Accounting change results in magic surplus for Ontario government

Sometimes when I’m looking for inspiration for a blog post I’ll scan the news sites for mentions of accounting, in the hopes that there’ll be some new development I can write about. Unfortunately, in accounting, new developments aren’t frequent and usually are pretty boring. It’s the nature of the beast.

So when I found this story in the Toronto Star about how the provincial government was able to “create” a surplus this fiscal year by adjusting some of their accounting, I knew this juicy little nugget was gold.

The province also attributed the abrupt fiscal turnaround to higher-than-expected tax revenues and expenses that were lower than projected because of the new accounting procedures.

Expenses in health care were $681-million lower than planned because of the accounting changes, even though spending on health increased seven per cent year over year.

The province came in with a modest $298-million surplus, so the loss without the accounting change details above would’ve been $383-million. The government’s original budgeted deficit was $2.8-billion.

So it seems the always unexpected increase in tax revenues of approximately $2.4-billion caused the sharp fiscal improvement. The comparatively smaller accounting change nudged Ontario into the black.

I guess once they got that close to a surplus they needed something to push them over the edge, since overall it was an immaterial change. The political victory was too sweet to pass up.


Improving cash flow through better payables management

There are several ways in which a business can improve their cash flow situation by optimizing their payables management. Mostly this relates to timing issues – when to pay your suppliers.

Pay invoices on or close to the due date. Supplier terms are typically the only source of interest-free credit your business is going to get, so use it. Accounts payable is like a short-term loan to your business. The exception to this is when it saves your business money to pay multiple invoices with a single cheque – some of the invoices will be paid a little early. The secret is to figure out how much it saves you, and adjust accordingly.

Pay early enough to get the trade discount (if available), but no earlier. Some suppliers offer a 2% discount if paid within 10 days, otherwise within 30 days. Take them up on their offer, even if you need to borrow the cash for the 20 day difference. The discount rate of 2% over such a short period is equivalent to approximately 36% per year! Note that this doesn’t apply if you’re not going to have the money in 30 days anyway, because you’ve got bigger cash flow problems.

Pay invoices when they are due. Save late fees and preserve your business’ good standing with suppliers. Switching to a new supplier will end up costing you more than you’d save by stretching out payables to 60 or 90 days. Again, if you’re not going to have the money in 60 days anyway, you’ve got bigger problems.

Negotiate volume discounts with suppliers. There’s an equilibrium to be struck here because there are costs associated with storing and ordering inventory that will negate any volume discounts if you order too much.


First options backdating investigation initiated by SEC

Brocade Communications Systems has become the first company to be formally investigated by the SEC regarding the recent options backdating issue.

According to the SEC’s complaint document, which names three former executives of the company as plaintiffs, from 2000 through 2004 the company inflated net income by understating their options-related expense through fraudulent schemes to backdate options.

Under US GAAP, options granted with an exercise price higher than the current market price did not need to be expensed, but options granted with an exercise price lower than the market price (known as “in the money”, or as I like to call it – instant profits) must be expensd.

So, Brocade is alleged to have granted in the money options to their execs and backdated them to when they were “out of the money”, in order to avoid the expense while allowing the executives to reap instant profits.

I’m going to have a post in the near-future where I outline current Canadian GAAP related to stock-based compensation, so stay tuned for that gem!


Depicting Waste Management fraud to enhance understanding

Dan Meyer’s blog, Tick Marks, has directed me to an interesting section of The Focal Point’s website, highlighting the work it did in helping the prosecution of the fraud case of the former head of Waste Management, James Koenig.

The Focal Point is a company that makes “all forms of courtroom presentations more persuasive by making these cases easier for judges and jurors to understand.”

In this case, they used visuals to represent the complex accounting treatments used in the fraud and enable the ordinary citizens making up the jury understand the gravity of Koenig’s manipulations.


FASB’s new man talks advanced accounting topics

The accounting standards setting group in the United States is known as the Financial Accounting Standards Board (FASB) and consists of seven board members who are appointed to five year terms. The most recent appointment was Thomas J. Linsmeier, and has a pretty good interview with him on some of the issues currently facing the Board.

The issues he discusses are: the conceptual framework underlying the principles of accounting, fair value accounting, and the complex topics of pension and lease accounting.

When you talk about historical cost and fair value, those two numbers are identical at an exchange transaction date. Then the issue becomes whether or not you want to re-measure the transaction price at a fair value in the future in the [accounting] model, or take the old transaction price and allocate it over time to the income statement. The real open question when you make that trade-off is, how might investors best be served?

I previously blogged about fair value accounting, when I talked about an article that was unrealistic in its stated desire for the net assets of the balance sheet to represent the stock market value of the company. It’s important to note that fair value is cost on the date of the transaction, and it’s only later on through use that the asset’s value is different from its cost less depreciation.

Our accounting model — and the standards in it — have been developed component by component. A weakness in the model is that we have not seriously considered the implications the separate accounting decisions have on aggregating financial reporting across line items. So a mixed-attribute model obviously causes challenges in that aggregation.

This is a weakness of all accounting models, whether its Canadian GAAP, US GAAP or International Financial Reporting Standards (IFRS). I don’t really see any alternative, giving the evolving nature of business transactions.

We could conceivably take everything we’ve done to this point and construct a simpler, unified set of principles, but it would inevitably end up convoluted again as we would add more components to account for financial constructs the likes of which we can’t imagine at this point.

I don’t think it’s hopeless or not worth trying to achieve, but I’m skeptical it will stand the test of time.

Anyway, check out the interview if you’re interested in the accounting profession in the US. Interesting that no mention is made of convergence with international standards, however.