By Paul B. W. Miller and Paul r. Bahnson
‘For the benefit of’ or
‘to the benefit of:’
What’s the difference?
Okay, we’ll admit it up front: We are inveterate wordsmiths who love us- ing words to make our points. Over
the previous 15 years that we’ve produced
this column, we’ve even invented a few to de-
scribe some financial reporting issues, such
as “pfooling of interests,” “volatilaphobia”
and, more recently, “duh-preciation.”
In this column, we want to make a signifi-
cant point to those involved in financial re-
porting by focusing on two common words
that everybody uses hundreds of times a
day. Specifically, it matters whether some-
one thinks the capital markets exist for their
benefit or to their benefit.
To start, we ask for whose benefit do capital
The answer is simple: everyone. Their role
in a free market economy is to efficiently connect those who demand capital with those
who supply it. If market efficiency exists,
then capital is priced optimally, reflecting
expected future returns and the associated
risks. Without efficiency, economic activity,
growth and stability are all jeopardized. With
it, though, a society’s economic system more
readily fulfills its functions of generating and
One main factor that created and sustained
the Great Depression was inefficient capital
markets that had no liquidity, trust or useful
information. Because people lacked confidence in the markets, those with capital
were unwilling to supply it and those who
needed it could not obtain it. We think the
same sort of friction may very well exist in
In short, the purpose of the capital markets
is to help the economy contribute to society’s
TO THEIR BENEFIT?
Within that context, it takes an intricate and
Paul B. W. Miller is a professor at the
University of Colorado at Colorado Springs
and Paul R. Bahnson is a professor at Boise
State University. The authors’ views are
not necessarily those of their institutions.
Reach them at firstname.lastname@example.org.
balanced interplay among four main participating groups to make the capital markets work for society’s benefit. Because the
groups gain from their contributions, it’s true
the markets work to their benefit. In a sense,
society rewards them for services rendered.
Consider managers who issue public securities. The system allows them access to
fresh capital in primary markets, enabling
companies to come into existence or expand,
as the case may be. They use their shares as
currency for buying assets and even other
companies, and, of course, as compensation.
The secondary markets create liquidity and
establish the securities’ value as well. Thus,
markets benefit shareholders and help managers retain their jobs and prosper.
The markets also sustain auditors by providing them with a livelihood in exchange
for contributing a valuable service to society.
Specifically, completing their task of adding
credibility to managers’ self-representations
gives them above-average income and a great
deal of respectability.
Third, financial statement users, including
investors and financial analysts, can access
many different investment opportunities
with an endless array of returns and risks.
This diversity promotes wise investing and
greater income for themselves and their clientele. These people are, in effect, the main
mechanism for creating efficiency as they
pore through reams of data to find the best
investments for their goals. They put every security in play and enable equilibrium prices
to be reached quickly. Their obvious reward is
a chance to accumulate substantial wealth.
Fourth, there are regulators, including
standard-setters. Like auditors, the markets
provide them with a respectable and satisfying livelihood, primarily by creating and enforcing regulations that aim to reduce risk by
building confidence in the markets’ fairness.
In return, they are admired for their integrity and can take pride in contributing every
day to society’s prosperity. Former SEC Chief
Accountant Walter Schuetze once explained
that he felt it was his duty each day to cradle
the capital markets like a delicate crystal vase
that he was to carefully protect from harm.
There are, of course, many others who
make the markets work, such as brokers, exchange managers, investment advisors, mutual fund managers and marketers, bankers,
venture capitalists and media pundits. We’ll
focus on only the above four because of their
direct involvement in financial reporting.
Unless they adopt a broad perspective, all
these people see only their little part of the
system through the lens of their self-interest
and come to believe they’re entitled to use
their power, wealth and position to get what
they “rightfully” deserve. Like spoiled adolescents, they may literally think the markets
exist for their benefit, instead of grasping that
they are only bit players in a bigger game in
which they are allowed to participate to their
own benefit only because of their unique
contributions to the greater good.
Lamentably, the reality is that many, and
probably even most, participants do indeed
see the markets as existing for their benefit,
unfortunately to the detriment of everyone,
Because they can, managers wheel and
deal with other people’s money like there’s
no tomorrow. They think nothing of shading
the truth to pull down insane compensation.
At times, they’re so intent on feathering their
nests that they forget everything else, including common decency and even the law.
We’re afraid auditors have also become sufficiently self-absorbed to the point that they
tend to resist any change that would cause
them to audit new information and expose
them to what they see as unacceptable risks.
What they miss over and over again is that
their defense of the status quo prevents useful information from reaching the markets.
By auditing only GAAP financial statements,
their opinions are not particularly valuable
because they merely affirm that the reports
present mostly useless information. We think
auditors also fail to see that being paid by clients diminishes the essential trust factor.
As for investors and analysts, many mis-
takenly think it’s perfectly fine to engage in
self-serving deals that weaken the markets’
contribution to society’s overall benefit. They
focus, for example, on forecasted and report-
ed GAAP earnings per share as if they mean
something, when all should know that they’re
basically worthless. The consequence is a lot
of market friction when “earnings season”
rolls around every quarter. Their shouting
about this meaningless statistic destroys mar-
ket efficiency, even if it makes some analysts
wealthy. Other misbehaviors are “pump and
dump” and short-selling while bad-mouth-
ing a stock.
THE NEED FOR AN EPIPHANY
What we see is a crying need for a massive
epiphany. If markets really exist for society’s
benefit and participants can earn great rewards with integrity by serving those broader
societal interests, then they will be better off
working toward that goal.
For managers, it would mean focusing on
what they should do best, which is managing
enterprises to generate wealth through innovation and serving demand for their goods
and services. If they do a good job, it follows
that they will be honestly (and handsomely)
compensated without crossing a line. A key
realization will reveal that the best way to
increase their securities’ value is providing
useful, complete and timely information. No
obfuscation, no truth-bending, no withholding bad news, no propaganda, just the truth,
the whole truth, and nothing but the truth, so
that all can understand.
For auditors, an epiphany would lead to
See SPIRIT on 20