The Germ Theory of Accounting
By Humphrey Nash

Abstract: Prospective accounting is new theory.  It may be difficult for accounting to accept and adopt new theory, just as the germ theory of disease encountered resistance.  By examining the nature of this resistance, perhaps it can be more quickly overcome.  This paper supports the draft proposal Accounting For The Future (AFTF), which outlines a possible prospective accounting model.

"Doctors(accountants) administer to the needs of their patients(clients) according to what they learn in school and in their training.   They also learn by experience.   They can only apply what they know and believe.   They have no choice.   They cannot apply what they do not know or what they disbelieve.   What they do is always interpreted in terms of what they understand is "the way things work".   As professionals they find it difficult to stray too far from the common knowledge and understanding of their profession.   They are under pressure to follow "accepted practice".   In this regard, Doctors(accountants) are no better and no worse than the rest of us.   We are all prisoners of our upbringing, our culture and the state of knowledge of our teachers, mentors and fellow practitioners."

One hundred and fifty years ago a new theory of the cause of infectious disease was proposed by Louis Pasteur.   This theory was the germ theory and was only gradually accepted as the evidence of its effectiveness accumulated.   Just as the germ theory in medicine met with indifference, incomprehension, disbelief, and resistance, a shift in the accounting perspective will be difficult, for many of the same reasons.

Recognizing Problems

One hundred and fifty years ago medicine was relatively ineffective.   Medicine could not prevent, cure, or accurately diagnose disease.   Medicine was not proactive and could do little more than record the symptoms.   Mortality was extremely high by today's standards, but was then considered to be normal, natural, and inevitable, in short, "the way things are".   Medicine was defined by a narrow view and limited practice.   What was completely submerged what could be and what should be.   For its time, medicine satisfied its own rules, standards, and goals.

Today traditional retrospective accounting is relatively ineffective.   What is submerges what should be, in part, because accounting doesn't appreciate what could be.   Traditional accounting is incomplete, not relevant, complex, inconsistent, non-intuitive, and out-of-date.   Traditional accounting is defined by a narrow view and limited practice.   Retrospective accounting records the symptoms, reacting only to the past.   Many of the problems in accounting arise from differences between what we measure and what we value.   These deficiencies become clearer when an accounting model solving these problems is understood.   Understanding alternative models provides a "view from outside".   An outside view is required because accounting should serve a purpose greater than itself; accounting must be judged from the perspective of the end user, not by the internal standards defined by accounting.

Recognizing Solutions

One hundred and fifty years ago medicine could not easily abandon its traditional theories, did not understand, or did not want to understand, or resisted the hocus-pocus of the invisible germ theory .   Medicine lived under the tyranny of the tangible; if it couldn't be seen or touched, it didn't exist.   Even if the germ theory was correct, it was difficult to see how it could solve the problem of disease.

Today accounting clings to the tangible: the dollar, the bond, the building, the unpaid bill, and the contract.   To the accountant what can't be seen or touched doesn't exist.   The auditing role in accounting seems to depend inextricably on the tangible.   Unfortunately, accounting intangibles are major components of values and decisions.   Unfortunately, the tangible excludes the future.   To be more value-oriented, decision-oriented, and forward-looking, accounting must incorporate the intangible.   Even if prospective methods include the intangible, it is difficult to see how they could provide a reliable solution.

Once medicine employed a unified theory of disease and modern tools, like the microscope, preventions and cures were developed.   At that stage medicine became diagnostic.   The treatment decision depended directly on the medical evaluation.

In a similar manner a prospective accounting model can unify accounting.   One such model is outlined in the draft proposal Accounting For The Future (AFTF).   AFTF employs modern accounting theories and modern accounting tools.   AFTF attaches shareholder value measures to decisions.   It is not surprising that the decision depends directly on the accounting evaluation.   Accounting, like medicine, can thus become an effective decision tool.

Medicine is where it is today, in part, because of the germ theory.   Accounting is where it is today, in part, because it is not based on shareholder value.

Recognizing Inertia

It can be difficult to initiate change if we establish bureaucracies to reinforce or enforce the status quo.   These bureaucracies may be educational institutions, professional educational or experience requirements, professional organizations, standard setters, or regulators.   These guardians of the past do not encourage new ideas or experimentation; they often officially forbid them.   They may do a very good job under the circumstances, circumstances ironically dictated by the job.   This can become a systemic trap.   Both the circumstances and the job are wrong.   Accounting must have the courage to break free of the past.   Accounting must believe in a better future.

Recognizing Fear

Fear is a natural thing.   Its nature's way of keeping us alive.   When we step out of the natural environment our fear mechanisms may not work appropriately.   We may fear things we shouldn't and not fear what we should.

We fear the uncertain future.   Uncertainty is not our enemy.   The uncertainty of the future provides vital opportunities for change.   It is the frozen crystal of a future certain that is dead.   AFTF confronts uncertainty head on.   It measures it and demystifies it.   It encourages prudent risk taking and the rewards that follow.

We fear complexity and rightly so.   All business activities are vastly more complex than in prior eras.   We attempt to cope with this complexity by increasing our knowledge and skills, but the individual is soon overwhelmed.   We attack this problems by cooperating (forming task forces, corporations, consortiums), by specializing (professions and specialties therein), by improving the quantity and quality of communication, and by automation.   AFTF utilizes these mechanisms.   For example, it proposes a division (specialization) of labor and responsibilities between management, the modeler, and the accountant.   The accountant will have general oversight, but will delegate messy details and messy responsibilities to others.

We fear change, but change is pervasive and inevitable.   Not changing in a changing environment is the real danger.   With AFTF change is minimized for the accountant.   This results from the fact that much of the added burdens of the new accounting are assigned to those who have the natural responsibilities, i.e., management and modeler.   The accountant's role is designed to be familiar (bookkeeping, financial measurement and reporting, auditing), although substantially broader.

We fear the unknown. This irrational fear can be dispelled by exploring the unknown and making it known.   Although AFTF is a radical shift in the perspective of accounting, it uses existing technology with which the accountant is familiar.

We fear the visible failure, but failure is inevitable in the uncertain world.   Good business judgments often result in a failed outcome.   Failures are the entrance fees for success.   A prospective accounting system encourages prudent risk taking.   On a professional level, failure to act may be invisible, but the gradual erosion of relevance may accumulate into a Grand Canyon of ineffectiveness and lost opportunity.   AFTF seeks to expose the insidious failures of retrospective accounting while promoting a proven alternative accounting mechanism.   AFTF also suggests new technologies and structures to make prospective accounting reliable and feasible.

We must identify our fears and determine if they have a real basis.   If not, we act.   If so, we act.   Paralyzing fear is the real danger.

Recognizing Opportunity

There are great opportunities for accounting in the future.   Part of this opportunity is the opportunity to correct the deficiencies of retrospective accounting.   This would provide substantial benefits to society, to accounting theory and practice, and to individuals and organizations within the accounting field.   However, prospective accounting is not just a fix; it provides new levels of benefits to society.   It is designed to unify accounting, improve the management process, make financial reporting more relevant, increase the efficiency of the capital markets, among other things.   If it accomplishes these goals, it will, in the process, substantially broaden and improve opportunities for accountants and accounting organizations.

Part of recognizing opportunities is to recognize that opportunities must be created; they will not spontaneously appear.   It is up to the accounting professions to claim control of prospective methodology and to reclaim some of what it has lost.   There is a vacuum of leadership in this area, which won't remain unfilled indefinitely.

Conclusions

One hundred and fifty years ago medicine felt threatened by the germ theory, although the ultimate effect of the germ theory was to greatly improve and expand medicine.

Today accounting feels generally threatened.   It may perceive prospective accounting as a threat.   If accounting fails join the financial community in measuring value, the threat may materialize.