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Will Financial Statements Become Obsolete?

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In the 1990s, the financial press began to question the information content of traditional historical cost balance sheets. For example, Peter Drucker commented that:

Balance sheets were designed to show what a business would be worth if it was liquidated today . . .What managements need, however, are balance sheets that relate the enterprise's current condition to its future wealth-producing capacity . . . Financial accounting, balance sheets, profit-and-loss statements, allocations of costs, etc., are an X-ray of the enterprise's skeleton. But much as the diseases we most commonly die from "heart disease, cancer, Parkinson's" do not show up in a skeletal X-ray, a loss of market standing or a failure to innovate do not register in the accountant's figures until the damage has been done. (P. F. Drucker, "We Need to Measure, Not Count". The Wall Street Journal, July 17, 1993, p. B6. See also P. F. Drucker, Post-Capitalist Society. New York: HarperCollins, 1992.)

And William Davidow, writing in Forbes, said:

Double-entry bookkeeping, developed by Luca Pacioli in 1494, lets businesses keep track of changes in their assets. But this system, still in use today, deals primarily with tangible assets such as cash, inventory, accounts receivable, factory plants and equipment. It ignores intangible assets: goodwill, employee knowledge, quality of management, customer relationships, information infrastructure, trade secrets, patents, etc. (W. Davidow, "Why Profits Don't Matter",  Forbes, April 8, 1996, p. 24.)

In response to claims that financial statements may no longer be relevant, the AICPA established a Special Committee on Financial Reporting, chaired by Edmund Jenkins (the Jenkins Committee), to recommend improvements in business reporting. Following three years of deliberations, the Committee released a series of recommendations, among them that businesses report forward-looking information (AICPA, Report of the Special Committee on Financial Reporting (the Jenkins Committee), Improving Business Reporting: A Customer Focus: Meeting the Information Needs of Investors and Creditors, 1994). However, the recommendations have received mixed reviews. For example, Dennis Beresford, former FASB chair, stated, "It is going to be a very important document for us, a real stimulus for changes and improvement in financial reporting over the next 5 to 10 years". In contrast, Frank Borelli, the Financial Executive Institute's CFO Advisory chair, thought otherwise, stating, ". . . the committee's recommendations can be viewed as very self-serving. It looks as if they are trying to generate more services, which equates to more revenue".

Jenkins Committee Report - https://www.aicpa.org/InterestAreas/AccountingAndAuditing/Resources/EBR/DownloadableDocuments/Jenkins%20Committee%20Report.pdf


Select an annual report from the SEC' EDGAR system (http://www.sec.gov), from a public company's home page, or from a library, and prepare a report that:

1. Documents and criticizes the key recommendations of the Jenkins Committee report.
2. Explains how the Jenkins Committee's recommendations would bear on the annual report you selected.
3. Explains nonfinancial disclosures you think would improve the annual report given the company's industry (for example, the identity and stability of foreign, crude oil, supply sources in the oil and gas industry).

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1. Document and criticize the key recommendations of the Jenkins Committee report.

The most important thing the Jenkins Committee report seeks to innovate includes giving stakeholders more information; that is, disclosure. College references, "All too often, multi-segment entities often don't report enough in their financial statements. The present financial reporting model has not been altered significantly for decades. Concerns about the deteriorating relevance of financial reporting have been expressed for some time. When surveyed by the Special Committee on Financial Reporting, users indicated that not all their needs were met by traditional financial reporting. Although financial statements provide crucial information for investment and credit decisions, users have developed other sources for additional important information. But this information is less reliable than information prepared under GAAP and audited by CPAs. To meet users' needs, all relevant information should be included in a comprehensive, integrated business reporting format."

Key Recommendations:

? Extend the business information model:

Business Reporting recommends improving the information provided to financial statement users by expanding the business information model to include nonfinancial as well as financial information and to provide forward-looking as well as historical information. Traditionally, financial statements have been the primary means by which information about a company is communicated to users, yet they disclose financial information only. Today's users also demand nonfinancial or operating information. Nonfinancial information helps users understand the connections among ongoing events, the financial statements, and factors that produce long-term value and wealth for the company. Operating data can provide information to users before the effects of events are captured fully in the financial statements.

Although most of today's financial reporting focuses on the past, which may be useful when making predictions, users are more concerned with the future. Useful forward-looking information includes key trends and the disclosure of expected opportunities and risks resulting from those trends. Management's plans also should be disclosed along with factors critical to the plans' success. Finally, management should assess how actual business performance compares to previously disclosed opportunities, risks, and plans. To guard against unwarranted litigation risk, forward-looking information would be disclosed only with appropriate safe harbors. Safe harbors are specific requirements or standards that, when followed properly, preclude management from being held liable for its disclosure of ...

Solution Summary

The expert determines whether financial statements become obsolete.

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Jackson Lim, the CEO for Clear betted on the Plasma TV technology few years ago and hence the company is now holding an inventory that can become obsolete. The Board of Director has made a decision to switch to manufacturing the latest Smart LED TV. Jackson wonders how he should deal with the existing inventory, Plasma TV.

The company accountant, Cindy recommended writing off the inventory. The company financial performance had not be ideal last year and Jackson feared that taking this action would cause the financial statements to be even worse. This would adversely affect the reputation of the company. The existing shareholders might not like to see a poor performance in the financial statements. Therefore he instructed Susan to maintain the existing inventory in the Statement of Financial Position (Balance Sheet) for the current year.

Give 2 points/comments for each question:

1. On the decision that Jackson made
2. On the dilemma Cindy is facing.
3. If Cindy approaches you as a friend concerning this, what would you tell her to do?
4. What could be the appropriate ways to deal with the inventory?

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