cooking the books

As an accountant I always take a deep interest in reports of accounting scandals. The latest one to catch my eye is the case involving Toshiba which, according to reports, overstated its earnings by £780m over several years with the full knowledge of top management. Heads are already rolling with the chief executive and President Hiso Tanaka having resigned, and the Vice Chairman Norio Sasaki also due to resign.

Investigators found that Tanaka and Sasaki knew about the profit overstatement and created a pressurized corporate culture that prompted business heads to manipulate figures to meet targets. The full investigation report must be a very interesting read.

It seems the company had got itself into a spiral it could not escape from. By overstating results one year to meet the target, then the targets were increased the following year, and so it went on, impossible targets based on inflated figures, and the only way to meet them was to fiddle the books a bit more.

Apparently it was cleverly done, and the Auditors could not have picked it up, which strikes me as a bit strange, as the main purpose of an Audit is to check for correct accounting and to look for indications of Fraud.

Nobody ever said stop, and this was because of the culture where you did not argue with the bosses, a common culture in Asian companies, and a good reason why every international Asian company needs an ethics line.

Cooking the books aside, I think one main issue here is shareholders expectations and the bonus culture. Shareholders expect a certain return on their investment and want to see an increasing return year after year. They put a lot of pressure on the management of the company to deliver or exceed expectations. They drive their people with the promise of big bonuses if they hit the targets set, and set various KPi’s and measures, but at base they also know these are ambitious targets at best. It is not just Asian companies who do this, American companies, European companies, they all do it, and nobody says that the targets are impossible or unrealistic.

I am not saying that all companies fiddle the books though, although there have been enough scandals in the past.

I should also add that I have never been asked to do anything unethical or incorrect regarding accounting, thank goodness. I have been immersed for 10 years in a corporate culture where yes there were crazy targets to meet, and I learned to hate the expression “shareholders expectations” but we never fiddled the books, and we did not always hit target or get bonuses. If I was now asked to do something unethical, I would not do it. I prefer to be able to sleep at night.

I can only feel sorry for those who are caught up in a culture such as at Toshiba, and now that the scandal has broken, all those who ever worked in finance in that company will be tainted by it.

Maybe shareholders need to be realistic about expectations, and invest in those companies that admit not to hit target now and then, instead of penalizing them for disappointing them. And companies need to set their targets from the base up, and not just by taking the last result and adding some. The fundamentals are what are important. Markets change, there are good and bad times for many different reasons. Far better to set realistic achievable targets where nobody has to do anything stupid to get there and which are sustainable for the future, than to go for growth even when the roots are withering.