. Because of the declining birth
rates, there are not enough young people coming through the
system to support the retirees. In Italy there were 270 pensioners
per 1 000 workers in 2000. The ratio is expected to be 667
pensioners per 1 000 workers by 2050. (Increase retirement age?)
(20th page 79)
Fortune
Mark Sandi, chief economist at economy.com has built a model to
show that the S&P 500 price earnings ratio is pointing to the fact
that the market is fairly valued and not over valued. (This was
when the S&P was 1 100. It is now 864. My model tells me that
it is now fairly valued! Let’s see what happens now.) (23 rd page
23)
June 2002 (30 Minutes)
Accountancy
The EU has issued a voluntary independence code for auditors.
Some ideas are (page 11):
13
Mafia Buzz 2002

Auditors should document each time there is a potential risk
or threat to their independence and should record the
safeguards implemented. (The best safeguard would be to
avoid such relationships.)

There should be a two-year cooling off period before a
partner can join a client.

There should be a mandatory rotation of partners at least
every seven years.

The auditor should provide a written declaration of
independence to the client’s governing body.
SEC has launched proceedings against E&Y because they entered
into a business relationship with a client to market the client’s
software! (Page 11)
years. So what do we do? Put everything into bonds as some in
the UK are doing? One thing is certain and that is no one can tell
the future so the best bet is to hedge by spreading your
investments. (Page 68)
The fight over whether FRS17 or IAS19 (retirement benefit plans)
produces the better answer is raging in the UK, i.e. FRS17 does
not permit actuarial gains and losses to be smoothed over time
whereas IAS19 does permit it. (Who is right? For what it is
worth, I believe that FRS17 has got it right.) (Page 11)
Bob Tricker says that our profession has become a business. In
his day and age it would be better to lose a client than your
integrity. The audit process demands absolute objectivity of
thought and independence from the client. Today auditing is big
business where fee generation and growth are all that counts. He
suggests that until auditing gets back to its roots, it may be better
for government to regulate auditing to protect the creditors and
shareholders. (Sad if it comes to this!) (Page 79)
We need progress to be made on the definition of control for
consolidation purposes. The UK says that two concepts are
required in the definition: the ability to direct and the ability to
benefit. The use by Enron of SPEs to take debt and losses off the
group’s financials has resulted in standard setters getting a wakeup call to do something about the antiquated statement on
consolidations. (Page 14)
At any given moment of the day there are more people from PwC
on board aeroplanes than any other organisation on earth! (Page
16)
The appeal tribunal looking into the Bearings collapse said that it
would have been easy to uncover the Leeson fraud if the auditors
had applied their minds properly. (Page 16)
In the May issue a commentator on Enron said: “Sadly a
fraudulent set of accounts does not carry a big red warning label
stuck on the cover.” Martin Levey of the Czech Republic wants to
know why the auditor’s report should not be that “big red warning
label”! (Page 27)
“Honesty, decency and integrity are greater accomplishments than
success and wealth, and more difficult to achieve.” (Page 26)
Stuart Barnes says that in all other aspects of people’s lives they
may be decent and upright, but dangle large sums of money before
them and their ethical sense can soon evaporate. No matter how
much trust you may have in a colleague, do not put temptation in
her or his way. Take all the precautions you can think of. (Page
40)
Karen Lindsay writes that identity theft (thieves using your
identity to gain access to your accounts) is on the increase and you
should be ultra-careful, e.g. check your bank statements carefully,
retain copies of paid cheques, receipts, your passport, identity
documents, etc., use different PINs for different account, etc. Be
alert for this kind of attack on you. (Page 42)
John Shuttleworth believes that moving from defined benefit to
defined contribution funds makes sense as it reduces the risk to the
shareholders. He says that when times are bad and shares fall in
value, the company must contribute to a DBF. When times are
good, shareholder value is diluted by gratuitous benefit
improvements to the fund. DCFs reduce the risks to companies. (I
don’t think anyone disputes this. The problem is a socialistic one:
will employees be able to absorb this risk by increasing their
savings?) (Page 45)
Clare Gascoigne wonders whether the excess return achieved by
equities in the UK over bonds in the past 80 years of 4,2% is
sustainable in the future. Inflation is down to 2% and the number
of people aged between 40 and 75 is set to double in the next 20
Moira Hindson relates a story where a vendor’s accountant gave
advice to the buyer of a business without warning the buyer of the
risks being assumed. The accountant charged the buyer a fee for
the assistance given and was successfully sued by the buyer when
things went wrong. The main lesson to be learned from this case
is: “Do not be so keen to assist your client (in this case the
vendor) that you lose sight of your professional duty of care to
others with whom you do not have a formal professional
relationship.” (Would this not also apply to a CGT or estate duty
valuation?) (Page 74)
Chris Swinson says that the lesson to be learned from Arthur
Andersen’s demise is that if your reputation becomes tainted, your
credibility as a validator will be questioned and your clients will
abandon you. He says that professional names have disappeared
before, either by merger or by death, but none quite as Andersen
has subsided. He ends his article with: “There but for the grace of
God . . .” (How true.) (Page 80)
In the UK an auditor can claim as a defence that they relied on
fraudulent misrepresentations by a director. (Page 89)
The wrong of deceit at common law consists in making a
statement knowing it to be false or recklessly not caring whether it
is true or false. (Page 89)
The IASB has proposed revisions to 12 standards. (I have listed
the 95 proposals separately on my website.) (Page 96)
Anne McGeachin explains why it was necessary to patch AC116
to rectify a silly situation where the wording of AC116 resulted in
reporting a gain on the occurrence of an actuarial loss. She
suggests that the whole deferral story may be looked at again.
(Page 100)
Ron Paterson discusses the on going saga of goodwill accounting.
The latest is that goodwill will probably be capitalised and tested
for impairment each year. He says that this will work until some
other accounting scandal comes along. And the wheel will
continue to turn, and turn, and … (Page 101).
How do you account for the sale of future revenue? Some in RSA
state that the full revenue is taken up-front. For years I have
argued that you borrow money on the strength of the future
revenue. I am pleased to see that PwC agrees with this
interpretation. (Page 103)
The issue of global accounting was discussed at the European
Accounting Association’s 25th annual congress. Graham Ward
favours principles over rules. Karel van Hulle says that political
agenda will be more difficult to overcome than the technical one.
Cultural differences would also be a hurdle to overcome. (Page
106)
David Chitty deals with accounting for the “reserves” in a charity.
The Charity Commission has become aware that some charities
often hold funds for years without spending them and others have
pie in the sky plans but no reserves. (I really think that if funds
have been designated for a specific purpose they should be held in
a fund (between equity and liabilities) and not as a reserve. Then
charities will not be loath to spend the funds as they will not be
14
Mafia Buzz 2002
treated as expenses when incurred – the debit will go directly to
the fund account.) (Page 110)
The new preface to IFRSs states that IFRSs are only intended to
apply to general purpose financial statements of profit-orientated
enterprises whatever their form and whether in the private or
public sector. Good news is that they have decided to retain
bold/italic text for standards and plain text for related guidance.
Some other changes made are (page 116):


IASC standards and SICs are deemed IASB standards
Removal of the reference that these standards only apply to
material items

The old statement will be in force while changes to it are
being considered
Major changes are being proposed to the statement on business
combinations. (Page 116)
Sanjay Bhandari discusses the preliminary report on the John
Rusnak (JR) fraud that cost the Allied Irish Bank ₤500. JR was
involved in foreign exchange trading and hid losses he made. He
incurred these losses and got away with it because:
1.
His supervisors did not understand what he was doing so he
was allowed to act on his own.
2. The architecture of the trading was flawed.
3. There were no double checks on his work.
4. Internal audit was deficient.
5. He was allowed to exceed trading limits.
6. The risk reporting systems were inadequate.
7. Management failed to act on signs that were there.
Risk managers and auditors have got to learn to be less
complacent. What is needed is a healthy degree of scepticism.
(Page 128)
David Clinker gives some homely advice to anyone thinking about
opening his or her own practice. If you are contemplating starting
a practice, you need to read this article. (Page 132)
Canada proposes to ban disclosure of cash flow per share, other
than dividend per share. (Good!) (Page 115)
Discussions on share-based payments are in progress. Any new
statement will have to take into account that there are usually
vesting periods before options are exercisable, service
performance is sometimes attached to vesting and options are
usually not transferable. (Page 115)
Accounting SA
Zanne Koppeschaar concludes her article on differential reporting
by saying that the debate has just begun. Zanne, this debate has
been going on for years. The big auditing firms, who are in
control of decisions in our profession, clearly do not want
differential accounting in RSA so it will not happen, at least in my
lifetime. I will be delighted to be wrong on this issue. (Page 2)
The Ilbury-Sunter HIV/Aids matrix (ISM) looks like this: Draw a
vertical line with “Control” at the head and “No control” at the
foot. Then draw a horizontal line cutting the vertical line in half
with “Uncertainty” on the left and “Certainty” on the right.
1.




2.

In the “Certainty/No control” section one defines the rules of
the game, i.e.
HIV causes AIDS
Without treatment you die
It is spread by heterosexual sex
Only actions count
In the “Uncertainty/No control” section one looks at the key
uncertainties (U) and possible scenarios (S):
U: We don’t know what the level of infection really is

U: We are not sure if it is class bound

S: Deny it exists

S: Total onslaught
3. In the “Control/Uncertainty” section one looks at the options:

Muddle through

Prevent and treat
4. In the “Control/Certainty” section one takes decisions:

Go for it

Neglect it
Clem Sunter suggests that the worst decision we can take is to
neglect the problem. (Page 5)
Franso van Zyl sets out the role of the regulator (the Financial
Services Board (FSB)) in creating a framework in which
investments in RSA can take place. He says that the investor has
the right to be informed, the right to choose and the right to
redress a wrong. It is essential to the economic well-being of a
country to maintain the trust and confidence of investors in the
financial services industry and this is what the FSB is about. (You
and your colleagues at the FSB are doing a great job, Franso.)
Pieter von Wielligh and Craig West state that the obligation to pay
out the defined benefits should be discounted at yields of high
quality corporate bonds (in RSA we use government bonds as we
do not have a deep market for corporate bonds). One should not
use investment returns to discount obligations as, if the investment
returns are insufficient, the employer has to fund the shortfall. I
have a major problem with this argument. The employer
undertakes to place money into a fund to meet future obligations.
If the money in the fund can only earn 6% p.a. the law says that
we should assess the obligation by discounting the cash flows at
6% p.a. to ensure that there is enough money in the fund to meet
the liabilities. The fund is separate from the company. By
discounting the obligation at the government bond rate (say 11%
p.a.) the financial statements are going to reflect that there is a
surplus in the fund, which is not true! Can you just imagine the
problems with a company publishing a massive pension fund
surplus in its financials when, in fact, it could have a shortfall in
the fund? (Page 11)
Peter Godhawk discusses the minefield of closed periods during
which directors and employees of a listed company are precluded
from trading in its securities. He looks at the reason for having
closed periods, who is considered to be an insider and the
proposed length of a closed period. A pity that he does not cover
the penalties for non-compliance – another article Peter? (Page 19)
Emma Kingdon suggests that the boards of companies should be
looking into the proposed requirements of the Electronic
Communications and Transactions Bill. This bill contains certain
protections in favour of consumers. For example, sites offering
products and services will have to provide full details about these
items and allow consumers to cancel the contract within a cooling
off period. (We must watch these developments carefully.) (Page
21)
My article contains examples of poor accounting policies in the
financials of a certain listed company (do not ask me which
company this is!) (Page 27)
Nigel Payne states in his article on risk management and internal
control that he is passionate about the subject. May I add that he
is also extremely knowledgeable about it! He states that there are
four ways to address risk:
1.
2.
3.
4.
Avoid it, i.e. do not take it on.
Transfer it to someone else contractually or by insurance.
Accept it as being unavoidable or too costly to outsource.
Manage it, e.g. by employing sound internal controls.
15
Mafia Buzz 2002
He states that the board must identify the key risk areas and
review the effectiveness of its internal controls. He says that at
least the following risks should be addressed: Physical and
operational, human resource, technology, business continuity and
disaster recovery, credit and market and compliance. (Page 31)
SAICA has launched a new career service whereby potential job
seekers and employers can meet. (Page 37)
Business Day
A former employee of Global Crossing accused the company of
shredding documents after US regulators began investigating the
company. (24th)
Financial Mail
US cable operator Adelphia, whose accounting is under Federal
investigation, revised its sales and subscriber numbers and fired its
auditor, D&T (nice to blame the auditors when management were
draining the money for their own purposes!). (14th page 8)
The UK Post Office spent ₤500 000 to change its name to
Consignia last year and is now paying twice that amount this year
to change it back to Royal Mail Group. (21st page 8)
Fortune
“Never before has a board of directors lent so much cash to the
board’s own chairman, drawing funds from the coffers of the
company they are legally obliged to protect.” (Commenting on
the loan given by WorldCom to its chairman Bernard Ebbers. (24th
page 33)
As founders and the main shareholders of Adelphia
Communications, they borrowed $2,3 billion from banks, with
Adelphia guaranteeing the loans. They invested most of that
money in Adelphia shares, which have plunged 99% in the past
three years. (24th page 33)
If you owe a bank $1 million and can’t pay, you are in trouble. If
you owe a bank $1 billion and can’t pay, the bank’s in trouble.
When Donald Trupp received an $800 000 insurance bill for his
boat that was mortgaged by the bank, he sent the bill to the bank
with a note that if the boat sank, the bank would have no
collateral. The bank paid the bill. (24th page 33)
Ideas for improving accounting to recreate trust in financial
statements:
1.
Stop the funny numbers like pro forma earnings, adjusted
earnings, cash flow earnings and EBITDA.
2. Start accounting for stock options.
3. Stop the abuse of reconstruction costs.
4. Stop boosting income from over funded pension fund
surpluses.
5. Comply with the spirit of GAAP, not the letter. (24th page 24)
There are two measures to take when measuring blood pressure:
1.
1.


It has submitted for approval:
A revised preface to the standards
A SAAS on the reporting accountant’s report on the
report of historical financial information to be include in a
prospectus
2. Issued the following pronouncements:

ED SAAS 502 enquiries regarding litigation and claims

Circular 1/22002 guidance for auditors on productive
asset allowance of the motor industry development
programme
Work is presently taking place by IAPC on:
1.
2.
3.
4.
Quality control.
Auditing fair value measures and disclosures.
Assurance engagements.
Understanding the entity and its environment and assessing
risks of material misstatement.
Karen Lauf emphasises that the black and grey letters in the
statements have equal authority.
A practitioner was fined R5 000 for taking a client’s tax refund in
payment for a disputed fee.
Another practitioner was fined R20 000 for, among other dirty
deeds, not performing a valuation of a CC in accordance with the
valuation guide. He did not set out in his valuation report the
approach adopted, the model used, the critical valuation
determinants identified and the assumptions made in arriving at
the determinants. (SAICA has withdrawn the valuation guide so
does this mean that in future practitioners will not be fined if they
do not comply?)
Sunday Times
Xerox Corporation, under pressure from SEC, restated its revenue
by $6 billion. They had previously classified sales of equipment
as service revenue. (Service revenue is more stable revenue in the
eyes of the analyst!) (30th)
Techtalk
IFAC is pressing on with various initiatives to restore public
confidence in the accounting profession.
If you perform audits of attorneys’ trust accounts, check the
highlights of a meeting of the Joint Attorneys and Accountants
Committee in this issue of Techtalk.
The APB has approved AC427 to AC431 and AC433 for issue.
IFAC has issued new guidance on e-commerce risks entitled
Electronic commerce – effect on the audit of financial statements,
which can be downloaded from www.ifac.org/store.
Usury rates are now: 23% < R10 000 and 20% =/> R10 000.
Time
The lower number is the base line pressure present at all
times.
2. The top number is the surge of pressure after each pump of
the heart.
The optimal is 120/80. Anything above 130/85 needs attention as
hypertension is a major risks of heart failure, stroke, dementia (too
late for me) and kidney failure. (24th page 96)
In convicting Arthur Andersen of obstruction, the court placed the
blame for the deed on a single person, Andersen’s Chicago-based
lawyer Nancy Temple, who played the corrupt persuader and led
AA astray. (24th, page 55)
Maneo
Accountancy
The PAAB supports the initiative of the Minister of Finance to
work towards practical and lasting solutions for the governance of
the profession.
The auditing standards committee has been hard at work:
July 2002 (40 Minutes)
SEC chairman Harvey Pitt has told the US accounting profession
that the era of self-regulation is over.
A new Public
Accountability Board will perform quality control reviews at least
once a year on larger firms and every three years for other firms.
Disciplinary powers will be given to the PAB. (Page 8)
16
Mafia Buzz 2002
The ICAEW has voted to adopt new independence rules. There
will be restrictions on non-audit services provided to audit clients,
a two year cooling off period before a partner can join a client,
tighter rules on financial interests in audit clients and rotation of
audit partners every seven years. (Page 8)
The European Council of Ministers has agreed to the 2005
adoption of IASs for all EU companies. (Page 10)
Karel van Hulle is confident that SEC will drop its requirement for
reconciling IAS and US GAAP results using Enron as his
motivation. (Fat chance!) (Page 10)
PwC’s global head has come out in support of global principles
based GAAP. His vision is a three-tier system: standards for
measuring and reporting industry-specific information, guidelines
for company specific information and corporate governance and
performance measures. (Page 11)
Insurance companies are putting up a front against fair valuing
insurance obligations as these obligations are not sold between
insurance companies. (Page 11)
Deputy chairman of the IASB says that the Enron scandal has
given the IASB a golden opportunity to toughen its standards and
converge with US GAAP. (Page 11)
An auditing firm in the UK has decided to restate its revenue from
₤77,3 million to ₤44,4 million. (Now is the opportunity to come
clean, even for auditing firms!) (Page 14)
A former managing director has been given a nine-month
suspended prison sentence for lying to the company auditors.
(Page 18)
The number of companies offering final salary pension schemes to
new members is falling at a startling rate in the UK. (Page 18)
In a poll conducted on Radio 4 Today (6 722 polled) on the most
respected professions, doctors, nurses, teachers and fire-fighters
came in the top four. Accountants came in at number 82, just after
insurance brokers and before company directors. (Page 21)
PwC spent $110 million for the name of its consulting firm:
“Monday”. (Page 21)
The jury at the Arthur Andersen trial agreed that the firm was
guilty in substance but could not settle on the precise details of
why it was guilty. Eventually the jury reached agreement on a
single e-mail that neither prosecution nor defence had regarded as
significant. The jury, therefore, relied on substance over form
whereas Arthur Andersen accepted Enron’s accounts based on
formal requirements of US GAAP over substance. (Page 31)
At the Infosecurity Europe 2002 show, a staggering two out of
three people told interviewers what their computer password was!
And the most popular password used was “password”. (Page 35)
Andrew Bonfield, FD of British Gas says that you should
remember that you are there for the benefit of shareholders and
your aim is to drive long-term shareholder growth. (Funny, but I
thought that management was there for the benefit of
management!) (Page 39)
The bursting of the dot.com bubble ensured that everyone now
knows that it takes slightly more than youth and energy to make a
company profitable. (Page 41)
John Shuttleworth writes that the fundamentals of equity
investment are immutable, i.e. an equity share is worth its future
dividend stream including any share buy-backs. For an economy
as a whole, this growth should be in line with real growth and
inflation (2,5% plus 2,5% = 5% in the UK). After comparing
bond investments with equity investments he comments that
history cannot tell us how to make money but it can tell us how
not to lose money. He says that at the micro level, markets seem
to be efficient but it is not very efficient at the macro level.
(Interesting thought!) (Page 44)
Jane Simms states that 70% of a typical equity share comprises
intangible assets and the way that companies treat their people
plays a large and growing part of their success. KPMG has
calculated that 83% of mergers and acquisitions either reduce or
do not increase shareholder value because they fail to exploit the
combined human potential of the merged enterprise. (Page 46)
Stuart Burns says that fraudulent activity is growth at an alarming
rate and that companies need to protect themselves. He says that
anti-fraud policy should be considered part of corporate
governance. The plan should include the identification of the
assets at risk and how they may be threatened. One person should
be responsible for this policy. Employees must know that the
company will always prosecute – this is the most effective antifraud scheme of all. (Page 57)
Andrew Oswald says that 80% of all expenditure in life (on cars,
swimming pools, etc.) is an attempt to buy status. Most people do
not think deeply why they really make purchases. (This is
especially so if the person making the purchase did not earn the
money!) (Page 79)
Ian Hay Davison, past managing partner in the UK of Arthur
Andersen writes some personal historical notes on what was once
the largest professional firm in the world. He concludes by
quoting the founder’s maxim: “Think straight, talk straight” and
suggests that this may have been forgotten in the modern firm. (I
am sure that there will be many more histories written about this
once great firm. If you were associated with AA, get this article
and read it.) (Page 92)
Kristin Hazzis summaries the IASB’s new Preface to International
Financial Reporting Standards. SAICA will, I am sure, follow this
with our own preface. In the meantime, some new terms to learn
are:


IFRS = International financial reporting standards (was IAS)
IFRIC = International Financial Reporting Interpretations
Committee (was SIC)
(What is worrying me is that they can’t seem to get simple names
to describe themselves. We are in for some complex statements, I
am sure!) (Page 95)
The IASB has published a ED of proposed amendments to
financial instruments. Some of these proposals are:
1.
On initial recognition an entity can designate any financial
asset or financial liability as one that is measured at fair value
through the income statement.
2. Improved guidance is given on the impairment of loans and
receivables.
3. Some changes are made to the principles on hedge
accounting that will bring them more into line with US
GAAP.
4. Tighter derecognition rules will apply. (Those entering into
securitisation schemes should check them out.)
5. Modifications are made to measuring the split between the
equity and liability portions of a compound instrument.
You had better download this draft from www.iasb.org.uk and
study it. (Page 96)
At the IASB technical session on 22-24 May further discussions
took place on business combinations, first time application of
IFRSs, insurance contracts, reporting performance and sharebased payments, all controversial complex topics. (Page 109)
The incoming president to the ICAEW comments that one of the
consequences of the Enron affair is that accountants have lost their
Monty Python dull, boring image and are now considered,
according to the Wall Street Journal, hip. He points out that in the
17
Mafia Buzz 2002
UK there is no systemic failure in financial reporting, auditing or
corporate governance. (Page 124)
The poor UK profession is being inundated with new statements
to get them up to speed with IASB standards. Published in this
journal are exposure drafts on financial instruments: hedge
accounting, the effects of foreign exchange rates, financial
reporting in hyperinflationary economies, related party
disclosures, earnings per share and events after the balance sheet
date. In addition, two UITF abstracts are published:
1.
2.
The recognition and measurement of pre-contract costs:
recognition is only permitted when it is virtually certain that
the contract will be obtained, costs incurred prior to this date
may not be capitalised and only directly attributable costs are
capitalised.
Recognition of death in service and incapacity benefits
should be recognised as an expense measured at the expected
cost of providing the benefits for the period.
Accountancy SA
John Clulow summarises the media attack on auditors and makes
some of his own observations, e.g. he is for audit rotation. (Page
3)
Elza Oodendaal says that you can reduce the risk of losing your
practice by choosing your clients well. (Page 6)
Wilna Steyn and Willie Hamman present a simplistic view of the
value added statement (first year accounting stuff). (Page 16)
Nigel Payne continues with his brilliant discussion of risk and
internal control. This month he deals with the role of the internal
auditor. He says that the directors should ensure that their internal
auditors provide them with the assurance they need. It is up to the
board of directors to approve the internal audit charter defining the
purpose, authority and responsibility of the internal audit function.
This function should embrace all business risks and not just focus
on financial controls. (Page 21)
My article deals with negative goodwill. (Page 27)
Two letters to the editor come down hard on the control that the
big five (now four) have on the profession. The complaints are:
1.
They are using resources of the small audit firms to try to put
out the fires that they lit themselves.
2. They have moved from being a profession to a business
based on greed and generation fee growth.
3. Because they dominate the various societies, smaller firms
are disenfranchised.
4. At the end of the day, the clients will vote with their feet.
5. Practice review should be focusing on the risks when
planning their work (the big firms and not the small firms).
(Page 34)
Business Day
US drug company Merck booked $12,4 billion of revenue it never
collected. These amounts were collected by pharmacies from
patients. The deceit did not affect profits as a like sum was
reflected as cost of sales. (9th)
Economist Elie Cohen believes that because of the recent
accounting problems, self-regulation of the profession will end. (I
sincerely hope this conclusion is wrong.) (10th)
Sir David Tweedie is of the opinion that deceit and greed is the
only way to explain the recent accounting scandals. He believes
that the next three years will prove to be critical for the IASB to
produce globally accepted accounting standards. A working
committee has been set up to get convergence between IASB
standards and US standards. It all depends on whether SEC will
accept IFRSs.
SA Airways has provided for R130 million for its 21 billion
frequent flyer miles accumulated under its Voyager programme.
(Using my calculator, this works out at 0,62 cents per mile!) (12 th)
Graham Terry’s article headed “corporate health means reform
across the board” is a masterpiece of logic in this day and age of
flying accusations. The points he makes are that it is not only the
auditors that should take the rap for Enron:
1.
Banks must have known of the off-balance sheet tricks being
used by Enron. (It is the banks themselves that usually sell
these schemes to companies!)
2. Management’s state of mind can undo all the wonderful
procedures the company puts in place, e.g. audit committees.
3. Enron was allowed to operate outside the regulations
normally laid down for such companies.
4. Had the users of the financial statements looked at the facts
and not listened to the spin, they would have seen through the
smoke and mirrors.
Graham’s parting shot is that the accounting profession has
accepted the challenge to get its house in order. He asks whether
the regulators, banks, analysts, lawyers, mangers and directors are
going to make the world a safer place for investors. (12th)
Irene Charnley, MTM director, says that the auditing profession
should return to old-fashioned basic concepts such as ethics,
integrity, honesty, truth, trust and trustworthiness. She say that
managers who lie to their directors and auditors should go to jail
and so should the auditors who connive with management to
mislead investors. (Well said madam.) (18th)
Worldcom lent its CEO $400 million for personal investments to
avoid him having to sell shares in the company, which would have
reduced the market value of the shares. (Why did they not rather
use the money to buy back his shares?) (19th)
Research conducted by KPMG has shown that not one of the 22
bank failures in RSA can be attributed to the auditors. The
failures were due to bad corporate governance, management
incompetence and regulatory failures. Tom Grieve, KPMG’s
chairman says that rotating auditors is not the answer to corporate
failures. He is also of the opinion that the selling of non-audit
services in no way contributed to company failures. (22 nd)
George Bush signed new legislation creating a board that will set
standards for accountants and review their audits. It bars auditing
firms from providing nine types of consulting services. It makes
securities fraud a crime carrying a maximum sentence of 25 years
and increases penalties for other financial crimes. It paves the
way for investors to recover their money in the case of securities
fraud. And it strengthens SEC’s powers by providing more
money for investigations. (31st)
Citizen
R22,2 billion is owed to municipalities around the country. Death
threats, arson, drive-by shootings and other attacks on councillors
are making the collection of fees for municipal services difficult.
The Minister said: “Debts can only be written off when there is
provision for bad debts.” (Help!) (2nd)
Every thoughtful investor now has reason to doubt figures
published by companies. There is general agreement that the US
is no longer the place to invest. (28th)
Financial Mail
George Bush warned that cheating corporate executives will go to
jail and those who get rich through bad accounting practices will
be forced to pay back their profits. (5th, page 8)
Investing in shares is an act of trust. They have to believe that
management is honest and the financial statements fairly present.
However, managers seem to treat companies as cash cows,
18
Mafia Buzz 2002
milking their expense accounts and building empires to justify
higher salaries. Giving management options is a one way bet:
management will peruse high risk policies as they have everything
to gain and nothing to lose. (5th, page 24)
Sunday Times
Only 17% of active fund managers in the US beat the S&P 500
index in the past five years. And tracking funds do not make
sense either, e.g. at its peak Vodafone accounted for 10% of the
UK index and trackers, knowing that the share price was
hopelessly overvalued, were forced to keep 10% of their funds in
this share. (5th, page 60)
Merrill Lynch is not alone in issuing misleading reports. Elliot
Spitzer, the New York attorney-general, said that there were other
examples of e-mails ridiculing stocks that were hyped in public
reports. (28th)
A survey carried out by Stanford University found that when
shoppers were confronted with six flavours of jam, 30% of them
bought some. When offered 24 choices, only 3% bought. Too
much choice leads to confusion. Therefore, keep your investment
options limited to a few counters. (5th, page 61)
CRM, or customer relationship management, is topical at present
(another fad?). Paul Fick says that there are four types of CRM:
1.
2.
Interactions between the company and its customers.
The IT infrastructure necessary to store and process the
information.
3. The processing of this information.
4. The analysis of the information on which to base decisions.
(12th, Page 43)
The FM interviewed Suresh Kana of PwC, who had the following
to say:
1.
There must be strong disciplinary action for unethical
conduct and non-compliance with standards.
2. The bureaucracy is hindering efforts to strengthen corporate
reporting in RSA (hear, hear).
3. Preparers will always question why they must comply to
some practice if it is not legally enforceable.
4. Rotation of auditors will come with a high risk. There is
higher audit risk in the first year of an audit. There is a
learning curve that must be experienced.
(12th, page 115)
The editorial states that accountants should take a stand on
accounting for options now. (26th, page 14)
The UN estimates that between 2000 and 2005 the life expectancy
of South Africans will fall by 19 years (Kenya by 17, Zimbabwe
by 26 and Botswana by 34). (26th, page 19)
Stafford Thomas writes that local investors are not happy with the
new indices being used by the JSE (me too!). Some interesting
classifications are Metcash, listed as cyclical services and Shoprite
listed as non-cyclical. Richmont, the luxury goods group finds
itself under household goods and textiles! (26th, page 32)
Andrew McNulty states that SA accounting standards are silent on
disclosure of employee share options. The guy should read
AC116! (26th, page 46)
Fortune
Rob Norton is of the opinion that Eliot Spitzer went after Merrill
Lynch, not to protect the small investor, but to boost his own
political career. (8th, page 18)
Mark Welman says that 10% of staff would never commit a crime,
10% always would and 80% are subject to temptation. (28th)
Howard Rodd of Alexander Forbes says that a common
benchmark for retirement fund equities is necessary as resources,
which have too high a risk for retirement funds, are too heavily
weighted in the Alsi. (28th)
Techtalk
The APC has issued proposed improvements to IFRSs (I have
posted these improvements (summarised) on my website. If you
are keen, you can download the 300 odd pages from SAICA’s
website.)
Work on business combinations is continuing. The latest idea is
to measure and recognise contingent liabilities and contingent
assets on a takeover. (I hope SAICA points out that the same
argument should apply to STC on a takeover.)
The proposals on reporting performance seem to be going around
and around in circles!
Time
Unlike Enron, WorldCom fooled investors with an accounting
trick that a first year accounting student could have devised:
treating operating expenses and assets – they are both debits. (8th,
page 24)
Suggestions on how to avoid the next stock bomb:
Don’t buy serial acquirers.
Read the fine print in the company’s report.
Don’t feed money to pigs (overpaid managers).
Watch the cash flows.
Don’t bet on the debtors in a company’s balance sheet (we
just have to look at Unifer and Saambou for this rule).
6. Spread your bets.
(8th page 25)
The real reason for Enron and WorldCom is that incentives for
fudging are much greater when half of all households in the US
are ready to bid up company shares and lavish their CEOs with
silly money if they can show 15% p.a. plus growth in earnings. It
really has nothing to do with the accounting standards used in the
US. (8th page 29)
1.
2.
3.
4.
5.
With George Bush’s support, both houses of congress beat back
an amendment to US GAAP that would have required companies
to deduct the cost of share options given to executives and other
employees from income. Alan Greenspan and Warren Buffett
were for accounting for options as an expense. It is clear that the
lobbyists won again. (We need standard setters who can be
independent of Government interference!) (29th, page 26)
Other Tidbits
Geoffrey Colvin says that deceptive transactions can accomplish
only three things:
1.
1. Move earnings – usually from the future to the present.
2. Avoid tax (in RSA we would call it evade).
3. Hide debt.
He says that there is a theory that the only deterrent is orange
jump-suits. (8th, page 20)
2.
3.
4.
Coca-Cola decided to expense its staff options and the share
price took a dive (from $56 to $45)!
The UK effectively abolished audits on 15 000 companies by
raising the limit from ₤2,8 million to ₤4,8 million.
Because of a loophole in Japanese GAAP, Japanese banks
have been boosting their revenue by entering into interest rate
swaps.
The Reserve Bank has proposed in the Banks Amendment
Bill 2002 that auditors be rotated every five years.
19
Mafia Buzz 2002
5.
UCT is of the opinion that STC on ordinary dividends should
go to the changes in equity statement
Formulas Doing the Rounds
EBITDA = Earnings by insiders to deceive analysts
EBIT= Earnings before irregularities and tampering
CEO = Chief embezzlement officer
CFO = Corporate fraud officer
EPS = Eventual prison sentence
ROI = Restatement of income
IBM = I bought Monday (PwC’s consulting arm)
Core Earnings
Standard and Poor has published a document on measuring
corporate earnings. They consider three types of earnings
presently being used:
1.
2.
Reported earnings, which is calculated in terms of GAAP.
Operating earnings, which usually reverses out some
corporate or one-time expenses.
3. Pro-forma earnings, which has become known in the field as
earnings before the bad stuff.
S&P have proposed using a measure called “Core Earnings”. The
calculation starts with GAAP earnings before extraordinary items,
cumulative effect of accounting changes and discontinued
operations. The following are included in core earnings:
1. Employee stock options granted as expenses.
2. Restructuring charges from ongoing operations.
3. Write-downs of depreciable or amortizable operating assets.
4. Pension costs.
5. Purchased research and development expenses.
Excluded from core earnings are:
1. Goodwill impairment charges.
2. Gains and losses on the sale of assets.
3. Pension gains.
4. Unrealised gains/losses from hedging activities.
5. Merger/acquistion related expenses.
6. Litigation or insurance settlements and proceeds.
It is interesting to compare these rules with those in headline
earnings, e.g. impairments of assets are excluded from headline
earnings. I agree with the core earnings concept.
Nightmare Financial Advice
I was clearing my office and found the following comment in
Finance Week, 26 November 1999, page 44: “PSG Online dealer
Willie Greenen says that now is the time investors should be going
for blue chips such as Dimension Data, Datatec, Comparex and
Old Mutual.” Had “investors” taken this advice they would have
lost 90% of their money on the three IT companies recommended.
August 2002 (35 Minutes)
Accountancy
A white paper published in the UK proposes that British company
directors that deliberately mislead auditors could end up in jail for
two years. (Page 8)
The fallout of the current accounting scandals for smaller auditing
firms could be an increase in premiums for professional indemnity
insurance. (Page 14)
The fallout in the US of the current accounting scandals is that
corporate fraud could result in a ten-year prison sentence, the
profession is to be regulated by an oversight board consisting of
non-accountants and all forms of consulting to audit clients could
be banned. In addition, proposals are on the table to take the
setting of auditing standards out of the hands of auditors! (Page
16)
“We need senators and congressmen to realise that the problem is
not with the country’s auditing standards, but with individual
auditors who ignore their professional responsibilities.” “Most of
the blame for scandals in corporate America are the result of an
incentive-driven culture, greed-based, seeking continuing growth
at any price.” (Page 16)
Beth Holmes asks how accounting principles, as opposed to
accounting rules, could have stopped WorldCom from classifying
so much revenue expenses to capital items. This is not a rules v
principles problem but a corporate governance one. She states
that the auditors have taken the rap for what has happened but
wants to know why the internal auditors, management themselves,
the audit committee and even the analysts did not detect what was
going on. She also makes the point that the UK should not be
criticising what is happening in the US. She lists five major
accounting scandals that took place recently in the UK. (And let
us not forget our own Masterbond, Leisurenet, Regal, Supreme,
Macmed, etc.) (Page 18)
The EU and the ICAEW are proposing that audit partners not be
allowed to join their clients before a two year cooling-off period.
(Amazing the knee jerk reactions that are going on!) (Page 21)
The Association of British Insurers is contacting FTSE 350
companies to suggest that they make the audit committee’s duty to
shareholders official and that audit committees certify in the
financials that they are happy with the audit. (More knee jerking!)
(Page 22)
The top 10 global auditing firms are PwC, Deloittes, KPMG,
E&Y, BDO, Grant Thornton, RSM, Horwath, Moores Rowland
and Baker Tilly. PKF (Fisher Hoffman in RSA) comes in at
number 19. (Page 25)
The UK financial services industry is under attack by the
government for poor service to the investing public. Poor advice
is being offered, with the accent on tax savings rather than on
investment returns. The average unit trust in the UK underperforms the market by 2,5% p.a. despite high asset management
fees. (Page 26)
The IASB is pushing ahead with its exposure draft on accounting
for stock options despite much opposition. (Page 26)
PwC says that managers, analysts and investors are all using
different performance measures to evaluate a company’s value.
Investors are calling for more information on profit margins,
quality of management, asset growth, market share, asset
retention, competitive landscape, customer acquisition costs and
brand visibility. (Page 26)
A letter to the editor comments that the key performance measure
in our profession now seems to be fee income per partner. This
can be measured so it can be managed. However, how do you
measure partner independence, objectivity and integrity? When
partners are prepared to walk away from an assignment rather than
compromise professional ethics, we will have regained our
professionalism. (Page 31)
Chris Quick debates a topic that has been thrashed to death, i.e.
why are our most important assets, those that we can’t touch such
as relationships, knowledge, leadership, culture and values,
reputation and trust, skills and competencies and processes and
systems, not measured and recognised? The simple answer is that
it will make the financial statements less reliable. (In my opinion,
analysts should be told how much is spent each year on these
intangibles so that they can separate such expenditures from
20
Mafia Buzz 2002
operating profits and measure the effectiveness of them in the
future.) (Page 47)
It is suggested that the IASB develop a standard on the accounting
treatment of carbon emission credits. (Page 9)
Melanie Johnson, MP in the UK says that the government should
approach the Enron fall-out in an informed and co-ordinated way
rather than as an ill-considered knee-jerk reaction. (How
refreshing!) Possibilities being discussed are rotation of audit
firms and a ban on non-audit services to the audit client. (Page
65)
Magnus Orrell summarises the proposed changes to IAS32 and
IAS39. The proposals deal with:
Chris Swinson says that the world’s regulators are on the wrong
track by trying to change rules when the problem is the ethics of
the persons reporting the company’s results. (A person who lacks
ethical standards is not constrained by rules or principles, no
matter how good they are.) His parting shot is: “What does it
profit a man if he gains the world but loses his soul.” (The real
problem is that mankind has forgotten its soul!) (Page 86)
Allister Wilson questions the wisdom of issuing a whole wad of
new statements in the UK when the UK is to comply with IASB
standards in 2005. (I thought that the UK was just playing catchup.) (When you think about it, SA is way ahead of the game.)
(Page 77)
Ron Paterson comments on the new UK standard, which
effectively adopts IAS 32 and IAS 39. He is so depressed about
the complexity of these standards that he is preparing to throw in
the towel! (Again, SA is ahead of the game, thanks to the APC
and APB, which decided many years ago to “adopt” IAS.) (Page
82)
Proposed changes to financial instruments are being considered by
the IASB. They are:
Guidance on how to classify derivatives based on an entity’s
own shares.
2. The exclusion from the scope of loan commitments that will
result in an originated loan.
3. The inclusion in the scope of derivative type contracts on
non-financial items held for trading and financial guarantees.
4. Major changes to the rules on derecognition.
5. Changes on how to impair groups of loans, receivables and
held to maturity investments.
6. Changing how cash flow hedge gains and losses are to be
recognised – leave in equity until underlying goes to income.
Before writing new accounting systems, go to the ED to check it
out (www.iasb.org.uk). (Page 85)
1.
The IASB has taken some tentative decisions on how to account
for share based payments. It is still early days to get involved.
(Page 97)
The UK has agreed to convert to IAS standards as from 2005 for
all listed companies. (Page 89)
Accountancy SA
Money laundering is the process whereby criminals attempt to
conceal and disguise the true origin and ownership of their illicit
gains from unlawful activities and make them appear legal by
means of a single or series of transactions thereby avoiding
prosecution, conviction and confiscation of the illicit gains. The
Prevention of Organised Crime Act places an obligation on all
employees to report transactions that could have resulted from
unlawful activities. To comply with this act, companies should
obtain for each client:

Positive identification

Source of wealth/income

Identity of all beneficial owners of the business

Expected volume and type of transactions
(Page 5)
Accounting for derivatives issued on the entity’s own equity.
Compound instruments.
Permitting entities to elect whether or not to fair value
financial assets or liabilities (there goes comparability!).
4. Cash flow hedges.
5. Impairment of loans.
The closing date for comments was 14 October 2002. (Page 17)
1.
2.
3.
My article was on foreign exchange. (Page 29)
Nigel Payne says that every company should report at least
annually on the nature and extent of its social, transformation,
ethical, safety, heath and environmental management polices and
practices. He gives guidance on each of these areas. He advises
that sustainability should not be regarded simply as an additional
cost area but should enhance non-financial value drivers such as
brand equity, reputation, customer loyalty, innovation and human
capital. (Page 31)
AIMR Advocate
The AIMR is of the opinion that the US should have one
comprehensive statement on revenue. The statement should be
conceptually based to enable companies to better measure
performance. They also want the second criterion in the definition
of a derivative to be improved (the existing one is too vague to be
of practical use) and they are calling for a single set of accounting
standards (Global GAAP).
Business Day
If proposed legislation is passed, all companies and close
corporations will be required to submit returns annually to the
“Registrar”. (More red tape!) (14th)
All listed companies will have to report on HIV/AIDS from next
year. Disclosure is required of the prevalence in the work place
(number, race, marital status), the effect on costs and productivity,
the effect on customers and revenue, programmes to address the
problem, etc. If no testing takes place, it must be assumed that the
company has the same prevalence as RSA in total. (Does anybody
know what this is? Every report I read has got a different
estimate.) (16th)
PwC has launched its global code of conduct. A heavy emphasis
is placed on the organisation’s values and reputation. Such a code
is essential in any firm as an action by one member of staff can
bring the whole firm to its knees, as happened with Enron and
Arthur Andersen. The code deals with issues such as:
1. Professional behaviour by employees.
2. Respect for colleagues and clients.
3. Obligations as a responsible corporate citizen.
4. Upholding the name of the firm.
5. Compliance with the code.
The cornerstones of the code are:
1. Teamwork.
2. Excellence through innovation, learning and agility.
3. Leadership which demands courage, vision and integrity.
A list of questions to test whether employees are being ethical is
given: Is it legal? Does it feel right? How would it look in the
newspapers? Will it reflect negatively on you or the company?
Would you be embarrassed if people knew you did this? Is there a
better alternative? Is it against the firm’s or professional
21
Mafia Buzz 2002
standards? What would a reasonable person think? Can you sleep
at night?
A proven R22 million has been stolen from pension funds. Two
cases involving R1,6 billion and R2,7 billion are on the go. The
FSB has increased the levy to R4 per member p.a. to help them
hire more staff to keep an eye on any administration problems.
(20th)
PwC is offering to assist companies with drafting their own codes.
This initiative must be welcomed. We must get ethics introduced
as a separate subject at university. Maybe PwC should take this
up. (Have you written out your own personal code of conduct?)
(26th)
The pendulum is swinging back to “dividends count”. In an era of
questionable income statements, balance sheets and cash flow
statements, the only thing one can 100% rely on is the dividend
you get from the company – it goes into your bank! (That is
subject to the rule of disposition without value.) It has been
calculated that dividends have provided 50% of the total returns
on equities in the US between 1971 and 2000. It is predicted that
dividends will make up 60% to 70% of the total returns in the US
in the future. (Welcome back to the humble dividend!) (27th)
The FSB has prepared a draft bill to legalise statements of GAAP.
Rob Barrow says that compliance will be restricted to companies
listed on the JSE but expanded to other entities such as pension
funds in future. (And private companies, close corporations,
testamentary trusts?) As an interim measure, the JSE and SAICA
are to introduce a monitoring process. (28th)
Two former directors of defunct brokerage firm Coronet Equities
and the compliance officer were convicted on charges of theft and
fraud involving R35 million. The two directors got 15 and 12
years and the compliance officer 5. The interesting aspect of this
case is that it was the first one handled under the new plea
bargaining process. (28th)
The director of technical activities of the IASB says that it is
easier to skirt around rules than principles. (This guy and all who
quote him are living in cloud cookoo land.) The IASB has been
criticised for having too many alternative treatments and is trying
to eliminate them at present. “The IASB does not apply such rigid
thresholds (as FASB) but focuses on substance over form and
allows for the exercise of judgement.” First of all this statement is
incorrect – see AC101 – and secondly, if it was correct, would a
rule or a principle be easier to manipulate? (I definitely need to
write an article on this clearing up the misconceptions.) (1st )
Business Report
Ever wondered what the difference between “buy-side” and “sellside” analysis is but were too afraid to ask? Buy-side refers to
those buying large volumes of stock such as fund managers. Sellside refers to brokers who attempt to attract brokerage by offering
their research to institutional investors. (23rd)
Finance Week
The JSE has announced that listed company directors may not
trade in shares between the financial year-end and the publication
date of its annual financial statements. (2nd, page 6)
In July foreigners dumped R5,5 billion of SA equities, the Rand
lost value, SA mining shares fell and Newmont, the largest mining
company in the world, said that investment in SA was no longer
feasible. What caused this? The leaked government document on
the mining industry and empowerment? (9th, page 8)
Shaun Harris addresses the possible consequences of the
retrospective legislation on pension funds. There are all sorts of
hidden surprises here, e.g. a company (A) takes over another
company (B). B had a surplus in its pension fund at acquisition.
This surplus was to act as a cushion for future volatility in equity
markets. This surplus may well be a liability the next time the
actuaries do their thing. (There is a lot more to this problem than
meets the eye!) (9th, page 16)
Peter Harrison of Deloitte and Touche addresses the CGT issue of
whether the apportionment basis can be applied to securities listed
on the JSE held prior to 1 October 2001. His answer is “yes”
provided:
1.
You did not choose the weighted-average method in your
first tax return.
2. You know the cost of the shares and the date of purchase.
He says that once you have chosen one of the three methods
(prices at 1 October, apportionment or 20% of proceeds) you have
to stick to the one you chose for all listed shares. (Looks like the
easiest method will be to go for 1 October – less grief from SARS
and less work in trying to establish what the original costs and
dates of acquisition were. To try to track special dividends,
unbundling, splits, consolidations, scrip dividends, etc. etc. prior
to 1 October 2001 will be a nightmare.) (9 th, page 30)
A member of a post-retirement defined benefit fund tells the editor
that the fund converted to an insurance annuity without notifying
members resulting in annual increases in pensions falling from
13,5% p.a. to 4,9% p.a. What can a retired member do about this?
(16th, page 5)
Merrill Lynch’s chief economist believes that $1 will cost R9 by
the end of the year. (16th, page 6)
Financial Analysts Journal
Not everyone can distinguish hindsight from foresight. Most
people fall into the pitfall of hindsight by exaggerating the quality
of their foresight. Hindsight bias is the belief that whatever
happened was bound to happen, as if uncertainty and chance were
banished from the world. So if an introverted man marries a shy
woman, it must be because (as we have known all along) “birds of
a feather flock together”. If he marries an outgoing woman, it
must be because (as we have known all along) “opposites attract”.
If stock prices decline after a prolonged rise it must be (as we have
known all along) that “trees don’t grow to the sky”. If stock prices
continue to rise it must be because (as we have equally known all
along) “the trend is your friend”. (July/August, page 11)
Financial Mail
Edcon securitised R2,1bn of its receivables. There are three tiers,
namely, class A notes (75% of the total) rated Aaa.za and paying
13,1% (90 basis points above Jibar, class B notes (9% of the total)
rated Baa2.za paying 14,5% p.a. (230 basis points above Jibar)
and subordinated loans (16% of the total). (Question: Will these
loans be included in Edcon’s consolidated balance sheet in terms
of AC412?) (2nd)
N Newton-King of the JSE defends the new indices. (What a pain
– you just get used to the new ones then they change them again!
What could be easier than resources, financials, industrials and
real estate? Now we have to live with resources, basic industries,
financials, non-cyclical consumer goods, cyclical consumer goods,
cyclical services, general industrials, information technology and
non-cyclical services.) (9th, page 11)
Stockbrokers are having a tough time. David Shapiro says that the
industry is overpaid and you cannot take those salaries forward.
(A big shake up is on the cards.) (9th, page 16)
Trade unions have not yet appointed trustees to the R200 billion
government employees pension fund despite being required by
law to do so six years ago. “Pension funds in SA account for
R600 billion of institutional investor assets owning 60% of JSE
22
Mafia Buzz 2002
listed shares.” (60%?? I wonder where he got these statistics
from?) (9th, page 17)
Up to 35% of insurance claims in SA contain an element of fraud.
(This is one of the many reasons I refuse to insure.) (9th, page 70)
In 1981 an investor was advised by the Gold and Hard Asset
Exchange that a 1953 SA Long proof set would be an exciting
investment. He paid R665 for it and has, 21 years later, been
offered R1 000 for it (a 2% p.a. return). (And now for the bad
news: SARS!) (16th, page 11)
The editorial is pushing for share options to be expensed. One
thing that is not fully understood is that in the US they don’t
expense share options but they do get them as a tax deduction. So
there is more incentive for expensing them in the US as they can
increase profits by handing out share options. This is not the case
in RSA. The expense in RSA will be pre-tax. (16th, page 14)
The editorial warns that if equity markets do not perform we are
looking at a time bomb in a few years when pensioners find that
the defined contribution fund cupboard is bare. (16th, page 14)
Andrew McNulty states that excessive executive pay in the form
of stock options has undermined public faith in capitalism. His
proposed solution is to measure and recognise stock options.
Edcon has 8,1 million options in issue (16% of its share capital).
So does Alexander Forbes. (16th, page 26)
Anglo has announced that it would be providing free antiretroviral
drugs to miners. It is estimated that 23% of its 121 600 uninsured
SA employees are HIV positive. Of these about 10% are expected
to take up the offer of treatment. (How do we calculate the
provision for recognition on their balance sheet?) (16th, page 30)
Old Mutual has published some scary statistics on what death
benefits could do to pension pay-outs for the healthy members.
Solutions are to cap death benefits, stem the tide of HIV, work
until you drop or supplement your retirement fund. (16th, page 72)
The demise of Cenprop, which has yielded a compound growth
rate of 8% p.a. over 22 years, has angered investors in the property
sector of the JSE. This sector is known to be short on
transparency and long on gossip. It is easy to show good returns
when investment property is revalued each year through the
income statement. (Are we going to see an investigation to get to
the root cause of this collapse?) (23rd, pages 14 and 73)
Mr Mboweni wants to see banking supervision remain with the
Reserve Bank. (23rd, page 17)
The National Education, Health and Allied Workers’ Union
(Nehawu) has suspended its accountant after finding her guilty of
theft and fraud involving R500 000. The auditors of the National
Union of Mineworkers (NUM) have found large amounts
“missing” (one for R360 000). And the auditors of SATAWU
have found that the assets of its investment company have plunged
from R500 million to R93 million in three years. (23 rd, page 31)
Stafford Thomas quotes Professor David Hawkins of Harvard
Business School, accounting consultant to Merrill Lynch. The
Prof. says that four key ratios should assist the analyst in
measuring performance:
1.
The cash realisation ratio (CRR), which reflects net operating
cash flow after tax as a percentage of net income. This ratio
helps assess the quality of income.
2.
Return on assets (ROA), which reflects the net profit before
interest paid as a percentage of total assets less operating
creditors. This ratio tells the analyst whether the company is
adding economic value, if compared to WACC.
3.
Asset reinvestment rate (ARR), i.e. capital expenditure
incurred on replacements as a percentage of depreciation.
This ratio should be over one in an inflationary environment.
4.
Tax rate, i.e. tax as a percentage of profit before tax. If the
company is not providing the nominal rate of tax, part of the
profit could be fictitious.
(Note: My preference is to have a holistic analysis system rather
than ad hoc ratios.) (23rd, page 56)
Sasha Planting writes that companies that manage their intellectual
capital (intellectual property such as patents, intellectual assets
such as databases and processes and human capital) will be the
winners of the future. A survey in Europe revealed that listed
companies, on average, were valued at eight times their book
value. (We don’t come close in RSA!) The argument is that to
manage it effectively, one must be able to measure it.
Accountants cannot agree on how to do this. (23rd, page 56)
Since President George W Bush signed the Sarbanes-Oxley Act
on July 30, CEOs of US companies have been certifying the
quality of their financial information. (23rd, page 63)
Tony Koenderman asks the question: “Just how valuable are
brands?” He makes the point that Trust Bank, Volkskas, United
and Allied re-branded themselves into ABSA without the loss of
too many customers. He also gives, as an example, Andersen
Consulting’s fortuitous conversion to Accenture. (23rd, page 81)
Financial products are often sold based on their tax advantages
without looking at the needs of the investor. It is suggested that
“financial advisors” that sell these products should rather be called
“product distributors”! (23rd, page 83)
Fortune
“The true blame for the Enron, Global Crossing, Adelphia and
other messes really belongs squarely on the shoulders of the
individual investors who have not exercised due diligence.” (Got
to be kidding!) (19th, page 16)
The business community needs to stop pursuing growth at all
costs. Unabashed growth distorts the allocation of scarce
resources. Business people should consider an obscure concept in
economics: there is an optimal level of output for an enterprise.
Beyond this level marginal costs exceed marginal revenues. (19 th,
page 16)
A good reality check on profits of public companies is to get tax
statistics. The problem in the US is that options are expensed for
tax purposes but not for accounting purposes so this distorts the
comparison. S&P are developing a measure called “core
earnings” which includes share option expenses. (19th, page 18)
Geoffrey Covin looks at the rules v principles argument and
compares the problem in accounting with American Football. He
does not come to a conclusion on the debate other that to say that
the US will find it difficult after all these years to change. (19 th,
page 28)
The top 10 world’s biggest companies by revenue are Walmart,
Exxon Mobil, General Motors, BP, Ford, Enron (what?),
Daimlerchrysler, Royal Dutch Shell General Electric and Toyota.
Jack Welch always sought the best advice he could find and then
went against most of it. This attitude served him well throughout
his career at General Electric. (If Arthur Andersen had done this,
they would probably have still been a force in the accounting
profession!) (30th, page 26)
Sir David Tweedie wants one set of accounting standards for all
companies in the world. He gives as an example DaimlerChrysler,
which had net income of $733 million last year according to
German accounting but a loss of $589 million under US GAAP.
He is on a crusade to get options expensed. General Electric has
threatened to withdraw funding to the IASB if he goes ahead with
this standard! He also wants pension fund accounting to be
reformed whereby real gains and losses are recorded each year
23
Mafia Buzz 2002
(not spread like they do at present in US and IASC GAAP). He is
not winning any popularity contests in the US at the moment!
(30th, page 53)
Japanese banks cannot afford to account truthfully for their loan
portfolios. To do so would bankrupt them and their customers.
The result is that dead wood cannot be taken out of the system and
a fresh start cannot be made. The American system is brutal but it
works. (30th, page 67)
A new idea is seeping
not as a collection of
territories, but as a
shareholder value, one
page 77)
through companies: manage the enterprise
products and services, not as a group of
portfolio of customers.
To increase
must manage the customer portfolio. (30th,
Techtalk
Details are given of the proposed changes to IAS32 and IAS39.
We await the final version.
IFAC has released a study on levels of assurance (prepared by
academics), which can be downloaded from www.ifac.org/store.
IFAC has also released a detailed study (also by an academic)
entitled competency profiles for management accounting practice
and practitioners, which can be downloaded from the same
website address as above.
IFAC (busy bees) has also released a document called guiding
principles for international education statements – see the above
website address.
The electronic communications and transactions draft bill has been
issued for comment. For a full summary go to www.kpmg.co.za.
Time
Warren Buffett has been instrumental in persuading some
influential companies in the US to expense stock options. (26th,
page 12)
Sundries
Gavin Sher of the recruitment and human resources firm Focus
Group lists some of the attributes of an effective manager:
1.
Develops appropriate, realistic and effective short and long
term plans that integrate efforts across work teams.
2. Recruits good people, building strong teams with
complementary strengths while providing for continuity.
3. Identifies and implements effective processes for getting
work done while assigning responsibilities, delegating and
empowering others.
4. Co-ordinates action to be taken, provides resources and
monitors progress.
5. Uses own time efficiently, balances multiple demands,
processes paperwork, manages meetings and assigns
priorities.
6. Speaks confidently, conveys written and spoken information
well, encourages others to contribute ideas, responds to
questions and listens well.
7. Delivers effective presentations and shows confidence.
8. Builds relationships with numerous stakeholders, takes an
interest in others and is open to other perspectives.
9. Cultivates internal and external networks and relationships.
10. Appreciates diversity, builds consensus and brings conflicts
into the open to resolve them.
11. Has the courage to address difficult issues, standing firm
when necessary.
12. Is able to influence others and mobilise support while
fostering teamwork.
13.
14.
15.
16.
17.
18.
Encourages others by creating enthusiasm.
Challenges wisdom and champions change.
Conveys urgency and pursues results despite obstacles.
Sets high standards.
Develops realistic budgets drawing on relevant information.
Possesses up-to-the-minute professional and industry
knowledge expertise.
19. Understands issues affecting the organisation and industry.
20. Takes decisions that enhance profitability while fostering
quality.
21. Incessantly explores ways to increase customer satisfaction.
22. Develops a worldview sensitive to regional and cultural
differences.
23. Acts with integrity and shows sound business ethics, thereby
building trust.
24. Able to react to multiple demands while showing resilience
and flexibility in the face of constraints.
25. Pursues self-development.
26. Can think strategically, solve problems, utilise market
knowledge and focus on strategy.
27. Constantly gathers relevant information, shows a grasp of
complexity and is able to apply knowledge and logic to
problems.
28. Makes timely, sound decisions and is not afraid to make
decisions while uncertainty still prevails.
29. Generates new ideas, brings new approaches to bear and
looks for creative solutions.
(Sunday Times October 8 2000)
Members of the AIMR (the Chartered Financial Analysts) rejected
a proposal to make annual participation in a continuing education
programme a condition of using the CFA designation. 29 201
members voted of which 56,3% rejected the proposal.
September 2002 (35 Minutes)
Accountancy
Repeat something often enough and it becomes established fact:
“There are no systematic corporate government, financial
reporting and auditing problems in the UK.” However, with the
passing of the Sarbanes-Oxley Act in the US, UK companies with
subsidiaries in the US are going to have to comply even though
they believe their mantra. (Page 7)
Pressure is being put on the UK standard setters to drop the new
hedge accounting statement. The argument is: “Why implement a
new statement now if we know it is going to change in 2005.”
(Page 11)
The Department of Trade and Industry in the UK is looking into
the dominance of the big four auditing firms in the UK, much to
the disdain and derision of the four big firms. (Page 18)
Among the provisions under the Sarbanes-Oxley Act are prison
terms of up to 20 years for senior directors falsifying or destroying
documents as well as heavy restrictions on non-auditing work that
accountants can supply to clients. Porsche recently announced
that it has put on ice its plans to list in New York because of the
new regulations. (Page 20)
British companies and large institutional shareholders are getting
ready to fight the EU over their proposal to require quarterly
reporting. Their fear is that this will lead to short term thinking in
the market. (Page 21)
The DTI in the UK set up a committee to look into how
regulations could be improved following the accounting scandals
in the US. The proposals are:
24
Mafia Buzz 2002
1.
2.
3.
The role of the audit committee should be strengthened.
The rotation of audit firms should be examined further.
The major auditing firms should be more open about their
own affairs.
4. A robust set of accounting standards should be put in place.
5. The review panel should be proactive in its enforcement of
accounting standards.
6. The competitive implications of the high concentration of
audit firms should be addressed.
7. An operating and financial review covering non-financial
areas such as strategy and risk should be required.
8. A legal duty should be placed on the directors to volunteer
relevant information to the auditors.
9. To give the auditors the right to ask for information from
employees and certain contractors. (Page 28)
A letter from a small practitioner asks why they should be targeted
when the Enron and other problems were caused by the large
auditing firms. (Page 31)
At the heart of any fraud is a dishonest person. Most major cases
involve senior management, whose purpose is often to disguise
losses or to manipulate share prices. Auditors continue to argue
that they are not there to uncover fraud, but they cannot certify
that financial statements fairly present without completing a fraud
check. If they cannot do it, some other expert should be required
to do it. (Page 33)
Ever wondered what KPMG, BDO and PKF stands for?
KPMG = Klyneveld, Peat, Marwick and Goerdeler
BDO = Binder, Dijker and Otte
PKF = Pannell, Kerr and Forster. (Page 56)
Ken Lever explains why share prices are over or under valued. He
writes:
1.
Students are not educated in the art of assessing economic
value – there is too much emphasis on accounting standards.
2. Managers are too focused on accounting metrics.
3. The analysts are too focused on the short term.
4. There is too much focus on one measure, i.e. EPS.
He feels that education should start with an understanding of the
value creation process and the economic drivers of value rather
than double entry bookkeeping and technical accounting
standards. (Page 65)
In his article on how to account for revenue received in advance,
Ron Paterson is on his hobbyhorse again. Because GAAP only
allows assets, liabilities and equity to be itemised on the balance
sheet, what do you do when you received revenue in advance
where the amount includes a profit element. The profit element
cannot be a liability because the entity only has an obligation to
deliver the goods at a cost. To avoid breaking the fundamental
rule the Accounting Standards Board is proposing that a liability
be valued at its “entry price” rather than at its “exit price”. RP
says that the simple answer is to scrap the statement of principles
and to adopt accrual accounting. (Page 76)
The IASB has published its ED on first time application of
financial reporting standards. It proposes full retrospective
application of all IFRSs effective at the reporting date of the
entity’s first IFRS financial statements with the following limited
exceptions:
1.
Using some alternative measurement basis as deemed cost
when the determination of cost would involve undue cost or
effort, e.g. where the company did not keep fixed asset
registers.
2.
Using as deemed cost certain values where under the
previous basis of accounting such values were deemed to be
more relevant than cost.
3. Full retrospective designation of hedges would not be
permitted. (Page 78)
The UK has postponed the implementation of its standard on postretirement benefits by two years. With the fall in the value of
equity markets, substantial falls in interest rates, the tax treatment
of fund assets and the revisions to life expectancy tables, as many
as 75% of the schemes will be in deficit, which would have had an
adverse effect on company balance sheets. (You cannot possible
publish the truth, can you?) There are indications that the IASB
will require immediate recognition of actuarial gains and losses so
its and the UK standard will probably be identical. (Page 79)
The International Auditing and Assurance Standards Board
(IAASB) has issued an auditing standard called auditing fair value
measurements and disclosures. It covers:
Understanding the entity’s process for determining fair value
and the internal controls governing the determination.
2. Assessing the appropriateness of fair value measurements
and disclosures.
3. Using the work of an expert.
4. Testing the entity’s fair value measurements and disclosures.
5. Representations by management.
6. Communication with those charged with governance. (Page
88)
The IASB really is battling with the statement on business
combinations. Some matters being discussed are:
1.
1.
Deferred tax assets and liabilities would not be fairly valued
on acquisition but would be measured in terms of the
statement on income taxes.
2. Guidance will be given on how to value liabilities.
3. Post-employment benefit obligations would be measured
based on the acquirer’s actuarial assumptions at the date of
acquisition.
4. Changes to plans would not be accounted for as a liability at
the acquisition date.
5. Liabilities assumed by the acquirer, such as rectifying the
environment, would not be dealt with as a liability at the date
of the acquisition. (Page 88)
The IASB is discussing the concepts of control, consolidations
and special purpose entities. Some principles being considered
are:
1.
Consolidation policy should be driven by the principle of
reporting on economic entities.
2. The borders of economic reporting entities should be
determined by the same control notion that underpins the
definitions of the assets.
3. Control should be defined in terms of the capacity to control
in order to benefit. Exercise of that capacity is not required.
(This differs from our Companies Act.)
4. Control could exist where a shareholding of less than 50% is
held and the remaining shares are widely dispersed among
passive holders. (I have a big problem with this!)
5. Options to buy shares should be taken into account when
considering control.
6. Only one entity can control another.
7. A comprehensive statement is required on SPEs. (Page 89)
The IASB agreed that share based payments should be measured
and recognised in the financial statements of entities in respect of
all share-based payment transactions, including all types of
employee share-based payments. (Page 90)
25
Mafia Buzz 2002
Derek A Ross looks at hedging foreign exchange risks. He points
out that exposure to such risks arises long before the goods are
received or delivered. He admits that by not using hedge
accounting, the accounts will not reflect commercial behaviour.
But then he tries to justify why one should not use hedge
accounting. (I wonder if his arguments would be the same if he
operated in the SA economic environment?) (Page 105)
Finance Week
Accountancy SA
Willem Landman sets out seven rules for developing a code of
ethics:
If the Enron and WorldCom sagas are revealing anything, it is that
corporate governance is sometimes not worth the paper it is
written on. Should the people involved in implementing corporate
governance not have their hearts in the right place and just be
going through the motions, the process becomes a charade. (Page
3)
Sustainability is about surviving and thriving, by finding a proper
balance between economic, social and environmental
development. One cannot relentlessly pursue any one of these
three elements of the so-called ‘triple bottom line’ at the expense
of the others without the system collapsing. (Page 3)
Xerox artificially increased its pre-tax earnings by $1,5bn from
1997 to 2000. When the audit partner in charge challenged the
practices, Xerox demanded his removal. Court records show that
the audit firm complied. Xerox’s internal accountants boasted that
there wasn’t an accounting standard they couldn’t beat. (Page 7)
Many managers view GAAP, not as a standard to be met, but as
an obstacle to overcome. (Page 7)
Customer Relationship Management (CRM) is about making the
customers aware of the fact that the company is aware of them as
individuals and their individual needs. (Page 11)
My article this month was on tunnel vision fads. (Page 27)
Congratulations to Linda de Beer – she is now the new Technical
Director at SAICA – Alta has been lost to the wicked USA!
AIMR Advocate
The AIMR code requires members to act with competence,
integrity, dignity and in an ethical manner. (A good mantra for us
all to use: CIDEM.)
AIMR Exchange
The AIMR plans to prohibit companies and investment
management firms from retaliating against research analysts who
issue undesirable investment recommendations or ratings.
Hopefully, this will give analysts more independence.
BDO’s ADDitude
The Prevention of Organised Crime Act and the Financial
Intelligence Centre Act have been introduced in RSA. In essence,
any person who carries on a business, manages or is in charge of a
business or is employed by a business that suspects that something
untoward is taking place must report such knowledge or suspicion
to the Financial Intelligence Centre. Failure to do so could result
in a 15-year jail term or a fine of R10 million.
Valuations for Capital Gains Tax purposes must be done before 30
September 2003. In respect of tangible property exceeding R10
million and intangible property exceeding R1 million, they must
be lodged with SARS together with the first tax return submitted
after 30 September 2003.
Government is considering forcing pension funds to invest in jobcreating companies! (18th, page 8)
A curator is appointed to try to determine what happened to R1,7
billion of contributions to trade union Saccawu’s provident fund.
(18th, page 8)
1.
2.
3.
4.
5.
6.
7.
Write it in a format and style that is readily understood.
Tailor it to the organisation.
Communicate it to all internal and external stakeholders.
Promote it.
Revise it due to changing circumstances.
Live it – follow it daily.
Enforce it and reinforce it. (18th, page 72)
Financial Mail
Following the Enron affair, SAICA is looking at four issues:
1. The relationship between clients and their auditors.
2. The provision of non-audit services to audit clients.
3. The forced rotation of auditors of particular businesses.
4. Auditors who leave an audit firm to join one of their clients.
SAICA is also considering making audit committees mandatory.
(Why? They are required by the JSE and are irrelevant in the case
of small private companies. Looks like another overkill coming!)
(6th, page 36)
Government is planning to legislate that auditors be rotated. The
profession is of the opinion that this will result in an increase in
costs (and audit risk) and will not have the desired effect. KPMG,
for example, audits half of SA’s banks. Of the 10 banks that
failed in SA in the past 12 years, not one was audited by KPMG.
It does not make sense that KPMG be taken off audits of banks
because of a rule on rotation. (20th, page 88)
In 1997 a structured investment promising a guaranteed capital
back and an upside based on the growth in a package of overseas
indexes became popular. Based on back testing, these investments
should have produced a return of 26% p.a. These investments are
maturing this year and investors will receive only their capital
back. Had they invested in fixed deposits at an after tax return of
7% p.a. they would have received R140 000. (Lesson? Past
performance is irrelevant to future returns.) (20th, page 100)
Stephen Cranston says that most so-called financial planners are
still simply insurance salesmen. A financial advisor can claim the
title only if paid by the client, i.e. not by the product provider.
(20th, page 101)
SARS is to challenge the financing mechanism that allows
companies to deduct repayments of loans as interest. It appears as
if section 24J is the basis of their challenge. (Going to be
interesting. My guess is SARS will ultimately lose and the Act
will be changed to stop this scheme.) (27th, page 69)
Fortune
Business Day
This magazine lists 20 directors who cashed in their shares at the
height of the stock market bubble leaving their shareholders
holding, in many cases, worthless stock. The amounts of the sales
vary from $1,57 billion (Phil Anschutz of Qwest
Communications) to $102 million (Ken Lay of Enron). (2 nd, page
42)
If you are fed up with the budgeting process, go to www.bbrt.org
and join an enlightened bunch of managers who have moved
beyond this antiquated approach to management. (30th)
Investors are wrestling with how much growth is real and how
much is due to serial acquisitions or dodgy accounting. Many
others are not waiting to find out. The have been pulling their
26
Mafia Buzz 2002
investments out of growth funds and been jumping into value
funds. (2nd, page 70)
When other investors capitulate (when irrational pessimism takes
hold, the instant of mass misery, when hope and reason are cast
aside and irrepressible selling takes over), this is the time to be
looking for value and buying. Clues as to the point of capitulation
are:
1.
2.
3.
When wealthy individual investors start shouting at their
brokers to “just sell”.
High volumes experienced while prices are going down.
When the cartoons start! (2nd, page 84)
Maneo
Claude O’Flaherty says that the dangers of a rule based approach
as opposed to a conceptual framework approach is that an everincreasing number of rules are formulated that inevitably fail to
cover every eventuality. (The danger of a conceptual framework
approach is that it is left up to the interpretation of those who must
comply – how does one enforce concepts?)
In terms of the listing requirements of the JSE, if preliminary
results have not been audited, they have to be reviewed by the
auditors. Karen Lauf gives an example of the wording of the
review report on page 3.
If you are up for review soon, go to page 5 and read what Jillian
has to say.
Dirk Vercuil sets out the rules and regulations governing the long
term investments of moneys on behalf of clients in terms of the
Attorneys Act of 1979 on pages 10 to 12.
SAICA News
The GAAP Monitoring Panel was launched on 4 September 2002.
This is a joint initiative between SAICA and the JSE. The GMP
will investigate instances of poor compliance and should have the
effect of deterring creative accounting. The committee comprises
the cream of our profession. My only hope is that it will not allow
itself to be used as a weapon by shareholders to punish the
company. (3rd)
All companies (CCs?) have got until 28 February 2003 to comply
with the Access to Information Act. (4th)
Star
In their book called “Getting to yes”, Roger Fish and William Dry
state that before commencing a negotiation you should consider
the “best alternative to a negotiated agreement” (BATNA). This
will give you more muscle in a negotiating situation. (2 nd)
TechTalk
The IASB has approved the exposure draft on the first time
application of IFRSs.
The IFAC has commenced an initiative to rebuild public
confidence. A revision of quality control standards is on the cards.
A forum of firms has been established. The requirements for
establishing and maintaining quality assurance programmes is to
be revised. It will become more active in encouraging the adoption
of its Code. And ISAs will be made more accessible through
IFAC’s website free of charge.
October 2002 (30 Minutes)
Accountancy
Non-executive directors, known as NEDs, are being pressurised
by the National Association of Pension Funds into becoming
whistleblowers and to resign in cases where there are corporate
governance failures. They also want NEDs who hold more than
five such positions to explain in the annual report how they can
devote sufficient time to the job. (Page 7)
Banks who colluded with Enron to set up SPEs could face
litigation from the creditors of Enron. (Could some of those
creditors be the same banks who colluded?) (Page 8)
US telecom giant Qwest has admitted to a further $1,5bn
accounting “error”. (Page 13)
Peregrine Systems is planning to sue its former auditor Andersen
for $1bn due to it overstating revenues by $1,5bn. Andersen’s
comment was: “This looks, smells and tastes like a hysterical
board of directors looking for a scapegoat to cover up their
failures and the failures of their handpicked executives. It really is
outrageous, even in this season of blaming the auditors.” (Page 14)
A survey conducted by Oswald and Young found that distributing
excess cash and creating a more efficient capital structure were
frequently cited motives for share buybacks, with 28% of
companies including the former in their list of reasons and 26%
the latter. However, by far the most frequently cited motive
(47%) cited the desire to increase EPS. The prevalence of EPSbased performance measures in executive compensation plans
hints at an even more sinister possibility. (Page 26)
How to fire your staff: Invite them to a champagne breakfast.
Direct those who are to be fired through a door to the car park
where they are informed of the news while those not to be fired
are directed to the breakfast room where they enjoy a bubbly
breakfast. (Page 30)
Peter Wyman, ICAEW president, points out that many nonstatutory audit fees are in fact for audit related work such as
reports to regulators, tax compliance, etc. (Page 30)
Many mid-tier audit firms are looking at limited liability
partnerships as a means of protecting their downside, postAndersen. (Page 34)
Alun Bowen, senior partner at KPMG, suggests that the best thing
that government can do is to provide a framework in which
companies can work rather than to create tighter regulations.
Putting companies in a straight jacket is counter productive and
prevents them from achieving their goals. (Our RSA government
should take note.) (Page 37)
Research by PwC has shown that under the current reporting
regime, few companies provide enough information to meet the
needs of investors. Investors need to know what kind of risks
companies are facing and how they are dealing with them.
Investors want to know what the indicators of value creation are
beyond the economic parameters. The feeling is that the IASB is
not addressing these issues. (Page 38)
Questions are being asked whether analysts have the necessary
objectivity, integrity and ability to do their jobs. Post Enron and
WorldCom investigations revealed that they promoted investments
they privately disparaged in internal e-mails. Terry Smith of
Collins Stewart says that the vast majority of analysts cannot
analyse. They have to ask the company what to write in their
reports. He says that analysts ignore the facts when they write
reports as they need to obtain corporate deals. They cannot afford
to offend their clients. (Page 48)
Given motives for share buybacks are usually:
1.
2.
To boost a flagging share price.
To pay back excess cash rather than invest in value
destroying projects. (An idea for Pick ‘n Pay?)
3. To optimise the benefits to be obtained by the use of gearing.
However, the real reason in most cases is to increase EPS. (Page
52)
27
Mafia Buzz 2002
Some ideas on negotiating:
1.
2.
3.
4.
5.
6.
7.
8.
Set a clear objective before entering into any negotiation.
Identify what you want from the deal – set parameters.
Identify the benefits to the other party.
Think carefully about your personal style – avoid posturing.
Encourage the other party do the talking – open their hand.
Get the big picture and deal with the major concerns first.
Avoid confrontation – respect their opinion.
Make concessions gracefully – be prepared to lose a battle to
win the war. (Page 55)
It is devastating to be made redundant. If it happens to you, you
need to develop a plan to get back onto your feet again. Here are
some tips when looking for a new job:
1.
2.
Be prepared for questions about your redundancy.
If as a result of a specific event, have evidence to back-up
your story.
3. Get good references from your previous employers.
4. Have a contact from your former employer who is prepared
to speak on your behalf.
5. Beware of a lengthy unemployment period without a reason.
6. Consider contract work, but choose carefully.
7. Don’t hold out for your dream job.
It is best to look for a new job when you want one, not when you
need it as the latter weakens your negotiating position. (Page 56)
Index-trackers outperform roughly 60% of active managers,
mainly because of their lower costs. After adjusting for risk, only
a handful of active mangers beat the index. And, they do not seem
to be able to repeat this feat in the next period. For active
managers to win:
1. Markets need to be inefficient.
2. They (the managers) need superior skills.
3. Their fees need to be low.
4. There should be little competition for the same investments.
Clearly, active management is a no win situation. So what is the
solution? Index tracking! Vanguard, the US index-tracking giant,
has worked out that its total costs are 3.1% p.a. (R100 000
invested at 12% p.a. for 30 years = R3,0 million. At 8,9% p.a. it
comes to R1,3 million. Who wins with tracking? You get 1,3
million and the tracker company gets R1,7 million. So what is the
solution? Intelligent DIY!) (Page 61)
Sir Andrew Likierman says that accountants should seriously
consider looking to government as a career. He says that it is
fascinating work with huge challenges where one’s efforts really
do make a difference. (I recently spent four days addressing the
Auditor General in Durban and in Pretoria. I found the quality of
the people working there to be of the highest standard and that the
problems being addressed by the AG to be extremely challenging.
This experience changed my perception of Government as a place
to make a career.) (Page 77)
Ron Paterson explains that the original objective of accounting for
pension costs was to smoothly spread the cost of providing for
pensions over the period of service. The mistake the standard
setters made was to try to modify this concept in a framework that
requires the balance sheet to be the prime document. The result is
that daft results are produced. (Again, RP has hit the nail on the
head. The IASB is reconsidering its standard in the light of
similar criticisms – see below.) (Page 86)
4.
5.
The IASB’s work on business combinations includes:
1.
2.
3.
Eliminating the pooling of interests method.
Prohibiting the amortisation of goodwill.
Re-looking at the measurement and recognition of acquired
assets and liabilities. (Page 90)
The IASB’s work on consolidations includes looking at what
constitutes control. There is a conflict with IAS standards and the
US. The latter sees control arising when majority ownership is
present (the same as our local Companies Act?). The fight is on!
(Page 90)
The IASBs work on revenue and liabilities includes:
1. The distinction between liabilities and equity.
2. When to recognise a liability.
3. When to recognise revenue. (Page 90)
(Going round and round and round and round!)
It is important to recognise that the problems at Enron and
WorldCom appear to have stemmed primarily from a failure to
follow existing rule-based accounting standards rather than from a
need to introduce new standards. (Sanity is starting to prevail!)
(Page 94)
The IASB has produced over 800 pages of exposure drafts
comprising its improvements-project and an exposure draft on first
time application of IFRSs. What do companies do in the
meantime? Do they start becoming familiar with the proposals so
that they can hit the road running or do they wait for the final
statements to be published before taking action? The latter
approach is the easy way out. However, it could result in a crisis
developing. It is recommended that management plan ahead by
studying the proposals to avoid unpleasant surprises. (My job for
2003?)
President Bush signed the Sarbanes-Oxley Act into law on 30
July 2002. Auditors of companies to which the Act applies must
register with the oversight board created by the Act. This board
can call for testimony or the production of documents from the
auditors. Its other functions are to:
1.
Establish rules governing auditing and the production of
financial statements (is this duplicating the work of the
standard setters?).
2. Inspect auditing firms (similar to our Practice Review?).
3. Conduct investigations and disciplinary proceedings (similar
to our PAAB?)
4. Set standards for the audit committees of companies.
A firm may not act as auditor if the CEO, controller, CFO or chief
accounting officer of the company participated in any capacity in
the audit with the firm in the previous year. Audit partners have to
be rotated at least every five years. Certain non-auditing services
by the auditing firm are prohibited and certain non-audit services
may only be performed if approved in advance by the audit
committee. And the CFO and CEO must certify that the 20F and
financial statements are accurate and complete.
Other
requirements are:
1.
2.
3.
The IASB’s work on employee benefits includes:
1.
2.
3.
Dumping the corridor approach.
Dealing with the asset ceiling and its impact on profits.
Reviewing the definitions of defined benefit and contribution.
Allocating costs to accounting periods.
Merging FAS standards. (Page 90)
4.
If the financial statements are restated, the CEO and CFO are
required to return their incentive-based bonuses. (Lovely!)
No officer or director may attempt to influence the auditor.
All material correcting adjustments identified by the
independent auditor must be reflected in the financial report
filed with the SEC.
The annual report and the 20F should disclose all off balance
sheet transactions and balances.
28
Mafia Buzz 2002
5.
6.
The annual report and the 20F should contain an internal
control report attested to by the auditors.
Increased enforcement and penalties are contained in the act
for, among other things, destroying audit working papers,
falsifying records, etc. (Page 110)
Accountancy SA
Sustainability refers to the achievement of balanced and integrated
economic, social and environmental performance. These three
elements of sustainability have been called the “triple bottom
line”. (Page 13)
My article “tries” to address the problem with provisions – this
was a tough subject for me! (Page 47)
Business Day
Sanlam surveyed 500 companies regarding their HIV/AIDS
policies. More than 75% have no idea of the prevalence of
HIV/AIDS in their organisations. 46% have no AIDS policy and
85% do not offer voluntary AIDS testing. Companies need to take
their heads out of the sand and address this problem. (And SAICA
needs to publish a statement on how to account for the problem!)
(4th)
Michael Katz says that directors have a fiduciary duty to the
company and not to themselves. He said that what went wrong at
Enron was a complete breakdown of ethics and morals. (11th)
A half page advertisement appeared in Business Day on 15
October attacking the PAAB for calling for only black applicants
for the job of CEO. C D Rowe called for support from members
of our profession. I can only guess that he was alone in his call to
make South Africa a truly race free country. CAs will privately
agree with CDR but will not want to stick their necks out as it is
politically incorrect to comment on these kinds of actions. I really
feel for CDR as I used to try to get the support of the profession
for just causes in the past, to no avail. (15th)
The securitisation scheme of Siltek is being probed with the
objective of setting it aside. Siltek took R200 million of its assets
off its balance sheet and housed them in a SPE. The liquidator of
Siltek is arguing that these assets should be used to satisfy all
Siltek’s creditors, and not just those benefiting from the
securitisation scheme. (Will the GAAP panel of the JSE please
take note and do something about all of the companies out there
that are blatantly contravening AC412?) (18th)
About 10% of US public companies have restated their accounts
in the past six years, an accelerating trend that seems to have
shaken investor confidence. (The difference between the US and
the rest of the world is that at least there is transparency in the US.
In the rest of the world we do not know how rotten it could be
below the veneer.) (24th)
From a survey conducted by Tony Bell of PeregrineQuant of 10
pension fund mangers over the past six years it was found that
during any three year period 97% of the total fund returns could be
explained by the benchmark. Only 3% of actual returns achieved
were, therefore, attributable to decisions of the asset manager.
(31st)
Citizen
According to Mr Bryan Hirsh of Sasfin, there is ample evidence to
prove that a well chosen portfolio of shares over a long period of
time will create greater wealth than many traditional insurance or
investment products. He notes that endeavours over the past ten
years to find new products that not only give tax efficient income
but also provide capital growth have failed dismally. (2 nd)
Finance Week
Only 46% of work hours in SA companies are used productively.
This is due to inadequate planning and control by management.
This compares to 63% in Germany. (16th, page 6)
The former chief accountant of Worldcom has admitted to
covering up $7bn of expenses with false entries in the books. (16th,
page 6)
William H Gross, MD of Pacific Investments, California, is of the
opinion that the Dow will only show value when it reaches 5 000
and the S&P 500 when it reaches 650. He says that investors were
mislead by phoney figures. Investors were led to believe that
money for dividends would be better left in the hands of the
company for managers to covert to tax efficient capital gains.
Then companies diluted investors’ interests by issuing share
options to managers. He says dividends are now an important
element of share investing (wow, really? – amazing how easy it is
to forget such fundamentals). (16th, page 9)
World equity markets, defined by the MSCI World Index, fell
18,7% in the last quarter and by 26,5% for the first nine months of
2002. (30th, page 36)
Financial Mail
The Minerals Bill holds present and past directors of mining
companies responsible for unacceptable negative impacts on the
environment caused by the company or CC they represent. (Who
would want to be a director of a mining company?) (4 th, page 48)
Comments by Mr Mervyn King of the King report fame:
1.
2.
One cannot legislated against dishonesty.
A good definition of corporate governance is: “The way we
do things around here when no-one is watching us”.
3. Boards need to be aware that dissent is not the same as
disloyalty. They need to constructively criticise.
4. The board should be privy to all information in good time.
5. The board members should be individually accountable.
6. Board members should be evaluated once a year.
7. Board decisions should be rational and in the best long term
interests of the company.
8. The sustainability of the business of the company is the
ultimate social responsibility of the board. (11th, page 84)
A survey by Sanlam shows that 10% of pension funds do not
provide annual benefit statements to their members and 49% only
report once a year. And, 36% do not have an investment policy in
place. (11th, page 81)
Fortune
Value investors are the penny pinchers of the stock market. They
refuse to follow fads. They pour over financial statements to find
true worth. Such investors are looking into what were previously
regarded as growth stocks due to the levels to which such stocks
have fallen. (14th, page 109)
At the Fed’s insistence, bankers in the US are considering getting
rid of their analysts due to conflicts of interests. Investors are
usually not prepared to pay for research so other means will have
to be found to access and pay for the research. Already boutique
firms are getting into the act. (28th, page 19)
Companies can raise or lower their profits merely by changing the
estimated return on investments of their pension funds. The
estimated return is credited to the income statement and any
differences between the estimate and the actual are amortised over
time as unrealised actuarial gains or losses. (28th, page 26)
29
Mafia Buzz 2002
Until breakthroughs are made, the best strategy to keep
Alzheimer’s at bay is to exercise your mind as well as your body –
stay stimulated and keep on learning. (28th, page 92)
Star
Ann Crotty says that the problem with paying employees by share
options is that the company ends up paying the employees an
annuity in the form of dividends forever. (This is not a bad
argument until one reasons that employees could be paid in cash,
use the cash to pay for the shares and receive an annuity
“forever”.) (2nd)
Sunday Times
A survey conducted among asset managers by Jeremy Thomas (a
journalist really worth reading on a regular basis) concluded that
dividends should be used as the basis for finding value in shares.
The value of a share is the discounted cash flow expected to be
generated from this share. (Gee, when did they forget this
concept?) (13th)
TechTalk
The APC has issued “first-time application of IFRS” for comment.
The ASB has issued SAAPS 1013, Electronic commerce – effect
on the audit of financial statements.
The IAASB issued ISA 545, Auditing fair value measurements
and disclosures.
IFAC’s standards (the ISAs) are available on their website at no
cost (www.ifac.org). (Why does the IASB not do the same?)
The JSE has notified listed companies about the requirements for
submitting financial statements to the Listing Division for
approval – the details are on page 30.
An example of a review report by the auditors is given on page 30
– required for listed company results.
Be warned that you must have complied with the Access to
Information Act by 28 February 2003.
Time
One of the fall-outs of the stock market decline is that insurance
companies, which are heavily invested in equities, may have to
offload equities onto the market. This will have a cascading effect
on the prices on equities, which could further impact on their
liquidity ratios. In Europe, insurance company share prices have
dropped by 58% this year compared to an overall market decline
of 35%. A catastrophe could be on the cards. (21 st, page 50)
2.
3.
4.
Reason though it – reconfigure your view of the world and
develop a more realistic perspective.
Exercise – a good workout or a brisk walk.
Clean up your act – diet, environment, finances, etc.
Fun Corner
An old man was sitting on a bench in a mall. A young man
walked up and sat down. He had spiked hair in different colours:
green, red, orange, blue and yellow. Every time the young man
looked, the old man was staring. The young man finally asked:
“What’s the matter, old timer – never done anything wild in your
life?” Without batting an eyelid, the old man replied: “Got drunk
once and had sex with a parrot. I was just wondering if you were
my son.” (Finance Week, 18 September, page 90)
Two hunters were out in the woods when one of them collapses.
He does not seem to be breathing and his eyes are glazed. The
other man pulls out his phone and calls emergency services. He
gasps to the operator: “My friend is dead! What can I do?” The
operator in a calm soothing voice replies: “Take it easy, I can help.
First, let’s make sure he is dead.” There is a silence, then a shot is
heard. Back on the phone the hunter says, “OK, now what?”
(This was supposed to be the funniest joke ever! I think the
previous one is funnier!) (Business Day, 4 October)
A man was getting into the shower just as his wife finished her
shower when the doorbell rings. After a few seconds of arguing
who should answer it, the wife gives up, wraps herself in a towel
and runs downstairs. When she opens the door Bob the next door
neighbour is standing there. Before she is able to say anything,
Bob says: “I’ll give you R3 000 to drop your towel.” She thinks
for a moment and then complies. After a few seconds, he hands
her R3 000 and leaves. Confused but excited about her good
fortune, she wraps herself in the towel and goes back upstairs.
When she gets to the bathroom her husband asks: “Who was
that?” “It was Bob, our next door neighbour” she replies.
“Great,” the husband says, “did he say anything about the R3000
he owns me?” (Finance Week, 9 October, page 66)
To End
“Someplace right now, in the layers of a Fortune 500 company, an
employee – probably high up and probably helped by people who
work for him – is perpetrating an accounting fraud. Down the road
that crime will come to light and cost the company’s shareholders
hundreds of millions of dollars.” Fortune, August 1999. (No a bad
prediction. However, they underestimated the amounts involved,
did not predict that one of the big-five auditing firms would be
wiped out and missed the resultant market meltdown around the
world.)
The publicly traded Germany technology company, ComROAD,
disclosed that 96% of its sales were fictitious. They were billed
through a non-existent Hong Kong company. (28th, page 49)
November 2002 (25 Minutes)
Other
Accountancy
From Wharton, courtesy of Steve Gawthrop Strategies CC:
EBITDA may have been indirectly responsible for some of the
corporate carcasses now littering the landscape. This concept is
the lazy analyst’s cash flow and is a dangerous concept. It is not a
measure of performance as it excludes expenses that are necessary
for performance. It was originally thought to be a good measure
of debt capacity. This backfired as it does not take into account
the cash cost of replacing plant and machinery and the cash cost to
the company of inflation – increases in working capital required
just to keep the company afloat. (Scrap it!)
It is expected that accord will have been reached on the main
issues of Global GAAP, i.e. the best of IFRS and US GAAP, by
2005. (Page 26)
Depression is prolonged sadness that results in a blunting of
emotions and a sense of futility. Suggestions for overcoming
depression are:
The IASB and the FASB will be comparing their two sets of
standards over the next few months and will vote on which
provisions are best in each case. This will not be easy as the two
frameworks are very differently based (the one on rules and the
1.
Face up to what is happening.
Although most people will try to do the right thing, few will have
the moral courage to stand up to one’s peers. Those who do often
find that their colleagues gang up on them and drain their energies
or they find that their colleagues privately agree with their stance
and see its necessity but in the boardroom simply sit quietly and
let the bullies bully. (This brings back memories of my days on
the APC!) (Page 30)
30
Mafia Buzz 2002
other on principles). This process could eventually lead to Global
GAAP – still some time off. (Page 32)
Paul Pacter has prepared a checklist of some (80) differences
between IFRS and US GAAP on page 97.
Ideas for mid-tier firms: Develop a focused marketing strategy.
Establish how and where you make profit. Ensure that your
strategy focuses on these markets and others where you can grow
profits in future. Clients value the industry insight demonstrated
by firms that organise themselves with a degree of sector focus,
rather than purely by specialist function. (Page 35)
The IASB and the FASB have expressed their support for
eliminating differences between the two sets of standards and for
co-operating when setting new standards to ensure that new
differences are not created. (Page 106)
SPEs, which were used extensively in the Enron, Global Crossing
and Tyco scandals, are coming under scrutiny of the standard
setters. Enron, for example, set up more than 880 SPEs to hide its
problems. Many SPEs are set up for valid reasons, e.g. to raise
finance. However, we should soon find new rules applying to
SPEs. (Page 40)
Enron won six environmental awards in 2000 and was voted the
best company employer for three years in a row! (Page 50)
There is a major conflict between the way actuaries and
accountants measure pension fund obligations. Actuaries discount
liabilities at the return the investments are expected to make
whereas finance theory says that one should use the discount rate
with the closest characteristics to the pension fund obligation. (I
have never come across this “theory” before.) Equities should
give a higher return than bonds as they are riskier than bonds. If
one uses an equity return, one will get a lower obligation, “bearing
in mind that trusts are tax-exempt”. This is the crux! In RSA one
pays tax on interest in pension funds! If we use a pre-tax rate to
evaluate our pension funds, we will grossly understate the
obligations of our pension funds. This will result in massive
published surpluses when none exist. The APC tried to get this
point across when we were in the process of adopting the standard,
but to no avail. Actuaries cannot understand why accountants are
hopelessly overstating pension fund surpluses. I believe that
accountants are just following AC116 without knowing what the
effects are. Just wait until some shareholder sues SAICA for
misinformation! (Page 70)
The key to continuing reforms in corporate governance is to make
sure that auditors focus adequately on professional scepticism.
This is the core of the auditor’s work. (Page 77)
To avoid the risk of strokes, stop smoking. Smoking doubles your
risk of a stroke. Stopping reduces the risk after 72 hours. (It takes
a little longer for the risk of cancer to reduce after stopping – 15
years.) High cholesterol levels and a lack of exercise also increase
the risk of strokes. So three simple things you can do to increase
your most valuable asset, being the time you have been allocated
to visit this wonderful planet, are: stop smoking, get your
cholesterol levels down and exercise. (Page 80)
Unless the profession re-establishes its reputation for high
standards of behaviour, the perception that it lacks moral fibre
may strengthen and society will do something to protect itself,
thereby curtailing the freedoms enjoyed by the professionals. We
should ensure that students of accounting are encouraged to learn
about this aspect of the profession. (In the 35 years I prepared
candidates for the QE we had less than 10 marks p.a. on
professional ethics in the examination. My protests were ignored.)
(Page 83)
The IASB and the FASB have encouraged their staff to arrive at
definitions for “financing”, “operating”, “income flows” and
“valuation judgements” to progress the statement on financial
performance. (Page 106)
The IASB and the FASB have agreed to carry on working on
business combinations and revenue recognition as joint projects.
Work is continuing on post-employment benefits, employee
benefits, insurance contracts and share-based payments. (I can’t
wait to see what they come up with!) (Page 106)
Accountancy SA
Investors cannot place a reasonable value on a company without
knowing the impact of HIV/AIDS. Where a company is
particularly exposed, staff absenteeism will increase due to the
illness, compassionate leave, attendance at funerals, etc.
Productivity will reduce, costs of recruiting and training will
increase, demands will be made by unions on companies, capital
will move out of the country, thereby increasing cost of capital,
etc. etc. We know all this and still do not have a statement giving
guidance on how to measure and recognise the provision for all of
these future costs! At this stage, listed companies have been told
to give full disclosure by SAICA and the JSE. Disclosure results
in a constructive obligation, which results in a provision having to
be made. Where is the measurement standard? (Page 7)
SAICA is drafting guidelines on how to disclose the impact of
HIV/AIDS, but not a GAAP statement on how to measure and
recognise the provision. Statistical modelling suggests that the
prevalence for age 18 to age 64 is 23% at present. With the right
care, medication and lifestyle guidance, employees are capable of
leading productive lives for many years after becoming infected
with HIV. However, for a couple of years when HIV turns in to
AIDS, some companies have undertaken to continue medicating
their employees while at home. It is surely these costs (at least)
that should be measured and recognised as a provision. (Page 10)
Bienkie Shuttleworth sets out the following concerns in respect of
the statement on agriculture:
1.
2.
Compliance with the statement may give SARS ideas.
With the prevalence of droughts, floods and diseases in this
industry, recognising unrealised gains is questionable.
3. Where observable markets do not exist, accounting for values
becomes subjective.
4. The costs of compliance with this statement will surely
outweigh any possible benefits of applying this statement.
(Page 13)
The basic elements of leadership are vision, communication and
trust. The tasks that leaders perform are to:
Harvey Pitt, chairman of SEC, said in a speech given at the
ICAEW conference in Brussels that the FASB and the IASB are
committed to working together to produce a set of high quality
standards and to eliminate key differences between the two sets of
standards. (Page 86)
1. Set goals in conjunction with the followers.
2. Clarify roles and responsibilities for task accomplishment.
3. Plan and organise resources.
4. Establish time limits and priorities.
5. Design control procedures for evaluating performance.
The behaviour characteristics displayed by leaders are:
In the UK the tax authorities are considering aligning tax law with
accounting standards. One of the main problems with this will be
taxing companies on profits not realised in cash. (In RSA this is
done at present anyway!) (Page 94)
1.
2.
3.
4.
Supporting staff during the accomplishment of their tasks.
Inviting ideas and suggestions from staff.
Facilitating problem solving and decision making.
Listening to and encouraging staff.
31
Mafia Buzz 2002
5. Thanking staff for the work they have done. (Page 20)
My article was designed to debunk the argument that substance
and economic reality override GAAP. (Page 23)
AIMR Advocate
In October the SEC issued proposed rules to implement provisions
of the Sarbanes-Oxley Act designed to preserve the integrity of
audits. Specifically, the proposal would prohibit an issuer’s
officers and directors from taking actions to fraudulently
influence, coerce, manipulate or mislead the issuer’s auditor for
the purpose of rendering the financial statements materially
misleading. (Page 2)
The Boards of the IASB and FASB have agreed to launch a joint
project on revenue recognition as this is the single largest source
of financial restatements in the US. (Page 11)
AIMR Conference Proceedings
Aggressive corporate accounting practices (a game of nods and
winks) between corporate managers, auditors and analysts have
caused the quality of reported earnings to deteriorate. David Tice
gives some ideas of what to look out for:
1.
Financial confusion, e.g. reconstructions, changing year-ends,
complex explanations for items in the financials,
discontinued operations, acquisitions, exceptional items, etc.
2. Aggressive revenue recognition practices.
3. EPS growing at say 20% with sales growing at 2%.
4. Cash flows not in line with earnings.
5. Poor returns on capital employed.
6. Focusing on the good and avoiding the bad.
7. Non-compliance with GAAP.
8. Pushing fads such as EBITDA.
(Page 57)
Business Day
Dave Mohr, chief investment officer of Citadel, says that a broad
asset mix to gain the maximum benefit from diversification is
pivotal to sound wealth preservation strategy. He measures
performance relative to inflation after costs and taxes. (1st)
Shauket Fakie has welcomed the increasing scrutiny of the
independence of external auditors by public entities. (21 st)
A committee is a cul-de-sac down which ideas are lured and then
quietly strangled – Barnett Cocks. (21st)
Citizen
A senior employee of Galahad has been indicted on charges
involving R151 million. (16th)
Economist
Three choices exist for measuring and recognising the cost of
options given to employees: at the date granted, at the vesting date
or at the exercise date. The IASB has chosen the grant date,
which will usually result in a lower cost to the company. (1 st)
Finance Week
Monica Singer says that if you ask your broker for all notices and
annual reports in the companies in which you have shares, you
will receive them. This was in response to complaints that
STRATE deprives shareholders of this information. (6th, page 7)
A German man was beaten to death in a beer garden for refusing
to switch off his cellular-phone. You can now buy a jamming
device that has a 20-meter radius. But before rushing out to buy
it, you need to know that there is a R500 000 fine with a two-year
prison sentence thrown in for using such a device. So rather use
the former solution in a restaurant – it’s a cheaper option in RSA.
(6th, page 48)
Inflation in Zimbabwe is expected to be over 500% next year.
(13th, page 5)
Foschini has provided R5 million for HIV. (A start. Where is
GAAP to give us guidance on this?) (13th, page 29)
In future transfer duty will be levied even if the property is in a
company or a CC. (13th, page 30)
The unemployment rate in RSA is “down to 40,9%”! (13th, page
32)
Investment ideas:
1.
2.
Remain in tune with your objectives, age and risk profile.
Don’t get caught up in short-term cyclical chases – think long
term.
3. Maintain realistic expectations.
4. Go for value.
5. Remember the importance of asset allocation.
6. Select high quality shares and diversify.
7. Focus on achieving capital appreciation within the context of
preserving capital as far as possible.
8. Forget sentiment, go for value.
9. Don’t churn your investments; transaction costs destroy
value. (13th, page 35)
The Germans are objecting to the provision in the Sarbanes-Oxley
Act that requires managers to swear to the accuracy of the
financial statements. They say that the board as a whole takes
responsibility for the financials and not individual members of the
board. (13th, page 62)
According to KPMG, 25% of job applicants submit false CVs and
29% of SA companies do not bother to check the applicants’
backgrounds. (20th, page 7)
The government is considering making tax experts accountable for
tax advice they give. (20th, page 7)
AngloGold has calculated that the cost of not doing anything
about HIV/AIDS works out at $9 per ounce of gold mined. Its
programme of providing support for its employees is $6 an ounce
mined. It estimates that 25% of its 38 000 workforce has fallen
victim to the pandemic. The healthcare cost to the company is
R1bn p.a., nearly half of its taxed profits. However, the cost of the
anti-retroviral treatment has reduced from R1 200 per employee to
R840 over the past two months. (27th, page 30)
Financial Analysts Journal
Corporate managers need to abandon the habit of blindly
increasing company size and investment managers need to
carefully consider the drawbacks of diseconomies of scale.
Company managers need to make a fundamental shift in their
strategic orientation from "growth now, profit later" to “profitable
growth now”. Growth should not be the input to strategic planning
but the outcome of a sound investment strategy that is geared to
accepting value-creating projects.
Investors and portfolio
managers should be aware of the dangers of conforming to market
pressures from growth for growth’s sake. (Ramezani, Soenen and
Jung)
Financial Mail
Remember John Rusnak? He was the currency trader that lost
$700 million of Allied Irish Bank’s money. He has been jailed for
7,5 years. (1st, page 8)
According to the UN, 20% of South Africans are infected with
HIV (4,7 million people) and there are 660 000 orphans in the
country. This compares to 34% in Zimbabwe, 33% in Swaziland,
32
Mafia Buzz 2002
31% in Lesotho, 39% in Botswana and 22% in Namibia. (22 nd,
page 32)
is an opinion and not a certificate. However, the question
remains: “What are the shareholders paying for?” (Page 7)
SAICA has published ED160 on share options. Comments close
on 21 February 2003. (22nd, page 97)
The UK accounting profession, who have been arguing that the
British system of corporate governance is superior to that of the
US have been stunned by the accounting problems of a company
called MyTravel. The restatements are not of the same size of
Enron but still a shock that it can happen in the UK. (Page 9)
African Bank has raised provisions of 33% of its lending book of
R6,2 billion in loans. Peoples Bank has a provision of 40% of its
R1,2 billion book. (How do we stop this culture of non-payment in
South Africa?) (29th, page 45)
Fortune
The actions for which CEOs and CFOs are getting indicted and
sued are the result of situations where someone faces a choice
between right and wrong and chooses to do wrong. (11th, page 18)
“I’m gonna run a big company, I’m gonna cook the books, and
inflate my stock price, and move offshore, and not pay taxes, I’m
gonna be a CEO!” The article by Jerry Useem traces the fall of
CEOs from heroes to goats. In his article he describes how stock
options were abused by CEOs. The original idea of stock options
was to align managers’ interests to those of the shareholders.
However, CEOs started taking options, not worth thousands or
millions but tens or even hundreds of millions of dollars. It then
became a game. Instead of building successful companies, where
the by-product was the increase in the value of the stock, the game
was to pursue stock value as an end in itself regardless of the
means or the long term cost to the company. (18th, page 26)
Sunday Times
Gaenor Lipson reports that Ernst and Young’s global executive
partner Paul Ostling is of the opinion that to rotate auditors will
not achieve its intended objective and could have a counter
productive effect. (I get the impression that all four of the big
firms are of the same opinion.) (3rd)
TechTalk
Details of the new GAAP Monitoring Panel are given – a joint
initiative between the JSE and SAICA.
IFAC has released a paper on financial reporting on the Internet.
This is an important initiative that will save companies costs in the
future and will result in easier dissemination of results to
shareholders.
Details are given about the meeting between the IASB and the
FASB where they agreed in principle to work on a project that
may result in convergence of accounting standards one day.
(Don’t get too excited!)
SAAPS 1004 and 1006 and SAAS 545 and 502 have been issued
by the ASC for approval by the ASB.
Time
Andrew Fastow, ex-chief financial officer of Enron has been
indicted on 78 counts of fraud, conspiracy and charges. He
allegedly engineered an intricate web of partnerships that hid the
energy giant’s financial ills. (11th)
December 2002 (20 Minutes)
Accountancy
US analysts are saying that the audit report is not worth the paper
it is printed on. The question is whether the integrity of the audit
is so damaged that it serves little useful purpose in its present
form. Audit has suffered because the public does not understand
what the audit is about (back to the old expectation gap!). An audit
is a subjective process conducted by experienced professionals
whose knowledge of companies lends a capacity for judgement. It
There are plans afoot to require European companies to report
quarterly. However, many in the UK believe that this will result
in short term thinking in the marketplace. (Page 10)
Accounting irregularities in the US are up by 145% since 1997.
Qwest Communications restated $531 million of revenue in 2000
and 2001 and is planning to write assets down by $35bn.
WorldCom is on its third restatement of its results. (Page 16)
The SFI group in the UK, which owns pubs and a lap-dancing
chain, has admitted to overstating its assets and understating its
liabilities over several years. (Is this not a male prerogative?)
(Page 16)
There seems to be a move in the UK where the big four auditing
firms are focusing on large companies in the metropolitan areas
whereas the mid-tier firms are taking over in the regions – family
type businesses. (Page 22)
The UK Institute is facing major opposition to its practice
assurance scheme. Smaller firms want to know how this will
benefit them. (Gillian Bailey from our own PAAB can probably
teach them a thing or two!) (Page 26)
Chris Quick believes that now is the time for the profession to do
something about the expectation gap between what the users of an
audit report think they are getting and what the auditors think they
are delivering. He criticises managers for telling their superiors
only what they want to hear. This spins out of control and there is
a huge shock when reality hits. He says that being commercial is
about telling it like it is and finding realistic ways of moving
forward. (Page 31)
Investors who want to assess the future of a company are more
interested in whether the directors understand the risks they are
taking rather than whether the cash has been correctly counted. It
is the intangible, rather than the tangible, issues that are bringing
companies to their knees. (Page 81)
There is a danger that many young people are sleepwalking into a
retirement of relative poverty due to a combination of increased
longevity, lower expected investment returns and declining
employer pension fund contributions. Solutions include saving
more, planning carefully, investing wisely and working longer.
Some of the ideas given in the article for government involvement
are not applicable to this part of the world. (Page 88)
Nigel Sleigh-Johnson comments on the IASB proposed
improvements. He does not like the idea that you can avoid
compliance with a statement on the basis of “undue cost or effort”
(I agree 100%). He believes that the IASB can gain from dialog
with the UK standard setters. (Page 95)
Richard Sage looks at the paradox that results from accounting for
liabilities at fair value.
If a company’s credit rating is
downgraded, the fair interest rate for the liabilities will increase.
The liability will fall in value resulting in an immediate profit.
Common sense tells us that you should not make a profit when
your credit rating is downgraded. The article goes on to explain
why the company did profit by the downgrade. (I would argue
that as the person who gave the loan is worse off because of the
downgrade, the company must be better off.) (Page 96)
Kimberly Crook gives a run-down on the ED on share based
payments:
1.
All share-based payments to be recognised.
33
Mafia Buzz 2002
2.
Value to be based on the value of the goods or services or the
value of the shares, whichever is more readily determinable,
at the date of receipt of the goods or services.
3. For transactions with employees, the value to be based on the
value of the shares or options granted at the grant date. No
subsequent changes in value to be accounted for.
4. Where options are not traded options, valuation to take this
into account.
5. An additional expense to be recognised when options are repriced.
6. For options or shares, equity to be credited.
7. Share appreciation rights to be accounted for as a provision.
(Page 97)
David Chitty reviews the lessons learned from applying the
revised Charities Statement of Recommended Practice, which was
designed to improve the flow of information to stakeholders. (If
you are in this game, get the article.) (Page 100)
(Page 108)
The UK is trying to come to grips with the impact of IASB
standards on the results of companies. The major problem is that
they used the partial basis of deferred tax in the past. They are
also assessing the impact of unwinding the discount rate for
provisions, capitalising leases, pension fund accounting and
financial instrument accounting. (RSA is way ahead of the UK in
this department!) (Page 103)
Finance Week
Ron Paterson looks at the impairment statement and makes the
following observations:
1.
2.
Impairing assets has the effect of improving future profits.
Impairing assets has the effect of improving returns on
equity.
3. Impairment may be triggered because of shifts in capital
markets (increase in interest rates or a fall in the company’s
share price).
He concludes with the thought: Why try to import so much
ostensible science into an area of accounting that ultimately
depends on subjective judgement. (I 100% agree!) (Page 105)
Where a company purports to comply with IAS and the local
GAAP, the auditor should consider and report on each framework
separately (per IFAC). (Page 107)
The IAASB has issued three exposure drafts with the objective of
improving risk assessment by auditors (www.ifac.org).
The IASB met on 23 to 25 October and discussed the following
issues:
1. Phase 2 of business combinations
2. Consolidations and SPEs
3. Which standards will be applicable in 2005
4. Post-employment benefits
5. Phase 1 of insurance contracts
6. Performance reporting
7. Revenue recognition
Some interesting decisions taken were:
1.
2.
3.
4.
5.
The holder of the interest in an SPE with the most variability
of expected outcomes should be the entity that consolidates.
Control should not be assessed by whom has the power to
direct financial and operating policies. It should be assessed
by “other means”. (Going to be interesting to see what they
are.)
The actual return on plan assets in a post-employment benefit
fund should go to income, not the expected return. There
would then be no smoothing of returns into the future.
There would be no such thing as actuarial gains or losses!
Past service costs would be expensed immediately (good!).
Business Day
SARS has proposed a self-governing body with legislative powers
to regulate tax practitioners. As from January 2004 anyone
offering tax advice will have to be registered with the Association
of Tax Practitioners – could end up in prison for two years if you
don’t! (And so the screws tighten and tighten.) (2 nd)
The Government has appointed a 17-member committee to review
the Accounting Profession Bill. It is interesting to see that there
are no users or preparers of financial statements on this
committee! (We will have to watch this one carefully.) (10th)
The JSE is to publish a pension fund index that can be used as a
benchmark for investors and managers of pension funds. For
example, Anglo American will be down weighted in the index as
pension funds may not hold more than 10% of their assets in any
one counter. (31st)
According to Finance Week, Corpcapital bought a 48% stake in a
company for R2,7 million and revalued it, within months, to R150
million. The revaluation profit was credited to income in
accordance with AC133. In the next year it was again revalued
through income, by R71 million. The following year it was
written down to R110 million. Besides the question posed by FW
regarding whether or not these revaluations affected directors’
remuneration, one must ask the question: “Do revaluations
through the income statement that are based on subjective criteria
really add value to the financial statements?” (9 th, page 10)
Fortune
Geoffrey Covin questions whether the Sarbanes-Oxley rule that
the majority of the board of directors be independent will benefit
the shareholders. He says that the sort of persons who would
qualify could not possibly contribute to the wellbeing of the
company. He also questions the qualifications of those who are
permitted to sit on the audit committee and asks whether anyone
in their right mind would want to take on this responsibility. (I
was offered a position and turned it down!) (30 th, page 32)
Newly obtained e-mails have revealed how a certain Wall Street
brokerage company compromised its independence by influencing
its stock research to win investment-banking business. Some of
the big players are now simplifying their rating systems. For
example Morgan Stanley now publishes three recommendations
instead of five (underweight, market weight and overweight).
Merrill Lynch publishes buy, sell and neutral. (30th, page 70)
Time
Martin Luther King Jr. said: “Our lives begin to end the day we
become silent about things that matter.” The persons of the year
award by Time for 2002 was made to three very courageous
women who were prepared to stand up and be counted. They
were:
1.
Cynthia Cooper of Worldcom who blew the lid off the
capitalisation of billions of dollars of expenses by the
company.
2. Coleen Rowley of the FBI who exposed the FBI for what it
was: protecting itself against attack for being ineffective
instead of protecting the public against events such as 9/11.
3. Sherron Watkins of Enron who exposed the accounting
shenanigans that eventually brought the company (and Arthur
Anderson) to its knees.
One has to admire these women for doing the right thing at
enormous personal cost. Cynthia and Coleen had husbands who
were full-time stay at home dads so they were the breadwinners of
34
Mafia Buzz 2002
their families. Tremendous pressure was brought to bear on all
three women to back off by management. And being women they
were bullied by their male colleagues. (I wonder how many of us
would have the courage to put our future on the line for the good
of society in general? Time must be congratulated for its choice.)
(30th, 36 to 62)
Some of the comments that came out of the interviews with the
three ladies above were:
1.
2.
3.
4.
It is very important to do the right thing. The leaders should
set the tone.
Never allow yourself to be intimidated: always think about
the consequences of your actions.
Men are more reluctant to put their friends in jeopardy.
Warren Buffett is boring. He did not invest in tech stocks
because he did not understand how they made their money.
He was right. But we value splashy leaders.
35