Three students are travelling deep in a land far away from their homes. We’ll say they are Canadians in India. Because they are students on a tight budget, they have decided to share a room for the night. They knock on the door of a guesthouse and a young man answers the door.
The students ask the young man if they can pay for a room for the night. He confirms that a room is available, and it will cost 3000 Indian rupees, (which the students quickly calculate is about 50 Canadian dollars).
The young man takes the money to the owner of the guesthouse who, being an honest woman, explains that since the room only costs 2500 rupees and not 3000 the young man should return 500 rupees to the three students.
As he is walking back to the door, he thinks about dividing the money between the three students, but he only has the money in five one hundred rupee notes. Suddenly, he has a good idea.
He can’t divide 500 between three students and since 200 rupees is a good and fair tip, he offers to carry their bags and asks the students if he can keep the tip, returning to each of them 100 rupees.
The students agree willingly. Now the three students have paid 2700 rupees altogether and the young man has kept 200 rupees. What has happened to the other 100 rupees?
If you explain the story as presented here, it doesn’t make it easy to work out what has happened. This is like the world of business, in which there is often a story to tell, but the numbers can get lost in the telling. It’s very unlikely in this story that people will arrive at the answer very easily.
After all: 2700 + 200 = 2900. However, this is a meaningless sum. Why add what the students have paid to what the young man has put in his pocket. We should be adding what the young man has kept as a tip to what the patron of the hotel has received, equal to 2700 rupees, which is what the students have paid.
Hence this is an accounting problem: specifically, double-entry book-keeping. On the left hand side of the balance sheet are the payments (or student liabilities), and on the right-hand side the assets (now in the till of the hotel owner and the pocket of the concierge).
I always used to wonder why accounting was so confusing. Now, I know that’s it’s all about presenting the data in the best way in order to report to stakeholders, to enable the best business decisions, and to satisfy the regulations.
In fact, it’s possible to communicate an awful lot in a succinct form. During the financial crisis of 2008, one financial person with wit and humour described the situation in a few words: “On the left hand side of the balance sheet, nothing is right, and on the right-hand side of the balance sheet, nothing is left.”
Such is the outcome of all financial crises. If we fail to use the right methods when we are making our decisions, then the outcomes can be measured by words along the scale of 'disappointing' to 'disastrous', or 'distressful' to 'disgraceful'.
