FASB is the villain!
As I speak to CPAs around the country, it's becoming clearer and clearer to me that many accountants and business owners view the Financial Accounting Standard Board as something of a villain. Three different audience members — all mild-mannered accountants — at different events have actually said out loud to me, “FASB is the villain!” After the third time, during a keynote at the University of Nebraska at Omaha, I realized I was perhaps on to something.
With the flood of complex changes to GAAP foisted upon us in recent years, it’s no wonder that accountants — and our clients — see the Financial Accounting Standards Board as a villain. Not only is FASB considered the enemy, but I recently learned that GAAP is the name of an actual demon!
The guidance from FASB is getting more and more complex. In 2018, the entire codification was over 10,000 pages, in five volumes that were more than a foot high. This complexity translates to full employment for CPAs and auditors. But for business owners and other stakeholders, this is incomprehensible and of minimal value.
Following GAAP and getting an audit are what business owners have to do, not what they want to spend money on. After all, what value is an audit report that’s dated three months (or more) after the end of the year?
GAAP is out of touch with today’s economy
The basic format of a set of financials hasn’t changed much in the last 100 years, as Baruch Lev and Feng Gu point out in their book, “The End of Accounting.” In that book, they put the 1902 financials for U.S. Steel side by side with the 2012 versions. Except for the numbers, the format and the categories are exactly the same.
What’s changed in the last 100 years is our economy. Back in 1902, businesses were far more reliant on heavy equipment and machinery. In today’s information age, customer lists, patents and intellectual property are more valuable.
As Lev and Gu point out, the most important things for investors and analysts today aren’t even on the balance sheets. You won’t find lucrative contracts with customers, proprietary know-how, and employee knowledge, except as an afterthought in the notes. In our current knowledge economy, the most important asset is the combined skills, proprietary processes and knowledge of employees. Yet the investments for developing “the most important asset of our company — our people” are not capitalized, but expensed.
Another big change is the rise of the subscription economy, as Tien Tzuo describes in his book “Subscribed.” Today, besides all the SaaS applications we have on our smartphones, you can subscribe to almost anything under the sun. Toilet paper, vitamins, dog food, clothes — and even cars! Hertz and Porsche both have subscription offerings that let you swap out cars for a monthly fee.
But as Tien Tzuo points out, nowhere in GAAP-basis financials will you find any of the numbers that are important to a SaaS company. No annual recurring revenue, no customer churn rate, not even the number of subscribers.
When GAAP doesn’t make sense
Now according to the FASB’s own website, their mission is “to provide useful information to investors and other users of financial reports.” What a noble goal. But how do you square that with the contradictory results when SaaS companies implement the standard, “Revenue from Contracts with Customers?” Excuse me, I meant to say ASC 606.
Previously, revenue for the implementation phase of a contract was recognized upfront, while the periodic revenue was recognized over time. But under ASC 606, that implementation revenue is recognized over the expected life of a contract. Not a problem if your customers stick around for the entire contract period. But now, losing a customer — which is operationally bad — results in immediate recognition of the remainder of the implementation revenue — which inflates revenue.
The result is that if you give your customers such lousy service that your churn rate goes through the roof, your financials will still look great because you’re pulling all that deferred revenue to the top line. How does that make sense?
This complexity and irrelevance have led to an increased use of non-GAAP metrics, which are perhaps intended to give investors more realistic information, but in reality, can be manipulated to conceal less than perfect performance. In 2017, 97 percent of companies reported non-GAAP financials. This likely contributed to the rapid downfall of WeWork — just what, exactly, is “community-adjusted EBITDA?”
The black box that is GAAP
Of interest to leaders of CPA firms, this complexity leads to a value gap between what we do and the value we bring to our clients. Our work has become a black box that they can’t see inside. How many of us have become the reluctant biller, embarrassed to charge a client for complex work that largely remains invisible to our clients?
If we don’t have the ability to explain the complexity behind the numbers, then our clients indignantly ask us, “How hard can it be to put numbers in boxes?” Translating what we do into normal English isn’t generally in a CPA’s toolbelt.
FASB and GAAP are not likely to change much in the near future, so our role must be to translate those rules into English. But we can’t stop at explaining FASB rules. GAAP-basis financials are backward-looking. They don’t contain the insights clients need to grow their businesses.
We need to evolve to become data storytellers. As data storytellers, we can guide our clients to slay the FASB villain and help them to be the heroes of their companies. Stories help us connect what’s in their numbers to what’s in their hearts.
Business owners and entrepreneurs don’t think the way we do as accountants. We have insights into company performance that we’re not sharing. But when we share those insights in story form, we shine a light on their path forward.
AI and technology remove the human error and the manual effort so we can spend our time on the higher-level work that computers can’t do. With technology tools as our allies, we can uncover the hidden treasures in our clients’ numbers. We can show them the real trends so they can make decisions based on data, not just the gut-level instincts they have relied on in the past.
Our superpower is knowledge of accounting. We can help our clients defeat the villain of FASB by using our superpower to translate FASB rules into plain English that they can understand and, most important, take action on.