When Dell announced in February its decision to take the company private in a deal estimated at US$24.4 billion, founder and CEO Michael Dell said in a statement that the move was part of the strategy to “continue the execution of our long-term strategy and focus on delivering best-in-class solutions to our customers as a private enterprise.”
One could have added that the deal was necessary to give Dell the breathing space it needed – away from the demands of shareholders and the market – to re-boot its strategy and recover its profits from its bread-and-butter PC business, which have been badly hit by sexier, more innovative products such Apple’s iPad and Amazon’s Kindle.
INSEAD Associate Professor of Accounting and Control, Gilles Hilary, in a research paper entitled “Does Accounting Conservatism Impede Corporate Innovation?”, makes the case that firms with a greater degree of accounting conservatism are less innovative because of, among other things, the requisite accounting practice of immediately provisioning for future losses. Hilary writes: “The principle of accounting conservatism is to recognise losses as soon as they become probable but delay the recognition of profits until there is a legal claim to the revenues generating them and that revenues are verifiable.”
Hilary adds, “The negative effects of accounting conservatism on innovation activities are more pronounced…when the pressure from short-term institutional investors is greater.”
The Long Term View
The pressure to meet quarterly and annual financial targets is indeed great, says Hal Gregersen, Senior Affiliate Professor of Innovation and Leadership at INSEAD, but it did not deter innovators such as Amazon founder and CEO, Jeff Bezos. “It’s important to remember that every major risk that Bezos has had Amazon take, the markets have actually been very negative when he takes the risks,” Gregersen told INSEAD Knowledge in an interview during his appearance at the Unleashing Innovation conference in Singapore in February.
“When Amazon went from just selling books to building massive full-sized warehouses to hold more than books because they were spreading beyond that product, the markets thought he was an idiot for investing the money in that sort of capital expansion; we know the story there – it worked.”
The markets crushed Amazon stock on two other company announcements: the move into e-readers (Kindle) and cloud computing; the bets paid off both times. Sales have more than tripled from US14.85 billion in 2007 to over US$48 billion in 2011, illustrating the benefits of taking the long-term view that Bezos often talks about.
It is well-known that Bezos includes in every Amazon annual report the company’s 1997 letter to the shareholders, reminding them that “It’s All About the Long Term”. Among many points made in that letter, Bezos states quite clearly: “We will continue to make investment decisions in light of long-term market leadership considerations rather than short-term profitability considerations or short-term Wall Street reactions.”
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[This article is republished courtesy of INSEAD Knowledge
http://knowledge.insead.edu, the portal to the latest business insights and views of The Business School of the World. Copyright INSEAD 2023]
In my view, it is not entirely and accounting issue. When the results are uncertain, CFO is bound to question the investment and while doing so he is guided more by prudence than the accounting implications. If the CEO or innovator could satisfy the CFO that beit taken is more likely to result in sucess (which is not possible most of the time), I am sure the CFO will find a solution to accounting problem. Also, we are looking at this issue in the context of sucess of Amazon with innovation which are hugely sucessful but there are many more examples of corporations going bust in trying to innovate. CFOs are required to analyse the impact of the current investment on the viability of the corporation (what will be the impact if the result of investment is NIL?) and act as devils advocate in assessing the risk and potential reward. It is a balancing act and both CEO and CFO has to work together in ensuring the organisation makes the right choice.on May 26, 2013
It is true that most accountants are conservative and risk averse. But, any innovative idea can not be killed by accountants if it has the approval of the CEO This has been amply demonstrated by the example of Amazon given in the article. As Amazon has shown, in order to create value for the company, and hence the shareholders, a long term view of the business must be taken. This is possible in case of owner managed businesses. However, taking a long term view is difficult in case of businesses managed by professionals, whose bonuses and raises are linked to the short term performance, both in accounting terms as well as in the share markets. This is where innovation takes a hit, unless the innovation is linked to performance enhancement and profitability improvementon Apr 26, 2013
THE PROBLEM LIES IN MYOPIA OF ACCOUNTING A FINANCE EXECUTIVES. IT IS ALSO CALLED CONSERVATIVE APPROACH. MORE THE DEGREE OF MYOPIA GREATER WILL BE THE CUT IN DISCRETIONARY COST AREA AND LESSER WILL BE INNOVATION IN THE ORGANIZATION. ACCOUNTING AND FINANCE EXECUTIVES NEED TRAINING IN INNOVATION. FIRST THEY SHOULD BECOME INNOVATIVE. HOWEVER, UP TILL NOW FINANCIAL INNOVATIONS HAVE RESULTED IN MORE SCAMS AND GLOBAL CRISIS. THUS. THEY MUST BE INNOVATIVE WITH FINANCIAL AND ACCOUNTING ETHICS.DR. N M KHANDELWAL, ACADEMIC ADVISER, NATHDWARA GROUP OF INSTITUTIONS, NATHDWARA, INDIA.on Apr 26, 2013
INNOVATIONS AND CREATIVITY SACRIFICIAL LAMB .....IN MARKET PENETRATION.......on Apr 21, 2013