With headline-grabbing names like Arm and Instacart going public, and Klaviyo likely to follow, analysts are discussing whether IPOs are making a comeback. But companies eyeing IPOs should proceed with caution to avoid accounting misstatements.
Accounting errors and restatements surged 150% during the 2023 proxy season, according to analysis by Glass Lewis. Much of the increase is due to the IPO and SPAC boom in 2020–2021, the advisory firm surmised, as newer companies are often still in the process of developing internal controls.
Internal controls may not be the juiciest topic, but good controls are vital to ensuring a business remains a going concern, Rich Brady, global chair at the Institute of Management Accountants (IMA) and CEO of the American Society of Military Comptrollers, told CFO Brew. He spoke with us about how CFOs can balance innovative, fast-driving cultures with the need for strong internal controls.
This interview has been lightly edited for length and clarity.
What are some reasons for the restatements or errors that newer companies experience?
A lot of the relevant accounting standards that [the SPACs] were relying on were complex and required a fair amount of judgment and the use of estimates, and anytime you introduce judgments and estimates into the accounting standards, [disclosures] can be prone to interpretation error.
Second, at a startup, there’s a lot of manual processes going on, a lot of spreadsheets that don’t have the control measures and the protections [built into] them, and then finally, not having the staff with the knowledge, skills, and abilities to navigate the complexities of being a startup and implementing these new accounting policies and processes while complying with the SEC and other standards.
Can startup culture come into conflict with the need for internal controls?
If you think about startups, just by their very nature, they’re trying to be bold. They’re trying to be creative problem solvers. They’ve got a very flat organization. They’re trying to be agile, nimble…aggressive. All of those things don’t necessarily lend themselves to internal controls, which are, in their very nature, control measures. And so that tone at the top is a little different than at more established companies.
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How might a CFO change the tone at the top around internal controls?
For many startups, cash is king. You’re trying to preserve as much cash as you can so you’ve got enough runway to get your product or service out to market…When you think about internal controls, you automatically think, “Well, this sounds like overhead, right? This is going to be a cost to us.” And that’s one way of framing internal controls.
Another is to look at internal controls as an enabler of sustainable business. [The CFO can reframe] internal controls from being overhead and something that’s going to slow down a business or put a brake on innovation and development to thinking of it as an enabler of long-term sustainability.
Is the accountant shortage contributing to the rise in errors and restatements?
Oh, absolutely…Whether you’re a startup or an established company, [if] you’ve got a fair number of vacancies, you’re not able to cover all the areas that you need to within your finance function. You may not be able to have that segregation of duties. You may not be able to focus the attention on all the areas you need. What we’re seeing with the SPACs, the new IPOs, and the startups is may be a leading indicator of a broader problem.
Are CFOs being asked to do too much? Could that be a contributing factor?
Obviously, the role of the CFO has elevated over the past few years to the point where they are taking on greater responsibilities…And part of that is the fact that the CFO has broad visibility across the entire organization, so sometimes it just makes sense [to say,] “Put all of risk management under the CFO.” But that may not be the best place for all of these activities, because of the span of control issues. You can only take on so much.
And finance and accounting is increasingly technical. There’s a lot of regulatory requirements…There’s the value judgments involved. And so, companies do need to be cautious about putting too many disparate activities under one individual. The primary role of the CFO should be the finance and accounting function, first and foremost.