VOLUME 1

Chapter 8 - No accounting foretaste

Readers are surely entitled to some light relief from time to time as a temporary antidote to excessive stimulation from simulation. This chapter is therefore entirely optional: you can omit it and skip to the next one at will. The article was written for the September 1993 issue of the US magazine Chief Executive to which I was contributing a monthly management column at the time. The cast of characters at Intergroup includes Bob Trample (CEO), Jack Teflon (Sales), Elaine Foster (née Lissom, Marketing), Günter Kaputt (Production), Olaf Brainström (Planning), Kevin Rambite (Systems) and Harry Junkbond (Finance). The diagram was simplified somewhat for the journal’s readers but the essence remains the same. It was written a decade before the Enron and Parmalat scandals, but such subterfuge is timeless.

 

Bob:

Olaf, last month you told me you were about to solve all my corporate angst through a strange diagram labelled Everything You Always Wanted To Know About Accounting But Were Afraid To Ask Because You've Been Pretending You Understood It All At The Board Meetings For The Last Ten Years. I'm a captive audience; take me through it.

Olaf:

Have a look at this, Bob.

Figure 8.1: Learning Accounting without Falling Asleep

Bob:

Olaf, what's all this supposed to mean?

Olaf:

When a company starts from scratch, the shareholders put some money in the bank. So the arrow marked "yield" runs backwards; the bank account now has money in it, and the box marked Shares has negative money in it. The amount owed to the shareholders equals the money in the bank, so our CFO, Harry Junkbond, is on Cloud 9 with a balance sheet that balances.

Harry:

Hey Olaf, Cloud 9 eh? I just dig those TDAs!

Bob:

What's a TDA again?

Kevin:

I told you the other month Bob, a TDA is a Terminally Dated Analogy. But Harry, you really cannot "dig" a TDA; it makes you some kind of Hofstadterian, self-referential, 1960's vernacular domain specialist.

Elaine:

Kevin, what's a domain specialist?

Kevin:

Oh, that's a phrase we use in expert systems research when we're trying to identify someone who's skilled in a particular field.

Günter:

You mean, a domain specialist is someone who knows about anything other than expert systems?

Kevin:

Sure. Well, I guess you could even have a specialist whose domain was itself expert systems. A sort of metadomain specialist, or maybe a domain metaspecialist. Hey, that's even more Hofstadterian than before!

Olaf:

Before someone asks who he is, let's get back to accounting. What happens next is that the business purchases some fixed capital - a building, machinery, whatever - so the money flows out of the bank and into the box marked Capital, and we have negative cashflow.

Bob:

I get it; now we're making a loss.

Harry:

No, we're not.

Bob:

But how can we be making a profit with negative cashflow?

Harry:

We're not making a profit either, Bob. This negative cashflow has just been used to build up our capital base. We're not buying and selling yet; there's no salaries or overheads, so there's no profit or loss yet.

Bob:

Money's going out of the bank but there's no loss yet? I just love it.

Olaf:

Wait Bob; there's more. Let's start selling our product. The arrow marked Profit kicks into action; we record the amount we make in the box marked Reserves, and the working capital increases inside the box called Capital.

Bob:

I love it! Oodles of cash sloshing around in the bank account at last.

Harry:

Not exactly Bob. We've made a profit, but we haven't seen any cash yet.

Bob:

You're talking about the Prague Premier Postulate?

Kevin:

Bob, you never cease to surprise me. What's the Prague...?

Bob:

I thought everyone knew that. When they announce the results of an election in Prague, everyone goes round saying "Hey, guess what? The Czech is in the post".

Harry:

No Bob, it's nothing to do with checks in the post. You can make all the profit you like, but you may never see one cent of it in the bank balance.

Bob:

But surely, when I'm really up against hard times, I can go to that nice box of yours called Reserves and find a few spare bucks there?

Olaf:

No, Bob. The Reserves aren't spare cash stashed away for a rainy day. They're money we owe the shareholders; profits we've made but not yet distributed.

Bob:

So why isn't the profit the same as the cashflow?

Harry:

Because the profit can get stuck in the box marked Capital and never turn itself into cash. We could be building up our inventories too much, or re-investing in capital equipment too heavily, or paying our suppliers too rapidly before we get the money in from the customers... a whole bunch of possibilities.

Bob:

What's real and what's an estimate in all this?

Olaf:

Well, the cashflow is real. The bank balance is real. The amounts owed to the shareholders and their cash funding or yield are real. So we always know about the cash realities, but when it comes to the profit and the valuation of some of the capital... it's a piece of elastic.

Harry:

That's why they call me the Rubber Ruler, Bob! Our profit less the increase in our assets is a given, but if you want more profit one year, all I have to do is value the inventories higher and there it is: profit from thin air. Mind over matter! And it's even better than that, because the higher the profit looks, the more money we can attract from the shareholders.

Bob:

Aren't there some laws to prevent that sort of thing?

Harry:

Sure Bob, but when everyone does it, it doesn't matter. Anyway, it's all a question of judgement.

Olaf:

Speaking of judgement Kevin, who exactly is this Hofstadter?

Kevin:

He's one of my heroes, a computer scientist who writes books with titles like Gödel Escher Bach: an Eternal Golden Braid.

Harry:

Really? My own hero is a man called Edgar Ledger, who writes books with titles like Beyond Retirement Benefits: a Remarkably Boring Book.

Olaf:

Just wait a minute. We started on accounting diagrams, and that's sort of fizzled out, and now we're just gossiping about book titles... What kind of article is this anyway?

Bob:

Seems like it's called No Accounting Foretaste.

Olaf:

Well, I think that's entirely true. This isn't a foretaste of accounting at all, and all I can say is that if anyone out there appreciates a word that we've been talking about, there's simply no accounting for taste.

 

 

Participants