On December 21, 2006, my mentor, George Gilder, wrote on his blog about the last time he saw Peter Drucker live. It is such a profound piece that goes to the heart of how accounting is becoming increasingly irrelevant to the spirit of enterprise, it is worth quoting in full:
The last time I saw Peter Drucker, he was keynoting a Forbes conference in Seattle for CEOs. In the auditorium at the International Trade Center next to the bay, they had wheeled out the great man to the middle of the stage in a great fluffy easy chair.
Close to 90 years old--at the end of the previous century gazing toward the next--he was the numinous name and Delphic presence at the conference. Everyone leaned forward to hear what he had to say.
Then a gasp shook the rows of CEOs. The conference management stood there stricken, unable to move: "For the Love of Malcolm's motorcycle...What is this?" The CEOs sat popeyed.
The hoary sage's balding pate flopped back in the chair as if he had fallen asleep...or worse.
Perhaps Forbes had erred in staking a major conference on an aging guru seemingly well over the hill and in parlous health.
Then his entire body fell forward. I was ready to run up to catch him if he should tumble toward the crowd. But he somehow caught himself. His eyes opened, and he looked out intently at the throng of CEOs. Everyone sighed with relief. He was awake. He had their attention.
Drucker growled: "I have just one thing to tell you today. Just one thing..."
Wow, I said to myself, it better be good.
"Noone," he continued, "but noone in your company, knows less about your business than your See Eff Oh."
This was the era of the heroic Chief Financial Officer (CFO). Scott Sullivan of Worldcom, Andy Fastow of Enron, clever, inventive folk like that.
You remember them. Across the country, CFOs were in the saddle. CEOs would not move without consulting them.
What could Drucker have meant?
He was stating law number one of the Telecosm.
Knowledge is about the past. Entrepreneurship is about the future.
CFOs deal with past numbers. By the time they get them all parsed and pinned down, the numbers are often wrong. In effect, CFOs are trying to steer companies by peering into the rearview mirror. Past numbers do not have anything much to do with future numbers.
Moreover, CFOs tend to focus on internal problems. But most internal problems cannot be solved internally.
Determining business outcomes are decisions made by customers and investors and both are outside the company and not directly managed by the company. Their views can change in an instant, casting all the existing numbers into oblivion.
To reach customers and investors takes outside vision and leadership, not internal problem solving.
Tech companies should not try to solve problems. Solving problems sounds good, but it is a loser. You end up feeding your failures, starving your strengths and achieving costly mediocrity.
Don't solve problems--that's the CFO's forte and pitfall. Pursue opportunities.
A Deteriorating Paradigm
Approximately 70% of the average company's value cannot be explained by traditional GAAP financial statements.
Adding more arcane and picayune rules to GAAP, or converging existing GAAP with international accounting standards, will not solve this problem.
The accounting model is suffering from what philosophers call a deteriorating paradigm--it gets more and more complex to account for its lack of explanatory power.
In all fairness to accounting, it never was meant to predict value prospectively, only to record transactions retroactively. In effect, accounting can only measure the price of exchanges after they have taken place.
This is why accounting can only record the "goodwill" of a business until after is has been sold. Accounting has no way to place a value on that goodwill until a transaction takes place. That is why our late colleague Paul O'Byrne said goodwill is the name we give to our ignorance.
The best an accountant can do is to extrapolate the past into the future, and unless one's theory is that the future is going to be the same as the past, this technique is fraught with hazards. This was Drucker's point at the CEO conference in Seattle.
CEOs have to create the future, not relive the past, and the only way to do that is with a theory of the business, and to get outside of the four walls of their organizations and connect with external reality--where all value is created.