The Hindu Business Line : Facts and forecasts are like news and views

ACCOUNTANTS are inveterate past-watchers and so they often earn a bad name for not certifying forecasts. But you know they are conservative. So they would tell you if they got all the required information and whether the financial statements show a true and fair view, even though you would like them to be your conscience-keepers, guiding you in every possible way. However, when a big-ticket client such as GTB fails, one starts searching the frayed edges of accounts for tick-marks and signatures that let a madness loose on gullible readers.

Somebody has to be responsible for the sins of the past that had gone past us. And if only the auditors had said this much of money in accounts exists as countable money in safes and the balance as clearly visible as a big bunny in cloud formation on balance sheet date... Ah, we rue only after winds sweep off those fluffy things. The truth is that accountants ride two horses, past and future, to make their financial presentations.

"How can you safely certify a financial statement full of forecasts?" asks an article that recently appeared in Harvard Business Review. There, the authors, Carolyn B. Levine and Yuji Ijiri propose: "Start by calling attention to your guesswork." Their suggestion is simple — "a straightforward and low-cost solution". Present the numbers in "two separate columns, one for facts and one for forecasts."

A link given in the article would take you to a working paper on Carnegie Mellon University's site, titled "The Emerging Needs to Separate Facts and Forecasts: Exploring `Intertemporal Financial Statements' with Two Time-Phases," and written by Jonathan C. Glover and Pierre Jinghong Liang, in addition to Levine and Ijiri.

There, you'd see only three rules for accounting this way: "All completed transactions are facts; all cash transactions are also facts; and all other transactions are forecasts." Completed transactions mean all terminating transactions; "all initiating transactions whose terminating transactions have already occurred, and all simultaneous transactions where both parties performed simultaneously." Cash transactions mean those whose debit or credit account is cash. And "pending transactions mean initiating transactions whose terminating transactions have not yet occurred." If three looks like over simplification, the authors come with only two rules, instead: "All non-cash pending transactions are forecasts. All other transactions are facts."

Let me revert to the HBR piece where the attempt is to bring down to earth financial statements — the stuff that everybody considers to be `impressionistic'. However much accountants are averse to signing on the dotted line of forecasts, their output is invariably lumping together of "hard numbers and forecasts". Numbers in the P&L and balance-sheet have the look of precision as if they were products of sophisticated engineering but few know the uncertainty that clings to the ones and twos. Accountants are no statisticians to warn you that the profit of such-and-such company is so-and-so crores with a probability of point-blah-blah.

So you need some surgery as proposed by Levine and Ijiri to split the totals in the financial statements into hard and soft, "facts and forecasts". Accordingly, if you stared hard enough at the amount shown against depreciation, you'd know it's a forecast, because there are estimates behind the figure — such as of residual value and asset life. Similarly, credit sales would go to forecasts column, because it is but expected cash. "As uncertainty is resolved (cash is collected or is deemed uncollectible), amounts move from the forecast column to the fact column."

That's something akin to presenting news and views separately, or not spraying salt and pepper on soup bowls. But are we regressing — moving from cash to accrual and now again back to cash system of accounting?

That may become necessary, notes the paper, if the public and the media fail to understand "the forecast nature of financial reports created under accrual accounting". Also, accountants may be driven to cash basis if litigation risks became "fatally high to the profession" and if failures to achieve forecasts were to be painted as premeditated frauds.

Accountspeak@TheHindu.co.in

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