Systemic problems of accountancy (especially the vegetable nutrition paradox) that probably will never be solved ---
http://www.trinity.edu/rjensen/FraudConclusion.htm#BadNews

Although I will not dwell on details here, practitioners are generally interested in clever discoveries of how to make computer software, XBRL, Google Wave, cloud computing, computer gadgets, cloud computing, pattern recognition, data visualization, and many other technology innovations relative to the practice of accountancy. For example, I've attempted (thus far unsuccessfully) to discover useful ways of visualizing multi-dimensional accounting variables (including Chernoff faces) ---
http://www.trinity.edu/rjensen/352wpvisual/000datavisualization.htm
Alas, I'm a failure, along with most academic accounting researchers, as an applied researcher thus far in life. My leading journal publications, like other leading accounting research publications, have mostly been irrelevant "accountics" contributions ---
http://www.trinity.edu/rjensen/resume.htm#Published

Not everything that can be counted, counts. And not everything that counts can be counted.
Albert Einstein

For a long time, elite accounting researchers could find no “empirical evidence” of widespread earnings management. All they had to do was look up from the computers where their heads were buried.
Bob Jensen --- http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm

Yes, I have biases, as I freely acknowledge. I like research that puts the method before the message, meaning that if the conclusion comes first, as in much of what I perceive under the “critical perspectives” banner, I view that to be advocacy for a cause, not research.”
Steve Kachelmeier, University of Texas and current Editor of The Accounting Review  (in a letter to Paul Williams)

“Research should be problem driven rather than methodologically driven," said Lisa Garcia Bedolla, a member of the task force who teaches at the University of California at Berkeley.
Scott Jascik --- http://www.insidehighered.com/news/2009/09/04/polisci  

"I understand your point, Jim." He could not identify one issue that (accountics) researchers had been able to "put to bed" after all that effort.
P. Kothari, one of the Editors of JAE and a full professor at MIT, as quoted by Jim Peters below.

Do we forecast? You bet. Do we have confidence in our forecasts? Never! Confidence about a non-linear chaotic system can only come in degrees, and even those degrees of confidence are guesses. Not all hope is lost. There are times when it seems our ability to predict is better than others. Thus we need to take advantage of it if we see it. Trading ranges, pivot points, support and resistance, and the like can help, and do help the trader.
Michael Covel, Trading Black Swans, September 2009 --- http://www.michaelcovel.com/pdfs/swan.pdf

The second is the comment that Joan Robinson made about American Keynsians: that their theories were so flimsy that they had to put math into them. In accounting academia, the shortest path to respectability seems to be to use math (and statistics), whether meaningful or not.
Professor Jagdish Gangolly, SUNY Albany

Probably be an accountant. I like to figure out stuff. In accounting, if you miss one number you get the whole thing wrong. You have to be perfect --- I'm a perfectionist.
Giovani Soto (catcher for the Chicago Cubs when asked what he'd like to be if he wasn't in professional baseball), as quoted in an interview with Mary Burns in Sports Illustrated, June 2008
Jensen Comment
If Soto only knew that accountants are second only to economists in terms of inaccuracies. When accountants total up the numbers on a balance sheet the total is always accurate, but the numbers being added up can be off by 1000% or more. Accuracy varies of course. Cash counts are highly accurate. Fixed assets, net of depreciation, are make-pretend within limits. Intangible asset valuations are about as accurate as ground eyesight measurements of floating cloud dimensions on a windy day. Accountants make highly inaccurate estimates of assets, liabilities, and equities. Then accountants change hats and chairs and add these estimates up very accurately and pretend that the total must mean something --- but accountants aren't sure what.

If Soto wants accuracy perhaps he should become a baseball statistician collecting up subjective estimates of the umpires. In the business world, accountants are the statisticians and the umpires. Therein lies the problem. An umpire decides what's a ball/strike, hit/foul, etc. and then leaves it up to baseball statisticians to book the numbers. In the world of business, accountants decide what are current versus deferred revenues, current versus capitalized costs, and additionally make highly subjective estimates about values of such things as forward contracts and interest rate swaps. After making their inaccurate estimates they then put on another hat, change chairs, and record their own estimates to the nearest penny. They're the business world's umpires and statisticians who simply change hats and chairs and wait for the investors to file lawsuits against them.

 

Brief Very Long Summary of Accounting Theory

Bob Jensen at Trinity University

Warning 1:  Many of the links were broken when the FASB changed all of its links.  If a link to a FASB site does not work , go to the new FASB link and search for the document.  The FASB home page is at http://www.fasb.org/ 

 

Warning 2:  The document below has not been updated for the FASB's Codification Database. Although the database is off to a great (albeit dumb, dumb, dumb) start, there is much information in this document and in prior FASB hard copy standards and in the FASB standards that cannot be found in the Codification Database. You can read the following at http://asc.fasb.org/asccontent&trid=2273304&nav_type=left_nav

Welcome to the Financial Accounting Standards Board (FASB) Accounting Standards Codification™ (Codification).

The Codification is the result of a major four-year project involving over 200 people from multiple entities. The Codification structure is significantly different from the structure of existing accounting standards. The Notice to Constituents provides information you should read to obtain a good understanding of the Codification history, content, structure, and future consequences.

Accounting, Fraud, and XBRL News --- #News

Daily News Sites for Accountancy, Tax, Fraud, IFRS, XBRL, Accounting History, and More ---
http://www.trinity.edu/rjensen/AccountingNews.htm

FASB's Accounting Standards Codification --- http://asc.fasb.org/home

Accounting for Derivative Financial Instruments and Hedging Activities
Bob Jensen's free tutorials and videos for FAS 133 and IAS 39 are at
http://www.trinity.edu/rjensen/caseans/000index.htm

Teaching Cases:  Hedge Accounting Scenario 1 versus Scenario 2
Two Teaching Cases Involving Southwest Airlines, Hedging, and Hedge Accounting Controversies ---
http://www.trinity.edu/rjensen/caseans/SouthwestAirlinesQuestions.htm

A nice timeline on the development of U.S. standards and the evolution of thinking about the income statement versus the balance sheet is provided at:
"The Evolution of U.S. GAAP: The Political Forces Behind Professional Standards (1930-1973)," by Stephen A. Zeff, CPA Journal, January 2005 --- http://www.nysscpa.org/cpajournal/2005/105/infocus/p18.htm
Part II covering years 1974-2003 published in February 2005 --- http://www.nysscpa.org/cpajournal/2005/205/index.htm 

**************************

“Accounting for Business Firms versus Accounting for Vegetables” ---
http://www.trinity.edu/rjensen/FraudConclusion.htm#BadNews 

Take the Enron Quiz ---
http://www.trinity.edu/rjensen/FraudEnronQuiz.htm

Where I Made My Consulting Money and How

Accounting History in a Nutshell

Thoughts on Bill Paton and Some Other Historical Writers in Accountancy

Accounting for the Shadow Economy

Behavioral and Cultural Economics and Finance

Media Reporting Controversies

Efficient Markets (EMH) versus Inefficient Markets
(including Black Swans and Fat Tails)

Islamic and Social Responsibility Accounting

XBRL:  The Next Big Thing

Key Differences Between International (IFRS) and U.S. GAAP (SFAS)

Accounting Research Versus the Accountancy Profession
Some ideas for applied research

Learning at Research Schools Versus "Teaching Schools" Versus "Happiness"
With a Side Track into Substance Abuse

Why must all accounting doctoral programs be social
science (particularly econometrics) "accountics" doctoral programs?

Why accountancy doctoral programs are drying up and
why accountancy is no longer required for admission or
graduation in an accountancy doctoral program
http://www.trinity.edu/rjensen/theory01.htm#DoctoralPrograms
 

I think leading academic researchers avoid applied research for the profession because making seminal and creative discoveries that practitioners have not already discovered is enormously difficult. Accounting academe is threatened by the twin dangers of fossilization and scholasticism (of three types: tedium, high tech, and radical chic)
From http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm
 

“Knowledge and competence increasingly developed out of the internal dynamics of esoteric disciplines rather than within the context of shared perceptions of public needs,” writes Bender. “This is not to say that professionalized disciplines or the modern service professions that imitated them became socially irresponsible. But their contributions to society began to flow from their own self-definitions rather than from a reciprocal engagement with general public discourse.”

 

Now, there is a definite note of sadness in Bender’s narrative – as there always tends to be in accounts of the shift from Gemeinschaft to Gesellschaft. Yet it is also clear that the transformation from civic to disciplinary professionalism was necessary.

 

“The new disciplines offered relatively precise subject matter and procedures,” Bender concedes, “at a time when both were greatly confused. The new professionalism also promised guarantees of competence — certification — in an era when criteria of intellectual authority were vague and professional performance was unreliable.”

But in the epilogue to Intellect and Public Life, Bender suggests that the process eventually went too far. “The risk now is precisely the opposite,” he writes. “Academe is threatened by the twin dangers of fossilization and scholasticism (of three types: tedium, high tech, and radical chic). The agenda for the next decade, at least as I see it, ought to be the opening up of the disciplines, the ventilating of professional communities that have come to share too much and that have become too self-referential.”

 

What went wrong in accounting/accountics research? 
How did academic accounting research become a pseudo science?
http://www.trinity.edu/rjensen/theory01.htm#WhatWentWrong

GMAT: Paying for Points

Accounting Journal Lack of Interest in Publishing Replications

Rankings of Academic Accounting Research Journals and Schools

Role of Accounting Standards in Efficient Equity Markets

Controversies in Setting Accounting Standards

Popular IFRS, IAS, and Other IASB Learning Resources:

Bright Lines Versus Principles-Based Rules

Comparisons of IFRS with Domestic Standards of Many Nations
http://www.iasplus.com/country/compare.htm

Should "principles-based" standards replace more detailed requirements for complex
financial contracts such as structured financing contracts and financial instruments derivatives contracts?

Why Let the I.R.S. See What the S.E.C. Doesn't?

Radical Changes in Financial Reporting

The Controversy Between OCI versus Current Earnings

Accrual Accounting and Estimation 

Controversy Over  the SEC's Rule 144a

Cookie Jar Accounting and FAS 106

FIN 48 Liability if Transaction Is Later Disallowed by the IRS

Controversy Over FAS 2 on Research and Development (R&D)

Creative Earnings Management, Agency Theory, and Accounting Manipulations to Cook the Books 

Goodwill Impairment Issues 

Purchase Versus Pooling: The Never Ending Debate

Minority Interests:  Lambs being led to slaughter?

Off-Balance Sheet Financing (OBSF)

Insurance:  A Scheme for Hiding Debt That Won't Go Away

How do we account for lifetime warranties?

Disclosure provisions aimed at financing receivables
and Other Dislcosure Issues

CDOs: A Securitization Scheme for Hiding Debt That Won't Go Away

Pensions and Post-retirement benefits:  Schemes for Hiding Deb

Leases:  A  Scheme for Hiding Debt That Won't Go Away 

Accounting for Executory Contracts Such as
Purchase/Sale Commitments and Loan Commitments

Debt Versus Equity (including shareholder earn-out contracts)

Synthetic Assets and Liabilities Accounting  

Time versus Money

Intangibles and Contingencies:   Theory Disputes Focus Mainly on the Tip of the Iceberg

Intangibles:  An Accounting Paradox

Intangibles:  Selected References On Accounting for Intangibles

EBR:  Enhanced Business Reporting (including non-financial information)

The Controversy Over Revenue Reporting and HFV 
--- http://www.trinity.edu/rjensen/ecommerce/eitf01.htm

The Controversy Over Employee Stock Options as Compenation  

Accounting for Options to Buy Real Estate

The Controversy over Accounting for Securitizations and Loan Guarantees  

The Controversy Over Pro Forma Reporting

Triple-Bottom (Social, Environmental) Reporting  

The Sad State of Government Accounting and Accountability

The Cost Conundrum:  What a Texas town can teach us about health care

Which is More Value-Relevant: Earnings or Cash Flows?

The Controversy Over Fair Value (Mark-to-Market) Financial Reporting

Underlying Bases of Balance Sheet Valuation

Online Resources for Business Valuations
See http://www.trinity.edu/rjensen/roi.htm

Fade, Gain, and Cost Shifting Analysis  in gross profit analysis in construction accounting

Understanding the Issues 

Issues of Auditor Professionalism and Independence 
http://www.trinity.edu/rjensen/fraud001.htm#Professionalism

Quality of Earnings, Restatements, and Core Earnings

Sale-Leaseback Accounting Controversies
http://www.trinity.edu/rjensen/ecommerce/eitf01.htm#SaleLeasback

Economic Theory of Accounting (including Game Theory)

Socionomics Theory of Finance and Fraud

Facts Based on Assumptions:  The Power of Postpositive Thinking

Critical Postmodern Theory --- http://www.uta.edu/huma/illuminations/

Mike Kearl's great social theory site

What's Right and What's Wrong With SPEs, SPVs, and VIEs --- 
http://www.trinity.edu/rjensen//theory/00overview/speOverview.htm

Peter, Paul, and Barney: An Essay on 2008 U.S. Government Bailouts of Private Companies ---
http://www.trinity.edu/rjensen/2008Bailout.htm

Bob Jensen's threads on GAAP comparisons (with particular stress upon derivative financial
instruments accounting rules) are at http://www.trinity.edu/rjensen/caseans/canada.htm
The above site also links to more general GAAP comparison guides between nations.

Implications of Bad Auditing on Capital Markets
and Client's Cost of Captial
http://www.trinity.edu/rjensen/FraudConclusion.htm#IncompetentAudits

Bob Jensen's threads on corporate governance are at
http://www.trinity.edu/rjensen/fraud.htm#Governance

Great Minds in Management:  The Process of Theory Development --- http://www.trinity.edu/rjensen//theory/00overview/GreatMinds.htm

Great Minds in Sociology ---
http://www.sociosite.net/topics/sociologists.php
Also see Also see http://www.sociologyprofessor.com/ 

A Special Tribute to My Open Sharing Friend Will Yancey ---
http://www.trinity.edu/rjensen/Yancey.htm

Giving Stuff Away Free on the Internet ---
http://www.trinity.edu/rjensen/ListservRoles.htm#Free 

A Course in Game Theory ---
http://www.simoleonsense.com/a-course-in-game-theory-martin-j-osborne/

"Saturn (Now Defunct Automobile): A Wealth of Lessons from Failure," University of Pennsylvania's Knowledge@Wharton, October 28, 2009 --- http://knowledge.wharton.upenn.edu/article.cfm?articleid=2366

"Cornell Theory Center Aids Social Science Researchers," PR Web, June 19, 2006 --- http://www.prweb.com/releases/2006/6/prweb400160.htm

"The Ph.D. Problem On the professionalization of faculty life, doctoral training, and the academy’s self-renewal," by Louis Menand, Harvard Magazine, November/December 2009 ---
http://www.trinity.edu/rjensen/HigherEdControversies.htm#DoctoralProgramChange

How Do Scholars Search? --- http://www.trinity.edu/rjensen/Searchh.htm#Scholars

Some of the many, many lawsuits settled by auditing firms can be found at http://www.trinity.edu/rjensen/Fraud001.htm

Higher Education Controversies ---
http://www.trinity.edu/rjensen/HigherEdControversies.htm

Wonderful Video on the History and Controversies of Logical Positivism (Vienna Circle) and Philosophy of Science
Pragmatism under William James --- http://en.wikipedia.org/wiki/William_James
Metaphysics --- http://en.wikipedia.org/wiki/Metaphysics
Logical Positivism under Karl Popper --- http://en.wikipedia.org/wiki/Karl_Popper
Logical Positivism under
Sir Alfred Jules (A.J.) Ayer --- http://en.wikipedia.org/wiki/Alfred_Ayer

The philosophy of leadership, management, and theory development --- http://www.trinity.edu/rjensen/theory/00overview/GreatMinds.htm


Some Accounting News Sites and Related Links
Bob Jensen at Trinity University

Accounting  and Taxation News Sites --- http://www.trinity.edu/rjensen/AccountingNews.htm

Fraud News --- http://www.trinity.edu/rjensen/AccountingNews.htm

XBRL News --- http://www.trinity.edu/rjensen/AccountingNews.htm

Selected Accounting History Sites --- http://www.trinity.edu/rjensen/AccountingNews.htm

Some of Bob Jensen's Pictures and Stories --- http://www.trinity.edu/rjensen/AccountingNews.htm

Free Tutorials, Videos, and Other Helpers --- http://www.trinity.edu/rjensen/AccountingNews.htm

Bob Jensen's gateway to millions of other blogs and social/professional networks ---
http://www.trinity.edu/rjensen/ListservRoles.htm

 

Bob Jensen's Threads --- http://www.trinity.edu/rjensen/threads.htm

Bob Jensen's Blogs --- http://www.trinity.edu/rjensen/JensenBlogs.htm
Current and past editions of my newsletter called New Bookmarks --- http://www.trinity.edu/rjensen/bookurl.htm
Current and past editions of my newsletter called Tidbits --- http://www.trinity.edu/rjensen/TidbitsDirectory.htm
Current and past editions of my newsletter called Fraud Updates --- http://www.trinity.edu/rjensen/FraudUpdates.htm
Bob Jensen's past presentations and lectures --- http://www.trinity.edu/rjensen/resume.htm#Presentations   

Free Online Textbooks, Videos, and Tutorials --- http://www.trinity.edu/rjensen/ElectronicLiterature.htm#Textbooks
Free Tutorials in Various Disciplines --- http://www.trinity.edu/rjensen/Bookbob2.htm#Tutorials
Edutainment and Learning Games --- http://www.trinity.edu/rjensen/000aaa/thetools.htm#Edutainment
Open Sharing Courses --- http://www.trinity.edu/rjensen/000aaa/updateee.htm#OKI

Peter, Paul, and Barney: An Essay on 2008 U.S. Government Bailouts of Private Companies ---
http://www.trinity.edu/rjensen/2008Bailout.htm

Health Care News --- http://www.trinity.edu/rjensen/Health.htm

Bob Jensen's Resume --- http://www.trinity.edu/rjensen/Resume.htm

Bob Jensen's Threads --- http://www.trinity.edu/rjensen/threads.htm

Bob Jensen's Homepage --- http://www.trinity.edu/rjensen/

 


Here’s an expanded view of questions raised about which constituencies credit rating agencies (and by analogy auditing firms) really serve.

A message forwarded by my anonymous friend Larry on October 18, 2009

How Moody's sold its ratings -- and sold out investors | McClatchy ---
http://www.mcclatchydc.com/politics/story/77244.html
Instead, Moody's promoted executives who headed its "structured finance" division, which assisted Wall Street in packaging loans into securities for sale to investors. It also stacked its compliance department with the people who awarded the highest ratings to pools of mortgages that soon were downgraded to junk. Such products have another name now: "toxic assets."

"In 2001, Moody's had revenues of $800.7 million; in 2005, they were up to $1.73 billion; and in 2006, $2.037 billion. The exploding profits were fees from packaging . . . and for granting the top-class AAA ratings, which were supposed to mean they were as safe as U.S. government securities," said Lawrence McDonald in his recent book, "A Colossal Failure of Common Sense."

Nobody cared about due diligence so long as the money kept pouring in during the housing boom. Moody's stock peaked in February 2007 at more than $72 a share.

Billionaire investor Warren Buffett's firm Berkshire Hathaway owned 15 percent of Moody's stock by the end of 2001, company reports show. That stake, largely still intact, meant that the Oracle from Omaha reaped huge financial rewards while Moody's overlooked the glaring problems in pools of subprime mortgages.

A Berkshire spokeswoman had no comment.

Moody's wasn't alone in ignoring the mounting problems. It wasn't even first among competitors. The financial industry newsletter Asset-Backed Alert found that Standard & Poor's participated in 1,962 deals in 2006 involving pools of loans, while Moody's did 1,697. In 2005, Standard & Poor's did 1,754 deals to Moody's 1,120. Fitch was well behind both.

http://www.mcclatchydc.com/politics/story/77244.html

Jensen Comment
I’m frantically searching the writings of my very technical hero, Janet Tavakoli, to discover that all this is not true about my other hero, Warren Buffett. Of course there are huge unknowns, at this point in time, and varying degrees of culpability.

Janet is pretty rough on the ratings agencies in her writings. However, she’s always kind to Warren. One of my all-time favorite books is her Dear Mr. Buffet book. On Page 107, Janet writes as follows:

At the end of 2007, Berkshire Hathaway owned 78 million shares of Moody’s Corporation, one of the top three rating agencies (the same shares owned when I first met Warren Buffett in 2005), representing just over 19 percent of the capital stock. The cot basis of the shares is $499 million. At the end of 200, the value was just under $1 billion. By the end of 2006, the value was around $3.3 billion, but it dropped to $1.7 billion at the end of 2007. The sharp increase in revenues is due chiefly to revenues generated from rating structured financial products, and the sharp decrease was due to the disillusionment of the market with the integrity of the ratings.

On Page 109, Janet continues to berate the rating agency cartel (where I think it might be possible to substitute auditors for rating agencies interchangeably):

The rating agencies seem to not care about the market’s forgiveness since not only have they not apologized ---  a necessary but not sufficient condition --- they seem to feel the market should change. Specifically, the market should change its point of view about what it expects from the rating agencies. Yet it seems that the market has the right to expect rating agencies to follow the basic principles of statistics.

The tactic has mainly been successful because the rating agencies act as a cartel, leveraging their joint power to have fees magically converge and have ratings so similar that they have participated overrating AAA structured products backed by dodgy loans in 2007 that took substantial principal losses. Meanwhile, many market professionals, including me, pointed out in print that the AAA ratings were maeaningless. The rating agencies presented a farily united front in defending their methods (except for Fitch, which also participated on overrated CDOs and later seemed more responsive to downgrading structured products.

. . .

“Ma and pa” retail investors found that AAA product ended up in their pension funds and mutual funds because their money managers gave too much credence to an AAA rating.

But nowhere have I yet found where Janet alludes to any insider profiteering on the part of Warren Buffett who also lost billions of dollars in the crash The difference between “ma and pa” and Mr. Buffet is that a billion dollars is pocket change to Warren Buffet. He can easily recoup his losses legitimately in trades with stupid hedge fund managers and bankers that rely too much on fallible models (at least that’s what mathematician Janet Tavakoli tells us in a very enlightening way).

Expert Financial Predictions (Jon Stewart's hindsight video scrapbook) --- http://www.technologyreview.com/blog/post.aspx?bid=354&bpid=23077&nlid=1840
You have to watch the first third of this video before it gets into the scrapbook itself
The problem unmentioned here is one faced by auditors and credit rating agencies of risky clients every day:  Predictions are often self fulfilling
If an auditor issues going concern exceptions in audit reports, the exceptions themselves will probably contribute to the downfall of the clients
The same can be said by financial analysts who elect to trash a company's financial outlook
Hence we have the age-old conflict between holding back on what you really secretly predict versus pulling the fire alarm on a troubled company
There are no easy answers here except to conclude that it auditors and credit rating agencies appeared to not reveal many of their inner secret predictions in 2008
Auditing firms and credit rating agencies lost a lot of credibility in this economic crisis, but they've survived many such stains on their reputations in the past
By now we're used to the fact that the public is generally aware of the fire before the auditors and credit rating agencies pull the alarm lever
On the other hand, financial wizards who pull the alarm lever on nearly every company all the time lose their credibility in a hurry

Bob Jensen's threads on credit rating agencies are at
http://www.trinity.edu/rjensen/FraudRotten.htm#CreditRatingAgencies

Bob Jensen's threads on auditor professionalism are at
http://www.trinity.edu/rjensen/fraud001.htm#Professionalism

 


FASB Codification Database Supersedes All FASB Standards

Countdown to Codification Alert:  FASB Alert #4, 5-22-09

What happens to U.S. GAAP literature when the Codification went live on July 1, 2009?
All existing standards that were used to create the Codification will become superseded upon the adoption of the Codification.  The FASB will no longer update and maintain the superseded standards. Also, upon adoption of the Codification, the U.S. GAAP hierarchy will flatten from five levels to two­authoritative and non-authoritative.  The following table illustrates the result:

 
DON’T BE CAUGHT OFF GUARD!  GET READY FOR THE CODIFICATION!
 
The FASB instituted a major change in the way accounting standards are organized. The FASB Accounting Standards CodificationTM is expected to become the single official source of authoritative, nongovernmental U.S. generally accepted accounting principles (GAAP).
  After final approval by the FASB only one level of authoritative GAAP will exist, other than guidance issued by the Securities and Exchange Commission (SEC). All other literature will be non-authoritative.
 
While the FASB Codification is designed to make it much easier to research accounting issues, the transition to use of the Codification will require some advance training.  These weekly “Countdown to Codification” alerts are designed to provide tips to make that transition easier.
 
The FASB offers a free online tutorial at http://asc.fasb.org.  A recorded instructional webcast­The Move to Codification of US GAAP, first presented live on March 13, 2008­also is available at http://www.fasb.org/fasb_webcast_series/index.shtml. In addition, Codification training opportunities are offered through professional accounting organizations such as the American Institute of Certified Public Accountants (AICPA).

For the PwC Codification Guide I snipped the URL to
http://snipurl.com/ifrs-litevsheavy

The original link is at
http://www.pwc.com/en_GX/gx/ifrs-reporting/pdf/Sims_diffs_IFRS_SMEs.pdf

Deloitte’s Codification helpers are linked at
http://www.iasplus.com/usa/fasb/0906codification.pdf


The following message was forwarded by David Albrecht on June 16, 2009

From: "Tracey E. Sutherland" <traceysutherland@aaahq.org>
Organization: American Accounting Association
Date: Tue, 16 Jun 2009 17:25:23 -0400

FAF and AAA to Provide FASB Codification to Faculty and Students

On July 1, 2009, the Financial Accounting Standards Board (FASB) is instituting a major change in the way accounting standards are organized. On that date, the FASB Accounting Standards Codification™ (FASB Codification) will become the single official source of authoritative, nongovernmental U.S. generally accepted accounting principles (U.S. GAAP).  After that date, only one level of authoritative U.S. GAAP will exist, other than guidance issued by the Securities and Exchange Commission (SEC).  All other literature will be non-authoritative.

As part of its educational mission, the Financial Accounting Foundation (FAF), the oversight and administrative body of the FASB, in a joint initiative with the American Accounting Association (AAA), will provide faculty and students in accounting programs at post-secondary academic institutions with the Professional View of the online FASB Codification.

Accounting Program Access—No Cost to Individual Faculty or Students
The Professional View of the FASB Codification will be accessible at no cost to individual faculty and students, through the AAA’s Academic Access program, available to Registered Accounting Programs.  The Professional View will provide advanced search functions with special utilities to assist in the navigation of content, representing the fully functional view of the FASB Codification that will be used by auditors, financial analysts, investors, and preparers of financial statements.  All of the features that have been available with the verification version currently at http://asc.fasb.org are included with the Professional View.
AAA Academic Access

The AAA will provide direct services to accounting departments through its Academic Access program; issuing authentication credentials for faculty and students through Registered Accounting Programs, at a low annual institutional fee of $150.  Information about this program will be forthcoming directly from AAA and on the AAA website at http://aaahq.org/FASB/Access.cfm.

Transitional Access—From July 1 through August 31, 2009
The AAA will provide credentials to individual faculty and students, at no charge, during the transition period before the beginning of the fall semester when faculty and students will receive credentials for access through their Registered Accounting Programs.

The FAF, FASB, and AAA are enthusiastic about this new initiative and understand the value of this program to accounting education and scholarship, in addition to its benefit to faculty and students to have access to the advanced view of U.S. GAAP that will be used by accounting professionals.


******************
This advertisement was sent to you from the American Accounting Association. This message includes valuable information about upcoming events hosted by the American Accounting Association. If you no longer want to receive email announcements from us, please send an email to office@aaahq.org with "EMAIL OPT-OUT" in the subject line.
American Accounting Association | 5717 Bessie Drive | Sarasota, FL 34233-2399 | Phone: (941) 921-7747 | Fax: (941) 923-4093 | Office@aaahq.org

The FASB home page is at http://www.fasb.org/home

June 24, 2009 Update
There was some doubt initially about whether the free or discounted faculty and student access version of the FASB Codification database would be the "Professional" version (that includes searching and cross-referencing at an $850 single user license per year).

The AAA registration site for the discounted ($150 annual discount price) version makes it clear that accounting education departments or schools will get the full "Professional" version at a discount, thereby saving each academic program $700 per year savings per license. What is not yet perfectly clear is whether this is a single-user access license. My reading is that multiple users within a department or school can use the Codification database at the same time. I could be wrong.

The AAA program enrollment site for this discounted version is http://aaahq.org/FASB/Access.cfm 
The form is at https://aaahq.org/AAAforms/FASB/enroll.cfm

Since all future financial statements will no longer reference hard copy sources like FAS 166 or EITF 98-1 or FIN 48, it is vital for students and teachers and researchers to have access to the Codification database for financial statement analysis.

Reasons why registration for the Codification database are important are given at http://www.cfo.com/article.cfm/13854787/c_2984368/?f=archives
Also see http://www.trinity.edu/rjensen/theory01.htm#MethodsForSetting

All users will have free access to the Codification database, but not the free access to the $850 “Professional” searching and cross-referencing services.

 


FREE access to ANNUAL REPORTS in XBRL --- http://www.trinity.edu/rjensen/XBRLandOLAP.htm#TimelineXBRL
From EDGAR Online --- http://www.tryxbrl.org/

Finance Test Questions --- http://financetestquestions.wikispaces.com/

Watch the Video
"Sometimes we can't see the forest for the trees," by Jim Mahar, FinanceProfessor Blog, May 27, 2009 --- http://financeprofessorblog.blogspot.com/2009/05/sometimes-we-cant-see-forest-for-trees.html

Part Behavioral finance, part cycling, and part a study in how the brain works, the following "Test" is eye opening at least.

We all get so caught up in seeing what we want to see that we sometimes miss the obvious. This effects us in many ways: In finance, if bullish (optimistic), we are more apt to see the good news, if bearish (pessimistic) you see only bad news.

That is one reason why big break throughs happen from those outside the field. It is one reason why sabbaticals and vacations are important. But it can also have important implications in many other ways.

Go ahead, take the test. It takes about a minute --- Click Here

 

 

You can order back issues or relevant links management and accounting books and journals from MAAW --- http://maaw.info/

Free Access to Back Issues of The Accounting Review --- http://maaw.info/TheAccountingReview.htm 

Bob Jensen's threads on special purpose (variable interest) entities are at http://www.trinity.edu/rjensen//theory/00overview/speOverview.htm

"Visualization of Multidimensional Data" --- http://www.trinity.edu/rjensen/352wpVisual/000DataVisualization.htm 

Bob Jensen's threads on XBRL are at http://www.trinity.edu/rjensen/XBRLandOLAP.htm#XBRLextended 

Accounting for Electronic Commerce, Including Controversies on Business Valuation, ROI, and Revenue Reporting --- http://www.trinity.edu/rjensen/ecommerce.htm 

Comparisons of International IAS Versus FASB Standards --- http://www.deloitte.com/dtt/cda/doc/content/pocketiasus.pdf 

Bob Jensen's Enron Quiz (with answers) --- http://www.trinity.edu/rjensen/FraudEnronQuiz.htm

Tom Selling's blog The Accounting Onion (great on theory and practice) --- http://accountingonion.typepad.com/

"Corporate Reports Now Searchable Via EDGAR," SmartPros, June 16, 2006 --- http://accounting.smartpros.com/x53502.xml

Investors and analysts can now search the full text of every SEC document filed by companies within the last two years. They'll also be able to retrieve mutual fund filings by fund or share class.

The company filing search engine enables real-time, full-text searches of filings on the entirety of the SEC's EDGAR (Electronic Document, Gathering, Analysis and Retrieval) database of company filings for the last two years. The tool can be found at http://www.sec.gov/edgar/searchedgar/webusers.htm.

SEC Chairman Christopher Cox, a strong proponent of using the Internet to post dynamic financial reports and to serve as a tool for investors and analysts made the announcement in his opening remarks at the SEC's Interactive Data Roundtable in Washington, D.C.

"This new full-text search capability will give investors and analysts instant access to the specific information they want," said Cox.

The new mutual fund search capability was made possible when the SEC recently required that filings contain a unique numerical identifier for each fund and share class. Investors will be able to find relevant filings by searching for the name of their own fund. In the past, searching for information on particular funds and particular share classes within funds was very difficult, because a single prospectus might contain information about many mutual funds and share classes.

The SEC is asking users of this Web site feature to supply feedback, including suggestions for additional functions, so that further improvements to the site can be considered and implemented.

 

Paul Pacter has been working hard to both maintain his international accounting site and to produce a comparison guide between international and Chinese GAAP.  He states the following on May 26, 2005 at http://www.iasplus.com/index.htm 

May 26, 2005:  Deloitte (China) has published a comparison of accounting standards in the People's Republic of China and International Financial Reporting Standards as of March 2005. The comparison is available in both English and Chinese. China has different levels of accounting standards that apply to different classes of entities. The comparison relates to the standards applicable to the largest companies (including all non-financial listed and foreign-invested enterprises) and identifies major accounting recognition and measurement differences. Click to download:

 
 

 


The chronology of events leading up to European adoption if common international accounting standards --- http://www.iasplus.com/restruct/resteuro.htm

Large International Accounting Firm History --- http://en.wikipedia.org/wiki/Big_Four_auditors

Tom Selling's blog The Accounting Onion (great on theory and practice) --- http://accountingonion.typepad.com/

This is a Good Summary of Various Forms of Business Risk  --- http://www.erisk.com/portal/Resources/resources_archive.asp 

  1. Enterprise Risk Management

  2. Credit Risk

  3. Market Risk

  4. Operational Risk

  5. Business Risk

  6. Other Types of Risk?

Skills and knowledge should be required as part of the pre-certification education of CPAs
Prompted by New York’s forthcoming adoption of the 150-hour requirement to sit for the CPA exam, the NYSSCPA’s Quality Enhancement Policy Committee drafted a white paper to encourage discussion on what skills and knowledge should be required as part of the pre-certification education of CPAs. This white paper, which was approved by the Society’s Board of Directors, is presented here, along with additional commentary from the NYSSCPA’s Higher Education Committee.
Quality Enhancement Policy Committee Sharon Sabba Fierstein, Chair, August 2008 --- http://www.nysscpa.org/cpajournal/2008/808/infocus/p26.htm

Mary-Jo Kranacher Editorial, CPA Journal, August 2008 --- http://www.nysscpa.org/cpajournal/2008/808/essentials/p80.htm

Specific requirements for becoming a CPA, and the rights and obligations of a licensed CPA, are set forth in the laws and regulations of 54 United States jurisdictions --- http://www.cpa-exam.org/global/boards.html

NASBA Tools --- http://www.nasbatools.com/display_page
NASBA Resources (Includes documents and audio files on knowledge requirements) --- http://www.nasba.org/nasbaweb/NASBAWeb.nsf/wpmtp?openform

Free and Fee CPA Review Courses --- http://www.trinity.edu/rjensen/Bookbob1.htm#010303CPAExam

Bob Jensen's threads on accountancy careers --- http://www.trinity.edu/rjensen/Bookbob1.htm#careers

"Pre-Med Education Must Be Compatible with Liberal Arts Ideals," by Timothy R. Austin, Inside Higher Ed, July 31, 2008 --- http://www.insidehighered.com/views/2008/07/31/austin

Also see http://www.trinity.edu/rjensen/HigherEdControversies.htm#CatFights

Peter, Paul, and Barney: An Essay on 2008 U.S. Government Bailouts of Private Companies ---
http://www.trinity.edu/rjensen/2008Bailout.htm

 

Where I Made My Money Consulting and How
If you think I’m a great fan of historical cost, Pat, you’re nuts.

Pat Walters at Fordham University asked how I found the time to make so many Camtasia videos on top of other things I do like send out AECM messages by the thousands.

My first answer is that the time I spent making most of my Camtasia videos actually saved me much more time, especially boring time at having to repeat demos to confused students who lined up outside may office all day long on many days. My second answer is that Camtasia videos, one in particular, led to a lot of consulting opportunities around the world.

First I should note that my teaching style has always been costly in terms of my time. When I taught any course I insisted on my students learning technical details. For example, when I taught Accounting Information Systems (AIS), I did not just teach the theory of relational databases. I insisted that my students learn relational database software, which happened to be MS Access because that’s the only relational database software that Trinity University would provide for my students.

I did not want to take up much class time demonstrating use of software. Instead, each week I passed out a list of Possible Quiz Questions (PQQs) where each PQQ had a recipe for doing a task in MS Access, usually by focusing on the Northwind Database that used to be available from Microsoft. In class each student had a computer in an electronic classroom. I randomly picked a few PQQs with changed inputs and gave a quiz in every class throughout the semester --- even if we were no longer even discussing database theory in class.

Invariably students or usually pairs of students could not get my PQQ recipes to fully work. I found myself spending a typical day repeatedly demonstrating the same thing over and over again to different pairs of students. So I commenced to make Camtasia videos that cut down over 95% of the student traffic regarding PQQ issues. You can sample one or more of my PQQ videos at http://www.cs.trinity.edu/~rjensen/video/acct5342/

When I taught AIS I made my students learn how to use the Excel pivot tables provided with each of the Microsoft annual financial statements. These are a bit tricky to use, so I made the helper videos linked at
http://www.cs.trinity.edu/~rjensen/video/acct5342/MicrosoftPivots/ 

When I taught Accounting Theory, I made my students do XBRL financial statement analysis of a number of companies that the Korean KOSDAQ stock exchange marked up with XBRL tags. KOSDAQ provided reader software to analyze those tags. My students had great difficulty on these assignments --- so I made the XBRLdemos2005.wmv video file listed at http://www.cs.trinity.edu/~rjensen/video/windowsmedia/

Now let’s talk about the most important video that I ever made ---
a video that helped me pay for my house up here in the mountains.


When I taught Accounting Theory, about a third of the course was spent on technical details in FAS 133 and IAS 39 and much of this time was spent on teaching the first 10 examples in Appendix B of FAS 133 for which my main teaching guides are the 133ex Excel Workbooks listed at http://www.cs.trinity.edu/~rjensen/
These files still are being downloaded by thousands of strangers around the world.

But FAS 133 sometimes was not sufficiently detailed to suit me. For example, in Example 5 of FAS 133 the FASB simply provides the interest rate swap values out of thin air. I made my students learn how to value interest rate swaps. For this purpose I created the wonder video 133ex05a.wmv video file listed at
http://www.cs.trinity.edu/~rjensen/video/acct5341/

Supporting documentation can be found in the following two files listed at

133ex05a.xls (the Effective spreadsheet within this Excel workbook)
133ex05.htm file of a paper that Carl Hubbard and I published about swap valuation
Also see http://www.trinity.edu/rjensen/acct5341/speakers/133swapvalue.htm
Much of what I learned about swap valuation I learned from Carl.

Largely due to the 133ex05.htm paper that Carl and I published, I have received over 1,000 inquiries by telephone or email from investment bankers, Big Four auditors, and accounting professors around the world asking me about swap valuation. Rather than repeat myself over and over, I request that each of them watch my 133ex05a.wmv video from beginning to end. That’s sometimes all they wanted to know, although on many occasions I get more complicated questions afterwards, some of which I cannot answer and some of which I can answer.

That one 133ex05a.wmv video plus my other free derivatives accounting files have led to many consulting trips in the U.S., Canada, Mexico, China, and Europe. It also led to invited lectures in those places plus New Zealand. The lecture visits are listed at http://www.trinity.edu/rjensen/resume.htm#Presentations
Consulting fees ranged from $8,000 per day at GE Capital to $0 for folks that really needed help in developing nations. A colleague professor of finance, Phil Cooley, always said I sold myself too cheap.  I think I usually was overpaid.

If you think I’m a great fan of historical cost, Pat, you’re nuts.
In retirement with my wife in ill health, I’ve cut back greatly on travel and even turned down an offer of two lucrative years in a think tank in Australia. But a few companies have since beat a path to my door up here in the White Mountains where I spend usually a day with them consulting on FAS 133 and in particular derivative financial instruments valuation. If you think I’m a great fan of historical cost, Pat, you’re nuts.

Now, Pat, when you ask me where I found the time to make all those Camtasia videos, my answer is that I made the time on a lot of Saturdays and Sundays in my office at Trinity University. And these videos saved me tenfold that amount of time with students. And they helped me buy a rather expensive home up here in the White Mountains.

My free FAS 133 and IAS 39 tutorials (some with audio and video files) are listed at http://www.trinity.edu/rjensen/caseans/000index.htm

My philosophy is that it’s better to give than receive, and I found that in the process I received more than I gave. I would not have learned nearly as much about FAS 133 and IAS 39 had I not given most of what I know away for free!

And the funny thing about consulting is that I often do not know the technical answers raised by finance experts who literally beat a path to my door. But I find that if we interactively begin to work through their problems they usually ending up paying me for answers they reason out by themselves from my ad hoc version of the Socratic process.
Dah

Bob Jensen's free FAS 133 and IAS tutorials (some with audio and video files) can be found at
http://www.trinity.edu/rjensen/caseans/000index.htm

 

 

Accounting History in a Nutshell

Confucius is described, by Sima Qian and other sources, as having endured a poverty-stricken and humiliating youth and been forced, upon reaching manhood, to undertake such petty jobs as accounting and caring for livestock.

Some Accounting History Sites

Accounting History Libraries at the University of Mississippi (Ole Miss) --- http://www.olemiss.edu/depts/accountancy/libraries.html
The above libraries include international accounting history.
The above libraries include film and video historical collections.

MAAW Knowledge Portal for Management and Accounting --- http://maaw.info/

Academy of Accounting Historians and the Accounting Historians Journal ---
http://www.accounting.rutgers.edu/raw/aah/

Sage Accounting History --- http://ach.sagepub.com/cgi/pdf_extract/11/3/269

A nice timeline on the development of U.S. standards and the evolution of thinking about the income statement versus the balance sheet is provided at:
"The Evolution of U.S. GAAP: The Political Forces Behind Professional Standards (1930-1973)," by Stephen A. Zeff, CPA Journal, January 2005 --- http://www.nysscpa.org/cpajournal/2005/105/infocus/p18.htm
Part II covering years 1974-2003 published in February 2005 --- http://www.nysscpa.org/cpajournal/2005/205/index.htm 

A nice timeline of accounting history --- http://www.docstoc.com/docs/2187711/A-HISTORY-OF-ACCOUNTING

From Texas A&M University
Accounting History Outline --- http://acct.tamu.edu/giroux/history.html

Canadian Printer and Publisher (history of various trades and industries) ---  http://link.library.utoronto.ca/cpp/
You can search for various industry terms such as accounting, cost, bookkeeping, etc.

Bob Jensen's timeline of derivative financial instruments and hedge accounting ---
http://www.trinity.edu/rjensen/FraudRotten.htm#DerivativesFrauds

History of Fraud in America --- http://www.trinity.edu/rjensen/415wp/AmericanHistoryOfFraud.htm
Also see http://www.trinity.edu/rjensen/Fraud.htm

 


Using MAAW and Jstor for Accounting History Research
A summary of what historical research can be like on the Web
How I found a very, very interesting "Statement by William A. Paton" when he was 91 year old.

This morning on October 18, 2009 I had occasion to search for some Bill Paton's replacement cost history, so I went to MAAW at http://maaw.info/
I then entered the word Paton in the Google search box and this led me to some interesting categories, including the Replacement Cost Accounting Bibliography --- http://www.maaw.info/ReplacementCostArticles.htm
That only yielded two of Paton's articles on replacement cost, but it did provide a ton of other references including many that cite Bill Paton.

In particular I wandered to a well-known and long forgotten article by Steve Zeff:
"Replacement Cost:  Member of the Family, Welcome Guest, or Intruder," by Stephen A. Zeff, The Accounting Review, October 1962. Steve was an Assistant Professor of Accounting at Tulane at the time he wrote this paper.

  • Replacement Cost: Member of the Family, Welcome Guest, or Intruder?
  • Stephen A. Zeff
  • The Accounting Review, Vol. 37, No. 4 (Oct., 1962), pp. 611-625
    (article consists of 15 pages)
  • Published by: American Accounting Association
  • Stable URL: http://www.jstor.org/stable/242348

My Emeritus status at Trinity University allows me free access to Trinity's fabulous subscriptions to electronic library databases, including Jstor. I next proceeded online to Jstor and found the following articles by Steve Zeff

 

I then clicked on Item 8 above and downloaded the Zeff article I was most interested in at the moment.

I also went back to the Jstor search page and did a search for "William A. Paton" and got a listing of hits of some of Bill's papers and papers that cite Bill Paton. One that particularly intrigues me is the following"
"Statement by William A. Paton," by William A. Paton, The Accounting Review, October 1980, pp. 629-630.

Bill was 91 years old when he wrote the above short piece. What intrigues me is how he reflects on his famous 1940 monograph written with A.C. Littleton in 1940 that he claims to have not read once again for 35 years. It's rumored that he "recanted" his authorship of that most famous monograph, but that could not be further from the truth. He feels that he and "A.C." "did a creditable job" and then proceeds to point out where he feels, after 40 years, that this most famous monograph had some flaws.

I will eventually discuss these flaws in another message to the AECM after I've had time for study on this matter.
The purpose of this message is to point out how much fun historical research can be in what becomes, if you keep going, a process of serendipity that reveals what a huge amount we think of as current thinking was thought of decades ago by some very smart writers.


Early accounting was a knotty issue
South American Indian culture apparently used layers of knotted strings as a complicated ledger.

Two Harvard University researchers believe they have uncovered the meaning of a group of Incan khipus, cryptic assemblages of string and knots that were used by the South American civilization for record-keeping and perhaps even as a written language. Researchers have long known that some knot patterns represented a specific number. Archeologist Gary Urton and mathematician Carrie Brezine report today in the journal Science that computer analysis of 21 khipus showed how individual strings were combined into multilayered collections that were used as a kind of ledger.
Thomas H. Maugh, "Researchers Think They've Got the Incas' Numbers," Los Angeles Times, August 12, 2005 ---
http://www.latimes.com/news/science/la-sci-khipu12aug12,1,6589325.story?coll=la-news-science&ctrack=1&cset=true
Also note http://snipurl.com/incaknots   [64_233_169_104

Jensen Comment:  I'm told that accounting tallies in Africa and other parts of the world preceded written language.  However, tallies alone did not permit aggregations such as accounting for such things as three goats plus sixty apples.   Modern accounting awaited a combination of the Arabic numbering ( http://en.wikipedia.org/wiki/Arabic_numbers ) and a common valuation scheme for valuing heterogeneous items (e.g., gold equivalents or currency units) such that the values of goats and apples could be aggregated.  It is intriguing that Inca knot patterns were something more than simple tallies since patterns could depict different numbers and aggregations could possibly be achieved with "multilayered collections."


Early History of Mathematics and Calculating in China
The best general source for ancient Chinese mathematics is Joseph Needham's Science and Civilisation in China, vol. 3. In this volume you will learn, for example, that the Chinese proved the Pythagorean Theorem at the very latest by the Later Han dynasty (25-221 CE). The proof comes from an ancient text called The Arithmetical Classic of the Gnomon and the Circular Paths of Heaven. The book has been translated by Christopher Cullen in his Astronomy and Mathematics in Ancient China: The Zhou Bi Suan Jing. Needham also discusses the abacus, or suanpan ("calculating plate").
Steve Field, Professor of Chinese, Trinity University, September 24, 2008
Jensen Comment
Later Han Dynasty --- http://en.wikipedia.org/wiki/Later_Han_Dynasty_(Five_Dynasties)
Pythagorean Theorem Theorem --- http://en.wikipedia.org/wiki/Pythagorean_Theorem
Pythagorean Theorem (Gougu Theorem in China) History --- http://en.wikipedia.org/wiki/Pythagorean_Theorem#History
Suanpan --- http://en.wikipedia.org/wiki/Suanpan
This makes me respect Wikipedia even more!


In her notes compiled in 1979, Professor Linda Plunkett of the College of Charleston S.C., calls accounting the "oldest profession"; in fact, since prehistoric times families had to account for food and clothing to face the cold seasons. Later, as man began to trade, we established the concept of value and developed a monetary system. Evidence of accounting records can be found in the Babylonian Empire (4500 B.C.), in pharaohs' Egypt and in the Code of Hammurabi (2250 B.C.). Eventually, with the advent of taxation, record keeping became a necessity for governments to sustain social orders.
James deSantis, A BRIEF HISTORY OF ACCOUNTING: FROM PREHISTORY TO THE INFORMATION AGE --- http://www.ftlcomm.com/ensign/historyAcc/ResearchPaperFin.htm 


A nice timeline of accounting history --- http://www.docstoc.com/docs/2187711/A-HISTORY-OF-ACCOUNTING

From Texas A&M University
Accounting History Outline --- http://acct.tamu.edu/giroux/history.html


Accounting History (across hundreds of years)
 
A Change Fifty-Years in the Making, by Jennie Mitchell, Project Accounting WED Interconnect --- http://accounting.smwc.edu/historyacc.htm


Serious Accounting Historians May Find Some Things of Use Here
Advanced Papyrological Information System from Columbia University --- http://www.columbia.edu/cu/lweb/projects/digital/apis/

APIS is a collections-based repository hosting information about and images of papyrological materials (e.g. papyri, ostraca, wood tablets, etc) located in collections around the world. It contains physical descriptions and bibliographic information about the papyri and other written materials, as well as digital images and English translations of many of these texts. When possible, links are also provided to the original language texts (e.g. through the Duke Data Bank of Documentary Papyri). The user can move back and forth among text, translation, bibliography, description, and image. With the specially-developed APIS Search System many different types of complex searches can be carried out.

APIS includes both published and unpublished material. Generally, much more detailed information is available about the published texts. Unpublished papyri have often not yet been fully transcribed, and the information available is sometimes very basic. If you need more information about a papyrus, you should contact the appropriate person at the owning institution. (See the list of contacts under Rights & Permissions.)

APIS is still very much a work in progress; current statistics are shown in the sidebar at right. Other statistics are available on the statistics page in the project documentation. Curators of collections interested in becoming part of APIS are invited to communicate with the project director, Traianos Gagos.


More Than a Numbers Game: A Brief History of Accounting
Author: Thomas A. King
ISBN: 0-470-00873-3
Hardcover 242 pages
September 2006

Inspired by a 1998 speech by former SEC Chairman Arthur Levitt, this book addresses the why of accounting instead of the how, providing practitioners and students with a highly readable history of U.S. corporate accounting. Each chapter explores a controversial accounting topic. Author Thomas King is treasurer of Progressive Insurance.
SmartPros Newsletter, September 25, 2006


Origins of Double Entry Accounting are Unknown

Recall that double entry bookkeeping supposedly evolved in Italy long before it was put into algebraic form in the book Summa by Luca Pacioli  and into an earlier book by Benedikt Kotruljevic.

October 3, 2009 message from Rick Dull

Benedikt Kotruljevic (Croatian) (Dubrovnik,1416-L’Aquila,1469) (His Italian name was Benedetto Cotrugli Raguseo), who in 1458, wrote "The Book on the Art of Trading" which is now acknowledged to be the first person to write a book describing double-entry techniques? See the American Mathematical Society’s web-site: http://www.ams.org/featurecolumn/archive/book1.html .

Rick Dull


As a result the of the early Italian use of double entry bookkeeping, the English term "Debit" really has a Latin origin.  

You can read the following at http://www.wikiverse.org/debit

**************
Debit is an accounting and bookkeeping term that comes from the Latin word debere which means "to owe." The opposite of a debit is a credit. Debit is abbreviated Dr while credit is abbreviated Cr.
**************


Were Islamic records precursors to accounting books based on the Italian method?" by Zaid, Omar Abdullah, Accounting Historians Journal, June 20, 2009 --- http://findarticles.com/p/articles/mi_qa3657/is_200006/ai_n8887031/

Abstract:
The precise origin of the accounting records and reports outlined by Pacioli in 1494 and used in the Italian Republics is presently unknown. Historical evidence preserved in Turkey and Egypt indicates that accounting records and reports developed in the early Islamic State were similar to those used in the Italian Republics as outlined by Pacioli in 1494. Furthermore, some of the records and reports used in different parts of the Islamic State are comparable to modern-day books and reports. The religious requirement of Zakat (religious levy) and the increasing responsibilities of the Islamic State were the force behind the development of accounting records and reports by Muslims. The Islamic State was established in 622, and Zakat was imposed on Muslims in the year 2 Hijri'iah (H) (623). The enactment of Zakat necessitated the establishment of the Diwan (office where accounts are held) and the initial development of accounting records and reports. These records were further developed in Addawlatul Abbasi'iah (Abbaside Caliphate) between 132-232 H (750-847) whereby seven accounting specializations were known and practiced. Auditing played a very important role in the Islamic State and was designated as one of the accounting specializations. This paper argues that it is most likely that the commercial links between Muslim traders and their Italian counterparts influenced the development of accounting books in the Italian Republics.


December 13, 2005 message from Robert Bowers [M.Robert.Bowers@WHARTON.UPENN.EDU]

In the 14th Century, the Phoenicians sent trading ships to Cathay (China) to trade for silk. Problem was, if a ship sank, the merchant probably sank (bankrupt) with it. So the merchants pooled their resources so if a ship sank no one merchant lost everything. Along with this, an Italian Count named Paole (seriously) set up a system of recordkeeping to keep track of the ventures. In this system, he created two registers, a Debit Register (DR), and a Credit Register (CR)

I'll bet 95% of all CPA's don't know that which makes me .... a trivia freak?


December 16, 2005  message from Robert B Walker [walkerrb@ACTRIX.CO.NZ]

Luca Pacioli did not invent double entry book-keeping. The rudiments of double entry book-keeping (DEBK) can be found in Muslim government administration in the 10th Century. (See Book-keeping and Accounting Systems in a tenth Century Muslim Administrative Office by Hamid, Craig & Clark in Accounting, Business & Financial History Vol 3 No 5 1995).

As I understand it Pacioli saw the technique being used by Arab traders and adapted and codified the technique allowing it to spread to Northern Europe where it became a* key component in Western economic dominance in the last 500 years.

This is logical if you think about it. DEBK is the greatest expression of applied algebra – that Arab word betraying the origin of the particular mathematical technique in which the world’s duality is reflected.

RW

* but not the key component as Werner Sombart would have it. But then his reason for wanting that to be was his extreme anti-semitism … but that is another story.


December 13, 2005 reply from Earl Hall [earl@PERSPLAN.COM]

From thefreedictionary.com

DR = Debit [Middle English debite, from Latin dbitum, debt; see debt.]

CR=Credit [French, from Old French, from Old Italian credito, from Latin crditum, loan, from neuter past participle of crdere, to entrust; see kerd- in Indo-European roots.]

Who am I to argue with a free dictionary? The answer is worth what I paid.


Accountancy and the da Vinci Code

April 12, 2007 message from Barry Rice [brice@LOYOLA.EDU

From the April 11 Brisbane Times:

Forgotten magic manual contains original da Vinci code
AFTER lying almost untouched in the vaults of an Italian university for 500 years, a book on the magic arts written by Leonardo da Vinci's best friend and teacher has been translated into English for the first time.

The world's oldest magic text, De viribus quantitatis (On the Powers of Numbers), was penned by Luca Pacioli, a Franciscan monk who shared lodgings with da Vinci.

Continued at http://www.brisbanetimes.com.au/articles/2007/04/10/1175971101054.html  .

E. Barry Rice, MBA, CPA
Director, Instructional Services
Emeritus Accounting Professor
Loyola College in Maryland
BRice@Loyola.edu
410-617-2478

www.barryrice.com 

Facebook me! http://www.facebook.com/p/Barry_Rice/20102311


The following is a controversial quotation from http://www.cbs.dk/staff/hkacc/BOOK-ART.doc 

"The power of double-entry bookkeeping has been praised by many notable authors throughout history. In Wilhelm Meister, Goethe states, "What advantage does he derive from the system of bookkeeping by double-entry! It is among the finest inventions of the human mind"... Werner Sombart, a German economic historian, says, "... double-entry bookkeeping is borne of the same spirit as the system of Galileo and Newton" and "Capitalism without double-entry bookkeeping is simply inconceivable. They hold together as form and matter. And one may indeed doubt whether capitalism has procured in double-entry bookkeeping a tool which activates its forces, or whether double-entry bookkeeping has first given rise to capitalism out of its own (rational and systematic) spirit".

If, for a moment, one considers the credibility crisis of practical accounting, it would be quite impossible to dismiss the following paradox: the conflict between the enthusiastic praise of the system's strength on the one hand, and on the other, the many financial failures in the real world. How can such a powerful system, even when applied meticulously, still result in disasters? Although it is hardly necessary to argue more in favour of double-entry book-keeping, I still want to underline the two qualities of the system which I find are valid explanations of the system's very important and world-wide role in financial development for five centuries.

The Logic of Double-Entry Bookkeeping, by Henning Kirkegaard
Department of Financial & Management Accounting 
Copenhagen Business School 
Howitzvej 60

 

Along this same double-entry thread I might mention my mentor at Stanford.
Nobody I know holds the mathematical wonderment of double-entry and historical cost accounting more in awe than Yuji Ijiri.  For example, see Theory of Accounting Measurement, by Yuji Ijiri (Sarasota:  American Accounting Association Studies in Accounting Research No. 10, 1975).  

Dr. Ijirii also extended the concept to triple-entry bookkeeping in (Sarasota:  Triple-Entry Bookkeeping and Income Momentum
American Accounting Association Studies in Accounting Research No. 18, 1982).
http://accounting.rutgers.edu/raw/aaa/market/studar.htm
tm 

Also see the following:

Brush up your Shakespeare:  Medieval manuscripts to hit Internet
Stanford University Libraries, the University of Cambridge and Corpus Christi College, Cambridge, will make hundreds of medieval manuscripts, dating from the sixth through the 16th centuries, accessible on the Internet.
"Medieval manuscripts to hit Internet," Stanford Report, July 13, 2005 ---
http://news-service.stanford.edu/news/2005/july13/parker-071305.html

A summary of the medieval times and literature is available at http://en.wikipedia.org/wiki/Medieval


Brush up your Shakespeare:  Medieval manuscripts to hit Internet
Stanford University Libraries, the University of Cambridge and Corpus Christi College, Cambridge, will make hundreds of medieval manuscripts, dating from the sixth through the 16th centuries, accessible on the Internet.
"Medieval manuscripts to hit Internet," Stanford Report, July 13, 2005 ---
http://news-service.stanford.edu/news/2005/july13/parker-071305.html

A summary of the medieval times and literature is available at http://en.wikipedia.org/wiki/Medieval

May 28, 2005  reply from Barbara Scofield [scofield@GSM.UDALLAS.EDU]

Thank you for the notice about the availability of the medieval manuscripts on the Internet through the project Parker on the Web at Stanford University. Two manuscripts are currently available, and on page 11 of the English translation of Matthew Paris's "English History From 1235 to 1273" I have already found references to accounting (see below).

Accountants are still using the principle "under whatever name it may be called" and entities are still making up new names for inconvenient economic events in the hopes of avoiding full disclosure.

At this Catholic liberal arts university Shakespeare is modern, and the medieval world is revered, so I'm interested in gaining some insight into the medieval worldview.

Barbara W. Scofield, PhD, CPA
Associate Professor of Accounting
University of Dallas
1845 E. Northgate Irving, TX 75062
Braniff 262
scofield@gsm.udallas.edu 

 


Ancient Finance from Harvard Business School

From Jim Mahar's blog on May 17, 2006 --- http://financeprofessorblog.blogspot.com/

 
The HBS Working Knowledge site has an interesting article by William Goetzmann on financial instruments back in the time of the Romans and Greeks. For instance on checks:

...bankers' checks written in Greek on papyri appeared in ancient Egypt as far back as 250 B.C. Papyri preserved well in Egypt thanks to its arid climate, but Goetzmann thinks it's safe to say such checks changed hands throughout the Mediterranean world . . . So the whole tradition of bank checks predates the current era and has its roots at least in Hellenistic Greek times," he says.


Going Concern and Accrual Accounting Evolved in the 1500s

Limited liability Corporations (divorced professional management from ownership shares)

Speculation Fever
Fraud and corruption festered and grew with the trading of joint stock, especially after 1600 A.D.  The South Seas Company scandal (reporting stock sales as income and paying dividends out of capital) led to England's Bubble Act in 1720 A.D. that focused on misleading accounting practices that helped managers rip off investors, especially by crediting stock sales to income.

One of the earliest and probably the most famous accounting and investment scandal was the South Sea Bubble in 1720
From the Harvard University Business School
Sunk in Lucre's Sordid Charms: South Sea Bubble Resources in the Kress Collection at Baker Library --- http://www.library.hbs.edu/hc/ssb/

Free online textbooks, cases, and tutorials in accounting, finance, economics, and statistics --- http://www.trinity.edu/rjensen/ElectronicLiterature.htm#Textbooks

 

A nice timeline on the development of U.S. standards and the evolution of thinking about the income statement versus the balance sheet is provided at:
"The Evolution of U.S. GAAP: The Political Forces Behind Professional Standards (1930-1973)," by Stephen A. Zeff, CPA Journal, January 2005 --- http://www.nysscpa.org/cpajournal/2005/105/infocus/p18.htm
Part II covering years 1974-2003 published in February 2005 --- http://www.nysscpa.org/cpajournal/2005/205/index.htm 

Laissez-Faire Accounting survived endless debates and scandals until the Great Depression in 1933

After 1933, the AICPA and the SEC seriously attempted to generate accounting standards, enforce accounting standards, and provide academic justification for promulgated standards.

History of the U.S. Financial Accounting Standards Board (FASB) and earlier accounting standard setting in the United States --- http://www.trinity.edu/rjensen/Theory01.htm#AccountingHistory

July 16, 2008 message from Brady, Joseph [bradyj@LERNER.UDEL.EDU]

I recommend the book “More than a numbers game – a brief history of accounting”, by Thomas A. King. Mr. King traces the development of our accounting standards, from the railroad accounting era through Enron. King describes the major accounting controversies in each era. The reader gains an understanding of the differing points of view – academic, management, enforcement, public accountants, internal accountants. King writes clearly and is a good story teller, so the pace of the book is fast.

I used the book in a senior level accounting systems course last semester, covering all 15 chapters in 3 weeks. It would be possible to go somewhat faster by jettisoning some chapters, without loss of continuity. I am sure that all my 80 students learned from the book, and most said they enjoyed learning some of the profession’s history. I liked it because it allowed me to challenge students to think about what the nature of our reporting system and of that system’s limitations. In their four years, our students learn a lot of techniques and rules; the book puts these into context and I liked the book for that reason, too.

Mr. King began his career in public accounting. He is now Treasurer of Progressive Insurance.

Joe Brady
Accounting & MIS
Lerner College of Business & Economics
University of Delaware

 

In 1973 the International Accounting Standards Committee (IASC) was formed and evolved into the International Accounting Standards Board IASC) in 1981.
A Timeline of development can be found at http://www.trinity.edu/rjensen/FraudRotten.htm#DerivativesFrauds
H
istory of the International Accounting Standards Board (IASB) ---  http://www.iasb.org/About+Us/About+the+Foundation/History.htm

A more complete commentary on the history of the IASC and IASB by Paul Pacter --- http://www.trinity.edu/rjensen/acct5341/speakers/pacter.htm#001
lso see http://static.managementboek.nl/pdf/9780471726883.pdf

Some of the many, many lawsuits settled by auditing firms can be found at http://www.trinity.edu/rjensen/Fraud001.htm

 

Wow Online Accounting History Book (Free)
Thank you David A.R. Forrester for providing a great, full-length, and online book:
An Invitation to Accounting History --- http://accfinweb.account.strath.ac.uk/df/contents.html 
Note especially Section B2 --- "
Rational Administration, Finance And Control Accounting:  the Experience of Cameralism" --- http://accfinweb.account.strath.ac.uk/df/b2.html 

Forrester's great book is no longer free --- http://isbndb.com/d/book/an_invitation_to_accounting_history.html

Marivic D. Valenzuela-Manalo's Introduction to Accounting History book is free --- http://www.scribd.com/doc/8284374/Unit-I-Introduction-to-Accounting

A nice timeline of accounting history --- http://www.docstoc.com/docs/2187711/A-HISTORY-OF-ACCOUNTING

Accounting history lecture worth noting --- http://newman.baruch.cuny.edu/digital/saxe/saxe_1978/baxter_79.htm

The for-free IASC comparison study of IAS 39 versus FAS 133 (by Paul Pacter) at http://www.iasc.org.uk/news/cen8_142.htm

The non-free FASB comparison study of all standards entitled The IASC-U.S. Comparison Project: A Report on the Similarities and Differences between IASC Standards and U.S. GAAP
SECOND EDITION, (October 1999) at http://stores.yahoo.com/fasbpubs/publications.html 

In 1999 the Joint Working Group of the Banking Associations sharply rebuffed the IAS 39 fair value accounting in two white papers that can be downloaded from http://www.iasc.org.uk/frame/cen3_112.htm.

Also see the Financial Accounting Standards Board (FASB) and the International Federation of Accountants Committee (IFAC).

Side by Side: IAS 39 Compared with FASB Standards (FAS 133), by Paul Pacter, as published in Accountancy International Magazine, June 1999 --- http://www.iasc.org.uk/news/cen8_142.htm 
Also note "Comparisons of International IAS Versus FASB Standards" --- http://www.deloitte.com/dtt/cda/doc/content/pocketiasus.pdf

October 21, 2005 message from Scott Bonacker [lister@BONACKERS.COM]

I remember a thread or two asking for information on historical figures or accounting heros or something like that. I couldn't come up with the right key words to find it by searching the archives unfortunately.

When I saw this article, I thought this was someone that should be included:


"Mary T. Washington of Chicago stepped bravely beyond race and gender boundaries in 1943, becoming the first black female certified public accountant in the United States. Washington, 99 years old when she died in late July, first opened an accounting practice for African-American clients in her basement while working on her college degree.

Washington lived and led in a world not yet here, creating what her business partner later called an "underground railroad" for aspiring black CPAs.
...."

Read the rest at: 

http://www.sojo.net/index.cfm?action=magazine.article&issue=soj0511&article=051149
 

October 21, 2005 reply from Bob Jensen

Hi Scott,

Although there are probably various interesting sites such as those you mentioned, there are several sites that are of particular interest with respect to famous accounting practitioners and academics.

The OSU Accounting Hall of Fame
It should be noted that members elected to this Hall of Fame include famous accountants from around the world --- http://fisher.osu.edu/acctmis/hall/ 

U.K. Accounting Hall of Fame
Professors David Otley and Ken Peasnell of the Department of Accounting and Finance are two of the fourteen founding members of the British Accounting Association’s Hall of Fame. The ceremony took place at the British Accounting Association 2004 Annual conference at York in April 2004 --- http://www.lums.lancs.ac.uk/news/3806/ 

Michigan State Video Archive
I've not yet seen anything about other accounting Hall of Fame sites. Michigan State University has a video archive of famous accountants. These accountants were invited to campus and then taped live. I don't think any of this footage is available online, but it would be a nice thing to do now that digitization hardware is so inexpensive. Don Edwards (U. of Georgia) probably knows more about these videos than anybody else.

A few accountants who became famous in fields other than accounting are listed at http://www.educationwithattitude.com/catch/accounting.asp 

The above site missed my favorite accounting celebrity John Cleese
The Unofficial Monty Python Website --- http://www.educationwithattitude.com/catch/accounting.asp

Note especially The Accountancy Shanty (audio) at http://www.educationwithattitude.com/catch/accounting.asp 

Bob Jensen

October 23, 2005 reply from Tom Sentman [TSentman@MSN.COM]

Here is a historical figure for consideration. While not a CPA, Luca Pacioli is considered to be the father of accounting. Although he did not invent dual-entry accounting, he described the system as we know it today. I always use this question on my tests.

Visit http://acct.tamu.edu/smith/ethics/pacioli.htm  for more.

Cheers,

Tom Sentman


One of the early contributors to value theory in accounting was Theodore Limperg from Holland.

The social responsibility of the auditor: A basic theory on the auditor's function  by Theodore Limpberg ((Hard to Find, but no doubt Steve Zeff has a copy. Steve is an expert on accounting in The Netherlands). A copy no doubt is also on file at the Accounting History Libraries at the University of Mississippi (Ole Miss) --- http://www.olemiss.edu/depts/accountancy/libraries.html


Question
How does accounting for time differ from accounting for money?
Remember those Taylor and Gilbreth time and motion studies in cost accounting.
How has time accounting changed in the workplace (or should change)?

The link below was forwarded by Gregory Morrison at Trinity University

Studies have shown the alarming extent of the problem: office workers are no longer able to stay focused on one specific task for more than about three minutes, which means a great loss of productivity. The misguided notion that time is money actually costs us money.
"Time Out of Mind," by Stefan Klein, The New York Times, March 7, 2008 --- Click Here

In 1784, Benjamin Franklin composed a satire, “Essay on Daylight Saving,” proposing a law that would oblige Parisians to get up an hour earlier in summer. By putting the daylight to better use, he reasoned, they’d save a good deal of money — 96 million livres tournois — that might otherwise go to buying candles. Now this switch to daylight saving time (which occurs early Sunday in the United States) is an annual ritual in Western countries.

Even more influential has been something else Franklin said about time in the same year: time is money. He meant this only as a gentle reminder not to “sit idle” for half the day. He might be dismayed if he could see how literally, and self-destructively, we take his metaphor today. Our society is obsessed as never before with making every single minute count. People even apply the language of banking: We speak of “having” and “saving” and “investing” and “wasting” it.

But the quest to spend time the way we do money is doomed to failure, because the time we experience bears little relation to time as read on a clock. The brain creates its own time, and it is this inner time, not clock time, that guides our actions. In the space of an hour, we can accomplish a great deal — or very little.

Inner time is linked to activity. When we do nothing, and nothing happens around us, we’re unable to track time. In 1962, Michel Siffre, a French geologist, confined himself in a dark cave and discovered that he lost his sense of time. Emerging after what he had calculated were 45 days, he was startled to find that a full 61 days had elapsed.

To measure time, the brain uses circuits that are designed to monitor physical movement. Neuroscientists have observed this phenomenon using computer-assisted functional magnetic resonance imaging tomography. When subjects are asked to indicate the time it takes to view a series of pictures, heightened activity is measured in the centers that control muscular movement, primarily the cerebellum, the basal ganglia and the supplementary motor area. That explains why inner time can run faster or slower depending upon how we move our bodies — as any Tai Chi master knows.

Time seems to expand when our senses are aroused. Peter Tse, a neuropsychologist at Dartmouth, demonstrated this in an experiment in which subjects were shown a sequence of flashing dots on a computer screen. The dots were timed to occur once a second, with five black dots in a row followed by one moving, colored one. Because the colored dot appeared so infrequently, it grabbed subjects’ attention and they perceived it as lasting twice as long as the others did.

Another ingenious bit of research, conducted in Germany, demonstrated that within a brief time frame the brain can shift events forward or backward. Subjects were asked to play a video game that involved steering airplanes, but the joystick was programmed to react only after a brief delay. After playing a while, the players stopped being aware of the time lag. But when the scientists eliminated the delay, the subjects suddenly felt as though they were staring into the future. It was as though the airplanes were moving on their own before the subjects had directed them to do so.

The brain’s inclination to distort time is one reason we so often feel we have too little of it. One in three Americans feels rushed all the time, according to one survey. Even the cleverest use of time-management techniques is powerless to augment the sum of minutes in our life (some 52 million, optimistically assuming a life expectancy of 100 years), so we squeeze as much as we can into each one.

Believing time is money to lose, we perceive our shortage of time as stressful. Thus, our fight-or-flight instinct is engaged, and the regions of the brain we use to calmly and sensibly plan our time get switched off. We become fidgety, erratic and rash.

Tasks take longer. We make mistakes — which take still more time to iron out. Who among us has not been locked out of an apartment or lost a wallet when in a great hurry? The perceived lack of time becomes real: We are not stressed because we have no time, but rather, we have no time because we are stressed.

Studies have shown the alarming extent of the problem: office workers are no longer able to stay focused on one specific task for more than about three minutes, which means a great loss of productivity. The misguided notion that time is money actually costs us money.

And it costs us time. People in industrial nations lose more years from disability and premature death due to stress-related illnesses like heart disease and depression than from other ailments. In scrambling to use time to the hilt, we wind up with less of it.

Continued in article

March 12, 2008 reply from David Albrecht [albrecht@PROFALBRECHT.COM]

For those who don't remember these time and motion studies (about 100 years ago), here is a summary:  http://www.netmba.com/mgmt/scientific/

Pondering your question, I keep coming back to a humorous story I read in Reader's Digest years ago.  A person's car breaks down and a mechanic with a fine reputation is summoned.  The mechanic looks over the engine, pulls out a screwdriver, and in about three seconds tightens a screw.  The mechanic then hands the driver a bill for several hundred dollars.  The driver complains about paying so much for so little of the mechanic's time.  The mechanic replies that the itemization was $0.10 for the act of tightening the screw, and hundreds of dollars for knowing what to tighten.

At this time I refrain from saying much about the Empire Club and it's ability to charge thousands of dollars per hour for the time of its models.  I'm wondering if Governor Spitzer maintained personal financials according to GAAP, would he have reported his time involvement with Empire Club as a contingent liability.

Bob, you're retired and on pension, I'm still employed and getting paid.  The time you spend surfing, writing and sharing on AECM is unrecompensed, but mine is not.  Yet, you provide much more value to AECM than I.

David Albrecht


How Foucault, Derrida, Deleuze, & Co. Transformed the Intellectual Life of the United States
"French Theory," by Scott McLemee, Inside Higher Ed, April 17, 2008 --- http://www.insidehighered.com/views/2008/04/16/mclemee

Last week, while rushing to finish up a review of Francois Cusset’s French Theory: How Foucault, Derrida, Deleuze, & Co. Transformed the Intellectual Life of the United States (University of Minnesota Press), I heard that Stanley Fish had just published a column about the book for The New York Times. Of course the only sensible thing to do was to ignore this development entirely. The last thing you need when coming to the end of a piece of work is to go off and do some more reading. The inner voice suggesting that is procrastination disguised as conscientiousness. Better, sometimes, to trust your own candlepower — however little wax and wick you may have left.

Once my own cogitations were complete (the piece will run in the next issue of Bookforum), of course, I took a look at the Times Web site. By then, Fish’s column had drawn literally hundreds of comments. This must warm some hearts in Minnesota. Any publicity is good publicity as long as they spell your name right — so this must count as great publicity, especially since French Theory itself won’t actually be available until next month.

But in other ways it is unfortunate. Fish and his interlocutors reduce Cusset’s rich, subtle, and paradox-minded book (now arriving in translation) into one more tale of how tenured pseudoradicalism rose to power in the United States. Of course there is always an audience for that sort of thing. And it is true that Cusset – who teaches intellectual history at the Institute d’Etudes Politiques and at Reid Hall/Columbia University, in Paris – devotes some portions of the book to explaining American controversies to his French readers. But that is only one aspect of the story, and by no means the most interesting or rewarding.

When originally published five years ago, the cover of Cusset’s book bore the slightly strange words French Theory. That the title of a French book was in English is not so much lost in translation as short-circuited by it. The bit of Anglicism is very much to the point: this is a book about the process of cultural transmission, distortion, and return. The group of thinkers bearing the (American) brand name “French Theory” would not be recognized at home as engaged in a shared project, or even forming a cohesive group. Nor were they so central to cultural and political debate there, at least after the mid-1970s, as they were to become for academics in the United States. So the very existence of a phenomenon that could be called “French Theory” has to be explained.

To put it another way: the very category of “French Theory” itself is socially constructed. Explaining how that construction came to pass is Cusset’s project. He looks at the process as it unfolded at various levels of academic culture: via translations and anthologies, in certain disciplines, with particular sponsors, and so on. Along the way, he recounts the American debates over postmodernism, poststructuralism, and whatnot. But those disputes are part of his story, not the point of it. While offering an outsider’s perspective on our interminable culture wars, it is more than just a chronicle of them..

Instead, it would be much more fitting to say that French Theory is an investigation of the workings of what C. Wright Mills called the “cultural apparatus.” This term, as Mills defined it some 50 years ago, subsumes all the institutions and forms of communication through which “learning, entertainment, malarky, and information are produced and distributed ... the medium by which [people] interpret and report what they see.” The academic world is part of this “apparatus,” but the scope of the concept is much broader; it also includes the arts and letters, as well as the media, both mass and niche.

The inspiration for Cusset’s approach comes from the French sociologist Pierre Bourdieu, rather than Mills, his distant intellectual cousin from Texas. Even so, the book is in some sense more Millsian in spirit than the author himself may realize. Bourdieu preferred to analyze the culture by breaking it up into numerous distinct “fields” – with each scholarly discipline, art form, etc. constituting a separate sub-sector, following more or less its own set of rules. By contrast, Cusset, like Mills, is concerned with how the different parts of American culture intersect and reinforce one another, even while remaining distinct. (I didn’t say any of this in my review, alas. Sometimes the best ideas come as afterthoughts.)

The boilerplate account of how poststructuralism came to the United States usually begins with visit of Lacan, Derrida, and company to Johns Hopkins University for a conference in 1966 – then never really imagines any of their ideas leaving campus. By contrast, French Theory pays attention to how their work connected up with artists, musicians, writers, and sundry denizens of various countercultures. Cusset notes the affinity of “pioneers of the technological revolution” for certain concepts from the pomo toolkit: “Many among them, whether marginal academics or self-taught technicians, read Deleuze and Guattari for their logic of ‘flows’ and their expanded definition of ‘machine,’ and they studied Paul Virilio for his theory of speed and his essays on the self-destruction of technical society, and they even looked at Baudrillard’s work, in spite of his legendary technological incompetence.”

And a particularly sharp-eyed chapter titled “Students and Users” offers an analysis of how adopting a theoretical affiliation can serve as a phase in the psychodrama of late adolescence (a phase of life with no clearly marked termination point, now). To become Deleuzian or Foucauldian, or what have you, is not necessarily a step along the way to the tenure track. It can also serve as “an alternative to the conventional world of career-oriented choices and the pursuit of top grades; it arms the student, affectively and conceptually, against the prospect of alienation that looms at graduation under the cold and abstract notions of professional ambition and the job market....This relationship with knowledge is not unlike Foucault’s definition of curiosity: ‘not the curiosity that seeks to assimilate what it is proper for one to know, but that which enables one to get free of oneself’....”

Much of this will be news, not just to Cusset’s original audience in France, but to readers here as well. There is more to the book than another account of pseudo-subversive relativism and neocon hyperventilation. In other words, French Theory is not just another Fish story. It deserves a hearing — even, and perhaps especially, from people who have already made up their minds about “deconstructionism,” whatever that may be.

You can read more about Michael Foucault at http://en.wikipedia.org/wiki/Michel_Foucault

You can read about post-structuralism at http://en.wikipedia.org/wiki/Post-structuralism

You can read about post-modernism at http://en.wikipedia.org/wiki/Postmodernism

Jensen Comment
It's pretty difficult to trace these French theories to accounting research and scholarship, but the leading accounting professor trying to do so is probably my former doctoral student Ed Arrington who even moved to Europe for a while to carry on his studies in these theories --- http://www.uncg.edu/bae/acc/accfacul.htm#arrington

A Google search turns up some of his publications in this area as they relate to accounting, economics, and business. His publications also branch off into other areas since Ed has wide ranging interests and is an excellent speaker as well as a researcher and writer. His thesis was an application of the Analytic Hierarchy Process in decision modelling, but he's expanded well beyond that since he got his PhD. http://en.wikipedia.org/wiki/Analytic_Hierarchy_Process
For years my interests and publications were in AHP, although in latter years I was mostly critical of Saaty's precious and arbitrary eigenvector mathematical scaling (but I was not critical of Ed's thesis).


Selling New Equity to Pay Dividends:  Reminds Me About the South Sea Bubble of 1720 ---
http://en.wikipedia.org/wiki/South_Sea_bubble

"Fooling Some People All the Time"

"Melting into Air:  Before the financial system went bust, it went postmodern," by John Lanchester, The New Yorker, November 10, 2008 --- http://www.newyorker.com/arts/critics/atlarge/2008/11/10/081110crat_atlarge_lanchester

This is also why the financial masters of the universe tend not to write books. If you have been proved—proved—right, why bother? If you need to tell it, you can’t truly know it. The story of David Einhorn and Allied Capital is an example of a moneyman who believed, with absolute certainty, that he was in the right, who said so, and who then watched the world fail to react to his irrefutable demonstration of his own rightness. This drove him so crazy that he did what was, for a hedge-fund manager, a bizarre thing: he wrote a book about it.

The story began on May 15, 2002, when Einhorn, who runs a hedge fund called Greenlight Capital, made a speech for a children’s-cancer charity in Hackensack, New Jersey. The charity holds an annual fund-raiser at which investment luminaries give advice on specific shares. Einhorn was one of eleven speakers that day, but his speech had a twist: he recommended shorting—betting against—a firm called Allied Capital. Allied is a “business development company,” which invests in companies in their early stages. Einhorn found things not to like in Allied’s accounting practices—in particular, its way of assessing the value of its investments. The mark-to-market accounting that Einhorn favored is based on the price an asset would fetch if it were sold today, but many of Allied’s investments were in small startups that had, in effect, no market to which they could be marked. In Einhorn’s view, Allied’s way of pricing its holdings amounted to “the you-have-got-to-be-kidding-me method of accounting.” At the same time, Allied was issuing new equity, and, according to Einhorn, the revenue from this could be used to fund the dividend payments that were keeping Allied’s investors happy. To Einhorn, this looked like a potential Ponzi scheme.

The next day, Allied’s stock dipped more than twenty per cent, and a storm of controversy and counter-accusations began to rage. “Those engaging in the current misinformation campaign against Allied Capital are cynically trying to take advantage of the current post-Enron environment by tarring a great and honest company like Allied Capital with the broad brush of a Big Lie,” Allied’s C.E.O. said. Einhorn would be the first to admit that he wanted Allied’s stock to drop, which might make his motives seem impure to the general reader, but not to him. The function of hedge funds is, by his account, to expose faulty companies and make money in the process. Joseph Schumpeter described capitalism as “creative destruction”: hedge funds are destructive agents, predators targeting the weak and infirm. As Einhorn might see it, people like him are especially necessary because so many others have been asleep at the wheel. His book about his five-year battle with Allied, “Fooling Some of the People All of the Time” (Wiley; $29.95), depicts analysts, financial journalists, and the S.E.C. as being culpably complacent. The S.E.C. spent three years investigating Allied. It found that Allied violated accounting guidelines, but noted that the company had since made improvements. There were no penalties. Einhorn calls the S.E.C. judgment “the lightest of taps on the wrist with the softest of feathers.” He deeply minds this, not least because the complacency of the watchdogs prevents him from being proved right on a reasonable schedule: if they had seen things his way, Allied’s stock price would have promptly collapsed and his short selling would be hugely profitable. As it was, Greenlight shorted Allied at $26.25, only to spend the next years watching the stock drift sideways and upward; eventually, in January of 2007, it hit thirty-three dollars.

All this has a great deal of resonance now, because, on May 21st of this year, at the same charity event, Einhorn announced that Greenlight had shorted another stock, on the ground of the company’s exposure to financial derivatives based on dangerous subprime loans. The company was Lehman Brothers. There was little delay in Einhorn’s being proved right about that one: the toppling company shook the entire financial system. A global cascade of bank implosions ensued—Wachovia, Washington Mutual, and the Icelandic banking system being merely some of the highlights to date—and a global bailout of the entire system had to be put in train. The short sellers were proved right, and also came to be seen as culprits; so was mark-to-market accounting, since it caused sudden, cataclysmic drops in the book value of companies whose holdings had become illiquid. It is therefore the perfect moment for a short-selling advocate of marking to market to publish his account. One can only speculate whether Einhorn would have written his book if he had known what was going to happen next. (One of the things that have happened is that, on September 30th, Ciena Capital, an Allied portfolio company to whose fraudulent lending Einhorn dedicates many pages, went into bankruptcy; this coincided with a collapse in the value of Allied stock—finally!—to a price of around six dollars a share.) Given the esteem with which Einhorn’s profession is regarded these days, it’s a little as if the assassin of Archduke Franz Ferdinand had taken the outbreak of the First World War as the timely moment to publish a book advocating bomb-throwing—and the book had turned out to be unexpectedly persuasive.


While leading Price Waterhouse, he called for regulation of the then-Big Eight public accounting firms, stated that auditors duck responsibility for fraud, and expressed disapproval of the work of the FASB.

Before reading this you might want to read the biography of a former Price Waterhouse CEO and United Nations Under-Secretary-General for Management named Joseph E. Connor ---
http://www.un.org/News/ossg/sg/stories/connor_bio.html

From The Wall Street Journal Accounting Weekly Review on May 26, 2009

Accounting Executive Led an Overhaul at the U.N.
by Stephen Miller
The Wall Street Journal

May 23, 2009
Click here to view the full article on WSJ.com

TOPICS: Accounting, Audit Firms, Auditing, Ethics, Public Accounting, Public Accounting Firms

SUMMARY: This obituary describes a man who led Price Waterhouse prior to its merger with Coopers & Lybrand, then went on to lead administration at the U.N., significantly improving its operational efficiencies. While leading Price Waterhouse, he called for regulation of the then-Big Eight public accounting firms, stated that auditors duck responsibility for fraud, and expressed disapproval of the work of the FASB.

CLASSROOM APPLICATION: The article can be used to introduce the big public accounting firms, their role in society and financial markets, and the leadership abilities that the accounting and auditing professions can develop. The need for accountants' and auditors' ethical strengths also can be made evident using this piece.

QUESTIONS: 
1. (Introductory) What firm did Mr. Connor, the subject of this obituary, lead? With what other public accounting firm did Mr. Connor's firm merge?

2. (Introductory) What are the names of the other large public accounting firms presently operating in the U.S.?

3. (Advanced) Consider Mr. Connor's position in 1978 that public accounting was "becoming a semi-public institution." How are public accounting firms operated? How are their operations regulated? Consider in particular, the public firms that audit the companies that are publicly-traded on U.S. exchanges.

4. (Advanced) Mr. Connor also argued that "auditors duck responsibility for fraud." What steps must an auditor take when fraud is detected? Have those requirements changed over time?

5. (Advanced) When he moved to the U.N., Mr. Connor described the operation as "precariously balanced" with "no capital and no reserves." What do these statements mean?

6. (Advanced) How difficult do you think it was for Mr. Connor to express the opinions he stated during his career? How have his arguments borne out over time?

Reviewed By: Judy Beckman, University of Rhode Island

"Accounting Executive Led an Overhaul at the U.N.," by Stephen Miller, The Wall Street Journal, May 23, 2009 --- http://online.wsj.com/article/SB124303178202948519.html?mod=djem_jiewr_AC

Joseph E. Connor, who died May 6 at age 77, was a reform-minded chairman of Price Waterhouse & Co. who went on to lead a restructuring at the United Nations as Undersecretary General for Administration and Management.

At the U.N., where he served from 1994 to 2002, Mr. Connor oversaw a reduction in staffing in what was generally seen by U.S. officials as a bloated institution. Relations got so bad that the U.S. for years underpaid its dues in protest until reforms instituted by Mr. Connor led the U.S. to pay arrears in 1999. Mr. Connor's was a loud and insistent voice that Washington pay up.

"His private-sector experience was invaluable," said former U.N. secretary general Kofi Annan, who credits Mr. Connor with introducing modern management practices.

At Price Waterhouse, where Mr. Connor was chairman for a decade starting in 1978, he became a lightning rod by advocating increased public oversight of the "Big Eight" accounting firms that dominated audits of public companies. "We must recognize that we have become a semi-public institution," he told Fortune in 1978.

He testified on accounting rules before Congress and was critical of the Financial Accounting Standards Board, a professional rule-maker. He also urged that accountants should publicly reveal fraud when they detected it in their clients' books.

"Auditors have been ducking responsibility for fraud for too long," he told the Independent newspaper in 1988. He added that when he had said such things publicly in the past, "I had to buy myself a lot of lunches for some time afterwards."

As a freshly minted Columbia University M.B.A. in 1956, Mr. Connor went to work at Price Waterhouse in New York. He became a partner in 1967 and was put in charge of the firm's Western U.S. operations in 1975. There his responsibilities included overseeing the Price Waterhouse partner who counted the votes for the Academy Awards, though he never knew the winners in advance himself, family members say. His own practice included auditing Exxon and the World Bank.

As Price Waterhouse chairman, Mr. Connor reduced bureaucracy, even while the firm was doubling from 400 to 800 partners. In 1988, he was elected chairman of the Price Waterhouse World Firm, which coordinates the activities of the company's local partnerships around the globe.

"Our slogan since we began has been, 'Be strong in the capital exporting countries,'" he told the Journal of Commerce in 1987, adding that he was planning to promote business in Germany and Japan.

Experienced as he was with auditing top firms, Mr. Connor found the U.N. a rude awakening. "I've never seen anything so precariously balanced at this scale," he told the New York Times in 1995. "There's no capital and no reserves." He was forced to divert money meant for peacekeeping to staff salaries, and publicly compared such financial legerdemain to a Ponzi scheme.

In addition to hectoring American officials into paying the U.S.'s bills, Mr. Connor also proposed selling bonds based on U.S. and other nations' U.N. obligations. The idea came to naught as the U.N. charter doesn't envision dealing with financial markets.

Bob Jensen's threads on auditor professionalism and independence are at http://www.trinity.edu/rjensen/fraud001.htm#Professionalism

Bob Jensen's threads on fraud are at
http://www.trinity.edu/rjensen/fraud.htm

 


"FASB and IASB Issue Discussion Paper on Financial Statement Presentation,"  by Mark Crowley and Stephen McKinney, Deloitte & Touche LLP, Heads Up, November 10, 2008 Vol. 15, Issue 40 --- http://www.iasplus.com/usa/headsup/headsup0811presentationdp.pdf

Radical Changes in Financial Reporting --- http://www.trinity.edu/rjensen/Theory01.htm#ChangesOnTheWay
Yipes! Net earnings and eps will no longer be derived and presented. It's like getting your kids report card with summaries of his/her weekly activities and no final grade


Bob Jensen's threads on the collapse of the Banking System are at http://www.trinity.edu/rjensen/2008Bailout.htm

Bob Jensen's threads on fraud are at http://www.trinity.edu/rjensen/Fraud.htm
Also see Fraud Rotten at http://www.trinity.edu/rjensen/FraudRotten.htm

Bob Jensen's threads on accounting theory are at http://www.trinity.edu/rjensen/theory01.htm
Also see the theory of fair value accounting at http://www.trinity.edu/rjensen/theory01.htm#FairValue

History of Fraud in America ---  http://www.trinity.edu/rjensen/415wp/AmericanHistoryOfFraud.htm

 


"A history of U.S. higher education in accounting, Part I: Situating accounting within the academy," by Glenn Van Wyhe, Issues in Accounting Education (May 2007): pp. 165–182.

"A History of U.S. Higher Education in Accounting, Part II: Reforming Accounting within the Academy," by Glenn Van Wyhe,  Issues in Accounting Education (August 2008): pp. 481–501

See Accounting History Publications list 1998 --- http://findarticles.com/p/articles/mi_qa3933/is_199905/ai_n8843886

A substantial listing of history papers is available from the Institute of Chartered Accountants --- http://www.icaew.co.uk/library/index.cfm?AUB=TB2I_27022

Accounting Historians Journal --- http://accounting.rutgers.edu/raw/aah/

The University of Sydney's Accounting Foundation provides some accounting history publications --- http://www.econ.usyd.edu.au/af /

History of Information Technology in Auditing (EDP Auditing) --- http://en.wikipedia.org/wiki/History_of_information_technology_auditing

For additional information on the history of accountancy and the accountancy profession see http://en.wikipedia.org/wiki/Accounting

Fractal --- http://en.wikipedia.org/wiki/Fractal

Question
Why do markets misbehave? How should you measure market risk? And what’s wrong with academic finance?

These are a few questions that polymath Benoit Mandelbrot addresses in the fascinating book The Misbehavior of Markets. Mandelbrot suggests all of these questions can be properly understood by rejecting the standard assumptions of academic finance and instead using a “fractal view” of risk and markets.
"The Misbehavior of Markets," Simoleon Sense, April 6, 2009 --- http://www.simoleonsense.com/

Fractals are at the heart of this book. Fractal geometry is a form of mathematics developed by Mandelbrot that deals with rough but highly self-similar structures like trees, coastlines, and mountains. Fractals have helped explain a wide range of natural phenomena and revolutionized computer graphics, influencing movies like Star Wars Episode III. There is room for more applications in this early science, and fractals may help explain the jagged but predictably irrational patterns in the stock market, claims Mandelbrot.

In this book, Mandelbrot contends that fractals are the key to modeling the market. The interesting part is that Mandelbrot does not merely explain why he’s right but he goes to great length to explain why others-those using the standard theories of academic finance-are wrong. Mandelbrot offers interesting history, anecdotes, trivia, and beautiful illustrations to make his case. The stock market does not act like a random walk, he says, but rather it’s like the flight of an arrow down an infinite hallway. It sounds a bit abstract at first, but this is exactly where the book shines. There are stories and illustrations that make such abstract concepts easily understandable. I literally felt smarter after reading each chapter…

 

Peter, Paul, and Barney: An Essay on 2008 U.S. Government Bailouts of Private Companies ---
http://www.trinity.edu/rjensen/2008Bailout.htm


Instead of adding more regulating agencies, I think we should simply make the FBI tougher on crime and the IRS tougher on cheats

Our Main Financial Regulating Agency:  The SEC Screw Everybody Commission
One of the biggest regulation failures in history is the way the SEC failed to seriously investigate Bernie Madoff's fund even after being warned by Wall Street experts across six years before Bernie himself disclosed that he was running a $65 billion Ponzi fund.

CBS Sixty Minutes on June 14, 2009 ran a rerun that is devastatingly critical of the SEC. If you’ve not seen it, it may still be available for free (for a short time only) at http://www.cbsnews.com/video/watch/?id=5088137n&tag=contentMain;cbsCarousel
The title of the video is “The Man Who Would Be King.”

Between 2002 and 2008 Harry Markopolos repeatedly told (with indisputable proof) the Securities and Exchange Commission that Bernie Madoff's investment fund was a fraud. Markopolos was ignored and, as a result, investors lost more and more billions of dollars. Steve Kroft reports.

Markoplos makes the SEC look truly incompetent or outright conspiratorial in fraud.

I'm really surprised that the SEC survived after Chris Cox messed it up so many things so badly.

As Far as Regulations Go

An annual report issued by the Competitive Enterprise Institute (CEI) shows that the U.S. government imposed $1.17 trillion in new regulatory costs in 2008. That almost equals the $1.2 trillion generated by individual income taxes, and amounts to $3,849 for every American citizen. According the 2009 edition of Ten Thousand Commandments: An Annual Snapshot of the Federal Regulatory State, the government issued 3,830 new rules last year, and The Federal Register, where such rules are listed, ballooned to a record 79,435 pages. “The costs of federal regulations too often exceed the benefits, yet these regulations receive little official scrutiny from Congress,” said CEI Vice President Clyde Wayne Crews, Jr., who wrote the report. “The U.S. economy lost value in 2008 for the first time since 1990,” Crews said. “Meanwhile, our federal government imposed a $1.17 trillion ‘hidden tax’ on Americans beyond the $3 trillion officially budgeted” through the regulations.
 Adam Brickley, "Government Implemented Thousands of New Regulations Costing $1.17 Trillion in 2008," CNS News, June 12, 2009 ---
http://www.cnsnews.com/public/content/article.aspx?RsrcID=49487

Jensen Comment
I’m a long-time believer that industries being regulated end up controlling the regulating agencies. The records of Alan Greenspan (FED) and the SEC from Arthur Levitt to Chris Cox do absolutely nothing to change my belief ---
http://www.trinity.edu/rjensen/FraudRotten.htm

How do industries leverage the regulatory agencies?
The primary control mechanism is to have high paying jobs waiting in industry for regulators who play ball while they are still employed by the government. It happens time and time again in the FPC, EPA, FDA, FAA, FTC, SEC, etc. Because so many people work for the FBI and IRS, it's a little harder for industry to manage those bureaucrats. Also the FBI and the IRS tend to focus on the worst of the worst offenders whereas other agencies often deal with top management of the largest companies in America.


Don't toss hedge accounting just because it's complicated

I have trouble with Tom’s argument to toss out hedge accounting in FAS 133 and IAS 39 --- Click Here
 http://accountingonion.typepad.com/theaccountingonion/2009/06/regulate-derivatives-start-with-better-accounting.html

It’s foolish not to book and maintain derivatives at fair value since in the 1980s and early 1990s derivatives were becoming the primary means of off-balance-sheet financing with enormous risks unreported financial risks, especially interest rate swaps and forward contracts and written options. Purchased options were less of a problem since risk was capped.

Tom’s argument for maintaining derivatives at fair value even if they are hedges is not a problem if the hedged items are booked and maintained at fair value such as when a company enters into a forward contracts to hedge its inventories of precious metals.

But Tom and I part company when the hedged item is not even booked, which is the case for the majority of hedging contracts. Accounting tradition for the most part does not hedge forecasted transactions such as plans to purchase a million gallons of jet fuel in 18 months or plans to sell $10 million notionals in bonds three months from now. Hedged items cannot be carried on the balance sheet at fair value if they are not even booked. And there is good reason why we do not want purchase contracts and forecasted transactions booked. Reason number 1 is that we do not want to book executory contracts and forecasted transactions that are easily broken for zero or at most a nominal penalties relative to the notionals involved. For example, when Dow Jones contracted to buy newsprint (paper) from St Regis Paper Company for the next 20 years, some trees to be used for the paper were not yet planted. If Dow Jones should break the contract, the penalty damages might be less than one percent of the value of a completed transaction.

Now suppose Southwest Airlines has a forecasted transaction (not even a contract) to purchase a million gallons of jet fuel in 18 months. Since it has cash flow risk, it enters into a derivative contract (usually purchased option in the case of Southwest) to hedge the unknown fuel price of this forecasted transaction. FAS 133 and IAS 39 require the booking of the derivative as a cash flow hedge and maintaining it at fair value. The hedged item is not booked. Hence, the impact on earnings for changes in the value would be asymmetrical unless the changes in value of the derivative were “deferred” in OCI as permitted as “hedge accounting” under FAS 133 and IAS 39.

If there were no “hedge accounting,” Southwest Airlines would be greatly punished for hedging cash flow by having to report possibly huge variations in earnings at least quarterly when in fact there is no cash flow risk because of the hedge. Reported interim earnings would be much more stable if Southwest did not hedge cash flow risk. But not hedging cash flow risk due to financial reporting penalties is highly problematic. Economic and accounting hit head on for no good reason, and this collision was avoided by FAS 133 and IAS 39.

Since the majority of hedging transactions are designed to hedge cash flow or fair value risk, it makes no sense to me to punish companies for hedging and encouraging them to instead speculate in forecasted transactions and firm commitments (unbooked purchase contracts at fixed prices).

The FASB originally, when the FAS 133 project was commenced, wanted to book all derivative contracts and maintain them at fair value with no alternatives for hedge accounting. FAS 133 would’ve been about 20 pages long and simple to implement. But companies that hedge voiced huge and very well-reasoned objections. The forced FAS 133 and its amending standards to be over 2,000 pages and hellishly complicated.

But this is one instance where hellish complications are essential in my viewpoint. We should not make the mistake of tossing out hedge accounting because the standards are complicated. There are some ways to simplify the standards, but hedge accounting standards cannot be as simple as most other standards. The reason is that there are thousands of different types of hedging contracts, and a simple baby formula for nutrition just will not suffice in the case of all these types of hedging contracts.

 Bob Jensen's free tutorials and videos for FAS 133 and IAS 39 are at
http://www.trinity.edu/rjensen/caseans/000index.htm


Are accounting educators and standard setters commencing to bury their heads in the sand?

Meanwhile, FASB chairman Robert Herz, also on the panel, drew a distinction between "avoidable" and "unavoidable" complexity in financial reporting. Some complexity is a given because "the world of business and finance is not simple, and not getting any simpler, and you've got to have reporting that faithfully tries to report that; you can't just dumb it down."
"Companies Exasperate SEC Accounting Chief: He chides them for citing accounting standards that "few people understand" in their financials and for their puzzling apathy on IFRS," CFO.com, July 17, 2009 --- http://www.cfo.com/archives/directory.cfm/2984368

That is how innovation often proceeds — by learning from errors and hazards and gradually conquering problems through devices of increasing complexity and sophistication.
Yale Professor Robert Shiller, "Financial Invention vs. Consumer Protection," The New York Times, July 18, 2009 ---
http://www.nytimes.com/2009/07/19/business/economy/19view.html?_r=1

JAMES WATT, who invented the first practical steam engine in 1765, worried that high-pressure steam could lead to major explosions. So he avoided high pressure and ended up with an inefficient engine.

It wasn’t until 1799 that Richard Trevithick, who apprenticed with an associate of Watt, created a high-pressure engine that opened a new age of steam-powered factories, railways and ships.

That is how innovation often proceeds — by learning from errors and hazards and gradually conquering problems through devices of increasing complexity and sophistication.

Our financial system has essentially exploded, with financial innovations like collateralized debt obligations, credit default swaps and subprime mortgages giving rise in the past few years to abuses that culminated in disasters in many sectors of the economy.

We need to invent our way out of these hazards, and, eventually, we will. That invention will proceed mostly in the private sector. Yet government must play a role, because civil society demands that people’s lives and welfare be respected and protected from overzealous innovators who might disregard public safety and take improper advantage of nascent technology.

The Obama administration has proposed a number of new regulations and agencies, notably including a Consumer Financial Protection Agency, which would be charged with safeguarding consumers against things like abusive mortgage, auto loan or credit card contracts. The new agency is to encourage “plain vanilla” products that are simpler and easier to understand. But representatives of the financial services industry have criticized the proposal as a threat to innovations that could improve consumers’ welfare.

As the story of the steam engine shows, innovation often entails tension between safety and power. We need to foster inventions that better human welfare while incorporating safety mechanisms that protect the public. Could the proposed agency accomplish this task?

The subprime mortgage is an example of a recent invention that offered benefits and risks. These mortgages permitted people with bad credit histories to buy homes, without relying on guaranties from government agencies like the Federal Housing Administration. Compared with conventional mortgages, the subprime variety typically involved higher interest rates and stiff prepayment penalties.

To many critics, these features were proof of evil intent among lenders. But the higher rates compensated lenders for higher default rates. And the prepayment penalties made sure that people whose credit improved couldn’t just refinance somewhere else at a lower rate, thus leaving the lenders stuck with the rest, including those whose credit had worsened.

This made basic sense as financial engineering — an unsentimental effort to work around risks, selection biases, moral hazards and human foibles that could lead to disaster.

This might have represented financial progress if it weren’t for some problems that the designers evidently didn’t anticipate. As subprime mortgages were introduced, a housing bubble developed. This was fed in part by demand from new, subprime borrowers who now could enter the housing market. The bursting of the bubble had results that are now all too familiar — and taxpayers, among others, are still paying for it all.

Continued in article

Jensen Comment
Accounting theorists and standard setters are constantly being bombarded with complaints that financial statements and accounting standards are just too complicated for professional analysts as well as "ordinary" investors. Certainly there are complexities that can be simplified without great loss in investor protection. However, some standards become more complex rather than simple simply because financial innovations become increasingly complex as described wonderfully in the above article by Professor Shiller.

There's no turning back.
We just cannot replace the fleet of modern aircraft in the U.S. Air Force with "simple" World War I biplanes. We just cannot replace a 2009 Mercedes and all its computers with a Model T Ford that my father could tear into pieces, scrape carbon off the engine head, and put all the pieces together when he was 12 years old in an Iowa farm barn. My father could've spent the rest of his life just learning how to be a F-16 or Mercedes mechanic and then, at best, only be an expert on one of many components on such complex machines.

Similarly, we cannot return to simple accounting standards for complex derivative financial instruments or complicated financing contracts that defy simple partitions into debt versus equity. We should keep seeking ways to simplify as many accounting standards as possible, but in total if we truly want to protect investors from increasingly complex financial innovations like Shiller is talking about, we will need increasingly complex accounting standards to deal with those increasingly complex financial contracts.

What I worry about is that many accounting educators and standards setters are willing to bury their heads in the sand rather than learn to understand and track the financial innovations taking place around the world.

Here's one example of a financial innovation.

What is debt? What is equity? What is a Trup?
Banks are going to create huge problems for accountants with newer hybrid instruments
From Jim Mahar's Blog on February 6, 2005 --- http://financeprofessorblog.blogspot.com/
My guess is that 99.9% of accounting educators have never studied a Trup!


August 20, 2009 message from  Malcolm J. McLelland,

 Hi Bob,

I agree: Math is a formal language for a (semi-)informal world. So it's always possible to find examples where a mathematical expression doesn't make perfect sense. But, again, when I talk to AIS programmers they essentially tell me they are programming mathematical functions. Should we use the same (mathematical) language as them, or should they use the same (natural) language we use? Programming is a little outside my area of expertise, but I think they'd have a pretty hard time programming revenue recognition in non-math programming languages.

Also, we can always allow the parameters to change over time as well:

REV(k,t) = min[ %earned(k,t), %realizable(k,t) ] * HEP(k,t)

(Notice HEP was the only parameter in the function as previously. Allowing HEP to change over time is essentially allowing renegotiation of contract price, which happens all the time of course in long-term contracts; e.g., Halliburton DOD contracts.)

I guess my most basic point to all this is that--setting aside very clear special cases--there's likely nothing wrong with the revenue recognition principle, per se, as it stands presently (even though I've never seen a clear statement of it that didn't lack specificity from a math/programming perspective). The mathematical statement of the principle gets us to focus on the three most important things: (1) what the contract price is, (2) how much of it has been "earned" and what "earned" means, and (3) how much of it is "realizable" and what "realizable" means.

I have my own definitions of these things that no one cares about (for good reason). For example, is a "realizable" receivable the mean, the median, or the mode (present) value of the uncertain, future payoff? To apply the principle, we kind of need to know these things: We can't estimate something we're uncertain of unless we're clear on the estimation objective.

But why is it really so difficult to come to a consensus on what "earned" and "realizable" mean and then formulate a clear, concise statement of the principle including a definition of such terms? Sometimes I think people simply don't want to reach a consensus. It adds gravitas to our discussions somehow.

Sorry to rant. This is a digression from the discussion and I apologize.

Best regards,

Malcolm

August 20, 2009 reply from Bob Jensen

Not everything that can be counted, counts. And not everything that counts can be counted.
Albert Einstein

For a long time, elite accounting researchers could find no “empirical evidence” of widespread earnings management. All they had to do was look up from the computers where their heads were buried.

Hi Malcomb,

You're making the fatal assumption that we know the distribution of outcomes so that we can compute such things as means, median, modes, quartiles, etc. For a few things we do indeed have actuarial distributions that might be functional, but in most instances the underlying probability distributions are unknown and/or unstable. For about two decades we thought Bayesian subjective probability would solve our accounting problems, but that turned into a bummer. Who cares about Bayes anymore?

For several decades we thought Box Jenkins time series would solve our problems such as bad debt estimation. I no longer read much about Box Jenkins in the accounting world, and I doubt if anybody at the FASB or IASB gives two hoots about BJ models. BJ models were just too demanding with unrealistic assumptions.

For a time auditors thought statistical sampling was going to allow them to estimate financial risk with precision. Statistical sampling has its place, but it is not the panacea we hoped it would be and on countless occasions selective sampling has beat statistical sampling every which way.

Whenever I get news about increased interest in mathematical models (especially economics and finance) professors on Wall Street, I think back to "The Trillion Dollar Bet" in 1993 (Nova on PBS Video) a bond trader, two Nobel Laureates, and their doctoral students who very nearly brought down all of Wall Street and the U.S. banking system in the crash of a hedge fund known as Long Term Capital Management where the biggest and most prestigious firms lost an unimaginable amount of money --- http://en.wikipedia.org/wiki/LTCM

The CDO bond risks became compounded when so many investment banks commenced to crumble mortgage contracts into diversified CDO bonds dictated by David Li’s model. CDO bond sellers and holders commenced to use this model that essentially leaves out the covariance terms for interactive defaults on investments. The chances that everything would blow up seemed negligible at the time.  Probably the best summary of what happens appears in “In Plato’s Cave.”
Also see
"In Plato's Cave:  Mathematical models are a powerful way of predicting financial markets. But they are fallible" The Economist, January 24, 2009, pp. 10-14 --- http://www.trinity.edu/rjensen/2008Bailout.htm#Bailout

Can the 2008 investment banking failure be traced to a math error?
Recipe for Disaster:  The Formula That Killed Wall Street --- http://www.wired.com/techbiz/it/magazine/17-03/wp_quant?currentPage=all
Link forwarded by Jim Mahar ---
http://financeprofessorblog.blogspot.com/2009/03/recipe-for-disaster-formula-that-killed.html 

Some highlights:

"For five years, Li's formula, known as a Gaussian copula function, looked like an unambiguously positive breakthrough, a piece of financial technology that allowed hugely complex risks to be modeled with more ease and accuracy than ever before. With his brilliant spark of mathematical legerdemain, Li made it possible for traders to sell vast quantities of new securities, expanding financial markets to unimaginable levels.

His method was adopted by everybody from bond investors and Wall Street banks to ratings agencies and regulators. And it became so deeply entrenched—and was making people so much money—that warnings about its limitations were largely ignored.

Then the model fell apart." The article goes on to show that correlations are at the heart of the problem.

"The reason that ratings agencies and investors felt so safe with the triple-A tranches was that they believed there was no way hundreds of homeowners would all default on their loans at the same time. One person might lose his job, another might fall ill. But those are individual calamities that don't affect the mortgage pool much as a whole: Everybody else is still making their payments on time.

But not all calamities are individual, and tranching still hadn't solved all the problems of mortgage-pool risk. Some things, like falling house prices, affect a large number of people at once. If home values in your neighborhood decline and you lose some of your equity, there's a good chance your neighbors will lose theirs as well. If, as a result, you default on your mortgage, there's a higher probability they will default, too. That's called correlation—the degree to which one variable moves in line with another—and measuring it is an important part of determining how risky mortgage bonds are."

I would highly recommend reading the entire thing that gets much more involved with the actual formula etc.

The “math error” might truly be have been an error or it might have simply been a gamble with what was perceived as miniscule odds of total market failure. Something similar happened in the case of the trillion-dollar disastrous 1993 collapse of Long Term Capital Management formed by Nobel Prize winning economists and their doctoral students who took similar gambles that ignored the “miniscule odds” of world market collapse -- -
http://www.trinity.edu/rjensen/FraudRotten.htm#LTCM  


The rhetorical question is whether the failure is ignorance in model building or risk taking using the model?

Also see
"In Plato's Cave:  Mathematical models are a powerful way of predicting financial markets. But they are fallible" The Economist, January 24, 2009, pp. 10-14 --- http://www.trinity.edu/rjensen/2008Bailout.htm#Bailout

We thought our VaR models measured the financial risks of banks, but the sophisticated VAR models exploded in the recent banking crisis.

We do know that normal distributions are the exception rather than the rule and face enormous problems of skewness and Black Swan fat tails in unknown underlying distributions. We may think we have some pretty good distribution knowledge for bad debts or warranties, but then something upset the apple cart like subprime lending fraud and mortgage frauds.

The real problem with time series models and statistics in general is that these models assume stationarity that seldom exists for long, if ever, in the real world. Accountants/auditors on the line are forced to deal with these non-stationarities. We cannot assume homoscedasticity in a heteroscedastic world. We cannot assume variable independence in a covarying world. We try to build models and then discover that the most important variables are either unknown or cannot be reliably measured.

The fact of the matter is that the world of accounting with all its complicated nexus of contracts and non-stationarities is just too complicated for mathematical and statistical precision. The more we depend upon models the more we have to leave out of our analysis.

But we do have people still thinking they can design an AIS accounting system based on simple algebra and probability parameters. These people are often called sophomores (no offense intended, honestly).

You can read about Value at Risk (VaR) at http://en.wikipedia.org/wiki/Value_at_Risk

"Don't Blame it on VaR," by Peter Ainsworth, Funds Europe, August , 2009 --- Click Here
http://www.funds-europe.com/August-2009/BACK-OFFICE-Don%E2%80%99t-blame-it-on-VaR/menu-id-228.html

VaR is simply a financial weather forecast. A high VaR suggests stormy weather and the risk of big losses, while a low VaR indicates a balmy day and rain, in the form of big losses, is not likely. But VaR, using its full name, has a misleading description. ‘Value at risk’ sounds like it is communicating the maximum rainfall rather than just an idea of whether a rainstorm is likely. Indeed, in a recent speech, the FSA’s Lord Turner implied that even he had been mislead when he said: “We know that [VaR ..is] praised as a mathematically precise measure of risk.” But no professional statistician would describe VaR that way.

Continued in article

August 24, 2009 reply from Mc Lelland, Malcolm J [mjmclell@INDIANA.EDU]

Thank you Bob and Pat,

Fortunately, my doctoral program experience gave me an extremely thick skin; many attacks seemed quite personal. That is, criticism of an argument can be based on its ethos (character of the "arguer"), pathos (emotional content of the argument), or logos (logic of the argument). I found that criticism of arguments in accounting research was often directed at ethos and sometimes at pathos, with surprisingly little effort at examining the logic of the argument. From my reading of past AECM discussions, I think people often disregarded what Richard Sansing said largely because "he's just one of those analytical modeling types"; they don't like the econ theorist ethos/pathos. So, many people disregard an argument the moment it's framed in mathematical language. But That Which Does Not Kill Us Makes Us Stronger ...

So in relation to the original topic, some of the fundamental questions that remain perennially open, at least in my mind, are:

(1) Is it useful to regard accounting variables, in general, as random variables?
(2) What are accountants trying to measure when they measure accounting random variables: mean, median, mode, something else ... ?
(3) Are statistical methods useful in estimating whatever it is accountant's are trying to estimate, or is "professional judgment" adequate?
(4) What exactly is "professional judgment" if the estimation objective for the accounting random variable is not specified, at least in principle?

I deeply believe many of our discussions in accounting and auditing are unlikely to be fruitful if we don't carefully answer these questions first.

Cheers,

Malcolm

August 21, 2009 reply from Bob Jensen

Hi Malcomb,

I really like thick skinned activists on the AECM. And I never ignore a message by Richard Sansing just because he’s an accountics researcher. I only wish we had more accountics researcher activists on the AECM. I’m always thankful for Richard.

I don’t think I can answer your specific questions with a broad paint brush. To consider each question I would first need to have you narrow down to particular measurements of accounting variables and purposes of the those measurements.

In terms of fundamental theory of measurement, accounting scholars, many of whom were outstanding mathematicians and some wannabe mathematicians, addressed the fundamental problems of measurement in accountancy. One of the best-known and respected attempts is the “Theory of Accounting Measurement” by Hall of Fame accounting professor Yuji Ijiri, (Studies in Accounting Research #10, American Accounting Association, 1975) --- http://aaahq.org/market/display.cfm?catID=5
Among other things, Yuji developed an axiomatic structure of accounting that I think was mostly or completely ignored in the development of the FASB and the IASB Conceptual Frameworks. The point is that the mathematical axiomatic structures of Ijiri, Mattesich, and others were not deemed to have value added or sufficient engineering details in the derivation of the official conceptual frameworks.

By the way, Yuji is, and always was, a staunch supporter of historical cost accounting because it was the closest measurement system to have mathematical purety --- See Chapter 6 which also develops his axiom of "fair value."

Probably the closest thing that Yuji developed of interest to you is his "multidimensional bookkeeping" extension where he analogizes accounting for first derivative variations in account balances --- stocks and flows. His simple illustrations fit nicely into his theory but died an early death due to total impracticality and unrealistic assumptions in the real world of accounting. Still Yuji's work remains a classic in theory to which I think Paul Williams built an alter in his home.

If you, Malcomb, want to use your mathematical background to make new contributions to the mathematics of accounting, I suggest that you build on the above monograph of Professor Ijiri. I'm certain that Professor Ijiri would be honored. He was a terrific innovator of ideas in accounting thought but not so much an engineer who designed bridges that were ever built.

************************

Now let me turn to another grand effort that is elegant but fundamentally flawed. For this you should turn to Chapter 4 entitled "Decomposition Analysis of Financial Statement" in Financial Statement Analysis:  A New Approach by Baruch Lev (Prentice-Hall, 197f4). Baruch attempted an elegant extension of homeostasis relating living organisms to business organizations. He then attempted to decompose Lockheed's assets and liabilities for 1969 and 1970 via a decomposition formula using log functions of ratios. The weighted logarithmic functions of ratios had an important property of additivity that allowed analysts to disaggregate and computer weighted averages of decomposition measures. The analysis is beautiful except that Baruch overlooked the fact that the variables forming his ratios were not independent but were in fact highly interdependent in double entry accounting.

Interestingly, I sat beside my Stanford mentor, Yuji Ijiri, at a University of Chicago conference when Baruch Lev presented his Chapter 4 theory. Yuji downed two aspirins and held his head. He was, however, too polite to destroy the paper in Chicago style. Unfortunately, Lev's research went on to become part of his monograph (Chapter 4) that, in my viewpoint, never should have been included in the monograph. I don't know of any scholar that ever followed up on the Decomposition Analysis proposed by Baruch in the early 1970s.

*******************

One point where I think we differ, Malcomb, is the definition of “unrealized.” I think you were thinking more along the lines of “unrealized sales revenue” or “unrealized construction revenue for partially completed contracts.”

I was thinking more along the lines of a fair value interim valuation of a mortgage payable. If the value of a fixed rate mortgage goes up in one period (due to a change in interest rates), that change in value is never if the mortgage is never settled before maturity.

If the mortgage is held to maturity all historic “unrealized fair value adjustments” over the life of the mortgage will never be realized in the same sense that unrealized construction revenue will eventually be collected. My point is that securities designated as held-to-maturity are almost certain to henceforth and forever more never realized the fair market value adjustments to carrying values before the mortgage matures.

Bob Jensen

August 22, 2009 reply from Bob Jensen

Hi Again Malcomb,

I knew I should have spent more time before answering your questions off the top of my head.

My digression into bankruptcy prediction models was probably more confusing than helpful.

Let's begin with bad debt estimation in large companies like Sears or JC Penney that have their own charge cards. In most instances your concern over whether mean, median, or mode is used is irrelevant because each risk pool assumes a uniform probability distribution where mean, median, and mode are identical numbers. The typical first step in bad debt estimation is to partition outstanding accounts into overdue classes of time. Then these are sub-partitioned as to overdue account balances. It is possible to further subdivide on the basis of information in each customer's credit application form (residence location, age, income, marital status, credit score, etc.) but I don't think this is common across all companies. A lot of that information is subject to change such as change in marital status.

Now consider receivables Pool D for accounts outstanding 31-60 days overdue and balances due between $501-$1000. We assume that the bad debt probability distribution in Pool D is a uniform probability distribution. We then look at the recent history of Pool D and conclude that on average 10% of the total outstanding balance in Pool D is ultimately written off as bad debt. For next month, September 2009, the total balance due in Pool D is $64 million. We then estimate that $6.4 million of Pool D accounts will ultimately be declared bad debts.

The only place we used an "average" was to examine the recent history of Pool D each month for a period of time such as the last two years. And in doing so we have assumed stationarity. If something important happened in such as a change in our credit-granting policy or an economic meltdown where 20% of our steady customers lost their jobs, then we will most likely resort to a much more qualitative estimation of bad debts. Back in the 1970s, the large department store chain known as WT Grant got caught up in a sudden recession where it badly estimated bad debts. Sudden increases in bad debt risks that were not impounded in past pool estimates and further granting of credit to overdue customers contributed to the demise of WT Grant.  

I used the following paper year after year in one of my accounting theory courses:

In 1980 Largay and Stickney (Financial Analysts Journal) published a great comparison of WT Grant's cash flow statements versus income statements. I used this study for years in some of my accounting courses. It's a classic for giving students an appreciation of cash flow statements! The study is discussed and cited (with exhibits) at
http://www.sap-hefte.de/download/dateien/1239/070_leseprobe.pdf
It also shows the limitations of the current ratio in financial analysis and the problem of inventory buildup when analyzing the reported bottom line net income.

Now consider receivables in Pool X for accounts outstanding 91-120 days with overdue balances between $11 million and $15 million. There are only 12 these huge accounts in Pool X such that the estimation process illustrated above is nonsense. This is where we might resort to Altman-like bankruptcy prediction models --- http://en.wikipedia.org/wiki/Bankruptcy_prediction
Our Bill Beaver (Stanford) made some contributions to the early efforts to predict bankruptcy as did an obscure CPA back in 1932 when there were a lot of failing companies. But Edward Altman is credited with the most widely used bankruptcy prediction models that have withstood the test of time since around 1970 in practice.

Of course any multivariate statistical model such as Altman’s discriminant analysis has its own limiting assumptions. The most limiting assumption is that of stationarity. If there is a meltdown in the economy, some of this meltdown might be captured in the input variables to the model. But with the recent meltdown with its TARP, stimulus payments, cash-for-clunkers program, etc. bad debt estimation may shift to an entirely new ball park.

I also digressed into why I think the FASB did not pay a whole lot of attention to the axiomatic frameworks of Ijiri and Mattessich in developing a conceptual framework. I might elaborate a bit about the FASB’s Conceptual Framework. The initial team leader, Mike Alexander, was a friend of mine. The FASB did not dip into a pool of academic scholars for development of the Conceptual Framework. Mike Alexander was a young and hard-nosed, no-nonsense, partner with Touche Ross in Montreal. Of course Mike studied the contributions of Sprouse and Moonitz to postulates and axioms, but I think Mike wanted to root the Conceptual Framework more in the practice of accountancy than in its academic theories.

When you formally study the concepts of accountancy, Malcomb, you really should focus on the Conceptual Frameworks of the FASB and IASB. Both standard setting bodies make a concerted effort to root new standards in those frameworks, although there are research studies that show where this policy did not always hold for certain standards. Such is life in the real world of complicated and evolving types of financing and sales contracts.

Hope this helps.

 Robert E. (Bob) Jensen
Trinity University Accounting Professor (Emeritus)
190 Sunset Hill Road
Sugar Hill, NH 03586
Tel. 603-823-8482
www.trinity.edu/rjensen

 

-----Original Message-----
From: Jensen, Robert
Sent: Friday, August 21, 2009 6:00 PM
To: 'AECM, Accounting Education using Computers and Multimedia'
Subject: RE: Insurers Biggest Writedowns May Be Yet to Come

Hi Malcomb,

I should be smart and think about your questions for a longer time. But here goes off the top of my head in CAPS below.

 

Robert E. (Bob) Jensen
Trinity University Accounting Professor (Emeritus)
190 Sunset Hill Road
Sugar Hill, NH 03586
Tel. 603-823-8482
www.trinity.edu/rjensen

-----Original Message-----

From: AECM, Accounting Education using Computers and Multimedia [mailto:AECM@LISTSERV.LOYOLA.EDU] On Behalf Of Mc Lelland, Malcolm J

Sent: Friday, August 21, 2009 5:22 PM

To: AECM@LISTSERV.LOYOLA.EDU

Subject: Re: Insurers Biggest Writedowns May Be Yet to Come

 

Bob,

I see your point, but mine is much more basic I think.  Let me make my questions concrete in the context of a special case; i.e., FAS 5 applied to uncollectible receivables:

(1) Is it useful to regard uncollectible receivables as a random variable?

 

OF COURSE IT IS COMMON TO TREAT BAD DEBT ESTIMATED LOSS OF AN AGING POOL OF SIMILAR ACCOUNTS AS A RANDOM VARIABLE. EDWARD ALTMAN, FOR ONE, DEVELOPED A MULTIVARIATE DISCRIMINANT ANALYSIS SYSTEM FOR ESTIMATING BAD DEBTS PROVIDED STRINGENT ASSUMPTIONS ARE MET, NOT THE LEAST OF WHICH IS THE SIZE OF THE POPULATION. OBVIOUSLY IF WE ONLY HAVE 30 ACCOUNTS RECEIVABLE, STATISTICAL ANALYSIS IS NONSENSE. IF WE HAVE 12,000 ACCOUNTS RECEIVABLE, THEN MAYBE ALTMAN OR SOME SIMPLER MODEL CAN BE CALLED INTO PLAY.

(2) What precisely are accountants trying to measure when they measure uncollectible receivables: their mean, median, mode, or something else ... ?

 

I THINK THEY ARE TRYING TO MEASURE THE DOLLAR AMOUNT OF EXPECTED LOSS IN A GIVEN POOL OF ACCOUNTS.

 

(3) Are statistical methods useful in estimating whatever that thing is, or is "professional judgment" about uncollectible receivables adequate?

EMPIRICAL STUDIES OF BANKRUPTCY DISCRIMINANT ANALYSIS ARE VERY GOOD IN CIRCUMSTANCES THAT MEET THE ASSUMPTIONS OF THE MODEL. BUT ONCE AGAIN SUBJECTIVE JUDGMENT MUST BE USED REGARDING NON-STATIONARITY. SEE http://en.wikipedia.org/wiki/Bankruptcy_prediction

IF WE ARE GETTING SIGNALS THAT RISK FACTORS HAVE CHANGED (SUDDEN ECONOMIC DOWNTURN THAT HITS OUR CUSTOMERS LIKE A HURRICANE) OR SUDDEN BAD NEWS SIGNALS THAT HIT OUR CUSTOMERS SUCH AS THEIR PRODUCTS CAUSE CANCER, WE NO LONGER CAN RELY UPON OLD MODELS THAT DO NOT TAKE INTO ACCOUNT CHANGED CONDITIONS.

STATISTICAL MODELS OF MOST ANY TYPE MUST BE "TRAINED" UNDER A GIVEN SET OF CONDITIONS ASSUMED TO BE STABLE. JUDGMENT IS CALLED FOR IN ASSESSING STABILITY VIS-À-VIS UNDERLYING ASSUMPTIONS OF THE MODEL, INCLUDING VARIABLE INDEPENDENCE, HOMOSCEDASTICITY, RELEVANT RANGE, ETC.

(4) What exactly is "professional judgment" if no one has stated the estimation objective for uncollectible receivables?

PROFESSIONAL JUDGMENT IS A DEEP AND ABIDING KNOWLEDGE OF OUR CUSTOMERS AND THEIR STRENGTHS AND WEAKNESSES AS IT APPLIES TO CREDIT THAT WE HAVE EXTENDED TO THEM. ONE OF THE HUGE PROBLEMS OF FANNIE MAE AND FREDDIE MAC COMMENCED WHEN THEY WERE FORCED TO BUY UP MORTGAGES OF HOME BUYERS WITH ALMOST NO COLLATERAL AND LOW INCOMES AND UNSTEADY WORK. IF A LOCAL BANK HAD TO CARRY THE MORTGAGE THE BANK WOULD PROBABLY HAVE A FAR BETTER UNDERSTANDING OF EACH CUSTOMER AND THE LOCAL ECONOMY THAN FANNIE WITH OVER 100 MILLION CUSTOMERS.

I'm familiar with the provisions of FAS 5: We recognize uncollectible receivables as expense when it's "probable" they are impaired at the balance sheet date and the loss can be "reasonably estimated".  Let's say both conditions are met so we can focus on the above questions, rather than on the standard.  Is FAS 5 telling us to recognize the mean, the median or the mode of the uncollectible accounts?  Without loss of generality, assume the distribution over uncollectibles is both non-stationary and skewed (and this is a very reasonable assumption).  Now then, if the distribution is skewed as many accounting variable distributions are, then it makes a difference whether we're supposed to estimate the mean, the median, or the mode (or something else).  So what precisely is FAS 5 (not) telling us the estimation objective is?

I DON'T THINK OUR TRADITIONAL MODELS DEAL WELL WITH EXTREME KURTOSIS. IF WE CAN SPECIFY THE APPROPRIATE DISTRIBUTIONS AND THESE DISTRIBUTIONS ARE STABLE, THEN OUR TECHIES CAN DEVISE MODELS TO ESTIMATE THE DOLLAR LOSSES OF BAD DEBTS IN A HOMOGENIOUS POOL OF CUSTOMERS. ONCE AGAIN ISSUES OF STATIONARITY ARE ALWAYS HANGING OVERHEAD LIKE BLACK CLOUDS.

CURRENTLY LARGE AUDITING FIRMS ARE PLEADING IGNORANCE OF CHANGES IN LOAN LENDING RISKS OF THEIR CUSTOMERS (DELOITTE IS NOW EMBROILED IN ONE OF THE LARGEST LAWSUITS IN HISTORY OVER ISSUES OF UNDERESTIMATING LOAN LOSSES IN WASHINGTON MUTUAL BANK. IT SEEMS TO BE POOR JUDGMENT ON BOTH SIDES OF THE COIN --- EITHER DELOITTE TRULY WAS CAUGHT OFF GUARD OR DELOITTE DECIDED TO GO ALONG WITH WaMu's HORRIBLY UNDERESTIMATED LOAN LOSSES THAT EVENTUALLY DESTROYED THE BANK --- http://www.trinity.edu/rjensen/2008Bailout.htm#AuditFirms

BOB JENSEN

 

________________________________________

From: AECM, Accounting Education using Computers and Multimedia [AECM@LISTSERV.LOYOLA.EDU] On Behalf Of Jensen, Robert [rjensen@TRINITY.EDU]

Sent: Friday, August 21, 2009 4:40 PM

To: AECM@LISTSERV.LOYOLA.EDU

Subject: Re: Insurers Biggest Writedowns May Be Yet to Com 

I tried to point out that Ijiri did take a broad brush approach in his stocks and flows model for accounting measurement.

I still cannot visualize a broad brush answer to your questions without at least one illustration or frame of reference for your line of thinking, which might well entail singling out a particular type of business transaction to be accounted for using what you envision as a better approach to setting standards.

Broad accounting concepts and principles are built upon micro-level thinking about transactions and often upon basic postulates and axioms (as is the case in science and mathematics). First there were attempts to generate postulates and axioms without mathematics (Sprouse and Moonitz in particular) and then mathematics (Ijiri and Mattesich). But I think the FASB's Conceptual Framework team went back to Square One.

Principles do require formalized concepts even though the Conceptual Framework was not fully formalized before the FASB commenced to generate standards.

What we found is that financial engineers devised increasingly new and complex contracts such as synthetic leasing and variable interest entities (FAS 141) and interest rate swaps (FAS 133) that did not fit neatly on top of existing concepts, principles, and standards.

I doubt if we'll ever resolve issues of debt versus equity or revenue recognition principles that fit neatly into any set of concepts and principles. Today we deal with Bill and Hold contracts and embedded derivatives, and tomorrow who knows what? One thing is certain, U.S. financial engineers are clever at creating off-balance sheet financing and dispersed financial risks that can come back an butt bite.

Bob Jensen

Bob Jensen's threads on recent bank failures are at http://www.trinity.edu/rjensen/2008Bailout.htm


Banks Still Cannot Resist Understating Loan Loss Reserves

BB&T Net Falls 58% as Bad Loans Surge
by Matthias Rieker and Joan E. Solsman
Oct 20, 2009
Click here to view the full article on WSJ.com

TOPICS: Allowance For Doubtful Accounts, Bad Debts, Banking, Loan Loss Allowance

SUMMARY: BB&T Corp. is a Winston-Salem, N.C., bank that has been "...considered among the best-run regional banks." The bank has "...reported a continued rise in delinquent loans in states hit by the recession, such as North Carolina, rather than those known more for being clobbered by the mortgage meltdown....BB&T Chief Executive Kelly King said during a conference call with investors that the company added $263 million to its loan-loss reserve, which he called 'a significant number.' Some investors hoped BB&T would write off bad loans more decisively than it did and build its loan-loss reserve more aggressively, analysts said."

CLASSROOM APPLICATION: Questions relate to loan loss reserve process and understanding the implications of types of loan losses-those on delinquent loans from states hit hard by recession, rather than from states with significant real estate value losses.

QUESTIONS: 
1. (Introductory) Describe the process of creating reserves against losses for loans and writing off bad loans. Specifically describe when the expense for bad debts impacts a bank's-or a company's-income calculation.

2. (Introductory) How do trends in loan write-offs and loan delinquencies inform the process of creating reserves for loan losses?

3. (Advanced) What is the significance for future profits of not creating a sufficient reserve for loan losses?

4. (Advanced) Analysts following BB&T stated that they wished the bank would write off bad loans "decisively" and build its loan-loss reserve "aggressively" even as the bank's chief executive described the balance in the loan-loss reserve as a "significant number." Why would analysts and investors prefer a "more aggressive approach." Include in your answer a comment on the notion of conservatism in accounting.

5. (Advanced) What is the significance of the source of loans going bad-that is, loans made in states hit hard by recession versus the real estate market downfall. In your answer, also comment on commercial versus personal loan categories as well.

Reviewed By: Judy Beckman, University of Rhode Island

"BB&T Net Falls 58% as Bad Loans Surge," by Matthias Rieker and Joan E. Solsman, The Wall Street Journal, October 20, 20 --- http://online.wsj.com/article/SB125595468300993939.html?mod=djem_jiewr_AC

If last week's earnings by three of the largest U.S. banks gave investors hope that the end of steep losses from soured loans might be closer, regional bank BB&T Corp. delivered a setback Monday.

The Winston-Salem, N.C., bank, long considered among the best-run regional banks, reported a continued rise in delinquent loans in states hit by the recession, such as North Carolina, rather than those known more for being clobbered by the mortgage meltdown.

"The core BB&T sees more cracks in credit," said analyst Kevin Fitzsimmons of Sandler O'Neill & Partners LP.

In 4 p.m. New York Stock Exchange composite trading, BB&T fell $1.22, or 4.3%, to $27.03, with investors also selling off other regional banks into the rising market Monday. "Regionals simply don't have any firepower to withstand rapidly eroding commercial assets" even if losses from consumer loans are stabilizing, analyst Todd Hagerman of Collins Stewart LLC said.

BB&T Chief Executive Kelly King said during a conference call with investors that the company added $263 million to its loan-loss reserve, which he called "a significant number." Some investors hoped BB&T would write off bad loans more decisively than it did and build its loan-loss reserve more aggressively, analysts said.

Third-quarter profit fell 58% to $152 million, or 23 cents a share, down from $358 million, or 65 cents a share, a year earlier.

Credit-loss provisions soared 95% to $709 million from $364 million a year earlier, while rising from the second quarter's $701 million. Nonperforming assets, or loans in danger of going bad, rose to 2.5% from 1.2% a year earlier and 2.2% from the previous quarter.

BB&T "has a lot more real-estate exposure than the money centers, plus it does not have nearly as much capital markets to offset" such losses than big banks such as Bank of America Corp. and Citigroup Inc. that reported earnings last week, said Jeff Davis of FTN Equity Capital Markets Corp.

Losses from bad loans "are going to find the peak in the next two or three quarters," Mr. King said, adding that "nonperformance of the industry and for us continue to increase probably at a declining rate of increase."

BB&T strengthened its capital base in August with a $963 million offering of common stock after it purchased Colonial Bank, a unit of Colonial BancGroup Inc., Montgomery, Ala., that was seized by regulators in August.

In June, BB&T became one of the first U.S. banks to pay back the capital infusion it got from the Treasury Department's Troubled Asset Relief Program.

In the latest quarter, average client deposits were up 20% from a year earlier amid the Colonial takeover, while average loans and leases held for investment showed a 6% increase.

Why did the auditors approve such understated loan loss reserves in the subprime scandals?  http://www.trinity.edu/rjensen/2008Bailout.htm#AuditFirms


"An Intuitive Explanation of Bayes':  Theorem:  Bayes' Theorem for the curious and bewildered; an excruciatingly gentle introduction," by Eliezer S., Yudkowsky, August 2009 --- http://yudkowsky.net/rational/bayes

Your friends and colleagues are talking about something called "Bayes' Theorem" or "Bayes' Rule", or something called Bayesian reasoning. They sound really enthusiastic about it, too, so you google and find a webpage about Bayes' Theorem and...

It's this equation. That's all. Just one equation. The page you found gives a definition of it, but it doesn't say what it is, or why it's useful, or why your friends would be interested in it. It looks like this random statistics thing.

So you came here. Maybe you don't understand what the equation says. Maybe you understand it in theory, but every time you try to apply it in practice you get mixed up trying to remember the difference between p(a|x) and p(x|a), and whether p(a)*p(x|a) belongs in the numerator or the denominator. Maybe you see the theorem, and you understand the theorem, and you can use the theorem, but you can't understand why your friends and/or research colleagues seem to think it's the secret of the universe. Maybe your friends are all wearing Bayes' Theorem T-shirts, and you're feeling left out. Maybe you're a girl looking for a boyfriend, but the boy you're interested in refuses to date anyone who "isn't Bayesian". What matters is that Bayes is cool, and if you don't know Bayes, you aren't cool.

Why does a mathematical concept generate this strange enthusiasm in its students? What is the so-called Bayesian Revolution now sweeping through the sciences, which claims to subsume even the experimental method itself as a special case? What is the secret that the adherents of Bayes know? What is the light that they have seen?

Soon you will know. Soon you will be one of us.

While there are a few existing online explanations of Bayes' Theorem, my experience with trying to introduce people to Bayesian reasoning is that the existing online explanations are too abstract. Bayesian reasoning is very counterintuitive. People do not employ Bayesian reasoning intuitively, find it very difficult to learn Bayesian reasoning when tutored, and rapidly forget Bayesian methods once the tutoring is over. This holds equally true for novice students and highly trained professionals in a field. Bayesian reasoning is apparently one of those things which, like quantum mechanics or the Wason Selection Test, is inherently difficult for humans to grasp with our built-in mental faculties.

Or so they claim. Here you will find an attempt to offer an intuitive explanation of Bayesian reasoning - an excruciatingly gentle introduction that invokes all the human ways of grasping numbers, from natural frequencies to spatial visualization. The intent is to convey, not abstract rules for manipulating numbers, but what the numbers mean, and why the rules are what they are (and cannot possibly be anything else). When you are finished reading this page, you will see Bayesian problems in your dreams.

And let's begin.

--------------------------------------------------------------------------------

Here's a story problem about a situation that doctors often encounter:

1% of women at age forty who participate in routine screening have breast cancer. 80% of women with breast cancer will get positive mammographies. 9.6% of women without breast cancer will also get positive mammographies. A woman in this age group had a positive mammography in a routine screening. What is the probability that she actually has breast cancer?

What do you think the answer is? If you haven't encountered this kind of problem before, please take a moment to come up with your own answer before continuing.

--------------------------------------------------------------------------------

Next, suppose I told you that most doctors get the same wrong answer on this problem - usually, only around 15% of doctors get it right. ("Really? 15%? Is that a real number, or an urban legend based on an Internet poll?" It's a real number. See Casscells, Schoenberger, and Grayboys 1978; Eddy 1982; Gigerenzer and Hoffrage 1995; and many other studies. It's a surprising result which is easy to replicate, so it's been extensively replicated.)

Do you want to think about your answer again? Here's a Javascript calculator if you need one. This calculator has the usual precedence rules; multiplication before addition and so on. If you're not sure, I suggest using parentheses.

Continued in article

Question
What are some "aha" moments in the history of accounting that are attributed to one person's original/seminal idea?

"A Wandering Mind Heads:  Straight Toward Insight Researchers Map the Anatomy." The Wall Street Journal, June 19, 2009 --- http://online.wsj.com/article/SB124535297048828601.html 

It happened to Archimedes in the bath. To Descartes it took place in bed while watching flies on his ceiling. And to Newton it occurred in an orchard, when he saw an apple fall. Each had a moment of insight. To Archimedes came a way to calculate density and volume; to Descartes, the idea of coordinate geometry; and to Newton, the law of universal gravity.

Five light-bulb moments of understanding that revolutionized science.

In our fables of science and discovery, the crucial role of insight is a cherished theme. To these epiphanies, we owe the concept of alternating electrical current, the discovery of penicillin, and on a less lofty note, the invention of Post-its, ice-cream cones, and Velcro. The burst of mental clarity can be so powerful that, as legend would have it, Archimedes jumped out of his tub and ran naked through the streets, shouting to his startled neighbors: "Eureka! I've got it."

In today's innovation economy, engineers, economists and policy makers are eager to foster creative thinking among knowledge workers. Until recently, these sorts of revelations were too elusive for serious scientific study. Scholars suspect the story of Archimedes isn't even entirely true. Lately, though, researchers have been able to document the brain's behavior during Eureka moments by recording brain-wave patterns and imaging the neural circuits that become active as volunteers struggle to solve anagrams, riddles and other brain teasers.

Following the brain as it rises to a mental challenge, scientists are seeking their own insights into these light-bulb flashes of understanding, but they are as hard to define clinically as they are to study in a lab.

To be sure, we've all had our "Aha" moments. They materialize without warning, often through an unconscious shift in mental perspective that can abruptly alter how we perceive a problem. "An 'aha' moment is any sudden comprehension that allows you to see something in a different light," says psychologist John Kounios at Drexel University in Philadelphia. "It could be the solution to a problem; it could be getting a joke; or suddenly recognizing a face. It could be realizing that a friend of yours is not really a friend."

These sudden insights, they found, are the culmination of an intense and complex series of brain states that require more neural resources than methodical reasoning. People who solve problems through insight generate different patterns of brain waves than those who solve problems analytically. "Your brain is really working quite hard before this moment of insight," says psychologist Mark Wheeler at the University of Pittsburgh. "There is a lot going on behind the scenes."

In fact, our brain may be most actively engaged when our mind is wandering and we've actually lost track of our thoughts, a new brain-scanning study suggests. "Solving a problem with insight is fundamentally different from solving a problem analytically," Dr. Kounios says. "There really are different brain mechanisms involved."

By most measures, we spend about a third of our time daydreaming, yet our brain is unusually active during these seemingly idle moments. Left to its own devices, our brain activates several areas associated with complex problem solving, which researchers had previously assumed were dormant during daydreams. Moreover, it appears to be the only time these areas work in unison.

"People assumed that when your mind wandered it was empty," says cognitive neuroscientist Kalina Christoff at the University of British Columbia in Vancouver, who reported the findings last month in the Proceedings of the National Academy of Sciences. As measured by brain activity, however, "mind wandering is a much more active state than we ever imagined, much more active than during reasoning with a complex problem."

She suspects that the flypaper of an unfocused mind may trap new ideas and unexpected associations more effectively than methodical reasoning. That may create the mental framework for new ideas. "You can see regions of these networks becoming active just prior to people arriving at an insight," she says.

In a series of experiments over the past five years, Dr. Kounios and his collaborator Mark Jung-Beeman at Northwestern University used brain scanners and EEG sensors to study insights taking form below the surface of self-awareness. They recorded the neural activity of volunteers wrestling with word puzzles and scanned their brains as they sought solutions.

Some volunteers found answers by methodically working through the possibilities. Some were stumped. For others, even though the solution seemed to come out of nowhere, they had no doubt it was correct.

In those cases, the EEG recordings revealed a distinctive flash of gamma waves emanating from the brain's right hemisphere, which is involved in handling associations and assembling elements of a problem. The brain broadcast that signal one-third of a second before a volunteer experienced their conscious moment of insight -- an eternity at the speed of thought.

The scientists may have recorded the first snapshots of a Eureka moment. "It almost certainly reflects the popping into awareness of a solution," says Dr. Kounios.

In addition, they found that tell-tale burst of gamma waves was almost always preceded by a change in alpha brain-wave intensity in the visual cortex, which controls what we see. They took it as evidence that the brain was dampening the neurons there similar to the way we consciously close our eyes to concentrate.

"You want to quiet the noise in your head to solidify that fragile germ of an idea," says Dr. Jung-Beeman at Northwestern.

At the University of London's Goldsmith College, psychologist Joydeep Bhattacharya also has been probing for insight moments by peppering people with verbal puzzles.

Continued in article

Jensen Comment
I'm having a hard time finding a worthy "aha" moment in accountancy. It certainly would not be Pacioli's double entry contribution since double entry accounting is thought to have been used for over 1,000 years before Pacioli. There have been aha moments in the invention of derivative contracts, but none of them to my knowledge are attributable to accountants. There have been some seminal accounting ideas such as ABC costing, but I think a team of people at Deere is credited for ABC Costing.

What are some "aha" moments in the history of accounting that are attributed to one person's original/seminal idea? 
A short summary of the history of accounting is available at
http://www.trinity.edu/rjensen/theory01.htm#AccountingHistory

-----Original Message----- 
From: Dale Flesher University of Mississippi [mailto:actonya@HOTMAIL.COM]  
Sent: Friday, January 25, 2002 1:35 PM 
To: AECM@LISTSERV.LOYOLA.EDU 
Subject: Re: The Only Invention of Academic Accountants

Contrary to a recent statement in this forum, Dollar-Value Lifo (DVL) was not developed by a professor. The father of DVL was Herbert T. McAnly, who retired in 1964 as a partner at Ernst & Ernst after 44 years with the firm. Throughout his career, McAnly was known as "Mr. LIFO."

Although he did not develop LIFO, which had been around for decades in the form of the base-stock method, he did develop DVL after the Internal Revenue began accepting LIFO from all types of companies. The Treasury would probably never have agreed to allow all companies to use LIFO (in 1939) had they been able to prognosticate McAnly's idea. He first described the concept in an address delivered at the Accounting Clinic and the Central States Accounting Conference in Chicago in May 1941. His concept was finally accepted by the IRS following the Hutzler Brothers Co. case in 1947 (8 TC 14 (1947)). He later worked with the Treasury Department trying to get more practical regulations relating to LIFO.

Dale L. Flesher 
Professor of Accountancy University of Mississippi


Can We Go Back to the Good Old Days?

October 2, 2009 message from PwC's CFOdirect Network [CFOdirect_Network@PWC_Assurance.messages1.com]

Today the Securities and Exchange Commission (SEC) provided many smaller companies with additional time to comply with the SEC's internal control audit requirements. Under the final extension, non-accelerated filers (generally companies with a public float below $75 million) will be required to comply with the SEC's internal control audit requirements beginning with annual reports for fiscal years ending on or after June 15, 2010. The additional extension does not affect companies with fiscal year-ends between June 15 and December 14.

You can read more about Section 404 at http://en.wikipedia.org/wiki/SOX_404

October 2, 2009 message from Glen L Gray [glen.gray@CSUN.EDU]

http://www.telegraph.co.uk/finance/newsbysector/banksandfinance/6252501/KPMG-and-PwC-Reykjavik-offices-are-raided-by-Icelandic-police.html

Police raid KPMG, PwC offices regarding failure of Icelandic banks Icelandic offices of accounting firms KPMG and PricewaterhouseCoopers were raided by police during an investigation into the failure of Iceland's three biggest banks. Police seized documents and computer data related to banks Kaupthing, Glitnir and Landsbanki. Officials are looking into allegations that accounting and reporting requirements were violated at those banks, the failure of which drove the country into a financial crisis. Telegraph (London) (10/1)

Glen L. Gray, PhD, CPA
Accounting & Information Systems, COBAE
California State University, Northridge
18111 Nordhoff ST
Northridge, CA 91330-8372
818.677.3948
818.677.2461 (messages)
http://www.csun.edu/~vcact00f

"Can We Go Back to the Good Old Days?" by Dennis R. Beresford, The CPA Journal --- http://www.nysscpa.org/cpajournal/2004/1204/perspectives/p6.htm 
Note the section on Internal Controls

Recently I visited my pharmacy to pick up eyedrops for my two golden retrievers. Before he would give me the prescription, the pharmacist insisted I sign a form on behalf of Murphy and Millie, representing that they had been apprised of their rights under the new medical privacy rules. This ludicrous situation is a good illustration of how complicated life has gotten.

I was still shaking my head later that same day when I was clicking mindlessly through the 150 or so channels that my local cable TV service makes available to me. I happened to land on The Andy Griffith Show, and the few minutes I spent with Andy, Barney, Opie, and Aunt Bea got me thinking about the Good Old Days. Wouldn’t it be nice, I thought, to go back to the Good Old Days of the profession in the early 1960s when I graduated from college?

Back then, accounting was really simple. The Accounting Principles Board hadn’t issued any standards yet, and FASB didn’t exist. So we didn’t have 880 pages listing all of the current rules and guidance on derivative financial instruments, for example. The totality of authoritative GAAP at that time fit in one softbound booklet about one-third the size of the new derivatives guidance.

In those Good Old Days, the SEC had been around for quite a while but it rarely got excited about accounting matters. Neither mandatory quarterly reporting nor management’s discussion and analysis (MD&A) had yet come into being, for example. And annual report footnotes could actually be read in an hour or so.

The country had eight major accounting firms, and becoming a partner in one was a truly big deal. Lawsuits against accounting firms were rare, and almost none of them resulted in substantial damages against the accountants.

In short, accounting seemed more like a true profession, with good judgment and experience key requirements for success.

Of course, however much we might like to return to simpler times, it’s easier said than done. And most of us would never give up the many benefits of progress, such as photocopiers, personal computers, e-mail, the Internet, and cellphones. But I think that accounting rules may have become more complicated than necessary.

Let me start with a mea culpa. You may remember the famous line from the comic strip Pogo: “We have met the enemy, and he is us!” Well, you may be tempted to rephrase that quote to “We have met the enemy, and he is … Beresford!”

I plead guilty to having led the development of 40 or so new accounting standards over my time at FASB. A number of them had pervasive effects on financial statements, and some have been costly to apply. I always tried to be as practical as possible, however, although probably few would say that I was 100% successful in meeting that objective.

In any event, more-recent accounting standards and proposals seem to be getting increasingly complicated and harder to apply. Even the best-intentioned accountants have difficulty keeping up with all of the changes from FASB, the AICPA, the SEC, the EITF, and the IASB. And some individual standards, such as those on derivatives and variable-interest entities, are almost impossible for professionals, let alone laypeople, to decipher.

Furthermore, these days, companies are subject to what I’ll call quadruple jeopardy. They have to apply GAAP as best they can, but they are then subject to as many as four levels of possible second-guessing of their judgments.

First, the external auditors must weigh in. Second, the SEC will now be reviewing all public companies’ reports at least once every three years. Third, the PCAOB will be looking at a sample of accounting firms’ audits, and that could include any given company’s reports. Finally, the plaintiff’s bar is always looking for opportunities to challenge accounting judgments and extort settlements. Broad Principles Versus Detailed Rules

I suspect that all this second-guessing is what leads many companies and auditors to ask for more-detailed accounting rules. But we may have reached the point of diminishing returns. In response to the complexity and sheer volume of many current standards, some have suggested that accounting standards should be broad principles rather than detailed rules. FASB and the SEC have expressed support for the general notion of a principles-based approach to accounting standards. (It’s kind of like apple pie and motherhood: Who can object to broad principles?) Of course, implementing such an approach is problematic.

In 2002, FASB issued a proposal on this matter. And last year the SEC reported to Congress on the same topic. Specific things that FASB suggested could happen include the following:

Standards should always state very clear objectives. Standards should have a clearly defined scope and there should be few, if any, exceptions (e.g., for certain industries). Standards should contain fewer alternative accounting treatments (e.g., unrealized gains and losses on marketable securities could all be run through income rather than the various approaches used at present). FASB also said that a principles-based approach probably would include less in the way of detailed interpretive and implementation guidance. Thus, companies and auditors would be expected to rely more on professional judgment in applying the standards.

The SEC prefers to call this approach “objectives-based” rather than “principles-based.” SEC Chief Accountant Donald Nicolaisen recently repeated the SEC’s support for such an approach, agreeing with the notion of clearly identifying and articulating the objective for each standard. Although he also suggested that objectives-based standards should avoid bright-line tests such as lease capitalization rules, he called for “sufficiently detailed” implementation guidance, including real-world examples.

Although FASB and the SEC may have reached a meeting of the minds on the overall notion of more general principles, they may disagree on the key point of how much implementation guidance to provide. FASB thinks that a principles-based approach should include less implementation guidance and rely more on judgment, while the SEC thinks that “sufficiently detailed” guidance is needed, and I suspect that would make it difficult to significantly reduce complexity in some cases.

In any event, FASB recently said that it may take “several years or more” for preparers and auditors to adjust to a change to less detail. Meantime, little has changed with respect to individual standards, which if anything are becoming even harder to understand and apply.

I’ve heard FASB board members say that FASB Interpretation (FIN) 46, on variable-interest entities (VIE), is an example of a principles-based standard. I assume they say this because FIN 46 states an objective of requiring consolidation when control over a VIE exists. But the definition of a VIE and the rules for determining when control exists are extremely difficult to understand.

FASB recently described what it meant by the operationality of an accounting standard. The first condition was that standards have to be comprehensible to readers with a reasonable level of knowledge and sophistication. This doesn’t seem to be the case for FIN 46. Many auditors and financial executives have told me that only a few individuals in the country truly know how to apply FIN 46. And those few individuals often disagree among themselves!

Such complications make it difficult to get decisions on many accounting matters from an audit engagement team. Decisions on VIEs, derivatives, and securitization transactions, to name a few, must routinely be cleared by an accounting firm’s national experts. And with section 404 of the Sarbanes-Oxley Act (SOA) and new concerns about auditor independence, getting answers is now even harder. For example, in the past, companies would commonly consult with their auditors on difficult accounting matters. But now the PCAOB may view this as a control weakness, under the assumption that the company lacks adequate internal expertise. And if auditors get too involved in technical decisions before a complex transaction is completed, the SEC or the PCAOB might decide that the auditors aren’t independent, because they’re auditing their own decisions.

When things become this complicated, I wonder whether it’s time for a new approach. Maybe we do need to go back to the Good Old Days.

Internal Controls

Today, financial executives are probably more concerned about internal controls than new accounting requirements. For the first time, all public companies must report on the adequacy of their internal controls over financial reporting, and outside auditors must express their opinion on the company’s controls. Many people have questioned whether this incredibly expensive activity is worth the presumed benefit to investors. While one might argue that the section 404 rules are a regulatory overreaction, shareholders should expect good internal controls. And audit committees, as shareholders’ representatives, must demand those good controls. So this has been by far the most time-consuming topic at all audit committee meetings I’ve attended in the past couple of years.

Companies and auditors are spending huge sums this year to ensure that transactions are properly processed and controlled. Yet the most perfect system of internal controls and the best audit of them might not catch an incorrect interpretation of GAAP. A good example of this was contained in the PCAOB’s August 2004 report on its initial reviews of the Big Four’s audit practices. The report noted that all four firms had missed the fact that some clients had misapplied EITF Issue 95-22. As the New York Times (August 27, 2004) noted, “The fact that all of the top firms had been misapplying it raised issues of just how well they know the sometimes complicated rules.”

Responding to a different criticism in that same PCAOB report, KPMG noted, “Three knowledgeable informed bodies—the firm, the PCAOB, and the SEC—had reached three different conclusions on proper accounting, illustrating the complex accounting issues registrants, auditors and regulators all face.”

Fair Value Accounting

Even those who are very confident about their understanding of the current accounting rules shouldn’t get complacent: Fair value accounting is right around the corner, making things even harder. In fact, it is already required in several recent standards.

Continued in article

You can read more about Section 404 at http://en.wikipedia.org/wiki/SOX_404


"Audit firms left unprotected against claims of negligence," by Alex Spence, London Times, September 28, 2009 ---
http://business.timesonline.co.uk/tol/business/industry_sectors/support_services/article6851623.ece

Britain’s big four auditing firms have been left exposed to a surge in negligence claims after the Government refused to limit further the damages they could face.

Deloitte, Ernst & Young, KPMG and PricewaterhouseCoopers (PwC) lobbied hard for a cap on payouts. Senior figures involved in the discussions said that Lord Mandelson, the Business Secretary, appeared receptive to their concerns but stopped short of changing the law.

The decision is a huge blow to the firms — some face lawsuits relating to Bernard Madoff’s $65 billion fraud — which believe there may not be another chance for a change in the law for at least two years. They fear that they will be targeted by investors and liquidators seeking to recover losses from Madoff-style frauds and big company failures.

At present, auditors can be held liable for the full amount of losses in the event of a collapse, even if they are found to be only partly to blame.

In April, representatives of the companies met Lord Mandelson to plead for new measures to cap their liability. They warned that British business could be plunged into chaos if one of them were bankrupted by a blockbuster lawsuit.

However, an official of the Department for Business, Innovation and Skills said: “The 2006 Companies Act already allows auditor liability limitation where companies and their auditors want to take this course.”

Under present company law, directors can agree to restrict their auditors’ liability if shareholders approve; however, to date, no blue-chip company has done so. Directors have seen little advantage in limiting their auditors’ liability, and objections by the US Securities and Exchange Commission (SEC) have also been a significant obstacle.

The SEC opposes caps on the ground that their introduction could lead to secret deals whereby directors agree to restrict liability in return for auditors compromising on their oversight of a company’s accounts. The SEC could attempt to block caps put in place by British companies that have operations in the United States.

The big four auditors had hoped to persuade Lord Mandelson to amend the legislation to address the SEC’s concerns and to encourage companies to limit their auditors’ liability.

Peter Wyman, a senior PwC partner, who was involved in the discussions, said that the Government’s lack of action was disappointing. He said: “The Government, having legislated to allow proportionate liability for auditors, is apparently content to have its policy frustrated by a foreign regulator.”

Auditors are often hit with negligence claims in the aftermath of a company failure because they are perceived as having deep pockets and remain standing while other parties may have disappeared or been declared insolvent.

In 2005 Ernst & Young was sued for £700 million by Equitable Life, its former audit client, after the insurance company almost collapsed. The claim was dropped but could have bankrupted the firm’s UK arm if it had succeeded.

This year KPMG was sued for $1 billion by creditors of New Century, a failed sub-prime lender, and PwC has faced questions over its audit of Satyam, the Indian outsourcing company that was hit by a long- running accounting fraud.

Three of the big four are also facing numerous lawsuits relating to their auditing of the feeder funds that channelled investors into Madoff’s Ponzi scheme.

Investors and accounting regulators worry that the big four’s dominance of the audit market is so great that British business would be thrown into disarray if one of the four were put out of business by a huge court action. All but two FTSE 100 companies are audited by the four.

Mr Wyman said: “The failure of a large audit firm would be very damaging to the capital markets at a time when they are already fragile.”

Arthur Andersen, formerly one of the world’s five biggest accounting firms, collapsed in 2002 as a result of its role in the Enron scandal.

Suits you

KPMG A defendant in a class-action lawsuit in the Southern District of New York against Tremont, a Bernard Madoff feeder fund

Ernst & Young Sued by investors in a Luxembourg court with UBS for oversight of a European Madoff feeder fund

PwC Included in several lawsuits in Canada claiming damages of up to $2 billion against Fairfield Sentry, a big Madoff feeder fund

KPMG Sued in the US for at least $1 billion by creditors of New Century Financial, a failed sub-prime mortgage lender, which claimed that KPMG’s auditing was “recklessly and grossly negligent”

Deloitte Sued by the liquidators of two Bear Stearns-related hedge funds that collapsed at the start of the credit crunch

Jensen Comment
After the Enron, Worldcom, and other scandals there was serious doubt as to whether private investors would abandon equity capital markets. SOX was enacted to save Wall Street. It is doubtful that we, as accountants and auditors, will ever be able to return to "the good old days."

 

When the banks greatly underestimated loan losses, where were the auditors?
http://www.trinity.edu/rjensen/2008Bailout.htm#AuditFirms

Bob Jensen's threads on CPA firm litigation losses are at
http://www.trinity.edu/rjensen/fraud001.htm

Will the large international auditing firms survive?
http://www.trinity.edu/rjensen/2008Bailout.htm#Auditors


"The SEC Rules Historical Cost Accounting: 1934 to the 1970s," by Stephen A. Zeff, SSRN, January 2007 ---
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=956163

Abstract:
From its founding in 1934 until the early 1970s, the SEC and especially its Chief Accountant disapproved of most upward revaluations in property, plant and equipment as well as depreciation charges based on such revaluations. This article is a historical study of the evolution of the SEC's policy on such upward revaluations. It includes episodes when the private-sector body that established accounting principles sought to gain a degree of acceptance for them and was usually rebuffed. In the decade of the 1970s, the SEC altered its policy. Throughout the article, the author endeavors to explain the factors that influenced the positions taken by the parties.

 


More Than a Numbers Game: A Brief History of Accounting
Author: Thomas A. King
ISBN: 0-470-00873-3
Hardcover 242 pages
September 2006

Inspired by a 1998 speech by former SEC Chairman Arthur Levitt, this book addresses the why of accounting instead of the how, providing practitioners and students with a highly readable history of U.S. corporate accounting. Each chapter explores a controversial accounting topic. Author Thomas King is treasurer of Progressive Insurance.
SmartPros Newsletter, September 25, 2006

Jensen Comment
The Chief Accountant of the SEC under Arthur Levitt was one of my heroes named Lynn Turner.

Let me close by citing Harry S. Truman who said, "I never give them hell; I just tell them the truth and they think its hell!"
Great Speeches About the State of Accountancy

"20th Century Myths," by Lynn Turner when he was still Chief Accountant at the SEC in 1999 --- http://www.sec.gov/news/speech/speecharchive/1999/spch323.htm

It is interesting to listen to people ask for simple, less complex standards like in "the good old days." But I never hear them ask for business to be like "the good old days," with smokestacks rather than high technology, Glass-Steagall rather than Gramm-Leach, and plain vanilla interest rate deals rather than swaps, collars, and Tigers!! The bottom line is—things have changed. And so have people.

Today, we have enormous pressure on CEO’s and CFO’s. It used to be that CEO’s would be in their positions for an average of more than ten years. Today, the average is 3 to 4 years. And Financial Executive Institute surveys show that the CEO and CFO changes are often linked.

In such an environment, we in the auditing and preparer community have created what I consider to be a two-headed monster. The first head of this monster is what I call the "show me" face. First, it is not uncommon to hear one say, "show me where it says in an accounting book that I can’t do this?" This approach to financial reporting unfortunately necessitates the level of detail currently being developed by the Financial Accounting Standards Board ("FASB"), the Emerging Issues Task Force, and the AICPA’s Accounting Standards Executive Committee. Maybe this isn’t a recent phenomenon. In 1961, Leonard Spacek, then managing partner at Arthur Andersen, explained the motivation for less specificity in accounting standards when he stated that "most industry representatives and public accountants want what they call ‘flexibility’ in accounting principles. That term is never clearly defined; but what is wanted is ‘flexibility’ that permits greater latitude to both industry and accountants to do as they please." But Mr. Spacek was not a defender of those who wanted to "do as they please." He went on to say, "Public accountants are constantly required to make a choice between obtaining or retaining a client and standing firm for accounting principles. Where the choice requires accepting a practice which will produce results that are erroneous by a relatively material amount, we must decline the engagement even though there is precedent for the practice desired by the client."

We create the second head of our monster when we ask for standards that absolutely do not reflect the underlying economics of transactions. I offer two prime examples. Leasing is first. We have accounting literature put out by the FASB with follow-on interpretative guidance by the accounting firms—hundreds of pages of lease accounting guidance that, I will be the first to admit, is complex and difficult to decipher. But it is due principally to people not being willing to call a horse a horse, and a lease what it really is—a financing. The second example is Statement 133 on derivatives. Some people absolutely howl about its complexity. And yet we know that: (1) people were not complying with the intent of the simpler Statements 52 and 80, and (2) despite the fact that we manage risk in business by managing values rather than notional amounts, people want to account only for notional amounts. As a result, we ended up with a compromise position in Statement 133. To its credit, Statement 133 does advance the quality of financial reporting. For that, I commend the FASB. But I believe that we could have possibly achieved more, in a less complex fashion, if people would have agreed to a standard that truly reflects the underlying economics of the transactions in an unbiased and representationally faithful fashion.

I certainly hope that we can find a way to do just that with standards we develop in the future, both in the U.S. and internationally. It will require a change in how we approach standard setting and in how we apply those standards. It will require a mantra based on the fact that transparent, high quality financial reporting is what makes our capital markets the most efficient, liquid, and deep in the world.


Thoughts on Bill Paton and Some Other Historical Writers in Accountancy

Accounting history research led me to the following interesting tidbit about Bill Paton.
Bill was instrumental in founding the American Accounting Association.
He was born in April 1889, so go figure how old he was when the following book was published.

Professor Paton at one time was perhaps the most influential professor at the University of Michigan and in all of accounting academe. Rumor has it that at one time, due to his power of persuasion, a basic accounting course was in the core requirements at Michigan, although I never confirmed this rumor. He was notoriously influential in the AAA and notoriously conservative in his political thinking and speech making. Although his devotion was to accounting, his pride was his knowledge of economics. He regined as king and published countless articles when normative methodology reigned in accounting research. Today he probably could not get one article accepted in The Accounting Review. He lived and taught us in a bygone era.

Book Review by Harvey Hendrickson, The Accounting Review, October 1984, pp. 722-723

WILLIAM A. PATON, Words! Combining Fun and Learning (Ann Arbor: The Graduate School of Business Administration, The University of Michigan, 1984, pp. vii, 187, $12.00 paper).

This delightful paperback arrived oo late to be reviewed in the July issue and thus commemorate Mr. Paton's 95th birthday on July 19. It differs from Mr. Paton's many earlier books in at least three respects. First, it is not on accounting or related areas; a careful search indicates that the terms of these areas are rarely mentioned and when they are it is merely a passing reference. Second, it is something of a family affair in that the involvement, including "cooperation and encouragement" (p. iii), of several members (in addition to William A., Jr. who has been a co-author on many of his works) is mentioned at numerous points. Third, among potential users, it should be of interest not only to the accountant but also to nonaccountant member(s) of the family or household; this has been the case with this reviewer who has used it on several occasions to stimulate family conversationsa nd activities. A finding from these sessions is that our youngest child has encountered exercises similar to many in the book in the gifted and talented program of our public school system.

While presenting the lighter side, the a vocational or anecdotal Paton, this book also provides an insight into the breadth, versatility, and incisiveness of his thinking, his respect for and command of the English language, his lifelong commitment to learning, scholarship, and intellectual development, and his abhorrence of sloppiness in thinking and any of its other manifestations.

His opening sentence is that "words are man's greatest tool" (p. 1). He fleshes this out with a brief exploration of the importance of words in communication and the accumulation, classification, development, and expansion of knowledge. He continues with some specifics on reading, writing, speaking, and the misuse of words, and then proceeds to some 60 word games, puzzles, problems, challenges, and exercises-which should be enjoyable as well as helpful in stimulating thinking, increasing the ability to read, speak, and write. Paton adds that "[he is] convinced that playing word games at home will offset in some measure the lack of good instruction in many schools these days" (p. iii). Generously interspersed throughout the book are other anecdotes, aphorisms, and witticisms that constitute a part of the Paton lore and will give many chuckles, especially to those who know, admire, and respect this remarkable person, Outstanding Accounting Educator, and Book Reviews 723 stimulating thinking, increasing the ability to read, speak, and write. Paton adds that "[he is] convinced that playing word games at home will offset in some measure the lack of good instruction in many schools these days" (p. iii).

 Generously interspersed throughout the book are other anecdotes, aphorisms, and witticisms that constitute a part of the Paton lore and will give many chuckles, especially to those who know, admire, and respect this remarkable person, Outstanding Accounting Educator, and unforgettable character.


A nice timeline on the development of U.S. standards and the evolution of thinking about the income statement versus the balance sheet is provided at:
"The Evolution of U.S. GAAP: The Political Forces Behind Professional Standards (1930-1973)," by Stephen A. Zeff, CPA Journal, January 2005 --- http://www.nysscpa.org/cpajournal/2005/105/infocus/p18.htm
Part II covering years 1974-2003 published in February 2005 --- http://www.nysscpa.org/cpajournal/2005/205/index.htm 
The module for 1940 is as follows:

  • 1940
    The American Accounting Association (AAA) publishes Professors W.A. Paton and A.C. Littleton’s monograph An Introduction to Corporate Accounting Standards, which is an eloquent defense of historical cost accounting. The monograph provides a persuasive rationale for conventional accounting practice, and copies are widely distributed to all members of the AIA. The Paton and Littleton monograph, as it came to be known, popularizes the matching principle, which places primary emphasis on the matching of costs with revenues, with assets and liabilities dependent upon the outcome of this matching.

    Comment. The Paton and Littleton monograph reinforced the revenue-and-expense view in the literature and practice of accounting, by which one first determines whether a transaction gives rise to a revenue or an expense. Once this decision is made, the balance sheet is left with a residue of debit and credit balance accounts, which may or may not fit the definitions of assets or liabilities.

    The monograph also embraced historical cost accounting, which was taught to thousands of accounting students in universities, where the monograph was, for more than a generation, used as one of the standard textbooks in accounting theory courses.

    1940s

    Throughout the decade, the CAP frequently allows the use of alternative accounting methods when there is diversity of accepted practice.

    Comment. Most of the matters taken up by the CAP during the first half of the 1940s dealt with wartime accounting issues. It had difficulty narrowing the areas of difference in accounting practice because the major accounting firms represented on the committee could not agree on proper practice. First, the larger firms disagreed whether uniformity or diversity of accounting methods was appropriate. Arthur Andersen & Co. advocated fervently that all companies should follow the same accounting methods in order to promote comparability. But such firms as Price, Waterhouse & Co. and Haskins & Sells asserted that comparability was achieved by allowing companies to adopt the accounting methods that were most suited to their business circumstances. Second, the big firms disagreed whether the CAP possessed the authority to disallow accounting methods that were widely used by listed companies.

    Continued in article


  • "Ideology and reality in accounting: a Marxist history of the US accounting theory debate from the late 19th century to the FASB’s conceptual framework," by R.A. Bryer, Warwick Business School ---
    http://www.st-andrews.ac.uk/business/ecas/7/papers/ECAS-Bryer.pdf

    Paton wrote many books and articles on many issues over his long life, but he rarely changed his mind. One writer who did effect a temporary change was Littleton, who persuaded him to give up the idea of ‘value’ in accounting, as it was the self-evident source of his problems.

    A.C. Littleton

    Littleton’s main contribution to the debate was his argument that accounting could achieve its primary aim of accountability and avoid the Scylla of the LTV and the Charybdis of economic value, if accounting theorists abandoned the search for a theory of value, and focused on controlled use-values, but, without one, he failed to resolve any fundamental questions of practice.

    Littleton dismisses any role for Fisherian economic value in accounting. Failure to sharply distinguish between economic value and price, he says, "makes for confusion" (1929, p.148).( Littleton says this ‘confusion’ existed in 1929 "as it did in the lifetime of Adam Smith and David Ricardo" (1929, p.148), studiously ignoring Marx who claimed to have removed precisely these confusions.) To remove it, Littleton points out that ‘value’ is subjective and ‘price’ is objective. "Value is a subjective estimate of an article’s relative importance; price, however, is a compromise between such subjective estimates and is measured by the quantity of money for which an article is exchanged…; a value, however, can exist in one mind alone" (Littleton, 1929, p.149). However, if price is objective value, this raises the question, an objective value of what? Littleton goes out of his way to stifle the idea that this value is a commodity’s labour value, to distance himself from any association with the LTV. It is, as he said, "easy to see how…some writers feel that profit represented a certain portion of income created by labor but retained by enterprisers or the result of a superior bargaining power on the part of proprietors" (Littleton, 1928, p.281). He naturally dismissed "the old idea that [value] was stored up labor of the past" (1929, p.149), "that cost is the basis of value", and Marx’s idea that capitalists set prices to return them at least the required return on capital, the idea that price = cost + profit:

    "Much of the loose usage of ‘value’ in accountancy may perhaps be due to the generally held view that value in business has a cost base, that Price = Cost + Profit. As a matter of fact: Price – Cost = Profit. …[I]f cost is a proper basis for the inventory of a stock of unsold goods it must be for other reasons than that it express the value of the goods. As an expression of the investment in goods, cost is quite acceptable, but not as an expression of their value…[,] a record of recoverable outlay, and not a record of values. …What they are worth will depend upon future circumstances" (1929, pp.150-152).

     

    Although Littleton was unwavering in defense of historical cost as the main basis of financial reporting and defended his "costs attach" theory in the Paton and Littleton (1940) monograph, Bill Paton later withdrew his strong support of the "costs attach" justification for historical cost and the importance of matching revenues earned with the costs attached to the product or service being sold. You can find various references to this effect in  Accounting History Newsletter, 1980-1989 and Accounting History, 1989-1994: A Tribute to Robert William Gibson, by Garry Carnegie, Peter W. Wolnizer (Editor):  (Taylor and Francis, 1996) --- Click Here
    http://snipurl.com/patonrecant      [books_google_com]

    It should be noted that Bill Paton was in an advocate of "value accounting"  clear back in his 1922 Accounting Theory, but I take this to be replacement cost rather than exit value later advocated by MacNeal in 1939 and Chambers and Sterling in the 1960s.  In his famous (prior to the 1940 Paton and Littleton monograph) Accountants Handbook (Ronald Press, 1932, Second Edition, Page 525) it is stated:

    In particular the case of specialized equipment market value is usually little more than scrap value. That is, a specialized machine, bolted to the factory floor, has little value apart from the particular situation, and hence its market value, unless it is being considered as an element of the market value of the entire business as a going concern, is limited to net salvage ... buildings and equipment have a "going concern value" or "value in use" in excess of liquidation or market value.

    I've long argued that exit value non-financial items has the drawback in that the balance sheet is no different for a bankrupt firm as is the balance sheet of a dynamic going concern. Who cares about exit values if there is virtually no likelihood of liquidation of assets used in delivering a product or service?

    "Ideology and reality in accounting: a Marxist history of the US accounting theory debate from the late 19th century to the FASB’s conceptual framework," by R.A. Bryer, Warwick Business School ---
    http://www.st-andrews.ac.uk/business/ecas/7/papers/ECAS-Bryer.pdf

    On this vital issue, Paton and Littleton go out of their way to distinguish their notion that ‘costs attach’ from an anonymous "cost theory of value".32 First, they explain the function of accounting in monitoring the circuit of capital in a way that Marx himself could have written:

    "When production activity effects a change in the form of raw materials by the consumption of human labour and machine-power, accounting keeps step by classifying and summarizing appropriate portions of materials cost, labor cost, and machine cost so that together they become product-costs. In other words, it is a basic concept of accounting that costs can be marshalled into new groups that possess real significance. It is as if costs had a power of cohesion when properly brought into contact" (Paton and Littleton, 1940, p.13).

    Rather than say that Paton recanted his position on historical costs and the "costs attach" theory, it should be emphasized that Paton was always a "value man" who returned to his roots after after temporarily being influenced by the "cost man" Ananias Littleton. Littleton never viewed costs as a measure of value. Instead they measured sacrifices made at one historical point in time for generating future revenues. Profits measured the efficiency and effectiveness of managing purchased for generating those revenues, which is why Littleton strongly advocated the cost attachment to those resources until they were used up or otherwise disposed of in operations.

    You can read about William  Andrew Paton at --- Click Here
    http://fisher.osu.edu/departments/accounting-and-mis/the-accounting-hall-of-fame/membership-in-hall/william-a.-paton/
    Also see http://en.wikipedia.org/wiki/William_Andrew_Paton

    You can read about Ananias Charles Littleton at Click Here
    http://fisher.osu.edu/departments/accounting-and-mis/the-accounting-hall-of-fame/membership-in-hall/ananias-charles-littleton/

     


     


    Accounting for the Shadow Economy

    Property is much more than a body of norms. It is also a huge information system that processes raw data until it is transformed into facts that can be tested for truth, and thereby destroys the main catalysts of recessions and panics -- ambiguity and opacity.
    See below

    A Lesson for Auditors:  Accounting for the shadow economy
    "Toxic Assets Were Hidden Assets:  We can't afford to allow shadow economies to grow this big," by Hernando de Soto, The Wall Street Journal, March 25, 2009 --- http://online.wsj.com/article/SB123793811398132049.html?mod=djemEditorialPage

    The Obama administration has finally come up with a plan to deal with the real cause of the credit crunch: the infamous "toxic assets" on bank balance sheets that have scared off investors and borrowers, clogging credit markets around the world. But if Treasury Secretary Timothy Geithner hopes to prevent a repeat of this global economic crisis, his rescue plan must recognize that the real problem is not the bad loans, but the debasement of the paper they are printed on.

    Today's global crisis -- a loss on paper of more than $50 trillion in stocks, real estate, commodities and operational earnings within 15 months -- cannot be explained only by the default on a meager 7% of subprime mortgages (worth probably no more than $1 trillion) that triggered it. The real villain is the lack of trust in the paper on which they -- and all other assets -- are printed. If we don't restore trust in paper, the next default -- on credit cards or student loans -- will trigger another collapse in paper and bring the world economy to its knees.

    If you think about it, everything of value we own travels on property paper. At the beginning of the decade there was about $100 trillion worth of property paper representing tangible goods such as land, buildings, and patents world-wide, and some $170 trillion representing ownership over such semiliquid assets as mortgages, stocks and bonds. Since then, however, aggressive financiers have manufactured what the Bank for International Settlements estimates to be $1 quadrillion worth of new derivatives (mortgage-backed securities, collateralized debt obligations, and credit default swaps) that have flooded the market.

    These derivatives are the root of the credit crunch. Why? Unlike all other property paper, derivatives are not required by law to be recorded, continually tracked and tied to the assets they represent. Nobody knows precisely how many there are, where they are, and who is finally accountable for them. Thus, there is widespread fear that potential borrowers and recipients of capital with too many nonperforming derivatives will be unable to repay their loans. As trust in property paper breaks down it sets off a chain reaction, paralyzing credit and investment, which shrinks transactions and leads to a catastrophic drop in employment and in the value of everyone's property.

    Ever since humans started trading, lending and investing beyond the confines of the family and the tribe, we have depended on legally authenticated written statements to get the facts about things of value. Over the past 200 years, that legal authority has matured into a global consensus on the procedures, standards and principles required to document facts in a way that everyone can easily understand and trust.

    The result is a formidable property system with rules and recording mechanisms that fix on paper the facts that allow us to hold, transfer, transform and use everything we own, from stocks to screenplays. The only paper representing an asset that is not centrally recorded, standardized and easily tracked are derivatives.

    Property is much more than a body of norms. It is also a huge information system that processes raw data until it is transformed into facts that can be tested for truth, and thereby destroys the main catalysts of recessions and panics -- ambiguity and opacity. To bring derivatives under the rule of law, governments should ensure that they conform to six longstanding procedures that guarantee the value and legitimacy of any kind of paper purporting to represent an asset:

    - All documents and the assets and transactions they represent or are derived from must be recorded in publicly accessible registries. It is only by recording and continually updating such factual knowledge that we can detect the kind of overly creative financial and contractual instruments that plunged us into this recession.

    - The law has to take into account the "externalities" or side effects of all financial transactions according to the legal principle of erga omnes ("toward all"), which was originally developed to protect third parties from the negative consequences of secret deals carried out by aristocracies accountable to no one but themselves.

    - Every financial deal must be firmly tethered to the real performance of the asset from which it originated. By aligning debts to assets, we can create simple and understandable benchmarks for quickly detecting whether a financial transaction has been created to help production or to bet on the performance of distant "underlying assets."

    - Governments should never forget that production always takes priority over finance. As Adam Smith and Karl Marx both recognized, finance supports wealth creation, but in itself creates no value.

    - Governments can encourage assets to be leveraged, transformed, combined, recombined and repackaged into any number of tranches, provided the process intends to improve the value of the original asset. This has been the rule for awarding property since the beginning of time.

    - Governments can no longer tolerate the use of opaque and confusing language in drafting financial instruments. Clarity and precision are indispensable for the creation of credit and capital through paper. Western politicians must not forget what their greatest thinkers have been saying for centuries: All obligations and commitments that stick are derived from words recorded on paper with great precision.

    Above all, governments should stop clinging to the hope that the existing market will eventually sort things out. "Let the market do its work" has come to mean, "let the shadow economy do its work." But modern markets only work if the paper is reliable.

    Continued in article


    Question
    When is $7 billion not a material bad debt exposure?

    Answer
    When the "bad debt" is from an "empty creditor"
    Now do you understand?

    "'Empty Creditors' and the Crisis How Goldman's $7 billion was 'not material," by Henry T.C. Hu, The Wall Street Journal, April 10, 2009 ---
    http://online.wsj.com/article/SB123933166470307811.html

    The defining moments of our financial crisis are now familiar. Last September, Lehman collapsed and AIG was teetering. Because an AIG collapse was viewed as posing unacceptable systemic risks, the Federal Reserve provided the company with an emergency $85 billion loan on Sept. 16.

    But a curious incident that fateful day raises significant public policy issues. Goldman Sachs reported that its exposure to AIG was "not material." Yet on March 15 of this year, AIG disclosed that it paid $7 billion of its government loan last fall to satisfy obligations to Goldman. A "not material" statement and a $7 billion payout appear to be at odds.

    Why didn't Goldman bark that September day? One explanation is that Goldman was, to use a term that I coined a few years ago, largely an "empty creditor" of AIG. More generally, the empty-creditor phenomenon helps explain otherwise-puzzling creditor behavior toward troubled debtors. Addressing the phenomenon can help us cope with its impact on individual debtors and the overall financial system.

    What is an empty creditor? Consider that debt ownership conveys a package of economic rights (to receive principal and interest), contractual control rights (to enforce the terms of the agreement), and other legal rights (to participate in bankruptcy proceedings). Traditionally, law and business practice assume these components are bundled together. Another foundational assumption: Creditors generally want to keep solvent firms out of bankruptcy and to maximize their value.

    These assumptions can no longer be relied on. Credit default swaps and other products now permit a creditor to avoid any actual exposure to financial risk from a shaky debt -- while still maintaining his formal contractual control rights to enforce the terms of the debt agreement, and his legal rights under bankruptcy and other laws.

    Thus the "empty creditor": someone (or institution) who may have the contractual control but, by simultaneously holding credit default swaps, little or no economic exposure if the debt goes bad. Indeed, if a creditor holds enough credit default swaps, he may simultaneously have control rights and incentives to cause the debtor firm's value to fall. And if bankruptcy occurs, the empty creditor may undermine proper reorganization, especially if his interests (or non-interests) are not fully disclosed to the bankruptcy court.

    Goldman Sachs was apparently an empty creditor of AIG. On March 20, David Viniar, Goldman's chief financial officer, indicated that the company had bought credit default swaps from "large financial institutions" that would pay off if AIG defaulted on its debt. A Bloomberg News story on that day quotes Mr. Viniar as saying that "[n]et-net I would think we had a gain over time" with respect to the credit default swap contracts.

    Goldman asserted its contractual rights to require AIG to provide collateral on transactions between the two, notwithstanding the impact of such collateral calls on AIG. This behavior was understandable: Goldman had responsibilities to its own shareholders and, in Mr. Viniar's words, was "fully protected and didn't have to take a loss."

    Nothing in the law prevents any creditor from decoupling his actual economic exposure from his debt. And I do not suggest any inappropriate behavior on the part of Goldman or any other party from such "debt decoupling." But none of the existing regulatory efforts involving credit derivatives are directed at the empty-creditor issue. Empty creditors have weaker incentives to cooperate with troubled corporations to avoid collapse and, if collapse occurs, can cause substantive and disclosure complexities in bankruptcy.

    An initial, incremental, and low-cost step lies in the area of a real-time informational clearinghouse for credit default swaps and other over-the-counter (OTC) derivatives transactions and other crucial derivatives-related information. Creditors are not generally required to disclose the "emptiness" of their status, or how they achieved it. More generally, OTC derivatives contracts are individually negotiated and not required to be disclosed to any regulator, much less to the public generally. No one regulator, nor the capital markets generally, know on a real-time basis the entity-specific exposures, the ultimate resting places of the credit, market, and other risks associated with OTC derivatives.

    With such a clearinghouse, the interconnectedness of market participants' exposures would have been clearer, governmental decisions about bailing out Lehman and AIG would have been better informed, and the market's disciplining forces could have played larger roles. Most important, a clearinghouse could have helped financial institutions to avoid misunderstanding their own products, and modeling and risk assessment systems -- misunderstandings that contributed to the global economic crisis.

    Henry Hu is a professor at the University of Texas Law School.

    Bob Jensen's threads on the credit derivatives mess of AIG are at http://www.trinity.edu/rjensen/2008Bailout.htm#Bailout


    Behavioral and Cultural Economics and Finance

    "Video: Daniel Kahneman - The Psychology of Large Mistakes and Important Decisions" Simoleon Sense, July 27, 2009 ---
    http://www.simoleonsense.com/daniel-kahneman-psychology-of-large-mistakes-and-decisions/

    Speaker Background (Via Wikipedia)

    Daniel Kahneman is an Israeli psychologist and Nobel laureate, notable for his work on the psychology of judgment and decision-making, behavioral economics and hedonic psychology.With Amos Tversky and others, Kahneman established a cognitive basis for common human errors using heuristics and biases , and developed Prospect theory . He was awarded the 2002 Nobel Memorial Prize in Economics for his work in Prospect theory. Currently, he is professor emeritus of psychology and public affairs at Princeton University’s Woodrow Wilson School.

    Watch the video --- Click Here


    Video 1: "Nobelist Daniel Kahneman On Behavioral Economics (Awesome)!" Simoleon Sense, June 5, 2009 ---
    http://www.simoleonsense.com/video-nobelist-daniel-kahneman-on-behavioral-economics-awesome/

    Introduction (Via Fora.Tv)

    Nobel Prize-winning psychologist Daniel Kahneman addresses the Georgetown class of 2009 about the merits of behavioral economics.

    He deconstructs the assumption that people always act rationally, and explains how to promote rational decisions in an irrational world.

    Topics Covered:

    1. The Economic Definition Of Rationality

    2. Emphasis on Rationality in Modern Economic Theory

    3. Examples of Irrational Behavior (watch this part)

    4. How to encourage rational decisions

    Speaker Background (Via Fora.Tv)

    Daniel Kahneman - Daniel Kahneman is Eugene Higgins Professor of Psychology and Professor of Public Affairs Emeritus at Princeton University. He was educated at The Hebrew University in Jerusalem and obtained his PhD in Berkeley. He taught at The Hebrew University, at the University of British Columbia and at Berkeley, and joined the Princeton faculty in 1994, retiring in 2007. He is best known for his contributions, with his late colleague Amos Tversky, to the psychology of judgment and decision making, which inspired the development of behavioral economics in general, and of behavioral finance in particular. This work earned Kahneman the Nobel Prize in Economics in 2002 and many other honors

    Video 2:  Nancy Etcoff is part of a new vanguard of cognitive researchers asking: What makes us happy? Why do we like beautiful things? And how on earth did we evolve that way?
    Simoleon Sense, June 10, 2009
    http://www.simoleonsense.com/science-of-happiness/ 

    Video 3:  Yale's Robert Shiller (slightly over one hour of video lecture)
    Behavioral Finance: The Role of Psychology --- http://www.youtube.com/watch?v=0ZLNbxWH8Lc

    "Countries and Culture in Behavioral Finance," by Meir Statman ---
    http://www.scu.edu/business/finance/research/upload/Countries-and-cultures-in-BF.pdf

    Behavioral finance has made important contributions to the field of investing by focusing on the cognitive and emotional aspects of the investment decision-making process. Although it is tempting to say that people are the same everywhere, the collective set of common experiences that people of the same culture share will influence their cognitive and emotional approach to investing. In this article, the author discusses the many cultural differences that may influence investor behavior and how these differences may influence the recommendations of a financial advisor.

    "Must Read: Why People Fall Victim To Scams," Simoleon Sense, March 18, 2009 ---
    http://www.simoleonsense.com/must-read-why-people-fall-victim-to-scams/
    The paper is at http://www.oft.gov.uk/shared_oft/reports/consumer_protection/oft1070.pdf


    A Mountain Climbing Metaphor of Corporate Greed

    "Scaling the Heights of Corporate Greed: Chafkin and Lo on Risk," by Stephen J. Dubner, Freakonomics Blog of The New York Times, August 5, 2009 ---
    http://freakonomics.blogs.nytimes.com/2009/08/04/scaling-the-heights-of-corporate-greed-chafkin-and-lo-on-risk/

    Scaling the Heights of Corporate Greed A Guest Post By Jeremiah H. Chafkin and Andrew W. Lo

    In Laurence Gonzales’s riveting book Deep Survival, he gives a sobering account of four mountain climbers who successfully scaled the 11,249-foot peak of Mount Hood in Oregon — considered a “beginner’s” mountain — only to fall disastrously during their descent.

    The climber in the top position — a veteran of much more challenging climbs — felt that belaying (the laborious process of anchoring a climber’s rope to the mountainside to arrest a fall) was an unnecessary precaution in this case, so when he lost his footing and fell, he yanked his three tethered colleagues, and five climbers below them, off the side of the snow-covered mountain. Three men died in this unfortunate incident, and the question posed by Gonzales is what leads some individuals to such tragic ends, while others faced with the same circumstances survive?

    The answer, which forms the major thesis of Deep Survival, may also be the ultimate explanation for the current financial crisis:

    The climbers on Mount Hood were set up for disaster not by their inexperience, but by their experience. It was the quality of their thinking, the idea that they knew, coupled with hidden characteristics of the system they had so often used. The system … was capable of displaying one type of behavior for a long time and then suddenly changing its behavior completely.

    In other words, their mental model of this beginner’s mountain did not match the reality on that fateful day, resulting in their tragic accident.

    The remarkably consistent performance of the U.S. residential real-estate market over the decade from 1996 to 2006 may have had the same effect, leading many experienced businessmen to conclude that such growth was likely to continue indefinitely. And despite all the protections that were available to these captains of industry — analytics that showed large potential losses in the event of a downturn in housing prices, leverage constraints imposed by regulatory capital requirements, and warning signs from the hedge-fund industry in 2005 and 2006 — they charged ahead anyway, with the single-mindedness of a well-funded expedition hell-bent on conquering a mountain. Their mental models apparently did not match reality either.

    Much of neoclassical economics is based on the assumption that individuals act rationally and that markets fully reflect all available information, i.e., markets are informationally efficient. So powerful and far-reaching are the implications of this hypothesis that we sometimes forget it is meant to be an approximation to a much more complex reality. Recent advances in the cognitive neurosciences have radically altered our understanding of human decision-making, underscoring the importance of emotion, “hardwired” responses, and neural “plasticity” (the adaptability of neural pathways) in producing observed behavior (see Lo 2004, 2005). These breakthroughs show that decisions are often the result of several distinct components of the brain — some under our direct control and others that work behind the scenes and below our consciousness — that collaborate to yield a course of action best suited to achieve our immediate goals. On occasion, those immediate goals may conflict with larger and more important goals, like survival.

    One illustration of this mismatch is the typical response to the following question: what is the primary objective of any mountain-climbing expedition? If, like most individuals, you answered “to get to the summit, of course,” you may be suffering from the same mental blinders as those climbers who fell from Mount Hood. A more risk-aware response might be: “to get to the summit, and then descend successfully.” Sometimes, we are so focused on one objective — to the exclusion of all else — that we neglect the obvious.

    Risk-taking in corporate contexts is surprisingly similar, except that the height of the mountain is measured in units of earnings-per-share, return-on-equity, and share price. CEO’s are richly rewarded for the speed of their ascent during times of growing demand and easy money, but not necessarily for safely navigating the descent to the bottom of the business and credit cycles. While “greedy” CEO’s are easy scapegoats, the main object of everyone’s attention — the stock price — is often driven by shareholders looking for short-term profits, not long-term capital appreciation. And competition for shareholder dollars is akin to having many climbers competing to reach the same peak first. In both cases, the rewards — either bragging rights or bonuses — are proportional to the difficulty of the climb (barriers to entry) and the speed of the ascent (growth rate). A well-planned and successful descent is usually not on the list.

    Now it can be argued that descending safely goes without saying, and most serious climbers are extremely well-prepared for both legs of their journey. But if it goes without saying, it sometimes goes without detailed planning, and then without doing, especially by those lucky climbers who have never experienced any setbacks or accidents. Similarly, corporate profits are rarely generated without taking some risks, yet the current culture, compensation structure, and shareholder and analyst objectives surrounding the modern corporation are all focused mainly on the race to the summit.

    So what is the business equivalent of a well-crafted plan for descent? One possibility is for a corporation to appoint a chief risk officer (CRO) who reports directly to the board of directors and is solely responsible for managing the company’s enterprise risk exposures, and whose compensation depends not on corporate revenues or earnings, but on corporate stability. Any proposed material change in a corporation’s risk profile — as measured by several objective metrics that are specified in advance by senior management and the board — will require prior written authorization of the CRO; and the CRO can be terminated if a corporation’s risk profile deviates from its pre-specified risk mandate, as determined jointly on an annual basis by senior management and the board.

    Such a proposal does invite conflict and debate among senior management and their directors, but this is precisely the point. By having open dialogue about the potential risks and rewards of new initiatives, senior management will have a fighting chance of avoiding the cognitive traps that can lead to disaster. Imagine if one of the four ill-fated climbers on Mount Hood had been assigned the role of the “designated skeptic” in advance, in which capacity he would be expected to raise every reasonable objection he could think of to a quick descent. We will never know if this would have been enough to have prevented their fall, but it would certainly have given them pause, and an opportunity for further reflection.

    Mountains must be scaled, businesses must be built, and risks imply that occasionally, losses will be severe. But it would be even more tragic if we compounded our mistakes by failing to learn from them.


    "Using Psychology To Save You From Yourself (with audio) ," by Alix Spiegel, NPR, June 12, 2009 ---
    http://www.npr.org/templates/story/story.php?storyId=104803094&sc=nl&cc=es-20090628

    The city of Greensboro, N.C., has experimented with a program designed for teenage mothers. To prevent these teens from having another child, the city offered each of them $1 a day for every day they were not pregnant. It turns out that the psychological power of that small daily payment is huge. A single dollar a day was enough to push the rate of teen pregnancy down, saving all the incredible costs — human and financial — that go with teen parenting.

    Cass Sunstein, President Obama's pick to head the Office of Information and Regulatory Affairs, was a vocal supporter of the program, because it was an economic policy that shaped itself around human psychology. Sunstein is just one of a number of high-level appointees now working in the Obama administration who favors this kind of approach.

    All are devotees of behavioral economics — a school of economic thought greatly influenced by psychological research — which argues that the human animal is hard-wired to make errors when it comes to decision-making, and therefore people need a little "nudge" to make decisions that are in their own best interests.

    And that is exactly what Obama administration officials plan to do: By taking account of human psychology, they hope to save you from yourself.

    This is the story of how obscure psychological research into human decision-making first revolutionized economics and now appears poised to remake the relationship between the government and its citizens.

    How Behavioral Economics Came To Be

    The ideas that underlie the Obama administration's approach to social policies got their start in 1955 with Daniel Kahneman. Then a young psychologist in the Israeli army, Kahneman's primary job was to try to figure out which of his fellow soldiers might make good officers. To do this, Kahneman ran the men through an unusual exercise: He organized them into groups of eight, took away all their insignia so know one knew who had a higher rank, and told them to lift an enormous telephone pole over a 6-foot wall.

    Kahneman felt the exercise was incredibly revealing. "We could see who was a leader, who was taking charge," Kahneman says. "We could see who was a quitter, who gave up. And we thought that what we saw before us is how they would behave in combat."

    Certain of their wisdom, Kahneman and his fellow psychologists would make recommendations after the exercise. The chosen men would go to officer school, and Kahneman would move on to the next batch of soldiers. There was only one problem: Kahneman and his colleagues were terrible at it.

    Every month or so, Kahneman would get feedback from the school about his picks, and "there was absolutely no relationship between what we saw and what people saw who examined them for six months in officer training school," he says.

    But here's the remarkable thing: Despite the negative feedback, Kahneman's faith in his own ability was unshaken.

    "The next day after getting those statistics, we put them there in front of the wall, gave them a telephone pole, and we were just as convinced as ever that we knew what kind of officer they were going to be."

    People Make Irrational Choices

    Kahneman was surprised by the pure visceral power of his own certainty. He eventually coined a phrase for it: "illusion of validity."

    It's a problem that afflicts us all, says Kahneman, who won the 2002 Nobel Prize in economics for his work on this subject. From stockbrokers to baseball scouts, people have a huge amount of confidence in their own judgment, even in the face of evidence that their judgment is wrong.

    But that mistake is just one of many cognitive errors identified by Kahneman and his frequent collaborator, psychologist Amos Tversky. For more than a decade, the two worked together cataloging the ways the human mind systematically misjudges the world around it.

    For instance, Kahneman and Tversky identified "anchoring bias." It turns out that whenever you are exposed to a number, you are influenced by that number whether you intend to be influenced or not.

    This is why, for example, the minimum payments suggested on your credit card bill tend to be low. That number frames your expectation, so you pay less of the bill than you might otherwise, your interest continues to grow, and your credit card company makes more money than if you had not had your expectations influenced by the low number.

    Through their research, Kahneman and Tversky identified dozens of these biases and errors in judgment, which together painted a certain picture of the human animal. Human beings, it turns out, don't always make good decisions, and frequently the choices they do make aren't in their best interest.

    In the realm of academic psychology, this isn't much of a revelation — psychologists see people as flawed in all kinds of ways. So, if the ideas of Kahneman and Tversky had simply stayed in the realm of academic psychology, there wouldn't be much of a story to tell.

    Continued in article

    Bob Jensen's threads on the Efficient Market Hypothesis are at
    http://www.trinity.edu/rjensen/theory01.htm#EMH


    Media Reporting and Advising Controversies

    Video (humor?):  Jon Stewart versus Jim Cramer (CNBC) on The Daily Show ---
    http://www.youtube.com/watch?v=Vi6bxKAAHzQ

    See the full episode --- http://www.youtube.com/watch?v=dwUXx4DR0wo


    Question
    What is hyperbolic discounting?

    "Psychology of poverty and temptation," by Chris Blattman, September 2009 ---
    http://chrisblattman.com/2009/09/15/psychology-of-poverty-and-temptation/

    Some people are impulsive and impatient; they prefer a dollar or a donut today far more than a dollar or a donut tomorrow, so much so that they’re willing to give up shocking amounts of dollars and donuts tomorrow for just one today. This is one reason, some say, that we see such high interest rates for short-term borrowing, from New York to Calcutta.

    Some people are not only impulsive and impatient, but inconsistently so. they care a lot about a dollar today versus tomorrow, but could care less between getting a dollar either 10 or 11 days from now. Economists call this ‘hyperbolic discounting’.

    Both behaviors–impatience and time inconsistency–could be a source of persistent poverty.

    Or not. Abhijit Banerjee presented a new paper here yesterday, written with MIT colleague Sendhil Mullainathan. They look at a number of seemingly unusual behaviors by the very poor–from exorbitant rates of short-term borrowing to the low take-up of small, high-return investments. Impatience cannot explain the patterns, they say. The impatience approach also requires the poor think differently than the rest of the population.

    Another view: we’re all impulsive and impatient in the same way, but over a narrow range of goods that are quickly and cheaply satisfied. If you’re poor, these temptations are a big fraction of your income. If you’re even somewhat wealthy, they are not. Temptations are declining in income.

    The paper runs through half a dozen perplexing patterns of behavior, and shows that these simple assumptions can explain a great deal.

    This approach has a great deal in common with hyperbolic discounting, but is empirically distinct (and has very different policy implications). Parsing out and testing these subtleties strikes me as one of the most important frontiers in the study of poverty. Declining temptation, if true, could explain all sorts of odd behaviors. With more than a few Uganda and Liberia surveys on the horizon, I’m now scheming ways to test whether it’s true.

    It’s a difficult paper, especially for those uninitiated in micro-economic theory. Even if that sounds like you: the subtle points are worth the slog.

    For an intro to the subfield, see Senthil’s essay, Development economics through the lens of psychology. Another great resource is Stefano Dellavigna’s recent JEL article on evidence from the field. Both are ungated.


    78% of former NFL players have gone bankrupt or are under financial stress because of joblessness or divorce.
    Championship Rings in pawn shops, IRS vaults, Ponzi schemer stashes offshore, or in the clutches of ex-wives

    What on earth did athletes learn in college?

    Pros seem especially susceptible to Ponzi schemes. Some recent examples --- Click Here

    10 Ways Sports Stars (multi-millionaires) Go From Riches To Rags," by Lawrence Delevingne, Business Insider, September 18, 2009 --- http://www.businessinsider.com/10-ways-sports-stars-destroy-their-finances-2009-9

     Sports Illustrated article this year showed how shockingly common financial ruin is:

    If that's not bad enough, the recession has made things even worse. Too much money in real estate; investments in Ponzi schemes; and poor financial advising have been exposed with the down economy.

    A sign of the times? More former stars are selling their championship rings for money than ever. "It's amazing that I heard the recession was over," says Timothy Robins, owner of Championshiprings.net, who buys bling from current and former pros and has seen a 36% increase in sales during the past year. "I'm getting more calls from players than ever. They're having a really hard time."

    While just about everyone has lost money over the past year, athletes tend to make particularly bad financial decisions, and it's not just reckless spending.

    How they lose their wealth --- Click Here
    http://www.businessinsider.com/10-ways-sports-stars-destroy-their-finances-2009-9#put-cash-in-a-ponzi-scheme-1

    The 10 ways sports pros blow their cash >>

    Jensen Comment
    The same goes for many, many movie stars like Debbie Reynolds who, very late in their lives, are "willing to work for food."

    The boots in Hollywood's Boot Hill are not stuffed with savings.

    Bob Jensen's helpers in personal finance ---
    http://www.trinity.edu/rjensen/Bookbob1.htm#InvestmentHelpers

    How to avoid losing your money to fraud ---
    http://www.trinity.edu/rjensen/FraudReporting.htm


    Video: Financial Reporting in Today’s Economy - Buyouts, Takeovers, Downsizing ---
    http://www.simoleonsense.com/video-financial-reporting-in-todays-economy-buyouts-takeovers-downsizing/

    The Jon Stewart & Jim Cramer battle made numerous rounds and yet the question still remains- should the financial media be held accountable for failing to warn citizens of the economic/financial downturn?

    Introduction (Via Fora.TV)

    Should financial media be held accountable for their failure to have warned the public of the current economic downturn? What steps are being taken to avoid this happening in the future?

    A panel of leading financial reporters assess the global crisis and discuss the ‘perfect storm’ of events that led to it. Aspiring journalists will hear how to avoid the perils and pitfalls of the profession, and media observers can decide for themselves if the media is to blame.

    About the Speaker (Via Fora.TV)

    Liz Claman - Liz Claman joined FOX Business Network (FBN) as an anchor in October 2007. Her debut included an exclusive interview with Berkshire Hathaway CEO and legendary investor Warren Buffett.

    Alan Murray - Alan Murray is a Deputy Managing Editor of The Wall Street Journal and Executive Editor for the Journal Online. He also has editorial responsibility for Wall Street Journal television, books, conferences, and the MarketWatch web site. Mr. Murray spent a decade as the Journal’s Washington bureau chief.

    Jeff Bercovici - Jeff Bercovici joined Conde Nast Portfolio from Radar magazine, where he was part of the relaunch team for both the online and print editions.

     


    Efficient Markets (EMH) versus Imperfect Markets


    Before reading this it is advisable to read about the Efficient Market Hypothesis --- http://en.wikipedia.org/wiki/Efficient_Market_Hypothesis
    For decades Fama and French have been the leading scholars on this hypothesis

    Stocks are still the best investment for the long run. But maybe not for your long run.
    Justin Fox, "Are Stocks Still Good for the Long Run?" Time Magazine, June 15, 2009 --- http://www.time.com/time/magazine/article/0,9171,1902843-2,00.html
    Also see Jim Mahar's June 10, 2009 summary at http://financeprofessorblog.blogspot.com/
    In particular this references a study by Arnott that asserts that over the past 40 years the stock market underperformed the bond market. In my opinion, if you into bonds for the next 40 years they'd better be inflation-indexed bonds such as Treasury TIPs.


    'Efficient Market Theory and the Crisis: Neither the rating agencies' mistakes nor the overleveraging by financial firms was the fault of an academic hypothesis," by Jeremy J. Siegel, The Wall Street Journal, October 27, 2009 ---
    http://online.wsj.com/article/SB10001424052748703573604574491261905165886.html?mod=djemEditorialPage

    Financial journalist and best-selling author Roger Lowenstein didn't mince words in a piece for the Washington Post this summer: "The upside of the current Great Recession is that it could drive a stake through the heart of the academic nostrum known as the efficient-market hypothesis." In a similar vein, the highly respected money manager and financial analyst Jeremy Grantham wrote in his quarterly letter last January: "The incredibly inaccurate efficient market theory [caused] a lethally dangerous combination of asset bubbles, lax controls, pernicious incentives and wickedly complicated instruments [that] led to our current plight."

    But is the Efficient Market Hypothesis (EMH) really responsible for the current crisis? The answer is no. The EMH, originally put forth by Eugene Fama of the University of Chicago in the 1960s, states that the prices of securities reflect all known information that impacts their value. The hypothesis does not claim that the market price is always right. On the contrary, it implies that the prices in the market are mostly wrong, but at any given moment it is not at all easy to say whether they are too high or too low. The fact that the best and brightest on Wall Street made so many mistakes shows how hard it is to beat the market.

    This does not mean the EMH can be used as an excuse by the CEOs of the failed financial firms or by the regulators who did not see the risks that subprime mortgage-backed securities posed to the financial stability of the economy. Regulators wrongly believed that financial firms were offsetting their credit risks, while the banks and credit rating agencies were fooled by faulty models that underestimated the risk in real estate.

    After the 1982 recession, the U.S. and world economies entered into a long period where the fluctuations in variables such as gross domestic product, industrial production, and employment were significantly lower than they had been since World War II. Economists called this period the "Great Moderation" and attributed the increased stability to better monetary policy, a larger service sector and better inventory control, among other factors.

    The economic response to the Great Moderation was predictable: risk premiums shrank and individuals and firms took on more leverage. Housing prices were boosted by historically low nominal and real interest rates and the development of the securitized subprime lending market.

    According to data collected by Prof. Robert Shiller of Yale University, in the 61 years from 1945 through 2006 the maximum cumulative decline in the average price of homes was 2.84% in 1991. If this low volatility of home prices persisted into the future, a mortgage security composed of a nationally diversified portfolio of loans comprising the first 80% of a home's value would have never come close to defaulting. The credit quality of home buyers was secondary because it was thought that underlying collateral—the home—could always cover the principal in the event the homeowner defaulted. These models led credit agencies to rate these subprime mortgages as "investment grade."

    But this assessment was faulty. From 2000 through 2006, national home prices rose by 88.7%, far more than the 17.5% gain in the consumer price index or the paltry 1% rise in median household income. Never before have home prices jumped that far ahead of prices and incomes.

    This should have sent up red flags and cast doubts on using models that looked only at historical declines to judge future risk. But these flags were ignored as Wall Street was reaping large profits bundling and selling the securities while Congress was happy that more Americans could enjoy the "American Dream" of home ownership. Indeed, through government-sponsored enterprises such as Fannie Mae and Freddie Mac, Washington helped fuel the subprime boom.

    Neither the rating agencies' mistakes nor the overleveraging by the financial firms in the subprime securities is the fault of the Efficient Market Hypothesis. The fact that the yields on these mortgages were high despite their investment-grade rating indicated that the market was rightly suspicious of the quality of the securities, and this should have served as a warning to prospective buyers.

    With few exceptions (Goldman Sachs being one), financial firms ignored these warnings. CEOs failed to exercise their authority to monitor overall risk of the firm and instead put their faith in technicians whose narrow models could not capture the big picture. One can only wonder if the large investment banks would have taken on such risks when they were all partnerships and the lead partner had all his wealth in the firm, as they were just a few decades ago.

    The misreading of these economic trends did not just reside within the private sector. Former Fed Chairman Alan Greenspan stated before congressional committees last December that he was "shocked" that the top executives of the financial firms exposed their stockholders to such risk. But had he looked at their balance sheets, he would have realized that not only did they put their own shareholders at risk, but their leveraged positions threatened the viability of the entire financial system.

    As home prices continued to climb and subprime mortgages proliferated, Mr. Greenspan and current Fed Chairman Ben Bernanke were perhaps the only ones influential enough to sound an alarm and soften the oncoming crisis. But they did not. For all the deserved kudos that the central bank received for their management of the crisis after the Lehman bankruptcy, the failure to see these problems building will stand as a permanent blot on the Fed's record.

    Our crisis wasn't due to blind faith in the Efficient Market Hypothesis. The fact that risk premiums were low does not mean they were nonexistent and that market prices were right. Despite the recent recession, the Great Moderation is real and our economy is inherently more stable.

    But this does not mean that risks have disappeared. To use an analogy, the fact that automobiles today are safer than they were years ago does not mean that you can drive at 120 mph. A small bump on the road, perhaps insignificant at lower speeds, will easily flip the best-engineered car. Our financial firms drove too fast, our central bank failed to stop them, and the housing deflation crashed the banks and the economy.

    Dr. Siegel, a professor of finance at the University of Pennsylvania's Wharton School, is the author of "Stocks for the Long Run," now in its 4th edition from McGraw-Hill.

    Eugene Fama Lecture: Masters of Finance, Oct 2, 2009
    Videos Fama Lecture: Masters of Finance From the American Finance Association's "Masters in Finance" video series, Eugene F. Fama presents a brief history of the efficient market theory. The lecture was recorded at the University of Chicago in October 2008 with an introduction by John Cochrane.
    http://www.dimensional.com/famafrench/2009/10/fama-lecture-masters-of-finance.html#more 

    Fama Video on Market Efficiency in a Volatile Market
    Widely cited as the father of the efficient market hypothesis and one of its strongest advocates, Professor Eugene Fama examines his groundbreaking idea in the context of the 2008 and 2009 markets. He outlines the benefits and limitations of efficient markets for everyday investors and is interviewed by the Chairman of Dimensional Fund Advisors in Europe, David Salisbury.
    http://www.dimensional.com/famafrench/2009/08/fama-on-market-efficiency-in-a-volatile-market.html#more

    Other Fama and French Videos --- http://www.dimensional.com/famafrench/videos/

    Jensen Comment
    This does not mean the EMH and its wildly popular stepchild CAPM are not in deep keeshee (theory and practice) --- http://www.trinity.edu/rjensen/theory01.htm#EMH

    Warren Buffett did a lot of almost fatal damage to the EMH
    If you really want to understand the problem you’re apparently wanting to study, read about how Warren Buffett changed the whole outlook of a great econometrics/mathematics researcher (Janet Tavkoli). I’ve mentioned this fantastic book before --- Dear Mr. Buffett. What opened her eyes is how Warren Buffet built his vast, vast fortune exploiting the errors of the sophisticated mathematical model builders when valuing derivatives (especially options) where he became the writer of enormous option contracts (hundreds of millions of dollars per contract). Warren Buffet dared to go where mathematical models could not or would not venture when the real world became too complicated to model. Warren reads financial statements better than most anybody else in the world and has a fantastic ability to retain and process what he’s studied. It’s impossible to model his mind.

    I finally grasped what Warren was saying. Warren has such a wide body of knowledge that he does not need to rely on “systems.” . . . Warren’s vast knowledge of corporations and their finances helps him identify derivatives opportunities, too. He only participates in derivatives markets when Wall Street gets it wrong and prices derivatives (with mathematical models) incorrectly. Warren tells everyone that he only does certain derivatives transactions when they are mispriced.

    Wall Street derivatives traders construct trading models with no clear idea of what they are doing. I know investment bank modelers with advanced math and science degrees who have never read the financial statements of the corporate credits they model. This is true of some credit derivatives traders, too.
    Janet Tavakoli, Dear Mr. Buffett, Page 19

    October 28, 2009 reply from Paul Williams [Paul_Williams@NCSU.EDU]

    Bob, et al,
    I never cease to marvel at the powers of rationalization defenders of sacred institutions can muster. The above characterization of EMH was certainly not the version pedaled by its accounting disciples (notably Bill Beaver) back in the late 60s and early 70s. An accounting research industry was created based on a version of EMH that was decidedly more certain that securities were "properly priced." [Why else do studies to debunk the Briloff effect?].

    Given the interpretation offered above, "Information Content Studies" make no sense. The whole idea of this methodology was that accounting data that correlated with prices implied market participants found it useful for setting prices based on publicly available data, which implied such prices were the ones that would exist in an idealized world of perfectly informed investors. Thus, this data met the test of being information and was to be preferred to other "non-information" to which the market did not react.

    But now we are told that this latest version of EMH does not justify such sanguinity because "...the prices in the market are mostly wrong...", thus prices are not an indicator of the value of data, i.e., just because there is a price effect we still don't know if that data is truly "information." Think of the millions and millions of taxpayer dollars that have been wasted over the last forty years subsidizing people to search for something that is indeterminate given the methodology they are employing.

    And for this the AAA awarded Seminal Contributions. Jim Boatsman had an ingenious little paper in Abacus eons ago titled, "Why Are There Tigers and Things," that cast serious doubts on the whole enterprise of "testing" market efficiency. It addressed the issue Carl Devine harped on about needing an independent definition of "information." And this is related to the logical slight of hand EMH required of surmising there is a way to know what the "true" price is since we glibly talk about over and under and mis-priced securities.

    But there is no way to know this, since security prices are CREATED by the institution of the securities market. There does not exist a natural process against which market performance can be compared. "Market value," which is what a price is, is a value established by the market. The market is all there is. To paraphrase NC's current governor's favorite expression, "The price is what it is."

    It isn't over or under or mis or proper or anything else, other than what a particular institution created by us at one moment in time determines it is. If we lived in a society in which mob rule settled issues of justice, it would make little sense to argue that someone the mob hung was "not guilty." Of course he was guilty, because the mob hung him!!

    Paul Williams
    paul_williams@ncsu.edu 
    (919)515-4436

    Bob Jensen's threads on the economic crisis are at http://www.trinity.edu/rjensen/2008Bailout.htm


    This illustrates how difficult it is to teach, let alone do accountics, research given the unknowns about impacts of variations in methodology. How do professors who teach from a few of their chosen studies prepare students about the simplifications inherent in any one model?

    It would seem that students have to be pretty sophisticated to understand the limitations of the accountics harvests.

    "The Cross-Section of Expected Stock Returns: What Have We Learnt from the Past Twenty-Five Years of Research," by Avanidhar Subrahmanyam University of California, Los Angeles - Finance Area, European Financial Management, Forthcoming

    Abstract:
    I review the recent literature on cross-sectional predictors of stock returns. Predictive variables used emanate from informal arguments, alternative tests of risk-return models, behavioral biases, and frictions. More than fifty variables have been used to predict returns. The overall picture, however, remains murky, because more needs to be done to consider the correlational structure amongst the variables, use a comprehensive set of controls, and discern whether the results survive simple variations in methodology.

    From Jim Mahar's blog on November 13. 2009 --- http://financeprofessorblog.blogspot.com/

    VERY good review article on the ability of financial models (CAPM, APT, Fama-French, etc) to predict and explain cross sectional stock returns).

    Super short version: While we have progressed, we have done so down different paths and there needs to be some standardization, testing for robustness, and checks for correlations across the many variables that have been used in past models.

    From Introduction:

    "The predictive variables are motivated principally in one of four ways. These are: • Informal Wall Street wisdom (such as “value-investing”) • Theoretical motivation based on risk-return (RR) model variants • Behavioral biases or misreaction by cognitively challenged investors • Frictions such as illiquidity or arbitrage constraints"

    AN ABSOLUTE MUST FOR CLASSES.

    Jensen Comment

    I think leading academic researchers avoid applied research for the profession because making seminal and creative discoveries that practitioners have not already discovered is enormously difficult. Accounting academe is threatened by the twin dangers of fossilization and scholasticism (of three types: tedium, high tech, and radical chic)
    From http://www.trinity.edu/rjensen/395wpTAR/Web/TAR395wp.htm
     

    “Knowledge and competence increasingly developed out of the internal dynamics of esoteric disciplines rather than within the context of shared perceptions of public needs,” writes Bender. “This is not to say that professionalized disciplines or the modern service professions that imitated them became socially irresponsible. But their contributions to society began to flow from their own self-definitions rather than from a reciprocal engagement with general public discourse.”

     

    Now, there is a definite note of sadness in Bender’s narrative – as there always tends to be in accounts of the shift from Gemeinschaft to Gesellschaft. Yet it is also clear that the transformation from civic to disciplinary professionalism was necessary.

     

    “The new disciplines offered relatively precise subject matter and procedures,” Bender concedes, “at a time when both were greatly confused. The new professionalism also promised guarantees of competence — certification — in an era when criteria of intellectual authority were vague and professional performance was unreliable.”

    But in the epilogue to Intellect and Public Life, Bender suggests that the process eventually went too far. “The risk now is precisely the opposite,” he writes. “Academe is threatened by the twin dangers of fossilization and scholasticism (of three types: tedium, high tech, and radical chic). The agenda for the next decade, at least as I see it, ought to be the opening up of the disciplines, the ventilating of professional communities that have come to share too much and that have become too self-referential.”

     

    What went wrong in accounting/accountics research? 
    How did academic accounting research become a pseudo science?
    http://www.trinity.edu/rjensen/theory01.htm#WhatWentWrong

     


    "SEC Proposes Changes for 'Dark Pools'," SmartPros, October 21, 2009 --- http://accounting.smartpros.com/x67909.xml 

    Federal regulators are proposing tighter oversight for so-called "dark pools," trading systems that don't publicly provide price quotes and compete with major stock exchanges.

    The Securities and Exchange Commission voted Wednesday to propose new rules that would require more stock quotes in the "dark pool" systems to be publicly displayed. The changes could be adopted sometime after a 90-day public comment period.

    The alternative trading systems, private networks matching buyers and sellers of large blocks of stocks, have grown explosively in recent years and now account for an estimated 7.2 percent of all share volume. SEC officials have identified them as a potential emerging risk to markets and investors.

    The SEC initiative is the latest action by the agency seeking to bring tighter oversight to the markets amid questions about transparency and fairness on Wall Street. The SEC has floated a proposal restricting short-selling - or betting against a stock - in down markets.

    Last month, the agency proposed banning "flash orders," which give traders a split-second edge in buying or selling stocks. A flash order refers to certain members of exchanges - often large institutions - buying and selling information about ongoing stock trades milliseconds before that information is made public.

    Institutional investors like pension funds may use dark pools to sell big blocks of stock away from the public scrutiny of an exchange like the New York Stock Exchange or Nasdaq Stock Market that could drive the share price lower.

    "Given the growth of dark pools, this lack of transparency could create a two-tiered market that deprives the public of information about stock prices," SEC Chairman Mary Schapiro said before the vote at the agency's public meeting.

    Republican Commissioners Kathleen Casey and Troy Paredes, while voting to put out the proposed new rules for public comment, cautioned against rushing to overly broad regulation that could have a negative impact on market innovation and competition.

    Dark pools might decide to maintain stock trading at levels below those that trigger required public display under the proposed rules, Paredes said. "Darker dark pools" could be worse than the current situation, he suggested.

    When investors place an order to buy or sell a stock on an exchange, the order is normally displayed for the public to view. With some dark pools, investors can signal their interest in buying or selling a stock but that indication of interest is communicated only to a group of market participants.

    That means investors who operate within the dark pool have access to information about potential trades which other investors using public quotes do not, the SEC says.

    The SEC proposal would require indications of interest to be treated like other stock quotes and subject to the same disclosure rules.

    Continued in article

    Bob Jensen's threads on mutual fund and index fund and insurance company scandals are at
    http://www.trinity.edu/rjensen/FraudRotten.htm#MutualFunds

    Bob Jensen's threads on the Efficient Markets Hypothesis (EMH) are at
    http://www.trinity.edu/rjensen/theory01.htm#EMH 


    "Poking Holes in a Theory on Markets," Joe Nocera, The New York Times, June 5, 2009 --- http://www.nytimes.com/2009/06/06/business/06nocera.html?_r=1

    Jensen Comment
    We need only look at the billions lost by Warren Buffett to anecdotally note that it is very difficult for anybody but insiders (who are not allowed by law to steal from the public) to consistently exploit less sophisticated investors who rely upon price movements and whims more than detailed financial analysis. Big winners are usually big risk takers and/or just darn lucky even if market researchers find, in retrospect, instances where the EMH falters.

    The above article advises that investors put their money in index funds. This bothers me a bit, however, since large numbers of investors have to be buying and selling actual shares of companies in order to set the prices upon which index fund values are derived. If everybody invested in index funds it would be like gambling on race horses who never entered the races.


    Alpha Return on Investment --- http://en.wikipedia.org/wiki/Alpha_(investment)

    What the professional investors don't tell you ---
    I downloaded this video --- http://www.cs.trinity.edu/~rjensen/temp/FinancialRounds.flv

    From the Financial Rounds Blog on September 4, 2009 ---
    http://financialrounds.blogspot.com/

    When I teach investments, there's always a section on market efficiency. A key point I try to make is that any test of market efficiency suffers from the "joint hypothesis" problem - that the test is not tests market efficiency, but also assumes that you have the correct model for measuring the benchmark risk-adjusted return.

    In other words, you can't say that you have "alpha" (an abnormal return) without correcting for risk.


    Falkenblog makes exactly this point:
     

    In my book Finding Alpha I describe these strategies, as they are built on the fact that alpha is a residual return, a risk-adjusted return, and as 'risk' is not definable, this gives people a lot of degrees of freedom. Further, it has long been the case that successful people are good at doing one thing while saying they are doing another.
     
    Even better, he's got a pretty good video on the topic (it also touches on other topics). Enjoy.

    You can watch the video under September 4, 2009 at http://financialrounds.blogspot.com/
    I downloaded this video --- http://www.cs.trinity.edu/~rjensen/temp/FinancialRounds.flv

    Bob Jensen's threads on Return on Investment (ROI) are at
    http://www.trinity.edu/rjensen/roi.htm

    Bob Jensen's threads on market efficiency (EMH) are at 
    http://www.trinity.edu/rjensen/theory01.htm#EMH

    Bob Jensen's investment helpers are at
    http://www.trinity.edu/rjensen/Bookbob1.htm#InvestmentHelpers

    Rotten to the Core ---
    http://www.trinity.edu/rjensen/FraudRotten.htm


    Analyzing Apple:  How Accountants Think
    (Since more often than not prices of shares instantly reflect (impound) public information, this is not necessarily a recommendation to immediately  invest in Apple Corp.)

    "How to predict Apple’s gross margins," July 18, 2009 ---
    http://brainstormtech.blogs.fortune.cnn.com/2009/07/18/how-to-predict-apples-gross-margins/

    Apple’s (AAPL) fiscal third quarter earnings are due out Tuesday, July 21, and once again the Street is focused on the big numbers — revenues, earnings and units sold for the Mac, iPhone and iPod.

    But savvy analysts will be paying closer attention to the number that is the best measure of a firm’s profitability: gross margin, expressed as the ratio of profits to revenues. Or

    (Revenue – Cost of sales) / Revenue

    Apple’s gross margins, which have averaged 34.8% over the past eight quarters, are the envy of the industry. Dell’s (DELL) first quarter GM, by contrast, was 17.6% and the company warned Wall Street last week that it is expecting a “modest decline” next quarter.

    In its April earnings call, Apple low-balled its guidance numbers as usual, forecasting a sharp drop in gross margins over the next 6 months. Specifically, it warned analysts to expect no better than 33% in Q3 and “about 30%” in Q4.

    But Turley Muller, for one, doesn’t buy those numbers, and he should know.

    Muller, who publishes a blog called Financial Alchemist, is one of a small group of amateur analysts who track Apple closely and publish quarterly estimates that are as good as — and often better than — the professionals’. In fact Muller’s earnings estimates for Q2 were the best of the lot, missing the actual results by just one penny (see here.)

    For Q3, he’s expecting Apple to report earnings of $1.35 per share on revenue of $8.3 billion — far higher than the Street’s consensus ($1.16 on $8.16 billion).

    Why the discrepancy?

    “Again the story appears to be gross margin,” he writes. “Just like last quarter, when Apple blew out the GM number with 36.4% (just as I had predicted) this quarter’s GM (3Q) should be roughly the same as last quarter.

    The secret, he says, is in the profitability of the iPhone, “which is through the roof.”

    “Apple tries to deflect that,” he says, but the evidence is right there, buried in a chart he found in Apple’s SEC filings (see below). It shows Apple’s schedule for deferred costs and revenue for the iPhone and Apple TV, which for legal reasons are spread out over 24 months rather than being recorded at the time of sale. Because Apple TV revenue is so small relative to the iPhone, this chart is a pretty good proxy for the iPhone alone.

    This is complicated stuff, but the bottom line, as Muller points out, is that iPhone profitability has been rising to the point where gross margins on the device are over 50%.

    Continued in article

    Bob Jensen's investment helpers are at http://www.trinity.edu/rjensen/bookbob1.htm#InvestmentHelpers


    Are mutual fund managers with "superior skills" earning their keep?

    For 1984-2006...mutual funds on average and the average dollar invested in funds underperform three-factor and four-factor benchmarks by about the amount of costs (fees and expenses). Thus, if there are fund managers with skill that enhances expected returns relative to passive benchmarks, they are offset by managers whose stock picks lower expected returns. We attempt to identify the presence of skill via bootstrap simulations. The tests for net returns say that even in the extreme right tails of the cross-sections of three-factor and four-factor t(α) estimates, there is no evidence of fund managers with skill sufficient to cover costs.
    Eugene F. Fama and Kenneth R. French, "Luck versus Skill in the Cross Section of Mutual Fund Alpha Estimates," SSRN, March 9, 2009 --- http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1356021

    Abstract:
    The aggregate portfolio of U.S. equity mutual funds is close to the market portfolio, but the high costs of active management show up intact as lower returns to investors. Bootstrap simulations produce no evidence that any managers have enough skill to cover the costs they impose on investors. If we add back costs, there is some evidence of inferior and superior performance (non-zero true alpha) in the extreme tails of the cross section of mutual fund alpha estimates. The evidence for performance is, however, weak, especially for successful funds, and we cannot reject the hypothesis that no fund managers have skill that enhances expected returns.


     

    Does anybody know where "informed" traders get their advanced information before "uninformed" investors?

     

    Before reading this tidbit, you may want to read about the Efficient Market Hypothesis --- http://en.wikipedia.org/wiki/Market_efficiency

     

    From Jim Mahar's Blog on April 6, 2009 --- http://financeprofessorblog.blogspot.com/


    ******Begin Quotation
    SSRN-So What Orders Do Informed Traders Use? Evidence from Quarterly Earnings Announcements by Hsiao-Fen Yang

    I love when two ideas are in direct competition and are testable. For instance, suppose you have information that you want to trade on. If you trade too aggressively you will move the market (and if it is inside information get caught!). On the other hand, if you wait too long, the information is released to the public and your advantage is gone.


    A new working paper by Hsiao-Fen Yang looks at this and finds evidence that seems to sugest that informed traders are sneaky at first, but as the information release date gets closer, they get more aggressive. Which is a really cool story.


    Here is some from the abstract:


    SSRN-So What Orders Do Informed Traders Use? Evidence from Quarterly Earnings Announcements by Hsiao-Fen Yang:

    "Because informed traders expect their information advantage will disappear after the announcements, this information event provides a unique opportunity to test whether informed traders become more impatient and use more aggressive orders when the announcement is approaching. Our results show that when the information will be released soon but there is still enough time for the execution (from day -10 to day -6), informed investors use small orders and limit orders to trade stealthily and reduce price risk. Within five days right before the announcements, informed investors trade more aggressively. They start using large market orders to ensure the execution...."


    Ok, so this is just an abstract, so it may or may not be a good paper, but I will take the chance given the author has done quite a bit of work in the market-microstructure field and it is a nice intuitive story. Unfortunately I have not seen the paper. I will email the author and update this link if I find a version online.

    I love when two ideas are in direct competition and are testable. For instance, suppose you have information that you want to trade on. If you trade too aggressively you will move the market (and if it is inside information get caught!). On the other hand, if you wait too long, the information is released to the public and your advantage is gone.

    A new working paper by Hsiao-Fen Yang looks at this and finds evidence that seems to sugest that informed traders are sneaky at first, but as the information release date gets closer, they get more aggressive. Which is a really cool story.

    Here is some from the abstract:

    SSRN-So What Orders Do Informed Traders Use? Evidence from Quarterly Earnings Announcements by Hsiao-Fen Yang:

    "Because informed traders expect their information advantage will disappear after the announcements, this information event provides a unique opportunity to test whether informed traders become more impatient and use more aggressive orders when the announcement is approaching. Our results show that when the information will be released soon but there is still enough time for the execution (from day -10 to day -6), informed investors use small orders and limit orders to trade stealthily and reduce price risk. Within five days right before the announcements, informed investors trade more aggressively. They start using large market orders to ensure the execution...."

     


    Ok, so this is just an abstract, so it may or may not be a good paper, but I will take the chance given the author has done quite a bit of work in the market-microstructure field and it is a nice intuitive story. Unfortunately I have not seen the paper. I will email the author and update this link if I find a version online.
    ******End Quotation

     

    Jensen Comment
    The SSRN link is at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1365031
    The full working paper can be downloaded without a fee.

    What is not clear is what makes a trader "informed" versus "uninformed." They could be informed legally versus illegally using insider information. By law, any inside information given to any outsider must be shared with the public. The following quotation is from Page 3 of the working paper:

    To investigate what type of orders informed traders use, we need to identify who are in- formed traders. We assume that informed traders know the direction of the upcoming earnings announcements and trade based on their private information. That is, informed investors will submit buy (sell) orders before good (bad) news. On the contrary, noisy traders can place both buy and sell orders before good or bad news. As a result, people who trade in the correct direction can be informed or noisy traders; while people who trade in the wrong direction are only noisy traders. If a certain type of orders is more likely to have the correct direction than other types of orders, that is the one informed traders prefer. We determine the direction of the quarterly earnings announcements based on the 3-day cumulative market-adjusted return from day -1 to day 1. When the 3-day cumulative return is positive (negative), we assume the announcements conveys good (bad) news to the public.

    What is not clear is that the upcoming earnings announcement direction ("movement") is obtained legally or illegally. It’s possible that these traders became "informed" from public information sources that the financial press just did not pick up on to report to investors at large.

    Does anybody know where "informed" traders get their advanced information before "uninformed" investors?

    Other Questions
    Should you believe these many claims that the equity capital markets are inefficient and that it's worth investing the time and money to beat the market?

    Answer --- Taken from http://www.trinity.edu/rjensen/theory01.htm
    A Dartmouth College finance professor would have us conclude that in recent years the equity markets are a bit like Las Vegas. It's possible to leave Las Vegas more than a million dollars ahead if you take high risks, but the odds are decidedly in favor of the casinos. Similarly, it's possible to beat the stock index funds if you take the risks, but the odds are definitely against beating the index funds.

    This we return to the age old paradox. It's rather useless to carefully conduct a financial analysis of audited accounting reports in an effort to gain superior knowledge to take advantage of more naive investors. On the other hand if a sufficiently large number of investors did not make a sufficient number of "sophisticated-knowledge" buys and sells the equity markets might be less efficient. The sophisticated investors (apart from insiders) cannot take advantage of naive investors because there are so many sophisticated investors. Of course insiders can exploit efficient markets, but the SEC spends most of its budget trying to prevent insider trading. If the SEC was not successful in this effort by and large, the equity capital markets would cease to exist.

    "Can You Beat the Market? It’s a $100 Billion Question," by Mark Hulbert, The New York Times, March 9, 2008 --- Click Here

    The study, “The Cost of Active Investing,” began circulating earlier this year as an academic working paper. Its author is Kenneth R. French, a finance professor at Dartmouth; he is known for his collaboration with Eugene F. Fama, a finance professor at the University of Chicago, in creating the Fama-French model that is widely used to calculate risk-adjusted performance.

    In his new study, Professor French tried to make his estimate of investment costs as comprehensive as possible. He took into account the fees and expenses of domestic equity mutual funds (both open- and closed-end, including exchange-traded funds), the investment management costs paid by institutions (both public and private), the fees paid to hedge funds, and the transactions costs paid by all traders (including commissions and bid-asked spreads). If a fund or institution was only partly allocated to the domestic equity market, he counted only that portion in computing its investment costs.

    Professor French then deducted what domestic equity investors collectively would have paid if they instead had simply bought and held an index fund benchmarked to the overall stock market, like the Vanguard Total Stock Market Index fund, whose retail version currently has an annual expense ratio of 0.19 percent.

    The difference between those amounts, Professor French says, is what investors as a group pay to try to beat the market.

    In 2006, the last year for which he has comprehensive data, this total came to $99.2 billion. Assuming that it grew in 2007 at the average rate of the last two decades, the amount for last year was more than $100 billion. Such a total is noteworthy for its sheer size and its growth over the years — in 1980, for example, the comparable total was just $7 billion, according to Professor French.

    The growth occurred despite many developments that greatly reduced the cost of trading, like deeply discounted brokerage commissions, a narrowing in bid-asked spreads, and a big reduction in front-end loads, or sales charges, paid to mutual fund companies.

    These factors notwithstanding, Professor French found that the portion of stocks’ aggregate market capitalization spent on trying to beat the market has stayed remarkably constant, near 0.67 percent. That means the investment industry has found new revenue sources in direct proportion to the reductions caused by these factors.

    What are the investment implications of his findings? One is that a typical investor can increase his annual return by just shifting to an index fund and eliminating the expenses involved in trying to beat the market. Professor French emphasizes that this typical investor is an average of everyone aiming to outperform the market — including the supposedly best and brightest who run hedge funds.

    Professor French’s study can also be used to show just how different the investment arena is from a so-called zero-sum game. In such a game, of course, any one individual’s gains must be matched by equal losses by other players, and vice versa. Investing would be a zero-sum game if no costs were associated with trying to beat the market. But with the costs of that effort totaling around $100 billion a year, active investing is a significantly negative-sum game. The very act of playing reduces the size of the pie that is divided among the various players.

    Even that, however, underestimates the difficulties of beating an index fund. Professor French notes that while the total cost of trying to beat the market has grown over the years, the percentage of individuals who bear this cost has declined — precisely because of the growing popularity of index funds.

     

    From 1986 to 2006, according to his calculations, the proportion of the aggregate market cap that is invested in index funds more than doubled, to 17.9 percent. As a result, the negative-sum game played by active investors has grown ever more negative.

    The bottom line is this: The best course for the average investor is to buy and hold an index fund for the long term. Even if you think you have compelling reasons to believe a particular trade could beat the market, the odds are still probably against you.

    Jensen Comment
    I don’t like the above advice for the “average investor” because if too many investors prefer investing in index funds rather than in business debt and equity, then there will be no underlying commerce to support the index fund concept. It becomes like betting on NHL games before that season a few years ago when all NHL games were cancelled. Index funds aren’t so hot if all commerce is cancelled.

     

    Pat Walters stated:
    I just want to know if the people who want to go back to historical cost for financial instruments will be the first in line to buy bank stocks when they have no clue what the value of the banks 'assets" are.  Not me.”

     

    Hi Pat,

    You may not be maximizing your net worth, and you aren't explaining why sophisticated investors (your CREF account investors?) may be buying bank stocks after the FASB lightened up on allowing banks more freedom to overlook the fair value stench of toxic investments with more Level 3 historical cost measurement use in FAS 157 (And Wells Fargo and other banks jumped on Level 3 as fast as its auditors would allow).

    Why do some very clever investors pay a price well above what they think something is worth in an efficient market? It’s because they think the market will be inefficient at some point where they can find a fool to sell it to at a profit. It’s called a Fool’s Fooling Game, and when played well, smart fools beat the dumb fools

    The Motley Fool is a very popular commercial Website about stocks, investing, and personal finance --- http://en.wikipedia.org/wiki/Motley_Fool  
    Did you ever wonder about the “Fool” part of the company’s name?
    The Gardner brothers considered themselves “fools” that were smarter than some foxes. Although at many times the Gardners have shown that fools can fool wannabe foxes, the Gardners brothers have at times also been out foxed.

    My point here, Pat, is that people who buy Wells Fargo Bank shares just because the price went up following an accounting change (accounting change from Level 1 to Level 3 covered up the smell of Wells Fargo’s enormous toxic loan portfolio) may not be ignorant that accounting changes don’t really offset pending toxic deaths in the long run.

    Some “fools” buying Wells Fargo Bank shares just think there are many fools more foolish than themselves.

    Either way you look at it, investing is a bit of a fools game with fools trying to outfool one another. The premise is, however, that sophisticated fools ultimately win. That's most certainly the case with casinos.

     

     

    Hi Zane,

    Yang’s informed trader behavior ---  http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1365031

    You’re correct when you stated that Yang’s informed traders are taking huge risks if they are only “informed” about public information.”

    The Efficient Markets Hypothesis asserts that public information is instantly impounded in stock prices such that over the long run in repeated trading it’s impossible for informed traders to exploit uninformed investors. When informed traders win in the short run it’s like beating the casino in the short run, but in the long run gamblers cannot beat the casino in a “fair game.”

    Even if the market for a particular security becomes slightly inefficient (unfair game), it’s unlikely that that expected returns are positive after transactions costs of trading are factored in. Traders who turn stocks frequently are taking enormous risks for the long run in large measure because transactions costs eat their lunch.

    Traders who are informed with inside information can take advantage of other investors, but such trading is illegal. The majority of the SEC’s budget is spent on detection of investors trading on inside information. The odds of getting caught increase with the size and frequency of the trades such that when traders are “informed” with inside information they are advised to not get greedy.

    I think Yang’s paper is more about trader behavior for traders playing the game of being more quickly “informed” about public information than the investors they are trading against. However, if the public information is instantly impounded in the trading prices then it is not possible to take advantage of other investors’ ignorance of public information. The fact that they trade instantly on public information, however, helps make the market efficient. The problem for them is that there are so many “informed” investors that it’s virtually impossible to consistently get in at the speed of light ahead of competing “informed” investors trading on the same public news releases.

    Hence I think Yang’s study is more like observing the behavior of a casino gambler than it is like studying the long-term net winnings or losses of a casino gambler

    Because of transactions costs I don’t think Yang’s informed traders can beat the odds in the long run unless they are being informed about illegal inside information, which then concerns the stronger-form EMH --- http://en.wikipedia.org/wiki/Market_efficiency

    Fund investors that earn abnormal returns are earning those abnormal returns with strategies that work in particular circumstances such as the bubble of technology stock prices in the 1990s or real estate prices before 2008. They also accepted small odds of huge crashes, which is why Harvard’s roaring endowment crashed so heavily in the latest unlikely huge economic crash. Harvard’s fund managers, however, were too smart to be traders in the context of Yang’s traders going in and out of stocks daily. That would never be a winning strategy for Harvard.

    Bob Jensen

    Hi Murat,

    If wolves in an inefficient market slaughter all the sheep in the world there will be no sheep left to slaughter.

    If passive investors are wiped out all the time by informed traders there will be no more passive investors to wipe out.

    The only wolves to get away with superior sheep slaughtering are casinos, which is why the majority of the people will not gamble in a casino. The small proportion that consistently gamble with all their savings in a casino are mentally ill and eventually get slaughtered unless they seek help before it’s too late.

    Most players who consistently gamble in a casino know they are being had, limit the amounts they can lose, and receive many thrills along the way such as the bright lights, plush carpets, people watching, bells ringing, occasional jackpots, etc. They do not receive all these thrills when investing in an IRA, and most assuredly they will not put most of their money in a stock/commodities market that consistently loses in an inefficient and unfair game.

    The SEC and all the investment firms know that great inefficiencies in the stock market will put an end to the stock market.

    Inefficiencies in the stock market do arise from time to time, and I think the most serious inefficiencies arise from smart insider trading that is not detected by the SEC or Justice Department. Crime does pay for some people some of the time. But there are lots of unemployed insider-information traders impoverished by fines and prison time. They were not so smart and probably got too greedy. Those that did not get caught may have shortened their lives with hypertension. There are various kinds of justice in this world.

    Investing is a little like eating. We know that the food we eat is not 100% pure all the time. We try to be prudent about what we eat and take small risks. The same can be said for investing. We know that the stock market is not 100% pure, but we generally consider it pure enough for much of our investing since safer investments like CDs are really unwise in the long run due to inflation or are not sufficiently liquid, e.g, real estate investing that subjects us to years of property taxes, maintenance, and insurance before earning uncertain returns.

    Bob Jensen


    In retrospect between 2001 and the credit derivatives fiasco of 2008 (where Wall Street had millions of such contracts) is that Janet M. Tavakoli’s credit derivative models in 2001 looked almost perfect but ignored the Black Swan of 2008 that some might argue helped to bring down the world of finance to the extent that so many credit derivatives were used, in a failing effort, to insure against investment failures. This, of course, was a much larger specification problem than the Euclidean difference between cylinders and cones. I wonder how Ms. Tavokoli is sleeping these days. See http://www.trinity.edu/rjensen/2008Bailout.htm#Bailout  

    Q&A: Confidence in the Bell (Gaussian)Curve --- http://en.wikipedia.org/wiki/Gaussian
    Also see http://en.wikipedia.org/wiki/Normal_Distribution
    Value at Risk --- http://en.wikipedia.org/wiki/Value_at_Risk
    Eugene Fama --- http://en.wikipedia.org/wiki/Eugene_Fama
    Kenneth French --- http://en.wikipedia.org/wiki/Kenneth_French

    Question for Fama and French ---
    http://www.dimensional.com/famafrench/2009/03/qa-confidence-in-the-bell-curve.html#more
    It would be very enlightening if you would comment on the Nassim Nicholas Taleb ("The Black Swan") attack on the use of Gaussian (normal bell curve) mathematics as the foundation of finance. As you may know, Taleb is a fan of Mandelbrot, whose mathematics account for fat tails. He argues that the bell curve doesn't reflect reality. He is also quite critical of academics who teach modern portfolio theory because it is based on the assumption that returns are normally distributed. Doesn't all this imply that academics should start doing reality-based research?

    Answer from Gene Fama (Chicago)
    EFF: Half of my 1964 Ph.D. thesis is tests of market efficiency, and the other half is a detailed examination of the distribution of stock returns. Mandelbrot is right. The distribution is fat-tailed relative to the normal distribution. In other words, extreme returns occur much more often than would be expected if returns were normal.

    There was lots of interest in this issue for about ten years. Then academics lost interest. The reason is that most of what we do in terms of portfolio theory and models of risk and expected return works for Mandelbrot's stable distribution class, as well as for the normal distribution (which is in fact a member of the stable class). For passive investors, none of this matters, beyond being aware that outlier returns are more common than would be expected if return distributions were normal.

    For other applications, however, the difference can be critical. Risk management by financial institutions is a good example. For example, portfolio insurance, which was the rage in the early 1980s, bombed in the crash of October 1987, because this was an event that was inconceivable in their normality based return model. The normality assumption is also likely to be a serious problem in various kinds of derivatives, where lots of the price is due to the probability of extreme events. For example, news story accounts suggest that AIG blew up because its risk model for credit default swaps did not properly account for outlier events.

    Answer from Kenneth French (Dartmouth)
    KRF: I agree with Gene, but want to make another point that he is appropriately reluctant to make. Taleb is generally correct about the importance of outliers, but he gets carried away in his criticism of academic research. There are lots of academics who are well aware of this issue and consider it seriously when doing empirical research. Those of us who used Gene's textbook in our first finance course have been concerned with this fat-tail problem our whole careers. Most of the empirical studies in finance use simple and robust techniques that do not make precise distributional assumptions, and Gene can take much of the credit for this as well, whether through his feedback in seminars, suggestions on written work, comments in referee reports, or the advice he has given his many Ph.D. students over the years.

    The possibility of extreme outcomes is certainly important for things like risk management, option pricing, and many complicated "arbitrage" strategies. Investors should also recognize the potential effect of outliers when assessing the distribution of future returns on their portfolios. None of this implies, however, that the existence of outliers undermines modern portfolio theory or asset pricing theory. And the central implications of modern portfolio theory and asset pricing—the benefits of diversification and the trade-off between risk and return—remain valid under any reasonable distribution of returns.

    Who is Nassim Nicholas Taleb? --- http://en.wikipedia.org/wiki/Taleb
    Many finance professors make students watch some of Taleb's videos, especially the Black Swan --- Click Here
    http://video.google.com/videosearch?q=taleb+black+swan+&www_google_domain=www.google.com&emb=0&aq=f&aq=f#
    Black Swan Financial Collapse Black Swan --- http://www.dailymotion.com/video/x720r3_black-swan-paradigm-financial-colla_tech
    (People underestimate the probability of rare events)

    "How Dragon Kings Could Trump Black Swans Power laws have a hidden structure that reveals why extreme events are more common than we'd thought," MIT's Technology Review, August 4, 2009 ---
    http://www.technologyreview.com/blog/arxiv/ 

    Sornette gives as an example the distribution of city sizes in France which follows a classic power law, meaning that there are many small cities and only a few large ones. On a log-log scale, this distribution gives a straight line. Except for Paris, which is an outlier, many times larger than it ought to be if it were to follow the power law.

    Paris is an outlier because it has been hugely influential in the history of France and so has benefited from various positive feedback mechanisms that have ensured its outsize growth. Apparently London occupies a similarly outlying position in the distribution of cities in the UK.

    Sornette goes on to identify a number of data sets showing power laws with outliers that he says are the result of positive feedback mechanisms that make them much larger than their peers. He calls these events dragon kings. What's interesting about them is that they are entirely unaccounted for by a current understanding of power laws, from which Nassim Nicholas Taleb built the idea of black swans.

    The special characteristic of dragon kings is that a positive feedback mechanism creates faster-than-exponential growth making them larger than expected.

    So what to make of this? Sornette makes one interesting observation. The seemingly ubiquitous existence of these dragon kings in all kinds of data sets means that extreme events are significantly more likely than power laws alone suggest.

    That's important. If you've ever wondered why we've experienced not just a single 100-year financial crises in the last couple of decades but two or three, here's your answer. It also implies that you'll experience a few more before your time is up.

    But Sornette goes further. He argues that dragon kings may have properties that make them not only identifiable in real time but also predictable. He puts it like this: "These processes provide clues that allow us to diagnose the maturation of a system towards a crisis."

    That's much more speculative. It's one thing to identify the feedback mechanisms that cause faster-than-exponential growth (and it's not clear that Sornette can do even this) but quite another to spot the event that trigger a crash.

    Sornette looks to be onto something interesting with his notion of dragon kings: outliers that exist beyond the usual realm of power laws. That could be a hugely infuential. But his contention that these outliers are in some way more easily predictable than other events smacks more of wishful thinking than good science.

    Ref: arxiv.org/abs/0907.4290: Dragon-Kings, Black Swans and the Prediction of Crises


    Video:  Nassim Taleb Talks About The Book “Dancing With Chance” ---
    http://www.simoleonsense.com/nassim-taleb-talks-about-the-book-dancing-with-chance/
    Also see http://www.cnbc.com/id/31706523


    Garbage Research in Stock Pricing Correlations and Equity Premiums
    Seriously that smelly kind of garbage you pay to have hauled away

    A new measure of consumption -- garbage -- is more volatile and more correlated with stocks than the standard measure, NIPA consumption expenditure. A garbage-based CCAPM matches the U.S. equity premium with relative risk aversion of 17 versus 81 and evades the joint equity premium-risk-free rate puzzle. These results carry through to European data. In a cross section of size, value, and industry portfolios, garbage growth is priced and drives out NIPA expenditure growth.
    Alexi Savov, University of Chicago Booth School of Business. "Asset Pricing with Garbage, SSRN, February 17, 2009 ---
    http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1345470 

    This is a little like the historic 0.63 correlation between stork nests and birth rates --- http://www.jstor.org/pss/2983064

    Statistics Lesson:  Spanking is a cause of lower IQ?
    U.S. children who were spanked had lower IQs four years later than those not spanked, researchers found. University of New Hampshire Professor Murray Straus, who is presenting the findings Friday at the 14th International Conference on Violence, Abuse and Trauma, in San Diego, called the study "groundbreaking." "The results of this research have major implications for the well being of children across the globe," Straus said in a statement. "It is time for psychologists to recognize the need to help parents end the use of corporal punishment and incorporate that objective into their teaching and clinical practice." "How often parents spanked made a difference. The more spanking the, the slower the development of the child's mental ability," Straus said. "But even small amounts of spanking made a difference."
    "Study: Spanking linked to lower IQ," Breitbart, September 25, 2009 ---
    http://www.breitbart.com/article.php?id=upiUPI-20090925-121520-9596&show_article=1&catnum=0

    Jensen Comment
    I think Straus was frequently spanked as a child. Could it be that lower IQ students get more frustrated and are inclined toward greater degrees of misbehavior?

    This is a little like the historic 0.63 correlation between stork nests and birth rates --- http://www.jstor.org/pss/2983064


    Summary of the Ups and Downs of the Efficient Market Hypothesis

    Before reading this article you may want to consult the EMH at http://en.wikipedia.org/wiki/Efficient_market_hypothesis

    "Poking Holes in a Theory on Markets," Joe Nocera, The New Yor