Canadian Accountant recently published Overwhelming Evidence of IFRS Failure, an article by our old friend Al Rosen
The article is classic Rosen, a sort of accounting-commentary equivalent of an aging rock star touring his greatest hits, wooing even skeptics with the implied promise that we might never get to hear them again (even as we know they’ll probably be trotted out forever). The backbone of the setlist, as it were, is the premise that “the adoption of IFRS has made financial trickery much easier to exploit” than it was under old Canadian GAAP (which, of course, Rosen also viewed back in the day with extremely limited enthusiasm). He provides the following list of “common major financial manipulations that have frequently been utilized in Canada”:
- Unwarranted or premature revenue recognition leading to overstated receivables and profits (applied widely, such as with Nortel, Poseidon Concepts, and numerous financial institutions).
- Exaggerated cash flows from operating activities, often by manipulating transfers from financing or investing transactions (chosen by many enterprises, including Sino-Forest, Livent, Confederation Life, and mortgage companies).
- Overstated asset values, such as inventories, loans, pension assets, intangibles, and financial instruments (widely utilized in Philip Services, Hercules Managements, Standard Trust, Crocus Investment, and credit unions).
- Understated liabilities (seen frequently in pension funds and utilized in Northland Bank, Canadian Commercial Bank, Victoria Mortgage, and much more).
- Expenses capitalized to the balance sheet, so as to convert cash expenses to non-cash amortizations, including to distort the cash flow statement (widely used in Castor Holdings and various communications and high-tech entities).
- A range of financial instruments or “investments” that have been “valued,” based on extensive speculation, because credible market values may not exist in Canada (seen in real estate and investment enterprises, including banks and trading companies).
The question arises: if these are so common, how come the specific examples provided are so old (Northland Bank failed in 1985, Confederation Life in 1994, etc.) Rosen has an answer to this, that the equivalent or worse disasters under IFRS haven’t come to light yet because “all are situations in which the adoption of IFRS has made financial trickery much easier to exploit.” I suppose it may seem merely complacent to point out that Rosen has been predicting IFRS-driven carnage for a decade now and that it’s yet to transpire: no doubt, something will eventually go wrong somewhere and he’ll be able to announce that he told us so (much as economists are said to have predicted nine of the last five recessions, except in this case it would be more like nine hundred). But that aside, his view of what’s generally allowable under IFRS depends on flagrantly ignoring the standards and on pumping up the degree of latitude available to management.
The most grounded of his points is probably that on fair value, and we know the issues some people have with that (marijuana crop valuations under IAS 41 being the current focus of dissatisfaction – his article mentions that twice). Of course it’s also true that any use of fair value under IFRS is highlighted and disclosed in often excruciating detail and that any semi-engaged reader has all the necessary information to isolate and (if required) disregard those valuations. But this brings us back to a recurring weakness of Rosen’s commentaries – his incoherent conception of users. His article claims that “Cash results are too often ignored because they contradict exaggerated reported profits.” This seems wrong on its face, given the emphasis (many would say over-emphasis) on adjusted earnings measures that often strip out many of the effects he’s most concerned about. But if we assume he’s right (just for argument’s sake), the premise would be that we should twist reporting into a knot to accommodate users who lap up whatever they see on the income statement but are too dumb and lazy to glance at the cash flow statement on the following page or the one after that. If any such users exist, the better message for them would be to stop pretending they can read financial statements, and to rely on advisors who can better engage with even modest complexity.
The article concludes: “It’s time for Canadian regulators to seriously consider breaking from IFRS and adopting U.S. GAAP for public companies.” But if (for example) revenue recognition is a problem under IFRS, it won’t be any less so under the largely aligned US standards. Rosen alludes darkly to “a backlog of unchallenged failures (that) is gradually building” and notes that “inaction is widespread.” In the context of his article, he seems to include the “shocking audited financial statements for many of Canada’s marijuana companies” as a prime example of such unchallenged failures. But again, the issues surrounding those statements have been so widely aired and discussed, and are so well-flagged within the statements themselves, that any user who cares has all the necessary information to do their own challenging and to take their own action (e.g. by investing elsewhere). Rosen’s criticisms evoke some dark, authoritarian vision of a reporting regime driven by stringently conservative reporting and harshly punitive oversight: that is, of statements which might indeed be somewhat reliable within their own strangled parameters, but which would be entirely useless as a basis for forward-looking assessment (and which would therefore be largely ignored). Indeed, the song remains the same, the performance as imposing as ever, but even so, the fun drains out of it over time…
The opinions expressed are solely those of the author