While I have many areas of disagreement with accounting, there are three accounting practices that I have taken particular issue with over time.
1. Not treating employee options as expenses when granted: There should really be no debate about this. Employee options are compensation, and like all other compensation expenses should be recorded at fair value, when granted. The fair value is the option value and not the exercise value.
2. Treating leases (or at least a significant portion of them) as operating expenses: Both FASB and IASB have used the ownership of the asset as the determinant of whether a lease should be treated as an operating or capital lease. As an earlier blog post noted, this allows retailers, restaurants and other big lessees to move most of their debt off the balance sheet.
3. Treating R&D expenses as operating, rather than capital expenses: Using the tenuous argument that the benefits of R&D are too uncertain, accountants have insisted on expensing R&D. In the process, =they misstate earnings at technology and pharmaceutical firms and keep the most valuable assets of these firms off the books.
As recently as three years ago, all three practices were still entrenched in accounting statements and standards. But the times are changing. A couple of years ago, accounting finally came around to the point of view that employee options should be valued and expensed when granted (FASB 123). Now, there is chatter that accounting rules will be changed to force all leases to be treated as debt.
I know that companies will be up in arms over this rule and that analysts will issue scary reports about how making this change will be devastating for compaies. I don't think so, and have written what I hope is a comprehensive paper on what treating leases right (which to me is to treat them as debt) will do to all the numbers that we use in corporate finance and valuation. Since I have been treating all lease commitments as debt, in both my corporate finance and valuation classes, it will not change how I look at companies but it will surely make it easier for me to do so:
All that is left now is for the accounting rule makers to take a look at R&D and exploration costs and the logical fixes to make their treatment consistent with capital expenditures at other firms. I have mixed feelings about this happening. On the one hand, it will be a vindication of much of what I have been arguing for, over the last decade. On the other hand, what will I have left to argue about with my accounting colleagues?