Thursday, 15 June, 2017
Our parasitic business measures.
Summary: What would you do if I showed you that our financial measures, used inappropriately as a business measure, have corrupted outcomes into behaving in a parasitic manner, slowly but surely destroying business over the long-term. Understandably you may be sceptical of such a bold claim, but if proved true, then surely this will make you want to do something about it? Read the article, and let me convince you.
A parasite is described as an organism which lives in or on another organism (its host) and benefits by deriving nutrients from the host, at the host's expense. I can’t think of a more appropriate way to describe our financial measures. How they continually take value from other business constituents, slowly but surely destroying the business in the process.
I can hear some people, as they read this exclaiming - “How on earth do you arrive at this ridiculous nonsense?” Well - it’s not ridiculous, as I will explain, and yes - it’s a nonsense that we’ve allowed the situation to continue, unaddressed, for so long.
Financial measures are not inherently parasitic. We have made them that way by using them in an inappropriate manner. When used as intended, to measure financial transactions, they present no problem, but when used as a business measure, it causes innumerable problems. The reason is blindingly obvious - finance is not business, it’s only a small part of business. Financial measures account for less than twenty percent of the value creation potential of business, so using them to gauge business performance is simply ridiculous. Therefore, it stands to reason, financial measures are bound to be inadequate and inappropriate when used as a business measure.
However, because financial measures are our only universally comparable measure, investors are forced to use them as a business measure. This is what creates all the problems. In the absence of better, more inclusive, universally comparable measures, investors are forced to use financial measures as their sole business measure. This sets in motion the parasitic nature of financial measures, as I will now explain.
As already mentioned, financial measures account for less than twenty percent of the value creation potential of business. The remaining eighty percent, although measured and managed to a certain degree, are unseen by the investment market, as they are not comparable, and therefore, have little, or no value, in the market. Because they are unseen and unknown, the executive can manipulate, or compromise these measures to ensure they produce strong financials, which are seen and evaluated by the markets. Investment, executive salaries, bonuses and careers are all reliant upon producing strong financials on a sustained basis.
So, if you take value from one part of the business to make sure your financials are always strong, rather than making sure the business is strong - doesn’t that make our financial measures parasitic in nature? Markets remain oblivious to the damage done to the business in propping up financials. As I said in my introduction - financial measures “continually take value from other business constituents, slowly but surely destroying the business in the process.”
Why don’t we stop this nonsense now, and the pussyfooting around, and face the issue head-on? We need a new business measurement standard. I spend the bulk of my time trying to convince people of the urgent need to do so when I should be writing about solutions, not problems. However, there’s little point spending time writing about solutions to a problem people don’t know we have. This, despite me explaining the problem in the simplest of terms. Showing how our financial measures have been corrupted into behaving in a parasitic manner, hideously distorting business performance, which in turn sets off a cancerous growth within society, environment and economy, destroying the fabric of life as we know it. Please read my article “The cancer of our time” which explains how our inadequate and inappropriate business measures are destroying the fabric of life as we know it. We hurtle towards a life changing precipice with very few able to “join the dots” in identifying our inadequate and inappropriate business measures as the root cause of our problems. If we don’t address the root cause, we won’t change anything. If you think broad international agreements on Climate Change (e.g. The Paris Agreement) are going to be our saviour - don’t hold your breath. Until we address the root cause, this and many other problems will persist despite these agreements. It’s about addressing the cause.
When I said our financial measures are parasitic - I wasn’t talking nonsense, however ridiculous that may have sounded. Neither am I talking nonsense when I say our financial measures are the cancer of our society, environment and economy. I should stop wasting time writing about the need for a new measurement standard, and dedicate my time to writing about the solution.
In an article I wrote recently called “Misunderstandings,” I mentioned the biggest misunderstanding about introducing a new measurement standard relates to a suspicion about the underlying motive for change, where Shareholders believe their interests will be undermined, in favour of other stakeholders. This is entirely incorrect. Change is intended to benefit shareholders. If shareholders think their interests are best served by adopting a myopic financial perspective with parasitic and cancerous outcomes, it’s like them saying to their medical doctor “Don’t give me the medication. I know it will stop the cancerous and parasitic growths, but at least it will extend my life.” This is just crazy nonsensical rubbish. We need change, and it needs to serve all. The quicker shareholders realise profit growth is about healthy business growth rather than propped-up financial growth, the better.
We need a paradigm shift in thinking. We need to think about creating value for all stakeholders, and we need to be forward and not backward-looking. Our perception of business has to change. Our understanding of business has to change. For these reasons, accountants are not suited to lead this change. As a profession they have been complicit in hindering change and deflecting attention away from the harmful effects of using financial measures as a business measure, to protect their own interests. They talk glibly about being “leaders in value creation”, yet have no understanding of the subject whatsoever (as I will explain) and they make puerile attempts at broadening our measurement base, to show “we know about the problem and are doing something about it.” This is nonsense and a smokescreen for doing nothing. The accountant's glory days have come and gone as have their measures. Don’t get me wrong, we need financial measures, they are important, but only in proportion to their value creation contribution, which is less than twenty percent.
So, what does business need to do to meet its, and society’s needs?
In making sense of big complex problems like this, the best approach is to break it down into a few big questions - answer them and then break those down further and further until we find answers to all parts of the problem.
So, the first “big question” we need to ask is, “What does our new measure need to provide us?” The most important thing it needs to provide is universally comparable measures. If the measures do not apply to every business, irrespective of sector or size, just as financial measures do, then walk away from them, otherwise, they will waste your time. It is our lack of comparable measures which is at the heart of our measurement problem.
The next important thing our new measures need to provide is an all encompassing, or fully inclusive picture of business. Business processes are integrated and interrelated. Therefore, if we don’t incorporate all the components of business in our measures, we will not get an accurate picture of business performance.
The third most important thing is these measures need to be based on the principles of value creation, because, value creation is the common denominator of business. Business functions as an integrated, interrelated cause-and-effect model. Therefore, this causal model needs to be based on the principles of value creation. So, our new measures need to provide a clear understanding, or framework of the value creation processes.
This then represents the starting point
for our new measurement standard, based on answering the first “big
question” of what we need from our new measures. It needs to be:
1) Comparable across all businesses, irrespective of sector or size.
2) Fully inclusive of all business processes
3) Based on the principles of the value creation causal model.
What’s to disagree with this as the starting point? I would certainly like to hear from anybody who does.
Accounting Associations and Institutes around the world, together with all major international accounting practices, are backing a concept called Integrated Reporting, more specifically the International Integrated Reporting Council (IIRC). It’s stated objective is to communicate on a periodic basis an integrated report about value creation over time. “An integrated report is a concise communication about how an organization’s strategy, governance, performance and prospects lead to the creation of value over the short, medium and long term." This is their definition of the purpose of an integrated report. How interesting. Let’s see how this stacks up with what we need from our new measurement standard.
A) Is this report comparable across all
businesses irrespective of size or sector? NO!
B) Is it fully inclusive of all business processes? NO!
C) Is it based on any understanding of the value creation causal model? NO!
This typifies what I was saying about the accounting profession earlier. They talk the good talk. They look busy doing something when in reality it will lead us nowhere. It’s a smokescreen, which detracts from the real problems and the urgent need for finding a workable solution. We cannot rely on the Accountants or their efforts - period! For this reason, I call on all open-minded, forward thinking people to call for a new business measurement standard.
Adrian Mark Dore
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