Episode #509: The Gap In GAAP — Accounting’s Deteriorating Paradigm

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SHOW SUMMARY: Since Luca Pacioli’s 1494 invention of double-entry bookkeeping, accounting has seen little innovation. GAAP, designed for an industrial economy, is outdated in a world where intellectual capital drive business success. Dr. Margaret Blair’s research shows that by 1998, only 30% of a company’s value could be attributed to tangible assets, leaving 70% unaccounted for in GAAP financial statements. We’ll dive into the deteriorating paradigm of accounting and examine audit failures through the lens of a system that has become obsolete.

SHOW NOTES

Segment one

  • Since Ed has known Ron, it has been clear that Ron views accounting as an identity equation. it's not a theory. GAAP is its principles.

  • Debits equal credits factors into the zero sum mentality of people because in the world of accounting, somebody's debit is somebody else's credit. It's all gotta balance to zero therefore, how can how can wealth be created? 

  • Ron told a great story today about Peter Drucker's last talk at a conference in Seattle. Drucker walks out on stage and he says, “No one in your company knows less about your business than your CFO.”

  • “Knowledge is about the past. Entrepreneurship is about the future.” —George Gilder 

  • If the gap in GAAP (today’s topic on air) is interesting to you, check out Baruch Lev’s interview with us this link https://www.thesoulofenterprise.com/tsoe/baruch-lev-interview 

Segment two

  • This is true of GAAP today, “As the paradigm gets more and more complex, the less and less it explains.” Nobody is making investments today by looking at financial statements.

  • Long before the SEC was even created, 90% of New York Stock Exchange companies were audited. Why? Because the investors demanded it. It was driven by the market and need. 

  • The GAAP balance sheet, the income statement, the cash flow statement: they are referred to as the three blind mice and have been for 40 years now because they don't explain everything.

  • “The most important case against conventional accounting has become open and shut. It's incontrovertibly true that present financial and management accounting does not give investors directors the public or management the information they need to make informed decisions.” —Thomas Stewart, HBR

Segment three

  • The Professional Pricing Society has an incredible educational conference coming up in Vegas. Ron will be a keynote speaker and would love to meet you. More at this link: https://www.pricingsociety.com/ppsvegas24

  • Thank you Michael B from South Dakota for submitting a question. We played it on air today and answered his question about waitlists. Do you want to submit a question to Ron and Ed to be read and answered on air? Use this link from any device https://www.thesoulofenterprise.com/questions 

  • What does Jonah Goldberg always say…complexity equals…..subsidy! And in the case of Enron and SOX, we're subsidizing the auditors who blew it.

  • “Disruption from the outside is a real danger for the accounting profession. We’re already starting to see that with the environmental audits, and even intellectual capital management.” —Ron Baker

Segment four

  • What does Ron mean when he says he wants accounting to innovate? More financial planning and analysis, more modeling, using theories to develop leading indicators about things that could be predictive of future performance

  • Ron’s idea for not losing accounting to the “outsiders” —> The best way to do that is to relinquish the monopoly on the audit and give it back to the stock exchanges

  • “But as long as we have a government mandated monopoly, then it will continue to stifle innovation. It's crazy, the revolving door between the SEC and the Big Four and the IRS and the Big Four.” —Ron Baker

  • Ron and Ed referenced a book by Baruch Lev called “The End of Accounting“ several times today. Check it out here: http://www.amazon.com/Accounting-Forward-Investors-Managers-Finance/dp/1119191092?SubscriptionId=0ENGV10E9K9QDNSJ5C82&tag=verainst-20

  • Ron also mentioned these two books at the end of the show with a disclaimer that they are both wonky but good: Corporate Aftershock and After Enron.

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