The financial statements are not telling us enough?

Our students are often asked, “What are the various financial statements?”

The five statements are:-
  • Balance Sheet
  • Income Statement
  • Notes to the Account
  • Cash Flow Statement
  • Statement of Changes in Equity
In a study by the Economic Intelligence Unit (EIU) and Deloitte last year, it suggested that financial statements – in their present format – do not provide a complete picture of the soundness of a company.

The study calls for financial statements to reflect both financial and non-financial indicators of a company’s health.

The Americans set the pace with the Sarbanes-Oxley Act in response to the collapses of Worldcom and Enron. The Act is a set of rules that are targetted more towards severe corporate misbehaviour, eg. fraud and the falsification of accounts.

The EIU-Deloitte study showed that ‘traditional’ financial measures fail to reflect the state in the more mundane but critical non-financial areas.

Some examples of these non-financial areas cited:-

  • What are company’s relationships with important parties, such as customers, employees and suppliers?
  • Are the products of company of certain quality?
  • Are your employees committed to the company?
  • What is the key source of future revenue and profit in a firm?
  • What is the state of product innovation?
  • What is the level of brand loyalty and strength?
  • What is the level effectiveness of the board and top management?

Most of the white-collared executives surveyed in Europe said they would prefer to see more incisive information on their companies’ key non-financial drivers of success.

How to make such information on key non-financial drivers a reality?

  • Set industry standards to measure these crucial drivers. Without such standards, reliability of such information would be a big concern.
  • Coerce a mindset change in companies that non-financial measures do affect profitability. I believe the companies will get the message when the market reacts to such information compared across companies and industries.
  • It is also important to have board members and executives who are knowledgeable about non-financial measures. In similar vein, the scope of auditing would expand too and will thus require the necessary expertise beyond accounting and/or auditing.

These non-financial measures would help us to see the company’s future prospect better.

Reference – “Inadequacies of Financial Statements”, Business Times, Michelle Quah, February 4, 2005.

HG Metal and its S44A balance

HG Metal, a listed company in Singapore, is a stockist and manufacturer of steel products. The company has a S44A balance of approximately $1.6mio.
It also wish to conserve funds to expand its capacity to meet growing demand.

Actions taken
To meet the contradiction in shareholders’ need to take advantage of the S44A balance with dividend payout against the company’s wish to conserve funds for investment, the company came out with the following initiatives:-

  • For the year ended 30 Sep 2006, the company has announced a special dividend of 4cts per share ie. 3.6cts (frankable) and 0.4cts (tax exempt).

A shareholder may seek a tax refund on the “frankable” portion. The refund would depend on the difference between the corporate tax rate of 20% and his personal tax rate.

  • HG Metal has also simultaneously annouced a 2-for-5 rights issue @20cts. Shareholders have the option to use part or all of the special dividend to take up the rights.

Auston and classification of expenses

Auston International Group’s former chief financial officer, Chua Peck Wee, 32, was sentenced yesterday to seven months in jail – for playing a part in the falsification of the company’s accounts four years ago. The charge carries a penalty of a fine and/or a maximum seven-year jail term.

Auston is a listed company in the education business.

What was the accounting falsification done?
The former CFO admitted to instructing its accounts staff to record a payment of $268,525 as ‘academic cooperation fees’ to the Upper Iowa University for FY2003.

This amount was actually a payment made by Auston to the University of Wollongong for university fees for FY2002.

What is the impact?
By falsely recording the amount as academic cooperation fees instead of university fees, Auston could capitalise it as a development cost and subsequently amortise the amount over three to five years from FY2003.

Essentially, Auston had avoided recognising $268,525 as expenses for FY2002. It increased the net profit for Auston’s IPO prospectus in 2003.

The ex-CEO said the ex-CFO had came up with the wonderful idea of smoothening out the expense. The ex-CFO said he was too weak to stand up against the ex-CEO’s demands.

Whatever the circumstances preceding the crime, you Mr ex-CFO had helped to pass the necessary entries. So you got to pay for it!

Reference – Jan 12, 2007, “Ex-Auston CFO gets seven months’ jail”, Business Times, Michelle Quah.

Xpress Holdings – 2 responses in the press

Subsequent to Ms Michelle Quah’s article on Xpress and its auditors, Mr Christopher Chong, Chairman, Audit Committee, Xpress Holdings Limited and Mr Mak Yuen Teen, director of Corporate Governance and Financial Reporting Centre NUS Business School presented their respective views on the Jan 9/10, 2007 respectively.

Mr Chong covered the following areas in his letter:-

  • He said the statement that ” ‘problems’ began in Nov 2006 with the dismissal of Deloitte & Touche (‘Deloitte’)” is incorrect. He said the issue with Deloitte started in Sep 2006 and the committee reacted with increase allocation of resources to address those concerns raised. So Mr Chong, are you making an issue on the 2 month’s difference?
  • The statement by Ms Quah that Deloitte ‘refused to pass the company’s accounts’ is wrong as per Mr Chong. From his response, I couldn’t see what is wrong with the statement. Yes I can read from Mr Chong’s letter that Xpress has taken steps to address the concerns of Deloitte. But I am also sure the brains in Deloitte must have taken all these into consideration before deciding not to complete the audit exercise.
  • To be fair to Xpress, I note that it has secured help and endorsement from other experts such as RSM Nelson Wheeler in Hong Kong, KPMG Corporate Finance Pte Ltd and Foo Kon Tan Grant Thornton at an estimated cost of $500,000, in its effort to work with Deloitte.
  • Mr Chong said he couldn’t understand why ACRA is not agreeable to the extension request. While I may understand that ACRA or any other governmental/business entities may take the position that it is not obliged to give you a reason for rejecting your application, we should however ask whether such position is good for the maturity of Singapore’s corporate scene.

Mr Mak, a recognised authority, in the field of corporate governance, came forward with the following views:-

  • On the Xpress’ issue with its auditors, the shareholders should direct questions at the audit committee, who has the primary responsibility on audit matters. The committee should state its views on the matters raised by the auditors, and share any plans to do to address the concerns.
  • On a more a macro level, he suggests that “shareholders carefully study the independence, expertise and activities of the audit committee of companies they invest in and ask more questions about it at AGMs. Companies should consider following higher standards on matters such as the independence, expertise and frequency of meetings of the audit committee…”

Well Jan 15, 2007 is the AGM for Xpress. Perhaps we will have more daylight on the issue after “the day after tomorrow”.

Till then, cheers.

– Jan 9, 2007, “Why Xpress changed auditors”, Business Times, Letter to the Editor.
– Jan 10, 2007, “Ask the Xpress audit committee”, Business Times, Letter to the Editor.

Xpress Holdings has sacked its auditors?

Deloitte & Touche, Xpress Holdings’ auditors, has refused to sign off on its FY2006 accounts. The company subsequently decided to sack the auditors.

The latest development is that ACRA has refused to grant it an extension of time – to get its accounts audited and hold its annual general meeting.

Why the refusal to sign off the accounts? Two main issues.
1. Precise Media Group (PMG)
Deloitte had doubts about certain revenue items recorded in the statements of PMG, and the cost of Xpress’s investment in PMG and the goodwill from the purchase, recorded in Xpress’s books. (Xpress had raised its stake in PMG in June, from 60 per cent to 100 per cent, in a $27.5 million deal.)

2. PMG’s internal control

What is Xpress’ position?
Xpress said they have tried to address Deloitte’s concerns.

Xpress then hired Foo Kon Tan Grant Thornton for a 2nd opinion on its financial results. Foo Kon concluded that ‘Deloitte’s observations are mostly correct’ but added that alternative evidence could be obtained to address those concerns. It was obtained.

Foo Kon ‘indicated its willingness to act as Xpress’s auditors’. Xpress proceeded to ask Deloitte to resign and moved to hire Foo Kon.

The AGM is slated for Jan 15, 2007.

As shareholders of Xpress, would you not be interested in asking Deloitte what have caused the “divorce”? Shareholders should also ask the new “bride to be”, why she would be willing to marry Xpress?

P/S – Edgar has got no shares in Xpress.

True and Fair – Accounting or Legal Concept?

Can you find a specific definition of “True and Fair view”? As of my last attempt, there is no authoritative ie. “black and white” version available for all parties to adopt.

The ambiguity then gives rise to confusion.

The public accountants are required by the Companies Act to express an opinion on whether the financial statements are true and fair. The auditors conduct control test and substantive test based on varying degree of sampling to reach a conclusion.

Clients may enter into a lengthy discussion to change their auditors’ opinion to qualify their accounts.

ACRA said the criterion of a “true and fair view” is NOT an accounting criterion. It is open to legal test in Court. ACRA is saying that public accountants thus do not have the final say.

Mr Joseph Alfred, Technical Director of ACCA Singapore, in his article in Focus Qtr 4- 2006, presented his arguments against accounting profession being “absorbed and subsumed under the legal profession”.

Given the current direction from ACRA, he said you should not be surprised if you were to be directed by your auditors to the lawyers to obtain opinions on contentious accounting interpretations.

My view
Why should the accounting profession be exempted from a legal review when other professions like medical are included?