Book Review: Financial Literacy for Lawyers, Directors and Investors

Not so many months ago I had to give some pointed advice to a client that his company was trading whilst insolvent. He did not agree with me, and pointed to his balance sheet for support. It quickly became evident that, although a very successful businessman, he had no idea how to read a financial statement. By my providing this warning, the company was able to regain its solvency. I suspect that his accountant was telling him the same story but, because of his personal lack of understanding, the client felt able to ignore both the advice and reality. When the advice was reinforced by an outsider, it was, fortunately, heeded.

Financial Literacy picks up on what I suspect is a common problem, namely, the inability of lawyers and lay people to understand the books of account of a company.

Some years ago, I read a book which explained the various terms used by accountants, for the benefit of a small business operator. At the time, I thought it a pity that there was not an accompanying book which dealt with companies. This gap has now been nicely filled.

Have you ever looked at and tried to understand a balance sheet of, say, a Japanese company or for that matter, a U.S. Company? Accounting standards, that is, the method used to prepare a balance sheet, can have a profound impact on its appearance.

That statement is obvious. The authors give an example of a company announcing a cost saving measure of retrenching a large number of employees. However, the company actually transfers the employees to an affiliate company. Would we be astute enough to pick up such a stratagem by examining the accounts? Do we know how to winkle information out of those comparisons with the previous year’s performance to uncover such a move? Have we ever thought why those previous year’s figures are there?

Does every reader of Hearsay understand the fundamental basis of double entry accounting as traditionally used in Australia?

When presented with a financial statement, do we really understand it? Do we know what questions to ask to properly enlighten ourselves?

Financial Literacy has the potential to change the answer even as the reader is discovering that the level of understanding was depressingly lower than we had imagined.

Financial Literacy is presented in three stages. The first identifies the accounting methods applied to preparation of books of account. The second actually looks at a number of financial statements, identifies what to look for and what they mean and explains the importance of the accompanying notes. The third stage is a type of guide, by which, by comparison, one can more readily understand what the accounts of a company actually mean.

The final part of the book contains the 2004 published accounts of a large Australian Publicly listed company. Many aspects of these accounts are referred to as demonstrating the way things should be done, whilst explaining the meaning of them.

There is also a particularly fascinating discussion of the balance sheet of Enron during the three years prior to its collapse. This discussion reveals an excellent example of “profitless growth” with obvious warning signs which were, alas, ignored by almost every regulator and financial journalist who saw them, almost all of whom should have done much better.

Financial Literacy is not a book whose contents can be absorbed in one simple scan. Rather, it is a keeper, a book to which one may profitably go back to, especially, when the “boring parts” of a brief are before us. Who knows? Those pages of accounts may not be quite so boring if we actually manage to extract useful forensic information from them.