In our previous column, we analyzed the comments on Paul Miller's op-ed in the May 2008 Journal of Accountancy offered up by a CPA and controller we're calling "Tom." Our goal is not to embarrass but to persuade him and others to embrace the opportunities created by fair value reporting.Before we paused, we praised Tom for his fervor and integrity in supporting what he believes is right. At the same time, though, we described how he and like-minded accountants who cling to the status quo are overlooking GAAP's shortcomings while consciously or unconsciously disregarding the advantages of unfamiliar new practices.

We specifically questioned whether audits of current GAAP financial statements are worthwhile if they don't convey useful information. We also challenged Tom's assessment of the dangers of subjectivity in fair values by first pointing out that GAAP is full of subjectivity and that fair values are not necessarily subjective. Finally, we chided him for focusing on audit risk, instead of users' information risk. The former makes auditors uncomfortable and more expensive, but the latter drives capital costs up and stock prices down.

In this column, we disagree with his assessment of the current state of ethics and his assertion that fair values are useful for financial statement users but unsuitable for financial reporting. This claim is illogical, prevents progress, and ignores opportunities.


Despite what he calls the widespread "erosion of accounting ethics," Tom claims that they are still intact because CPAs have clung unflinchingly to various sound policies. We'll quote and analyze three of them.

1. "Objective valuations (e.g., historical costing, present value of cash flows)." If he wasn't so earnest, we would think he was joking. As we have often explained, original cost is not necessarily reliable. After all, it's based on only one event, and the passage of time diminishes its representational faithfulness and reliability.

Of course, most original costs are subsequently mangled by depreciation and other allocation processes and there's nothing objective about those results. As for his suggestion that present values are objective, we're stunned, because those calculations depend on unverifiable and subjective predictions of future cash flows.

2. "Specific, formulaic procedures set forth in accounting pronouncements." Here, Tom reveals that he may not fully understand that standards emerge from political processes. More significantly, he (and others) still repeat the simplistic and timeworn notion that usefulness emerges when everyone applies the same procedures without regard to the rationality of the results.

Instead, Tom should question whether the following uniform practices produce outcomes that help statement users assess future cash flows: expensing all R&D expenditures, classifying leases as operating or capital, impairment accounting, and - our perennial favorite - accounting for defined-benefit pension plans. Strict adherence to these formulas produces nonsense that is of no use to anyone.

3. "Detailed auditing standards and specific steps in audit programs." What we find objectionable in this policy is the implication that the only good audit is one that sticks with the program. That's OK, as far as it goes, but we've never seen programs that ask: "Are these financial statements useful for making rational decisions?" Instead, they merely ask: "Do these statements comply with GAAP?"

Those two questions are radically different, and a shift from the latter to the former would make financial statements more useful and audit opinions far more worthwhile and profitable. But as long as the profession never questions the status quo, it will continue to focus on its own needs, not those of users or society.


Tom's letter next claims that CPAs have "significant credibility" because the profession is "a no-nonsense, objective, exacting discipline, one that is consistently reliable to the extreme." Uh, three years investigating ethics violations for the American Institute of CPAs and a year in the Securities and Exchange Commission's Office of the Chief Accountant convinced Paul Miller that ethics are not high in practice or perception.

Further, we think Tom has let certain bad memories slip from his consciousness. For example, we remember Waste Management (a manipulation of historical cost allocations), Boston Chicken (a manipulation of business combination criteria), WorldCom (a manipulation of capitalization policies that turned reportable expenses into reported assets), and Enron (a manipulation of just about everything). In addition, we remember that these four companies' audit firm went into the tank almost overnight. Even though Tom overlooks these dark episodes (and many more involving the remaining Big Four), the capital markets have not forgotten.

Tom should know that these frauds were accomplished using historical costs, formulaic procedures, and phony-baloney trumped-up numbers called "market" values. The problem doesn't lie with standards that require or encourage legitimate fair values to be reported, but with foolish and crooked managers who think they can trick markets into paying too much for a stock by putting imaginary numbers in the statements.

The lack of credibility for accountants and financial statements is a serious threat to the status quo, and we think Tom should confront that point.


In his next-to-last paragraph, Tom delivers in boldface what he considers to be the coup de grâce to the fair value movement by saying, "Fair market valuation is an excellent financial tool - an excellent economic, analytical tool, for economists and analysts. Fair market valuation is not an accounting tool."

Here we see the ultimate blind spot of clinging to the status quo. To return to the fable in our prior column, Tom is like the accountant on the ground who sees only that the pilot is in the hot air balloon and is unaware that the pilot wants to know how to get back home. That is, Tom and the many who agree with him miss the point that the whole purpose for accounting is to provide useful information that facilitates rational and productive economic and other kinds of analyses. Rather, they seem to think that accounting's purpose is to help accountants do the same riskless things over and over again.

One of our favorite business stories illustrates that it makes a lot of sense to admit things have changed. Specifically, Keuffer & Essel was the world's dominant producer of high-end slide rules. When hand-held calculators hit the market in the early 1970s, K&E management quickly got out of the game when they saw the status quo was finished. We wish that Tom, and others who think like him, would grasp that the Information Age is a whole new game. It simply is no longer good enough to provide quarterly reports with arbitrarily generated contents based on outdated conjectures labeled as "historical costs."

If Tom realizes that fair values are useful for financial analysts who use financial statements to gather data, then why would he not want to give them what they want and need? We're reminded of chefs who prepare only dishes they want to cook, instead of meals their customers would like to eat. It would be one thing to not report fair values because no one wants them, but another thing entirely to refuse to report them when it's clear they're useful. The outcome of this non-economic thinking by the accounting profession is surely the same that happened to other slide rule makers who failed to see that their old business model had collapsed.

Rather than denying the shrinking demand for the status quo, the profession's leaders and members must figure out how to serve the capital markets' information needs without abandoning their ethics.


Tom's letter obviously exudes fervor and deep concern for integrity. Both qualities are worthy of applause and emulation. However, this worthiness cannot fully compensate for his refusal to acknowledge the deep flaws in cost-based GAAP and the benefits of meeting statement users' needs.

Other correspondence with Tom has shown us that he is a nice guy, bright, and especially zealous for doing the right thing. Our suggestion to him and others like him is to channel their energy and talent into achieving progress, instead of trying to protect and preserve the deeply flawed status quo. They deserve a better purpose for their professional lives, specifically leading the way into the new paradigm. We have nothing but best wishes for them and high hopes that they can see the world in the same new light that we encountered ourselves only a short decade or so ago.

Paul B. W. Miller is a professor at the University of Colorado at Colorado Springs and Paul R. Bahnson is a professor at Boise State University. The authors' views are not necessarily those of their institutions. Reach them at

Register or login for access to this item and much more

All Accounting Today content is archived after seven days.

Community members receive:
  • All recent and archived articles
  • Conference offers and updates
  • A full menu of enewsletter options
  • Web seminars, white papers, ebooks

Don't have an account? Register for Free Unlimited Access