Accounting In The Food And Drink Industry

Editorial Note: We are delighted to publish the following editorial by Professor Lisa Jack of the University of Portsmouth in the United Kingdom. The content is representative of the quality of the material that our colleagues will share at our 2019 Annual Meeting in San Francisco next month.

We hope to see you there! As always, when you read the comments of our columnists, please keep in mind that they only speak for themselves. They are not expressing the positions of the AAA or of any other party.

Is it in the public interest to know about accounting in the food and drink industry? As one of the very few researchers in the discipline who study this field in depth, and I’ve been looking at the industry for nearly 20 years now, what I usually encounter is a vague idea that accounting in the area ‘cannot be that complicated’, something that runs philosophically with a general unawareness of what really goes into producing food and drink in a developed, capitalist country.

It’s not that people are generally disinterested in food and drink, and where it comes from. Yes, some schoolchildren and some adults take supermarket food for granted and are bemused to find that what they eat involves animals and plants (and chemicals). But the TV schedules, in the UK and Canada at least, are filled with people cooking and baking, and investigating ‘how things are made’, food scandals, diets and advising on how to reduce the costs of the weekly shop for families. Gastronomy, artisan foods, organic, vegan – all are taking new footholds and as Julie Guthman of UC Santa Barbara says very quickly become part of a capitalism that embodies (literally) the faults in the system. The domination of capitalist multi-retailers and food processing companies is directly implicated in policy on both obesity and healthy eating.

In fact, most of us have a reasonable general knowledge of food and some perception of what it costs to produce, distribute and sell. But it is a complicated industry, with complicated social interactions at play. The accounting is also complicated – and often under the radar. So, I want to touch first on how others have articulated the underlying problems and then on bringing forward some of the things I’ve found going on under that radar. In particular, here, I’m interested with others on how city dwellers (around 55% of the world’s population according to the UN, and set to rise to 68% by 2050) see food.

Michael Pollen (The Omnivore’s Dilemma) and Michael Carolan (The Real Cost of Cheap Food) are the other must reads in this area, along with Julie Guthman (Weighing In).

One of the most quoted and respected writers in the US is Wendell Berry (b.1934), this is an extract from ‘The Pleasures of Eating’.

I begin with the proposition that eating is an agricultural act. Eating ends the annual drama of the food economy that begins with planting and birth. Most eaters, however, are no longer aware that this is true. They think of food as an agricultural product, perhaps, but they do not think of themselves as participants in agriculture. They think of themselves as “consumers.” If they think beyond that, they recognize that they are passive consumers. They buy what they want — or what they have been persuaded to want — within the limits of what they can get. They pay, mostly without protest, what they are charged. And they mostly ignore certain critical questions about the quality and the cost of what they are sold: How fresh is it? How pure or clean is it, how free of dangerous chemicals? How far was it transported, and what did transportation add to the cost? How much did manufacturing or packaging or advertising add to the cost? When the food product has been manufactured or “processed” or “precooked,” how has that affected its quality or price or nutritional value?

Georg Simmel wrote in 1903 in ‘The metropolis and mental life’: “…the money economy that dominates the metropolis in which the last remnants of domestic production and direct barter of goods have been eradicated and in which the amount of production on direct personal order is reduced daily. Furthermore, [a] psychological intellectualist attitude and the economy are in such close integration that no-one is able to say whether it is the former that has affected the latter or vice-versa”. One result might be that living in a city makes one unaware of the cost of food production, and the effects of a demand for cheap food on suppliers and producers. The English writer Adrian Bell (1931) says that when he was a struggling farmer (having been a city-bred boy who chose an apprenticeship on a farm over other professions): “I began to realise, also, how much of the money which the consumer says he gives so plentifully, and of which the producer says he receives so sparingly, fell through the hole in the middle-man’s pocket into the gulf of wastage and wear-and-tear. What Mrs. Sinks of Surbiton doesn’t realise is that for the privilege of going out at any moment and buying a chicken ready for the oven, she has to pay for all those other times when the chicken was waiting for her and she doesn’t want it”.

This last quote is so relevant to what I hear in conversations that I have today. Consumers (or “individual eaters” for a less pejorative term these days) tell me at length either about how wicked it is that the supermarkets charge so much and make such large profits, or at length about how they are prepared to pay more in order to get quality, or fairness, or whatever, and how wicked it is that supermarkets charge so little for (junk) food. Producers, suppliers and retailers tell me about the difficulties of maintaining incredibly tight NET margins averaging around 1-2% of turnover, but I also find that increasingly, I am looking at the money that vanishes in between. I am also taken with looking, as Bell does, at the problem from the other side, the non-consumer side. Here in the UK, for example, food manufacturing, processing, distribution and selling accounts for some 29.5% of GDP, employs 14% of the workforce and accounts for £22bn of exports (including quite a lot of scotch whiskey). Yet, of the 6,000 companies in the industry (excluding farmers, around 2% of national production), 5,800 are small or mid-sized entities and nearly 1500 are teetering on the edge of insolvency.

What is included then, in a conversation about accounting and the public interest? A surprising number of topics, in fact, which include: subsidies and support from government; the public cost of deleterious consequences of the food industry – public in terms of social and environmental damage; individual costs in terms of health and well-being; pay inequality (there are attested reports of workers in supermarkets having to use foodbanks, whilst executives can be very highly remunerated); the whole cheap food debate linked to the real costs of production; power and capitalism, evinced in the extreme concentration of production and selling in the hands of a few businesses. These debates are already out there but I promised to discuss what things go under the radar, which is what I research. Here are three of them: commercial income; discounting in negotiations and the growth of food service. There is also the nature of narrow margins, marginal costing, performance measurement and risk assessment and their effect on the fairness of the industry*. Enough for a book, let alone one blog post, so I am just going to focus in on commercial income.

In the UK, the largest supermarket (Tesco) was acquitted on charges of fraud related to an overstatement of £250million in its profits. What is not in dispute is that the overstatement related to recognising commercial income in advance.

Following disquiet on its commercial income, the supermarket Morrisons in the UK started to lead the industry on disclosures of this activity in the annual report but only from 2014/15. The Germany-based discounter, Aldi (recently spotted in an outpost in Ames, Iowa and a significant rising player in the UK), states clearly that it does not use commercial income in its purchases.

In the US, as one BBC article reports, “According to Fitch, the credit rating agency, the payments are the equivalent to 8% of the cost of goods sold for the retailers, equal to virtually all their profit.”

So, what is commercial income? Briefly, it is income from suppliers to retailers. This, of course, should elicit the response ‘What, hang on a minute, customers pay suppliers, right, not the other way around?’ This is to fundamentally misunderstand the nature of multiple retailers (supermarkets). In fact, the new terminology handily loses the term ‘market’ but that is what they are offering and managing. Like a marketplace, you pay the market owner for a place and their ability to bring people in to buy. You might reward them for doing the latter well and for selling large quantities of your product. Commercial income, then, includes a raft of payments extracted from the supplier for the privilege of supplying – space, bonuses, discounts offered and so on. However, supermarkets are also now driven by customer demand (created largely by the supermarkets themselves) for full shelves, full choice all year around. Suppliers tied into the system, already taking the slimmest of margins for their products because the margin needed by the retailer to run their system is substantial, are bound to deliver in full, to specification, on time. For some supermarkets, the slightest infringement of this incurs penalties, also accounted for under ‘commercial income’. The supplier might well lose the payment for the consignment as well. An article in the British weekly industry publication in 2015, ‘The Grocer’ lists around 30 different types of commercial income.

Essentially, supermarket profits do not come from consumers, they come from suppliers. Link that with extended payment terms and it becomes clear why small and mid-size food companies, and their employees, are at risk. It is not a case of ‘supermarkets bad, suppliers/consumers good’. There are retailers have records of working to build long-term beneficial relationships with some suppliers and many consumers themselves prefer to shop under the radar than visibly in a local shop, and to have the perceived convenience. The job for accounting researchers is to help devise possible alternatives to enhancing profits that do not involve commercial income, low wages and non-affordable food. That really is a research challenge.