Emily Coltman, one of the regular readers of this blog, commented on a recent posting of mine to say:

"Financial statements… are a throwaway". I'm intrigued.

Does that mean audited financial statements, or all financial statements down to the I&E account for a one-man or one-woman business?

Are they all worthless, except that they let us work out how much tax the business must pay?

The comment that financial statements are a throwaway was not mine: it came from Francine McKenna. I merely endorsed it. But I did so because I think it's true.

Fair value accounting is the basis of this comment. I believe that this has made accounts almost irrelevant. The International Accounting Standards Board did, when adopting this approach, decide that the only user of a set of financial statements was a person who wished to decide whether to invest in a company or to dispose of their investment in a company. They did not think that the person who wished to hold an investment in the long term was the user and they explicitly ignored the needs of all stakeholders within the accounting process. This was the consequence of their deciding that a set of accounts had to supply what they called " decision useful information" where they defined the decision as " whether to buy or sell a share".

Fair value accounting panders to this process. It requires that the company account for all its assets as if they too were always available for sale, irrespective of the long-term goal for which they had been acquired. The International Accounting Standards Board assumes that this will assist the person who wishes to make the decision to buy or sell shares in the entity.

The reality is that the IASB has as a result created throwaway accounts because they, by definition, only have a value at a moment in time. This is in complete contrast to accruals accounting, where accounts had a value over time. This is also reflected in the emphasis within these accounts. In fair value accounting it is the balance sheet that is important and the profit and loss account is a simple reconciliation of the movement in value between two balance sheets. In accruals accounting it is the profit and loss account that is fundamental and the balance sheet is the residual statement of asset value that happens to arise at a particular moment as the company progresses through the process of making profit.

This in turn is even more important at a philosophical level. Fair value accounting assumes that the only worth within a major company arises from the ability to trade in its shares. What it does is inconsequential. Accruals accounting assumes what the company does is fundamental.

This does, of course, also have impact of taxation. Fair value accounting does not produce a reliable figure for profit. It does produce a figure for movement in value but as we all know unrealised value is not usually taxable and as such a fair value profit is no indication of potential tax liability. Accruals accounting profits are a much better basis for tax calculation.

This, however, is not the end of the problem. The International Accounting Standards Board has, in issuing a standard for small and medium-sized enterprises indicated that it thinks that fair value accounting should be applied to them. That is absolutely nonsensical. There are no shareholders who wish to engage in a market in shares in such enterprises, precisely because the creation of a market in shares in those enterprises is usually banned by law or simply does not exist. This means fair value accounting does, when used for these enterprises, create information which has no use whatsoever. By definition the only thing to do with such accounts is throw them away.

It gets worse. Now fair value accounting is to be brought into government. Governments do not have owners who can buy or sell stakes in the enterprise. Governments should not be in the business of speculation. Governments are there to supply services. That, by definition, means that the focus upon the supply during the year is the essential criteria on which their accounting should be based. Fair value reporting means that the most important criteria in government reporting will be the value of the assets the government uses, even though most will never be sold. And yet no one seems to be noticing this.

Put simply, fair value accounting suggest that our major companies have no value except as casino chips. For every other type of enterprise fair value accounting produces meaningless information. If that is a sufficient basis for saying that fair value accounts are throwaway products, then I think my case proven.