Give a Critique of the Usefulness of Spreadsheet Modelling in Financial Accounting and Reporting Essay

Prior to the evolution of computer software and eventually to the creation of electronic spreadsheets, accountants relied heavily on manual calculations for financial reports, budgetary projections, incomplete records accounting ect - Give a Critique of the Usefulness of Spreadsheet Modelling in Financial Accounting and Reporting Essay introduction. As Ballantine explains, “much valuable time had been spent on repetitive calculations [… ] if one or more input values were altered and the entire worksheet had to be recalculated manually. ” (1991, p. 204). Today the same logic behind manual worksheets apply but with the added power of spreadsheets.

The development of electronic spreadsheet programs some 40 years ago has helped change the way in which an organisation operates in terms of its financial position. Information could be presented in a similar way to the traditional – a large sheet of paper structured in rows and columns – but “yet allowing sensitivity analysis or ‘what if’ analysis to be performed. ” (Ballantine, 1991, p. 204). Visicalc was the first program designed by Bricklin –an MBA student at Harvard Business – that included sensitivity analysis, interrelationship of cells but most importantly a reduction in computational time for repetitive calculations.

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Leading to the success of Visicalc, several other programs emerged of similar use with enhanced features such as graphical representation and macro languages. Even though the impact upon businesses has been tremendous, there are several drawbacks that even today raise the question whether companies should continue the use of spreadsheets as their main software. As Ballantine stated “spreadsheets have been used successfully in many different fields to help solve a wide range of problems. ” involving repetitive calculations. (1991, p. 05)

Budgetary development is one the application spreadsheets evolved in terms of time management since manual worksheets where the main tool, involving a lengthy and hence error-prone procedure since lack of time did not allow extensive testing of the model. Spreadsheets allowed a better utilisation of the accountants’ time since the array of features available to manage difficult and often complex equation forms, but also the ability to interrelate cells could produce the results needed for different scenarios by just altering the input data (Berry and McLintock, 1991).

Reports could now be prepared on a quarterly, monthly, weekly or daily basis giving management the needed information for more sound and informed decisions. In my experience using Microsoft Excel when imputing the data for Toton Teddies Ltd, was that once the input data was calculated using different formulas, the production of the financial statements for the year was a mere referencing of the values calculated saving the group a lot of time. However, the use of spreadsheets has not eliminated human error – as Panko stated, even today “developers make uncorrected errors in 2% to 5% of all formulas” included in the model.

He then explains that the easiest way to eliminate errors is through testing even though “testing among developers in the industry is extremely rare” (2006, p. 73). TransAlta Corp. is one of the many examples that clerical error has resulted in a $24 million charge of earnings after a “cut-and-paste error in Excel” (O’Beirne, 2005). A decision was made on inaccurate data provided by the model, raising the issue whether managers should use spreadsheets as a tool and not as end in itself (Ballantine, 1991, p. 211). Creativity is at the hands of the developer, as spreadsheets offer minimal limitation in the way the model we be structured.

The user can carry out detailed ‘what if’ analysis without any manual calculation for any kind of situation – whether that is the diversification of an organisation into a new market or a simple calculation for depreciation. Solving a problem is no longer constrained to manual worksheets, giving the opportunity to managers or accountants to use electronic spreadsheets as a first approach (Ballantine, 1991, p. 208). Furthermore, external factors that were previously not considered are now available through the process of sensitivity analysis, allowing for more informed results to be produced.

Berry and McLintock also argue that accountants, senior managers or the actual user of the model should be the developer since the creativity and much modelling effort is then lost. (1991, p. 321). Has creativity though gone too far? Panko argues that “although many spreadsheets are small and simple throwaway calculations, surveys have shown that many spreadsheets are quite large, complex, and important to the firm. ” (2003, p. 49). As mentioned before, testing is one of the most critical stages in the process of creating a model but overconfidence of the developer in terms of its accuracy could cause the company a lot (Panko, 2003, p. 9). Another advantage of spreadsheets is the fact that the user “requires no general purpose language programming experience” in order to produce a financial model. Time and cost for training is very minimal when compared with the benefits available. (Ballantine, 1991, p. 210). When my group and I developed the model for Toton Teddies Ltd, we came across a few difficulties at a time but the user friendly interface of Excel along with the useful tips and Help search engine we manage to tackle mostly all of our queries.

However, due to the fact that there are so easy to use, flexible and available to a large number of individuals within the organisation a question for security and control is raised where highly risky situations may be created. Software like Excel provide limited options for control leaving important information for the company exposed. (O’Beirne, 2005). A good example could be when my group and I produced the Financial Statements for Toton Teddies Ltd using Excel it was realised that even if the Net Profit figure was locked in order to avoid fraud, a simple change to any Sales figure could alter the amount for profits.

Over the years laws have been introduced in order to control companies and the way they prepare and produce their financial reports. It has been proven a challenge for accountant’s to find a program that complies with the laws imposed by Public Accounting Oversight Board and by the U. S Securities and Exchange Commission. Based on research, a large number of CEO’s and CFO’s believe that spreadsheets are not accurate enough in order to comply with the regulations.

Furthermore, under the Sarbanes-Oxley Act (SOX) companies have to “formally document and test the support of internal control” – something that spreadsheets cannot do. (Leech, 2005, p. 73). Even though spreadsheets are not in compliance with SOX, many companies during the first year used them due to their familiarity and inexpensiveness but also because the act’s development was at an early stage and the requirements were still evolving. As mentioned above the use of spreadsheet does not require and prior knowledge and the training involved is low cost.

Microsoft Excel is a relatively inexpensive product in comparison with other programs, explaining the fact that 64% uses it even though a specialised program can produce more accurate results. (Kren, 2005, p. 157). On the other hand, a lot of companies today design and develop their own software in order to adjust them to their wants and needs suggesting that the price of the software should not be the number one priority for companies but the effectiveness of the program, as millions of dollars could be lost from formula mistakes in complex spreadsheet operations. Howcroft, 2006). The spreadsheet revolution has changed the way organisations – and especially their financial sector – operate. One could say that disadvantages of spreadsheets overcome advantages and that it is about time for companies to move on to more sophisticated software. But is that case? Costs are at a minimum and the returns from such programs are far greater. Spreadsheets could be considered ideal for small and start up companies looking to keep things simple but accurate and also cost effective.

On the other hand, larger companies should consider the weakness and limitations mentioned above and consider moving on since spreadsheets are considered by many as inadequate for today’s harsh and competitive business environment.

References:

* Ballantine, J. (1991) “The spreadsheet revolution and its impact on the budgeting process”, Eds. Williams & Spaul, IT and Accounting: The impact of information technology * Berry, R. And McLintock, A. (1991) “Financial Modelling – use or abuse”, Eds. Williams & Spaul, IT and Accounting: The impact of information technology * Falk, P. And Lynn, B. 2004) “Who relies on spreadsheets? Too many”, Financial Executive * Leech, T. (2005) “Spreadsheets under pressure”, Internal Auditor * O’Beirne, P. (2005) “Spreadsheets risks and controls” Accountancy Ireland * Panko, R. (2003) “Reducing Overconfidence in Spreadsheet Development”, Proc. European Spreadsheet Risks Int. Grp. p. 49-66 Downloaded from http://arxiv. org/abs/0804. 0941 as at 20/0/2012 * Panko, R. (2006) “Recommended Practices for Spreadsheet Testing”, Proc. European Spreadsheet Risks Int. Grp. p. 73-84. Downloaded from http://arxiv. org/abs/0712. 0109 as at 20/03/2012

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