Accounting Debate

September 28th, 2011 by Potato

Ok geeks, here’s an accounting debate for you: how should cash be reported on the balance sheet?

At first it seems like a nonsense question. Of all the things you have to adjust for and debate how to report on the balance sheet, cash is the one sure thing: it’s carried at exactly what it’s worth, with no concern over depreciation or market value. Yet once again today I heard a familiar refrain: “Oh, they’re sitting on a tonne of cash. But it’s all overseas, so they can’t bring it back to pay a dividend without paying tax on it.” Well, if it can’t be used without tax being paid on it, then is it really honest to report it at full value on the balance sheet? Shouldn’t there be a corresponding liability for tax payable but not yet incurred to reflect the fact that — should it be needed — the cash isn’t really there? Yet right after saying that, I heard another familiar phrase “so if you back out the cash, it’s only trading at 10 times earnings.”

Well, which way is it to be: is the cash money good that you should “back out” of the valuations, or is it stranded overseas, and only worth some fraction of what it’s reported as on the balance sheet?

Should GAAP/IFRS reporting specify where cash is, or apply some discounting mechanism to reflect the fact that it is not truly available to shareholders at the indicated levels?

4 Responses to “Accounting Debate”

  1. Netbug Says:

    I’ll let you know when I have some to report.

  2. J Says:

    On a related note, should you include an RRSP tax liability when calculating your net worth? Most people don’t but it seems to me that it should be considered (although it would be difficult to come up with an appropriate figure).

  3. Potato Says:

    A good question J, which illustrates the difficulty in this. If one were to try to get money out of an RRSP to actually spend, tax would have to be paid. But even if you wanted to account for that on a net worth calculation, the question of how to do it is tough. Do you assume the worst-case, that you’ll need to get it all out of the RRSP in one year? That it will slowly trickle out (at a lower tax rate)?

    Perhaps it’s just enough to say where the money is, and add a footnote in the balance sheet as to what the tax status of it is.

  4. Canadian Capitalist Says:

    I’m definitely not an expert on this but I would expect a cash to be reported as such on the assets side and a tax reserve set aside on the liability side of the balance sheet. And a footnote making this point clear.

    The RRSP liability issue is an interesting one but not unique. One might owe capital gains on stocks held in investment accounts. The value of a residence is hard to estimate and discount accurately. Commuted values of pension plans must be adjusted for taxes owed. It gets complicated real fast.