Key to Competitiveness: Change the Rules
Perhaps you’ve heard the one good accounting joke? It seems a prominent crime family decided it was time to hire a top-notch accounting firm. More than a dozen firms eagerly responded.
So the Family asked each firm one question: How much is two plus two? Without hesitation, all but one immediately answered “four.” The accountants that got the business, however, had a different response. “Gee,” they asked, “what number did you have in mind?”
For American business, the agency that determines the accounting value of two plus two is the Financial Accounting Standards Board, a quasi-official regulatory authority that rules on what is and what is not generally accepted accounting procedure. As a key arbiter of economic value, FASB can have as huge an impact on U.S. competitiveness as any technological innovation or government agency.
“The way you keep score determines how you play the game,” says John C. Burton, a Columbia University business professor who was once chief accountant at the Securities and Exchange Commission.
If a home run were worth three points instead of one, baseball would assume a radically different complexion. Similarly, when FASB rules that some investments should be treated as expenses--or vice versa--a level playing field can begin to tilt. This is especially true as national accounting rules increasingly generate global repercussions.
Remember when the British were gobbling up Madison Avenue’s advertising agencies? British accounting rules gave the Saatchis and the Sorrels an enormous competitive advantage over their American counterparts in the transatlantic mergers and acquisitions war.
“The rules made it possible for English companies to easily acquire American firms,” asserts takeover attorney Joseph P. Flom. “An English company acquiring a U.S. company reported a pickup in earnings, whereas, under American rules, the reverse would be true for an American company buying an English one.”
Essentially, the differences in U.S. and British accounting rules created an inadvertent but de facto “industrial policy” that made it fairly easy for much of America’s advertising industry to become foreign-owned.
In a growing number of areas, accounting rules now shape the perception and reality of competitiveness. In Europe and Japan, companies can hold “hidden reserves” that allow them to smooth the volatility out of quarterly earnings reports and boost stock prices. Conversely, American companies are more of an open book, and that ostensibly gives investors more information to make better investments. That, in turn, makes it easier for American firms to raise capital.
Nevertheless, disparities in accounting rules can have a disproportionate impact on a company’s and industry’s ability to compete.
“People tend to give a lot of weight to that one line called reported earnings,” says Flom. “This leads to several consequences. . . . Whatever you do that distorts that bottom line, it costs you in the marketplace. So this affects the U.S. in mergers and acquisitions, health care benefits, pension cost analyses, etc.”
“Earnings are critical,” argues Joseph Bartlett, a partner at Mayer, Brown & Platt and an expert on corporate restructuring. “A few years ago, all we cared about was cash flow. Now that equity is ‘in,’ we have to determine the rules for writing up assets to fair value.”
However, as former SEC Commissioner Philip R. Lochner Jr. points out, FASB’s 1973 mission statement doesn’t address the harmonization of global accounting standards. Harmonization could be facilitated if FASB would adopt new standards only in collaboration with international and major non-U.S. standard setters, he said.
It may seem odd that a cabal of accountants can play such an unintentionally influential role in world markets, but it would be odder if we don’t do a better job of forcing FASB to strike a new balance between accounting philosophy and global realities. We need to keep score on the scorekeepers.
