Three Problems, One Solution

Binod Shankar is a CFA Charterholder consultant who runs Genesis, a Dubai-based financial training company. Writing for The National, he observed three problems with mark to market accounting and offers one solution.
Problem 1: When there is a crisis, buyers stop buying and the market grinds to a halt. Hence there is no market value to which one can “mark.” This is particularly true for long-term assets that are difficult to value in normal times.
Problem 2: Any change in asset value, negative or positive, passes through the income statement without any cash flowing in. This impacts profits but doesn’t bring in any cash when they rise, nor is there a “real” loss when markets are down.
Problem 3: If a company has an income statement that is inflated with fair value assets, investors will want higher dividends. If fair value assets deflate the income statement, perfectly stable companies’ capitalization can become suspect. Hence mark to market accounting is highly misleading in good times as well as bad.
Solution: Binod Shankar recommends that all changes in fair value should be routed through the balance sheet instead of the income statement. Additionally, investments that are intended to be held to maturity should not be marked to market.
We agree.