THE ACCOUNTING PROVISIONS OF THE
COMMERCIAL CODE OF ETHIOPIA

Thesis for the Degree of D. B. A.
MICHIGAN STATE UNIVERSITY
JOHANNES KINFU
1970

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THE ACCOUNTING PROVISIONS OF THE
COMMERCIAL CODE OF ETHIOPIA

presented by

Johannes Kinfu

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ABSTRACT

THE ACCOUNTING PROVISIONS OF THE
COMMERCIAL CODE OF ETHIOPIA

BY

Johannes Kinfu

The Ethiopian Commercial Code, promulgated in 1960,
contains accounting and auditing provisions which must be
adhered to by all commercial companies in Ethiopia, espe-
cially share companies (corporations). Since there is no
other well-established system of accounts for either semi-
public or publicly owned enterprises in Ethiopia, whatever
uniform system of accounts exists in Ethiopia today emerges
from the accounting provisions of the Code. Thus, account- '
ing provisions in the Code have become the basic reference
source for accounting and public accounting today.

Accounting information is indispensible in an un-
derdeveloped country like EthiOpia, in order to provide a
basis for adequate financial planning, for channelling in-
vestment to the most profitable enterprises, for control-
ling and guarding efficiency within enterprises, for im—
proving tax collection processes, and for aiding overall
economic development in general. The Ethiopian Commercial

Code recognizes the importance of development of corporate

2 - Johannes Kinfu

legal entities (corporations) as a medium for marshalling
the scarce capital needed for investment, and seeks to ex—
ploit the organizational and managerial potentialities of
corporations as significant factors in economic develop-
ment. The Code also recognizes the value of accounting
and financial information of these share companies in ful-
filling their responsibilities to those who have financial
dealings with them.

The Commercial Code embodies the purpose of incor—
poration law. The purpose of incorporation law is to pro-
vide for protection of the rights and interests of stock-
holders; thus, accounting requirements relating to accoun-
tability and disclosure are means of safeguarding the
rights of investors and those who have financial dealings
with the corporation. Since a share company is a corpora-
tion which is predicated on the assumptions of continuity
and of an accounting entity, then the permanent distinction
between capital and income, the recognition of the concept
of periodic reporting, and adequate disclosure of informa-
tion are necessary.

The study examines the underlying theoretical sup-
port and rationale behind the Code's accounting provisions,
evaluating their relevance, appropriateness and adequacy of
disclosure in providing information necessary for sound eco-
nomic decision. The guiding criteria and bases of analysis

are extracted from pronouncements of the American Institute

3 - Johannes Kinfu

of Certified Public Accountants (AICPA), the American Ac-
counting Association (AAA), and other authoritative writers
on the subject. The relevant accounting provisions of the
Code considered are those relating to: (1) corporate capi-
tal, (2) surplus (reserves), (3) valuation of assets, and
(4) auditing.

In the course of analysis, it is found that the
statutes of the Code do not recognize properly the dis-
tinction between earnings and invested capital in their
accounting requirements relating to legal capital, surplus,
dividends, and treasury stock. Nor do the provisions in-
sure proper accounting treatment of disclosure of trans-
actions which affect corporate equities. The provisions
are found to be unsatisfactory because they: (1) permit
the transfer of capital contributions to surplus which may
then be used for dividends or to eliminate deficits without
adequate disclosure; (2) do not provide for reduction of
capital through acquisition of treasury stock; (3) do not
provide adequate accounting concepts, principles, and
methods of valuation and classification of items, such as
capital, reserves, assets; (4) do not provide for any au-
diting standards and procedures, nor define who is an au-
ditor; (5) do not recognize income as a measure of value,
instead put emphasis on the balance sheet and the "trust
fund" concept of capital; (6) use accounting terms whose

meanings are not clear, nor their intent readily apparent.

4 - Johannes Kinfu

The following recommendations are proposals set
forth to remedy the deficiencies in the corporate account-
ing provisions:

1. Provisions should distinguish between sources
of ownership equity. Transfers to surplus and use of pre-
mium for distribution of dividends should be adequately
disclosed. Distributions representing divisions of earn-
ings should be termed dividends and be limited to accumu-
lated earnings; while distributions representing return of
invested capital should be so disclosed. The payment of
interim-interest to shareholders should be discontinued or
the resulting implicit discount on capital issue be recog-
nized. Legal capital should represent amount of assets
contributed by owners or other donations of property. Cor-
porate capital should be increased when transfers from sur-
plus are made, and reduced when reacquisitions of shares
are made. The term "reserve" should be amplified to avoid
an implication of existence of segregated funds, or proper
accounting provisions should be made to reflect "reserve"
in the sense of funds. Sources of surplus should be iden-
tified and classified according to the nature of their
accounting entry.

2. Relevant accounting entries and adjustments
should be provided to portray assets that are still in use
but are completely depreciated on the books. Articles

should be amended to reconcile the present ambiguity between

5 — Johannes Kinfu

amortization and depreciation, and should recognize the
purpose of depreciation measurement for income determina-
tion. For tax purposes, a discriminatory depreciation
policy is recommended whereby a labor intensive industry

is given higher rates of depreciation than a capital in-
tensive industry. It is also suggested that a more detailed
list of composite asset lives and depreciation rates be
prepared by type of assets and industry to guide tax author-
ities in determining appropriate tax-deductible rates.
Provisions should be amended to distinguish between mer-
chandise inventory held for sale, supplies, materials,
investments, and fixed assets.

The following recommendations pertain to definition
of auditors and the nature of their work, accounting prac-
tice, and preparation for accountancy:

l. The auditing provisions of the Code should
provide for auditing standards, procedures, and for proper
delineation of auditors' independence. The auditor's work
in tax service should be recognized and accepted by tax
authorities. Appointment of two or more competing audi-
tors for the same company at the same time should be
avoided. The use of ”no comments" in practitioners' audit
reports should be eliminated, and the requirement that
auditors certify the Board of Directors' report should

be discontinued.

6 - Johannes Kinfu

2. A Committee on Public Accounting in Ethiopia
should be established with powers and duties to regulate
and supervise a public accounting profession in Ethiopia,
and, through proper working groups of its sub-organs, to
establish the certification process, set minimum educational
and experience requirements, establish a Code of Ethics,
execute rules of supervision and revocation of license, and
encourage research and development in accounting.

3. The educational requirements for public accoun-
tants should be increased to correspond to at least the
four years of accounting and general business curricula of
the College of Business Administration at the Haile Selassie
I University. The curriculum for accounting majors at CBA
should be improved to include courses on accounting theory,
analysis of accounting provisions of the Commercial Code,

and auditing problems in Ethiopia.

THE ACCOUNTING
PROVISIONS OF THE
COMMERCIAL CODE
OF

ETHIOPIA

BY

Johannes Kinfu

A THESIS
Submitted to
Michigan State University

in partial fulfillment of the requirements
for the degree of

DOCTOR OF BUSINESS ADMINISTRATION

Department of Accounting and
Financial Administration

1970

To:

Dr. Earl G. Planty and Mrs. Marjorie Planty,
who were the pioneers in the building and
firm establishment of the College of Business
Administration and Business Education in
EthiOpia. It is a small token of recognition
for the deep interest and dedication they
have taken in the deve10pment of Ethiopian
business students, and the progress of
Ethiopia in general, utilizing their talents
and sacrificing their physical energy as

well as financial resources.

ii

ACKNOWLEDGMENTS

I wish to express my gratitude to Professor Gardner
Jones, my dissertation chairman, for approving the topic and
for his willingness to take an interest in the subject, guid-
ing me with his knowledgeable advice, valuable comments, and
constant encouragement. Were it not for his moral support
and faithful understanding, the completion of this report on
time, as well as of the doctoral program, would not have
been possible. When too often bottlenecks developed and
help was needed, he was always ready and willing to render
his services without fatigue or restraint. He has always
made me feel welcomed.

Special mention is due to Dr. Donald Taylor and Dr.
Bernhard Lemke, my committee members, for their assistance,
constructive criticisms and suggestions. Grateful acknowl-
edgment is also in order to former Dean Alfred L. Seelye
for all his efforts in making my graduate studies at
Michigan State University possible.

To send someone abroad for higher education, several
institutions and certain individuals have sacrificed a great
deal of money. I am deeply indebted to the U. 5. Agency for
International Development, who, in cooperation with the
Haile Sellassie I University and other individuals, have

made this phase possible.

iii

TABLE OF CONTENTS

LIST OF TABLES O C O O O O O O O O O O O O O O 0

LIST OF FIGURES O O O O O O O O O O O O O O O 0

LIST OF EXHIBITS O O O O O O O O O O O O O O O 0

INTRODUCTION 0 O O O O O O O O O O O O O O O O 0

Chapter

I.

II.

ACCOUNTING IN UNDERDEVELOPED COUNTRIES

Introduction . . . . . . . . . .

Objective of Accounting in General .

Socio—Economic Environment of

Underdeveloped Countries . . . . . .

Economic Planning . . . . . . . . . .
Planning: Meaning and Connotations
Planning Objectively Considered
Planning in Ethiopia

Uses of Accounting Data for

Specific Tasks . . . . . . . . . .

Accounting at the National Level . .

Conclusions . . . . . . . . . . . . .

THE COMMERCIAL CODE OF ETHIOPIA . . . .

Introduction . . . . . . . . . . . .
Background and Some Characteristics
of Ethiopian Business . . . . . . . .
Description and Contents of
the Commercial Code . . . . . . . .
Forms of Business Organization
Accounting Provisions of
the Commercial Code
The Purposes of Incorporation Law
and Their Relationship to Accounting
The Purposes of the Commercial
Code of Ethiopia . . . . . . . . . .
Comparisons of the Purposes of
the Commercial Code . . . . . . . . .

iv

viii

ix

xi

n+4 H

I-’
l—‘U‘l

18
20
23
24
24
24

28

33
34

35

II

CONTENTS - Continued

Chapter

III. DEVELOPMENT OF CRITERIA FOR EVALUATING
PROVISIONS OF THE CODE . . . . . . . . .

Introduction . . . . . . . . . . . .
Assumptions in the Process of Analysis
Criteria . . . . . . . . . . . . . . .
The'"Share Company" . . . . . . . . .

IV 0 CORPORATE CAPITAL O O O O O O O O O O 0

Introduction . . . . . . . . . . . . .
Concepts of Capital . . . . . . . .
Economic Concept of Capital
Legal Concept of Capital
Accounting Concept of Capital
Capital in the Share Companies
of Ethiopia
Consideration of Premiums
Consideration of Discounts

Changes in Capital Subsequent to Formation

Reacquisition of Own Stocks:
Treasury Stock
Reacquisitions of Own Shares by
a Share Company in Ethiopia
Reduction of Capital
Increase of Capital
Conclusions . . . . . . . . . . . . .

v o RESERVES O O O O O O O O O O O 0 O O O 0

Introduction . . . . . . . . . . . . .

The Term "Reserve" . . . . .
"Reserve" in the United States
"Surplus and Reserves" in France
"Reserves" in Canada

"Provisions and Reserves" in the U. K.

Implications of the Term "Reserve"
Reserves in Ethiopia . . . . . . . . .
Conclusions . . . . . . . . . . . . .

Recapitulation of Reserves
Recommendations . . . . . . . . . . .

37
37
38
41
43
47

47
48

62

72
76

76
76

86
92

99

Chapter

VI.

VII.

CONTENTS - Continued

ASSET VALUATION O O O O O O O O O O O 0

Introduction . . . . . . . . . . . .

Assets . . . . . . . . . .
Definition and the Nature of Assets
Asset Valuation in Accounting
Economic Significance of Assets

Fixed Assets and Depreciation . . . .
Depreciation Methods

Definition and Nature of Assets

in Ethiopia . . . . . . . . . . .
Depreciation Methods and Rates

in Ethiopia

Valuation of Fixed Assets in Ethiopia
Significance of Depreciation as Tool

of Economic Policy
Current Assets--Inventories . . . . .
Significance of Inventories
Problems of Inventory Valuation
Methods of Inventory Valuation
Methods of Cost Association with
Cost of Sales and Inventory

Recapitulation of Inventory Valuation

Inventories and Inventory Valuation
in Ethiopia
Conclusions and Recommendations . . .

Recommendations—~Fixed Assets Valuation
Recommendations for Inventory Valuation

AUDITING AND PROFESSIONAL ACCOUNTANCY
IN ETHIOPIA O O O O O O O O O O C O O 0

Introduction . . . . . . . . . . . .

Accounting and Law . . . . . . . . .

Accounting and Auditing . . . . . . .
Independent Auditing
Auditing Standards

Public Accounting Profession . . . .
Requisites of a Profession
Accounting Profession in America
Accounting Profession in Canada
Accounting Profession in the U. K.
Accounting Profession in France
Accounting Profession in Italy
Recapitulation of the Accounting

Profession

vi

102

102
102

110

115

132

149

160
160

161
166

172

CONTENTS - Continued
Chapter
VII. Continued

Public Accounting in Ethiopia . . . . . . . 199
Auditing Provisions in the
Commercial Code
Auditing Practice in Ethiopia
Need for Public Accounting in Ethiopia . . 224
Process of Developing a Public
Accounting Profession . . . . . . . . . . . 231
Suggested Certification Processes
Educational Training for Public
Accountants in Ethiopia . . . . . . . . . . 244
Conclusions and Recommendations . . . . . . 251
Recommendations

VIII. SUMMARY, CONCLUSIONS, AND RECOMMENDATIONS . . 258

summary 0 O O O O O 0 O O O O O O O O O O 0 2 58
Conclusions . . . . . . . . . . . . . . . . 260
Recommendations . . . . . . . . . . . . . . 271
General Recommendations
Specific Recommendations

BIBLIOGRAPM O O O O O O O O O O O O 0 O O O O O O O O 2 79
APPENDIX

I. The Provisions of the Commercial Code
in Regard to Share Company . . . . . . . . . 287

II. The Planning Organizationsof Ethiopia . . . 309

III. Income Statement and Balance Sheet of the
Bahr-Dar Textile Mills Share Company . . . . 311

IV. Bulletin "F" Composite Asset Lives and
Applicable Composite Rates for Various
Industries 0 O O O O O O O O O O O O O O O O 313

V. Haile Sellassie I University, College of
Business Administration Curriculum . . . . . 321

vii

[I

Table

VI-2

VI-2

VII-l

VII-2

LIST OF TABLES

Comparison of Rates of Depreciation
Permitted in Ethiopia Versus the
Rates of Depreciation Permitted in
the U. S. for Equivalent Asset Types

Composition and Growth of Gross
Domestic Product in Ethiopia . . . .

Persons or Firms Currently Known to
Be Practicing "Public Accounting"
in Ethiopia 0 O O O O O O O O O O 0

Accounting Courses Covered at CBA
in Ethiopia . . . . . . . . . . . .

viii

Page

126

150

227

248

LIST OF FIGURES
Figure Page
1 David Apter's Model of Systems,
Processes and Politics of
Economic Development . . . . . . . . . . . . 7

2 JOhn Friedman's Matrix of System Types . . . . 10

3 Possible Sectors of the National Economy
of an Underdeveloped Country . . . . . . . . 16

4 Dimensional View of the Objectives
of Accounting . . . . . . . . . . . . . . . l9

ix

Exhibit

I.

II.

III.

IV.

VI.

VII.

LIST OF EXHIBITS

Bahr—Dar Textile Mills (Share Company)
Auditors' Report (1963) . . . . . . . .

Tendaho Plantations Share Company
Auditors' Report (1968) . . . . . . . .

General Ethiopian Transport Share Company
Auditors' Report (1968) . . . . . . . .

Indo-Ethiopian Textiles Share Company
Auditors' Report (1968) . . . . . . . .

Rubber and Canvas Shoe Share Company
Auditors' Report (1968) . . . . . . . .

Rubber and Canvas Shoe Share Company
Auditors' Report (1969) . . . . . . . .

Tendaho Plantations Share Company
Directors' Report . . . . . . . . . . .

Page

208

209

210

211

212

213

214

INTRODUCTION

Ethiopia is an ancient kingdom with a long history
of trading and ancient royal rules and customs for the con-
duct of business. However, it was not until 1960 that the
Commercial Code was first promulgated establishing what
constitutes modern corporation law of Ethiopia today. The
increasing desire and concern for quick economic progress
had led the Ethiopian government to recognize the formation
of businesses and business corporations as important agen-
cies in economic development, in aggregating capital and
undertaking risk. The government also had become aware
that some regularization of the process of corporate for-
mation and governmental monitoring of such corporations is
necessary in order to guarantee the corporations' responsi-
bilities to those who have financial dealings with them.

The business enterprise in Ethiopia is typified by:
(a) a large number of small, independent private businesses,
and, (b) a few large semi-public and public business con-
cerns. Due to the general need of encouraging modern trade
and industry on a large scale, and thereby spurring the
initial period of economic development, the government

finds it imperative to establish or contribute to the

xi

establishment of various business activities; thus, govern—
ment participation is quite frequent and common in the
semi-public and public enterprises.

Aside from what is provided by the Code, as of
today there is no well-established, uniform system of ac—
counts that has been set for the semi-public or public
enterprises in Ethiopia. whatever uniform system of ac-
counts exists in Ethiopia today emerges from the provi-
sions of the Commercial Code of 1960. Further, there is
no self-governing accounting profession in Ethiopia, or
even a government-sponsored regulating body. The only of-
ficial reference to accountants and auditing occurs in the
Commercial Code. This lack of any legislation regulating
accounting practice has given rise to various undesirable
practices by self-claimed auditors.

The Code was intended to encourage trade, invest-
ment, economic development, and, in particular, to regu-
late the activities of all business organizations. The
Commercial Code is based partly on the French and Swiss
codes and partly on Ethiopian traditional law. The Book
of the COmmercial Code is composed of five parts, each
part being called a Book.

Book I: Contains general provisions applicable to
traders, businesses and agents; books and accounts to be
kept by them; and descriptions and purposes of the Commer-

cial Register.

xii

Book II: Contains descriptions and definitions of
various types of business organizations; accounts to be
kept, and financial statements to be prepared; require-
ments for the review and approval of financial statements
by auditors; reserves and depreciation accounts to be set
up, capital formation and dividends; points of conversion,
amalgamation, and incorporation.

Book III: Contains provisions relating to Car-
riages (transportation), Insurance, and Games and Gambling.

Book IV: Contains provisions for negotiable in-
struments and banking transactions.

Book V: Contains provisions relating to bank-

ruptcy and schemes of arrangement.

Purpose and Scope of the Study

In this study, our interest in the Commercial Code
is primarily directed to the accounting and auditing pro-
visions that are provided therein. The provisions in the
Code include:

1. For the review and approval by auditors of
all financial statements of share companies (corporations)
and certain other business organizations, but no provi-
sions are made to define who is an "auditor."

2. For the types and forms of Balance Sheet and
Income Statement to be prepared by the share companies,

and accounting rules and procedures to be followed.

xiii

3. For the handling of depreciation and amortiza-
tion, and the setting up of reserve accounts.

4. For capital accounts to be maintained, the
distribution of dividends, and asset valuation.

These provisions have become the basis for the
asset valuation and income determination processes and
the basic reference source for public accounting as it
exists in Ethiopia today.

The study will concentrate on the parts of the
Code that are relevant to accounting (income determination,
capital valuation, asset valuation, and public accounting
practice), emphasizing_thegenera1 and specific accounting
provisions that apply only to the "share company” type of
business organization. The Objective of this study is to
(1) examine these corporate accounting provisions of the
Code, and evaluate them in the light of what is now de-
scribed as "sound accounting" in America; (2) to examine
their effects upon accounting practices, and the role of
accounting on the economy; and, finally, (3) to propose
recommendations for the correction of deficiencies which
may be found. In short, the study undertakes to examine
the underlying theoretical support and rationale of the
Code's accounting and auditing provisions, evaluating
their relevance, appropriateness, and adequacy of disclo-
sure in providing information necessary for sound economic

decision making.

xiv

Chapter I discusses some of the basic objectives
and functions of accounting in general, and the current
status and development of accounting in the world today.
Specifically, the role and objective of accounting in
underdeveloped economies is probed, delineating the na-
ture of the socio-economic set-up of these countries within
which accounting is to function. Further, the role of ac-
counting in economic planning and economic development is
explored. The general objective of accounting is to pro-
Vide relevant data and information for decision making.
Conceptualising accounting in a "hierarchy" of levels,
three levels of accounting objectives are recognized: the
Primary, the intermediate, and the ultimate. Since the
Specific task for which accounting will be used varies de-
pending on the unit, sector and economy, the accounting
obj ectives will become complex, intricate and difficult
as we move from the primary Objective of accounting to the
ultimate objective and from the micro—level to the macro-
level of the economy. Recognizing the limitations, diffi-
cul ties, and problems involved in accounting techniques
and data at the national level, the chapter emphasizes the
need, appropriateness and possibilities of developing
proper accounting methods at the firm level. Thus, the
chapter discusses the importance of proper accounting at
the firm level, and the development of competent accoun-

tants and an adequate financial statement as essential

XV

elements in aiding the economic development of underdevel-
oped countries.

Chapter II reviews briefly the contents of the Com-
mercial Code in general and its historical background.
This chapter also compares the purposes of the Commercial
Code with the purposes of incorporation law in general,
and discusses the relationship of these purposes to the
Obj ectives of accounting. The Commercial Code establishes
What constitutes the governing corporation law in Ethiopia
tOday, and, as such, embodies the purpose of incorporation
law. The purpose of incorporation law is to provide pro-
teCtion of rights and interests of stockholders and to
thOse who have financial dealings with the corporation;
and accounting requirements concerning disclosure are a
means of safeguarding these rights and providing the
heCessary protection.

Chapter III attempts to set guiding criteria and
be~8es of analysis, extracting them from pronouncements of
the American Institute of Certified Public Accountants
(AICPA) and the American Accounting Association (AAA). This
chapter also sets the assumptions and premises underlying
the concern of limiting our study to the share companies.
The relevant corporate accounting provisions of the Code
to be considered in the analysis are grouped into topics
relating to: (1) corporate capital, (2) reserve (surplus),

(
3) asset valuation, (4) auditing and professional accounting

xvi

in Ethiopia. In each topic, the proper accounting concepts
and principles are reviewed first, based on AICPA, AAA,
and other authoritative writers. Second, the Code's pro-
visions are described and critically analysed. Third,
recommendations and suggestions are made for improvements.

Chapter IV deals with the Code's provisions re-
garding capital. In this chapter, the various concepts
0f capital are first reviewed. The proper accounting con-
cepts, principles and methods of capital handling are then
recognized, based on statements of the AICPA, AAA, and
Other authoritative writers on the subject. The problems
of subsequent increases and decreases of capital, and the
accounting requirements regarding the unique problems of
the corporation relating to legal capital, surplus, divi-
derIds, and treasury stock are also discussed. The Code's
accounting provisions regarding capital are then examined
and compared to the established accounting concepts, prin—
ciples, and methods of capital handling. Lastly, the de-
ficiencies of the Code provisions with respect to account-
ing for corporate capital are identified, and recommenda-
tiOns for remedying them are suggested.

Chapter V discusses the term ”reserve" and its use
in the sense of "surplus" and in other connotations. The
different accounting concepts, definitions, and uses of
the terminology in various countries and by various author-

itative accounting writers are compared and analysed.

xvii

After establishing the problems involved in the delinea—
tion and intelligible use of the term "surplus" and "re-
serve,” the Code's provisions relating to ”reserve" and
"surplus" are analysed critically.

Chapter VI deals with valuation of fixed assets,
depreciation, and inventories. The first part is devoted
to valuation of fixed assets, the economic significance
of depreciation, and the various purposes of depreciation
measurement. The second part deals with recognition,
valuation, and Classification of inventories.

In Chapter VII, the impact of the Code's provi—
sions on the public accounting profession, and on the en-
hancement and development of the role of accounting in the
e'tzcmomy, is critically analysed. The chapter inquires not
only into the qualifications of the Ethiopian auditor and
his role, but also the standards by which the auditors
in Ethiopia judge the correctness of financial statements.
To this end, the contents of the certificates issued by
auditing firms in Ethiopia are examined. This chapter
also discusses the processes and ingredients necessary
for building the educational strata and machinery for es-
ta~1>1ishment of an accounting profession in Ethiopia. To
the extent that it is relevant and possible, the experi—
ence of the economically advanced countries in the devel-
opment of accounting professions is reviewed. Evaluations

are also made of the various attempts undertaken to

xviii

establish some regulations on the public accounting pro-
fession in Ethiopia.

Overall, the study involves mostly library research.
Its framework is drawn from the theories of accounting,
economics, finance, and management, while the center of
inquiry remains the corporate accounting and auditing pro-
visions of the Commercial Code and accounting practice in
Ethiopia.

Chapter VIII states the summary and conclusions
reached from the study, and contains the recommendations

and suggestions for remedying the deficiencies found.

iigpificance of the Study

In view of the fact that my graduate education in
the United States is for the express purpose of contribut-
ing to the further improvement of accounting education and
practice in Ethiopia, it seems plausible to direct my
dissertation efforts toward a topic that leads. toward
that end.

Before offering solutions to any problem, the
first strategic requirement is to understand the problem
itSelf and to comprehend the existing surrounding context
of the problem. A review and examination of what account-
ing provisions are enforced by law and what is being done
in practice, in comparison to "what ought to be," seems

to provide a proper guide for choices among alternative

xix

M

solutions. It is hoped that the examination of the pres-

ent accounting provisions enforced by law will unravel the
deficiencies that may exist, in comparison to what ought

to be. Suggestions offered for improvement of accounting

practice in Ethiopia may also have further implications

for other economies undergoing a similar pattern of de-

velopment.
Accounting in underdeveloped countries is less ad-

vanced than in the mature economies of the well-developed

countries. Thus, it is not (at its present stage of de-

velopment) able to play the important role in social plan-

ning and resource allocation that it plays in the American

economy and in other mature economies of the world. Yet,

Since the potential exists for it to render services that
are valuable in a developing economy like Ethiopia's, it
Seems appropriate to start the improvement and development
of accounting by amending the deficient accounting statutes

0 f the Code .
Education is a partial answer to the problem of the

low level of the accounting role in the economic develop-

ment of underdeveloped countries. Business education and

aceounting education have now started in Ethiopia. The
sp-I'Sead of business education which has begun is based on
n"0’1'3eern accounting theory, principles, concepts, and on

mociern management principles. Accounting practices and

pI‘GCedures, based on these accounting concepts and

XX

management principles, seem to differ from the accounting

practices and procedures promulgated and required in the
Code. There are serious differences between what the

business curricula are teaching students and what is 1e-

gally enforced and practiced. It is hoped that this

study will not only expose this gap, but also lead to

some suggestions toward narrowing it.

In prospect, this study perhaps will contribute
to the thought of direction and form for uniform account-
ing, should it be desirable to apply a uniform system of

accounting in Ethiopia in the future.

Presently, in Ethiopia, there is discussion of
establishing some regulation of the public accounting
Prcrfession. It is hoped that this study will contribute
to ‘the discussion of developing and regulating accounting
Staaidards for accounting practitioners, whether by statu-

tolfir action or by a self-regulating public accounting

profession.

The greatest contribution of this study is for
Ethduopia--and perhaps for other underdeveloped countries
Who have legislation on corporate accounting and auditing

Which needs to be amended.

The study can also be considered as an information

soLLEY:e on Ethiopian accounting practices, and as an example

xxi

of an emergence of a profession of accounting in a devel-
oping country, which type of genesis is going to be wit-

nessed in all the newly emerging nations of the world in
the next decade.

xxii

-..

 

CHAPTER I
ACCOUNTING IN UNDERDEVELOPED COUNTRIES

This Chapter will explore the importance, role,
and objectives of accounting in underdevelOped countries,
with some discussion of the role and Objectives of account-
ing in general wherever it is found. Particular portions
of the chapter deal with the objectives of accounting, its
problems of implementation, and the status of its current
development at the'micro and macro level. We also note
the socio-economic 'setting of underdevelOped countries

within which accounting is to function.

Introduction
It has been lamented by several writers that the
low rate of economic growth of emerging nations is corre-
lated with the inadequacy of financial data for fiscal
planning and the low level of accounting role played in
these countries.1 For example, Robert Seiler sums up the
importance of accounting:

Accounting. systems with their dual outputof financial
reperts for external use, and central reports for

1Robert F. Seiler, Adolf J. H. Enthoven, Theodore

L. Wilkinson, and Eshetu Chole.

¥

internal management are integral and important part

of society's information system. . . . the strength
and extent of a nation's information system determines

in large part the rate at which economic development

will progress, and accounting systems thus assumS im-
portant role in development of emerging nations.

In his paper prepared for the IX Accounting Con-

gress, Theodore L. Wilkinson also asserts:

There is no question but a very strong correlation
exists between higher professional auditing standards,
procedures and requirements and the ability of a
country with capital available for investment to in-
duce the widespread individual investment of that
capital . . . the lack of appreciation of the inter-
dependency between economic deveIOpment and accoung-
ancy hinders progress in the develOping countries.

Inadequate financial data are the frequent causes,
131 the underdeveloped countries, of poor assessment and
Gathering of taxes, of failure to increase the flow of
capital into newly expanded productive facilities, of
failure to regulate structure and rate of growth of pub-
ldicly controlled industries; of the difficulty in creat-
iIng public markets for securities; of the failure to in-
SLLre intelligent negotiation between labor and management;
arm: of allocating resources into unsuccessful projects.
AS a result, it is not uncommon to see many projects

started and then closed after fixed capital and fixed in-

PM ts have been incurred and allocated.
2Robert E. Seiler, "Information System in Underde-
Veloped Nations," Accounting Review (October, 1966), p. 652.

d 3Theodore L. Wilkinson, "WOrld Wide Auditing Stan-
(ards and the World Economy," The Price Waterhouse Review
Winter, 1967), p. 10.

In the more developed countries, especially in the
United States, growth of accounting and accounting profes-
sion has been due to the government interest in adequate
financial data of individual enterprise, and the growth of
public awareness of the importance of data that can be ac—

cumulated and interpreted through the accounting process.

Further, the level of business education and training has

been such as to lead management to recognize the central

purpose of accounting. Last but not least, the growth of

the accounting profession in self-regulated fashion,
springing from the grass roots upward, has been the great
:hnpetus for the development of accounting.

In underdeveloped countries, however, accounting
tends to be hardly known or little appreciated as a process
01? measuring and encouraging performance, but often is
uSed instead as a whip to punish, or as evidence to in-
Crfiiminate, or discredit an official, or uncover a fraud.
It: is associated mostly with negative connotations. The
1evel of business education and training is also such that
the accountant does not enjoy or has not built yet an
irrliege of creditability and/or of prestige, of public con—
fiIience. If he has any image, frequently it is that of

an_ "auditor,” which term is synonymously associated with

"Peliceman"or "watchdog." Further, the low level of per—

formance standards by accountants themselves, and the lack

of: a recognizable accounting profession have accentuated

 

on.
u
u.«‘

‘ 7

m:

 

the tendency to reduce accounting matters in these coun-
tries to statutes of prescribed rules officially initiated
by legal procedures, and perhaps by non-accountants. Ac-
counting thus develops from the tOp downward. The inter-
nationally known foreign accounting firms operating in
these countries thus face a dilemma of having to conform
to the prescribed rules as accepted accounting standards,
or of using home-base accepted accounting standards which
may not apply. Or even if the standards apply, they face
the risk of contradicting the local legal rules. The pres-
sures of these countries for uniformity in reporting may,
through legislation, also prevent accounting and financial
reporting from developing in a self-regulated manner, and
from meeting necessary changes with flexibility as new

dem and s arise .

Objective of Accounting in General

The general objective of accounting is to provide
relevant data and information for economic decision making.
If we conceptualize accounting objectives in a "hierarchy
0f levels,” three levels of accounting objectives can be
recognized: (l) The primary objective is mainly concerned
With providing organized historical records of economic
evefits. (2) The intermediate objective is concerned with
summarizing, abstracting, analysing, and reporting from

recOrded history relevant data and information for the

 

 

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.nr

n...

(I'4

...

u.

achievement of ultimate objectives. (3) The ultimate ob-
jective of accounting is to provide information which will
aid in decision making.

Accounting is purposive and evolutionary and is
influenced by the socio-economic environment within which
it operates.4 Thus, the general objectives of accounting
which were conceptualized as sort of dimensionless and
boundaryless must then be considered within the socio-
economic environment within which the accounting objec-
tives are to operate—-the socio-economic environment of
underdeveloped countries.

Socio-Economic Environment of
Underdeveloped'Countries

The socio-economic environment of underdeveloped
countries is by no means easy to describe. However, some
reVealing attempts have been made by various scholars to
segregate and analyse the most important factors or vari—
ables of the socio-economic environment of underdeveloped
countries. The socio-economic environment of various
underdeveloped countries has been Classified in a matrix
fol‘m, by David Apter and John Friedman by systematic anal—

Yeis of structure and process of: (a) technical innovation
\

4George 0. May, Financial Accounting: A Dis-

tillation of Ex erience (New York: Macmillan Company,
I531), p. 3.

 

 

-v-

,.c

...
In.
.

and economic development relationship, and (b) political

organization involved.5

The first model of system variables based on the
political organization and economic development decision,
relationship of underdeveloped countries was developed by
David Apter. From five categories of (1) pattern of legit-

imacy, (2) loyalty, (3) decision autonomy, (4) distribution

authority, and (5) ideological expression, he developed

three developmental types of systems: (1) the mobilization

system (MO); (2) the reconciliation system (R); (3) modern-

izing autocracy (MA). (See Figure 1.)

All systems exhibit two Characteristic decisional
curtputs, one comprised of developmental decisions (economic)

anti the other comprised of system-maintenance decisions

(Political).

Characteristically, mobilization systems try to re-
build society in such a way that both the instrumen-
talities of government and the values associated with
change are remarkably altered. In Africa, countries
‘whose regimes are of this type incline toward the be-
lief that, to produce ”the new Africa," the structural
;precedents of African society must be altered, and a
Inew system of loyalties and ideas must be created,
focused around the concept that economic progress is

‘the basis for modern society.

{E 5David E. Apter, "Systems, Process, and Politics of
c:<>l'lc>mic Development,” in Industrialization and Socie ,
:r3r13 F. Hoselitz and WilberE E. Moore (eds.) UN S ,
touton, 1963. And John Friedman, "The Institutional Con-
Dext, " in Action under Planninggp The Guidance of Economic
eve«'lCmeenE, §ertram M. Gross (ea) (New York: McGraw-

Hill Book Co., 1967).

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usauso

H mmome
.l I Al .I l l
Hmuauaaom nIJ cowmmmudxm
HMUfioOHOOOH .m
mCOHmHOOo
mucmcmucawe mvaU mumwuousm darn wuauosusm mo
lemumwm AI. mcHNchmooz leusmcmuomupcm coausnauumao .v
coaumeOMCH NEOOCH heocoudm
muddmu new coamaomo .m
Emummm
OHEOGOOM COHUHOOU coaumaaauaouom >00H0cnuma huam>on .N
chfimaUOo Emummm humEapHoOH
ucmsaoam>ma . memos coaumuaaanoz Immeumuumacasn< mo cumuumm .H
l I III III Ill 1
mCOHmHOOo
ucmecum>ow ammmmuoud can mEmumhm :uach .mmauommumu

 

The characteristics of a mobilization system are as
follows: (a) hierarchical authority; (b) total alle—
giance; (c) tactical flexibility; (d) unitarism; and
(e) ideological specialization. Party or government
becomes the central instrument of change.

The reconciliation system is considerably harder to
define than the first. Its outstanding characteristic
is the high value it places on compromises between
groups which express prevailing political objectives
and views. As we are using the term, a reconciliation
system evolves with the formation of a simple politi-
cal unit from constituent political units which do not
lose their political identity on uniting. In practi—
cal terms, reconciliation systems can include rela-
tively loose confederations which have recognized
structure or highly organized parliamentary regimes.
The reconciliation system is characterized by (a)
pyramidal authority; (b) multiple loyalties; (c) ne-
cessity for compromise; (d) pluralism; and (e) ideo-
logical diffuseness.

The third type of system is the modernizing autocrapy,
where hierarchical authority is buttressed by tradIe
tional concepts of legitimacy. One crucial typical
feature of the modernizing autocracy is its ability
to absorb change as long as the system of authority
is not affected by it. For example, in Oganda, the
Buganda Kingdom can employ new Skills, modernize the
school system, and expand social-welfare activities;
a civil service has replaced the patrimonial bureau-
cratic system while retaining intact its traditional
modes of authority. The modernizing autocracy mani-
fests a profound internal solidarity based on eth-
nicity or religion, by means of which support is re-
tained for the political leaders or king who makes
claims on the members of the system and controls them.
Its characteristics are: (a) hierarchical authority;
(b) exclusivism; (c) strategic flexibility; (d) unit-
arism; and (e) neo-traditionalism.

O O O O O O O O O O O O O O O O O O O O C O O O O

a) The mobilization system must find the optimal bal-
ance between the achievement of forward-looking goals
amd the allocation of real income between coercion and
.1nformation. The degree of coercion is restricted by
:Lts cost on the processes of economic growth. In the
mnobilization system, hierarchical authority seeks not
<>nly to maintain itself but to intervene in all as-
EDects of social life. Economic development becomes
t:he rationale for demanding total allegiance. Tactical

flexibility is essential for assuring the immediate
control over problems which may emerge in the economic
process; its Chief characteristic is that it requires
a minimum amount of public accountability.

b) The reconciliation system must rely heavily on in-
formation when it defines its goals and the means of
achieving them. It cannot utilize much coercion--if
it does, it will be transformed into a mobilization
type of system. Its distinguishing features are its
participation in different aspects of group life and
its stimulation Of the public to participate more
fully in economic processes.

In the reconciliation system, collective legitimacy
results from a representative principle shared by the
entire Collectivity. However, the danger of separat-
ism, and even secession, by one or more of the con-
stituents imposes a real limitation upon the degree
of freedom the political leaders have. Since multiple
loyalties exist, economic development is by no means
seen in terms of the state. Instead, its perspec-
tives tend to be transformed into special interests.
Development must be diffused widely throughout the
system. For example, in India, the political demands
of various local interests made it necessary to con-
struct an oil refinery in a less advantageous part of
the country in order to build a refinery in the most
economically desirable location.

Since compromise is innate in a reconciliation system,
the pace of development is determined by the willing-
ness of the political leaders and of the public to
follow a policy of the central government. The pace
of growth is never more dramatic than that which the
public is prepared to accept, since policy must agree
with public desires. Frequently, the result is a
greater degree of superficial instability in the sys-
tem, with much spontaneous conflict and expressions
of bitterness among the parts. In spite of this, co-
ercive techniques remain at a minimum; and it can be
argued that the strength of the reconciliation system
lies, in some measure, in the perpetuation of the con-
flicts themselves. Each group finds a loyalty to the
system determined by parochial interests and hopes to
satisfy such interests. The hypotheses of both Simmel
amd Gluckmann concerning the social utility of con-
:flict are relevant here. Conflict is not necessarily
(destructive of the social fabric. On the contrary,
lander a reconciliation system, conflict gives people
ea vested interest in the system as a whole.

10

c) Modernizing autocracies are suspicious of advanced,
dramatic programs for economic development. However,
they tend to isolate those aspects of economic reforms
that seem capable of being absorbed without causing
too many authority problems.

In the modernizing autocracy, goals are restricted by
the implications they have for the system of hierar-
chical authority. Those which seem to entail substan-
tial alterations of the political framework of the
society are necessarily abhorred by the government.
Others, which allow the system to continue while at
the same time satisfying the public--particularly
with respect to expanding material standards and
raising income 1evels--are adopted.6
The second model of system variables is a measure
of economic-technological development achieved and was de—
veloped by John Friedman. It divides countries into three
Classes: (1) Transitional (T); (2) Transitional with a
strong modern sector (TM); and (3) Modern (M).
Combining the economic and political scale system

0f variables, a matrix was developed, as shown in Figure 2.

Political Organization

 

 

 

 

 

 

 

 

 

 

R MA MO
. '3» '
3 U r: T Nigeria ETHIOPIA Mainland
a '6', m . China
a
2 2. 3- «
O 0.4 United Arab Yugoslavia
‘35 g TM Venezuela Republic
u 5
m
E-a D M United Japan Soviet
Kingdom . Union
Figure 2.--John Friedman's Matrix of System Types
\ k

 

6Apter, "Systems, Process,and Politics."

11

According to the matrix then, Ethiopia is described
as transitional in terms of economic-technological develop-
ment and as a system of modernizipg_autocracy in terms of
its socio-political organization.

For our purposes, the overall socio-economic en-
vironment or decision systems and processes of an under-
developed country like Ethiopia can be characterized by a
transition period concerned with economic development plan-
ning and economic development objectives. If we consider
the decision-making system in a developing country like
Ethiopia as a planning and control process7 for economic
development, accounting objectives then should aid in the
economic development goals by providing information neces-

sary in the decision-making process of such an end.

Economic Planning
The increasing concern with economic development
in underdeveloped countries has given rise to economic
growth objectives, which in turn has led to economic plan-
ning. Thus, planning in some form of another has become
necessary for societies which have fallen behind if they

desire to "catch up."8

‘_ .—

7Robert N. Anthony, Plannin and Control Systems:
‘5 Framework for Analysis (Boston: Harvard University,
BIvIsIon OI Research—,TI‘aduate School of Business Adminis-
tration, 1965). See his discussion on how system embodies
pli‘ocess to facilitate decision making, and thus involves
Planning and control process in organization.

80. K. Ghosh, Problems of Economic Planning in

.India (Kitabistan: Allahabad, 1964), p. 1.

12

All those who have seen the film relating to the con-
quest of Mount Everest know what great part planning
played in that great adventure. How much more impor-
tant then would plannigg be when a nation tries to
catch up with another.

Today this need is realized in most African coun-
,tries. In fact, in these countries ”the plan has become

a symbol of independence."10

9

Planning: Meaning and Connotations

Since the word planning is to be used frequently
in this study, it is best to understand its connotation at
the outset. In the analysis of management function, plan-
ning and control are listed as separate items, though many
writers admit that there is no clear-cut separation be-
tween them. The separation is rather of mental activity,
and that planning and control should be seen as insepa-
rable. Thus, planning in the study will refer to both the
blue print model of planning (planning) and the informa-
tional model of planning (implementation action and con-
trol). This view is adOpted because a plan (blue print)
without implementation process is incomplete as far as
reaching economic development objectives is concerned.

Following Robert Anthony's framework of analysis,

Planning and control systems are used to facilitate deci-

 

91bid., p. 4.

10Andrew W. Kamarck, The Economics of African D27
XEEEEESEE (New York: FrederIcE A. Praeger, 1967), p. 210.

13

sion making. But since decisions are made by people, our
concern will be with the planning and control processes in

human organizations. Any system is an embodiment of pro-

cesses . 11

In the minds of many people perhaps, planning is
connected with Marxism and the Soviet Union, but it is
important to realize that "planning and Marxism do not
necessarily go hand in hand . . . . Marx himself is very
vague in the matter of planning."12 An extensive and ex-
cellent discussion of this distinction is provided by Tobin
and Ghosh. In June 1962, at Yale, President Kennedy also
warned against such ideological labels. He said, "Essen-
tially the important problems Of government [are] techni-
cal and complex, to be solved by open-minded pragmatic
reason rather than by slogans, myths, and other doctrin-

aire application of simple principles.”l3

Planning Objectively Considered
Encouraged by the French experience of planning,
the last 15 years the trend in the world has been to con-

side: economic planning objectively rather than ideologi-

h;

11See Anthony, Plannin and Contgpl Systems, for
extensive discussions on the meaning of‘plannIng.

12Ghosh, Economic Planningpin India, p. 13.

R 13James Tobin, National Economic Polic (New
aven: Yale University Press, . Po -

.u‘

14

cally,l4 and in the course of planning to apply the best

modern feasible tools of analysis. This trend is true

both in the developed as well as in underdeveloped coun-

tries, though the reasons leading to such interest and

trend may be different. Many leading writers of economic
planning and economic development have, in the course of

their argument, tried to notice government's similarity to

a business enterprise or firm as it plans for economic

growth, and thus have come to consider the advanced and

aarticulate private corporate planning and budgeting tech—
ziiques, and the advancement of present knowledge in system
auialysis in approaching economic planning or national plan-
rring.15 One of the best examples Of such writers is
Chamberlain.

Chamberlain views "planning at the level of econ-
<Dnny as a systematic management of a nation's assets to
achieve such objectives as may be sufficiently accepted
'tc> provide a measure of executive authority in seeking

them by means of such instruments and devices as similarly

are permitted."16 The managing of assets involves numerous

I4John Hacket, Economic Planningin France_(London:
ASia Publishing House, 19657, p. v.

15B. VanArkadie and C. Frank, Economic Accountin
anti Develo ment Plannin (Nairobi: Oxford UnIversIEy Press,
, p. 1; To in, National Economic Policy; Neil W.
chauflberlain, Private and PuBIIc Plannin (New York: McGraw-
Hilil BOok Co., 1965); and'Edwara Sagendorph Mason,chonomic
..Plannin in Underdeveloped Area_sr: Government and BusIness
(New YorTE: Fordham University Press, I958).

16Chamberlain, Private and Public Planning, pp. 14-

 

15.

15

activities, among which he specifies the following:

1. The identification of primary objectives for
which assets are managed;

2. The integration of several strategic streams of
decisions which involve coordination of: (a)
technical nature, and (b) people;

3. The element of time, since the objectives and
strategic decisions are not only of one time
matter, but must continue through the life of
the economic unit and are subject to change
due to a variety of influences.

The important underlying not that is made in
(:hamberlain is the viewing of the economy as a system
and sub-systems. Viewing the economy as system and sub—
systems means not only recognizing the sectors and units,
aund the relationships and interrelationships among them,
that also realizing that each sub-unit is a planning unit
irrvolved with systematic management of assets which come
under its control. Each unit plans within its own units
and boundaries, finding the various aspects or supporting
ac: tivities of planning. Each unit not only must satisfy
its own internal requirements, but must also be reasonably
cornpatible with the process characteristics of the larger
unit to maintain its position in the overall system.

Chamberlain divides his system into public and

Private sectors, while at the same time he makes a careful

l6

and important recognition of the government's dual nature,
(a) as it manages its sector, and (b) as it manages the
economy. In underdeveloped countries, the sectors of the
economy are not that simply delineated. For example,
Bognar attempts to roughly sketch for us the following

sectors which must be considered in viewing the national

economy of underdeveloped countries:

National Economy

 

 

 

JTraditional Sector
[Subsistence Economy

I . —' Small—Scale 9|
Industrial Cooperatives '-_+groduction

I Domestic Capital

I—VForeign-Owned l Farming I
Cooperatives

Biq Cgpital

Medium Capital in

Forei n Hands —‘+f@r9e Estates I

Iiandicraft , State—Owned
‘ Farms

Figure 3

[State—Owned Sector 17

 

 

 

 

 

LAgricultural Produc-
tion for Export

 

 

 

 

 

 

 

 

 

 

 

 

 

 

However, Bognar warns us too that "the operation
of a multi-sectored economy, the mutual impacts of the
Secrtors upon, and their transition into one another can-
not: 1>e exactly represented by any scheme."17 Thus, in
¥
D l7Jozsef Bognar, Economic Polic l d Plannin in

eVelo in Countries (Budapest: fiaaemIaI KIaao, 1939),

13.4,

17

underdeveloped countries where the sectors in the economy

are numerous and complex, and their interrelationships

complicated and illusive, the delineation and identifica-
tion of economic relationships at the national level is

stupendous yet still necessary for proper economic plan-

ning. This is why in John Friedman's words, "the whole

planning becomes an extremely fluid, ambiguous, and inde-

terminate network of information flows."18

Thus, in talking about economic development plan—

ning in underdeveloped countries, a point is made that

Planning in these countries ends up in being a workman-

like job of unrealistic blue print only. Planning as a

Process is indispensible for the formulation of effective

development policies and measures. But if a plan is pre-

Pared before the process of information system begins, or
if? the plan is unable to generate the process of informa-

ticnn required, then it is unlikely to have any develop-

ment.19

.Eliunning in Ethiopia
The concern with economic development planning in

Ethiopia had led to two five-year develOpment plans (a

18Bertram M. Gross, Action under Plannin : The
HIIl

321-dance of Economic Development (New York: McGraw-
Ok Co., I967), p. 37.

p 2 19Kamarck, The Economics of African Development,
° 12.

 

18

third one having just come out recently). These plans

mostly contain broad Objectives which are to serve as

guides for development. However, implementation has been

unsatisfactory due to lack of various essential bases of

planning, such as the lack of accounting and statistical

data, lack of coordination and effectiveness Of the plan-

ning machinery.20 The third—year plan tries to emphasize

the erecting and development of these essential bases of

plan implementation. The planning organization of

Ethiopia as is known in blue print is found in Appendix II.

Uses Of Accountin Data
for Specific Tasks

The specific task for which accounting techniques

 

imnd data will be used will vary depending on the unit,

there are three problems

ix: be recognized in marshalling accounting data.21

Sector, and the economy. Thus,

First, there is the problem of individual economic

units--firm, plant, or household.
The second problem concerns the coordination of
aCitivity of components of economy--inter-industry.

The third problem involves the aggregate perfor-

mance of the economy in terms of total product, or the

*

D 201m erial Ethio ian Government Second Five-Year
eVelo ment Plan (I963—I36'7), p. 31; Im eri a1 EEHio Ian
GOVernmenE TEIra Five-Year Developmen? Plan (1968765-
\I§72~’73"S',' 'C"'h"'apt""‘er"II'I, p. 4.

Pp> 21Van Arkadie and Frank, Economic Accounting,
0 2_3.

19

application of accounting techniques and data to problems

Of national accounts and national planning.

The accounting objective will then become more

complex and intricate, influenced by the interrelation-

ships and nature of transactions involved in the unit,

sector,

jective of accounting to the ultimate objective and from

the micro level to the macro level.

and the system,

 

_.)

as we move from the primary Ob-

(See Figure 4,)

 

 

 

 

 

 

 

 

 

 

 

 

Objectives
of Inter- Ultimate
thes AccOunt- Pri- mediate Objec
Of ing. mary Objec- tive
Accounting . . ‘ Obj ec- tive
Data in tive
1
Unit . Micro
level
Sector Industry .
Sectorial
Economy , Macro.
level _
Figure 4

The success of the ultimate objective of account-

ing on any level of economy will depend on the ability to

identify and recognize the various relevant relationships

imn<3 economic events of the various activities involved in

20

the unit, organization, sub-system and the system; and the

ability to measure them.

Accounting_at the National Level
The problem of accounting techniques and data at

the national level (macro-level) is of immense controversy

and is a subject of study by itself which cannot be ade-

quately treated or resolved in this study. In fact, even

in the developed economies of the world today, there is

no system that has adequately resolved this problem yet.
The accounting techniques at the national level, or, as

is termed ”social accounting,” has been little developed

cohesively up to today. Social accounting mostly has been

an undertaking of economists without the participation of

accountants,22 the result being not a great mutual inter-

dependence between social accounting and micro-accounting.

Much of the controversy over concepts of income in account-
irK; today is caused by the differences in concept of value
awn: income, as well as in expense recognition which is

mainly due to the differences in social accounting and

miCro-accounting. By ”social accounting,”we refer to ac-

COUnting developed by economists which has concentrated

mainly on the macro level, while ”micro-accounting” refers

i

(E 22Morton Backer (ed.), Modern Accountin Theor
p rlglewood Cliffs, N. J.: Prentice-Hall, Inc., T9335,
p- 485-510, chapter on "Social Accounting," by Mary

Murphy.

21

to accounting developed by accountants which has mainly

concentrated on the micro level.
The prospects of accounting techniques at the

micro level, however, are much brighter. There is an ade-

quate, if not fully satisfactory, knowledge of accounting

techniques which has been developed at the business or-

ganization or firm level in the world today. Thus, the

improvement and development of accounting of the firm,

plant, and household in underdeveloped countries should

give basic impetus to the formal treatment of data from
economic units which do not keep accounts yet, and thereby
provide for the extension of data required to the national

accounts.23 In his book Economic Accountin and Develope
4r :2; r__

gment.Planningn Van Arkadie tells us the usefulness of con-

centrating on the micro level in developing accounting in

Luaderdeveloped countries.

. . . Nature of government's peculiar role in the
economy [can be] avoided by implicitly adopting a
view of government closely analogous to that of the
business firm. This [allows] the development of
the basic accounting system without undue confusion

and diversions.

National accounts are useful be h as de criptions

of the level of well-being in the society and also
as tools in planning operations. Most of the de-
Ibate regarding accounting methods has tended to con—
centrate on the first function and the advocates of
particular position have tended to refer back to
Inelfare criteria in support of their points of view.
lRecently, however, there has been an increasing con-

<:ern for the second function.

23Van Arkadie and Frank, Economic Accounting, p. 4.

pp.

22

As planning is likely to have as its objectives the
increase in levels of welfare, defined in one manner
or another, the existence of the separate functions
need not lead to fundamental conflicts. In practice,
however, the planner is likely to be less interested
in the niceties of welfare measurements, and more
interested in the utility of the data in assessing
the feasibility and consistency of his plans. For
this purpose he may well be more interested in the
accuracy of the data of a few strategic sectors than
their completeness of coverage. . . .

Although the ultimate goal of the plan may be stated
in welfare terms the immediate objective will be de-
fined in terms of the performance of particular sec-
tors which are believed to be of importance for the
subsequent improvement of welfare. . . . Measures of
income will be more important as a basis for measur-
ing taxable capacity, than for the purpose of esti-
mating welfare.

Despite the frequent acceptance of the ascendancy of
planning needs, little work has been done to modify
the framework along lines which would produce maximum
return in the face of special objectives, the limited
personnel and peculiar data problems of the developing
countries. The ECA (Economic Commission for Africa)
has begun such work by suggesting a standardized set
of accounts, but more radical ventures might be in
order which provide a sanction for official accounts
which placed less emphasis on comprehensiveness but
more on detailed, specialized sectoral data.

This could be more important in countries just set-
ting up statistical services or in countries in which
the limitations on the supply of statistical personnel
make it impossible to maintain a worthwhile set of
comprehensive accounts on an annual basis. In such
situations a more limited set of data, available in a
systematic form and with greater reliability than
comprehensive figures,emight be compiled without the
considerable delays involved in the preparation of
income and product estimates. If work was pursued in
such a direction then there would be far less interest
.in valuation and welfare issues . . . and far more
<:oncern with investigazing the potential contemporary
Ilses of the accounts.

24Van Arkadie and Frank, Economic Accounting,

23

Conclusions
This chapter has identified the role and objec-
tives of accounting in underdeveloped countries and its

problem. It has developed with emphasis the need for and
the appropriateness of developing proper accounting meth-

ods at the micro level despite the nominal ascendancy of

economic planning and needs of accounting at the macro-

level.

CHAPTER II

THE COMMERCIAL CODE OF ETHIOPIA

Introduction

This chapter will discuss the Commercial Code in
general. First, the characteristics of Ethiopian busi-
ness will be reviewed. Second, the general contents of
the Commercial Code will be described. Third, the pur-
poses and objectives of the promulgation of the Commer-
cial Code will be examined from a legal (incorporation
law) objective, and the economic and financial account-
ing objectives point of view. These discussions are to
lhelp us relate the Commercial Code and its accounting pro-

xnisions to the purposes of incorporation law and financial

reporting .

Back round and Some Characteristics
of Ethiopian Business

Business enterprise in Ethiopia is typified by:

 

(a) .a.1arge number of small, independent private busi—
nesses; and (b) a few, but big, semi-public and public
business concerns. The large number of small businesses
are liJnited to retail trade and small craftsman industry.

The latter type of business concerns involves some kind

24

25

of government participative capital. For, due to the gen-
eral need of encouraging trade and industry, the govern-
ment finds it imperative to establish or contribute to

the establishment of various business activities.

Semi-public enterprises are autonomous bodies with
their own charters which have been established by the gov-
ernment, but to a great extent financed by their own in-
comes and by contributions other than from the State.
Their activities are initially financed in part by capital
contributions from the State budget, and later, if needed,
by annual contributions to their running cost. The fol-
lowing are examples: the Commercial Bank of Ethiopia, the
jBoard of Telecommunications, the Ethiopian Airlines, the
Ethiopian Light and Power Authority.

Public enterprises which are called "share com-
panies" in Ethiopia are the Ethiopian equivalent of the
corporation. For various economic as well as political
reasons, some shares of these corporations also are sub-
scrdJoed by the government or government agency either in
cast: or by some form of contribution in kind. J. D. Vbn
PiSCfluke has described how the share companies are financed
and who holds the shares in Ethiopia:

Ekast new share companies (corporations) established
111 Ethiopia are financed by small groups 0f informed
iJLsiders, by professionals, foreign investors,
Wealthy and financially sophisticated Ethiopians,

the Ministry of Finance, and local lending and in-
vesting institutions that are largely government-

26

owned and that have sizeable resources at their dis-
posal.

Despite the fact that the government or government
agencies seem to hold the shares of most share companies
(corporations) in Ethiopia, this is not the long-run,in-
tended policy of the government.

For long run public policy is based in favor of pri-
vate ownership . . . the government, the largest local
investor, has participated in the capitalization of
many corporations simply because the private sector
did not furnish the necessary resource. Public enter-
prise has been used to quicken economic development,
but is not currently viewed as the long run solution
to Ethiopia's economic problems. Thus, the main gov-
ernment—owned financial institutions are urged by the
Ministry to divest themselves of their equity hold-

ings in the established corporations as soon as the
private sector is willing and able to purchase the

shares.

The process of trying to transfer the share held
lby government agencies to private individual investors led
ix: 1960 to the establishment of the Share-Exchange Depart-
ment of the State Bank (which later became the National
Barflc). Despite the presence of many obstacles, this pro—
Cess culminated in 1965 in the formation of the Share
Dealging Group and the starting of a share market, thus
Stinullating the trading and holding of shares and over-the-

Counter operation.3 No time elapsed before the shares and

‘g

‘IJ. D. Von Pischke, Shares and Share Tradin in
Addis .Ababa. (College of Business AdminiStration, Ha e
e ass: e University, Addis Ababa, Ethiopia, 1968), p. 3.
21mm, p. 3.
3See Von Pischke, Shares and Share Trading, for
xcellent discussion and history of share trading in Addis
a.

27

share-trading activities gave impetus to: (a) the need
and awareness of minimum financial information necessary
for companies whose shares have to be approved for group
trading (listing); (b) the usefulness of current and ac-
curate information of company operations in order to price
shares realistically; and (c) the need of relying on
audited financial statements.

The process of development has brought to Ethiopia
foreign capital and the establishment of branches of multi-
national foreign corporations, i.e., Caltex, Shell, Stan-
dard Oil, NCR, A. Besse & Co., Mitchell Cotts. These en-
terprises which, by the nature and development of the par-
ent.corporation's country of origin, use elaborate ac-
cxaunting systems have tried to maintain their accounting
and information systems with difficulty, despite the dearth
of? trained local accountants. These companies were addi-
ticn1a1 causes for Ethiopian interest in accounting and ac-
counting information.

It was natural and conspicuously imperative that
the iabove events and business concerns need a firm legal
basis; for their existence and for defining their contrac-
tual <3bligations and relationships in the society, or some
kind caf'regulatory system to put their activities in per-
spectdsve. Thus, in 1960, the Commercial Code was promul-
gated ass the basic regulator of Ethiopian business prac-
tice,

28

The introduction of the Commercial Code as regu—
lator of Ethiopian business practice is a new phenomenon,
and as in all the other underdeveloped countries the use
and influence of law as a vehicle for introducing innova—
£222 is also of recent importance. However, the realm of
law in Ethiopia is not new. It has a long-standing im-
portant traditional basis which evolved from the Christian
Coptic Orthodox Church and its ancient kings. Thus, the
heavy reliance on the statutory law today is derived in
part from a strong Orthodox religious origin and the sub-
mission to the Fetha Negest. The Fetha Negest is a tra-
ditional legal code based on canons and civil laws of the
land with Judeo-Christian ethics.

Description ang5Contents of
the Commercial 0 e

The Commercial Code is based partly on the French
and Swiss codes, and partly on Ethiopian traditional law.
It is composed of five parts, each part being called a book.

Book One: Contains general provisions applicable
to ‘traders, businesses and agents; books and accounts to

be lcept by them; descriptions and purposes of the Commer-
‘3131 register; descriptions of corporeal and incorporeal
Elements of business, including definitions and preserva-
tion of good will; definitions and practices of trade

names, patents, and distinguishing marks; provisions re—

garding the role of business, mortgage 0f business, and

29

Book Two: Contains descriptions and definitions

of various forms of business organizations; accounts to

be kept and financial statements to be prepared; require-

ments for the review and approval of financial statements

by auditors; capital formation and dividends; points of

conversion, amalgamation and incorporation. As far as

this study is concerned, the most important provisions in

this section are those relating to the ”share companies,”

Articles 304 to 509 (see Appendix I).

Book Three: Contains provisions relating to car-

riages (Transportation), Insurance, and
Book Four: Contains provisions

instruments and banking transactions.
Book Five: Contains provisions

ruptcy and schemes of arrangements with

Organizations.

Forms of Business Organizations

In general, the Code recognizes

of business organizations:

P.

Games and Gambling.

regarding negotiable

relating to bank-

respect to business

the following forms

1. General Partnership. General partnership consists

consists of "partners who are personally, sever-

ally, and fully liable as between themselves and

to the partnership for the partnership firm's

undertaking."4

555

4Commercial Code of the Empire of Ethiopia of 1960,

30

Limited Partnership. Limited partnership com-
prises two types of partners: "general partners
in full liable personally, jointly and severally,
and limited partners who are only liable to the
extent of their contributions"5

Companies limited by shares--Share Companies. A
Share Company is a company whose capital is ”fixed
in advance and divided into shares, and whose lia-
bilities are met only by the assets of company."6
The minimum amount of capital required is to be not
less than Eth.$50,000 and with par value of each
share not less than Eth. $10. (Eth. $1=U.S. $0.40
or Eth. $2.50 = U. S. $1.00). There will be more
detailed discussion regarding this later on.
Private Limited Companies. A private limited com-
pany is a company: (a) whose members are liable
to the extent of their contributions; (b) whose
members are not less than two or more than fifty,
and (c) which does not issue transferable securi-
ties in any form. The minimum capital required
for such company is Eth. $15,000, and the shares
are to be of equal value and not less than $ Eth.
$10. This form of business organization is simi-

lar to the stockholder liability form in Canada.

 

51bid., p. 58.

61bid., p. 59.

31

Ordinary Partnership. These constitute partner-
ships of ”civil” forms. They include those of lawyers and
professional people who are civil partners in association
and are equally liable to creditors.

Sole Proprietorship. The sole proprietorship form
is covered under the title name of Trades and Traders,
whereby a trader is defined as a person or persons ”who
professionally and for gain carry on" various activities
of exchange.

Accountin Provisions of the
Commercia Code

The Commercial Code contains not only provisions
of legal bases for the existence and formation of the vari-
ous types of business forms (which makes it basically an
incorporation law), but also contains important accounting
provisions. The accounting provisions in the Commercial
Code include:

1. For the reviewal and approval by auditors, of
all financial statements of share companies (corporations)
and certain other businesses. However, no provisions are
made to define who is an ”auditor.”

2. For the types and form of Balance Sheet and
Income Statement to be prepared by the share companies
and other type business organization.

3. For the handling of depreciation and amortiza-

tion, and the setting up of reserve accounts.

32

4. For the capital accounts to be maintained, the
distribution of dividends, and asset valuation.

As of today, there is no well-established uniform
system of accounts that has been set for the semi-public
or public enterprise in Ethiopia. Whatever uniform system
of accounts exists in Ethiopia today emerges from the Com-
mercial Code of 1060. Nor is there specific legislation
in Ethiopia regulating or controlling the public account-
ing profession. In fact, the only reference to accountants
and public accounting occurs in the Commercial Code alone.
Hewever, there is a uniform system of government account-
ing based on what is called "models" (prenumbered forms)
enforced on all ministries whose activities are solely and
entirely financed through the state budgeted funds.7

Thus, these accounting provisions in the Commer—
cial Code become the basis for the asset valuation and in—
come determination processes and the basic reference
source for public accounting as it exists in Ethiopia
today.

If the Commercial Code is basically an incorpora-
tion law, examination of the purposes of incorporation law
and its relation with accounting should help us in shedding

light on the compatability and consistency of the purposes

¥
fir

7Johannes Kinfu, "Government Accounting in Ethiopia,”
Unpublished M.Sc. thesis, University of Utah, 1963.

33

of the Commercial Code and the accounting provisions

therein.

 

IESTEE§22§35 of Incorporation Law and
e r elationship to Accounting

The main purposes of incorporation law in general
are:

1. To provide means for permitting the organization
and operation of enterprises as corporate units
only upon the fulfillment of certain statutory
requirements.

2. To provide a basis for protecting the rights of
those who have financial interest and dealings
with the corporations.

Given the above purposes, then the disclosure of
adequate financial information is of utmost importance to
those who deal with the corporations and rely on financial
statements. Consequently, the provisions and statutes
should aid the development of accounting in order:

1. To make accounting as a qualified and full-fledged
fagent Of investors.

2. To make accounting an agent for aiding economic
development, so that the usefulness of accounting
as a basis for decision making in resource alloca—
tion (economic planning and development) will be

enhanced.

3.

general,

34

To report fully the results of operations and to
present accurately the financial position of the
enterprise.
To attain greater uniformity and consistency in
order to facilitate comparability of results be-
tween companies.
To encourage development of good information sys-
tem which will reflect new developments in busi-
ness and finance.
To improve standards in the field of reporting and
accountancy in general, and thereby raise the role
of accounting in the economy.
To facilitate the maintenance of accounting stan-
dards by enforcing such standards.

The Purposes of the Commercial Code
ofithlogia
The purposes of the Commercial Code in Ethiopia in

as implied in the speec of H.I.M. included in the

preface of the Code, are:

l.

2.

To provide legal bases which will assure the neces-
sary elements of stability and security_of business
transactions.

To provide a framework for expansion and growth of
trade and commerce.

To regulate the constitution and activity of all

business organizations.

35

4. To assist in the swift and orderly economic devel-
opment of the country.

Commerce and trade as used in the Commercial Code
refer to the characteristics of exchange in buying and
selling commodities on a large scale with regard to profit.

Comparisons of the Purposes of the Commercial Code
versus
‘£%§_g%rposes of Incorporation Law and
e élationships to Accounting

The general purposes of the Commercial Code are
less articulate but more comprehensive than incorporation
law in their aim. Among its purposes, the Commercial law
emphasizes the necessary elements of stability and security
of business transactions. In so doing, it tries to estab-
lish the legal basis of all business transactions for all
types of businesses and not only that of corporations.
However, there is a chapter devoted to the legal bases of
corporate business transaction--related ggly to corpora—
tions, which chapter then forms a sort of specific incor-
poration law.

Thus, the Commercial Code covers (or should cover)
under its umbrella the purposes of incorporation law, and
should supplement but never contradict the overall purposes
of incorporation law specified earlier. In this respect,
the statutes and provisions in the Commercial Code affect-
ing the nature of corporations' business dealings should

aid the development of accounting in order to assure the

36

adequate disclosure of financial information necessary to
protect the legal rights of those who have financial deal-
ings with the corporation (including the government).

This implies that the provisions in the Commercial
Code should not only be a matter of legal and contractual
arrangements drawn from a theoretical legal angle, but
also should concern proper accounting practices and methods
to be drawn from sound accounting theories.

Do the statutes and provisions in the Commercial
Code aid in development of "sound" accounting practices?
And, specifically, do the accounting statutes and provisions
in the Commercial Code pertaining to corporations (share
companies), provide an adequate degree of disclosure to
protect the rights of those who have financial dealings
with the share companies? These questions provide the
issue at hand, which is the overall concern of the study

and the specific topic of the chapters to follow.

CHAPTER III

DEVELOPMENT OF CRITERIA FOR EVALUATING

PROVISIONS OF THE CODE

Introduction

We discussed in Chapter I the role and objective
of accounting in general, and particularly its importance
and role with respect to the economic growth of underde-
veloped countries. In Chapter II, we established that the
purposes and objectives of the Commercial Code (or incor-
poration law) and those of accounting could not be far
apart or in opposition to one another despite the fact
that commercial law's basic view is legal and not economic
(and financial accounting) oriented. Thus, we concluded
that accounting principles and Code provisions should sup-
port and supplement each other, for the development and
sophistication of incorporation law are incomplete without
the parallel development and sophistication of accounting.

We now turn our attention specifically to the
share companies (corporations) of Ethiopia, and the account-
ing provisions prescribed for them to follow by the Code.
Our concern in the share companies (corporations) is found

in their raison d'etre, for being the most desirable

37

38

(effective, efficient) form of business organization not
only in marshalling large capital efficiently, but also in
providing the most comprehensive organizational elements
that are needed in expanding and building the industrial
and commercial sector. The expansion of industrial and
commercial sectors is presumably accepted to be the im-
portant route to economic growth of underdeveloped coun-
tries, as we have shown in Chapter 1.

Thus, this chapter will briefly expand the‘pggmr
ises and propositions underlying our concern for studying
the accounting provisions of the share companies only,

and the criteria used in analysing them.

Assumptions in the Process of Analysip

The following propositions and statements will be
taken as starting premises upon which the analysis will
rest. Some of these propositions have been already devel-
oped by what has been discussed so far in the previous
chapters:

(a) Given that the objective of underdeveloped
countries is economic development, and that industrialization
(development of commerce and industry by private as well
as public enterprise) is a critical part of the process
0f development and is an accepted and recognized means for
develOpment;

(b) Given that lack of accounting information is

39

a constraint on the development process of underdeveloped
countries;

(c) Given that the relationship of accounting to
the industrialization process is evident in the relation-
ship between managerial and financial accounting techniques
and growth and the development of industrial units or the
business sector found in the advanced countries;

(d) Given that enterprise (firm) accounting as a
supplier of information for capital providers is a device
for increasing efficiency of resource allocation, and a
mechanism for controlling operation;

Then, we can conclude that enterprise accounting
which is the tool of private enterprise management is use-
ful to management of the development process.1

There is a firm commitment in Ethiopia for effi-
cient mobilization of capital, formation of an impersonal
capital market as part of the economic development process.
Accounting as related to the capital market can be viewed
in terms of the necessity for adequate accounting, neces-
sity for credibility in enterprise financial reporting,
and therefore a necessity for professional accounting de-
velopment. These needs, in turn, lead to the concern of
building an accounting profession and providing suitable

Epderlying professional accountipg education.
1Lee J. Seiler, The Function of Accountin in Eco-
nomic Development: Turke as a Case §Eu3 (New York:
P55 I h 1987)

re er c A. Praeger, l s ers, , p. 9.

 

40

There are aspects of law which affect accounting
in Ethiopia: (a) the binding influence of tax law on ac-
counting practices; (b) the binding influence of the Com-
mercial Code on accounting practices; and (c) the nature
of law itself on accounting in general. Thus, the examina-
tion and analysis of the contents of the Commercial Code
regarding the business organizations' accounting informa-
tion requirement may indicate the auditing, financial re-
porting and disclosure implications that exist, and the
accounting "principles" associated with accounting in the
particular national context.

Criteria are necessary for purposes of comparison
and evaluation of the existing Ethiopian accounting prin-
ciples, standards, and practices as they have evolved from
the Code. It is intended that the American principles,
standards and practices will be used as a frame of refer-
ence to indicate differences and similarities. This is
not to say they are necessarily more correct, more appro-
priate than any other, but for the simple reason that some
specific set of criteria is needed for purposes of compar-
ison.2 One can find many reasons that may suggest the use
of American accounting concepts as a frame of reference,
such as: (a) the most developed enterprise or firm ac-

counting today is found in America; (b) there are various

¥

2American Institute of Certified Public Accountants,
Committee on International Relations, Professional Account-
ing in 25 Countries (New York: AICPA, 1964), p. ix..

41

accounting models that have been logically and theoreti-
cally developed with authoritative support in America,
which could give a better choice of alternatives; (c) re-
search on accounting principles, theories, and practices
has been most advanced in America; (d) most of the liter-
ature on accounting principles and theories in our century
has come out voluminously from America; and (e) other
peripheral reasons such as educational, economic and po-
litical ties with America; desire to simulate or emulate
American-type capital market; use of American accounting
texts; the emergence of American multinational corpora-
tions in Ethiopia, and economic aid programs. All these
may suggest an inclination toward the "popularity for

American model" and use of American standards.

Criteria

The following concepts will be used as guides for
analysing the validity and adequacy of the accounting pro—
visions in the potential information they provide to the
insiders and outsiders of the entity concerned. The out—
siders here include government, creditors, and investors.
The standards are elicited from the American Accounting
Association's standard for accounting information and
guidelines for communication of accounting information.

1. Relevance and appropriateness to expected use.

Relevance would be as to conformance to the purposes of

42

the Commercial Code in general and to the purpose of in-
corporation law. Appropriateness would be as to conform-
ance to the expected use by creditors, investors, and
government.

2. Feasibility and disclosure of significant re-
lationships. Feasibility will refer to compatibility of
practical application of accounting methods within limits
of reasonable efforts, costs, educational and institutional
context. The most relevant may not necessarily be the most
feasible. Disclosure of significant relationships refers
to reporting accounting information in such a manner as to
permit observation of a significant financial and operat-
ing activities of the firm. It should reflect feasible
functional and behavioral analysis and classification of
expense, income, assets, capital, and liabilities.

3. Verifiability and quantifiability. For these,
the explanation given by the AAA committee will be followed
and adhered to.3

4. Freedom from bias. This standard will be used
to refer not only to objectivity in use of appropriate
technique, but also to the independence of the auditor in

external reporting.

¥

3American Accounting Association, Committee to

Prepare a Statement of Basic Accounting Theory, A State-

ment of Basic Accounting Theogy (Evanston, 111.: AAA,
9 PP. ‘ 2-

43

5. Inclusion of environmental information. This
is from the AAA Committee's guideline for communicating
accounting information and the explanation given by the
Committee will be followed and adhered to.4

6. Uniformity of practices within and among en—
tities. This is taken from the Committee's guideline for
communicating accounting information. The Committee's
explanation of uniformity as it refers to consistent clas-
sification, terminology, measurement and use of precise
meanings to facilitate comparability without undue inflex-
ibility will be adhered to.

7. Consistency of practices through time. This

is also taken from the Committee's guideline for account-

ing information, and their explanation is to be adhered

to.5

The ”Share Company”

In the study, emphasis will be directed to the ac-
<:ounting function in share companies (corporations) in
EEthiopia, in part because of the corporate form's dominant
EMDsition in business organization, in part because of the
‘Vay it involves the interest of many parties, disperses
c>\wnership, separates owners from stewardship control, and

gives rise to a precondition of measurement of performance,
4
Ibid., p. 16.

SIbid., p. 18.

 

44

and in part because it also provides important lessons
that can be extended to the semi-public and state enter-
prises which remain wholly owned by government.

The share company in Ethiopia has a unique fea-
ture. As we said earlier, the concern for accelerating
economic development and desire to encourage private in-
vestment leads the government to imperative participation
in productive enterprises, thus making the government or
government agency own significant shares of the Ethiopian
share companies without an intended long-run policy for
ownership. State participation in underdeveloped countries'
economies is so widespread in various industries, in as-
sortment of forms, and so varied that it certainly defies
any meaningful classification.6 The share companies in
Ethiopia, however, are real corporations with their rela-
tively widespread ownership,7 which are expected and de-
fined to act as profit-seeking enterprises.

In a sense, the semi-public and state enterprises
are also expected to act as profit enterprises (profit
centers) while at the same time conforming to a series of
rigorous government development policies and objectives.

The conformance to development policies requires them to

 

6Seiler, Function of Accounting, p. 81.

7The Ethiopian government owns a significant share
of many Ethiopian firms, but there is no statistical study
which shows the exact extent of the Ethiopian government's
participation in ownership of firms.

45

incur costs which do not fall on private enterprise, and
also causes them to have responsibilities and functions in
accord with overall goals of economic development which at
times conflict with each other, and with some fundamental
rules of operating profitably a productive enterprise.
These can be in the form of competing for manpower with
the private sector while at the same time conforming to
civil service salary schedules, or keeping prices low in
accordance with a deveIopment goal, by artificially de-
pressing the proper costing and pricing of products.

The share companies are not perhaps as rigorously
influenced by direct price pegging and conformance as the
semi-public and state enterprises, but in a way they may
also be subject to indirect conformance to government pol-
icy. The deliberate government policy to use them as a
device for regional development by scattering factories
may lead to location of enterprise in what might appear
to be an economically unsound way. Unlike the semi-public
and state enterprise, however, the share companies are
subject to the discipline of the market. For a company
that does not perform well eventually comes for additional
capital from the dispersed owners. If such capital does
not come forth, it will go out of business. The semi-
public and state enterprises, however, have the govern-
ment's capital source, which may be viewed as limitless,

and the losing and inefficient government enterprise may

46

continue operations without any discipline unless some ac-
counting determination of its income and change in its
capital brings its financial condition to the attention of
the government.

Thus, semi-public and state enterprises may require
more demand for the accounting function which has special
consideration for their activity, but only in addition to
the common needs for profit determination that is common

to all enterprises.

CHAPTER IV
CORPORATE CAPITAL

Introduction

In analysing the provisions of the Commercial
Code, we will deal with accounting provisions relating
to the topics of capital, reserves, assets, and auditing.
The reasons for this choice of tOpics are: (a) We con-
sider these topics to be the most important accounting
elements concerning financial statements and their prepa-
ration. The financial statements and "adequate financial
reporting standards and procedure are important threads
in the fabric of economic growth.”1 (b) the accounting
provisions in the Code cover only these topics.

In this chapter, the provisions of the Commercial
(:ode of Ethiopia concerning capital are considered. First,
'the concepts underlying capital are presented briefly;
second: the criteria governing appropriate accounting for
(capital are presented, based on recommendations of the
.AICPA and AAA and other authorities on the-subject; third,

the corresponding accounting provisions of the Ethiopian

—~

1Robert 5. Seiler and Harold R. Dibeck, "Latin
America—-A Challenge in DevelOpment Assistance," Journal
iiAccountipg (October, 1967), pp. 46-50.

47

48

Code are described and discussed; and, fourth, recommenda-

tions are made for appropriate revisions.

Concepts of Capital
There is considerable literature devoted to defi-
nitions of capital based on some concepts that involve a
compromise between relatively precise objective measure—
ment and practical feasibility. Agreement on what consti—
tutes capital, however, is far from unanimous; definitions

depend on the field of interest of the definer.

Economig Concept of Capital

The economist's use of the word capital ranges from
a narrow definition of real tangible forms of accumulated
wealth (tangible assets), to broader concepts which include
intangible assets with a notion of capital maintenance
(maintenance of some level of wealth). Economists have
tried to emphasize that capital will not be maintained in-
tact in an "economic“ sense merely by maintaining the ini-
tial stock of physical assets. The value of a capital
asset to an individual or enterprise is determined by es-
timated future net cash inflows that the use of the asset
;produces, thus making the defining of a related concept of
income a necessity. Capital, or value of capital, then
becomes the subjective value that an enterprise places

u1=>C>n the estimated cash inflows, which has led to the

49

principle of the "well-offness" approach of measuring

income.2 Hendriksen states that:
In terms of the economist Irving Fisher, capital is a
stock of wealth at an instant of time. Income is a
flow of services through time. Capital is the embodi-
ment of future services, and income is the enjoyment
of these services over a specified period of time.
Considering capital as an agent of production, the concept
of capital in the corporation can be seen as the aggrega-
tion of economic service potential awaiting to be converted

into a desired form by the enterprise.

£3231 Concept of Capital

The corporation is a legal entity having a life and
personality of its own, and created by the action of law.
Since stockholders' liabilities are limited, the debts and
obligations of the business include only the liabilities
of the corporation itself. The corporation assumes a dif-
ferent and separate personality from its members. It owns
property and can sue and be sued. The persons investing
in the corporation do not have direct ownership of the
corporation's property, but can exercise influence in the
"anagement of the corporation and receive certain shares
of the profits.

Because the corporation owners have limited liabil-
.$SY3 creditors must look only to tpe enterprise itself or

2J. R. Hicks, Value and Capital (Oxford: Claredon
Press, 2nd edition, 1946), Chapter XIV.

3Eldon S. Hendriksen, Accountinngheory (Homewood,
Ill-.: Richard D. Irwin, Inc., 1965), p. 98.

50

to the assets of the enterprise for protection of their
interests. In trying to provide protection for the credi-
tors, the law has tried to define the capital stock which
constitutes a buffer for the protection of the creditors,
and as a result of such endeavor the "trust fund theory”
was established. The trust fund theory came as a result
of Chief Justice Story's statement in 1825 in the Wood vs.
Dummer case, in which he stated that the capital stock
constitutes a trust fund for the payment of the corpora-
tion's debts and creditors.4
Today the capital stock which is to serve as a
cushion or buffer for protection of creditors is known as
legal capital. What constitutes legal capital, however,
is still vague, leaving the concept of "trust fund" to
still underlie the concept of legal capital. Thus
Although the trust fund theory may not be used much

currently, at least by name, it seems that the prin-
ciple of the theory is very much in evidence.

The caref l attention to dividend payments, the
handling of treasury stock transactions, and the
separate treatments accorded premium and discount
accounts arising from the issuance of capital stock
all substantiate this conclusion.5

Hendriksen points out the weakness of the trust fund theory

by stating that its title and concept is a misnomer

g ‘—

4Discussed in James T. Johnson, "Is the Trust
Theory of Capital Stock Dead?" The Accounting Review,
XXXIII (October, 1959), pp. 604:611.

SIbido , pp. 610-6110

51

because there is no actual fund established and there
is no real "trust“ in any legal sense of the word.
The basic principle is that a restriction is placed
on the amount of assets that can be distributed le-
gally to the stockholders ugder normal circumstances
prior to final liquidation.

Most laws define legal capital or stated capital
as aggregate of par value of all par—value shares (and not
subsequently cancelled), and aggregate consideration re-
ceived for all shares issued without par value, which is
still based on the idea that the firm must have property.
But Hendriksen brings to our attention that it is not the
status of legal capital that is the buffer to the protec-
tion of creditors, but rather the entire stockholder's
equity or the potential service of the assets which is a
buffer. Creditors thus rely (should rely) more on the
total resources of profitability and financial policy of
the firm instead of on the status of legal capital. Per-
haps this is the rationale for the shift of emphasis from

Balance Sheet to Income Statement we find in accounting

today.

The Accounting Concgpt of_§apital
A quick review of the accounting literature pro-
vides the following use of the term "capital":

1. Proprietary capital: Net wealth of proprietor.
Assets minus liabilities.7

6

7Henry Rand Hatfield, Accounting, Its Principles
and Problems (New York: D. Appleton & Co., 1 27), pp.
1, 2 O

Hendriksen, Accountipngheory, p. 406.

52

2. Invested capital: Invested capital is that por-
tion of stockholders' equity which arose from the
commitments of assets to the corporation or from
conversion of retained earnings and which will not
be withdrawn or reduced except as permitted by law.8

3. Business capital: Refers to describe total mone-
tary and financial resources of physical assets,
that is, total capital employed agd invested by
owners and supplied by creditors.

4. Owner's equity: Is represented by the amount of
the residual interest in the asset of an enter-
prise.

Differences in these terms all point to the dif-
ferent emphasis put and different references attachedlto
the word capital. Some emphasize the asset side of the
balance sheet in defining capital, some the equity or the
proprietorship, and some refer to legal or stated capital.

Chambers states that though it may be acceptable
in accounting to use the term "capital” to refer to face
value of stock certificates issued, ”it is inconsistent
with our usage of the term to denote the measure of the
assets equivalent to residual equity and inconsistent with
any usage of capital which has reference to a stock of as-

11

sets." For, he further states, that

8Robert T. Sprouse and Maurice Moonitz, Accounting
Research Study No. 3, A Tentative Set of Broad Accounting

,Principles fer BusineSs Enterprises (New York: A CPA, 2),
P- 0

9James L. Dohr,‘gE El, Accountin and the Law
(Brooklyn: The Foundation Press, Inc., I964), pp. 30-32.
10

 

Sprouse and Moonitz, Broad Accounting Principles,
p. 9.
11

Raymond J. Chambers, Accountin Evaluation and
Economic Behavior (Englewood CIIffs, N. J.: Prentice-Hall,

 

53

residual equity subsists in rights in assets, capital
or a capital stock subsists in assets. It will be
apparent too, unless aggregate amount of asset ex-
ceeds the aggregate amount of liabilities, there can
be no residual equity and no capital.

In Chambers' view, then, the capital of the corporation

can be represented by the sum total of all its assets or

services. Such view is also shared by Paton and Paton.13

In developing a unique concept that should be the
center of gravity in a sense of pervading all accounting,
Littleton believed at first that the term "capital” could
be the center of accounting. Later, however, he gave up
such an idea because by looking at capital in the produc-
tive property sense, he came to make income as a more ge-
neric term in accounting, thus making the definition of
capital hinge on income. He said

The word ”capital" is closer than "asset" to the
center of accounting. It tends to direct thought
not to the sufficiency of the property in comparison
to the debts, but toward property in productive use
--property held because it seems to promise to con-
tribute to the creation of revenue.

Capital, in the sense of property useful for produc-
ing revenue, is more nearly basic term for accounting
than the word assets used in the sense of property
useful for paying debts. But "capital" is not as
fundamental as "income" since an understanding of'
production and income is a necessarypantecedent to

an understandigg of propertyITcapital) used to pro-
duce—Income. oreover, capital is first of all

saved income; and income (capitalised) is a primary

l211mm. , p. 114.

13William A. Paton and William A. Paton, Jr.,

Cor oration Accounts and Statements (New York: The
TEI‘T—‘acm 1 an Co., 1955), p. ‘3.

54

basis for judging property value. . . . Therefore
the idea of income is more fundamental in account—
ing than the idef4of capital, of assets, or finan-
cial statements.

Accordingly, Littleton directs our attention in
accounting to examine and focus on the concept of enter-
prise income, and to emphasize the earning power and
income statement of a firm to understand capital.

The term capital has many interpretations in law,
economics, as well as in accounting. However, since ac-
counting draws from the related disciplines of law and
economics, it is natural to find the shades of economic
and legal significance of capital incorporated in the ac-
counting concept(s) of capital. The capital stock of a
corporation passes through several stages, has several
manifestations, and is expressed in different accounts
and transactions. The accountant has to deal with author-
ized capital, stock outstanding, unissued stock, purchased
stock, subscriptions, premiums, discounts. Thus, the
principal objective of accounting with regard to capital
of a corporation is to

account for the equity capital invested by stockhold-
ers through contributions of assets or retained earn-
ings in a meaningful manner on a cumulative basis and

as to changes during the period or periods covered.
The account structure and presentation in financial

14A. C. Littleton, Structure of Accounting;Theory
(Menasha, Wis.: George Banta Co., I953), American Account-
ing Association Monograph No. 5, pp. 19-20.

55

statements of a business entity are designed to meet
statutory and corporate character requiremenfg and to
portray significant finanClal relationships.
Our concern in accounting for capital centers then around
its proper valuation and presentation in portraying the
significant financial relationships.
Significant recommendations made in regard to capi-
tal by American Accounting professional associations are:16
A. A proprietorship that emphasizes distinction be-
tween: (1) legal capital, (2) capital in excess
of legal capital, and (3) undivided profits,
B. A stress of interest on the entire proprietory
capital largely divided on the basis of source:
(1) capital stock, representing the par or stated
value of shares; (2) capital surplus, represent-
ing (a) capital contributed for shares in excess
of their par or stated value, or (b) capital con-
tributed other than for shares; and (3) earned sur-
plus, representing accumulated income or the re-
mainder thereof at the balance sheet date.
C. The proper delineation of use of the term surplus,
or discontinuance of its use, in order to have
clarity and preciseness in meaningful use of the

term. Thus, the term surplus should be accompanied

lsPaul Grady, Inventory of Generally Accepted Ac-

countin Principles for Business Enterprise (New York:
AICPA, Inc., Accounting Research Stu y No. 7, 1965), p. 187.

lslbido, pp. 188-1890

 

56

by a proper descriptive prefix which delineates

its character, such as "earned-surplus," or be

replaced by specific terminology such as "retained
earnings, appropriations,” etc.

Ca ital in the Share Companies

of hiopia

Article 80(1) defines capital as "the original
value of the elements put at the disposal of the undertak-
ing by the owner or partners by way of contribution in
cash or in kind.” Such definition seems to give emphasis
and stress to the asset side of the balance sheet, how-
ever, more with reference to tangible asset than to the
inclusion of intangible assets.

The share company in Ethiopia is defined in Ar-
ticle 304 as a company whose capital is fixed in advance
and divided into shares. It has a limited liability met
only by assets of the company. The minimum amount of
capital for such a company is not to be less than Eth.
$50,000 and par value of each share not less than Eth. $10
(Article 306). The share company cannot be established by
less than five members (Article 307), and it is not for-
mally formed until: (a) the capital has been fully sub-
scribed, (b) one-quarter at least of the par value of
shares have been paid up, and (c) registration is effected
in the commercial register (Article 312). Whenever the

members are reduced below the legal minimum, the Code

57

stipulates that the company should be dissolved after six
months (Article 311).

These articles are the only indications in the
Code which seem to sketch some boundary for the definition
of capital or legal capital of the corporation. These
Articles set limits which are rather strict in the sense
that they set specific figures in their attempt to estab-
lish the floor or legal minimum capital for the existence
of the corporation. This legal minimum is the legal capi-
tal in the sense of minimum legal fppg_necessary for a
company to qualify it as legal entity (corporation). Thus,
the preoccupation of these articles seems to be the guard-
ing of this minimum capital (fund) rather than defining
any established capital stock of a corporation. We can
notice the similarity of the above concept with the trust
fund theory, in that the state regards the maintenance of
such minimum legal capital in a real fund sense to guar-
antee that the company remains a legal entity and a 32323,
concern. But we are not sure whether such minimum legal
capital is also for the consideration of a minimum buffer
for the protection of creditors, though it is a possibil-
ity that can be conjectured.

We must ask then as to what constitutes capital or
legal capital of a share company which has capital above
the floor provided by the Code? The Code does not answer

this question directly. However, since it is given to us

58

that the par value of share is fixed in advance equal to
or above the Eth. $10, and since this establishes the fact
that there can be no issuing of non-par-value shares and
no stated value capital at discretion of the Board of Di-
rectors, we can conclude that the capital of a share com-
pany cannot be anything more than the par value of the
shares times the number of shares.

In summary, the Ethiopian Code defines minimum
legal capital in the context of "trust fund" theory, in
terms of specific figures that must be maintained and in
the sense of fixed fund maintenance, while the nominal
capital stock of a corporation in general is implicitly
known by the face value of shares times the number of

shares.

Consideration of Premiums

Article 326 indicates that shares may not be is-
sued at a price lower than par value, while they can be
issued at a price greater than par value. Further, Article
455(1) states that when the issuance of shares above par
gives rise to premiums, the premium is transferred to
reserve funds, which is used as distributable surplus for
distribution of profit.

The use of the term ”reserve funds" to mean funds
set aside, while it may represent only capital surplus,
is an indication not only of confusion of terms, but an

important source of misconception of the definition of

59

capital and distinction of capital sources. The nature of
the "reserve” in the Commercial Code will be discussed in
detail later. For now, it is sufficient to realize the
resulting confusion in funds and surpluses. Accounting
entries of such provisions fail to distinguish between
earnings and invested capital in excess of legal capital.
The distribution of such capital surplus comingled with
earnings also fails to disclose information of those divi-
dends that represent division of earnings and those that
represent return of invested capital.

The transfer of premiums to distributable surplus
immediately creates difficulty in identifying the premium

separately to the stock outstanding it relates to.

Consideration of Discounts
Although shares are not to be issued below par,
Article 457 stipulates that:
(l) The articles of association may provide that a
fixed or interim-interest shall be paid to stock-

holders even when there are no profits.

(2) Such interest, in a fixed amount, shall be carried
to the debit of the installation account. . . .

First, such transaction does not involve any "arms'
length" deal or a payment for services of any kind per-
formed. If such payment of interest is ”financial charges"
for use of money that is interest on capital, then it
Should be treated so, and temporarily the shares repre-

senting the amount of capital should be regarded as

60

convertible bonds or simply bonds. The interest payments
on such shares should be charged to an expense account,
and not to an organization expense (the installation ac-
count).

Second, such payments of interim interest amount
to refunding a portion of the subscribed contribution,
which implicitly amounts to issuing of shares at discount.
For, by charging the payments to organization expense (in-
stallation account) and writing them off through amorti-
zation, is the same as spreading a recognized discount
over a period of time. Thus, the procedure of Article 457
actually allows the issuance of shares at discount, with-
out explicitly and properly reflecting the financial rela-
tionships involved, i.e., by not recognizing the discount
involved. The non-recognition of discount overstates the
capital, and misrepresents the legal capital if we take
the legal capital to be the par value.

The fixed interest payment to shareholders used
to be a practice in France until Law No. 66-537 of July 24,
1966, came into effect. But since then fixed interest
Payments to shareholders are now prohibited by law.17 The
Ethiopian Commercial Code is partly based on the French
Code, thus such practices as the above probably originated

from the old French practices.

‘

17"A Supplement: Characteristics of Business
Entities, France," International Business Series (Ernst
& Ernst, December, 1969), p. 8.

61

When shares are exchanged for non-cash assets,
Article 315 provides that the contribution in kind be
valued by the contributor (or subscriber) and filed in
the Ministry of Finance. The value of the contribution
is then verified by auditors and directors of the corpor-
ation. If such property is found by the auditors and
directors to be less than one-fifth of the disclosed and
filed value by the subscriber, then the value of the
"capital shall be reduced accordingly." This provision
is intended to prevent issuance of shares at discount.

Let us assume that a subscriber files a property
valued at $2,500 and management (auditors and directors)
value the property at $2,000. Further, let us assume that
management wants the property badly and is willing to give
in exchange $2,500 worth of shares(say, at par value $10).
According to Article 315, the corporation can only issue
$2,000 (worth of shares) or ask the subscriber "to make
good the difference." Assuming the subscriber cannot make
good the difference (since a person cannot add a portion
of property exactly equal to such difference at $500), and
assuming management wants that property, it has only but
one choice to get it. That is to revalue the asset at
$2,500 to correspond to the subscriber's filed report, and
issue the $2,500 worth of shares. The accounting entry

then becomes:

62

Asset $2,500
Capital stock 250 shares at $10 $2,500

Instead of:

Asset $2,000
Discount on issuance
of shares 500
Capital stock $2,500.

Thus, to conform to the law, management ends up in over-
stating its assets and understating capital, knowing well
it has sold its shares at a discount. The law cannot elim-
inate the problem of valuation, for the fair value of any-
thing is subjective, and perhaps is best to leave to man-
agement or appraisers instead of forcing management to
misrepresent capital by such practices as stated in Article
315. The cost of tangible assets should be determined by
"fair market" value of property acquired or the fair "mar-
ket value" of stock given, whichever is more clearly evi—
dent. However, the par value of stock only cannot be re-
lied solely as reasonable basis for recording as the cost

of property acquired.18

Chan es in Ca ital Subse uent
to FormatIon

Important elements that need significant attention
in corporate capital subsequent to formation are that:

l. Dividends will not reduce corporate legal capital.

18Grady, Inventory, p. 196.

63

2. Reacquisition of stock will not impair legal
capital and endanger creditor's protection.

3. Paid-in capital will not be used to absorb oper-
ating losses, at least not without adequate dis-
closure.

4. Paid in capital will not be used for dividends
without informing or disclosing to stockholders
and creditors as to what represents dividends and
what represents return of original investment.

5. Paid-in capital should not be reported in a man-
ner suggesting accumulated earnings instead of

invested capital.

 

Reac uisition of Own Stocks:
Treasury Stock

In the Uhited States, treasury stock can be for-
mally retired or subsequently sold through purchases
limited to retained earnings. However, despite the fact
that legal capital remains the same after acquisition of
own stock through retained earnings or through retained
earnings and paid-in capital only, the treasury stock
cannot be viewed as an asset, but rather is regarded as
reduction in corporate capital.19 There are two approaches
to the accounting entry concerning treasury stocks in
American practice.

19Maurice Moonitz and Louis H. Jordan, Accounting;

An Analysis of Its Problems, Vol. 2, rev. ed (New York:
HoIt, Rinehart and Winston, 1964), p. 152.

AL‘

 

64

The first approach views the acquisition of trea-
sury stock as the retirement of outstanding stock. In
this approach (which is known as the par-value method),
the alternative accounting methods are: (l) to charge
directly to the capital stock account (at par), or (2)
to charge a separate treasury stock account (at par) and
treat the balance of such an account as subtraction from
the capital stock.

The second approach views the treasury stocks as
giving rise to capital elements awaiting ultimate disposal.
In this approach (which is known as the cost method), trea-
sury stock account is charged for cost of purchases and is
maintained as a negative element to total capital that may
not require for specific identification with related paid-

in capital or retained earnings until time of sale.

 

Reac uisitions of Own Shares by
A Share Company in Ethippia
Article 332 states:

(1) A company may acquire its own shares where:

(a) the vauisition has been authorized by a
meeting of the shareholders;

(b) the purchase price is made from the net
profits of the company; and

(c) the shares are fully paid.
(2) The directors may not dispose of shares thus pur-

chased and the voting rights on such shares be
suspended.

65

(3) The provisions of Sub—art.(l) shall not apply
where the purchase has been decided by an extra-
ordinary general meeting to reduce capital.

The above provisions in Article 332(2) forbidding
the corporation from disposing of the acquired share can
only be interpreted to mean the barring of the corpora-
tion from reselling its treasury stocks. Therefore, the
treasury stock should be considered through the first ap-
proach; that is, the treasury stock should be viewed as
retirement of outstanding stock, and regarded as reduction
in corporate capital. Article 332(3), however, indicates
that such revauisition and purchases of shares should
not be used to reduce capital. Thus, the resulting ac-
counting entry according to Article 332 becomes:

Treasury stock xxxx
Cash xxxx

for the purchases of own shares according to Article
332(lc);

Retained earnings xxxx
Treasury stock xxxx

for write-off of treasury stock against retained earnings
according to Article 332(lb).

Such an entry leaves the capital stock account
unaffected and the treasury stock does not reflect any re-
duction in capital. This method helps only to obscure the
effects and relationships of the treasury stock on capital.

It does not disclose whether such financial transaction is

66

(ea) dividend payment, or (b) redemption of stocks. It
chaes not distinguish between issued stocks and unissued
srtocks. Further, perhaps such entry may be of no problem
3:) long as shares are acquired at par. But when shares
are retired above or below par, not only does the account-
iJng entry become problematic but the reflection of finan-
czial relationships included have to be made more obscure
iJ1 order to maintain such a method. If the purpose behind
Article 332 is to maintain the legal capital from being
reduced in order to protect creditors, definitely the ob-
Jective is not being accomplished. For the creditors'
Protection is being left more and more to rest on some
fixed asset cost (property) or on the balance sheet and
ncrt on the earning power of the firm because the earnings
are just being used to refund the original capital of the
Ovnners.

Article 337 stipulates:

(l) A company may repay, from profits or reserve funds,
'without reducing the capital, to shareholders the
par value of their shares.

(2) Shareholders whose shares are thus redeemed sh38l
receive dividend shares (action de jouissance) .
These shares do not confer any rights to that part

of the dividend representing the statutory inter-
est, nor to the repayment of contributions upon

EoAction de jouissance: L'action de capital
remboursee qui continue a ouvrir droit a un dividende
sPeciale est une action de jouissance. The action of re-
imbursing capital which continues to give open right to
SPecial dividends is an "act of pleasure.”

67

the dissolution of the company. They retain how-

ever a right of vote, unless otherwise provided in

the memorandum of association, a right to that part
of the dividend exceeding the statutory interest
and a right to distribution of a share of the
surplus in the winding-up.

Article 337(1) indicates that company can redeem
shares (acquire its shares at par) which is the same thing
as what was said in Article 332. The peculiar part of
this provision is that the shareholders whose shares are
redeemed receive so-called "dividend shares." The divi-
dend shares have unique characteristics in that the hold-
ers of such shares have special voting rights and rights
to participate in "excess dividends" and "excess surplus"
in dissolution, just like participating preferred stocks.
The dividend shares are not similar to what is known as
"stock dividends," for such stocks involve only the trans-
fer of retained earnings to capital stock whereby such
action would reflect reinvested capital. The reasoning
behind the Ethiopian "dividend shares" is not clear, ex-
cept to indicate that such share-holders have still title
to corporations' residual benefits and earnings even af-
ter their shares have been redeemed. With the provisions
of Articles 332 and 337, the balance sheet remains un—
changed without reflecting the express intent of acquisi-

tion of shares or the effect of share acquisition on the

Corporate capital.

68

Illustration
Assume the shareholder's section of NEWAY Share
Company, as of June 30, appears as below:

Common shares, issued and fully paid up:

4000 shares, par value $10 $40,000
Reserves 20,000
$60,000

Note: The reserves can be anything--retained earnings
as well as surpluses, and the shares could have
been issued above par.

Assume redemption is made of 1,500 shares at par
value $10, or company acquires its shares at par. The
transaction entry will be, according to Ethiopian practice:

Reserves $15,000

Cash $15,000

Redemption of 1,500 shares at par.

SE?
Treasury stock $15,000
Cash $15,000
Reserves $15,000
Treasury stock $15,000

Redemption of 15,000 shares at par.
After the transaction and according to the provi-
sion of the Code, the shareholders' section of the company

would appear as:

69

Common shares--4,000 shares par $10 $40,000
Reserves 5,000
$45,000

The above statement:

(a) Does not indicate at what value the shares
were issued.

(b) The reserves can contain premium (or hidden
discounts) belonging to the original issue in addition
to retained earnings.

(c) The redemption or acquisition of shares is
nowhere reflected.

(d) The payment out of reserves (surplus) does
not indicate what constitutes the distribution of divi-

dends, or return of invested capital.

-.. .

Reduction of Capital

Article 431 stipulates a company can reduce its
capital only in proportion to debentures redeemed. If a
company is to reduce its capital in the process of redeem-
ing its debentures, it means it is insolvent. If so, the
situation calls for complete reorganization of capital
structure and valuation of assets. However, the Ethiopian
Code seems not to call for such reevaluation at this time.

Article 484 states that reduction of capital can
be approved by a meeting of stockholders after auditors

report their opinions on it. The provision allows for

70

reduction of capital:
(a) by reduction of par value of shares, and
(b) by exchanging of old shares for lesser number

of shares.

Both of the above articles refer to reduction of
nominal capital. Thus, the capital stock account in the
Ethiopian share company will show changes in their ac-
counts subsequent to formation, only due to provisions of
Articles 431 and 484. The contraction of capital which
arises from Article 484 provision may be due to losses or
deficits and involves the release of formal capital to
status of "excess" or surplus capital, which the surplus
capital so created is used to write down assets, values,
absorb deficits, or return capital to owners. However,
the contraction of capital which arises from Article 431
may be called for by reasons of illiquidity or insolvency
which involves more than the reorganization of the equity
structure only, calls perhaps for entity reorganization
or quasi-reorganization. It is important to note that
the Ethiopian provisions allow nominal (legal) capital
to contract by release of formal capital into "excess
capital," or surplus, continuously so long as capital
stock does not fall below the legal minimum of $50,000
necessary for the company to qualify it as a corporation.

In regard to reduction of capital, special atten-

tion must be directed to Article 463 which states:

71

Shareholders who dissent from resolution concerning
any change in the objective or nature of the company
or the transfer of head office abroad may withdraw
from the company and have their shares redeemed, at
the average price on the stock exchange over the last
six months. Where the shares are not quoted on the
stock exchange, they shall be redeemed at a price
proportionate to the company's assets as shown in
the balance sheet for the last financial year.
This provision which allows for the withdrawal of capital
any time in essence violates the "going concern" principle
of legal entity. For the action of any number of share-
holders can bring about the dissolution of the corporation.
If no dissolution occurs, assuming the company has enough
capital to continue, then reduction of capital by direct
write-off against capital stock account and reserves (sur-
plus) will be in accord. Notice that in this provision

shares are redeemed not at par but at market value of

stocks or at proportionate value of assets.

Increase of Capital

Article 464 indicates that capital may be increased
by issue of new shares or by increase in par value of the
existing shares. New shares issued can be paid up: (a)
in cash, (b) by paying off current debts with shares, (c)
by capitalization of reserves or other funds at the dis-
posal of the company, (d) by conversion of debentures
into shares.

When issuing new shares, the EthiOpian practice

is to rely still on the par value of the shares only as

72

the sole basis for recording the cost of the current
debts settled and the debentures converted. This prac-
tice, of course, is also followed when capital is in-
creased by increasing the par value of existing shares.
Thus, Article 464 becomes the basis for expanding the
nominal capital of corporation. The Ethiopian Code and

practice recognizes no stock dividends.

Conclusions

A corporation is a creature of law. Legal re-
quirements for mandatory distinction between capital and
surplus in order to protect creditors from unlawful with-
drawal of capital by shareholders, and prohibitions against
dividend payments from capital long antedate modern ac-
counting concepts and still underlie the development of
accounting methods. But the concept of legal capital as
born in the "trust fund" doctrine is obsolete today. It
is acknowledged today that capital is not a 523 but it is
a quantum.21 There is no fund or value segregated from
corporate assets and held in trust for creditors. Neither
do the figures attached to capital stock represent assets
or funds which form a buffer for protection of creditors.
As Hendriksen stated, real protection comes from the earn—

ings of the corporation and creditors rely more on the

 

21George S. Hills, The Law of Accountin and
Financial Statements (Boston: LIEEIe, Brown ang Co.,

:P- o

73

clauses restricting payments of corporate earnings in
order not to impair their interest. The legal concept
of capital is restrictive; it places emphasis on funds
set aside or on balance sheet items. The usefulness of
the earning power concept as developed by many authori-
ties in economic and accounting field was discussed and
its impact has been to shift reliance of financial pol-
icy from the balance sheet to the income statement.

As to when and to what extent funds of corpora-
tions can be legally distributed to shareholders by way
of dividends, is a matter of corporate regulation pre-
scribed by state laws. But accounting's realm is to dis-
close properly the financial relationships involved, and
to reflect the various dividend restrictions and protec—
tive clauses of the law which try to provide protection
to creditors, as well as owners.

Legally, amounts paid in excess of par may not
be part of so-called legal capital, therefore can become
to be considered distributable as profits; but from a
business or an economic point of view, this excess is
part of capital because it arises in connection with the
contribution made by shareholders and not from carrying
on of the operations of business. Thus, dividends out of
such excess capital are not looked upon favorably in ac-
counting though the law may permit it. In such situa-

tions, all accounting can do is to prevent the abuse of

74

it by disclosing its effects on retained earnings and con-
tributed capital.22

The Ethiopian concept of legal capital is even more
restrictive for: (a) it defines minimum legal capital in
specific figures which indicate specific segregated assets,
(b) the extended implication of its nominal capital is
conceptualized in terms of the obsolete "trust fund" doc-
trine. The whole approach of the Ethiopian view towards
capital places heavy emphasis on the balance sheet or cap-
ital as‘ggg, rather than on the earning power concept.

During the analysis of the provisions of the Code
for the share company in Ethiopia, the following points
were raised:

1. Objection was raised to the transfers of pre-
mium as distributable profit without adequate disclosure
of distinction between distribution of earnings and return
of invested capital.

2. The ignoring of the implicit discount which
arises through payment of interim-interest to shareholders
was also objected to.

3. It was stressed how the redemption of fully
paid-up shares*without cancellation of the acquired shares
and without reflecting the effect of such event on out—

standing stock, could be misleading.

 

22Moonitz and Jordan, Accountipg, p. 152.

75

4. To reflect the various clauses of restrictions
imposed on dividends for the protection of the interest of
creditors, it was found imperative to distinguish between
earnings and "surplus." The Code's provisions do not pro-
vide for such distinction.

S. It was found that the Ethiopian accounting
provisions do not distinguish between authorized capital,
legal capital (nominal capital), outstanding shares, is-
sued and unissued shares. The only legal capital that
seems to be of concern in the Code is the maintenance of
minimum capital which a company requires to qualify it as
a corporation or legal entity.

6. In Ethiopia, the par value of shares is solely
relied upon as basis for recording the cost of property or
assets acquired, while a double-entry accounting requires
that proprietorship be derived from valuation attached to

assets and debts.23

23Moonitz and Jordan, Accounting, p. 117.

CHAPTER V

RESERVES

Introduction

This chapter will discuss the nature and charac-
teristic functions of reserves. First, the various mean-
ings of the term "reserve,” its connotations and concept
as used in accounting statements in various countries will
be reviewed. Second, the criteria governing appropriate
accounting for ”surplus" are presented, based on the AICPA,
AAA, and other authorities on the subject. Third, the use
of the term ”reserve" and its connotation in the Ethiopian
accounting provisions according to the Code will be exam-
ined and evaluated, in the light of what is discussed on
the first and second points. Fourth, recommendations will
be suggested for the proper usage of the term "reserve"
and its connotation and classification in the Ethiopian

accounting.

The Term ”Reserve"
"Reserve" in the United States
The dictionary defines the term ”reserve" as some-

thing held or set aside for a specific purpose; money or

76

77

its equivalent kept in hand or set apart.1 In financial

matters, the term is used to describe specific assets held

or retained for specific purpose, but such holdings are
usually better known as funds or deposits.

The AICPA describes how the term reserve, in ac-

counting, has been used at least in four different senses.

1. It has been used to describe deductions made:

(a) from face amount of an asset to arrive at the amount

of expected value to be reached, i.e., reserve for bad

debts; (b) from cost or other basic value of asset repre-

senting the portion of cost which has been amortized or

allocated to income in order to arrive at the amount prop-

erly chargeable to future operations, i.e., reserve for

depreciation. These items represent valuation accounts

or contra-asset accounts to be reflected in the asset side
of the balance sheet. In the American practice, these are

properly described as allowances for bad debts or for de-

preciation.

2. It has been used to indicate an estimate of:
(a) a liability of uncertain amount, (b) probable amount
of disputable claim. It is recommended by the committee

that these are properly described as liabilities.

1Webster's Seventh New Collegiate Dictionary
(Springfield, Mass.: G. & C. Merriam Company, 1965).

2American Institute of Certified Public Account~

 

 

ants, Accounting Research and Terminology Bulletins,
final e on ew York: A CPA, 1 , Accounting Termi—

nology, pp. 26-27.

2

78

3. It has been used to indicate the holding of
or retaining for a special purpose an undivided or uniden-
tified portion of net asset in a stated amount, i.e.: (a)
reserve for betterments or plant extensions, (b) reserve
for possible future inventory losses, (c) reserve for ex-
cess cost of replacement of property, (d) reserve for gen-
eral contingencies. The committee recommends that in this
sense a reserve is better referred to as an apprOpriation
of retained income.

4. It has been used to indicate a variety of
charges in the income statement, including losses esti-
mated as likely to occur due to uncollectible accounts,
depreciation, depletion, amortization, and general and
specific contingencies. Thus, in this sense, the term
refers to the charges made by means of which a reserve is
created in any of the three preceding senses.

In the American practice, use of the term "reserve"
for valuation and offsetting and estimating liability is
not condoned for it is found "not only contrary to its com-
monly accepted meaning but also lacking in technical jus-
tification."3 The term reserve commonly accepted may mean
funds, and the term should be restricted to such usage,
but in accounting

a reserve is not to be equated with existence of a

fund. The mere fact that a reserve has been estab-
lished in the proprietorship section of the Balance

 

3Ibid., p. 27.

79

Sheet does not mean that a fund in cash or other
assets is available for the purpose which gave rise
to the creation of the reserve.

Thus, since a valuation account does not in itself
involve retention or holding of segregated assets, it
should not be termed reserve. The term provision is like-
wise not deemed acceptable by some accounting authorities
in America, for the word provision necessarily implies
that allocation or segregation of assets be made,5 while
the function of valuation or contra-asset account is a
process of measurement indicating diminution of asset due
to specified causes.

The misrepresentation of financial statements that
result from misuse or misinterpretation of "reserve" is
immense. For example, reserves for undetermined contin-
gencies or for indefinite future loss (risk) can be mis-
used either to reduce income arbitrarily, or to shift in-
come from one period to another. It is desirable and ap-
propriate to provide by charges to current income for
losses and applicable costs against current revenue to
the extent they can be measured and allocated to fiscal
period with reasonable approximation. But, if such type
of reserves as the one mentioned is set up, it should be
created by appropriation of retained earnings, and pref-
erably classified in the balance sheet as a part of

4George Hills, The Law of Accountin and Financial
Statements (Boston: LittI3T_8E33HIE—CET:_I9%7):_ET_I367—_-

AICPA, Accounting Research, p. 28.

80

shareholders' equity.6 For the character of such account
is dubious and cannot be a valuation account unless the
loss is really accruing.

The failure to reflect all changes in reserves
during the year and to describe them properly in a manner
that discloses their characteristics is one of the common
deficiencies that result from the misapprehension of the
term ”reserve." The various different conflicting senses
of the term lead to various balance sheet classification
and presentation. The various balance sheet classifica-
tion and presentation lead to confused interpretation and
difficulty in comparison of statements between companies.
It is the observing of these consequences that made the
American accounting profession to pioneer the delineation
of the use of the term ”reserve" and "surplus" in account-

ing usage.

"Surplus and Reserves” in France7

In France, the terms surplus and reserves are used
sysonymously. Included in this heading are: premiums on
capital stock, legal reserves, optional reserves, reserve
for replacement of inventories, and special revaluation
reserves.

6We shall see the implication of this in reference
to Article 82(2) (provision for risks) later, on pp. 13-14.

7Committee on International Relations, Professional
Accounting in 25 Countries (New York: AICPA, 1964). The
chapter on France, p. 26.

81

The legal reserve is composed of what the companies
are required to set aside as legal reserves: 5 per cent
of net profits, less tax, until the total reaches 10 per
cent of nominal capital. The legal reserves are used to
compensate an accumulated loss, in which case the reserve
has to be replenished by appropriations in the prescribed
manner out of future profits.

The optional reserves are those which sharehold-
ers decide should be appropriated out of profits.

Overall, the reserves included are equivalent to
what is known in American practice as: (l) paid-in or do-
nated surplus, and (2) appropriations. The terms earned
surplus or retained earnings have little meaning in France.
For all earnings are distributed as dividends, bonus to
directors, or appropriated as reserves. Liability re—
serves which are provided by charges to tax deductible
expenses, represent legal liabilities, such as provisions
for risks, litigations or guarantee for products, and
self-insurance.

Provisions for losses and charges are used to in-
dicate the equivalent of allowances for bad debts and de-
preciation. These provisions are not classified as contra-
asset accounts to the specific asset they pertain to, but
instead are lumped together under the heading of provi-
sions and charges and presented on the liability side of

the balance sheet.

82

”Reserves” in Canada8

The term "reserve" is also used in the Canadian
accounting practice to refer to reserves for contingen-
cies for inventories, for insurance, and for replacement
of fixed assets. However, it is recommended by the Com-
mittee on Accounting and Auditing Research of the Cana-
dian Chartered Accountants that such reserves represent
appropriations and should be classified as part of the
shareholders' equity. It is also specified that the term
”reserve" should not be used to describe amounts which
are used in computation of net profit--instead such items
should be preferably described as accumulated allowances

for doubtful accounts, or for depreciation.

"Provisions and Re erves" in
the UnItea Kingdom3

The Companies Act of Britain specifically distin-

 

guishes between provisions and reserves. The source of
provisions is a charge against current income used in com—
puting profit, while the source of reserve is an appropri-
ation of profits. A provision may represent a valuation
allowance (for bad debts, depreciation) or an amount to
provide for a known liability, which amount cannot be de-

termined with substantial accuracy. However, if the amount

 

8Ibid., chapter on Canada, p. 17.

9Ibid., chapter on United Kingdom, p. 21.

83

can be reasonably determined, then it is classified as
liability. The "provisions” are classified together with
current liabilities under the liability side of the bal-
ance sheet. The reserves are divided into revenue re-
serves and capital reserves.

Revenue reserves are appropriations from profits
or surplus and represent revenues earned in the past
which are available for disposal in the future. The pur-
pose is to put aside earnings to provide for losses, to
equalize dividends by making the regular payments of div-
idends possible.

The capital reserves are amounts that are not re-
garded as free for distribution as profits. Included in
this are premiums on capital stock issuance, amounts re-
served for replacement of plant at higher prices, surpluses
arising from revaluation of fixed asset.

The Company Act of the United Kingdom prohibits
the creation of "secret reserve" by requiring disclosure
of the additions and reductions of both revenue and capi-

tal reserves under each of their individual headings.

Implications of the Term "Reserve"
In the preceding discussion, it is not the label-
ling of "provisions" as allowances, or the labelling of

"reserves" as "surpluses" that is so much of concern and

84

the question of issue, but rather the understanding,
agreement, and acceptance of the basic concept and im-
plication that these terms represent and the exposition
of their nature with sufficiently specific designation
of their characteristics that is of concern to us. For
it is the content, classification, 22g valuation pf EEC
5355.222 liabilities that is principally involved in the
issue.10
If common misapprehension in connection with re-

serves and surplus is the confusion of such items with
cash and liquid funds, if misapprehension of provisions
or allowances is the confusion between valuation accounts
and liabilities, then it goes without saying that improved
clarity of terminology is desirable for improved communi—
cation. Financial statements and the classification of
the contents therein are signals for the receiver of the
message. The presentation and classification of contents
of financial statements as signals should have minimum
dissonance to filter out any noise that interferes with
the message in the communication process (channel). Let
us assume there is:

(a) Provision for risk of $1,000;

(b) Provision for depreciation of $2,500;

(c) Provision for doubtful accounts of $1,500;

(d) Contingent liability of $1,800.

10Hills, The paw and Financial Statements, p. 153.

85

1. According to the American practice, a balance

sheet with adequate disclosure would appear as:

Assets $20,000 Contingent
liability $ 1,800
Less allowance
for depreciation 2,500 Common stock
2,500 shares

$17’SOO par value $10 25,000
Receivables 9,000
Less allowance for Retained
doubtful accounts 1,500 earnings 2,200
7,500 Appropriations 1,000
Cash 5,000

 

 

$30,000 $30,000

2. According to the Ethiopian practice, the bal-

ance sheet would appear as:

 

 

Assets $20,000 Share capital $25,000
2,500 shares par
value $10
Receivables 9,000 Charges & provisions 5,000
Cash 5,000 Reserves 4,000
$34,000 $34,000

 

In comparing the Ethiopian practice with the Ameri-
can practice, it is evident that there is much more dis-
closure of information available in the American classifi-
cation and presentation of the balance sheet.

Thus, the most significant stride made in the at-

tempt to delineate and expose the characteristics of

86

surplus, reserves, provisions, allowances, and liabilities
seems to have come from the researches and writings and
practices of the American accounting profession. Thus,
the rationale for directing our attention mostly to the
expositions provided by the American accounting profes-
sion (AICPA) in the analysis of the provisions of "re—
serves" in the Ethiopian Commercial Code, in the discus-

sion which is to follow.

Reserves in Ethiopia
Article 80(2) stipulates that, "All profits pre-
served for the undertaking and not forming part of the
capital shall constitute a reserve."
Included in the heading reserve are not only
earnings retained in business (reinvested capital), but

also premiums on capital stock,11

legal reserves, op-
tional reserves, and appropriations. Thus, virtually all
reserves are potentially available for distribution as
profits and even redemption of stocks (Article 337). The
implication of considering reserves as "surpluses" was
mentioned earlier in connection with premiums and trea—
sury stock, particularly when distribution is made out of
these reserves without adequate disclosure. In addition,

when there is an excess over par paid by preferred stock-

holders, it becomes definitely unsound to regard such

f

 

11See previous discussion in Chapter IV, page 58,
in connection with Article 455.

87

premium on preferred stock as "surplus“ against which div-
idends to common shareholders may be charged.12
Article 81 indicates that: "Balance carried for-
ward is made up of previous years' profits which have not
been distributed or transferred to reserves, or of previ-
ous years' losses which have not been covered by subse—
quent profits." This suggests that there are retained
earnings; however, such a notion is misleading, for unless
there is a loss, "retained earnings" have little meaning
in the Ethiopian accounting practice because, as in France,
all earnings are distributed through dividends or appro-
priated as legal reserves and other reserves.

Article 453 states that

(l) Transfers to reserve funds shall be made from net
profits shownIIn the profits and loss account.

(2) Reserve funds shall be as follows:
(a) legal reserve required by law

(b) supplemental reserve created by general meet-
ing in accordance with articles of association

(c) optional reserve . . .

(d) free reserve . . .

Constant use of the word "fund" or reference to
”funds" in connection with reserves, as seen in the above

Article and in other Articles, such as 452 and 454, is

 

12willlam Paton and William Paton, Jr., Corporate
Accounts and Statements (New York: The Macmillan Company,

3 Po 1-

88

quite frequent in the Code. This suggest the fact of
equating "reserve" with the existence of funds, and appro-
priation of earnings with segregation of funds. According
to the Ethiopian accounting practice and the provisions of
Article 453, the accounting entry is:
Profit and Loss Account xxxx
Reserve xxxx

Entry to transfer to reserve fund from Profit and Loss
Account according to Article 453(1).

However, such an entry does not by itself entail existence
of a separate fund. If the provisions of the Article were
to be followed literally, entailing the notion of funds,
then the proper accounting entry would have been:

(1) Profit and Loss Account xxxx

Reserve xxxx
(2) Legal reserve fund xxxx
Cash xxxx

The first entry which reflects appropriation is
transposition of equity accounts only or subdivision of
equities, while the second entry which reflects the set;
ting aside of funds is an exchange of one asset (general
cash) to another asset specifically segregated and ears
marked. If, on the other hand, the reserve in Article 453
is just to represent restrictions put on dividend payments,
then the notion of fund should be conspicuously left out

from the implication it bears on reserves. Article 453 is

89

a good example of how a specific accounting entry is some-
times prescribed by the Code, which entry is not necessar-
ily based on clear and logical accounting definitions.

One of the crucial problems in this area which an
auditor faces is trying to interpret whether the intention
of the provision involves simply dividend restrictions or
segregation of funds as well. For the Ethiopian lay in-
vestor, the term "reserve" connotes also existence of
separate funds, and frequently he judges the strength of
the company by how much reserve it shows on the credit
side of the balance sheet, while at the same time wonder-
ing why a company cannot pay dividends when it has so
much reserve funds.

According to Article 454, it is stated that:

(l) NOt less than 1/20 of the net profits shall be
transferred each ear to-the iggal reserve fund
un 1 amoun s to 1/5 of the capital.

(2) Transfers shall be made to the legal reserve
fund where it has fallen below the amount fixed
in sub-art.(l).

The above article describes a practice similar to
that ofoFrance mentioned on the previous page 81. How-
ever, with the exception that in Ethiopia the legal re-
serve can be used to redeem shares, acquire own shares
without cancellation (see Article 337 and Chapter IV,
page 66), while in France legal reserve is not used for

acquisition of own shares. For theregis no treasury

stock concept in France, except by reduction of capital.

90

In addition, the legal reserve in Ethiopia is also used
for compensating accumulated losses in which case the re-
serve must be rebuilt by appropriations out of future
profits (Article 431).

Article 452 specifies that:

(l) The net profits comprise the net receipts for the
financial year after deduction of general costs
and other charges, and of amortization and allow-
ances.

(2) The profit for distribution is the profit for the
financial year less previous losses and plus addi-
tional revenue and any distribution from the re-
serve funds specially approved by general meetIng.

(3) The general meeting shall specify the reserve funds
from which profit for distribution may be taken.

According to Article 452(1), amortization and al-
lowances are charges used in the computation of income.
Amortization and allowances include also provisions for
risks, in addition to allowances for depreciation as pro-
vided for by Article 82(2). Article 82(2) stipulates that:

Provisions for risks are intended to provide for defi-
nite risks, namely clear precise losses, which are
foreseen at the end of the financial year.
As to how is this type of risk determined, however, is not
specified by the Code, and varying interpretations on the
character of this risk in the determination of income has
been the cause of many disputes between government inspec-
tors (auditors) and business. Ignoring the determination

of such risk for the moment, let us concern ourselves with

the accounting implication involved.

91

First, items such as provision for risks should
not be used in computation of net income, for such con-
tingency losses can be used arbitrarily to reduce income,
or shift income from one period to another.13 Secondly,
such risk provisions of Article 80(2) should give rise
either to definite liability or contingent liability (if
the loss is accruing) and, accordingly, should be classi—
fied so as liabilities on the balance sheet. However, in
the Ethiopian practice, such provisions are lumped together
with provisions for depreciation as ”charges and provi-
sions” under the liability side of the balance sheet (see
balance sheet in Appendix III). The result of this prac—
tice impairs the integrity of the financial statements a
great deal.

In 452(2) and 452(3), we can observe the reference
to funds and fund notions in connection with the use of
the term reserve.

Article 452(3) could have been a good clause for
disclosure requirements of distinction between distribu-
tion of capital and distribution of earnings. However,
it falls short of such an objective because it implies
the pre—existence of segregated funds, and, as stated by

George Hills:

13Hills, The Law and Financial Statements, pp.

92

Sums carried to reserves of a temporary or permanent
character whether from earnings or from surplus do
not represent a segregation of funds sepafzte and
apart from general funds of the business.
In order for Article 452(3) to be of real value in dis-
closure, it must be accomplished by accounting entry that
provides for segregation of funds, or by other explicit
distinction of sources of reserves (surplus) and earnings,

and adequate presentation of such distinction in the fi-

nancial statements.

Conclusions

 

Rgcapitulation of Reserves
There are various misinterpretations that arise
with regard to the usage of the term reserve.

1. The Equating of Reserve with
Existence of Separate Funds

 

The reason for such misinterpretation was found to
be not only use of misleading terminology, but also un-
sound accounting practices. During the discussion, it was
pointed out that the mere fact of establishing reserve in
proprietorship section of the Balance sheet does not mean
that a separate fund in cash is set up; thus, it is impor—
tant to distinguish reserve which is to mean simply an ap-
propriation of earnings (a restriction in dividends) and
reserve that is intended to establish a separate fund.

The implication of existence of a separate fund in

__

14Ibid., p. 138.

93

connection with the use of the term reserve in the EthiOpian
Code was seen in Article 453, while the prescribed procedure
of implementation was found to be unsound accounting prac-
tice. We recommend that Article 453 and others be amended
to include proper accounting for segregation of funds 23,

the word fund and its concept be eliminated from the ar—
ticles to avoid implication of the existence of separate
funds where none is involved. Notice this fund concept is
something that was mentioned earlier in Chapter IV, in con-
nection with corporate capital and definition of legal
capital in terms of the trust fund theory, which seems to
permeate throughout the Ethiopian Code. This out-dated
concept of fund which stresses on balance sheet and asset
(physical) maintenance, seems to be conducive only to the
cash basis of accounting and not to the accrual basis of

accounting.

2. The quatipg:pf Reserve as Surplus

The reasons for this misapprehension comes not
only from the misuse of terminology, but from attempts to
define "surplus" itself based on different concepts of
capital. The various concepts of capital, especially the
defining of legal capital, gives rise to various defini-
tions and determination of ”surplus," which in turn has
great implications on dividends.

The importance of surplus first arises out of the

legal requirement or legal interpretation which makes it

94

a measure that serves to limit the disbursement of corpor-
ate capital as dividends, while at the same time maintain-
ing a ”cushion" for the protection of creditors. But this
concept falls apart as surplus evolves to be regarded as
part of permanent capital in accounting or financial ad-
ministration, while legal concept comes to regard it as
something against which dividends can be charged. Its im-
portance is further complicated by its dependence on the,
periodic income determination and the extent of its magni-
tude and relationship to sources of corporate asset. Thus,
the definition of capital determines with it: (a) the
test of capital impairment, (b) profit determination, (c)
surplus definition and determination, and (d) dividend
determination or distribution of profits, which involves
test of insolvency.15

For example, if legal capital is defined by total
amount invested by shareholders, than total investment by
stockholders including any premiums have to be protected
from impairment, and cannot be distributed as dividends.
Deficits must be made good before distribution of current
income (profit) is allowed. Dividends are restricted to
earned surplus (accumulated earnings) only.

If legal capital is defined by nominal or par
value, then all surplus, excess (assets minus liabilities
and lggal capital) are considered available for distribution

15The test of insolvency is set by measure of ex-
cess debt over asset, and inability to meet current debt.

95

including premiums. The legal interpretation of capital
maintenance, however, fails to guarantee the capital main-
tenance in an economic sense, so that the test capital im-
pairment falls through. Neither does the setting apart of
invested capital as surplus afford protection to creditors
or owners if assets are dissipated by paying out invested
capital.16
Thus, because of its importance in legal interpre-
tation and the complex dependence it has on income de-
termination and corporate assets, the prOper comprehension
of surplus is indispensable. However, the mere change of
terminology is not enough to clear the confusion and re-
sulting unsound practices. Many authoritiesl7 thus agree
that better comprehension is accomplished by the differen-
tiation of sources that gives rise to such surplus, in-
stead of trying to define the term "surplus" specifically.
For, by concentrating on the classification of surplus on
the basis of the nature of the accounting entries which

led to the existence of the account, a better disclosure

of information is made available.

16This practice of basing dividends on so-called
capital surplus without restricting dividends to pure earn-
ings and the ensuing legal sanction is heavily criticized
by William A. Paton in his book Advanced Accountin (New
York: Macmillan Company, 1941), pp. 524 and 56 - 7.

17S. Eldon Hendriksen, Accountin Theor (Homewood,
111., Richard D. Irwin, Inc., 1965), pp. 405, 459, 410.
W. A. Paton and A. C. Littleton, An Introduction to Corpor-
ate Accountin Standards (New York: American Accounting
Association, 1 , pp. 41-42.

96

Sources of "surplus" can be classified as to (I)
contributed surplus, comprised of paid-in surplus; (2)
earned surplus, retained earnings, which primarily imply
net income not distributed; and (3) revaluation or ap-
praisal surplus.

The provisions of the Ethiopian Code on “reserve"
implying surplus do not distinguish the various sources
of surplus or classify surplus on the basis of the nature
of accounting entry that gives rise to such surplus. As
a result, there are three inter-related questions that
arise which need significant attention: (1) the use of
contributed surplus as a dividend base, (2) the use of
earned surplus or accumulated earnings as dividend base,
and (3) the use of surplus (legal reserve) in capitaliza-
tion and acquisition of shares.

The charge of dividends against surplus does not
distinguish between return of invested capital and divi-
sion of earnings. To shareholders, dividends are synon-
ymous with earnings. For the purpose of investing in a
corporation is to get income through profits, and not to
get back just the original investment. Earnings are im-
portant indicators of the life of a company and of future
dividends to shareholders. Thus, the delineation of earn-
ings from capital transactions is important. Further,
since earnings and dividends are interdependent, it is of

utmost relevant information to maintain distinction

97

between distribution of earnings and distribution of
capital.

Distribution of earnings to shareholders can be
done either by: (a) distributions that decrease assets,
i.e., cash dividends; (b) distributions of means which
have no effect on corporate asset, i.e., stock dividends.
In Ethiopia, the term dividend is not restricted to desig-
nate distributions chargeable to current and accumulated
earnings only. Thus, there is no proper disclosure as to
whether dividends are paid out of earnings or other paid—
in surplus. The use of so-called stock dividends is little
known as proper practice.

The capitalization of surplus or distribution of
earnings by means of stock dividends involves the transfer
of earnings to capital account. In Ethiopia, the capital-
ization of legal reserves (surplus) should also involve
the transfer of apprOpriated earnings only. For there is
no transfer of fund involved in such a case; there is only
a change in the stockholders' equity section, and such
stocks should be considered as stock dividends to share-
holders and should be termed so.

The use of legal reserve (surplus) in acquisition
of treasury stock, or redemption of stocks in Ethiopia
(Articles 332 and 337), involves not only change in stock-
holders' equity but also asset change. Such transaction

should be reflected by accounting entry that shows the

98

change in capital stock (reduction in subscribed stocks),
and also indicates the change in capitalized earnings from

appropriated reserves.

3. Reserves ang_Provisions

In the course of our review of the term reserve,
we have seen how "reserve" is used in the sense of provi—
sions or allowances for depreciation or for doubtful ac-
counts. It was indicated how the use of the term provi-
sion also suggests the necessary allocation of funds. How-
ever, so long as the term "provision" is understood to mean
allowance or valuation account (a contra-asset account) and
properly classified and presented so in the balance sheet,
the change of labelling is of minor concern. In Ethiopia,
the term provision is also used to indicate allowances for
bad debts and depreciation among others. The objection we
entertain in the Ethiopian practice with respect to "pro—
visions" is the use and.classification of such provisions
with other charges, contingent liabilities, and appropria—
tions all lumped together (see attached Financial State-
ment). Such presentation of allowances for depreciation
and bad debts on the balance sheet gives no indication as
to the value of specific asset, or the amount of surplus

appropriated, or liability outstanding.

99

Recommengptions

1. Articles 453 and 452 should be amended either
to avoid the implication of the existence of segregated
fund in use of the term reserve; or to include better and
sound accounting practices than those that are prescribed
now, in order to reflect the presence of separate funds,
if that is the desired intention.

2. Amend Articles to properly reflect the use of
the term "reserve" in the sense of surplus, contingent
liability, and appropriations distinctly with respect to
each other.

3. Amend Articles to provide for distinct classi-
fication of sources of surplus by the nature of the ac-
counting entry that gives rise to such surplus.

4. Amend Articles to provide for distinction be-
tween division of earnings and return of invested capital.
The term dividend should be restricted to describe charges
to current earnings and accumulated earnings, while pro—
vision for distribution of surplus other than accumulated
earnings can be effected by reflection of reduction of
Capital.

5. Amend Article 82(2), the provision for risk,
to reflect appropriation of earnings instead of being used
in.the computation of profits. The balance sheet should
ibeflect distinct presentation between such apprOpriations,

Iliability, and provisions, conspicuously.

100

6. Article 452(3) should be strengthened and ex-
panded to provide for proper means of disclosure in ref-
erence to dividends.

7. Amend Articles 332 and 337 in reference to
acquisition of treasury stock, either to prohibit trea-
sury stocks as in France, or provide for properly reflect-
ing the acquisition of own shares by cancellation.

8. Eliminate the practice of "share dividends” as
provided by Article 337(2), and establish instead for proper
cancellation of acquired treasury stocks.

9. Provide in the Articles for establishment of
principle of stock dividends in capitalization of earn-
ings or surplus.

10. Eliminate Article 463, since at the present
time there is an established ”share market," whereby a
shareholder can sell his share any time he feels like
withdrawing.

ll. Amendments should be provided for use of mean-
ingful terminology that does not give rise to doubts as
to intended meanings and, at the same time, Articles should
avoid specifying accounting entries which do not rest on
meaningful and sound accounting principles.

Some of the above recommendations overlap with

<Dne another and also with recommendations that can equally

101

apply to Chapter IV on "Corporate Capital." But, since
the problems of capital, surplus, and dividends are inter-
related, solutions for one can be meaningfully used as

solutions for another.

CHAPTER VI

ASSET VALUATION

Introduction

This chapter will involve a discussion of three
topics, that is, Fixed Assets, Depreciation, and Inven—
tories. First of all, there will be a general review of
the concepts underlying the use of Fixed Assets, Depreci-
ation, and Inventories in accounting, Secondly, the pro-
visions of the Code that relate to the above topics will
be presented, and their accuracy and adequacy evaluated
in light of the reviewed concepts. Thirdly, recommenda-
tions and corrections will be suggested for the identified

inadequacies in the Code.

Assets

Qefinition and the
Npture Of Assets

The Committee on Terminology of the American In-
stitute of Accountants defines assets as:

Something represented by a debit balance that is owned
or would be properly carried forward upon a closing of
books of account according to rules or principles of
accounting (provided such debit balance is not in ef-
fect a negative balance applicable to a liability), on
the basis that it represents either a property right
or value acquired, or an expenditure made which has
created a property right or is properly applicable to

102

103

the future. Thus, plant, accounts receivable, inven-
.tory, and a deferred charge are all assets in balance
sheet classification.

In defining assets, the more recent writings, how-
ever, all emphasize the service potential of the asset, or
the rights to future economic benefits that accrue to bus-
iness from the use of assets.2 The objective of these re-
cent definitions of assets is computation of periodic in-
come and emphasis on the process of income determination,
which was brought about by a significant historical change
in accounting thought. The recognition of the objective
function of financial statements as providing information
to investors and stockholders led to changes in accounting
thought which: (1) de-emphasized the balance sheet as a
statement of value by adhering more closely to the going-

concern concept as opposed to liquidation, and looking at

the balance sheet as the link between two income statements

 

lAICPA, Committee on Terminology, ”Review and
Resume,” Accounting Terminology Bulletin No. 1, Account-
in Research and Terminology_Bulletin (New York, AICPA,
If, p. 0

2See Eldon S. Hendriksen, Accountin Theor (Home-
wood, Ill.: Richard D. Irwin, Inc., 1965), pp. 192 and 194;
and Raymond J. Chambers, Accounting, Evaluation andL Economic

Behavior (Englewood C1iffs,N Prentice-Hall, Inc.,
, pp. 104-105; Maurice Moonitz and Louis H. Jordan,

Accountin : An Analypis of Its Problems, rev. ed., (New
York: Heat, Rinehart, & Winstbn, 1946), vol. I, p. 163;

R. F. Salmonson, Basic Financial Accountin Theo (Belmont,
Calif.: Wadsworth Publ. Co., Inc., 1969), p. 155; AAA,
Accountin and Re ortin Standards for Corporate Financial
Statements and Precedin taEEments and Su lements (Iowa
CIEy, Iowa: AAA, College of Business AdmInistratIon, Univ.

of Iowa, 1957), p. 3.

 

 

104

rather than the reverse; (2) increased emphasis on income
statement and on concepts of income; (3) emphasized the
need for full disclosure of relevant financial information.3

The cardinal importance of income concepts in ac-
counting is explained by the fact that value of business
is dependent on its earning capacity. To the stockholder,
then, the recognition of earning power becomes (or should
become) of vital importance, and the income account becomes
as important as the balance sheet--if not more important.
Viewed in this manner, valuation in accounting is a method
of measuring income or a problem of income determination
which depends on the concept of income used.

Given the paramount importance of the income con~
cept in accounting, the balance sheet is "merely a histor-
ical by-product of the matching procedure and that it does
not purport to convey any sort of picture of current value
of assets,”4 though in general it may be regarded as a
statement of valuation. Thus, the balance sheet cannot be
taken or expected to represent accounts at which assets
could be realized or at which they are properly assessed
unless some adjustments are involved in using the balance
sheet for the purpose of valuation. Thus:

Asset valuation has been placed in a position subor-
dinate to income determination. The balance sheet

3Hendriksen, Accounting_Theory, pp. 50-51.

4Louis Goldberg, The Nature of Accountin (Ameri-
can Accounting Association, 5 , pp. 25- 2 .

105

has become a step between two income statements, and
asset valuation has become a process of gomputing how
much to carry forward to future periods.

This, however, does not necessarily mean that the
balance sheet is unimportant, for the income statement and
the balance sheet are interdependent, at least in some ap-
proaches of income determination (the transaction approach).
Consequently, the proper articulation of accounting state-
ments and accounts and the adequate presentation and claSu
sification of accounting data becomes imperative in order
to expose the economic and accounting relationships between
the income statements and balance sheet. Thus, valuation
of assets depends on the purpose and objective of valuation,
which, in turn, depends on the development of prOper con-

cepts and methods of valuation to fit the objective and

purpose.‘

Asset Valuation in Apgountimg

In the American practice, the general accounting
convention for asset accounting has been (and is) cost
basis or acquisition cost, though such choice "has never
been completely unanimous, neither wholly satisfactory."6
especially in accounting fer assets subsequent to acquisi-
tion. The adherence to-acquisition cost in accounting
stems from its objective evidence.

5Hendriksen, Accounting Theogy, p. 192.

6Thomas H. Sanders, "Depreciation and 1949 Price
Levels,” Harvard Business Review (May, 1949), 293-307, re-

printed in Mary E. Murphy, Selected Readin s in Accountin
ppd Auditipg (New York: Prentice-HaIl, Inc., 1952), p. 253.

106

Typically the initial appearance of asset within an
entity is the result of exchange transaction in which
terms and amounts established by negotiation are sup-
ported by documents and market data. This tends to
make the transaction unambiguous and objective, and
the requirements for measurement are met clearly and
directly.

It is also stated that though assets may be converted from
one form to another and may increase or decrease in amount,
in all cases the requirements of objective measure-
ment should be met; the concept of realization pro-
vides genegal standard for the recognition of asset

increases.

Though vauisition cost is referred to as a typi-
cal method of valuation of non-monetary assets, the useful-
ness of other methods (values) is not ignored, when it
comes to (a) considering the proper income determination
(in particular when determining the proper amount of de-
preciation to be made to income statement); (b) providing
for price level changes; and (c) making the balance sheet
of more relevant data for decision making. The usefulness
of historical cost is also criticized on its inability to
differentiate between holding gains and gain or losses re—
sulting from production activities. The AAA, in state-
ments published in 1964 and 1966, in fact, does recognize

the superiority of current cost and replacement cost.9

 

7AAA, Accountingpand RgportipgStandard§l_l957
rev., p. 3.

81bid., p. 4.

9See Committee to Prepare a Statement of Basic

Accounting Theory, A Statement of Basic Accounting Theory,
American Accounting Association, 1966, p. .

107

Some writers, like George 0. May, recommend that in some
cases it should be permissible and desirable to recognize
current values in books of account and financial state-
ments.

In summary, asset valuation in accounting is de-
pendent on: (a) the nature of the asset or the way the
asset is defined and understood, (b) the purpose of valu-
ation of the asset, and (c) the various income concepts or
capital concepts that are developed to fit the nature of
the asset and the purpose of valuation. Above all, how-
ever, valuation concept cannot be discussed before making
the purpose of valuation explicit.

Assets are classified into current and fixed. The
purpose of classification is to provide meaningful finan-
cial data in order to permit the reader of financial state-
ments to obtain reasonable understanding of financial po-
sition and Operation of the firm, and to enable him to make
comparison with other firms and periods.10

In the pages to follow, we shall attempt to examine
in more detail the valuation of specific categories of as-

sets, namely fixed and current assets.

.Economic Sigpificance of Assets
Inventory and fixed assets comprise the bulk of

total assets for a great number of business concerns. These

E

10Hendriksen, Accounting Theory, p. 232.

108

are important items in business enterprise because: (1)
they affect liquidity and are not easily remedied or ad-
justed once committed, and (2) changes in inventory and
fixed assets have effects on the overall economy of a
country. Investments in these assets are usually referred
to as capital expenditures in economics and finance.
Capital expenditures affect gross national product
(GNP), the final value of all goods and services pro-
duced. . . . There is a complex interaction between
GNP and capital expenditures, gangrally, as capital
expenditure increases, GNP rises. 1
No value judgment can be made generally on whether a
rise in the capital expenditure of business corpora-
tion is good or bad. When the economy suffers from
unemployment of labor and capital, a rise in capital
expenditure is desirable. When economy is fully em-
ployed, however, an increase in capitallsxpenditure
can result in price and wage inflation.

While we are on the topic of capital expenditure,
it is worthwhile to note that, at least from an economic
and finance viewpoint, the resources for financing capital
expenditures is considered to be gross savings which con-
sist of current profits reinvested in business (retained
earnings) and that portion of operating expenses which is
represented by depreciation.

Thus, the total of net savings and capital consumption

allowances constitutes [the resources] available for
investment purposes that have been generated internally,

 

11Seymour Friedland, The Economics of Corporate
Finance (Englewood Cliffs, N. J.: Prentice-Hall, Inc.,
:P- 6-
12

Ibid., p. 7.

109

i.e., from operations of the firm. The total of net
savings and capital consumption allowances is called
gross savings.

Fixed assets with limited life are subject to de-
preciation amortization and allowances. ”These allowances
constitute the bulk of the capital consumption allowance
for the corporate business sector,"14 which were mentioned
to be part of gross savings. Thus, depreciation becomes
an important element affecting capital stock, capital ex-
penditure assets, and their valuation.

It is argued also that in order to increase gross
savings and stimulate investment, rapid amortization is
one of proper economic policy tools. This argument tries
to incorporate a growth variable into depreciation theory.
Thus, depreciation (and therefore assets) is becoming sig-
nificant in our economy and perhaps more complicated to
understand with the growing awareness on the part of econ-
omists and government policy makers who see it as a useful

15 Indeed

device for achieving various policy objectives.
the manipulation of tax-deductible depreciation
charges as means of smoothing business fluctuations,
preventing inflation, and stimulating growth has be-
come an almost common consideration. 5

 

‘3’ fl

lBIbid. , p. 10.

14Ibid., p. 28.

15Edgar 0. Edwards, ”Depreciation and the Main-
tenance of Real Capital," in J. L. Meig (ed.), Depreciae

tion and Replacement Policy (Chicago: Quadrang e 00 s,
9 PP- 4 ’ o

161b1d., p. 46.

110

Fixed Assets and Depgeciation
Fixed assets, by definition, consist of "property
which is intended to be used and perhaps ultimately con-
sumed in connection with the business, and is not ordinar-

ily offered for sale."17

Fixed assets include land, build-
ing, equipment, and machinery.

Depreciation is the most important variable that
affects assets. Depreciation is defined by the American
Accounting Association as:

Any decline in service potential of plant and other
long-term assets . . . gradual or abrupt physical
deterioration, consumption of service potential
through use even though no physical change is appar-
ent or economic consideration becauig of obsoles-
cence or change in consumer demand.
Depreciation is thus a measure of current value of capital
consumed in the process of production or due to any other
factors, and, viewed in this manner, depreciation seems to
suggest a measure of asset valuation. The purpose of de-
preciation measurement, however, can be: (a) asset valua-
tion, (b) income determination, (c) price computation (or
costing) to decide how much to charge the consumer. For
each of these purposes, different concepts of depreciation
measurement can be developed depending on how income,

value, and cost are defined. Value and income can be de—

fined with capital maintenance concept. But capital

 

17George 0. May, Financial Accountin : A Distilla-
tion of Ex erience (New York: The Macmillan Co., 1961),
p. o

18

Hendriksen, Accounting Theory, p. 308.

111

maintenance concept itself is a subject of different inter-
pretation. For example, in keeping (maintaining) capital
intact, there are at least five possible maintenance in-
terpretations based on replacement criteria.19

1. Running physical rgplacement criteria. This
suggests a yearly depreciation charge should be just enough
to maintain constant stock of physical machine "not a con-
stant of machine-years.” this involves no growth.

2. Ultimate physical replacement criteria. This
requires that accumulation of depreciation charges should
be enough to provide for its ultimate replacement.

3. Replacement of historical cost criterion. This
requires the accumulation of periodic depreciation charges
should be equal to the original cost by the end of the ma-
chine's life.

4. Continuous rpplacement of market value crite-
5223, This suggests that periodic depreciation charges
should be sufficient enough to maintain the market value
of the firm's machine in that period.

5. Continuous replacement of sgpjective value.
This involves the maintenance of subjective value to the
firm or the maintenance by the expectation of the partic-
ular entrepreneur.

If we assume a static condition, infinite horizon,

accurate expectations, and an even distribution of machine

 

19Edwards, "Depreciation,” pp. 79-80.

112

age, then all the above techniques would give the same de-
preciation results. But, given dynamic conditions, uncer-
tain expectations, a different distribution of machine
ages, limited economic life, then the identities of re-
placement criteria become different and complex, leading
to various depreciation methods and results. Thus, depre-
ciation may be measured objectively or subjectively, and
capital maintained in real terms or money terms.

Value is a word of many meanings, and "the word

value should seldom if ever be used in accounting state-

20

ments without a qualifying adjective." Recognizing this

difficulty of value and valuation, the accounting profes-
sion in America has limited the use of the word value in
accounting, and tried to eliminate the use of depreciation
in asset valuation.

Value as used in accounts signifies the amounts at
which an item is stated, in accordance with the ac—
counting principles related to that item. Using the
word value in this sense, it may be said that balance—
sheet values generally represent cost to the account-
ing unit or some modification thereof; But sometimes
they are determined in other ways; as for instance on
the basis of market values or cost of replacement, in
which cises the basis should be indicated in balance
sheet.2

Depreciation accounting is a system of accounting
which aims to distribute the cost or other basic value
of tangible capital assets, less salvage (if any),
over the estimated useful life of the unit (which may

20Paul Grady, Inventogy of’GenerallypAcce ted Ac—
countin Princlples for Business Enter rise (New York: AICPA,
Accountgng Research Study No. 7, 1965), p. 229.

' 21AICPA, Committee on Terminology, "Review and
Resume," p. 37.

 

113

be a group of assets) in a systematic and rational
manner. It is a process of allocation, not of valu-
ation. Depreciation for the year is the portion of
total charge under such a system that is allocated to
the year. Although the allocation may take into ac-
count occurrences during the year, it is not intended
to be a measurement of the effect of all such occur-
rences. ~
Depreciation Methods
Even given that depreciation is a process of allo-
cation not a valuation, there are various factors that af-
fect the allocation pattern in depreciation. The factors
can be easily divided into:

1. The base of allocation, which in accounting con-
vention is historical cost, though the use of
current cost and replacement cost is at times
thought desirable and superior by the AAA. The
decision of what allocation base to use is influ-
enced not only by accounting practices, but also
by government (tax) regulations, management (finan-
cial) policies, general economic conditions, i.e.,
whether asset can be written up and down.

2. Allocation method. Allocation methods include:
(a) straight-line method, (b) increasing charge
method, (c) decreasing charge method, and (d)
variable charge method. These different alloca-

tion methods are the result of varying expecta-

tions in regard to

 

22Ibid., p. 25.

114

the following factors; (1) the relationship between

decline in service and use, (2) effect of obsolescence,

(3) the expected pattern of repair and maintenance,

(4) anticipated decline in operating efficiency, (5)

expected change in revenues, (6) the long life of as-

sets and the necessity of investing--the interest fac-
tor, (7) degree of uncerEginties regarding the later
periods of assets' life.

3. Allocation rate (depreciation rate). This rate can
come as a result of the above two items or inde-
pendently determined.

Ideally, depreciation should be based on the ex—
pected amount needed to replace the asset, at the time its
life is expected to terminate, by another asset. This re-
quires theoretical allocation pattern based on the present
value of expected future services, but practical problems
involved in application make it inoperative. Thus, the
current cost or replacement value is used instead in ap-
proximating the ideal depreciation, and it requires the
need for adjusting depreciation charges for over and under
depreciations of past years.

In the Uhited States, the depreciation charges and

depreciable lives of various assets for tax purposes are

determined by the U. 5. Treasury Department Guideline Sched-

ule (issued 1942, revised 1962).

_

23Hendriksen, Accountinngheory, p. 319.

115
Definition and Nature of Assets
in thippia

Article 74 stipulates that "the balance sheet shall
show, as assets, all the debit balances." Note here that
the definition of asset in accordance with the above Ar—
ticle includes "losses" as assets, and are so presented
in the balance sheet in Ethiopia (see attached balance
sheet). The AICPA defines also assets by debit balances
(see previous page 102), but makes note as to the rules
and principles of accounting involved in a "debit balance,"
thereby excluding losses from assets. This points out
either an ignorance of or an intentional violation of ba-
sic accounting rules and principles in the accounting pro-
visions of the Code.

Article 78 states:

1. Fixed Assets consist of assets used for working,
assets not so used, assets completely amortized,
and assets in the course of being amortized.

2. Assets used in working are any assets acquired
or manufactured by the undertaking not for sale
or for transformation, but to be used in a last-
ing manner as instruments of work.

3. Assets not used for working are any assets ac-
quired or manufactured by the undertaking by vir—
tue of the employment of capital and not for use

as instruments of work.

4. Assets completely amortized are those still in
use but whose value is entirely written off.

5. Assets in course of being amortized are those
which are still not written off at the end of
the financial year.

The definitions of fixed assets according to Ar-

ticle 78(2) is almost in harmony with that of George 0.

116

May where he defined fixed assets as those which are "in-
tended to be used and perhaps ultimately consumed in con-
nection with the business, and [are] not ordinarily for

24 Provisions of 78(3) and 78(4) are, however, unique.

sale."
Article 78(3) is difficult to reconcile with the idea of a
firm holding assets which "will not be used or ultimately
consumed in connection with business." To begin with, it
seems odd that an enterprise will hold such assets which

it will not use in connection with the undertaking--78(3).
If the provision of 78(3) is provided to distinguish be-
tween investments made in fixed assets to be used as work-
ing instruments in process of production, and investments
made in fixed assets just to be held as investment only,
then such distinction should be between investments, fixed
assets, and inventories (supplies and materials), in which
case the provision 78(3) becomes meaningless. For, the
classification of investments under fixed assets is im-
proper, the delineation of fixed assets is well taken care
of by provision 78(2), and the classification of inven—
tories taken care of by Article 79 under the title "stocks."
The purpose of 78(3) is not either for distinguishing hold-
ing activities versus (business) production activities, or

for distinguishing valuation of assets from allocation of

Cost as we shall see later when we examine valuation of

‘

24May, Financial Accounting, p. 88.

117

assets and depreciation. Thus, we find provision 78(3)
to serve no useful purpose, except to confuse.

Article 78(4) if also incongruous in that assets
that are completely written off cannot be expected to be
carried on the books to reflect the existence of assets
still in use, unless they are replaced, or proper depre—
ciation adjustments are made to reflect proper deprecia-
tion concepts and depreciation allocation methods, and a
corrected asset base. In Ethiopia, the practice of re-
flecting the completely amortized assets which are still
in use is as follows: Let us assume there is an asset
with $25,000 (historical cost) and an equivalent accumu-
lated allowance for depreciation of $25,000. The balance
sheet, in Ethiopia, would leave the asset of $25,000 on
the asset side, and reflect also an equivalent amount of
$25,000 on the liabilities side of the balance sheet under
"Provisions and other charges." This means year in, year
out, the balance sheet reflects these balances without any
additional depreciation charges, so long as the asset is
in use. Before the above "improvement" actually occurred,
assets that are still in use used to be reflected on the
balance sheet just by mentioning the specific asset and
indicating it only with an assigned value of $1.

The practices,however, do not reflect the economic
relationships or the significance of depreciation variable

(”I fixed assets, and thus tend to make the whole purpose

118

of booking depreciation meaningless. For, if fixed assets
are still in use, they have not only service potential, but
also have real service. Further, they could not be com-
pletely amortized, and their existence and use reflected
only by an equivalent debit and credit amounts, no matter
whatever the purpose of depreciation measurement is. If
the purpose of depreciation measurement is asset valuation,
then the asset in use has subjective value, or productive
value--and should be reflected so. If the purpose of de-
preciation measurement is income determination, then a1—
location of use of the service from the asset to current
income, or decline in service potential of the asset is
not being reflected unless depreciation charges are allo-
cated periodically and asset set at its proper service
potential.
Article 82 stipulates:
1. Amortization is the accounting measurement of the

loss sustained by the fixed assets that necessar—
ily depreciate with time.

0 O C O O O O O O O O O O O O O O O C O O O O O

3. The provisions for depreciation are intended to
provide for the reduction in the value of some of
the assets which can reasonably be expected.

The above provisions make distinction between am-
ortization and depreciation. Provision 82(1) seems to
refer to depreciation charges based on time element per-
haps in reference to economic life of asset. Further, it

is indicated that "amortization is the accounting measure-

menin" If we interpret accounting measurement as properly

119

and conceptually understood by many authorities, to mean
income determination, then the purpose of amortization
here seems to suggest income determination.

Provision 82(2) indicates that provision for de-
preciation is for reduction in value of asset, thus the
purpose of depreciation here can be interpreted as being
asset valuation.

Given these inferences, it is possible to say that
the Ethiopian Code provides depreciation and amortization
measurement for asset valuation and income determination
purposes. However, the consistency of such conclusion
falls apart if we consider the original meaning of amor-
tization. As explained by Arthur Lewis, amortization is
used to refer to the writing off not of a constant amount,
but of a constant proportion of the amount still standing
in the books, thus referring to diminishing balance method
of write-off:

Indeed, to emphasize that depreciation in this con-
text [in the context of diminishing balance write-
off method] is not linked to the value of the assets,
some writers refer to the writing off as "amortiza-
tion," a term which more properlysapplies to the pro-
vision made for repaying a loan.

If we understand the meaning of amortization

through Arthur Lewis' interpretation, the difference

25W. Arthur Lewis, "Depreciation and Obsolescence
as Factors in Costing," in J. L. Meig (ed.), De reciation
and Replacement gplipy (Chicago: Quadrangle Docks, 1961),
PPo - 0.

120

between amortization and depreciation then will have to

be in the method of depreciation used. That is, amor-
tization refers to the "diminishing balance" method of
depreciation whereby it is assumed that value of asset
deteriorates very sharply in the early years of life, and
more slowly thereafter. In contrast, depreciation refers
to the straight-line method of depreciation. Thus, the
purpose of depreciation in the Ethiopian Code will have

to be surmised as being asset valuation and the words "ac-
counting measurement" in provision 82(1) have no meaning.

Leaving aside Lewis' interpretation of amortiza-
tion, we can understand the word "amortization" to imply
any systematic write-off referring to any one pattern. If
this is the case, then in Article 82(1) amortization means
"amount to be written off," which is another way of saying
the same thing stated in Article 82(3). Thus, there is
redundancy, and Articles 82(1) and 82(3) add nothing to
the other, and the measure altogether is an attempt to
reach an asset "valuation," rather than expiration of ser—
vice potential.

Further, it is difficult to interpret what is meant
by "loss" in Article 82(1). If what is implied by "loss"
refers to "expiration of service potential," it could lead
to proper accounting meaning of depreciation.

The Ethiopian provision for depreciation provides

no conceptually meaningful accounting measurement for

121

depreciation. In addition, the Ethiopian provision also
does not indicate any method on how a reduction in value
or loss (expiration) in service potential is to be deter-
mined or allocated. Whatever method of depreciation is
available in Ethiopia arises from the Income Tax Procla-
mation, which in practice is even followed for financial
reporting purposes besides for tax purposes.
Article 450 stipulates that
(1) Provisions for amortization shall be made each
year so that the item to be amortised be written
off at the end of its period of use. Where, dur-
ing the period of amortization, the rate proves
insufficient, such rate shall be increased-so that
the amortization corresponds to the depreciation.
(2) Provisions shall be made for amortization and al-
lowances for depreciation of assets at the end of
each financial year, even where there are no
profits.
Article 450(1) is an important clause for correcting de-
preciation and accelerating depreciation charges to cor-
respond to some value of asset (since depreciation in the
Ethiopian Code is directed toward asset value in the bal-
ance sheet). However, the clause does not provide as to
what value is depreciation supposed to correspond: sale
value, exchange value, replacement value. But, since de-
preciation is permitted only on original cost, this
clause is not intended for revaluation of asset, or for
correction of depreciation charge based on replacement re-

quirement concept, and should be understood only as a cor—

rection of the basis of the estimate of the asset life.

122

Depreciation Methods and
Ratesinflfithippia

26

The Ethiopian Income Tax Proclamation provides

the following annual rates of depreciation as deductible
from gross income:

1. For buildings: 5 per cent of original acquisi-
tion cost.

2. For machinery: 16 percent of original cost of
acquisition for the first year of acquisition,
and then 12 per cent in subsequent years.

3. For furniture: 10 per cent of original cost of
acquisition.

4. For motor vehicles: 20 per cent of original cost
of acquisition.

The proclamation states that:

23(a) Such deductions shall be-granted only to tax-
payers who keep satisfactory records showing:

(1) the date of acquisition of the asset,
(2) cost of acquisition,

(3) total amount deducted, for income tax pur-
poses, as of the asset since the date of
acquisition.

0 O O O O O O O O O O O O O O O O O O O

24(b) In special circumstances or in respect of par-
ticular assets, the Income Tax Authority may
permit the application of higher rates of de-
preciation allowance, provided that said Author-
ity is satisfied that the-period within which

26Imperial Ethiopian Government, Ne arit Gazeta.
Legal Notice No. 258 of 1962, Addis Ababa, Ethiapia.

123
said asset will be completely depreciated to its
useful life.

It was mentioned earlier that factors affecting
depreciation method or allocation pattern of depreciation
are: (l) the base of allocation, (2) the allocation
method, (3) the allocation rate. In Ethiopia, the base
of allocation is historical cost. Historical cost base
of depreciation is criticized in terms of sound economic
objectives, replacement requirements, and also in terms
of meaningful balance sheet value of assets. But, in
American practice, attempts have been made to remedy the
flaws of historical basis of allocation method by permis-
sive procedures of current cost and replacement cost bases
of depreciation for reporting purposes. In addition, ac-
companying multi-column statements are at times recommended
to show current value and historical value of assets. How-
ever, for tax purposes firms are still tied to cost, even
in America. In Ethiopia, there are no provisions, or ac-
counting practices, for such systematic remedial alterna-
tives of correcting depreciation charges for financial re-
porting purposes, though revaluation of assets is permitted
as we shall see later on.

Depreciation charges in Ethiopia are intended for
recovery of original cost. Possible alternative methods
0f depreciation are non-existent. Only a straight-line

depreciation method based on the above-mentioned fixed

124

rates is permitted and known in practice. The straight-
line depreciation method is criticized on various grounds
by several authorities in accounting despite its simplic-
ity. Paton criticizes it for its failure
to take account of the declining productivity-—in the
economic sense--that often occurs with advancing age
. . . [He also states that it] does not produce a
reasonable matching of costs and revenues, and is a
dangerous policy from the standpoint of income taxa-
tion and financial administration. What is needed
. . . is an appropriate "acceleration" of deprecia-
tion in the early and more productive periods of use
--some type of decreasing—charge method.

Thus, the consideration of alternative methods of
depreciation could be very worthwhile for the firms and
tax authorities in Ethiopia. The Tax Authority in Ethiopia
has discretion, according to the tax proclamation, to allow
higher rates. But on what basis and in what circumstances
are increased rates permitted, is unknown. It is left
open to the manipulative power and negotiative ability of
the firm to secure higher rates of depreciation. In
Ethiopia, the depreciation rates stipulated do not provide
adequate and appropriate rates for various specific as-
sets of various industries, and the presently provided
rates are too general and lacking in detail. Depreciable
assets operated by various enterprises even in the same

industry can differ as to technical feature, operating

condition, age distribution of asset, time and circumstance

k

‘11

27William A. Paton and William A. Paton, Jr., Asset
Accounting (New York: Macmillan Co., 1952), p. 270.

125

of acquisition, and it is not only difficult to provide
uniformity in depreciable variable, but it is inappropri-
ate to apply one across-the-board rate indiscriminately
irrespective of type of industry and type of asset. For
example, the U. S. Treasury Department Bulletin "F" on
income tax depreciation and obsolescence provides compos~
ite life of various assets in various industries (see
Appendix IV). Perhaps such a breakdown of list of esti-
mate of composite useful life and possible depreciation
rate as that of Bulletin "F" may be of great value as a
guide to tax authorities for tax use and more appropriate
for determining rates of depreciation to firms in various
industries. The present classification of provision for
depreciation rates only according to machinery, furniture,
buildings, and motor vehicles does not specify or indicate
as to the type of buildings, machinery, furniture, and
motor vehicle. Neither does it distinguish the varying
life of these assets as used in various industries. Be-
cause of such generalized headings, we find it hard to
compare the rates of depreciation provided in Ethiopia
with other similar rates of depreciation provided in Amer-
ica or in other countries. A very crude comparison of the
rates of depreciation permitted in Ethiopia and those of
the Uhited States is made in Table VI-l.

The comparison shown in the table seems to suggest

that the estimated life of a building is much shorter in

126

TABLE VI-l

COMPARISON OF RATES OF DEPRECIATION PERMITTED IN
ETHIOPIA VERSUS THE RATES OF DEPRECIATION
PERMITTED IN THE U.S. FOR EQUIVALENT ASSET TYPES

 

 

 

Types of Ethiopia U.S.A.a

Assets % Years % Years
Building 5 20 3 — 1.5 30-60
Machinery l6 - 12 6 - 8 6.7- 5 15-20
Furniture 10 10 12 — 5 8-20
Motor vehicle 20 5 30 ~16 3— 6

 

 

 

 

 

aComputed by simple approximation of overall com-
posite life from the composite average useful life of vari—
ous assets given in Bulletin F of the Internal Revenue
Service and partially reproduced in Appendix C of Eugene
L. Grant and Paul T. Norton, Jr., Depreciation (New York:
Ronald Press Co., 1955), pp. 444-450.

 

Ethiopia than in the United States. We find no particular
reason fer such phenomena, especially since in Ethiopia an
investment in a building is considered to be quite ever-
lasting. The estimated machinery life in Ethiopia seems
also to be much shorter than those in the U.S., but this
could be rationalized on the basis that repairs and main-
tenance in Ethiopia are not quite as frequent and part of
the normal procedure as in the U.S. Thus, the life of
machines tends to be much shorter in Ethiopia. In this
comparison, however, we must note that the U.S.rates of

depreciation and estimated lives assigned to machinery,

127

building, furniture, and motor vehicles are only crude
average approximations. For, in the U.S., the composite
average useful life of machinery is different for: (a)
agricultural machinery, (b) manufacturing machinery, (c)
milling machines, (d) bottling machinery, (e) business
machines.28 The estimated composite average useful lives
of buildings will depend on whether they are (a) apart-
ments, (b) banks, (c) dwellings, (d) factories, (e) farm
buildings, (f) garages, (9) hotels, (h) machine shops,
(1) office buildings, (j) stores, (k) theatres, (l) ware-
houses (see Appendix IV).

As far as the depreciation method used is concerned,
the Ethiopian Code does not provide any specific provisions
for use of any method. But the Code is supplemented by
the tax regulation in determining accounting practice, with
the same force as the Code. In fact, one of the criti-
cisms generally directed to the Ethiopian accounting prac-
tice is that it does not distinguish between what is or
should be for financial reporting purposes and what is or
should be for tax purposes. Mostly financial statements
Ibrepared for tax purposes are considered one and the same

ELS those prepared for financial reporting purposes. The

M

28See the detailed breakdown of type of asset and
the relevant composite average useful life for various in-
CRJstries given by the U. 5. Treasury Department in Bulle-
tins "F" reproduced in the Appendix from Eugene L. Grant
anuj Paul T. Norton, Jr., Depreciation (New York: Ronald

Press Co. , 1955) .

128

only confusion—saving device has been that the balance
sheet is not prepared for tax purposes, and the Code mostly
emphasizes the balance sheet for financial reporting pur-
poses.

Asset lives determined for tax use do not neces—
sarily have to govern the basis of asset lives for finan-
cial reporting. This is shown in the U. S. accounting
practice where an accelerated rate of depreciation is used
for tax purposes, but a lower rate for financial reporting
purposes. However, it is possible for the sake of uni-
formity and simplicity that the same life may be used for

both purposes.

Valuation of Fixed Assets in Ethippia
Article 84 states

1. Fixed assets shall appear in the balance sheet at
their value of origin or if they have been revalued
at their revaluation.

2. Immovable assets shall appear in the balance sheet
at their purchase price.

4. Waste (remains of materials and refuse proceeding
from manufacture)sha11 be valued at the ruling
price at the date of the inventory or, in the ab-
sende of a ruling price, at their probable value
of realization.

Although the adherence to original acquisition
cost is emphasized throughout the Code and even in Article
84, the provision of 84(1) suggests that revaluation of
asset is also permissible. As to when and how is revalua-

tion permissible, and whether revaluation is permitted

129

only for balance sheet presentation purposes without af-
fecting depreciation charges, is not specified in the pro-
vision. However, since we saw that depreciation rates are
fixed and depreciation charges are based only on the basis
of original acquisition cost, it is obvious that the re-
valuation of assets suggested by provision 84(1) is not
envisaged to entail the correction of depreciation charges,
and reflect the effect on income determination. This seems
to indicate that the assets can be revalued independent of
depreciation allowances, which is the opposite of what was
understood earlier by Article 82(3), pages 118-120, that
the purpose of depreciation was asset valuation. This in-
consistency brings out the misconception or misapprehension
in specifying and understanding the purpose of depreciation
for income determination and asset valuation, and the lack
of grasp of the technical accounting relationships of as-
set, depreciation, balance sheet, and periodic income de-

termination.

Si nificance of Depreciation as
T001 of Economic Policy

The relationship of depreciation to gross savings

 

and capital expenditure, from an economic and financial
point of view, was discussed previously. It was also dis-
cussed how this growing awareness had led economists and

government policy makers to regard depreciation as an

130

economic tool. It is indicated by writers29 how appropri-
ate depreciation is a plausible necessity that can be used
as an economic instrument in supplying incentive to achieve
the desired objective of economic growth; that is, properly
computed appropriate depreciation allowances can be used

to provide a growing firm's needs to finance new capital
additions inclusive of replacement. If such hypothesis is
accepted, then it becomes of great concern and importance
for underdeveloped countries like Ethiopia, where the eco-
nomic planning objective is economic growth, to carefully
consider and be aware of the concept, purpose, and mechan—
ics of depreciation.

Economically speaking, to accelerate economic growth,
efficient employment of capital and increased savings are
necessary. Further, given that (l) in underdeveloped coun-
tries there is an excess supply (surplus) of agricultural
labor;30 (2) the aim of economic policy in these countries
is to encourage an industrial sector that absorbs the sur-
plus of agricultural labor; it behooves to strengthen and

encourage by incentives a labor-intensive industry (an in-

dustry that uses more labor) instead of a capital intensive

29E. Domar, "Depreciation, Replacement and Growth,"
Economic Journal, LXIII (March, 1953), 1-32; also Edgar 0.
Edwards, "Depreciation and the Maintenance of Real Capital,"
pp. 75-132.

30W. Arthur Lewis, "Economic Development with Un-
limited Supplies of Labor," Manchester School, XXII (May,

131

industry. Depreciation policy can be used here as an
economic tool to achieve the objectives, through allow-
ing higher depreciation rates or accelerated depreciation
for labor intensive industries, so that the higher sav-
ings could stimulate investment, while lower rates of de-
preciation are granted to capital intensive industries.31
Given the plausibility of the above hypothesis,
then, the merits of the discriminatory depreciation pol-
icy as an economic tool is obvious for a country like
Ethiopia. At present in Ethiopia, the use of deprecia-
tion policy as an economic tool is totally absent. We
suggest, thus, that if depreciation policy and deprecia-
tion measurement in the Ethiopian Code is not for proper
accounting purposes, as was discovered, then it should be
used for proper economic policy purposes. If it is to be
used for economic policy purposes, the consideration of
the above hypothesis is indispensible. In fact, the use
of discriminatory depreciation policy would be more ra-
tional and economically much more sound for providing

investment incentive than the presently existing five

 

31This hypothesis and theory is also developed by
Abd-Elhay A. Marie in an unpublished Ph.D. dissertation,
"A Critical Study of Asset Valuation and Income Determina-
tion under the Uniform UAR (Egypt) Accounting System
Relative to the Objectives of Economic Planning," Michigan
State university, 1969, pp. 137-150.

132

years' tax exemption for various industries beginning from

the period of their operations.32

Current Assets-—Inventories
élgplficance of Inventories
”From the point of view of GNP and real invest—
ment, the changes that take place in inventory assets are
more significant than the stock of inventory held at any

one time."33

The time and space constraint of this study
does not allow us to go deeply into the economics of inven—
tory, but it is necessary to realize that inventories too
have a part to play in GNP.

The most important items in the current asset of
a business concern are inventories. For a firm, inventor-
ies are a necessity and a problem. Inventories are a ne-
cessity to assure constant production and to meet demands
of sales to consumers, thus they must be carried. But,
investment in inventory is highly volatile, and inventory
decisions depend on conditions of demand and prices, and
on ability to discern and control the variable costs in-
volved, which makes the opportunity cost of carrying them
high because, once committed, adjustment of errors is not
easily remediable.

32According to N arit Gazeta, Proclamation No.
173 of 1961, Article 19?§§7‘?17e years of tax exemption,
beginning from the period of operations, are granted to
various industries deemed necessary in order to encourage

and stimulate investment.

33Friedland, Corporate Finance, p. 52.

133

Problems of Inventory Valuation

The value of inventories at the time of production
(acquisition) is the value of resources used in their ac-
quisition or production. Once produced (acquired), the
inventories are carried forward, and the value to be con-
sidered may entail value of resources needed to replace
the inventory, or their exchapge value whenever the inven-
tory as a commodity is being parted with. In addition,
the real value of the inventory (in terms of constant pur-
chasing power) may increase or decrease, particularly
since there is a lag between acquisition of resource, pro-
duction, and sale. Thus, valuation of inventory becomes
problematic and involved with the different values implied
of it. We noted earlier that value is meaningless without
expressing the purpose of its valuation or the purpose of
its measurement. Even if we interpret value in terms of
cost, also 2223 is not meaningful unless it is related to
'the purpose of its measurement. For we can distinguish
‘Various cost concepts, such as: (a) opportunity cost--
(Element of cost that can be saved or revenue foregone;
(In) variable cost and fixed cost; and (c) long-term cost
and short—run cost concept.

There are two primary problems identified by Paton

‘fhich have to be dealt with in accounting for inventories:34

‘_

34William A. Paton and Robert L. Dixon, Essentials
c3f Accountipg (New York: The Macmillan Company, 1959Y7

D. 340.

 

134

l. The necessity of determining the total cost in-
curred to date in any accounting period (including
opening inventory) in vauiring and holding the
commodities purchased;

2. The necessity of dividing the "total pool" of in-
ventory cost into the portion deductible from
current income, and that portion assignable to
goods on hand to be carried forward as asset in
the balance sheet.

The first problem involves the understanding of the previ-
ously mentioned cost concepts, i.e., opportunity cost,
fixed cost and variable costs, long-run and short-run cost
concepts, period and product costs; and the determination
of what constitutes product cost.

The second problem which is more important and
perhaps more difficult, from the point of view of finan—
cial measurement of inventories for external financial re-
ports, involves the allocation of total cost of goods sold
for income determination purposes. It consists of two
Fulases: (a) finding the outflow of inventory cost, that

-L£3, determining the various methods of cost identifica-
tllcbn by which cost of goods sold is estimated (the income
Est«Eatement phase); (b) determining the inventory on hand

‘k: be carried forward as an asset (the balance sheet phase).
Th1ease two phases may be conflicting at times, especially

”hen emphasis for income determination purposes leads to

135

inventory valuation practices that distort balance sheet
or vice versa. Thus, it becomes important but perhaps
difficult to consider simultaneously the impact of inven-

tory measurement on income statement ani balance sheet.

Methods of Inventory Valuation

The term inventory is defined by the AICPA as

designating:

the aggregate of those items of tangible personal
property which (1) are held for sale in the ordinary
course of business, (2) are in process of production
for such sale, or (3) are to be currently consumed

in the prgguction of goods or services to be available
for sale.

The appropriate classification of inventory includes: (1)

materials, (2) supplies, (3) work-in-process, and (4) fin-

ished goods.

The accounting rule for inventory valuation is his-
torical cost (acquisition cost) because it represents "the

input value of the resources obtained at the time of ac-

36

quisition or use in the process of production." Thus,

raw materials are recorded at acquisition cost and, when
used in production, the acquisition cost is transferred to
production cost account. Accordingly, the historical cost

of production includes direct costs of material and labor

_~

35AICPA, "Restatement and Revision of Accounting
Research Bulletins,” Accounting Research Bulletin No. 43,
p. 27.

36Hendriksen, Accountipg Theopy, p. 252.

136

and normal indirect costs allocated to the product on the
basis of some logical association.

The use of historical cost is criticized for in—
ventory valuation. Hendriksen summarizes the major disad-
vantages of historical cost of inventory valuation as fol-
lows:

1. While cost represents values to the firm at the
time of acquisition, it soon becomes outdated;
not only do input prices change over time but also
the value to the firm changes as value is added
by the firm.

2. When two or more items in inventory are vauired
at different times, the costs are not comparable
because they do not necessarily relate to the
same value of money; their addition may not result
in a meaningful sum.

3. Many cost computations require the allocation of
joint costs, and even the best allocation methods
are inadequate in reflecting causal relationships.

4. Because costs are historical, the matching of
costs with revenues does not provide a meaningful
measure of the results of current operations.
These flaws in the historical cost have led to many

controversial arguments and differences of opinions among
authoritative accounting writers. However, basically, the
inventory valuation basis in accounting still remains to
be historical cost, though some attempts have been indi-
cated to remedy the historical cost flaws in the American
accounting practice. For example, current replacement

cost has been suggested by the American Accounting Associ-

ation, supported by Edwardsand Bell, and Sprouse and

-—_I

37Hendriksen, Accpunting Theory, p. 253.

137

Moonitz.38 There are also various valuation bases for in-

ventory suggested, depending on the type of inventory, the
extent of revenue and income recognition, and the condi-
tions surrounding the applicability and desirability of

such method.39

Methods of Cost Association with
€3§?_5f_§31es and Inventopy

There are several methods of specific identifica-
tion of costs with inventories.

First-In-First-Out (FIFO).-—In this method, the
assumption is that what is acquired first is charged to
production (cost of production) first, and what remains
represents value of the latest vauisitions. So, also in
selling the commodities produced or purchased, the goods
first produced or purchased are charged to income state-
ment (cost of sales) first, and those remaining represent
value of the latest production or purchases. Thus, accord-

ing to this method, the income statement (cost of sales)

 

38See Edgar 0. Edwards and Philip Bell, The Theor
and Measurement of Accounting of Business Income (BerkeIey:
University 6f_5alifornia Press,’l961); Robert T. Sprouse
and Maurice Moonitz, A Tentative Set'of Broad Accountin
for Business Enter rise, Accounting ResearchIStudy No.
(New York: AICPA, 1962); AAA, Committee on Concepts and
Standards, Inventory Measurement, Supplementary Statement

No. 2, "A Discussion of Various Approaches to Inventory
Measurement," Accounting Review (Ju1y, 1964), 700-714.

39See Hendriksen, Accountipg Theory, p. 261, for
various valuation bases and conditions of their applica-
bility.

138

is charged with the earliest acquisition cost, while the
inventories on the balance sheet are stated in terms of
the most recent costs.

Last-In-First-Out (LIFO).--This method assumes
that what is acquired last is charged to production (cost
of production), and what remains on hand unused represents
the earlier (older) acquisitions. In selling the commodi-
ties too, the goods produced or purchased lggp are charged
to income statement (cost of sales), while those remaining
on hand represent value of the earlier production or pur-
chases. Thus, according to this method, the income state-
ment (cost of sales) is charged with the most recent costs,
while the inventories on the balance sheet are represented
by the earlier (older) costs.

Average Method.--In this method, various averages,
such as simple average, weighted average, and moving aver-
age, are used to determine average unit cost first. Then,
on the basis of the determined unit cost, the production
(cost of production) is charged and the inventory on hand
valued.

As to which method is best, there are various pros
amd cons for each method. There is no uniformity, it is
<iependent on the existing conditions, the objectives and
<:oncepts of inventory valuation and the varying effects
each method has on income statement and balance sheet.

However, in general, out of the above methods, the

best alternative methods known in the American practice

139

are FIFO and LIFO. Consistent application of either method
is considered appropriate in reporting results of opera-

tions, so long as adequate disclosure of the method used

40

is provided. It is recognized that "a single method of

valuation is not suitable for all conditions or for all

41

companies in the same industry." Perhaps it is the

realization of this that made the AAA in its "Discussion
of Various Approaches to Inventory Measurement," to come
out only with recommendations and conclusions regarding
minimum requirements for disclosure of inventories. These
minimum requirements constituted:

l. Inventories should be classified by category.
There should be a brief description of details
and extent of quantification methods employed
(e.g., first-in, first-out; currently attainable
standard costs).

2. Where feasible physical quantities should also
be disclosed. In this way price and quantity
analysis may be facilitated.

3. . . . LIFO is not acceptable. However, where
LIFO is employed, disclosure of current replace-
ment cost should be mandatory.

4. Where inventory reserves are used, as contra-
assets or appropriations of retained income, full
disclosure of their origin, classification, and
yearly changes and adjustments is desirable.42

4OGrady, Accountinchrinciples, p. 388.

411b1d.

42AAA,"Inventory Measurement," 700-714.

140

Recapitulation of Inventory Valuation

In the preceding discussion of inventory valua-
tion, we saw how different interpretations of "cost" and
value lead to different inventory measurement. Thus, the
proper classification of contents of inventory and the
clarification of terms of "cost" and "value" are the fore-
most steps in systematic inventory valuation.

Further, it can be realized that possibly there
is no uniformity in inventory valuation. George 0. May
states it is doubtful "whether high degree of uniformity
in inventory valuation is attainable or is even an objec-
tive worthy of a great effort. Similarities of circum-
stances are seldom more than partial, and gain from en—
forced uniformity may therefore be illusory."43

AAA also states, "There may be different costs
for different purposes, different incomes for different
purposes, and, accordingly, different inventory measure-
ment for different purposes."44

It was indicated that the accounting rule in in-
ventory valuation is acquisition cost, though the flaw
present in historical cost makes the use of alternative
Jbases of valuation other than cost desirable and some-
times mandatory. There are various bases of valuation

for inventory, which are deemed permissible, depending

.—¥

43May, Financial Accountipg, p. 183.

44AAA, "Inventory Measurement," p. 702.

141

on the conditions of their applicability, extent of in-
come and expense recognition, and measurement ability.45
The tests of realizability and objectivily in

measurement play important roles in inventory valuation.

 

Given that the overall net income performance is a better
approach to enterprise valuation than appraisal of indi-
vidual assets, inventories as prime determinants of cost
of sales become most important factors that determine in-
come. Accordingly, the vital feature of the process of
inventory valuation in accounting is directed "primarily
to a process of allocation of costs between the past and
the future." The allocation of costs between past and.
future is not purely mechanical but always involves judg—
ment,46 as a result the contest among alternative methods
of inventory valuation and cost association is faced.

The method of inventory valuation to be chosen
should perhaps be left to management within limits; in
this way, management is held responsible for selecting
one that is appropriate and for applying it in a manner
that produces a fair result of operations, while auditors

can be held responsible for seeing to it that it is

45The following are listed by Hendriksen in his
_Accounting_lheory (pp. 249ff) as: Discounted money re-
ceipts, current selling price, net realizable value, cur-
rent replacement cost, lower-of-cost or market, standard
cost.

46May, Financial Accounting, p. 184.

142

consistently followed.47 But for management to be able
to choose the method of its inventory valuation and for
auditors to see that it is followed, management as well
as auditors must be able:

1. To understand the different concepts and theories
of inventory valuation;

2. To understand the implicated relationships of fi-
nancial statements (balance sheet and income
statement) and the purposes of their use;

3. To understand the impacts and effects of various
alternative methods of inventory valuation on
balance sheet and income statement; .

4. To justify choice of particular method of inven-
tory valuation.

5, To disclose adequately the basis of inventory
valuation and method of allocation of costs used
in financial statements.

The above points are preconditions for management's
free choice of alternative methods of valuation. In the
absence of these above-mentioned preconditions, then a
guideline by some authorities, preferably the auditing and
accounting profession, becomes essential to specify the
conditions under which alternative methods of inventory

valuation are permissible. This has implications for

471bid., p. 183.

143

Ethiopia, when we discuss accounting profession in Ethiopia
later, for the above points indicate, partially, the ra-
tionale for the pglpg (or having) an accounting profession.

The choice of inventory valuation method is also
influenced by the allowability of the particular method
for tax purposes.

The most important note to be made on inventory
valuation is the recognition and realization of the dif-
ferent methods, concepts, purposes of inventory valuation,
and their effects on financial statements; and the meet-
ing of the minimum requrement of disclosure to be provided.

Inventories and Inventory
Valuation in Ethiopia

Article 79 states: "Stocks are goods, materials,
supplies, semi-finished and finished products, works in
progress and packing materials."

The above definition, which is to be equivalent to
"inventories," seems to be an adequate description of in-
ventories at the outset, except for not delineating the ob-
jective of holding these goods for the purpose of "sale in
the ordinary course of business." As it is, Article 79
could include inventories held for purposes other than
sale and, therefore, fail to meet the proper accounting
description of inventories. If Article 78(3) (see page
115) were more precisely worded, it would have constituted

the inventories held for purposes other than sales or for

144

process in production, thereby implying that Article 79
includes only inventories held for sale or used in the
process of production for such sale.
Article 84 states:
(2) Merchandise, materials, supplies, packing mate-

rials in stock at the date of the inventory shall
be valued at their cost.

(4) Waste (remains of materials and refuse proceeding
from manufacturing) shall be valued at the ruling
price at the date of the inventory or in the ab-
sence of a ruling price at their probable value
of realization.

(5) Products or works in progress shall appear at
their cost on the day of the inventory.

Provision 84(2) and 84(5) indicate that inventor—
ies are valued at "cost at the day of inventory," but
whether the "cost" refers to current cost or historical
ggs-t, or any other cost (replacement costLexchange value)
is something left to conjecture. This shows the lack of
the most important element in the systematic valuation of
inventory--that is, the specific clarification of the terms
"cost" and "value," and the purpose in their measurement.
In the above provisions for inventory valuation, emphasis
is put on the "day of the inventory," which means inventor-
ies are valued at the day of inventory taking only. If in-
ventories are to be valued at their gpst price at inventory
taking period, most probably there is reason to believe
that the cost price refers to current cost. But this is

the element that needs clear conceptualizing and explicit

145

formulation, without leaving any doubtful meanings. The
above provisions are attempts to specify the basis of in-
ventory valuation, but are not clear enough in concept in
what they refer to.

The flaw of Article 84 has implications in the
field of accounting in the distinction between product
cost and period cost in answering questions such as: What
does the total cost of inventory include? What is cost of
production composed of? It has implications in determin-
ing cost of sales, gross profit, and inventory costing be—
cause inventories could include goods other than those
held for sale, and cost of inventory could be charged with
goods or supplies other than those that are used in the
process of producing such goods for sale. The flaw also
reflects the failure to consider the normal current opera-
tions concept, the current operating performance income
versus all—inclusive income concept, and the lack of over-
all emphasis on the process of income determination and
evaluation of efficiency of management.

The use of realizable value for valuing so-called
waste is provided by Article 84(4), which properly speci-
fies the conditions and type of goods that make its use
permissible and desirable. However, the specific tech-
niques that bound the limits (highs and lows) of realizable
value are not expounded. Perhaps it is not necessary for

the law to delve deeply into such technicality, and is

146

wise to leave it to the companies to determine the tech—
niques for arriving at realistic net realizable value.
Article 85 states that

If the real value of merchandise, materials, semi-
finished products, finished products and packing
materials in stock on the day of the inventory is
less than the cost price, the trader or commercial
Business organization shall constitute equivalent
provisions for depreciation.

 

Even if the word value is used to connote "worth,"
in the literature of business, economics, and accounting,
the term is still used in "varying significance not all
of which have definite connotation of worth."48 What is
the connotation of real value in the provision above is
not known. Real value is relative to what, to whom, and
measured and expressed by what are the significant deter-
minants lacking in the provision. Real value can be: (a)
exchange value presumably represented by subjective value,
(b) market value simply market quotation, (c) measured in
terms of constant purchasing power, (d) output value or
input value.

It seems probable that the intention of the pro-
vision is in reference to what is known as "lower-of—cost—
or-market" valuation procedure. If under such inference
the term "real value" in the provision is equated to the
term "market" in the lower-of—cost-or-market valuation pro-
cedure, the term market still needs amplification. For,
as Hendriksen states:

k
h;

48Grady, Accounting Principles, p. 412.

147

"The lower-of-cost—or-market" valuation procedure is
neither an output nor an input valuation concept but
a mixture of the two concepts. For the term "market"
may refer to either an output or an input price.

When concept is applied to inventories the term "mar-
ket," usually refers to replacement cost (an input
concept) but it may refer to selling price or net
realizablg value (output concepts) under certain con-

ditions.4
Assuming real value to mean market, and cost price
to mean historical cost, then Article 85 provides for the
recognition of reduction in value of inventories whenever
value of inventory falls below cost. The historical de-
velopment of lower-of-cost-or-market in accounting stems

from:

its emphasis on balance sheet as a report to credi-
tors. [For] without a reliable report on which to
base expectations regarding future operations, cred-
itors emphasized the lowest possible conversion value
of assets. Thus a policy of conservatism was adopted
with regard to balance sheet valuations.

With the change of emphasis to income statement,
the cost-or-market tends to state income conservatively.
For, in reducing asset valuation (inventory valuation) at
the end of the period due to fall in prices, the net in-
come for the period becomes smaller. Thus, according to
this procedure, possible losses are included and recog-
nized in current income determination, while possible

gains are deferred until time of realization (time of

sale). Hendriksen says the lower-of—cost-or-market rule

 

49
50

Hendriksen, Accounting_Theory, p. 214.
Ibid., p. 215.

148

is not an accounting concept necessarily, but rather an
eclectic one, and that it is internally inconsistent with-
out logical basis for valuation of inventories. The
lower-of—cost-or-market rule is accepted by the American
professions, but with the explicit delineation that market
is used to mean current replacement cost, with net realiz-
able value as the upper limit and net realizable value
less a normal profit margin as a lower limit.

By inference, the base of inventory valuation in
Ethiopia seems to be vauisition cost. Implicitly, the
Ethiopian Code also does allow for inventory valuation on
the lower-of-cost-or-market rule, though without explicitly
designating as to what is meant by market. Thus, an im-
provement is needed in this Article in terms of clarifying
the term "real value" and in terms of explicitly stating
the use of the word market to represent replacement cost.

Article 85 specifies that the lower-of—cost-or-
market rule is to be reflected in the accounts by setting
up of "provision for depreciation" for the reduction in
value of the inventories under consideration. We hail and
.regard this procedure of setting an allowance or provision
for inventory as proper, so long as adequate disclosure is
‘made as to the origin and classification of the account,
ioee., whether the provisions are contra-asset account or
aP£>ropriation of retained income. But, as we saw earlier,

thee Ethiopian accounting practice does not adequately

149

disclose this. We object, however, to the designation of
the provision for inventory valuation as "provisions for
depreciation”; rather we suggest the use of the term "pro-
visions for reduction in value of inventory."

The Ethiopian Code is silent as to the type of
method to be used in specific cost identification or as-
sociation. This shows the Code's reliance and emphasis on
balance sheet for everything as a determinant of real
value, while giving little attention to the income state-
ment (earning power) as a source of real value, as a mea-
sure for evaluating the efficiency of management and per-

formance of a company.

Conclusions and Recommendations

Although Ethiopia is a country of agricultural oc-
cupation, the increasing importance and role of the com-
mercial and industrial sector is seen in the composition
and growth of the gross domestic product in the table
following.

Inventory and fixed assets compose the bulk of
total assets for a great number of business enterprises
in the commercial and industrial sector (except perhaps
banks), Since these assets influence capital expenditure,
gross savings, and the economy, the existence of adequate
accounting provisions in the Code is necessary for proper

asset accounting.

150

TABLE VI-2

COMPOSITION AND GROWTH OF GROSS DOMESTIC PRODUCT IN ETHIOPIAa

 

In Millions of Eth. $ Growth
G.D.P. Origin 1954 1959 1960 Rate
Actual Actual Estimate 1954-1959

 

 

 

 

 

 

 

Agriculture 1,833 2,049 2,108 2.2%
Industry 240 422 447 11.9%
Trade, commerce & banking 208 310 329 8.3%
Transport & communication 78 130 140 10.9%
Other services 358 i 501 551 7.0%-

Total G.D.P. 2,717 ‘3,412 3,575" 4.6%

 

G. D. P. at constant 1958 prices.
Source: The Imperial Ethiopian Government. Third Five-

Year Develo ment Plan 1961- 1965, Ethiopian
CaIendar (1968769-1972773 U. C. ), Part I, Addis

Ababa, Sene 1960 Eth. C. (June, 1968 G. C. ).

 

 

Fixed Assets--Depreciation.--Depreciation is the
most important element affecting assets, capital, and in—
come. For capital cannot be maintained adequately, nor in-
come computed properly without prOper charges for expira-
tion Of service potential. Depreciation measurement is
performed for various purposes, among which income deter-
mination and balance sheet valuation were mentioned. How-
ever, depreciation for purposes of maintaining capital in—
tact is different from other concepts, and calculations

made for one do not necessarily suit the other purposes.

151

If capital maintenance is defined in real terms instead
of money terms, then changes in prices will entail con-
siderable variations in amounts written off from year to
year. If income from an asset declines rapidly in early
years, it may be appropriate to write Off most of the de-
preciation in the early years than to spread depreciation
equally over the life of the assets. Besides the time
pattern of income from asset, and the age distribution of
asset, significance Of depreciation is also affected by
the extent to which depreciation is used as a source of
saving by firms and as a tool for stimulating investments
by government.

The Ethiopian provisions for fixed asset valuation
show a misapprehension Of the significance Of depreciation.
The purpose Of depreciation in EthiOpia is not adequately
delineated, nor its potentiality realized as a tool in
economic policy. Especially in a country like Ethiopia
where the concern in economic planning for economic growth
and development is great, the economic significance of
assets and depreciation cannot be a subject of promulga-
tion without serious, precise, and adequate consideration
<>f the economic concepts and accounting relationships in-
in51ved in assets and in disclosure Of information through
financial s tatements .

The important steps in the proper consideration

Of' depreciation (fixed asset valuation) are:

152

(a) The clarification of terms used to designate
assets, fixed assets, depreciation, value, and cost, by
adequate and clear definitions that do not have doubtful
meanings. We saw how the terms used in the Ethiopian Code
fail to identify concisely the nature and character of as-
sets and fixed assets, especially with respect to proper
accounting principles and procedures.

(b) The understanding and delineation Of the pur-
poses for which depreciation measurement is directed, and
of the concepts of depreciation involved therein. It was
found that the Ethiopian Code is vague in the purpose Of
depreciation measurement, and seems to indicate confusion
of concepts of depreciation.

(c) The evaluation of the different methods of de-
preciation in respect to the concepts developed. In Ethiopia,
there is only one method of depreciation (the straight-line
method) that is known and made available through the Code.

(d) The understanding of the implications and ra-
tionale Of the different concepts and methods of deprecia-
tion in financial statements. In Ethiopia, the implica-
tions Of depreciation on income statement and balance sheet
are not adequately recognized and considered.

(e) The development of proper techniques for deter-
mining depreciation rates and estimating composite lives
of various types of assets in various industries. In

Ethiopia, we saw that the depreciation rates permitted

153

were applied to all industries indiscriminately, and the
classification of headings given for lives of asset items
(and rates of depreciation) to be too general and lacking

in specifity and breakdown as to types Of assets.

Recommendations-—Fixed Assets Valuation

1. Article 74 should be amended to reflect the
proper accounting rules and principles involved in the
term "debit balance," when it is used in reference to as-
sets. Accordingly, losses should be excluded from being
considered an asset.

2. Article 78(3) should be expanded to be Of rel-
evant meaning to the definition of fixed assets and inven-
tories, or should be eliminated. We shall consider its
possible amendment also in connection with inventories.

3. Article 78(4) should be amended to portray as-
sets that are still in use by adjusting and providing for
tflae correct depreciation rates, and to reflect assets at

'tlleir proper service potential.

4. Articles 82(1) and (2) should be amended to
give more meaningful distinction between amortization and
depreciation, and a more conceptually adequate framework
c>15 the purpose Of depreciation. At present, the Ethiopian
p-":"1=:>vision is vague as to the purpose Of depreciation. To
Iflea-five a.definite and clear purpose of depreciation measure-

ment, we recommend that the reference to "accounting

154

measurement" as pointed out in Article 82(1) be made ex-
plicitly to correspond to the concept Of depreciation mea-
surement for purposes of income determination or cost a1-
location purpose.

5. We find that the base Of depreciation in
Ethiopia which is vauisition cost, to be proper except
for the adjustments necessary for reflection of replace—
ment requirements and the procedure for correction Of over-
depreciation and underdepreciation, which are totally lack-
ing. We recommend that Articles should provide for Cor-
rection of depreciation whenever it is necessary. This
amendment is related to amendment of Article 78(4) (see
above).

6. Article 450(1) should be made more explicit
to represent the recorrection of the bases of estimate of
asset life, in contradistinction to adjustment of asset
value.

7. We recommend that some sort Of diminishing
balance write-Off method or declining balance method be
allowed as an alternative to straight-line depreciation.

8. We find that the headings given in Ethiopia
for item lives and depreciation rates of assets are too
general and lacking in specific breakdowns as to the type
Of assets and the industry they are used in. We recom-
mend the preparation Of a list of composite lives of as-

sets and related rates for various assets broken down by

155

the industry they are used in, and type of asset, similar
to that Of IRS Bulletin "F." Such list will give varying
lives to asset as used in various industries or firms, and
will provide some proper guideline for taxing authorities
and firms instead of leaving the whole matter of granting
Of higher or lower rates solely on the discretion and de-
cision of a single person who will approve or disapprove
rates without systematic and rational method. We recom-
mend further that an empirical research study on the lives
of various types of assets and their use in various indus-
tries in Ethiopia should be undertaken to determine the
composite useful lives of various assets in Ethiopia. It
was brought out to the attention of the writer that the
tax authorities in Ethiopia are in need of such informa-
tion, by the highest Official in the Income Tax Bureaus
section.

9. Article 84(1) should be amended to provide
clarification as to when is revaluation of fixed assets
permissible, and how it is accomplished.

10. We suggested that use Of depreciation as a
tool of economic policy has great potential for a country
like Ethiopia, and that it should be considered for influ-
encing needed economic policy objectives. We suggest a
discriminatory depreciation policy whereby labor intensive
industry be given higher rates than capital intensive in-

dustries.

156

Current Assets-:lnventories.--In the course of
the analysis, it was found that the Ethiopian accounting
provisions for inventories and inventory valuation fail
to realize the significance of inventories in periodic in-
come determination. The purpose of inventory valuation
in Ethiopia is directed towards balance sheet emphasis.
As a result, the earning power of a firm is not recognized
as the measure of real value, and the value of the income
statement as a measure of efficiency Of management or as
indicative of performance of business operations remains
suppressed. The proper determination Of periodic income
is important from the point Of view Of stockholders, gov-
ernment, creditors, and management. To stockholders,
periodic income is the basis for expectation Of dividends
and return on their investments. TO the government, it
is the basis for taxation and the raising of necessary
revenue for providing infrastructure services. TO the
creditors, it is a buffer which affords protection for
return of their investment. To management, it is indica-
tive of the performance of Operations. But, in the process
Of income determination, inventories are essential ingre-
dients, and thus the determination of cost of inventories
and inventory valuation becomes paramount in income deter—
mination. In Ethiopia, the emphasis on balance sheet has
undermined the inventory valuation procedure. We, there—
fore, suggest some provisions to elevate the importance

of the process of income determination.

157

Important steps in inventory valuation are:

(a) the clarification of terms used, such as "cost"
and "value," and the proper classification and description
of inventory categories. In Ethiopia, the terms used are
not explicit not only in the way they shed doubtful mean-
ings, but also in the sense of misapprehending various
purposes and concepts of valuation of inventory. The clas—
sification and description of inventories is found to be
lacking in preciseness.

(b) The understanding and clear delineation of
purpose of inventory valuation and related COncepts that
entail proper methods of inventory valuation. In Ethiopia,
it was found that the purpose of inventory valuation was
for balance sheet purposes, while the purpose Of inventory
valuation in accounting is primarily cost allocation, with
perhaps additional adjustment processes made available for
the reflection of inventory value on the balance sheet.

We suggest that the inventory valuation for Ethiopia should
consider the balance sheet purpose secondary and give pri—
mary importance to income determination purposes with
simultaneous consideration of the necessary relationship
between income statement and balance sheet.

(c) Determination Of explcit bases of valuation
and development of proper methods of cost identification.
In Ethiopia, the bases of valuation are not that explicit

or rigorously adhered to, but are implicitly provided for

158

as acquisition cost, lower—of—cost-or-market in certain
circumstances. We do not suggest any changes in this,

but we recommend that they be made more explicit. The
Ethiopian Code does not provide any guides as to the meth-
ods of cost association or even acknowledge their influ-
ence or implications in the balance sheet or income state-
ment. But this was indicated to be the result of the em-
phasis on the balance sheet, and the undermining of the

process of income determination.

Recommendations for Inventory_Valuation

1. Articles should provide for more emphasis of
the process of income determination, and for the recogni-
tion of income as basis of real value instead of balance
sheet.

2. Article 78(3) should be amended to indicate
more precisely inventories held other than for sales, or
other than those held in the process Of production Of such
goods for sale. It should specify separately investments
from other fixed assets. If not, we recommend it be
eliminated to avoid confusion.

3. Article 79 should be amended to indicate the
objective of holding inventories and to consider inventor-
ies as related to activities of normal business Operations,
as Opposed to the inventories held for purposes other than

sales. Notice this is related to Article 78(3), and a

159

proper correction in any one of them can bring about a
solution to the desired Objective.

4. Article 84(2) and 84(5) should be more spe-
cific to clarify the bases of valuation, by explicitly
defining the use of the term 2235 and cost price.

5. Articles should provide for the recognition
of various cost association methods and their implications
on the balance sheet and income statement.

6. Amend Article 85 to clarify use Of the term
real value, and specify more precisely the rule Of lower-
Of-cost-Or-market. This Article should also provide for
more accurate and appropriate accounting procedures in
making "allowances for reduction in value of inventory."

7. Over all, the Articles should provide for
more specific clarity Of terminologies used, and for more
adequate and better classification and description of in-
ventory category.

8. Attempt should be made to distinguish between
those methods that are to be followed for tax reporting
purposes and those methods to be followed for financial

reporting purposes.

CHAPTER VII

AUDITING AND PROFESSIONAL ACCOUNTANCY

IN ETHIOPIA

Introduction

This chapter will involve a discussion of the de—
velopment of a public accounting profession in Ethiopia
and its relation to the Commercial Code.

First, there will be a general review of the rela-
tionships between accounting, auditing, and law, as a step
toward understanding the problems of a public accounting
profession.

Secondly, the public accounting professions in
various countries will be reviewed and their historical
development examined.

Thirdly, the auditing provisions of the Commercial
Code of Ethiopia and auditing practices in Ethiopia will
be examined and evaluated in the context of the principles
and practices Of the public accounting professions in
various advanced countries.

Fourthly, the various attempts made to regulate
public accounting in Ethiopia will be reviewed and eval-

uated.

160

161

Fifth, recommendations and corrections will be
suggested for identified Code and professional defici-
cies and the establishment of a public accounting pro-

fession in Ethiopia.

Accounting and Law
It is a recognized fact that accounting is greatly
'influenced by law. Goldberg says there is nothing unnat-
ural about this, for it only shows that accounting is a
social activity and, as such, must Operate in a legal en-
vironment.1 However, the relationship between law and ac-
counting is much more complex than what appears at the
surface.

Accounting is influenced by law through the tax
laws, company laws (particularly the development Of le-
gally limited liability companies), and legislation re-
garding bankruptcy. Dohr describes how

legal classification known as "accounting" involves
situations in which one person having custody or con-
trol of the property Of another must make a statement
Of his transactions to satisfy his responsibility to
the latter . . . Legal duty of an agent to "account"
to his principal; legal duties Of partners to "account"
to each other; and the legal duty of a trustee to "ac-
count" to the beneficiary.

Viewed from the point Of view Of this influence of

law, and the requirements laid down by law, the accounting

__
fi—

lLouis Goldberg, An Inquiry into the Nature Of
_Accountipg (American Accounting Association, 1965), p. 9.

2J. L. Dohr, et a1, Accountin and the Law (3rd ed.,
Brooklyn: The Foundation Press, Inc.,—1964f, p.77.

162

objective becomes solely to carry out the procedures in
accordance with legal requirements in all areas which such
requirements are laid down by law. This interpretation
suggests accounting to be subjugated to the legal require—
ments, and to have no say of its own except to carry out
what is laid by law. However, accounting (per se) as con-
cerned with financial affairs deals not only with fiduciary
relationships Of two or more persons as indicated above
in Dohr, but also deals with a single individual person's
affairs, and above all involves economic considerations in
addition to legal.
Hence it is quite erroneous for anybody to believe or
aver . . . that accounting in applying their procedures
are no better than they are required by law, or that
[accountants] are merely translating a purely legal
environment into accounting language. The fact is
that while [accountants] have, of necessity, to carry
out procedures in accordance with legal requirements
in all those areas in which such requirements are
laid down, the efforts of many accountants and of pro-
fessional accounting bodies have pointed the way to
legislation by providing examples in practice of do-
ing something more and something better than the
statutory or regulatory minimum.
If such is the case, then accounting involves more than
carrying out legal procedures. Thus, accounting matters
should not be the subject of promulgation from a purely
legal viewpoint only without adequate consideration of
economic, social, and other significant dimensions. Ex-

amples where accounting has had a say or pointed out the

way in accounting legislation are found in the countries

-____.

3Goldberg, Nature of Accounting, p. 13.

163

in which an accounting profession is well developed. For
instance, in the United Kingdom, accounting practices
which have been developed beyond existing legal require-
ments by members of the Chartered Accountants in England
and Wales, have been incorporated as mandatory in subse-
quent legislation. In the United States, congressional
committees make it a point to invite accounting organiza-
tions to submit in advance their views regarding proposed
laws affecting taxation and other accounting matters.4
Viewed in this manner, law comes to be a medium for Ob-
serving and implementing proper accounting concepts and
principles, rather than being a dictator of what account-
ing shall be.

The corollary of the above propositions leads to
the debate: Should accounting be able to legislate for
itself, or law legislate for accounting? If accounting is
to legislate for itself, first it should have an organized
body Of professionals which has legal sanctions for en-
forcing its standards and pronouncements. The development
Of an authoritative accounting professional organization
has been a long, difficult process; but today there is a
recognition Of an accounting profession. But the legal
sanction it has or it should have is still debatable and

far from being firmly establiShed. In fact, it is the

 

4mm. , p. 14.

164

tardiness in the development and appearance Of the account-
ing profession that has made the influence Of law much
greater and important in accounting matters than the in-
fluence of accounting on law.

The question, however, is not a matter Of simply
this or that, for there are areas in which accounting and
law mesh, and where both may need and complement each
other, or where at times their intent differs. It is dif-
ficult to separate succinctly the spheres of influence of
each. As Hills states, "Common law and common accounting
are in a sense companionate functionaries in the orderly
housekeeping Of business and finance."5

Thus, the heart of the problem is that of balanc-
ing the influence of one with that of the other. It is
Obvious that neither the law nor the courts are determi-
nants of "what are or are not correct or generally accepted
accounting principles," nor should they be.6 But the law
does pose certain minimum accounting standards or proce-
dures when dealing with contractual obligations and com-
mercial contracts. In dealing with such legislation and
interpretation Of "contractual language," particularly
where words used are intended to have economic and ac-

counting meanings, the law (or the courts) must consider

rr

5George Hills, The Law of Accountin and Financial
Statements (Boston: LitEIe, Brown and Co., 1957), p. 3.
GIbid. , p. 9.

 

165

and consult accounting principles and proper accounting
procedures and practices, which principles and procedures
are to be developed and established by accounting profes-
sions, not by the law or the courts. This is where the
necessity Of an accounting profession comes, and the es—
sential influence Of accounting on law begins to have a
place and role to play. Up to the time Of the appearance
and mature development Of accounting professions in Amer-
ica and other economically advanced countries, the influ-
ence of law on accounting has been much greater than that
of accounting on law. But the situation is beginning to
reverse itself with the maturity and development Of ac-
counting professions, as was exemplified earlier. Thus,
the most important step in the proper relationship Of law
and accounting is the building up and development of qual-
ified accounting professionals.

In underdeveloped countries where the body Of
qualified accounting professionals has not evolved yet,
the influence of accounting on law is expected to remain
non-existent or little appreciated. The lack of an ac-
counting profession thus reduces accounting matters to
compliance with legal procedures, and legal procedure re-
mains paramount in accounting subject matter, accounting

intent and concept.

166

Accounting and Auditipg
Accounting is constructive in character and is
performed by or for management. As mentioned previously,
accounting involves:

1. The primary Objective, that of providing organ-
ized historical data or the recording Of business
transactions;

2. The intermediate Objective, that Of constructing
financial statements by summarizing, abstracting,
and reporting results of business Operations from
the recorded data.

3. The ultimate Objective, that of analyzing and in-
terpreting financial statements and other statis-
tical data to aid in the use of decision making.
Auditing, on the other hand, is analytical in char-

acter and is carried out independently of management in
order to evaluate management performance. TO the extent
that such auditing is performed by an independent analyst,
the term professional public accountant or certified pub-
lic accountant is used generally to designate public audi-
tor or external auditor, in contradistinction tO the lgpgp—
‘pgl accouptant who works as a "constructionalist."7 In

using the term auditor, distinctions are also made between

7Arthur W. Holmes, Auditin : Princi les and
Procedure (5th ed.; Homewooa, III.: Richard D. Irwin,

EC., 1959), pp. 5-6.

167

internal and external auditor, the main difference being
in state of independence.

The beginning of certified public accountancy and
of the requirements for it has its origins in the concept
of the independent audit. The function of a certified
public accountant used to be limited to the scope of in-
dependent auditing. With the growth and development of
the corporate entity concept, dispersion of ownership, and
many external claimants, the role of external accountant
is still that of independent auditor--where reliance upon
representation exists. But the availability of his mul-
tiple facets of expertise has led to extension of the cer-
tified public accountant's role to a much wider definition
of "accounting practice." Today it is recognized by many
accounting writers that accounting practice includes: fi-
nancial reporting to investors, external reporting for
various purposes, internal reporting, tax returns, and
practices, auditing, and even management services.

Holmes recognizes the following principal types
of services as performed by public accountancy in general:

1. Auditing--which is the objective examination of
records, accompanied by the expression of compe-
tent opinion concerning the financial condition
and operating results of a client's business.

2. Assistance—-which varies from indicating account-

ing entries, installing accounting systems,

168

changing accounting procedures, preparing tax
returns, and assisting internal control.

3. Investigation service-~for such matters as the
purchases and sale of a business, sales analyses,
and the preparation of budgets.

4. Representation services--which arise when a cli—
ent requires representation in tax matters, secu-
rity registration, contract termination.

5. Management advisory_services—-consisting of ser-
vices to officers and boards of directors on mat-
ters of accounting, finance, business policies,
organization procedures, and many other phases of

business conduct and operations.8

Independent Auditing

Independent auditing is the critical and systematic
examination of: (1) internal control; (2) statements, rec-
ords, accounting transactions already prepared by manage-
ment; and (3) the other financial and legal records and
documents of a business enterprise.9

The purpose of an audit is to report independently
on the financial conditions and operations; to have the in-
dependent accountant act as an advisor to and representa-

tive of the owners and management; and to discover errors

 

8Ibid., p. 6.

91bid. , p. 1.

169

and irregularities. For the audit to be performed ade-
quately and for the opinion of the auditor to have relia-
bility, a professional competence is necessary. The per-
son auditing must be capable of rendering professionally
expert and impartial opinion.

This required capability implies the need for
availability of auditing standards, principles, procedures,
and the existence of necessary qualifying elements for a
profession. In terms of establishing standards for audit-
ing, the understanding and recognition of accounting con-
cepts, principles and procedures is essential. For audit-
ing involves a certain practice of accounting and, as
such, is "interrelated with the application of accounting
principles . . . without a body of fundamental accounting
principles, auditing principles are not possible."10 There
must be a body of accounting professionals in order to de—
velop and establish accounting concepts, principles and
procedures. Thus, again the building and development of
a profession becomes a primary element in the development
and establishment of auditing standards, principles and

procedures.

 

10Ibid., pp. 8-9. Holmes lists the concepts of
disclosure:_33hsistency, materiality, and conservatism
as having emerged over the years in the related fields
of accounting principle application and auditing.

170

Auditing Standards

In America, the general auditing standards and
procedures, with respect to examination of financial state-
ments by independent public accountants, are set forth by
the Committee on Auditing Procedure of the AICPA in Bulle-
tin No. 33. The overall general responsibility of the
auditor is to express his opinion concerning the financial
statements and to state clearly such explanations, ampli-
fications, disagreements, or disapproval as deems appro—

priate.11

Specifically, it is stated that the responsibil-
ity of the auditor is:

1. To express his opinion on the fairness with which
the financial statements present the financial
position and results of operation;

2. To state whether his examination has been made
with generally accepted auditing standards;

3. To state whether financial statements are pre-
sented in conformity with generally accepted ac-
counting principles, and whether the principles
had been applied consistently in preparation of
financial statement of current period in relation
to the preceding one.

The questions relating to the maintenance of an auditor's

independence in accepting responsibility and securing

11AICPA, Committee on Accounting Procedure and Ac-
counting Terminology, Accountin Research and Terminology
Bulletins (Final ed.; NEw YorE: AICPA, 1961), p. 1U.

171

necessary integrity in auditing and expression of opinion
are governed by the AICPA Code of Professional Ethics.

In the performance of an audit, the Committee has
set for the auditor three main parts of auditing standards:
(1) general standards to be observed, (2) standards to be
performed in field work, (3) standards to be met in re-
porting.

In the expression of auditors' opinions, the Amer—
ican practice recognizes the short-form audit report where
the auditor can express:

1. Either unqualified opinion-~where financial state-
ments are deemed to present fairly the financial
position or results of operations;

2. 0r qualified opinion-~where he finds qualifying
exceptions that may affect financial position or
results of operations in a way that is not cur-
rently presented in financial statements;

3. 0r adverse 9pinion--where financial statements do
not present fairly financial position or results
of operations;

4. 0r disclaimer_of_opinion—-where there is insuffi-
cient evidential matter to form an opinion on the

fairness of the financial statements as a whole.

172

Public Accounting Profession

In the preceding discussion, it was indicated that
the development of the accounting profession is necessary
for setting the proper relationship between law and ac-
counting, and upgrading the role of accounting in law. It
was also found that the establishment of an accounting
profession was a necessity for the proper development of
the accounting principle, since it is the responsibility
of the accounting profession to develop accounting prin-
ciples that are needed for auditing standards and profes-
sional competency. Now, we shall attempt to discuss some
of the requisites of a profession. In discussing the
building of the accounting profession, we will be concerned
with accounting as referring to general accounting prac-
tice and not necessarily only to auditing. Then, we shall
examing the accounting professions in America, Canada, Italy,

France, and Ethiopia.

Requisites of a Profession

There are certain identifiable characteristics that
are required for a profession:

1. A profession must have or possess a body of
specialized knowledge. This is, in fact, what is implied
in the primary meaning of a profession. Webster defines a
profession as "a calling requiring specialized knowledge

and often long and intensive academic preparation." With

173

the existence of a body of specialized knowledge, then, a
profession involves a recognized formal educational pro-
cess and training program for acquisition of knowledge of
the profession.

2. A profession must have a standard of profes—
sional qualification for admissions. This standard is a
corollary of point 1 above, and consists of examinations,
other experience, and educational qualifications.

3. A profession must have standards of conduct
which include ethical standards as well as some means of
compliance and enforcement of such conduct. Some of the
important items considered in rules of conduct relate to:
(a) practice of public accounting by individual and cor—
poration, (b) soliciting of clients, (c) fees based on re-
sults of professional service, (d) professional secrecy,
and (e) competitive bidding.

4. A profession must have a recognized status.

But status is something given by society. As Carey says,12
a profession is a creature of society, and to have status
the profession's services must be wanted and needed. The
profession must convince society that its services are

necessary, reliable, and accomplishing a useful function.

Thus, it is a two-way road and a profession cannot attain

¥¥

12JOhn L. Carey, The CPA Plans for the Future
(New York: AICPA, 1965).

174

status without working for it and proving itself. This
brings us to the last characteristic of a profession,
that of accepting social responsibility.

5. A profession must accept social responsibil-
ity. A profession must be endowed with public interest,
such as committing itself to improve and search for bet-
ter means of meeting and serving public needs.

The complete fulfillment of these characteristics
depends on the maturity and stage of development of the
profession itself. In reality, we can find various pro-
fessions having fulfilled these characteristics in vari-
ous ways, but no profession ever fulfills all of these

characteristics at the same time right from the start.

The Agcounting Profession in Americai?

In America, the term "Certified Public Accountant"
is conferred to qualified accountants. The requirements
for a person to become a CPA and practice public account-
ing depend on each state's requirements. Each state has
jurisdiction in regulating and governing the practice of
accountancy and issuance of CPA and certificates are
granted by Boards of Accountancy of the states.

Typically, the professional requirements for cer-

tification in America include:

 

13AICPA, Committee on International Relations,
Professional Accountin in 25 Countries (New York: AICPA,
19647, chapter on the United States, pp. 6-20.

1.

3.

4.

175

A minimum age of 21, appropriate moral character,
and citizenship.

Fulfillment of minimum educational requirements.
This consists of satisfactory completion of a high
school course approved by the state's education
department or its equivalent, and graduation from
college after completing a curriculum in account-
ing which has been set by the state education de-
partment. The curriculum includes at least 24
semester hours in accounting, 6 semester hours in
law, 6 semester hours in finance, and 6 semester
hours in economics. Fewer hours are approved at
graduate level or for persons who have graduated
from college and have the equivalent college train-
ing in accountancy as determined by the commis-
sioner of education, or for persons who have 15
years of experience in practice of public account-
ing and satisfying the Board of Examiners.

A successful passing of the uniform CPA examina-
tion, which consists of auditing problems, ac-
counting problems, theory of accounting, and
commercial law.

A required three years of experience in diversi-
fied application of auditing procedures in prac-
tice of public accounting, either on one's own as

a member of a partnership or as an employee on

176

the professional staff engaged in the practice of

public accounting. The experience required from

state to state ranges from two to four years.

The AICPA is a national professional society. There
are also state professional societies distinct and separate
from the Institute. Membership is limited to those who
possess a CPA certificate, and have a minimum of two years
of public accounting practice or its equivalent. The In-
stitute prepares the uniform CPA‘examination and provides
an advisory grading service for the state boards of ac-
countancy. It is involved in fostering research, publica-
tions of matters relating to accounting, establishment of
ethical and accounting and auditing standards, and develop-
ment of accounting principles and procedures.

In America, licenses used to be issued to so-called
"public accountants" based on broad requirements and ex-
tent of the applicant's practice in accounting. These re—
quirements are not as strict as the AICPA's, for they
arose out of licensing needs before the develOpment and
adoption of adequate professional requirements, and thus
the licenses are not strictly dependent on successful com-
pletion of professional examination or specified education.
At present, only a few states issue such licenses of "pub—
lic accountant," and many have stipulated dates after which
issuance of "public accountant" licenses will cease. Li-

censing is a result of legislation which requires registration

177

and should be based on prOper professional requirements.
But in the absence of well-developed professional require-
ments, some type of legislation is necessary to prevent
accountants from practicing without registration.

The AICPA has an adopted code of professional
Ethics in order to maintain high standards of technical
competence, morality, and integrity on the public account—
ing profession. It has statements and pronouncements on
auditing procedures and standards. The various committees
and boards of the AICPA have been engaged in development
of accounting principles through issuance of bulletins,
statements, opinions, and recommendations. In addition,
the American Accounting Association, the U. S. Securities
and Exchange Commission, the New York Stock Exchange Com—
mission, the Internal Revenue Service of the U. S. Trea-
sury Department, have all had major influences in the de—
velopment and adoption of accounting principles. Gener-
ally accepted accounting principles are now required by
generally accepted accounting standards to be referred to
in an independent auditor's reporting. Although the gen-
erally accepted accounting principles are not codified by
professional organizations or government agency, they are
generally accepted and the business financial community
and members of the accounting profession recognize them

and use them in financial statements of enterprise.

178

The American Accounting Association is a society
of accounting professionals which includes accounting edu—
cators at college or university level as well as many ac-
counting professionals. It has been the most important
backbone in directing and pointing to the way as to what
accounting principles should be. It has been responsible
for the development of accounting theory, accounting
education, and in producing most of the theoretical ac—
counting literature.

The educational preparation for accounting is
offered by numerous colleges and universities. These
colleges and universities offer day and evening classes
with courses that are deemed not only to help the individ-
ual prepare to pass the uniform accounting examination,
but also to earn college credits.

In America, legislation involving accounting is
an affair of state law rather than federal law, because
of the sovereignty of the state. The AICPA has a recom-
mended form of Regulatory Public Accounting Bill which
is to serve as a guide in promulgating £535 for regulat-
ing the practice of public accounting, creating state
boards of accountancy and prescribing its powers and du-
ties, and for providing penalties for violations. The
AICPA has also a recommended bill for adoption by various
states to permit the registration of foreign accountants

to practice in the United States.

179

Accounting Profession in Canada14

The title "Chartered Accountant" is issued by each
provincial Institute of Chartered Accountants, to an ac-
countant who has fulfilled the following requirements:

1. A person must be of age 21 or more, be of good
moral character, and a resident.
2. A candidate must qualify for university entrance

(or be a high school graduate), and completed pre-

scribed course of training during a 5-year period

of service in the office of a chartered accountant.

During the five-year period, he must pass a primary

examination at the end of his first year of train-

 

ing, an intermediate examination at the end of his

third year, and a final examination at the end of

his fifth year

3. Alternatively, a candidate can have a university
degree and then complete a reduced term of service
and course of studies. The B.A. or B.Sc. usually
reduces the S-year required term to a 4-year term,
while a B.Com. or Licentiate may reduce the term
of service to 2 years or may even eliminate the
course of study required.

Although legislation involving accountants is a
{Irovincial responsibility, the intermediate and final ex-
iflninations are prepared and administered by the Canadian

_jE:stitute of Chartered Achuntants, a central authorityy

léi2$9., chapter on Canada, pp. 4-13.

 

180

representing all the provincial institutes of chartered
accountants.

The practice of chartered accountants is similar
to that of the united States and includes examination
of financial statements leading to the expression of an
opinion thereon, preparation of and advice with respect
to tax returns, and various types of services to manage-
ment.

The Federal Companies Act as well as the Provin-
cial Companies Acts require auditors to be appointed by
shareholders and to report to them upon the annual finan—
cial statements submitted by directors. Most companies,
including publicly owned companies, appoint chartered ac-
countants, though there is no specific provision that an
auditor must be a chartered accountant.

There is also a Certified Public Accountants'
Association in Ontario which issues certificates to mem-
bers. The requirements for certification are similar to
that of the chartered accountants except that the CPA re-
quires a thesis at the end of five years' academic study
in accounting, and experience in public accounting is
needed.

Licenses are granted to: (a) any chartered ac-
countant, (b) persons previously licensed under the old

Act before strict standards came into effect, (c) persons

181

applying and satisfying the Public Accountants' Council as
to their qualifications and experience to practice public
accounting.

As we saw, there are at least two organizations of
accounting professions in Canada-~the Institute of Char-
tered Accountants and the Certified Public Accountants'
Association. The Canadian Institute of Chartered Accoun-
tants coordinates activities of national interest and mem-
bership, publishes monthly journals, administers uniform
examinations, undertakes research, issues bulletins on
current operations, develops courses and programs for con-
tinuing education, and maintains liaison with the federal
legislation.

The Institute of Chartered Accountants has an
adopted rules of conduct and uniform code of ethids. Au-
diting standards are expressed in specifying the require-
ments for the independence of an auditor and standards of
reporting which are similar to that of the united States.
Accounting principles are enunciated in bulletins of the
Institute's Committee on Accounting and Auditing Research,

and published in magazines and textbooks.

Accounting Profession in the United Kingdom15

"The practice of accounting as a profession as

 

known today was born in the U.K."16 Although the rise of
izlbid., chapter on U. K., pp. 6-16.

Ibid., p. 6.

182

professional accountants came from the account's work in
insolvency cases, soon the demand for his services was
extended to include accounting and auditing work. There
are four main accounting societies in the United Kingdom:
1. The Institute of Chartered Accountants of England
and Wales.
2. The Institute of Chartered Accountants of Scotland.
3. The Institute of Chartered Accountants of Ireland.
4. The Institute of Certified and Corporate
Accountants.
Admission to and control over the activities of the members
of these societies is solely in the hands of the societies
themselves and not in the government or in any educational
institutions. The titlesof Fellow'of Chartered Accountant
(F.C.A.) and Associate of Chartered Accountant (A.C.A.)
are used by members of the Institute of England and Wales
and Ireland.

The requirements for membership in these societies
(as exemplified by the Institute of Chartered Accountants
of England and Wales) are:

1. Must be of age 16 or above, and possess a minimum
general education requirements. Citizenship is
not required.

2. Five years' apprenticeship_system which is reduced
to three years for graduates of United Kingdom

universities, or four years for those who have

183

specified educational standard equivalent to those
candidates in three to five years. Candidates are
to work in the office of chartered accountants sub-
ject to the rules and supervision of the Institute.
3. In addition to the practical training (experience
in accounting practice with a member of the Char—
tered Accountant Institute who is still in public
practice), the candidate or the "articled clerk"
must pass certain examinations. After one or two
years in apprenticeship (whichever is applicable
according to point 2 above), the candidate must
sit for intermediate examinations covering ac-
counting, auditing, taxation, elementary cost ac-
counting, law, and general commercial knowledge.

Then, before the completion of his "articled ser-

vice," the candidate must pass final examinations

which include advanced accounting, auditing, taxa-
tion, general financial knowledge, cost accounting,
and English law relating to companies' liquida-
tions, receivership, contracts, sales, bankruptcy,
and trusts.

The societies arrange for some lectures on account-
ing subjects, and some class instruction, but it is left
up to the candidate mostly to supplement his knowledge in
evening and daytime classes offered by technical and com-

mercial colleges of private institutions. Candidates who

184

are attending the "university scheme," which provides
courses of two—and-three-quarter years, are exempted from
the intermediate examination, but are required to pass
the final exam. .

In the United Kingdom, the chartered accountant
examines and reports upon financial statements of enter—
prises, advises clients on tax matters, prepares returns,
and can exchange opinions on proposed changes in returns
with the Inspector of Taxes, can act as liquidator or re-
ceiver of a company, or trustee in bankruptcy, appraiser
of shares, and provides also management services. Under
the Company Act, every company is required to appoint an
auditor who is a member of an accountancy body that is
duly recognized by the Board of Trade, or individually
authorized by the Board as having similar qualifications
obtained abroad or having experience specified in the
Company Act. The contents of the auditor's report upon
the balance sheet and income statement are specified in
the Ninth Schedule of the Company Act. Auditors are
supposed to state in a condensed form: (a) whether they
have received all information and explanations which they
require; (b) whether proper books and accounts have been
kept by the company; (c) whether financial statements are
in agreement with the books of account; (d) whether in

their opinion, financial statements give a true and fair

185

view of the state of affairs (loss) of the company; and
(e) whether accounts comply with the Company Act of 1948.

Notice that in the United Kingdom there are no
requirements for reference to adherence to generally ac-
cepted accounting principles.

The Institute of Chartered Accountants of England
and Wales has a disciplinary committee for culprit members
and can suspend or revoke membership. It issues recommen-
dations on accounting principles and a series of direc-
tives on professional conduct. It also publishes monthly
magazines and special statements on general principles of
auditing similar to that of America's "Auditing Standards

and Procedures."

Accounting Profession in France17

There are two main classes of professional ac-
countants in France created by a Decreeledesigned to as-
sure the honor and independence of the accounting profes-
sion. These are:

l. The expert comptable,

2. Comptable agree.

In addition, there are the Commissaires aux Comptes, who

are solely responsible for audit function.

 

17Ibid., chapter on France, pp. 8-13.

” 18L'Ordre des Ex erts Com table et des Com table
‘Agrees. 1 ep e er . 0 ca ons were ssue

n 30

186

The Expert Comptable
Expert Comptable is defined by the decree as a
technician who engages in the "usual profession of or-
ganizing, verifying, appraising and correcting accounts
and accounting of every nature." It also states he may
"analyze by means of accounting technique, the position
and functioning of enterprises under their different eco-
nomic, legal and financial aspects . . . reports on his
verifications, inclusions and suggestions."
The requirements to be expert comptable are:
1. Must be 25 years of age, and be of good character
and French citizen.
2. Must obtained authorized ”Diplome d'expertise
comptable," diploma of expertise in accounting.
To have this diploma, a person
A. Must complete three years of apprenticeship as
an articled clerk. To be admitted as an ar-
ticled clerk, one must have already a diploma
of higher accounting studies. "Etudes comptable
superieures" and be nineteen.
B. Must obtain the following certificates:
(1) "Le Certificat Supérieur de Révision Comp-
table"--higher auditing certificate;
(2) One of the following certificates:
"Le Certificat supérieur juridique et

fiscal"--certificate of advanced law and
tax law;

187

"Le certificat supérieur d'organization et
de gestion des enterprises"--higher cer-
tificate of business organization and man-
agement.

fLe certificat su érieur de relations
economiques Europeanes et Internationales"
--certificate in advanced study of European
and international economic relations.

3. Must pass an oral examination upon a thesis sub-
mitted within five years following receipt of
second certificate.

These are supposed to be improvements and substitutes to
the previous long, tedious process of written and oral
preliminary examinations of Part I and Part II after two
years of apprenticeship, and written and oral final exam-
ination upon completion of the third year of apprentice-
ship. The expert comptable mostly functions as a business
advisor from management and controllership standpoint,

and not as an independent auditor. Mainly, he advises
clients with respect to accounting and reporting methods
which result in minimizing tax liabilities. His work is
limited to areas specifically authorized by management.
Each member is also limited to hiring of no more than five

salaried accountants by order of the decree, which impedes

the development of experts on a large scale.

Comptable Agree
Comptable Agree is defined by the decree as a tech-

nician who engages in the "usual profession of keeping,

188

centralising, opening, closing, and supervising accounting
and accounts of every nature." The requirements for Comp-
table Agréé are:

1. Must be 25 years of age, of good character and
French citizen.

2. Must have a diploma of "Etudes Comptables Supe—
rieurs"—-higher accounting studies or advanced
accounting studies issued by the National Minister
of Education, which indicates the passing of ac-
counting, economic, and legal studies.

3. Must have two years' practical professional ac-
counting experience judged to be sufficient by
the Council of the Order.

The work of the Comptable Agree is usually compared to
that of a "bookkeeper" or an accountant in commerce and

industry.

Commissaire aux Comptes—-Statutory Examiner

The Commissaire aux Comptes is the official re-
sponsible for independent audit functions. The French
law provides that all companies must have their accounts
examined by one or more Commissaire aux Comptes who are
appointed by stockholders. Although there is a diploma
of Commissaire aux Comptes given for passing some quali-
fying examinations in bookkeeping, accounting, mercantile

law and taxation, the requirements are less strict than

189

those for expert comptable. In addition, possession of a
diploma is not a prerequisite for becoming a Commissaire
aux Comptes, and people with various qualifications can
become a member.

As far as the work of the Commissaire aux Comptes
is concerned, there is no standard form of report, though
the examiners submit two reports--one general report and
the other a special report.

The organization of accountants in France is based
on the "L'Ordre des Experts Comptable et des Comptable
Agrees," and is formalized by the decree which governs its
administration and discipline. An important feature of
the French organization of accountants is that it has
strong ties and influence with the government. In addi-
tion, there are other organizations of accountants whose
purposes and members are more specialized.

The Council of the Order has an adopted Code of
Ethics, "Devoirs Professionels." The French accounting
profession does not have a statement of auditing standards,
but has some publications on laws governing the appointment
of commissaires, on his independence, on technical aspects
of his duty, and on normal procedures of accountants' work.
The council is at present attempting to provide discussion
for adoption of official guidebook to practitioners sim-
ilar to that of the United Kingdom and the United States.

There is a standard accounting system under the name "Plan

190

Comptable General," which was developed by the government-

established Commission for Accounting Standardization.

Accounting Profession in Italy19

Unlike in the United Kingdom and the United States,
the accounting profession in Italy is governed by regula-
tions of the Ministry of Justice, which has established
broadly the purposes, duties, fees to be charged, and some
rules regarding conduct of the profession. However, there
are no auditing standards or methods included in these

regulations.

Collegio Sindacale (The Board of Auditors)

The Civil Code provides that a corporation must
have a board of auditors to control management, audit ac-
counts, and check compliance with the provisions of the
Code in order to safeguard stockholders interests.

The board of auditors is composed of three to five
auditors elected for a period of three years. The corpor-
ation must elect at least one of the auditors from the
Official List of Auditorg. Relatives of the directors by
blood or marriage within the fourth degree and persons
connected with the corporation or its subsidiary, by a

continuous relationship involving remunerated work (employee

 

19AICPA, Accounting_in 25 Countries, chapter on

Italy, pp. 6-9.

191

status) are not eligible for appointment as auditors. The
auditors "must attend meetings of board of directors and
shareholders and are jointly liable with the directors,
for the latter's acts and ommissions whenever injury would
not have occurred if the auditors had exercised due vigi-
lance."20 Typically, the report of the board of auditors

reads as follows:

The balance sheet and income statement at which
the Board of Directors presents to you, closes with a
profit of Lire and appears to us, following a
close examination, prepared on the basis of the ac-
counting results and in accordance with legal provi-
sions, by which the criteria for the valuation of the
assets have been observed.

In view of the fact that the accounting, the records,
the cash and the securities, on the basis of our peri-
odic examination, have been found to be kept correctly,
we conclude, recommending for your approval, the bal-
ance sheet, the income statement and the prOposal of
the Board of Directors to distribute the profit.
We thank you for the faith with which you have hon-
oured us.
Ruolo die Revisiori Uficiali dei Conti
(Official Register of Auditors)
For a person to qualify for such registration, the
requirements are:
1. Must be of Italian nationality;
2. Must serve for at least five years as an active

statutory auditor or as a director, administra—

tive or accounting officer (dirigente) of a

 

ZOIbid., p. 6.

192

limited company having a capital stock of not less
than Lire 50,000, or to have satisfactorily per-
formed other similar duties.

The term of five years is reduced to three years in the
case of persons previously included for at least five
years in the roll of the Dottori Commerciali (Doctors of
Commerce), and to four years in the case of persons in-
cluded for at least six years in the roll of Regioneri e
Periti Commerciali. In the cases where a person is not
a member of the roll of Dottori or of Ragionieri, the
above period of five years is increased to ten years.

We must note that the persons in this official
list are not required to have professional experience in
the examination and reporting upon financial statements
(as in auditing) in the sense of independent audit work
as understood in the U.S. and U.K.

Members whose names appear on the official list
of auditors are assumed to be capable of giving good com-
mercial, legal, or tax advice to management. But they
are not expected to make examination of financial state-
ments, nor give an expert opinion on the fairness of
financial position.

There are two categories of professional accoun-

tants in Italy which will be discussed below:

193

Dottore Commercialisti (Doctor
of Commerce

This title is obtained after admission to member-
ship in the Ordine dei Dottori Commercialisti (Order of
Doctors of Commerce). The membership in the Order is
available to graduates of a four-year university course
which leads to a doctor's degree of Economic and Commer-
cial Science. The courses covered are economics, ac-
counting, banking, and public, civic, and commercial law.

The university graduate is supposed to have com—
pleted also a doctoral thesis. To become a member of the
Order, a candidate must pass a special examination after
completing the university studies. There are no require-
ments for practical experience for admission to the Order.
Most of the persons in the dottore degree are graduates
of the Ragionieri (accountant) schools and thus have the
Ragioniere's diploma already.

The Order (Ordine dei Dottori Commercialista) has
a national society which is divided into local societies.
The Order itself comprises of two categories: (a) those
in public practice who may thus also register in the
"official list"; (2) those who are not in public practice.

The members of the Ordine dei Dottori Commercial-
isti deal with:

1. Administration and liquidation of business concerns,

of personal estates, and of specific assets;

194

2. Appraisals and surveys and technical advice;

3. Administrative inspections and audits;

4. Verification of and all other inquiries concern-
ing the reliability of financial statements, of
accounting entries, and of all accounting docu-
ments of business concerns;

5. Settlement and liquidation of damages;

6. Statutory audits of trading companies;

7. Tax advice and representation of clients before
tax authorities.

Ragioniere e Perito Commerciale
(Accountant and Commercial Expert)

To obtain a diploma of Ragioniere e Perito Com-
merciale, a student must complete: (a) five years of ele-
mentary school; (b) three years of junior high school;
(c) must graduate from a five-year business high school
(included are courses in accounting, mathematics, busi-
ness law, etc., but not auditing); and (d) must pass also
a government-controlled examination.

The possession of this diploma does not entitle
the holder to membership in the Collegio dei Ragionieri e
Perito Commerciali (College of Accountants and Commercial
Experts). The collegio, which is a professional society,
is organized similar to that Order of Dottori Commercial-

isti, with localcxfllegi having their councils which elect

195

the National Council. Qualifications required for member-
ship in the Collegio dei Ragionieri are:

1. Italian citizenship;

2. Diploma as a Ragioniere;

3. Two years practical experience in the office of a
member of the Collegio dei Ragionieri, or of a
member of the Ordine dei Dottori Commercialisti
in public practice;

4. Successful completion of a state-controlled written
and oral examination concerning the provisions and
procedures contained in the Civil Code, and on tax
accounting problems.

Principal activities of the Collegio dei Ragionieri
are: (l) administration of the admission of new members
including verification of prerequisites and the conducting.
of examinations; (2) enforcement of laws limiting the pro-
fessional activities of members and reporting infringements
by non-members of activities reserved only for members; (3)
acting as lobbyists for the profession, and (4) ruling on
members' fees disputed by clients.

A member of the Ragionieri e Periti Commerciali
body is empowered to undertake:

1. Administration and liquidation of business con-
cerns, of personal estates, and of specific assets;

2. Appraisals, surveys, and technical advice;

3. Auditing of books of account of business concerns

196

and all inquiries concerning financial statements,

accounts, accounting entries, and accounting docu-

ments of business concerns;

4. Settlement and liquidation of marine losses, statu-
tory audits of trading companies and other bodies;

5. Distribution of personal estates, preparation of
the relative projects and plans of liquidation in
judicial uses;

6. Preparation of systems of account for private and
public concerns, reorganization of accounting sys-
tems;

7. Calculation of production costs for industrial
enterprise and preparation of data on accounting
and administrative matters;

8. Tax advice and representing clients before tax.

As can be seen, there is little distinction between
the activities of the dottore and ragioniere. In fact, in
practice, it is said there is no difference at all.

In general, in Italy, there is no code of ethics.
There are no auditing standards and no recommended account-
ing principles. The concept of independent audit is not
well developed. In fact, reference to the concept of inde-
pendence is only found in the Civil Code by way of describ-
ing persons who could be appointed to the Board of Auditors.

The Civil Code prescribes the contents of balance sheet and

197

income statement and some principles of valuation of as-
set. In addition, rules of valuation and disclosure are
frequently enforced through tax regulations.

Recnpitulation of the
Accounting Profession

 

In the review of the public accounting professions
of various countries, we saw similarities and divergences
in the way accounting professions are organized, adminis-
tered, and operated. The differences in these organiza-
tions of accountants in various countries indicate the
different developmental stages these countries have reached
in terms of professionalizingnaccounting matter itself.
Thus, the more developed the accounting subject matter, the
more rigorous, clear, and precise are the educational
training requirements, and the more professionally organ-
ized are the members. As was found earlier, the primary
requisite of a profession is the existence of a body of
knowledge and the process of education and training neces-
sary for acquisition of such knowledge, the ultimate req-
quisite being that of obtaining a status and accepting
social responsibility of a profession.

There are two important points that we need to
underscore in considering the accounting profession:

1. Control of activity of a profession can be
done via legal provisions, which provide for minimum legal

requirements and for control of activity of a profession.

198

For example, legislation on public accounting practice,
and licensing are means of controlling the accounting
profession. But the effect of such control of profession
by legal means is dependent on the content and rigor of
the provisions; and the registration requirements are too
often very broad and less stringent. They are hardly de-
signed to foster development of professional knowledge or
refinement of educational and training requirements. Thus,
legislation on accounting practice and profession can
hardly be taken as a way of improving and enriching the
field of the accounting profession unless supplemented by
a professional accounting organization. In fact, at times
it can be stifling to the development of a profession,
though legal means (legislation) have special inherent
advantage in them, in the sense of enforcing conformance
to rules and providing uniformity.

2. Control of professional activity can also be
done by a professional organization, which not only pro-
vides and supervises for the educational and training re—
quirements, but also promotes develOpment and enrichment
of the field of a profession for the performance of a
better service. In most of the countries reviewed earlier,
the accounting professions evolved in a self-regulated
manner, springing from the grass roots and assuming the
responsibility of developing accounting educational re-

quirements, accounting standards, and enforcing them too.

199

However, the power of accounting professional organiza-
tions, as enforcers of standards, lacks legal sanctions
except by implication. Thus, the necessity for proper
liaison between the government (legislation) and the ac-
counting professional organizations becomes obvious.

In conclusion, we must note the importance of
three forces that interplay in the development of the
accounting profession: the government (legislation), the
organization of accountants, and the educational insti-

tutions.

Public Accountingnin Ethinpia

In Ethiopia, there is no accounting professional
organization yet. Public accounting as a profession of
qualified independent accountants is still in its early
developmental stages, despite the highly recognized func-
tion given to an auditor by the stipulations of the Com-
mercial Code.
Auditing Provisions in the
56mmercia15563e

The Commercial Code of Ethiopia requires audited
financial records of all share companies (Article 568(1)),
and all private limited companies of 20 or more members
(Article 538). The applicable auditing provisions are to
be found in Article 368 through Article 380 (see Appendix

I).

200

Article 368 states:

(1) The general meeting of every company limited by
shares shall elect one or more auditors and one
or more assistant auditors.

(2) Shareholders representing not less than 20% of the
capital may appoint an auditor selected by them.

(3) Where there is more than one auditor, they may
exercise their duties jointly or separately.

(4) A body corporate may act as auditor.

Note: General meeting is defined as ordinary or extraor-
dinary meeting comprising shareholders of all
classes (Article 390).

According to Article 368, there appears to be an
appointment of two auditors, one appointed by so—called
general meeting and one selected by some minority share-
holders (not less than 20 per cent of the shareholders).
If this is so, then the effect of two separate auditors
auditing the same company, at the same time representing
two different interests, has grave implications on the
independence of an auditor, on competition of auditors,
and on soliciting of clients. Further, if in the judgment
of the minority group there was no mistrust involved in
the auditors elected by the general meeting, there would
be no need for selection of any other auditors. This en-
croaches on the competence and reliability of independence
of one auditor versus another. We feel in our minds that
this provision has important implications for the competi-

tion between auditors, for the weakening of professional

201

standards and ethics. Some amplification is necessary to
cover some rules of professional conduct, particularly in
a country like Ethiopia where there is no public account-
ing profession to guide basic professional behavior.

The clause of Article 368 has also consequences
that may come to interplay on the issue between foreign
auditing firms and local individual auditors, whereby some
shareholders may select an Ethiopian auditor, while others
for reason of prestige or competence may want a foreign

auditing firm.

Article 370, entitled "Persons not Competent,"
stipulates:

(l) The following persons may not be elected as
auditors:

(a) founders, contributors in kind, beneficiaries
holding special benefits, directors of the
company or of one of its subsidiaries or of
its holdings company;

(b) spouse or relatives by consanguity of affin-
ity to the fourth degree inclusive, of the
persons mentioned in sub-art. (l)(a);

(c) persons who receive from the persons mentioned
in sub-art. (l)(a) a salary or periodical re-
muneration in connection with duties other
than those of an auditor.

(2) Auditors may not be appointed directors or managers
of the company which they audit, nor of one of its
subsidiaries or its holding company within three
years from the date of the termination of their
functions.

202

(3) Reports submitted by an auditor and adopted by the
annual general meeting shall not, save in the case
of a fraud, be invalid merely by reason of the
fact that the provisions of this Article have not
been observed.

Article 370 is an attempt to specify the mainten-
ance of "auditor's independence" and not to auditor's
technical or professional competence, despite its title.
This provision is the only reference to auditor's indepen-
ggngg. The question of indnpendence of an auditor is very
important in auditing and public accounting practice. It
has two meaningsZI: (1) It means an aspect of integrity
which is expected of all professional men which enables
them to accept responsibility. It involves professional
competence (technical ability). (2) In auditing and ex-
pression of opinion in financial statements, it means
avoidance of any relationship which might even subcon—
sciously impair the auditor's onjectivityny The provision
370(1) to (2),inclusive, is supposed to cover the intent
of the latter meaning, and presumably secure independent
opinion, though the provision 370(3) weakens the importance
of such independence. As to the former meaning of inde-

pendence, the provision lacks any indication and is assum-

ingly left to be the concern of the profession. In the

21John L. Carey, Professional Ethics of Certified
Public Accountants (New York: American Institute of Ac-
countants, 1956), p. 49.

203

absence of professional accounting, however, the question
of integrity of professional responsibility and competence
remain in limbo. We shall discuss more of this in detail
later on in conjunction with the qualifications of an

auditor.

Article 374 stipulates:

The auditors shall have the following duties:

(a) to audit books and securities of the company;

(b) to verify the correctness and accuracy of the
inventories, balance sheets and profit and loss
accounts;

(c) to certify that the report of the board of
directors reflects the correct state of the

company's affairs;

(d) to carry out such special duties as may be as-
signed to them.

In a nut shell, Article 374 governs the whole reference

to the audit procedures and to the expression of the audit—
or's opiniong. First, according to Article 374(b), the
auditor is to "verify the correctness and accuracy . . ."
but correctness and accuracy relative to what, in refer-
ence to what standards and procedures and rules is left

for conjecture. Is it in relation to some "generally ac-
cepted accounting principles," if there are any, or in
relation to the conformance of the requirements of the

accounting provisions of the Commercial Code? Notice

204

that Article 374(b) is an attempt to specify partially
auditing procedures, though lacking in methods and stan-
dards to be followed.

According to Article 374(c), the auditor is to
"certify" the report and not express an opinion. We know
through what stages even America had to go before the
word "certify" was changed to an expression of opinion.
But the advantage of a late comer is that he does not have
to go through the mistakes and process of trial and error
that others previous to him have undergone. There are al-
ready proven alternative choices whose consequences are
well defined for the late comer. Thus, he can start right
from the best alternative. The advantage of a country
that is coming late into the scene is that it can learn
from the mistakes of others; it has the best alternative
choices ready to be adopted and does not have to wait to
go through the same trial and error experience. Particu-
larly, since in Ethiopia public accounting as such was
being introduced and adopted as new anyway, why not adopt
the best known alternatives?

In addition, as we will see later, there is a dif-
ference between certifying the report of the board of
directors as reflecting correct state of company affairs
(Article 374(c)), versus certifying that the financial
statements reflect the correct state of affairs of a com-

pany, unless the report of the board of directors refers

205

to all the accounts and reports, including financial
statements presented to auditors for audit.

Article 374(d) permits the assignment of an au-
ditor to duties other than auditing. In Ethiopia, for
example, auditors act as liquidators and appraisers. The
effect of these functions on the auditor's independence
and qualification is not, however, given adequate consid-
eration. Even in America and other advanced countries,
the question of how the qualification and independence
of the auditor is affected when he performs duties other
than auditing is still a debatable issue, but the organ-
ization of accounting professions and their codes of pro-
fessional ethics are constantly giving adequate consider—
ation to such problems. However, in Ethiopia, in the ab-
sence of an accounting profession, the problem is magnified
and the qualification and independence of the auditor be—

come vulnerable.

Article 375 states that

(l) The auditor shall submit to the annual general
meeting a written report on the manner in which
they have carried out their duties and their com-
ments on the report of the board of directors.

(2) They shall recommend approval of the accounts and
make such comments thereon as they think fit or
refuse to recommend approval, giving reasons for
referring the matter back to the directors.

 

206
(3) They may comment on the proposed distribution of
profits.

(4) The general meeting shall not consider the balance
sheet in the absence of a report under sub-art.(l).

Article 375 is very important in the sense that
perhaps it is the only article that is close to specifying
Standards of Rgporting. Article 375(1) requires that au-
ditor(s) submit a written report to the annual general
meeting

(a) indicating the manner in which he has carried his
duties. This is covered by Auditing Standards and

Procedures, specifically those relating to General

Auditing Standards and those Standards of Field

 

2126';-
(b) Commenting on the report of the Board of Directors:
This report is solely prepared by the Board of
Directors. It consists of brief general progress

report indicating any new events which the Board
deems necessary to bring to the attention of the
shareholders. In this situation, the auditor is
actually being called upon to comment on the re-
port of the Board of Directors, testifying on the
progress report. This is something above and be-
yond expressing an opinion on the financial state-
ments accounts, and records of the company. Per-

haps this is why most of the auditors in Ethiopia

 

"1r

207

have rather preferred to say that they have "no

comments to make" in the report of the directors.

(See exhibits of Audit Reports and Directors'

Reports, pages 208—215.)

Let us consider the latter part of provision 375(1)
(or as explained in point (b) above) in conjunction with
provision 375(2) where the auditor is also required to
recommend with comments for the approval and disapproval
of "the accounts." First, we are not quite sure what "the
accounts" refers to. But, if we presume the "accounts" to
refer to "the results of operations being accounted for"
by the Board of Directors (management), which is, in fact,
what the Board of Directors' report and financial state-
ment contain, then, both provision 375(1) and 375(2) taken
together can be interpreted as requiring the auditor in his
report to comment and recommend for approval or disapproval
of "the accounts” (Board of Director's report and financial
statement) as submitted to him by the Board of Directors
(management) and audited by him. Especially if we accept
the concept that management is solely responsible for all
the accounts being submitted and reported to auditors
while the auditor acts on behalf of the shareholders to
examine the reports (financial statements and reports)
submitted to shareholders. Viewed this way, the auditor
is to express an opinion on both financial statements and

the Board of Director's report when commenting. Thus,

EXHIBIT I

BAHR-DAR TEXTILE MILLS (Share Company)

As a result of restricted production dufing the period under review

no provision has been made 1W of fixed assets.

We have received no Wee mentioned in Note 3.

Subject to the foregoing, in our opinion, the above balance sheet and

the annexed profit and loss account p Winn of the

Bahr-Dar Textile Mills 5. C., at 30th June 1962 and the results of its operations
for the period from llth May 1961 to 30th June 1962, in conformity with

8W.

Our examination was made in accordance with generally accepted
auditing standards and accordingly included such tests of the accounting
records and such other auditing procedures as we considered necessary.

We have no comments to make on the report of the directors and,
pursuant to Article 375 of the Commercial Code of Ethiopia, recommend
approval of the above mentioned accounts.

Addis Ababa, 14th jammy 1963

PRICE WA TERHOUSE PEAT G CO.
AUDITORS

208

EXHIBIT II

REPORT OF THE AUDITORB TO THE MEMBERS
OF TERDAI'IO PLAR‘I'ATIORB SHARE COMPANY

We have audited the books and accounts of Tendaho Plantations Share Company, in
accordance with the Commercial Code of the Empire of Ethiopia of 1960 and generally accepted
auditing standards, for the year ended 30th June, 1968, and have obtained all the information
and explanations which we have considered necessary for the purposes of our audit.

Under the terms of article 356 of the Commercial Code of the Empire of Ethiopia of
I960 we report that:-

(a) Mitchell Cotts &~ Company (Ethiopia) Limited, with whom Tendaho Plantations Share
Company has made a Managing Agency Agreement, is a company of which some of the Directors
are also Directors of Tendaho Plantations Share Company. The agreement received the prior
approval of the Board of Directors. Mitchell Cotts & Company (Ethiopia) Limited has been
paid a managing agency fee and has been reimbursed for services in accordance with the
agreement and has received interest on monies advanced;

(11) MC. Development Finance Limited, a company of which two of the Directors are also
Directors of Tendaho Plantations Share Company, has been credited with interest on monies
advanced:

(c) The Ethiopian Investment Corporation Share Company, which is a Director of Tendaho
Plantations Share Company, has received payments for interest on monies advanced.

In view of the fact that liability for the claim for compensation for damage to plantations
and crops has still not, as yet, been accepted we have been unable to form an opinion as to
the value of the claim amounting to $341,650, as incorporated in the profit and loss account
for the year ended 301h June, 1967 and shown outstanding in the balance sheet.

Subject to the above in our opinion the foregoing Balance Sheet and Profit and Loss Account,
which are in agreement with the books, give a true and fair view of the financial position of the
company as at 30th June, l968,and of the results of its operations for the year ended on that
date.

‘ We have no other comments to make on the foregoing Directors’ report and accordingly,

pursuant to Article 375 of the Commercial Code of the Empire of Ethiopia of 1960, we
recommend that the above-mentioned accounts be approved.

P. O. Box “62 MANN JUDD & Co.
Addis Ababa. Chartered Accountants
22nd November, 1968 Auditors of Tendaho Plantations

Share Company

209

 

EXHIBIT III

REPORT OF THE AUDITORS TO THE MEMBERS
OF GENERAL ETHIOPIAN TRANSPORT SHARE COMPANY

We have audited the books and accounts of General Ethiopian Transport Share Company. in accor-
dance with the Commercial Code of the Empire of Ethiopia of 1960 and generally accepted auditing
standars, for the year ended 5th Pagumen. 1960 and have obtained all the information and explanations
which we considered necessary for the purpose of our audit.

In our opinion the foregoing balance sheet. profit and loss acount and notes. which are in agreement
with the books. give a true and fair view of the state of the Company's affairs as at 5th Pagumen.
1960 (EC). and of its profit for the year ended on that date.

 

“I

We have no comments to make on the foregoing report of the directors and accordingly. pursuant to
Article 375 of the Commercial Code of the Empire of Ethiopia of 1960. we recommend that the above

mentioned accounts be approved.

GETACHEW KASSAYE a CO.
Certified Accountants (London)

P. O. Box 1432.
Addis Ababa.
4th December. 1968.

210 ,-

EXHIBIT IV
REPORT OF THE AUDIT ORS TO THE MEMBERS OF
INDO-ETHIOPIAN TEXTILES SHARE COMPANY

We have audited the books and accounts of [ado-Ethiopian Textiles Share Company,
in accordance with the Commercial Code of the Empire of Ethiopia of 1960 and generally
accepted auditing standards, for the year ended 9th September, I968 and have obtained all the

information and explanations which we considered necessary for the purposes of our audit.

In our opinion the foregoing Balance Sheet and Profit and Loss Account, which are in

agreement with the books, give a true and fair view of the financial position of the Company '

as at 9th September. 1968 and of the profit for the year ended on that date.

Shantilal & Company (Ethiopia) Limited have been the sole selling agents of Indo.
Ethiopian Textiles Share Company since the latter Company commenced trading. Under the
terms of article 356 of the Commercial Code of the Empire of Ethiopia of 1960 we are required
to report that, in February, 1967, the Company renewed for a period of two years, this contract
with Shantilal & Company (Ethiopia) Limited, a director of which is also a director of Indo-
Ethiopian Textiles Share Company. The agreement received the prior approval of the Board

of Directors, the interested director abstaining from voting.

We have no comments to make on the foregoing Directors’ Report to the Shareholders
and accordingly, pursuant to article 375 of the Commercial Code of the Empire of Ethiopia of

1960, we recommend that the above-mentioned accounts be approved.

ARAYA BEKELE
MANN JUDD & Co.
ADDIS ABABA Joint Auditors of
I7th December, 1968 INDO-ETHIOPIAN TEXTILES
SHARE COMPANY

211

 

‘E.

, EXHIBIT v
AUDITORS' REPORT

TO THE SHAREHOLDERS OF RUBBER
AND CANVAS SHOE SHARE COMPANY

We have audited the books and accounts of the RUBBER AND CANVAS SHOE
SHARE COMPANY in accordance with the Commercial code of the Empire of
Ethiopia of I960 and generally accepted auditing standards for the year ended
30th Sene I960 (7th July 1968), and obtained all the information and explanations
which to the best of our knowledge and belief were considered necessary for the
purposes of our Audit.

The Title Deed of Land is not yet inscribed in the name of the Company.

Subject to the abovementioned observation in our opinion, the foregoing Balance
Sheet and the Profit and Loss Account annexed give respectively a true and fair
view of the Company’s financial position as at 30th Sene 1960 (7th July I968) and
if its Net Profit for the year then ended as shown by the Company’s books and
according to the information and explanations given to us.

Under the terms of Article 356 of the Commercial Code of the Empire of Ethiopia
we report that :

The Ethiopian Investment Corporation Share Company which is a Director of the
Rubber and Canvas Shoe Share Company has received interest on amounts
advanced.

We have no comments to make on the Directors Report and accordingly, pursuant
to Article 375 of the Commercial Code of the Empire of Ethiopia of 1960. we
recommend that the abovementioned accounts be approved.

NAWAR & CO.

Chartered Accountants (London)
AddisAbaba 28th Tekemt I961
7th November I968.

212

EXHIBIT VII

'_I’EROAI'IO PLANTATIORO SHARE COMPANY

OIREOTORO’ REPORT

Trading profits of the Company after charging depreciation. administration and other
expenses amounted to S l02.I29. Where subsequently realised or committed by contract. stocks
of cotton and seed held at 301h June. I968. have been brought in at the amount realised

less the expenses of realisation. Stocks still unsold or uncommitted are included at estimated

value.

The claim for compensation in respect of damage to crops during the accounting year
ending 30th June, I967. amounting to $34I,650 is still outstanding. Your Directors are

continuing to press the claim with the Authorities for full settlement by way of compensation

for the damage sustained.

During the year the sum of S 789,788 was spent on various capital works. This expenditure
was represented by buildings, canal works, survey and land clearance, agricultural equipment

and tractors, plant. machinery, fixtures and fittings and vehicles.

Having given consideration to the costs incurred in design work on future development
of the plantation and experimental work on improving cotton growing techniques, your
Directors have decided to allocate certain charges to Research and Develbpment the effect

of which is to increase that account by $24,094.

The Concession Agreement with the Awash Valley Authority which has been under
negotiation has not yet been concluded. Negotiations regarding the detailed provisions of

the Agreement are still in progress.

The address that your Chairman intends to give at the annual general meeting will

provide a review of the Company‘s affairs.

214

 

let

There has been no change in the Board of Directors, the Auditors or Management

of the Company since the last annual general meeting.

In accordance with the Articles of Association of the Company. the Ethiopian Imestmcnt

Corporation Share Company will be retiring from the Board but offer themselves for re-clection.

Notice is given to the effect that three of the present Directors of the Company already
hold directorships in Mitchell Cotts & Co. (Ethiopia) Ltd. with whom a Management Agency

Agreement. duly approved by the Board. has been entered into and in respect of which

fees are paid.

Furthermore, the Ethiopian Investment Corporation Share Company itself a Director.
and MC. Development Finance Ltd.. a Company of which two of its Directors are also
Directors of Tendaho Plantations Share Company, have received or have been credited with

interest on monies advanced.

Remuneration for the year ended 30th June, I968, paid to Directors, amounted to
S l2.290 (fees in respect of services as Directors $ 4,000, remuneration in respect of services

under executive appointments $8,290). Auditors' remuneration totalled $9,000.

By Order of the Board .of Directors

DIRECTOR: Ethiopian Investment Corporation
Share Company

DIRECTOR: A. D. H. Paterson

November, I968

Addis Ababa.

215

216

the recommendation for approval or disapproval of one also
entails the recommendation for the other.

In fact, according to Article 374(c), the auditor'
is supposed to certify (express an opinion) that "the re-

port of the board of directors reflects the correct state

 

of the company's affairs," and not certify that the finan- {I
cial statements reflect the true or correct state of af- :
fairs of a company. i

If we interpret "accounts" to refer to financial i

E:

statements being submitted by auditors to shareholders,
then comments and recommendations for approval or disap-
proval of accounts constitutes only an expression of opin-
ion on financial statements.

Assuming "accounts" to refer to financial state-
ments (balance sheet and income statement), Article 375(2)
indicates that in recommending approval or disapproval of
the accounts, the auditor

(a) can recommend approval without comments on the
accounts;

(b) can recommend approval with qualifying comments
that he "thinks fit" to be brought out;

(c) can refuse to recommend approval "giving reasons
for referring the matter back to the directors,"
thus commenting on his refusal to recommend ap-
proval.

We consider (a) to be equivalent to issuing an "unqualified

217

opinion," (b) to be equivalent to "qualified opinion,"
and (c) to be equivalent to either "adverse opinion" or
"disclaimer of opinion," or both (see page 171).

If such interpretation and intent is explicitly
understood, then an adequate and befitting reporting stan-
dard for the Ethiopian setting could be developed and the
nature of a standard short-form audit report could then be
well understood. As it is, the Code gives a lot of leeway
in the preparation and interpretation of auditors' reports,
in which neither the auditors themselves nor the public
(shareholders) seem to understand the nature and objective
of the "comments" provided in the audit report.

We thus suggest an explicit separation between the
board of director's report and auditor's report, and the
adequate clarification of their intent. We object to the
necessity of having an auditor comment on the board of
director's report (which is essentially a qualitative
judgment). The auditor's report should be specifically
limited to the expression of opinion on the financial
statements only, and his recommendation for approval or
disapproval limited to the financial statements. To such
end, the word "accounts" should be changed or amplified to
indicate the proper intent.

Afticle 375(4) allows the auditors the Option to
make comments on proposed distribution of profits. This

option is in addition to verifying the accuracy and

218

correctness of financial statements. Perhaps the ration-
ale for this is to guard against the impairment of capital
and not to decide on the distribution of profits. If
there are proper auditing standards and procedures, such
provision would not be necessary, for the needs for such

provisions would have been taken care of in the process.

Article 376 stipulates:

 

RF

(1) Where the auditors find irregularities or breaches
of legal or statutory requirements, they shall in—
form the directors and, where grave irregularities
or breaches have occurred, they shall inform the
general meeting.

(2) The auditors shall inform the public prosecutor
of any matters which wouId appear to disclose the
commission of an offense.

This provision extends the independent auditor's
function beyond the field of the auditing concept. The
implied psychological effects on public accounting that
arise out of such provision are grave. This is one of the
reasons that in underdeveloped countries an auditor is re-
garded as a "policeman" or even as an "informer" and "de—
tective." As a result, auditing and public accounting in
general come to be associated with all the negative moti—
vations, while the independent auditor is little appreci-
ated as the protector of the interest of all concerned.

We recommend that this provision be changed, perhaps to be

covered by some other means which assures that the auditor

219

is responsible for seeing that all material facts are ade-
quately disclosed and brought to the attention of those
concerned. Perhaps American practice would be helpful
here. American auditors are not required to "squeal" to

the Securities and Exchange Commission. But the corpora-

 

tions themselves must file their financial reports (plus PL
other information) with the SEC, and an integral part of

these filings is the opinion of the independent auditor, _
who, by professional standards, must take exception to E

presentations which do not "fairly present" the affairs

of the corporation.

_nnditing Practice in Ethiopia

In the absence of a public accounting profession
and absence of guides in auditing standards and procedures
and code of ethics, the standards to be followed in audit—
ing and reporting have been left to the imagination of
each auditor or auditors concerned. In this part, we shall
examine some of the audit reports issued by auditors in
Ethiopia in their practice of public accounting.

According to the Code, there are three elements
that are supposed to be required in the auditor's report
to the shareholders:

1. Statement on the manner in which the audit was

carried out (Article 375(1));

2. Comment on the report of the board of directors

(Article 375(1));

220
3. Recommendation for approval or disapproval of
"accounts" (Article 375(2)).
In addition, Articles 374(b) and 374(c) indicate that the
duty of an auditor is: (1) to verify the correctness and
accuracy of financial statements (inventory, balance sheet,
and profit and loss accounts); (2) to certify that the re-
ports of the Board of Directors reflect the correct state
of the company's affairs (and not the financial statements
or accounts). We will consider these two also to be ele-

ments which will somehow be shown in the audit report.

 

Let us examine the contents of the audit reports
issued by auditors in Exhibits 1-6 (pages 208ff.), and
observe to what extent the above elements are met.

1. Statement on the manner in which the audit was
carried. All auditors' reports have a statement

to meet such a requirement. But the manner in

which the audit is carried by each differs, which

is expected.

(a) Some state that the manner of their audit was
performed "in accordance with generally ac—
cepted auditing standards and other procedures
as were considered necessary by them."

(b) Some state it was performed "in accordance with
the Commercial Code of Ethiopia, 1960, and gen-
erally accepted auditing standards and by 227
taining all information and explanation that

they considered necessary for purpose of audit."

221

(c) Others still state the same as (b) but with
more precise wording which indicates that in-
formation and explanations were obtained
"which to their best of knowledgg and belief
were considered necessary" for purpose of
audit.

Comment on report of the Board of Directors.

(a) Majority of the reports state they have "no
comments to make."

(b) One audit report (Exhibit 2) seems to suggest
that on part of its report it had covered the
comments on the report of the Board of Direc—
tors.

We don't know whether the statement "we have no

comments to make on report of Board of Directors,"

which is made by the majority of auditors, is a

deliberate avoidance of comments on the report of

the Board of Directors; or a coincidence indicat—
ing that "no comments" are good comments which
signal green lights that all is well. We tend to
believe the former to be true, in view of what was
said on page 206. Evidently, in such a case the

Code's requirement will be violated, and the inclu-

sion in the audit report of a statement which in-

dicates that all audits were performed in accor-

dance with the Commercial Code is untrue.

 

“g: a.m— inun- rw‘ ;._ ...=
”H_: .

222

Recommendation for approval or disapproval of "ac-
counts." All auditors seem to uphold Article 375(2)
requirements, and all of them make specific points
for recommending approval of accounts in their au-
dit report. However, due to the confusion of the
nature and objective of "comments" involved in the
audit report, it is very obscure to determine

whether the auditor is expressing unqualified, or

 

qualified, opinion in recommending accounts for ap-

proval. As was indicated earlier, there is also
some hazy meaning involved in the recommendation
of "accounts" for approval, that is, whether it
is approval of reports of Boards of Directors and
financial statements, or the approval of financial
statements only. However, most of the audit re-
ports make a point that they are recommending for
the "approval of above mentioned accounts," which
reference is to the financial statements (balance
sheet and profit and loss accounts).

Verification of the correctness and accuracy of
financial statements. We assume that they all
try to do so, but the manner in which they verify
may differ. Our concern here is with what they
consider verification.

(a) Some seem to consider the conformance with

generally accepted accounting principles.

223

(b) Others, the most recent ones, seem to consider
only the agreement of the financial statements
with the books. Thus, the process of verifi-
cation by the auditor seems to concern only
whether the balance sheet and profit and loss
accounts are in agreement, which we find to
be inadequate.

Certifying that the report of the Board of Direc-

tors reflects correct state of the company's af-

fairs (Article 374(2)). First, most of the audit
reports do not "certify" but express opinion on
the correct state of affairs of the company, which
we find to be quite an improvement on the part of
practicing public accountants' conscience and
cautiousness, as opposed to the provisions of the

Code. Secondly, most of them do not express opin-

ions (or certify) on the Board of Directors' re—

port or use it in indicating ”the correct state of
company's affairs." Instead, we find them express-
ing opinion on the financial statements of the
company "as giving true and fair view of financial
position of company." Again, we find the practice
showing better interpretation and more adequate

and modern terms cautiously in its audit report.

Of course, this is different and in contradiction

to what is provided and required by the Code.

224

Thus, we see that the audit reports in Ethiopia
(a) vary in form and size, (b) vary in the way they refer
to the Commercial Code, and (c) differ from what is pro-
vided for and required by the Code. In general, the au—
ditor's reports are much more cautiously and conscientiously
prepared, and tend to reflect better understanding of au—
diting principles and reporting standards than do the

Code's provisions. But still the audit reports are far

 

from being adequate and leave something to be desired in

(W 1

terms of portraying the proper meaning and purpose of the
audit report.

Certain parts of the audit provisions in the Code
and the audit reports in practice seem to be much closer
to the Italian report of the Board of Auditors, especially
in the way auditors "recommend for approval" the Board of
Directors' report or proposal, though the Ethiopian audit
reports are not as clearly stated and worded as the
Italian audit reports (see page 191). This similarity is
indeed surprising, given the fact that the Commercial Code

is based on the French code.

Need for Public Accounting in Ethiopia

First, we can say that public accounting in
Ethiopia is needed simply because the Commercial Code re-
quires audited financial statements. Thus, if audited

financial statements are to be made, a qualified auditor

225

is required, and the need for public accounting becomes a
legal requirement. The Code, however, does not define as
to who is an auditor, or what his qualifications are. Be-
yond what is mentioned in Article 374 with respect to his

duties, in Article 380 with respect to his liabilities,

and Article 370 concerning his eligibility for appointment, P-
the Code is totally silent in indicating the qualifica-
tions of an auditor.
Secondly, even if the Commercial Code did not re-
w

 

quire it, public accounting is essential to a well-func-
tioning capital market, an important element in economic
development through private investment. As was discussed
in Chapter III, there is a firm commitment in Ethiopia now
for the formation of an impersonal capital market and for
efficient mobilization of capital as part of the economic
development process. The impersonal market is character-
ized by dispersed ownership and absentee owners. Public
accounting becomes essential to protect the interests of
absentee owners. It is essential to lend meaning and
credibility to the financial statements submitted by man-
agement, and thus to inspire confidence in stockholders
to invest in the share market instead of saving in the
traditional way by hoarding and purchase of land. Reli-
able independent audits of financial statements and rec-
ords are also necessary for the lending and borrowing

operations or the establishment of the productive credit

226

system, particularly on the firm level. But the confi—
dence in and reliability of reported financial statements
is attained only through higher standards of reporting
(financial accounting) and professional auditors whose
opinion can be trusted and relied upon; thus, the need for
public accounting and a public accounting profession. With
the growth of the industrial and commercial sector and the
increase in the number of firms newly established, the de-

mand for public accounting is going to increase. It is

 

also natural to expect the demand for his services to be .
extended beyond the audit of financial statements alone.

In fact, he already is called upon to act as liquidator

and appraiser.

22 that in 1965

It is reported by David C. Klein
there were a little over 100 share companies in Ethiopia,
while by 1967 the registered share conpanies had risen to
160. The presently known persons or auditing firms prac-
ticing public accounting in Ethiopia are listed in
Table VII-l. Out of these, about eight of them can be
considered to be "qualified" public accountants. These

are the five public accounting firms with home office

outside Ethiopia, two Ethiopian firms headed by Ethiopians,

 

22David C. Klein, Lecturer in Accounting, College
of Business Administration, H.S.I.U;, "Public Accounting
in Ethiopia," Ethiopian_§usiness Journal, Vol. V, No. 1
(June, 1968). Puinshed by the Business Students' Associ—
ation, College of Business Administration, H.S.I.U.,
Addis Ababa, Ethiopia, pp. 21-23.

227

 

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228

and the one non-Ethiopian firm based in Ethiopia.23 It is

reported by David C. Klein that 80 of the 160 share com-
panies were having their financial statements audited by

these eight firms.24

The rest of the share companies,
evidently, were having their statements audited by other
non-qualified auditors, or auditors whose qualifications
are not known, in order to meet at least the Commercial

Code requirements, if not their own needs and interests.

The reason is obvious why the rest of the share companies

 

‘EV , ’ so

use so-called "unqualified" auditors. For not only is it
financially less expensive to use the "unqualified" audit-
ors, but because the Commercial Code makes no provisions
for the qualifications required of an auditor.

Thirdly, an orderly system of tax collection re-
quires (a) a proper and adequate concept of income, in
fact, as stated by Seiler, "taxation of income requires
existence of an accounting concept of income"25; (b) an
order and integrity in tax remittance by persons concerned.
In a country like Ethiopia where the tax department is
understaffed and lacks skilled personnel, properly audited

statements by a recognized body of professional accoun-

tants can improve accounting records which maximize the

 

23Klein, "Public Accounting," p. 22.

24Ibid.

25Lee J. Seiler, The Function of Accountin in
Economic Develgpment: Turke as a Case Stua (New York:
PuBII E I967) 7

PrederICE—A.Praeger, s ers, , p. .

 

229

significance of taxes for government revenue that is needed
for building infrastructure services necessary in economic
development. Also, tax collection can be improved by elim-
inating costly and time-consuming litigations. Although

in Ethiopia, as in many other countries, in principle tax

 

is based on reported taxable income, the tax department F

of the Ministry of Finance rarely accepts statements of

any company without a dispute. It is taken for granted

by the tax department, and sometimes rightly so, that cheat— 3
E

ing and keeping of two sets of books, one for the govern—
ment (deliberately hiding taxable income) and one for the
company's showing of true income (taxable income), exists.
Note this is not a differentiation of incomes that arises
out of preparation of statements for tax purposes versus
statements for financial reporting purposes, but rather
it is based on the maintenance of two sets of books. Ac—
cordingly, the tax department in Ethiopia assumes that all
statements and original reported income figures of any
company are "incorrect" until accepted after scrutiny by
an "inspector" of the Ministry of Finance. This attitude
is entertained indiscriminately to all statements whether
audited or not by qualified auditors even after consider—
ing specific tax requirements of tax regulation for tax
reporting purposes.

Perhaps this approach is right, assuming that the

tax department is adequately staffed with manpower that

230

has the necessary skill. But, as it is, the tax depart-
ment is generally understaffed even leaving aside the
question of availability of skill in the tax department.
Thus, the burden of the tax department could be eased if
the recognized "qualified" auditors could be used as a
source of manpower in this area by giving them more re-
sponsibility in such field, while the tax department spends
more time on real tax offenders. For, tax accounting is

not necessarily far outside the area of public accounting

 

services. In England and America, the internal revenue
departments place great confidence in statements audited
by recognized accounting firms. In Ethiopia, the auditor
already acts as a liquidator and appraiser, why can his
services not be extended to cover tax areas?

At present, the tax department changes the reported
income figures, and arrives at some estimated figure of
what it should be, while the company has the option to
dispute the decision. Naturally, the company disputes the
decision and is forced into time-consuming if not costly
litigations. Perhaps it may try to win the favor of one
or two top tax officials and get by with some compromised
tax assessments. Meanwhile, the government loses the rev-
enue, or the revenue collection is delayed beyond the
necessary fiscal period. Year—in and year-out, this goes

on.

231

The present situation discourages use of public
accounting firms for fair reporting of taxable income,
even when they are "qualified," and thus enhances the flaws
in the tax collection system. But, if the "qualified" pub-
lic accounting firms' services are enlisted in this area
and given adequate recognition, while audited financial
statements are also given better confidence by the Minis—
try of Finance tax department, then the tax collection
system could be improved and perhaps fairer reporting of
taxable income obtained. At least the use of two sets of
books can be avoided, since only the auditor has possible

access to the true company books.

Process of Developin a
Public Accounting Pro¥ession

In the previous discussions, we established the

 

need for public accounting and a public accounting pro-
fession in Ethiopia. Now we go to see what should be in-
volved in the process of public accounting development.

The Commercial Code requires all share companies
to elect one or more auditors and one or more assistant
auditors (Article 368), while it requires private limited
companies to elect not less than three auditors. However,
the Commercial Code does not state as to who is an auditor,
or who is qualified as liquidator, neither does it indicate
the minimum professional standards required of an auditor.

In Ethiopia, today, anybody bold enough could call himself

232

an auditor and avail himself to the court whenever the
court requires an auditor, which quite frequently it does.
Thus, the starting grounds for developing a "qualified,"
independent public accountant is in the Code itself. We
suggest an ammendment be introduced into the Code to pro-
vide for minimum professional qualifications and standards
required of an auditor.

We have reviewed how the accounting professions in
other countries, those in the United States and United
Kingdom developed and established themselves voluntarily
in a self-regulated manner right from the grass roots.
Ethiopia, however, cannot wait for an accounting associa-
tion to develop voluntarily, rather a deliberate legisla-
tive instrument is necessary to meet the current demands.
For the present, accounting provisions are inadequate and
insufficient to meet the current pace of economic develop—
ment needs. The established economic development programs
themselves require an accounting profession with higher
standards and integrity. We discussed earlier that there
are disadvantages to developing an accounting profession
through legislation, but this is a compromised price
Ethiopia has to pay for the sake of a fast growth of the
profession. Legislation will at least provide the initial
steps for a profeSSion of high standards that can be

trusted by local and foreign investors and tax officials.26

~—

Klein, "Public Accounting," p. 23.

 

26

233

In setting qualifications required of an auditor,
the following elements are involved: (a) the setting of
alternatives of minimum educational and experience require-
ments in order to entitle a person to be called a certified

public accountant in Ethiopia; (b) the setting of alterna-

 

 

tives for recognizing certification by recognized foreign Pk
accounting associations, especially in determining the

exact qualifications of Ragionieri in Ethiopia; (c) the 3
setting of a machinery for the administration of the cer- Ej

tification process, and the necessary appropriate examina-
tions; (d) the establishment of a code of professional
standards and ethics of the profession; (e) the establish-
ment and execution of rules of suspension and revocation
of license; and (f) the general supervision and develop-
ment of a general accounting profession in Ethiopia.

In Ethiopia, legislation in regard to the setting
of qualifications of auditors can be accomplished in two
ways:

1. Either by making provisions in the Code it-
self for all the concomitant parts that set and control
the qualifications and practice of public accounting.

2. Or, by introducing a separate Bill of Regula-
tory Public Accountancy, which contains Acts for regulat—
ing the practice of public accountancy; for creating a
national board of accountancm,prescribing its powers and

duties; and for violations of provisions. In this, the

234

Form of Regulatory Public Accountancy Bill, recommended by
the AICPA for the various states in America, could be con-

sidered as a possible guide.27

Suggested Certification Processes

Gorfu and Svedberg's
Recommendations

_ .ih"‘ln!‘i'..(‘1‘_ T l...
i. .I
F
i

In 1961-1962, Ato Gorfu Gebre-Medhin, then Director

General of the I.E.G. Department of Auditor General,28 and

 

Mr. N. O. Svedberg, a Swedish advisor at the Department of gi
Auditor General, both prepared an internal memorandum draft

concerning certification of financial controllers in

Ethiopia. In their memorandum, they were concerned with

the need for certifying financial controllers (certified

accountants, authorized auditors, or controllers), which

were to include both government financial controllers as

well as commercial financial controllers. Realizing the

lack of financial controllers, while there was a need for

 

27AICPA, Form of Regnlatonngublic Accountangy Bill,
approved by CommiEtee on SEate Legi§lation TNew York:—'
AICPA, first printed 1956, amended April, 1958, and 1961).

28The Imperial Ethiopian Government Department of
Auditor General is an independent separate ministry with
its own charter assigned with responsibilities to audit all
government accounts, and report annually directly to the
Parliament or the Emperor. Note: it is also authorized
to audit on behalf of the government state enterprises (be
it semi-public or public enterprises), and even called to
comment on the budget. Thus, in principle, it has exten-
sive powers and duties, though in practice its function
has been far from what the charter empowers. This has been
mainly due to a lack of qualified personnel.

235

such people in this area, their interest was to suggest a
means for providing in Ethiopia the certification of na-
tionals who were interested in becoming financial control—
lers without having to go abroad. Their recommendation
was that the Chamber of Commerce be given the responsibil- Fm.
ity for certifying financial controllers. The theoretical

requirements for certification would be equivalent to those

 

of England and Sweden, while the practical requirements
for commercial financial controllers would be provided in E;
auditing firms, and for government financial controllers
in state administrative activities.
Their concerns were very proper; indeed, they were
the first ones ever to raise a concern in the certification
problem. However, they were not very specific in their
recommendation, neither did they make a distinction be—
tween financial controllers and independent public accoun—
tants. We think that the develOpment of financial con-
trollers is something separate which involves special
training programs in contradistinction to independent pub-
lic accountant. Despite their efforts, which are to be
considered significant in the annals of the development
of public accounting in Ethiopia, their memorandum remained
only to be an internal one and never reached the surface

of any implementation.

236

Draft of Proposed Legislation for
Regulating Public Accounting in Ethiopia

The Ministry of Commerce and Industry in Ethiopia
is entrusted with the implementation of the general as
well as the specific provisions of the Code. For, accord-
ing to the Commercial Code, it is the keeper of the Com-
mercial Register (Articles 86-90) which contains descrip-
tions and particulars (including financial statements) of
all business organizations which apply for registration.
Other references to the Ministry of Commerce and Industry
are also found in Articles 372, 381, 383, etc., in the
Code. It was not until 1966-1967, however, that the Min—
istry of Commerce and Industry realized the importance of
"qualified" public accountants in the performance of its
function, and showed interest in drafting legislation
which will regulate public accounting profession in Ethi-
opia. The concern was long overdue, but coming as it did,
it was enthusiastically supported by the Haile Sellassie I
University and the Prime Minister's office, which is re-
sponsible for all laws to be promulgated. Accordingly,
Mr. Fred Fechheimer29 was assigned to prepare a prelim-
inary draft for regulating public accounting in Ethiopia.

Before the drafting, some members of the College

of Business Administration, who were educators of

29Mr. Fred Fechheimer was an American Peace Corps
volunteer in Ethiopia, a lawyer by profession.

237

accountancy, were approached and consulted by Mr. Fechheimer,
which opportunity was indeed greatly appreciated, though
the accountants were not given more significant roles to
play as was expected at the beginning. The chief discus-
sions and debate that occurred in the drafting mainly
centered on the qualifications with respect to education
and experience which applicants should meet prior to cer—
tification by the Public Accountants' Certification Com—
mittee. It was already a fait accompli that the Public
Accountants' Certification Committee was to be established
by the Ministry of Commerce and Industry, which will be
discussed later on. It was reported later by Mr. Fech—
heimer3O that officials within the Ministry were anxious
to establish higher standards for the accounting profes-
sion in Ethiopia. However, recognizing31 that few Ethio-
pians had more than minimal academic training in account-
ing and auditing while many Ethiopians have acquired the
necessary skill and knowledge to serve the profession, the
compromise reached was that minimum qualifications should
be:

1. Either at least three years of training in account-

ing and auditing at an institution of higher

30This report was made in an unofficial capacity
in draft memorandum (on March 30, 1966) to the accounting
educators at the CBA after they inquired as to the progress
of the draft.

31This was one of the points emphasized by the ac-
counting educators.

238

learning and three years of experience working

for a public accountant in Ethiopia or abroad.

2. Or, at least two years of training in accounting
and auditing at an institution of higher learning
and five years of experience.

It was also reported that the draft legislation
was to establish a Public Accountant Certification Com:
mittee. This Committee is to consist of seven members,
one of whom shall be chosen by the Ministry of Commerce

32

and Industry, one by the Auditor-General, and five by

vote at annual and biannual meetings of all persons cer-

tified as Public Accountants.33

In addition to its duty
of certifying public accountants, the Committee was also
charged with: (l) establishing a code of professional
standards and ethics for public accountants, and (2) es-
tablishing and executing rules for the suspension or
revocation of licenses.

According to the reports made by Mr. Fechheimer,
the draft was to be presented to the Council of Ministers
of the Ethiopian Government, and if it gained approval by

the Council, it was to be submitted to the Parliament for

32The Auditor-General is a high official of minis-
terial rank within the Ethiopian Government, who heads the
Department of Auditor-General.

33The first members of the Committee were to be
chosen by the Ministry of Commerce and Industry from per-
sons known to the Ministry to be exceptional members of
the accounting profession in Ethiopia.

239

its approval and eventually to H.I.M. Haile Sellassie I
for promulgation.

It has been difficult and cumbersome to find out,
as of today, in regard to what has become the fate of this
proposed legislation. To the best of our ability and
knowledge, it has not been promulgated yet.

Comments on the Draft of
the Proposed Legislation

The proposed legislation is a milestone in the
development of the accounting profession in Ethiopia. If
promulgated, it will have significant effects in the shap-
ing of public accounting in Ethiopia, and the time is ripe
for it. One of the significant parts of the draft is the
establishment of the Public Accountants' Certification
Committee, particularly since five out of the seven Com-
mittee members are to be comprised of so-called "public
accountants" chosen by "public accountants" in Ethiopia.
In a sense, this permits the "public accountants" to ex—
ercise significant control over the Committee meetings,
while the members of the accounting profession at large
who elect the members to the Committee will have a chance
to supervise not only their own members, but also the ac-
tivities of the Committee in general. Thus, the Public
.Accountants' Committee becomes the first professional so-
ciety in Ethiopia, for, as of today, no professional so—

cieties exist in Ethiopia.

240

Initially at least, here is a big chance for the
five major foreign public accounting firms in Ethiopia to
show participation and responsibility in directing and aid-
ing the development of a good public accounting profession
in Ethiopia in order to eliminate the aura that they are
concerned only with the creation and establishment of a
foreign-controlled business monopoly in such area. Such
accusations, which are entertained by many people, perhaps
are not without reason, for their attitude, interest, and
contribution to the development of public accounting in
Ethiopia so far have been far from encouraging. In fact,
at times, it seemed either one of indifference or one of
impeding any progress in public accounting, including re-
search in the area of public accounting. This was exem-
plified to us on several occasions, when the College of
Business Administration asked for their help in answering
a research questionnaire which basically sought informa-
tion on the current and extent of the status of public ac-
counting in Ethiopia. Many of them were reluctant, se-
cretive, and with promises "We will mail it to you tomor-
row." After several persuasive and persistent visits at
one time, only three out of ten questionnaires were re-
turned, and even then they were three-quarters unanswered.
This attitude is not encouraging, nor a good business

policy ultimately.

241

Criticisms of the Proposed Legislation

We reiterate the proposed legislation is a great
step forward towards the development of the accounting pro-
fession, and one that is indeed necessary. However, we
have certain reservations about its contents.

1. The proposed legislation does not seem to con—
sider the importance of accounting educators of the uni-
versity, particularly since the primary requisite of a
profession is one of adequate content of knowledge. The
help, cooperation and guidance of the HSIU is essential
in the certification process and the establishment of the
content of knowledge and educational training required in
such certification. In fact, at this early stage of the
formation of the Committee, the participation of account-
ing educators from the university is of utmost importance
in shaping the future course of public accountants and
public accounting education in Ethiopia.

2. The proposed legislation seems to concentrate
more on experience and less on the educational (academic
training). We understand very well that the concern here
has been to include Ethiopians who have gained skill and
knowledge through experience. But the legislation should
make distinction between certification requirements for
the present setting (to start with), and certification
process in the future. At present, the public accounting

knowledge and standard is very lax, and it is (or should

242

be) the objective of the legislation to raise the stan-
dards and the knowledge content of public accounting.

3. We feel the three years or two years of edu-
cational requirements recommended by the proposed legis-
lation are hardly enough to equip a public accountant
with the necessary accounting and auditing education, let
alone to provide him with the concomitant courses that are
essential for public accountant, such as the knowledge of
the Commercial Code and the basic general business admin-
istration courses.

4. The legislation does not make provision for
recognition of foreign certification, provision for per-
mitting people who have been certified in foreign countries
to practice in Ethiopia. How are the people to be evalu—
ated? Already we have a number of them with certificates
in auditing and accounting obtained through correspondence
or certified as auditors or "ragionieri" who are practic-
ing public accounting in Ethiopia.

Perhaps these are details to be filled in by the
Committee later on. But, if this is so, we feel the legis-
lation should have only proposed the establishment of the
Committee, prescribing its powers and duties, and let the
Committee work out the setting of minimum requirements by
establishing various working sub-committees that will be-
come organs of its body. This way, the knowledge of ac-

counting educators at the university, and the university

243

research facilities could be used to set the necessary
machinery for the certification process. Thus, the ap-
propriate examinations are prepared better, certificates
evaluated, research fostered, and the building of the
educational strata for the profession realigned.

It is, therefore, recommended that the legislation
should provide only for the establishment of the Committee,
prescribing its powers and duties, which should include
the following:

1. To certify public accountants by setting proper
alternatives for minimum educational and prac-
tical training requirements, and establishing
an adequate process of certification;

2. To establish a code of professional standards
and ethics for public accountants;

3. To establish and execute rules for suspension or
revocation of licenses of public accountants;

4. To generally supervise the accounting profession
in Ethiopia;

5. To establish sub-committees and working groups
for research, certification process, and admin-
istration of examination;

6. To establish a budget of its own for implementing
its activities. Initially, its budget will be
part of the Ministry of Commerce and Industry

budget, but eventually will be self-sustaining

244

through professional dues and its other revenue-
producing activities.
In this manner, the Committee could have complete freedom
to act and quickly foster the development of the account-
ing profession in Ethiopia.
Educational Trainin%_for Public
Accountants in thiopia

We have shown there is need for more and better
accounting skills and techniques in underdeveloped coun-
tries like Ethiopia, for the enhancement of the economic
development objectives of the country and fulfillment of
the purpose of the Commercial Code.

The problem of accounting skills, with respect to
underdeveloped countries, can be divided into two com-
ponents:34

l. The problem of body of accounting knowledge,

that is, the basic principles, techniques, and

theoretical materials to be developed or adopted

from the advanced countries;
2. The problem of development of the supply of
trained manpower who posses the necessary skills.

As far as the problem of theoretical and technical

knowledge to be adOpted is concerned, in Ethiopia, the

34
211-213.

Seiler, Accounting in Economic Deve10pment, pp.

245

question becomes which theoretical materials to adopt:
French, English, or American? First, we must emphasize
that it is not a matter of simple choice and transferring
the total French system or British or American directly

to Ethiopia. For there are socio-economic environment and
constraints to be considered in adopting any system or
theoretical model. Thus, a leading consideration and
choice might be given to one theoretical model, but, in
adopting it, it has to be shaped, molded, and assimilated
to the needs of the particular country.

The advantage of being a late-comer into the scene
is that one comes to have at his disposal the best avail-
able alternatives and feasible materials to consider in
choosing from. This is one advantage the underdeveloped
countries like Ethiopia have. Previously, in Chapter III,
various reasons were given as to why America seems to be
leading in the field of accounting theory and practice.
Further, in the review of public accounting profession of
various countries, we saw how England and France are re-
shaping their accounting profession in the footprints of
America, despite the fact that accounting's birthplace is
in Europe. Reasons were also enumerated why the American
model could be considered as top choice for adoption in
underdeveloped countries like Ethiopia to the extent that
it is feasible. This leads us to believe that the question

of accounting knowledge of skill in Ethiopia is only a

246

matter of how best to adopt, assimilate, or implement the
American accounting model and its develOpment process
into the socio-economic framework of Ethiopia.

The second part of the develOpment of accounting
skills involves the building of an educational program
and incentives that assure the pool of manpower supply
with adequate knowledge in accounting skills. To this
end, the establishment of the College of Business Adminis-
tration (CBA) at the HSIU in the fall of 1963 has been a
landmark. Although the CBA is young, the accounting de-
partment is much older because it originally started as
part of the Faculty of Arts at the University College of
Addis Abbeba, which was established on March 20, 1950.
The CBA offers a four-year Bachelor of Business Adminis-
tration (B.B.A.) degree with majors in accounting and
general management. The objectives of the degree program
through the curriculum of the CBA

[focus] on the development of the professional and
technical skills of the individual student. These
areas . . {_are repeatedly covered in all of the
management and accounting courses offered in the

college . . .
Professional objectives:

(a) Development of a full, rich knowledge, understand-
ing and skill in the functional areas of Business:
Accounting, Finance, Marketing, Personnel, and Produc-
tion.

(b) Development of a full, rich knowledge, understand-
ing and skill in general management is also emphasized:

247

Planning, organizing, directing and leading, con-

:ih:::?g§ integrating, communicating, and training
The courses offered at CBA during the four-year academic
training are found in Appendix V.

Accounting curriculum at the CBA is basically
similar to those of any college curriculum in America.
Textbooks used in accounting are also all American.
However, the accounting subject matter at CBA mostly
emphasizes the technical and mechanical parts of ac—
counting with little accounting theory involved. What-
ever theory is involved is only covered in parts of the
Intermediate Accounting course. (The textbook usually
used is Karrenbrock and Simon's Intermediate Accounting.)

A student majoring in accounting at CBA com-
pletes about 34 credit hours in accounting (see Table
VII-2), out of a total of 130 credit hours required for
graduation by the HSIU.

Further, according to the curriculum committee
of the HSIU, 34 credit hours of general education require-
ments must be fulfilled by all candidates at the HSIU.

This leaves 62 credit hours for general business-education

 

35From a report on "The Role of the College of
Business Administration at H.S.I.U." written by Dr. Earl
G. Planty, then Dean of the CBA, 1965.

248

requirements,36 and for electives to be filled according
to student choice.

The problem facing the CBA curriculum in meeting
its responsibility is:

1. To have adequate courses in the curriculum
that are needed to introduce and orient the Ethiopian

Student with the understanding of basic general business

TABLE VII-2

ACCOUNTING COURSES COVERED AT CBA IN ETHIOPIA

—— i _.f

Course Credit Hours

 

Introduction to Accounting

 

 

(Bookkeeping) 2
Elementary Accounting
(Partnership) 8
Intermediate Accounting
(Corporation) 8
Cost Accounting 4
Government Accounting 4
Auditing Principles 4
Advanced Accounting 4
Total Accounting Credit Hours 34
-fi:
36

The General Business Education requirements in-
clude: (a) courses designed for orienting students with
the basic and general business knowledge needed to set
Ethiopian student introduction to business; and (b) courses
that are needed to equip graduates in business with the re-
lated business subjects such as Finance, Management,
Business Math, Economics, Commercial Law, and Taxes.

249

activities, business attitude, and business language (terms)
which, in a sense, are new to the Ethiopian student who
comes from a rural agricultural sector. Partly, this means
offering preparatory courses for remedy of deficiencies of
the student.

2. To provide the Ethiopian student with special-
ized knowledge that qualifies him with necessary skills in
the functional areas of business (majoring in accounting
or management).

3. To provide the Ethiopian students with elec-
tives that he may choose from to widen his background and
interests.

4. To observe the general core courses of general
education requirements of HSIU, and to stay within the 130
credit hours required by the University.

The common practice has been to reduce electives
to one or two courses in order to emphasize points 1 and
2 and observe point 4. But, still this does not leave
enough room to provide the student with sufficient courses
adequate for specialization in accounting or management.
In most American universities, the total credit hours re-
quired for graduation are 180 to 183 credit hours, which
is 50 credit hours more than what the HSIU requires.

Thus, the general business education requirements, and
field of specialization requirements for the Ethiopian

student tend to be one or two semesters (or quarters)

250

less than most American colleges' requirements. Usually
the course of study prescribed by the CBA has tended to

be generally more than the minimum number of hours required
by the University, which is not necessarily favorably
looked upon by the business students when compared to the
requirements of the other colleges of the University, nor
appreciated by the administration.

Thus, in general, we would say there is need per-
haps for raising the total credit hours required for grad-
uation, in order to make more room available to provide
sufficiently for solutions for the above problems.

In improving the accounting curriculum, we suggest
the inclusion of accounting theory. We expect this to be
possible even without raising the total credit hours neces-
sary for graduation. The Introduction to Accounting course
(which is Bookkeeping) could be dropped from the CBA cur-
riculum as the high schools introduce this course in their
curriculum; so also the Introduction to Business course.
The comprehensive high schools are starting to introduce
this course in their curriculum. We suggest also that a
course on the implications of the Commercial Code be of-
fered separately, dealing with the accounting provisions
in it with respect to accounting theory, concept, and prac-
tical application of provisions in accounting practice.

At present, it is considered that the commercial law course

is enough to cover the Commercial Code topics. But the

251

present commercial law course stresses mainly on negotiable
instruments and the nature of legal contractual obligations.

Further, we recommend the CBA to provide especially
designed courses or seminars on the problems of auditing
(public accounting) in Ethiopia. We find this particularly
relevant in view of the CBA and the University participa-
tion in the future certification process of public ac-
countants in Ethiopia, by way of preparing appropriate
examination, instructions, and evaluating certificates to
aid the proposed Public Accountants' Certification Com-

mittee.

Conclusions and Recommendations

The importance of the accounting profession, par-
ticularly that of a public accounting profession, is in-
dispensable for the enhancement of economic development
purposes, such as for efficient tax collection system,
and a well-functioning impersonal capital market.

In underdeveloped countries like Ethiopia, the de-
velopment of public accounting profession cannot be left
or be waited upon to develop by itself voluntarily in a
self—regulated manner as in those advanced countries as
England and America. A deliberate attempt instead must
be made through legislation to establish, develop, and
regulate public accounting profession despite the disad-
vantages that may loom in developing an accounting profes-

sion by legislation.

252

In Ethiopia, there have been various proposals
suggested for the regulation of a public accounting pro-
fession, the most interesting and significant proposal be-
ing the proposed legislation for the establishment of the
Public Accountants' Certification Committee. This proposal
we consider to be an important step towards the development
of an accounting profession. However, the understanding
and delineation of the relationship between law and accgunt—
ing, auditing and accountiqg, and the experience of other
countries in professional_public accountangy development,
is of primary importance that should be adequately consid-
ered and evaluated before such legislation is promulgated.
To such end, the participation by "qualified" accounting
practitioners and accounting educators at the university
level is indispensable.

The building of a profession rests heavily on the
body of knowledge involved. The body of knowledge cannot
be adequately developed, acquired, or adopted (in the case
of underdeveloped countries) unless the educational struc—
ture is properly constructed for the acquisition and fos-
tering of knowledge by members of the profession. To this
end, the strengthening of the CBA curriculum and the over-
all aid of the university is an essential element.

The existing auditing provisions in the Commercial
Code were found to be lacking in providing adequate and

proper standards of the profession, in relating to auditing

253

concepts and principles. In the absence of an accounting
profession which can give guidance as to professional stan-
dards to be followed, most of the auditing provisions in
the Code become meaningless. Some specific recommendations

were made which will be enumerated below.

Recommendations

1. We object to Article 368(2) which permits ap—
pointment of two different auditors, one for the majority,
and one for the minority. We recommend the provision be
amended to make auditors act only jointly in cooperation.
Or, it should be amplified or supplemented by a code of
professional conduct and ethics to delineate the effect on
auditors' competition, independence, and professional stan-
dards, after which only one auditor should be needed.

2. We suggest Article 370 should refer and be re-
ferred to as "auditors' independence" and not refer to
"competence of auditor." Separate provision should be
made for auditors' professional competence which usually
involves the establishment of professional qualifications.

3. In Article 374(c), we object to the use of the
word "certify" when it refers to auditors' "expression of
opinion." In practice, this has been remedied; as is
seen, there is no implication of certification in the audi-
tors' reports, but in the Code the obsolete wording remains.

Article 374 does not specify auditing procedures

or standards to be followed, though the reference in 374(a)

254

and (b) is to audit procedures. Unless a professional body
exists to establish standards to be followed in an audit,
Article 374 becomes insufficient to provide for specifica-
tion of general auditing standards and procedures. Thus,
we recommend amplification of Article 374 to provide for
auditing standards and procedures.

We object to Article 374(c) for requiring auditors
to certify the Board of Director's report. This require-
ment should be eliminated, for we consider it to be above
and beyond the expression of opinion on financial state—
ments, particularly when Article 374(c) implies expression
of opinion of financial statements, and the content of
total expression of opinion in the auditor's report.

We recommend the provisionsof Article 374 make a
distinction between: (a) reporting standards, and (b)
general and field work auditing standards and procedures.

We suggest Article 374(c) be amplified in view of
the extent of confusion it creates about the auditor's
report and his expression of opinion.

4. We recommend Article 374(d) be amended to
specify what duties an independent auditor can be assigned.
This specification requires extension of public accounting
services in some areas, while contraction of public ac-
counting services would occur in other areas.

5. We recommend Article 375 be amended to:

(a) Specify content of the auditor's report;

255

(b) Amplify the nature and objective of "comments"
on the auditor's report;

(c) Clarify meaning of the term "accounts." This is
in a way related to the amendment required in
Article 374, specification as to on what the au-
ditor "expresses his opinion," on the financial
statements, on the report of the Board of Direc-
tors, or both.

(d) Separate and distinguish the Board of Director's
report from the auditor's report, and explicitly
delineate the purpose of the auditor's "expres-
sion of opinion."

6. We suggest the elimination of Article 376 or
its replacement by other provisions, due to the image it
propagates of auditors as "informers."

7. We find the "no comments" found in the prac~
titioners' audit reports illusive, while it affords them
protection in compliance to the Code. We recommend dis-
continuance of such statements, for they serve no useful
purpose in the objective of the audit report.

8. We find the audit report needs better stan-
dards and contents in reporting and communicating its mes-
sage to the public. It is not necessary that it should
be the uniform, short audit report, the same as that of
the United States; but, rather, we are referring to mak-

ing its information more explicit and understandable to

256

the purposeful use and interpretation by the public or the
recipients. For this, we recommend some degree of unifor-
mity in audit reporting, with the application of adequate
delineation in mind as to their being "qualified," "unquali-
fied," and "adverse" or "disclaimer."

9. We recommend that the manpower services of au-
ditors be used for tax returns, and statements of qualified
professional auditors be relied upon for tax remittance.

10. We commend the establishment of a public ac—
counting profession (a) to establish a code of professional
standards and ethics for public accountants; (b) to estab-
lish and execute rules for supervision or revocation of
licenses; (c) to generally supervise the accounting pro-
fession in Ethiopia; (d) to certify public accountants, as
suggested by proposed legislation.

11. We recommend that in promulgation of account-
ing matters, heavy reliance should be made on "qualified"
accounting practitioners' and the university's help and
advice.

12. We suggest that the proposed legislation be
amended to: (a) prescribe only powers and duties of the
committee; (b) make the committee establish organs of
working groups for research, for the certification pro-
cess (preparation and administration of adequate exami-

nations); (c) provide the committee with a budget.

257

13. We recommend the strengthening and improve-
ment of CBA curriculum to include accounting theory
courses and special courses on accounting provisions in

the Code, as well as seminars on auditing problems in

Ethiopia.

CHAPTER VIII

SUMMARY, CONCLUSIONS,

AND RECOMMENDATIONS

Summary

In Chapter I, a review was made of the objectives
of accounting in general, and the current stage of devel—
opment of the general accounting body of knowledge. Fur-
ther, the objective, role, and importance of accounting
in underdeveloped countries, like Ethiopia, were discussed.
It was established that despite the importance of and re-
liance on accounting for the national level of economic
policy, accounting in general in the world today is not
as well developed at the macro-level as it is at the firm
level. However, the advancement of micro-accounting is
still important as it provides a part of combined figures
which, in turn, become the basis of government policy.
Thus, in underdeveloped countries, where the concern is
economic development or growth, proper accounting at the
firm level, the services of competent accountants, and
reliance on financial statements are important (a) to ob—
taining necessary information upon which sound decisions

can be based, (b) to channeling investments into most

258

259

profitable enterprises, and (c) to guarding and assuring
against inefficiencies within enterprises.

Chapter II discussed the Commercial Code in gen-
eral, its contents and purposes, and how its purposes re-
late to the objectives of accounting. In particular, at-
tention was directed to the purposes of the Commercial r.
Code and its accounting provisions as relating to the share

companies (corporations) in Ethiopia. It was established

 

that the purposes of the Commercial Code and its account-

!mhnw ‘r.

ing provisions are to protect the rights of those who have
financial dealings with the corporation, and thus assure
the disclosure of adequate information to them, and so to
aid in the economic develOpment of the country by encour-
aging their continued investment and participation in the
commercial and industrial sector.

In trying to prepare for examining (a) to what ex-
tent are the purposes of the Commercial Code fulfilled,
and (b) how "sound" are the accounting provisions in the
Code in light of the principles and concepts of account—
ing, Chapter III developed criteria to be used in analys—
ing Code provisions. The criteria established were based
on pronouncements of the AAA, the AICPA, and other author-
ities on the subject. Some rationale for using these
criteria were also discussed.

Chapters IV, V, and VI analysed the accounting

provisions in the Code relating to corporate capital,

260

reserves, and assets of share companies.

Chapter VII discussed the importance of an ac-
counting profession in economic development. It was es-
tablished that since economic decisions are based to a
large extent on financial data produced by accountants,
the development of adequate standards and procedures of
accounting information is necessary, which, in turn, de-
pend upon the competency of accountants. The development
and imposition of adequate standards and procedures in
accounting and auditing cannot be accomplished without
sound educational and professional requirements for ac-
countants and auditors. To such end, the chapter (a) re-
viewed the experiences of various economically advanced
countries in the development of their accounting profes-
sions, and (b) discussed the general requirements of a
profession in principle and also of that of an independent
public accountant. The chapter also contains recommenda-
tions for the education and certification of professional
accountants in Ethiopia. Further analysis was made of the
existing auditing provisions in the Code and of their ade-

qu aCY 0

Conclusions
Accounting and accounting information are indis-
pensable in underdeveloped countries for providing a basis

for adequate financial planning, channeling investment to

261

the most profitable enterprises, controlling and guarding
efficiency within enterprises, improving tax collection
processes, and aiding overall economic development.

The Commercial Code of Ethiopia recognizes the
importance and development of corporate legal entity (lim—
ited liability) in the share companies of Ethiopia. The r5
reason, we believe, is not only for marshalling the scarce
capital needed for investment, but also to recognize and

exploit the potentialities of the corporation as a signifi—

"‘

. "D
«In;

 

cant organizational factor in economic development. &

The Commercial Code also recognizes the value of
accounting and financial information of share companies
in fulfilling their responsibilities to investors, credi-
tors, and to all who have financial dealings with them.

The development and creation of share companies
(limited liability or corporations) with respect to 525:
poration accounting means the recognition and application
of such concepts as (a) accounting entity, (b) continuity,
(C) periodic reporting, (d) the delineation of income and
capital, (e) disclosure of information, and (f) consis-
tency, all in the context of the Ethiopian legal-social-
economic structure.

"Sound accounting" consists of the best means and
methods for the provision of as much adquate and relevant
information as is feasible to investors and all concerned

to enable them to formulate sound economic decisions.

262

"Sound accounting" requires the incorporation (into prac-
tice) of the above-mentioned corporation accounting con-
cepts, the development of policies of adequate disclosure,
and the establishment of adequate standards and procedures
of reporting.

The development and imposition of standards and
procedures of accounting, however, cannot be achieved
without the establishment of an accounting profession and
of minimum professional requirements; thus, the impera-
tive need for building the educational strata for devel-
Opment of an accounting profession in Ethiopia.

In Ethiopia, the accounting provisions in the Code
lack adequate and clear concepts of capital, reserves, and
assets. They lack proper classification of these items on
financial statements, and clear and specific delineation
of terminologies used. The deficiencies observed in the
analysis of each topic and conclusions arrived at are

enumerated as follows:

A. The accounting provisions define a legal capital by
minimum capital of specific figures which suggest
segregated assets, and conceptualize the nominal cap-
ital in terms of the obsolete "trust fund" concept.

Premiums on capital issued are transferred to
surplus and may be distributed as dividends without

adequate disclosure. Implicit discounts on subscribed

263

shares exist through "interim-interest payments," but
are ignored without recognition of their effects on
capital. Code provisions do not distinguish between
invested capital, earnings, and reinvested earnings.
These deficiencies permit misleading financial prac—
tices by the co—mingling of surpluses other than re- r“
tained earnings with earnings. It also allows the
use of earnings for distribution of dividends or to

eliminate a deficie or to give a semblance of profit

 

y

when none exists.

The accounting provisions for "reserve" do not distin-
guish the classification of sources of surplus by the
nature of accounting entry. Thus, they fail to dis-
tinguish clearly the sense in which the term "reserve"
is used, confusing the nature of (l) dividends and re-
turn of invested capital; (2) allowances, liabilities,
and appropriations; and (3) apprOpriations and surplus.
Consequently, their effects on assets, liabilities,
and capital accounts, and their classification in fi—
nancial statements are inadequately portrayed, and

the importance of income reporting given minor sig-

nificance.

The accounting provisions of the Code fail to provide
for the proper handling and treatment of problems that

are unique to the corporation, such as treasury stocks,

264

stock dividends, authorized capital, legal capital,
outstanding shares, issued or unissued shares.
Treasury stocks may be acquired or redeemed
without cancellation or without properly reflecting
the effects of treasury stock transaction on accounts

or on financial statements. Stock dividends are not

I‘fifl

used in the way commonly known in "sound" accounting.
Despite the ready transferability of shares, the ac-

counting provisions fail to recognize the going con- w}
k

 

cern concept of the enterprise. Instead, the provi-
sions are based on something approaching a "liquidat-
ing" viewpoint. Thus, the importance of periodic in-
come reporting to stockholders and the directing of
Corporate financial reporting in general to the stock-
holders are not given adequate consideration through

the provisions.

The accounting provisions do not provide for adequate
standards and procedures for asset and inventory valu-
ation, nor an intelligible classification and descrip-
tion of them on the financial statements. It was ob-
served that in the provisions the importance of assets
and inventory in the determination of income is under-
mined. The significance of income as a primary indi-
cator of value was also found to be totally ignored.
Lack of proper and explicit depreciation pur-

poses, concepts, and methods fails to provide realistic

265

accounting depreciation, leading to inadequate main—
tenance of capital, and improper income determination.
For tax purposes, the depreciation rates, provided by
tax laws, were unrealistic, too general, and indis-
criminately applied to all firms in all industries
without making specific breakdowns as to type of equip-
ment and the industry in which it is used. It was also
found that the depreciation rates had no rational
method or systematic means for estimating the compos-
ite lives of various assets.

Depreciation plays an important role in influ-
encing gross savings and investments, and thus becomes
a significant factor in influencing economic policy.
The significance of depreciation as a tool of economic
policy, which is important in a country like Ethiopia,
however, was found to have been given little or no
consideration at all.

The lack of proper concepts and delineation of
meanings in usage of the terms "value" and "cost" by
the provisions fails to indicate the purpose and im-
portance of inventory measure in accounting. This
gives rise to misstatements of financial statement

items and misleading accounting practices.

The provisions recognize the important function of an

auditor by making the audited financial statements a

 

266

requirement for all share companies and limited lia-
bility companies. However, the auditing provisions
do not define who is an auditor, nor establish the
minimum professional and educational standards re-
quired of an auditor. The auditing provisions were
found to be lacking in adequate standards and proce-
dures of auditing and standards of reporting. Thus,
the auditor's independence and the reliability of his

opinion are undermined. The failure of the provisions

 

to provide for adequate professional standards, and
the lack of an accounting profession to guide and
regulate practices has led to undesirable auditing

and accounting practices by self-claimed auditors.

As far as meeting the standards for accountipg_
information and guidelines for communication of accountipg
information is concerned, the following conclusions are
to be noted with respect to the overall accounting provi-
sions for the share companies and their resultant account-
ing information:

1. Reliance and appropriateness to expected use.--
The accounting provisions in the Code do not adequately
fulfill the purposes of the Commercial Code, purposes of
incorporation law, and accounting objectives. At present,
the accounting provisions fail to disclose corporate ac-
tivity adequately, and fail to permit the adequate disclo-

sure of financial information in ways that protect the

267

rights of creditors and shareholders. Thus, they do not
provide sufficient and intelligible information for eco-
nomic decision making, for controlling operations of en-
terprise, for measuring performance of management, and
guarding efficiency. For adequate financial information
needed by investors, creditors as well as government re—
quires proper income accounting and income concepts, while
the accounting provisions of the Code are based on the
"trust fund" concept with emphasis on the balance sheet.
2. Feasibility and disclosure of sigpificant re-
lationships.--Considering the efforts and costs of confor-
mance involved at present in processing accounting, better
and more efficient methods and practice of accounting
could be inculcated through improvements in the Code. More
relevant and intelligible financial information could be
feasibly produced by amendment of provisions for adOption
of better practices, standards, and procedures of account-
ing. The present accounting provisions of the Code do not
reflect a conceptually "sound" and purposeful, functional
and behavioral analysis of Classification of incomes, as-
sets, capital, reserves, and surplus. Thus, the reporting
of financial information based on current accounting pro-
visions are deficient in disclosure of significant economic
relationships of transactions and operating activities of

the company.

268

3. Verifiability and qpantifiability.--The ac-
counting provisions and their resultant accounting infor-
mation in general do adhere to standards of verifiability
and quantifiability in the sense of stipulating some rules
involving: (a) recognition, classification, and valuation
of items such as capital, reserves, and assets (verifia-
bility); and (b) the measures to be applied and the manner
accomplished in dealing with recognition, classification,
and valuation of items (quantifiability). However, the
criteria governing recognition, classification, and valu-
ation of items are not properly organized nor satisfactor-
ily developed relative to the available accounting knowl—
edge of today.

The adherence to the standard of quantifiability
is also weakened because parts of the provisions are vague
and unexplicit as to the measure applied and manner of ac-
complishing quantification in accounting information of
various items.

4. Freedom from bias.——Freedom from bias refers
to (a) objectivity in use of appropriate technique, and
(b) independence of auditors in external reporting. In
the sense of point (a), objectivity in the Ethiopian ac-
counting provisions and accounting practices is endangered
due to the application of inappropriate techniques and

methods, or due to absence of any systematic technique

269

(i.e., depreciation methods and cost allocation methods

in inventory). Perhaps here as well as in standard No. 3
above, it is not the Code's duty to specify techniques and
methods. But at times the provisions have attempted to
prescribe accounting entries and techniques, as in Article
326 (premiums), Article 451 (discounts), and Articles 332
and 337 (treasury stock) (see Chapter IV). If the Code is
to provide for accounting techniques, then it should do so
with the use of appropriate techniques.

With respect to point (b), the auditing provisions
try to provide for the auditor's independence, but were
found to be inadequate and insufficient.

S. Uniformity of practices within and among
entities.--Generally speaking, the accounting provisions
in the Code attempt to lend some limited degree of uni-
formity in making enterprises conform to provisions. Us-
ing uniformity to refer to consistent classification,
terminology, measurement, and use of precise meaning to
facilitate comparability, the accounting provisions, how-
ever, do not permit nor provide adequately for intelligible
delineation of such specific meanings, classification, and
measurement which enable pgoper income comparison within
and among the share companies. Of course, the intention
and desire of such "uniformity" underlie or should underlie

the accounting provisions of share companies in Ethiopia.

270

Uniformity in accounting can refer to various pat-
terns of uniformity. These can be in the form1 of: (a)
uniform chart of accounts--which essentially involves
classification devices for grouping and subgrouping of
accounts; (b) uniform plan of accounting-~which presup-
poses and needs as prerequisite the availability of uni-
form chart of accounts; (c) comprehensive uniformity in
accounting-~which is involved in comprehensive economic
planning, is essentially concerned with directing micro-
accounting toward the ends of macro-accounting. These
above patterns of uniformity could be applied to various
economic unit levels, sectional levels, or national levels.
Although the accounting provisions in the Code attempt to
provide uniformity for the share company type of business
organizations, they are not constructed and delineated
with a view of these patterns of uniformity. Uniformity
for the share company type of business organization should
be constructed with a view towards a coherent accounting

entity concept.

6. Consistency.--This standard is noted and under-

 

scored by Article 448, where it is specified that state-
ments "shall be prepared each year in the same form as in

preceding year and methods of valuation shall remain the

 

1Gerhard G. Mueller, International Accountin (New
York: The Macmillan Company, , c ap er .

271

same unless general meeting adopts variation in mode of

presentation of accounts and methods of valuation on the
reasoned advice of the auditors." The advantages and ef-
fectiveness of consistency in accounting information are
obstructed by the lack of coherent basic concepts of ac-
counting instructions relating to the nature of business

income, asset, and capital.

Recommendations
General Recommendations

1. There should be discontinuance of the obsolete
"trust fund" concept of capital in the accounting provisions
for capital. Instead, provisions should direct attention
to income as the measure of value. Thus, provisions should
put less emphasis on the balance sheet and more emphasis on
income determination and adequate period income reporting
to the extent that is feasible.

2. The Code should provide for better disclosure
on recognition, classification, and valuation of items,
such as capital, assets, reserves, and depreciation.

3. Provisions should distinguish sources of owner-
ship equity adequately.-

4. The Code should provide for better and more
adequate accounting concepts, principles, and methods; and
for establishment of auditing standards and procedures.

5. The Code should provide for more explicit mean-

ings in terminologies used, particularly those relating to

272

accounting. They should specify succinctly the sense in
which the term reserve is used, define assets, depreciation.

6. Importance of depreciation as a tool of eco-
nomic policy should be recognized in underdeveloped coun-
tries like Ethiopia, and proper accounting for that depre—
ciation should be reflected in Code provisions.

7. There should be established a public account-
ing profession to regulate public accounting, establish
auditing standards and procedures, establish professional
requirements, and develop the accounting profession in

general.

Specific Recommendations

Recommendations in Regard to
the Accounting Provisions

1. Transfer of premium to surplus account, and the
use of such premiums as distributable profits (Article
455(1) ) should be adequately disclosed.

2. Interim-interest payment to shareholders (Ar-
ticle 457) should be discontinued, or the resulting im-
plicit discount on capital issue recognized.

3. The basis for recording cost of property or
asset acquired should be derived from valuations attached
to assets and debts (see pages 61 and 62, Chapter IV).

4. Acquisition of treasury stock (Articles 332
and 337) should be either prohibited or should be properly
reflected by cancellation of acquired shares, and practice

of "share dividends" discontinued.

273

5. Principle of stock dividends should be estab-
lished in capitalization of earnings or surplus.

6. Articles 452 and 453 should be amended either
to avoid an implication of existence of segregated funds
in use of term "reserve," or to provide for proper ac-
counting of "reserves" in the sense of "funds." Reserve
in the sense of surplus, funds, contingent liability, and
appropriation should be distinguished and properly Clas—
sified and portrayed in financial statements.

7. Sources of surplus should be classified by the
nature of the accounting entry that gave rise to such sur-
plus.

8. Provisions should be amended to maintain ade-
quate distinction between division of earnings and return
of invested capital, and to reflect properly their effects
on the accounts. The term "dividend" should be restricted
to describe charges to current earnings and accumulated
earnings.

9. Amend Article 74 to reflect proper accounting
rules and principles of "debit balance," and exclude
losses from inclusion under assets.

10. Amend Article 78(3) to reflect relevant mean-
ing of asset definition.

11. Amend Article 78(4) to portray adequately as-
sets that are still in use but are completely depreciated.

12. Amend Articles 82(1) and (2) to provide for

274

meaningful distinction between amortization and depreica-
tion, and provide for a more conceptually adequate frame-
work of the purpose of depreciation. The term "accounting
measurement," as used in Article 82(1) should correspond
to concept of depreciation measurement for the purpose of
income determination.

13. Article 450(1) should be amplified to provide
explicitly the recorrection of bases of estimate of asset
life, instead of adjustment of asset value.

14. Provisions should provide for some kind of
diminishing balance write-off method or declining balance
method as an alternative to straight-line depreciation.

15. For tax purposes, it is recommended that item
lives and depreciation rates provided and permitted by tax
authorities be more specifically broken down by type of
assets and the industry they are used in. It is recom—
mended that a more detailed list of composite lives of
assets and rates of depreciation be prepared by type of
asset and industry.

16. For tax purposes, we suggest a discriminatory
depreciation policy whereby labor intensive industry is
given higher rates than capital intensive industries.

17. Article 87(1) should be amended to clarify
as to when revaluation is permissible and how it is to be
accomplished.

18. Article 78(3) should be amended to indicate

275

clearly merchandise inventories held other than for sale,
while Article 79 should indicate merchandise inventory
held for sale. Investments should be separately specified
from fixed assets.

19. Articles 84(2) and 84(5) should be more spe-
cific to clarify the bases of valuation used, by defining
the term.£2§t and cost_price; and in Article 85, the terms
real value and lower-of—cost-or-market rule.

20. Articles should provide for recognition and
disclosure of various cost association methods.

21. We suggest a more adequate and better classi-
fication, description of inventory categories to be: (a)
materials, (b) supplies, (c) goods-in-process, and (d)
merchandise inventory or finished goods.

Recommendations in Regard to
the Auditing Provisions

1. Article 368 should be amended to make auditors
act joingly in cooperation, or should be amplified by a
code of professional ethics to protect the auditor's in-
dependence, competitive action, objectivity, and profes-
sional standards.

2. Article 370 should refer only to "auditor's
independence," and there should be separate provisions
for "competence of auditor," which is linked to estab—

lished professional qualifications.

 

276

3. The requirement of auditor to certify the Board
of Directors' report (Article 374(c)) should be discontinued.

4. Article 374 should be amended to provide for
and make a distinction between: (a) auditing reporting
standards, (b) general auditing standards, and (c) field
work auditing standards.

5. Article 374(d) should specify the duties that
can be assigned to the auditor. This will involve exten-

sion of accounting to include tax services, and contraction

 

of public accounting service in other areas.

6. Article 375 should be amended to amplify the
nature and objective of "comments" on the auditor's reports,
and to make explicit the meaning and implication of the
term "accounts" as used in the auditor's expression of
opinion. The recommendation for approval of accounts and
comments should approximate to the auditor's issuance of
"qualified," ”unqualified," "disclaimer," or "adverse"
opinion.

7. The use of "no comments" in the auditor's re-
port should be discontinued, since it is illusive and
serves no purpose.

8. Eliminate or amend Article 376 which gives an
impression of "informer" to the auditor's character. In-
stead, this should be covered by provisions that make the

auditor responsible for disclosing all material information.

277

Recommendations in Regard to
Establishment of Accounting
Profession

l. The EEEliC AccountinggCertification Committee
proposed by the draft legislation should be renamed Com-
mittee on Public Accountancy in Ethiopia in order to show

that certification is only one of the elements of its re-

ILL‘LI-‘ - )931
',

sponsibility. Its duties should include: (a) setting of
alternative minimum educational and experience require-

ments for certification of public accountants; (b) alter-

 

natives for recognizing certification by recognized for-
eign accounting associations, and other sources; (c) set-
ting of a machinery for administration of certification
process which involves preparation of appropriate examina-
tions; (d) establish a code of professional ethics; (e)
establish and execute rules of supervision and revocation
of license; and (f) general supervision and development
of general accounting profession in Ethiopia.

2. Proposed draft legislation should be amended
<>nly to prescribe its powers and duties and to work through
ssub-committees and other necessary agencies, as specified
c>n page 243, Chapter VII.

3. The educational requirements proposed in the
chaft legislation should be increased to correspond to
the four years of accounting and general business educa-

tion curriculum at the CBA.

278

4. The curriculum for accounting majors at the
CBA should be improved to include:
(a) accounting theory,
(b) analysis of accounting provisions of the Commer-
cial Code,
(c) auditing problems in Ethiopia.
Perhaps the general credit hours required for graduation
at the HSIU should be increased to improve the quality of

education and to assure the essential coverage of educa-

 

tional material.

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The World Economy." The Price Waterhouse Review,
Vol, XII, No. 4 (Winter, 1967).

Unpublished Material

Chole, Eshetu. "Taxation in Ethiopia: An Analysis of
Structure, Policy, and Performance." Unpublished
M.A. thesis, University of Illinois, Urbana, 1968.

Kinfu, Johannes. "Research on Public Accounting in
Ethiopia.” Unpublished report, 1966.

Marie, Abd-Elhay A. "A Critical Study of Asset Valuation
and Income Determination under the Uniform UAR
(Egypt) Accounting System Relative to the Objec-
tives of Economic Planning." Unpublished Ph.D.
dissertation, Michigan State University, East
Lansing, 1969.

Zin, Michael. "Evaluation of the Accountancy Provisions
in Companies Act, Canada, and the Corporation
Act, Ontario." Unpublished Doctoral dissertation,
Michigan State University, East Lansing, 1962.

 

APPENDIX I

PROVISIONS OF THE COMMERCIAL CODE

IN REGARD TO SHARE COMPANY

APPENDIX I

PROVISIONS OF THE COMMERCIAL CODE
IN REGARD TO SHARE COMPANY

Title VI. Companies Limited by Shares
Chapter 1. General Provisions

Art. 304. --Definition of share company.

(1) A share company is a company whose capital is fixed ' f
in advance and divided into shares and whose liabil- E
ities are met only by the assets of the company.

Art. 306. --Minimum amount of capital and of nominal
value of shares.

(1) The capital shall not be less than 50.000 Ethiopian
dollars.

(2) The amount of the par value of each share shall not
be less than 10 Ethiopian dollars.

Art. 307. --Founders.

(l) A company may not be established by less than five
members.

(2) Persons who sign the memorandum of association and
subscribe the whole of the capital shall have the
legal status of founders.

(3) Where a company is to be formed by the issue of shares
to the public, persons who sign the prospectus, bring
in contributions in kind or are to be allocated a spe-
cial share in the profits, shall have the status of
founders.

(4) Any person, even though outside the company, who has

initiated plans or facilitated the formation of the
company, shall have the status of a founder.

287

288

Art. 308. --Commitments entered into by the founders of
the company.

(1) The founders shall be fully jointly and severally liable
to third parties in respect of commitments entered into
for the formation of the company. All persons who have
acted in the name of the company before its registration
in the commercial register shall be similarly liable.

(2) The company shall take over these commitments from the
founders and refund the founders with all the expenses
made by them insofar as such commitments and expenses
were necessary for the formation of the company or ap-
proved by the general meeting of the subscribers.

(3) Where the company is not established for whatever reason,
the subscribers shall not be liable for the commitments
or expenses made by the founders.

Art. 309. --Liability of the founders.

(1) The founders shall be jointly and severally liable to
the company and third parties for any damage in connec—
tion with:

(a) the subscription of the capital and the payments
required for the formation of the company;

(b) contributions in kind as provided under Art. 315;

(c) the accuracy of statements made to the public in
respect of the formation of the company.

(2) Claims for damages under this Article shall be barred
after five years from the date when the aggrieved party
knew of the damage and of the person liable. There
shall be absolute limitation after ten years from the
date when the act complained of took place.

(3) Nothing in this Article shall affect cases where the
liability of the founders arises from the commission
of a criminal offence.

Art. 310. --Limit of profits which may be allocated to the
founders.

(1) The founders may, for a period not exceeding three years,
reserve personally to themselves in the memorandum of
association and in addition to their rights as share—
holders, a share which shall not exceed one fifth of
the net profits in the balance sheet.

'1. '!-§" ‘1‘

289

(2) No other advantage to founders may be provided in the
memorandum of association.

(3) The benefits provided by this Article are personal to
the founders but no founder shares may be issued.

Art. 311. --Members reduced in number below the legal
minimum. ‘

(1) No company shall remain in business for more than six
months after the number of members is reduced to less
than five. Every member aware of such reduction shall
be personally liable for the debts contracted thereafter.

(2) Where the members are less than five in number or the
company does not possess the prescribed organs, the
court may order the winding-up of such company on the
application of a member or creditor. The court may
adjourn its decision upon such term as it thinks fit
to permit of the reorganisation of the company and
order such conservatory measures as may be necessary.

Chapter 2. Formation of the company

Art. 312. --General requirements in respect of formation.
(1) A share company shall not be formed until:
(a) the capital has been fully subscribed;

(b) one quarter at least of the par value of the shares
has been paid up and deposited in a bank, in the
name and to the account of the company.

(2) Sums deposited under sub-art. (1) shall not be paid
over to the legal representatives of the company until
registration in the commercial register has been
effected.

(3) Where registration has not been effected within one year
from deposit in a bank, the sums deposited shall be re-
paid to the subscribers. Such repayment shall be ef-
fected by the founders who shall be jointly and sever-
ally liable. After one year such sums shall bear
interest at the legal rate.

Art. 313. --Memorandum of association.

The formation of a company shall be by public memorandum
which shall contain:

 

290

(l) the names, nationality and address of the members, the
number of shares which they have subscribed, provided
that a member may not subscribe less than one share;

(2) the name of the company;

(3) the head office, and the branches, if any;

(4) the business purposes of the company;

(S) the amount of capital subscribed and paid up;

(6) the par value, number, form and classes of share;

(7) the value of contributions in kind, their object, the
price at which they are accepted, the designation of
the shareholder and the number of shares allocated to
him by way of exchange;

(8) the manner of distributing profits;

(9) any share in the profits allocated to the founders and
reasons for such share;

(10) the number of directors and their powers and the
agents of the company;

(11) the auditors;

(12) the period of time for which the company is to be
established;

(13) the manner in which the company will publish its reports.
Art. 314. --Articles of association.

(1) The articles of association which govern the operation
of the company shall be drawn up by the founders in ac-
cordance with the law.

(2) Articles of association may follow the model supplied
by the Ministry of Commerce and Industry with any
necessary modifications.

(3) Articles of association shall be deemed to form part
of the memorandum of association and shall be attached
thereto.

Art. 315. --Valuation of contributions in kind.
(1) A member who makes a contribution in kind shall file a

report made and sworn by experts appointed by the
Ministry of Commerce and Industry.

Y's—Wu...

291

(2) The report shall contain a detailed description of the
property contributed, the value given to each item and
the method of valuation. It shall be annexed to the
memorandum of association.

(3) Within six months from the date of formation of the com-
pany the directors and auditors shall verify and, where
necessary, review the valuation given in the report. The
shares representing contributions in kind shall remain
deposited with the company and may not be assigned until
the valuation has been verified.

(4) Where verification under the sub-art. (3) results in the
value of the contribution being lowered by one fifth, the
value of the capital shall be reduced accordingly: pro-
vided that the contributor may make good the difference
or shall withdraw from the company.

(S) The provisions of sub-art. (3) and (4) shall apply not-
withstanding approval having been given to the report
under sub-art. (l) by a general meeting of the subscrib-
ers.

Art. 316. --Formation as between founders.

Where shares are not offered for public subscription, the
founders shall show in the memorandum of association:

(1) that all the shares have been allocated;

(2) that the sums have been deposited in the manner required
by Art. 312 (1) (b);

(3) that the provisions of Art. 315 have been applied to
contributions in kind;

(4) that they have provided for the administrative organs
of the company.

Art. 318. --Prospectus.

(1) An offer to subscribers shall be made by a prospectus
signed by all the founders and shall contain:

(a) the text of the draft memorandum of association;

(b) a summary of the principal provisions of the ar-
ticles of association;

(c) a summary of the expert report under Art. 315, if
any;

292
(d) the date until when the subscribers may be required
to discharge their obligations;
(e) the price at which shares are to be issued;

(f) the amount to be paid up on the shares until the
general meeting of the subscribers;

(g) the place where applications and payments shall be
made.

{I

(2) COpies of the prospectus and of the expert report shall
be made available to all persons who may wish to sub—
scribe.

Art. 324. --Effect of publicity.

(1) Where publication and registration have been made, the 3
company shall have a legal existence and personality
notwithstanding that all the legal requirements relat-
ing to the formation of the company have not been com-
plied with.

(2) Where the interests of creditors or shareholders are
endangered by the legal or statutory requirements not
having been complied with, the court may, on the appli-
cation of any such creditor or shareholder, order the
dissolution of the company and such provisional measures
as may be necessary.

(3) An application not made within three months from the
date of publication in the Official Commercial Gazette
shall not be considered.

Art. 326. --Price at which shares issued.

(1) Shares may not be issued at a price lower than their
par value.

(2) Shares may be issued at a price greater than their par
value where such issue is provided by the memorandum or
articles of association or decided by an extraordinary
general meeting. The difference between the par value
and the price at which shares are issued shall be known
as a premium.

Art. 332. --Purchase by the company of its own shares.
(1) A company may acquire its own shares where:

(a) the acquisition has been authorised by a meeting of
the shareholders; and

293

(b) the purchase price is made from the net profits of
the company; and

(C) the shares are fully paid.

(2) The directors may not dispose of shares thus purchased
and the voting rights on such shares shall be suspended.

(3) The provisions of sub-art. (1) shall not apply where the
purchase has been decided by an extraordinary general
meeting to reduce the capital.

(4) The provisions of this Article shall apply where a com-
pany receives its own shares in pledge.

Art. 335. --Classes of shares.

(1) The memorandum of association or an amendment thereto
by a general meeting may provide for the setting-up of
several classes of shares with different rights.

(2) All shares of the same class shall have the same par
value and the same rights.

(3) No change in the rights conferred to a class of shares
may be made unless a meeting of the Class of sharehold-
ers has agreed under the same conditions as the general
meeting having recommended the change.

Art. 336. --Preference shares.

(1) A share company may create preference shares either in
the memorandum of association or by resolution of an
extraordinary general meeting. Such shares enjoy a
preference over other shares, such as a preferred right
of subscription in the event of future issues, or
rights of priority over profits, or assets or both.

(2) The issue of shares with a preference as to voting
rights is prohibited.

(3) Notwithstanding the provisions of Art. 345(3), the mem-
orandum of association may provide that shareholders
who have been given rights of priority over profit and
distribution of capital upon dissolution of the company
may vote only on matters which concern extraordinary
meetings.

(4) The number of shares having restricted voting rights
under sub-art. (3) may not exceed half the amount of
capital.

294

Art. 337. --Dividend shares.

(1) A company may repay, from profits or reserve funds,
without reducing the capital, to shareholders the par
value of their shares.

(2) Shareholders whose shares are thus redeemed shall re-
ceive dividend shares (actions de jouissance). These
shares do not confer any right to that part of the divi-
dend representing the statutory interest, nor to repay-
ment of contributions upon the dissolution of the com-
pany. They retain however a right of vote, unless
otherwise provided in the memorandum of association,

a right to that part of the dividend exceeding the
statutory interest and a right to distribution of a
share of the surplus in the winding-up.

Art. 353. --Remuneration.

(1) Directors may receive a fixed annual remuneration, the
amount of which shall be determined by a general meet-
ing and charged against general expenses.

(2) The articles of association may provide that the direc-
tors may receive a specified share in the net profits of
a financial year.

(3) The fixed remuneration and share in the profits to be
allocated to the board of directors shall be allocated
in one sum. The board shall arrange the distribution
among its members in such proportion as it deems fit.

(4) The amount of the share in the net profits may not ex-
ceed 10%. This share is calculated after deduction of:

(a) amounts allocated to reserve funds provided by law
or the articles of association;

(b) the statutory dividend, where provided in the ar-
ticles of association or where not provided, a sum
representing 5% of the paid up value of shares
which have not been redeemed;

(c) amounts allocated to reserve funds established by
resolution of a general meeting;

(d) amounts carried forward.

(5) In fixing the share under sub-art. (4) regard may be
had to amounts distributed or capitalised and charged
in a previous balance sheet, with the exception of those
arising in a financial year closed before the coming
into force of this Code.

295

(6) The director's share in the net profits shall not be
paid where no dividend has been distributed to the
shareholders.

(7) The Ministry of Commerce and Industry, taking into ac-
count the special benefits which have been provided to
directors having the status of founders and having re-
gard to the position of the company and to the salaries
and benefits of its employees, may, on the petition of
shareholders representing not less than 10% of the cap-
ital, order the reduction of the remuneration of the
directors where it considers it excessive.

Art. 362. --Duties of directors.

In addition to their duties under Art. 364, directors shall
be responsible for:

(a) keeping regular records of the management and of
meetings;

(b) keeping accounts and books;

(c) submitting the accounts to the auditors and an
annual report of the company's operations includ-
ing a financial statement to the meetings;

(d) convening meetings as provided in the articles of
association;

(e) convening a general meeting without delay where
three quarters of the capital are lost;

(f) setting up the reserve funds required by law, or
the articles of association;

(9) applying to the court where the company stops pay-
ments with a view either to a composition with
creditors or the winding-up of the company.

Art. 368. --Appointment of auditors.

(1) The general meeting of every company limited by shares
shall elect one or more auditors and one or more assis-
tant auditors.

(2) Shareholders representing not less that 20% of the
capital may appoint an auditor selected by them.

(3) Where there is more than one auditor, they may exercise
their duties jointly or separately.

 

296

(4) A body corporate may act as auditor.
Art. 369. --Nomination and term of appointment.

(1) Auditors shall be elected by the meeting of subscribers
and thereafter by the annual general meeting.

(2) Auditors elected by the meeting of subscribers shall
hold office until the first annual general meeting.
Auditors elected at an annual general meeting may hold
office for three years.

(3) When signing as auditor, an auditor shall add the name
of the company whose accounts he is auditing.

Art. 370. --Persons not competent.
(1) The following persons may not be elected as auditors:

(a) founders, contributors in kind, beneficiaries hold-
ing special benefits, directors of the company or
of one of its subsidiaries or of its holdings com-

PanY;

(b) spouses or relatives by consanguinity of affinity
to the fourth degree inclusive, of the persons
mentioned in sub-art. (l)(a);

(C) persons who receive from the persons mentioned in
sub-art. (l)(a) a salary or periodical remuneration
in connection with duties other than those of an
auditor.

(2) Auditors may not be appointed directors or managers of
the company which they audit, nor of one of its subsid-
iaries or its holding company within three years from
the date of the termination of their functions.

(3) Reports submitted by an auditor and adopted by the an-
nual general meeting shall not, save in the case of
fraud, be invalid merely by reason of the fact that the
provisions of this Article have not been observed.

Art. 371. —-Revocation of the appointment of an auditor.
A general meeting may at any time revoke the appointment of

any auditor without prejudice to any claim he may have for
wrongful dismissal.

297

Art. 372. -~Remuneration.

(l) The remuneration of auditors shall be fixed by the
general meeting on their appointment.

(2) Where the general meeting fails to agree on the remuner-
ation of the auditors, the Ministry of Commerce and
Industry may on the application of any interested party
fix the remuneration.

Art. 373. --Professional secrecy.

Auditors shall be liable to the penalties prescribed in
Art. 407 of the Penal Code for breaches of professional
secrecy.

Art. 374. --Duties of the auditors.

The auditors shall have the following duties:

(a) to audit the books and securities of the company;

(b) to verify the correctness and accuracy of the inven-
tories, balance sheets and profit and loss accounts.

(c) to certify that the report of the board of directors
reflects the correct state of the company's affairs;

(d) to carry out such special duties as may be assigned
to them.

Art. 375. —-Report to general meetings.

(1) The auditors shall submit to the annual general meeting
a written report on the manner in which they have carried
out their duties and their comments on the report of the
board of directors.

(2) They shall recommend approval of the accounts and make
such comments thereon as they think fit or refuse to
recommend approval, giving reasons for referring the
matter back to the directors.

(3) They may comment on the proposed distribution of profits.

(4) The general meeting shall not consider the balance sheet
in the absence of a report under sub-art. (l).

m.

298

Art. 376. --Auditors to inform directors of irregularities.

(1) Where the auditors find irregularities or breaches of
legal or statutory requirements, they shall inform the
directors and, where grave irregularities or breaches
have occurred, they shall inform the general meeting.

(2) The auditors shall inform the public prosecutor of any
matters which would appear to disclose the commission
of an offence.

Art. 377. --Calling of general meetings.

(1) The auditors shall call a general meeting where the
directors fail to do so under the law or in accordance
with the memorandum or articles of association.

(2) They shall call a general meeting where shareholders
representing at least 20% of the capital so request.

(3) Where there are several auditors, they may jointly call
a meeting in accordance with the articles of association
and may, where they think fit, fix for the meeting a
place other than the company's head office or other place
laid down in the articles of association, but in the
same locality.

(4) The auditors shall prepare the agenda and a report to be
read at the meeting giving the reasons for calling the
meeting. One of the auditors shall preside over the
meeting.

(5) Where the auditors disagree, one of them may move the
court having jurisdiction in the area in which the head
office is situate for an order appointing an officer of
the court to exercise the powers under sub-art. (3) and

4 .

(6) Expenses incurred under this Article shall be borne by
the company.

Art. 378. --Powers.

(1) The auditors may at any time make on the spot such au-
dits and Checks as they think necessary and may call for
any information, agreements, books, accounts, minute
books and such other documents as may be required for
the proper execution of their duties.

(2) Auditors shall be present at shareholders' meetings and
at the annual general meeting.

299

Art. 379. --Audit of the accounts of a holding company.

Auditors shall exercise their powers under Art. 378 in
respect of the accounts of holding companies under Art. 451.

Art. 380. --Liability of auditors.

(1) Auditors shall be civilly liable to the company and
third parties for any fault in the exercise of their
duties which occasioned loss.

(2) An auditor who knowingly gives or confirms an untrue
report concerning the position of a company or fails to
inform the public prosecutor of an offence which he
knows to have been committed shall be punished under

Art. 438 or Art. 664 of the Penal Code, as the case may
be.

Art. 429. ~-Cases where issue is prohibited.

No negotiable debentures shall be issued by:
(1) individuals;

(2) companies whose capital is not fully paid;

(3) companies which have not issued a balance sheet in re-
spect of their first financial year.

Art. 430. --Maximum amount of the issue.

(1) Debentures issued by a company may not exceed the amount

of paid up capital shown in the last adopted balance
sheet. This amount may be exceeded:

(a) where the company's immovable property is mortgaged
and the debentures issued do not exceed two thirds
of the value of the mortgage; or

(b) where the excess over the paid-up capital is guar-
anteed:

(i) by registered securities or securities issued
or guarangeed by the State and the date of

redemption is not earlier than that of the
debentures; or

(ii) by government or public authorities annuities.

(2) Such securities shall be deposited in a bank and such
part of the annuities shall be blocked in a bank up to

the time of repayment as is necessary to meet payments
of interest and amortisation.

300

(3) The provisions of sub-art. (1) shall not apply to real
estate loan or agricultural mortgage companies.

Art. 43].. --Reduction of capital where there are debentures.

A company which has issued debentures may only reduce its
capital in proportion to the debentures redeemed. Where a
reduction of capital is necessary owing to losses,

the
amount of the legal reserve shall continue to be calculated

on the basis of the capital existing at the time of issue

for so long as the capital and the legal reserve are less
than the value of the unredeemed debentures.

Art. 432. ——Premium bonds and bonds at a discount.

(1) Bonds may be issued at a price greater than their par
value.

(2) Bonds may not be issued at a price lower than their par
value except in accordance with special laws.

Art. 445. --General provisions.

Unless otherwise expressly provided by law, the provisions

of this Code relating to commercial books and bookkeeping
shall apply to the accounts of share companies.

Art. 446. --Accounts. Annual report.

(1) At the end of each financial year, the directors shall

prepare a detailed inventory and valuation of assets
and liabilities.

(2) They shall draw up a balance sheet and a profit and loss

account and prepare a report on the state of the com-
pany's activities and affairs during the last financial
year.

(3) The report shall give detailed information on the profit

and loss account, an exact statement of the total amount
of remuneration of the directors and auditors, and pro-
posals for the distribution of dividends, if any.

Art. 447. --Submission of accounts and report to the auditors.

The inventory, balance sheet, profit and loss account and the
directors' report shall be submitted to the auditors and the
Ministry of Commerce and Industry not less than forty days
before the notices calling the annual general meeting are
despatched.

301

Art. 448. —-Drawing up of the balance sheet and profit and
loss account.

(1) The balance sheet and profit and loss account shall be
prepared each year in the same form as in preceding
years and the methods of valuation on the reasoned ad-
vice of the auditors.

(2) The profit and loss account shall show under separate
heads losses or profits arising out of the company's
various activities.

Art. 449. -—Annexures.

A return of liabilities which do not appear in the balance
sheet, such as guarantees, shall be annexed to the balance
sheet.

Art. 450. -—Amortisation and allowances.

(1) Provisions for amortisation shall be made each year so
that the item to be amortised be written off at the end
of its period of use. Where, during the period of
amortisation, the rate proves insufficient, such rate
shall be increased so that the amortisation corresponds
to the depreciation.

(2) Provisions shall be made fOr amortisation and allowances
for depreciation of assets at the end of each financial
year, even where there are no profits.

(3) The costs of capital issues and increases shall be amor-
tised not later than on the expiry of the fifth financial
year following that during which such issue or increase
was made.

Art. 451. —-Accounts of holding companies.

(1) Where a company is a holding company, the accounts of
its subsidiaries shall be submitted to the annual gen-
eral meeting at the same time and in the same manner as
its own accounts.

(2) A consolidated balance sheet and profit and loss account
shall be—prepared in respect of the holding company and
its subsidiaries.

(3) The provisions of sub-art. (2) shall not apply where the
directors are of opinion that the drawing up of such bal-
ance sheet would be impracticable or too onerous, or of
little concern to the shareholders on account of the
small financial interests involved.

302

(4) The provisions of sub-art. (2) shall not apply if the
Ministry of Commerce and Industry approves, where the
directors of the holding company are of opinion that the
drawing up of such balance sheet could prejudice the com-
pany or its subsidiaries, or that the Company and its
subsidiaries carry out business of such a differing na-
ture that they may not reasonably be deemed to form a
single enterprise.

Art. 452. --Profits.

(1) The net profits comprise the net receipts for the finan-
cial year after deduction of general costs and other
charges, and of amortisation and allowances.

(2) The profit for distribution is the profit for the fi—
nancial year less previous losses and plus additional
revenue and any distribution from the reserve funds
specially approved by the general meeting.

(3) The general meeting shall specify the reserve funds
from which profit for distribution may be taken.

Art. 453. --Reserve funds.

(1) Transfers to reserve funds shall be made from the net
profits shown in the profit and loss account.

(2) Reserve funds shall be as follows:
(a) the legal reserve required by law;

(b) the supplementary reserve created by an ordinary
general meeting in accordance with the articles of
association;

(c) optional reserve created by an ordinary general
meeting in accordance with the articles of associ-
ation;

(d) free reserve created by an ordinary general meeting
there being no special provision in the law or ar-
ticles of association.

(3) Unless otherwise provided in the articles of associa—
tion, reserve funds shall not bear interest.

Art. 454. --Legal reserve fund.
(1) Not less than one twentieth of the net profits shall be

transferred each year to the legal reserve fund until it
amounts to one-fifth of the capital.

303

(2) Transfers shall be made to the legal reserve fund where
it has fallen below the amount fixed in sub-art. (1).

Art. 455. —-Reserve created by issue premiums.

(1) Where an extraordinary general meeting has approved an
increase in capital, the issue premiums may be trans—
ferred to a reserve fund.

(2) Only former and new shareholders may share in the dis-
tribution of such reserve.

Art. 456. —-Allocation and distribution of profits.

(1) Distribution of profits shall be effected after transfer
to the legal reserve as provided in Art. 454.

(2) Unless otherwise provided by law, the balance shall be

distributed in accordance with the articles of associ-
ation.

(3) Payments to directors shall be made in accordance with
the provisions of Art. 353.

Art. 457. --Fixed or interim interests.

(1) The articles of association may provide that a fixed or
interim interest shall be paid to shareholders even
where there are no profits.

(2) Such interest, in a fixed amount, shall be carried to
the debit of the installation account. It may only be
provided for during the period of preparatory works
and construction of the enterprise and shall cease to
be payable as soon as normal business begins. The ar-
ticles of association shall, within these limits, spe-
cify the date when such interest shall cease to be paid.

(3) Where the articles of association provide for a fixed
or interim interest as defined in sub-art. (l) and (2),
such interest shall not be paid unless the articles of
association have been published.

Art. 458. —-Payment of dividends. Rights of shareholders.

(1) Dividends may only be paid to shareholders from net
profits shown in the approved balance sheet.

(2) Dividends distributed contrary to the provisions of sub-
art. (1) shall be treated as fictitious dividends and
the persons making the distribution shall be criminally
and civilly liable.

304

(3) The date and methods of payment of dividends shall be
decided by the general meeting.

(4) Up to the date fixed for payment, the general meeting
may for good reason vary or cancel decisions of a pre-
ceding general meeting concerning the distribution of
dividends or reserves.

(5) A shareholder shall become a creditor of the company
for the amount of the dividend from the date fixed
for payment.

Art. 459. --Claiming back of dividends.

Dividends distributed contrary to the provisions of Art. 458
may not be claimed back from the shareholders, except in the
case of family companies or where distribution was made in
the absence of a balance sheet or not in accordance with the
approved balance sheet.

Art. 460. --Effect of approval of the balance sheet.

The approval of the balance sheet by the meeting shall not
affect the liability of directors, auditors or general man-
agers in respect of their management.

Art. 461. --Publication of the balance sheet.

Within thirty days of the approval of the balance sheet, a
copy thereof together with the relevant minute of approval
by the meeting shall be sent by the directors to the Minis-

try of Commerce and Industry for publication in the Official
Commercial Gazette.

Art. 463. --Right of withdrawal from the company.

(1) Shareholders who dissent from resolutions concerning

any change in the objects or nature of the company or
the transfer of the head office abroad may withdraw from
the company and have their shares redeemed, at the aver-
age price on the stock exchange over the last six months.
Where the shares are not quoted on the stock exchange,
they shall be redeemed at a price proportionate to the
company's assets as shown in the balance sheet for the
last financial year.

(2) Where shareholders wish to withdraw under sub-art. (1),
they shall notify the company by registered letter:

(a) within three days from the meeting, where they have
taken part in such meeting; or

305

(b) where they were not present at the meeting, within
fifteen days from the publication of the resolution
in the Official Commercial Gazette.

(3) The provisions of this Article shall apply notwithstand-
ing any provision to the contrary in the articles of
association.

Art. 464. --Increase of capital. Procedure.

(1) The capital may be increased by the issue of new shares
or by an increase in the par value of existing shares.

(2) New shares issued may either be paid up:
(a) in cash;
(b) by paying off current debts with shares; or

(c) by capitalisation of reserves or other funds at the
disposal of the company; or

(d) by conversion of debentures into shares.

(3) An increase of capital by increasing the par value of
shares may only be effected under Art. 425 (2) where
such increase is not paid up by capitalisation of re-
serves or other funds.

Art. 466. —-Period for effecting an increase of capital.

A resolution of a general meeting to increase the capital
under Art. 465 shall become of no effect if not carried out
within five years unless the increase is by conversion of
debentures.

Art. 467. --Capital to be fully paid before a new issue.

Where a company whose capital is not fully paid increases
its capital by a new issue of shares to be paid up in cash
or of convertible debentures, such issue shall be null and
void.

Art. 482. -Capitalisation of reserves.

Subject to the provisions of Art. 454 (2), an extraordinary
general meeting may decide to increase the capital by trans—
ferring thereto the whole or part of the reserves and to
vary the articles of association accordingly: Provided
that, where the legal reserve is so transferred, no distri-
bution to shareholders may be made until the legal reserve
is restored.

306

Art. 483. --Amortisation of capital.

(1) Only the articles of association or a resolution of an
extraordinary general meeting may authorise amortisa—
tion of capital.

(2) Only profits and reserves other than the legal reserve
may be used for such amortisation.

(3) Amortisation is effected by the redemption of shares
within the same Class. The date on which shares shall

be redeemed may be selected by drawings.

(4) Reduction of capital shall not result from amortisation.

Art. 484. --Reduction of capital.

Proposals for a reduction of capital shall be sent to the
auditors not less than fifteen days before calling the meet-
ing to approve such reduction. The auditors shall report to
the meeting their opinion and the reasons therefor on the

proposals.

Art. 487. --Manner of reduction.

(1) A reduction of capital shall be effected:
(a) by reducing the par value of shares; or

(b) by exchanging old shares for a lesser number of
new shares.

(2) Where a general meeting resolves that a reduction of
capital shall be effected as provided in (b), the share—
holders holding an insufficient number of shares to be
exchanged shall within the period fixed by the meeting
make up the number of shares to a number which can be
exchanged or dispose of their shares to another share-
holder.

Art. 488. --Preservation or conferral of rights on share-
holders.

A general meeting may in a resolution authorising a reduc-
tion provide that the shareholders shall be paid as a com-
pensation for the reduction of the number of their shares
or of the par value thereof an amount corresponding to the
reduction, before any distribution of profits is made in
any financial year.

307

Art. 489. —-Rights of creditors.

Where the Claim of a creditor holding rights prior to the
publication of the reduction of capital is not paid or such
creditor is not given adequate guarantees for the payment
of his claim, he may oppose the adoption of a resolution
under Art. 488 or any distribution of profits until the
capital is restored to the amount existing at the time when
the claim originated.

Art. 490. --Reduction of capital below the minimum required
by law.

(1) Where, by reason of losses, the capital is reduced below
the minimum permitted in Art. 306(1), the capital shall
be increased to the minimum required in Art. 306(1)
within a period of one year from the date of publication
in the official commercial gazette in accordance with
the provisions of Art. 485.

(2) Nothing in this article shall affect the rights of
creditors under Art. 489.

(3) Where the increase of capital required by sub-art. (l)
is not effected or the company is not reorganised, the
dissolution of the company may be ordered by the court
upon the application of any interested person.

Art. 493. --Rights of creditors.

(1) Any creditor holding rights prior to the publication in
the official commercial gazette under Art. 485 may,
where the reduction of capital is in an amount exceed-
ing 10%, object to the resolution within three months
from such publication.

(2) The court may disallow such objection or order the com-

pany to pay the claimant or to provide adequate guarantees
for payment.

(3) No reduction of capital may be effected until the period
specified in sub-art. (1) has expired.

Art. 509. --Preservation of the books.
(1) The books of a company which has been dissolved shall

be deposited with the Ministry of Commerce and Industry
where they shall be kept for ten years.

308

(2) They shall be open to inspection after payment of the
prescribed fee.

Art. 538. --Auditors.

(1) Where a company consists of more than twenty members,
not less than three auditors shall be appointed in the
memorandum of association.

(2) Auditors may be re-elected at such periods and under such
conditions as may be provided in the articles of associ—
ation.

(3) Auditors may be dismissed as provided in the articles
of association. Failing such provision, they may be
dismissed as provided in Art. 535.

(4) The provisions of Art. 374 and 378 shall apply to
auditors.

(5) Auditors shall be liable, individually or jointly and
severally, to the company and third parties for any
fault or negligence in the execution of their duties.

(6) Auditors shall not be civilly liable for offences com-
mitted by the managers, unless they were aware of such
offences and failed to report them to the meeting.

APPENDIX II

THE PLANNING ORGANIZATIONS OF ETHIOPIA

APPENDIX II

THE PLANNIN G ORGANIZATIONS OF ETHIOPIA
1. Planning Board

The Planning Board ' is presided by His Imperial Majesty Haile
Selassie I. The members of the Board are: His Highness Crown
Prince Merid Azm-atch Assfaw Wossen, the members of the Crown
Council, the Prime Minister and the Ministers of the Crown. This
Board is a policy making body, and meals from time to time to review
the overall economic and social situation, and to decide upon major
development policies-

Il. Planning Board Executive Organ '

The Planning Board Executive Organ is chaired by HE. Tsehafi
Taezaz Aklilou Ha-bte Wold, Prime Minister and Minister of the Pen.
The members of the Executive Organ are: The Ministers of Finance,
Agriculture, Commerce and Industry, Public Works and Communica-
tions, P.T.T., Community Development, Public Health, Education,
Information, Mines and State Domains. and Governor of the State Bank
of Ethiopia.

The Planning Board —— Executive Organ is the Executive Body
of the Board. It initiates economic and social development policies
and measures and gives instructions to Ministries, the Planning Office.
technical agencies and other Government and private agencies for the
elaboration of economic and development surveys, annual plans and
medium and long-term plans. It is responsible for the follow-up of
the implementation of the development plans and for the oo-ordina-
tion of the economic and social development of the Nation. .

III. The Planning Board Technical
Coordination Committee

This Committee is chaired by the executive head of the Office
of the Planning Board. The members of this Committee are executive
heads of Planning Units, “ established in the Ministries and/[or
agencies dealing with economic and social development. The Com-
mitee reviews the various proposals and recommendations of the
Office of the Planning Board and submits its recommendations to the
Planning Board Executive Organ.

‘ The Planning Board. Executive Organ and Planning Board Office have been

set up by Imperial Order before starting the first Fiv Y Plan.
" SeeV. ofthiaAppendix e- car

309

310

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APPENDIX III
INCOME STATEMENT AND BALANCE SHEET OF THE

BARR-DAR TEXTILE MILLS SHARE COMPANY

APPENDIX

THE BAHR-DAR TEXTILE MILLS

III

SHARE COMPANY

no." I.” Loss H.300“ m “I. 'IIIIOII
III!" m M" I.“ To ann- JIIII 1.82

Finished products
Sundry

Insurance claims
Rent received

Ileana-familial and non-ml
udmlnl-iruflv. cup-n..-

Raw materials

Consumable stores and supplies
Fuel, gas and lubricants

Salaries

Wages

Medical expenses

Travelling expenses

Repairs and maintenance
Transportation

Rent

Electricity

Insurance

Postage, telegrams and telephone
Advertising

Interest

Bank charges

Miscellaneous

Provision for audit fees

Federal transaction and excise taxes
Commission on sales

Bod-lot

Transfer to establishment expenses of
expenditure to Blst January 1962

Dude-oi

Stock of finished products and work
in process

Loss for the period carried forward

311

Eth. 3

 

108,791.75
3,101.00

311,335.13
43,875.74
16,503.70

330,575.77
49,664.60

3,341.46
24,225.09
3,452.73
12,214.89
3,230.00
27,252.36
8,214.17
2,911.30
267.35
63,227.73
52,316.21
4,827.40
8,000.00
8,729.71
1,087.93

 

975,253.27

226,571.91

 

748,681.36

292,590.10

 

Eth. 8

 

1 11,892.75
2,534.60
21,999.33

1 36,426.68

456.091.26

3 19,664.58

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312

APPENDIX IV
BULLETIN "F" COMPOSITE ASSET LIVES AND APPLICABLE

COMPOSITE RATES FOR VARIOUS INDUSTRIES

APPENDIX IV

BULLETIN "F” COMPOSITE ASSET LIVES AND APPLICABLE

COMPOSITE RATES FOR VARIOUS INDUSTRIESI

The composite lives given here are all taken from Part
II, Estimated Avera e Useful Lives and De reciation Rates, of
the I515 eaItIon of the Treasury Department's Bullegin “F“ on
Income Tax Depreciation and Obsolescence. These life estimates
apply only to new properties. They "include an allowance for
normal obsolescence, but do not contain any provision for ex-
traordinary obsolescence, such as is occasioned by revolution-
ary inventions, abnormal growth or development, radical economic
changes, or other unpredictable factors which may force the re-

tirement or other disposition of property prior to the termina-
tion of its normal useful life."

 

 

Composite Composite

 

Average Rate
Useful Life
(Years) (%)
Agricultural property--bui1dings ........ 50 2
Agricultural property-~machinery and
equipment ........................... 15 6.7
Airplane manufacturing-—machinery
and eqUIpment ooooooooooooooooooooooo 15 607
Airplane manufacturing-~small tools ..... 4- S 20 ~25
Amusement parks ......................... 20 5
Automobile accessories manufacturing--
maChinery O00.0.0.0...OOOOOOOOOOOOOOO 15 6.7
Automobile manufacturing--machinery ..... 15-20 S - 6.7
Automobile manufacturing--tools, dies
and patterns oooooooooooooooooooooooo 3‘ 4 25 ‘33
Automobile repair shops--machinery ...... 10 10
Bakeries--biscuit manufacturers ......... 20 5
l

Adapted from Appendix C of Eugene L. Grant and Paul
Norton, Jr., De reciation (New York: Ronald Press Co.,
1955), pp. 44 -4 O

313

314

Composite
Average Composite
Useful Life Rate
(Years) (%)
BakerieS--bread 000000000000000000000000 14 702
Bakeries-“cake 0000000000000000000000000 1205 803
Breweries--bottling equipment .......... 13 7.6
BrewerieS--bUildings 0000000000000000000 SO 2
BrewerieS--kegs 000000000000000000000000 10 lo
Breweries--machinery & equipment ....... 20 5
Buildings (see end of this Appendix)....
Canneries (fruits & vegetables)--
maChinerY 00000000000000000000000000 15-17 508-607
Cement manufacturing--buildings ........ SO 2
Cement manufacturing--machinery ........ 20-25 4 -5
Cereal manufacturing—-milling
maChinery OOOOOOOOOOOOO0.00.0.0.0... 25 4
Cereal manufacturing--packaged food goods 18-20 5 -5.6
Chemical industry machinery & equipment
including power—generation facilities:
ACidS .0...0.0.0.0....000.00.00.00...O 15 6.7
Alkaline prOdUCtS ....OOOOOOOOOOOOOOO. 22 4.5
Aniline dyes O......OOOOOOOOOOOOOOOOOO 20 5
Atmospheric nitrogen ................. 15 6.7
Carbide and carbon products .......... 15 6.7
Carbonic gas products ................ 16 6.2
Chromium products .................... 15 6.7
coal-tar prOdUCtS 00000000000000000000 20 5
Electro chemicals .................... 17 5.8
Oxygen products ...................... 18 5.6
Pharmaceuticals ...................... 20 5
Soap 0.0.0...OOOOOOOOOOOOOOOOOOOOQ.... 20 5
Clay products——machinery & equipment ... 15-20 5 ~6.7
Coffee, tea, & spices-~machinery
&equ1pment ......OOOOOOOOOOOOOOOOOO l7 5.8
confections OOOOOOOOOOOOOOOOOOOOO....... ls 6.7
Construction industry:
Building construction ................ 10 10
Highway construction ................. 6 10.7
Levee construction ................... 10 10
Marine construction .................. 20 5
Container manufacture, paper
Converting machinery & equipment ..... 15-17 5.8-6.7
Machinery used for making
paper containers OOOOOOOOOOOOOOOOOOO 22‘ 405
Cottonseed oil--machinery .............. 25 5
Dairy industry (divisions of industry)
Cheese .....OOOOOOOOOOOO0.000.000.0000 14 7.2
Milk products
Butter and pasteurized cream ....... 20 5

315

Condensed and evaporated ............
Dry milk powder .....................
Fluid milk and ice cream ............
Pasteurizing and bottling equipment ...
Receiving station equipment ...........
Dairy industry (outside equipment)
Auto trucks & deliv. wagons,
gasoline & electric .................
Automobile tank cars ..................
Horses and harness ....................
Ice cream cabinets ....................
Ice cream fountains ...................
Milk cabinets .00000.00.00.0000000..000
Railroad tank cars ....................
Distilling—-manufacturing machinery .....
BOttling maChinery 00.00000000000000000
Controls, electric ....................
Laboratory 000......00000000000000.000.
Piping 000.00.00.0000000000000.0000.00.
Pumps 0000.00.00.0000000.000.00.0000000
Rack warehouses .......................
Stills 00.00.00.00000000..000.00.000.00

Tanks 0000.000.00.000.0000.00.000.00...

Glass manufacturing, containers--
machinery, not incl. molds & furnaces
Glass manufacturing, plate & window
glaSS--machinery 00000000000000000000
Hotels--furniture, fixtures & equipment..
Ice and refrigeration--machinery ........
Iron & steel industry (incl. buildings)
Overall life for industry ...........
Annealing furnaces ....................
Blast furnace plants ..................
Blooming mills ........................
By-product coke plants, complete ......
Electric weld tUbe “11115 00000000000000
Foundries 0.0.0.0000.0.000000000000000.
Heating furnaces & eqUipment 0000000000
Ingot molds, stools, annealing boxes,
& rolls, generally treated as
.inventory items ...................
Land improvements-—roads, pavements,
sidewalks, culverts, etc. .........
Lap & butt weld pipe mills ............
Merchant bar mills ....................
Open hearth furnace plants ............
(a) Electric furnaces (smelting) .....
(b) Bessemer convertor plants ........

Composite
Average
Useful Life

(Years)

20
20
15
15
15

4- 8
10

7
10
10

6

25
15-20
13
15
15

20
15

30

20

22

15

17-20
12
20

25
22
25
25
25
25
25
20

33
25
25
25
20
20

Composite
Rate
(%)

mCDU1
o
w
I
m
o
(D

mfibbhnbrhub

3.03

U'lU'b-bab

316

Useful Life

Pickling equipment ....................
Plate mills ...........................
Rail mills 000.000.00.00.000.00.00.00.0
Seamless tube mills ...................
Sheet millS--2 high 0000000000000000000
(a) COld relling--2high 00000000000000
(b) Cold rolling--4 high .............
Strip mills--2 high--continuous--
up to 24 inches wide ..............
(a) Strip mills--cold rolling-~2 high.
Strip mills--4 high—-continuous--
36 to 96 inCheS 0.0.0.0000000000000
(a) Cold rolling--4 high-~36 to 96
inCheS 000.000.0000...000000000000
Structural mills ......................
Wire rod mills, complete ..............
Laundries--machinery ....................
Leather and leather products--
shoemaking machinery ................
Lumber & wood products
Creosoting plants .....................
Logging machinery & equipment .........
Lumber remanufacturing plants .........
Portable sawmills & equipment .........
Sawmill machinery & equipment .........
Metal products & processes
AgriCUItural eqUipment 0000000000000000
Aluminum ware .........................
Automobiles ...........................
Bearings ..............................
BOilers .......0000...00000.00.00.00...
Brass & copper stampings & castings ...
Business machines .....................

cans 0000.0.0.000000.00.00.000000000...

Chains 00000000000000000000000000000000

Electrical equipment ..................
Engines and turbines ..................
Firearms ..............................
Hardware 0.0.00.00000000.0.0.00.0...000
Heating 0.0....00000000000000000.00000.
Ice and refrigeration .................
MaChine tOOlS 000.00.00.00000000000 0000
MaChinery .00000.00.00.000.000.000.000.
Pipe ..000000000000000000......00000000
Plurnbing 00000000000000....0.0000000...
Railroad equipment ....................

Composite

Average
(Years)

18
3O
35
20
2O
20
3O

20
20

25

3O
25
25
14

15

20-25
10-15
20-25
10-12
20-25

20-25
20-25
15-20
14-20
20-25
25-30
15-20
20-25
20-25
17-20
20-25
18-20
25-28
20-25
17-20
17-20
20-28
20-25
15-20
25-28

Composite

Rate
(%)

mcuox
m

LDU1 UJMLDUHUUOW
0 O 0 O 0
w w

0
H
b

0 o
w \J Q

0
w

0
O3

MLHALDUHfiflswLDhMfifisbLHUMbanJ>hn mstsonn m QJ>¢Mfl b
o
G)

0
O)

I
H

I
p(DUHflLnUHfl£>UHflLnUHflODhJfl~JGHfiU1 LHCHflCDM

I
F‘

00
GWQ

0
q

0
O) (D

00
03m

317

Composite
Average
Useful Life
(Years)
Refrigeration (household appliances) ... 10-15
scales 00.00.00.00.00........0000000.000 20-25
sewj'ng maChines 000......0000.....0.0000 1.4-1.8
Ships 0000000000000000000000000000000000 20-25
Tractors .0.000.0.0000000..00..0.0.00000 12-20
“heals (autO) ...000.000.000.00000000000 12-20
Motor and other vehicles (except public
utility and construction industries)
Automobiles
Passenger 0.00.0.000000000.00.00.00.00 5
salesman .0......00000.000.000.00.00.0 3
Horse-drawn vehicles ................... 8
Motorcycles ............................ 4
TraCtorS 000.0000000000000000.0.0...0.0. 6
Trailers 00.0.0.00.0..0000......00000.0. 6
Trucks
InSide use .00....0000000000......000. 15
Outside use
EleCtriC 00.000.000.000.000000000000 10
Gas, Heavy 00000000.....00000.0.0.0. 8
Light 0.0000000000.000.0.0.0....0. 4
Medium 00.00.0000.000......000000. 6
Office equipment 0000000000000000000000000 15
Furniture, fixtures, and filing cases .. 20
NeChanical equipment 0000000000000000000 8
Safes 0.0000000000000000...0.00.00.00.00 50
Optical lens & instrument manufacturers .. 25
Packing house machinery & equipment ...... 17-20
BranCh maChinery 000000000000.00000.0000 20
Packing house machinery ................ 20
Packing house, movable equipment ....... lO
StOCk yards 00000000....00000.000.00.000 l7
Paints & varnishes--machinery ............ 20
Power generators & electrical equipment
(other than public utility plants)
Electrical equipment pertaining to
generation of hydroelec. energy .... 30-40
Electrical generation through steam
processes 00000000000000000000000000 20-25
Steam power & generating equipment ..... 20-25
Printing & publishing .................... l7
Assembling department .................. 10
Composing room ......................... 12
Linotype department .................... 17
Photography department ................. 10
Printing department .................... 20-25
Rotogravure department ................. l7
Type0.0.....0...0...00.00.0000000...... 6

Composite

Rate
(%)

6.7-10

mtnptnp
I
mCDUh4U1

.6

l I
0
wt» to

20
33.3
12.5
25
16.7
16.7

6.7

10
12.5
25
16.7
6.7

12.5

(fiLflCDUHfiLn¢HV

. O
m

I I I
win U

0
w

H
00
CH» m

...:
mtflfibOWDGHDtflhuh N
0 0
\JW

I

m

H

318

Composite
Average Composite
Useful Life Rate
(Years) (%)
Professional and scientific equipment
Professional libraries ................ 30 3.3
Scientific equipment used by
dentists, doctors, etc. ........... 10 10
Public utilities
Bridges
Concrete & steel or masonry, large .. 100 1
Concrete & steel or masonry, small .. 75 1.3
Steel, heavy 00000000000000.000000000 SO 2
Steel, light 000000000000000000000000 4O 205
Electric utilities
Av. life, typical system,
hydro-electric power ............. 40 2.5
Av. life, typical system,
steam generated power ............ 31 3.3
Gas utilities, artificial ............. 47 2.1
Ice plants 0000000000000000000000000000 22 405
Radio broadcasting & telegraphy
Composite life for common carrier
radio equipment ................. 14 7.2
Composite overall life for radio
broadcasting equipment .......... 10 10
Marine radio equipment .............. 15 6.7
Steam heating av. life, typical system. 33 3.03
Steam railroad equipment .............. 28 3.57
Street railways ....................... 29 3.56
Telegraph utilities
Cable equipment 000000000000000000000 33 3003
Land lines .......................... 33 3.03
Ocean cable lines ................... 67 1.5
Telephone companies ................... 22-28 3.5 -4.5
water SUPply 00000000000000000000000000 67 105

Pulp, paper, & paper board
Paper machinery & equipment:
Book, magazine, mimeograph,
blotting, & specialties ......... 22 4.5
Cartons and containers--
Converting mill machinery

& equipment 000000000000000000000 15 607
Paper mill machinery & equipment .. 22 4.5
Coarse-wrappings, box-boards,
rOOfingS 000000000000000000000000 22 40S
Fine-ledgers, writings, bonds,
tissues, etC0 0000000000000000000 28 306
Newsprint 000000000000000000000000000 18 506
Paper bags-—
Converting mill machinery & equip.. 17 5.8
Paper mill machinery & equip. ..... 22 4.5

319

Composite
Average Composite
Useful Life Rate
(Years) (%)
Pulp machinery and equipment:
Ground wood ............................ 22 4.5
Rag OOOOOOOOOOOOOOOOOOOOOOOOOOOOOOQO...O 28 3.6
SOda .....OOOOOOOOOOI0.0.0....0.0.0.0... 20 5
Sulphate or Kraft ...................... 17 5.8
SUlphite 0.0.00.0...00.00.000.000...COO. 2O 5
Restaurants, bars, & soda fountains--
furniture and fiXtureS 000000000000000 10’14 702-10
Rubber goods--machinery not incl. molds .. 17 5.8
MOldS ..OOOOOOOOOOCOCOOOOO0.0.0.0.000... 3 33.3
Soft drinks--machinery ................... 13-15 6.7- 7.6
Stores-—composite life for machinery,
furniture and fixtures:
Dry goods & furniture stores ........... 15-20 5 — 6.7
Grocery stores & meat markets .......... 12-15 6.7- 8.3
Sugar--beet and cane
Machinery & equipment incl. power gen... 40-50 2 - 2.5
Machinery used in refining only ........ 28-30 3.3— 3.6
Textiles
Machinery for knitting cotton,
WOOI’ or Silk ......OOOOOOOOOOOOOOOO ls 6.7
Machinery for spinning & weaving
cotton, wool, or silk .............. 25 4
Rayon manufacturing machinery .......... 16 6.2
TheaterS--equ1pment 000000000000000000000 15 607
Tobacco products--machinery & equipment .. 15—20 5 - 6.7

320

 

 

 

 

 

 

 

 

BREAKDOWN OF TYPE OF BUILDINGS
Composite rate (percent)
Type of Construction
Good Average Cheap
Apartments 2-1/2 2-1/2 3
Banks 2 2 2-1/2
Dwellings 2 2-1/2 3
Factories 2-1/4 2-1/2 3
Farm buildings 2 2 2-1/2
Garages 2 2-1/2 3
Grain elevators 1-1/2 2 2-l/2
Hotels 2-1/2 2-1/2 3
Loft buildings 2 2 3
Machine shops 2 2-1/2 3
Office buildings 2 2-1/2 3
Stores 2 2 2-1/2
Theaters 2-1/2 3 3-1/2
Warehouses 1-1/2 2 2-1/2
Total Life (Years)
Apartments .......... 50 Hotels ............ 50
Banks ............... 67 Loft buildings .... 67
Dwellings ........... 60 Machine shops ..... 6O
Factories ........... 50 Office buildings .. 67
Farm buildings ...... 60 Stores ............ 67
Garages ............. 6O Theaters .......... 50
Grain elevators ..... 75 Warehouses ........ 75

 

APPENDIX V

HAILE SELLASSIE I UNIVERSITY,
COLLEGE OF BUSINESS ADMINISTRATION

CURRICULUM

APPENDIX V

HAILE SELLASSIE I UNIVERSITY

COLLEGE OF BUSINESS ADMINISTRATION CURRICULUMl

Major Program, First Year
(All Students)

Eng. 101(3) English Language Eng. 102(3) English Language

Skills I Skills I

Econ. 103(3) Economics I Econ. 104(3) Economics I

Eth. Lang. 101(2) Amharic Eth. Lang. 102(2) Amharic
Language 1‘ Language 1'

Math. 121(3) College Bus. 102(3) Mathematics
Algebra for Business

Bus. 101(3) Introduction Bus. 104(2) Introduction
to Business to Accounting
(2) Studies of Ethiopia“ (2) Studies of

Ethiopia“

Major Program, Second Year
(All Students)

Econ. 203 (3) Economics II Econ. 204(3) Banking,

Monetary & Fiscal Policy
Educ. 101(3) Psychology I

Eng. 201(3) College English"' Educ. 102(3) Psychology I

Bus. 201(0) Typewriting Eng. 202(3)College English"‘
Bus. 203(4) Elementary Bus. 202(0) Typewriting
Accounting Bus. 204(4) Elementary
Bus. 205(3) Business Accounting
Statistics Bus. 206(4) Ethiopian

Commercial Law
...—1%. .—
Foreign students may substitute a European language
for Amharic.

" Students must take two of the following during the
first year as available: HES? Lang. 111 or 112, Geog. 111 or
112, Hist. 111 or 112, Soc. 111 or 112, Pol. Sci. 111 or 112.

“‘ Unless taken in the first year.

1Haile Sellassie I University Catalogue (Addis Ababa,
Ethiopia, 1965), pp. I76: 176A, 177.

 

321

322

Maj or Program

Management, Third Year

Eng. 301(3) Business Report Eng. 302(3) Business English
Writing Econ. 310(3) International
Eth. Lang. 311 (2) Amharic Economics & Economic
Report Writing Development
Bus. 307(4) Business Bus. 308(4) Organization &
Organization & Management Management Seminar
Bus. 309(4) Personnel Bus. 310(4) Personnel
Management & Human Management & Human
Relations (3-4) Elective Relations Seminar
Bus. 312(4) Managerial
Controls

Management, Fourth Year‘

Bus. 403(3) Operations Bus. 404(3) Production
Research Bus. 408(3) Finance
Bus. 405(4) Marketing Bus. 410(4) Business Policy
Bus. 407(3) Finance Bus. 406(4) Marketing
Bus. 409(4) Business Seminar
Seminar (2-4) Elective" (2-4) E1ective“

Major Program

Accounting, Third Year

Eng. 301(3) Business Report Eng. 302(3) Business English
Writing Econ. 310(3) International

Eth. Lang. 311(2) Amharic Economics & Economic
Report Writing DevelOpment

Bus. 303(4) Intermediate Bus. 304(4) Intermediate
Accounting Accounting

Bus. 307(4) Business Organi- Bus. 312(4) Managerial
zation & Management Controls

Bus. 309(4) Personnel Bus. 314(2) Taxation
Management & Human
Relations

' Fourth Year Program effective 1966-67.
“ Economics 411-2, Seminar in Problems of Economic
Development of Ethiopia, recommended.

323

Accounting, Fourth Year

Bus. 403(3) Operations
Research

Bus. 405(4) Marketing

Bus. 407(3) Finance

Bus. 415(4) Cost Accounting

Bus. 417(4) Governmental
Accounting

404(3)
410(4)

Production
Business Policy

408(3) Finance

416(4) Auditing
Principles

418(4) Advanced
Accounting Seminar

Bus.
Bus.
Bus.
Bus.

BUS.