SECRET RESERVES.

Auckland Star, Volume LXVIII, Issue 235, 4 October 1937, Page 4

SECRET RESERVES.

BANKING PRACTICE. COMMISSION'S FINDING. It is customary for a bank to set aside, before disclosing its profits, certain amounts which are used to create or increase reserves, variously described as "inner reserves," '"secret reserves," "rescues for contingencies," or "contingencies." The nature and amount of these reserves are not disclosed in the published accounts. Inner reserves lire usually created by charging against profits a provision for the depreciation of premises or investments, or for bad and doubtful debts, in excess of the amount actually required for that purpose. The result is that the asset in question appears in the balance-sheet at less than its true value. Discussing this aspect of banking practice, the "Wild Cat Monthly" says:— "That provision should be made for any ascertained or even probable depreciation ot premises, and investments, or for doubtful debts, is not arguable. The question arises, however, whether these provisions should not be shown in the published accounts. The importance of the question is due to the fact that it is easy to obscure the profits of any year by making provision for the purposes stated, or by taking into profits some of the provisions set aside in previous years. It is almost impossible for any business (including a bank) to continue to build up secret reserves without ultimately disclosing their existence. The accounts of any bank over a long .period of years disclose a reasonably correct view of the trend of its operations.

"The origin and use of inner reserves cover such a wide field of circumstances that a decision as to whether they have been properly or improperly made or used can be arrived at only after a full consideration of the facts in each individual case. Where a company carries on an ordinary business the existence and use of inner reserves is a matter which principally concerns the shareholders. But in the case of a bank other considerations arise, namely, the interests of the depositors, who provide a much larger proportion of the total funds than the shareholders. 'J lie depositors have no voice in the management of the bank and are poweileso to insist upon disclosure of info) niation which may have a vital bearing on the safety of their deposits. "The bunking commission therefore recommended 'that before arriving nt the profits of any accounting period the directors should be entitled to make reasonable provision for debts which are doubtful and interest which may not be received without disclosure, but if it is desired to make any additional provision it should be made out of disclosed profits, as is the present practice of one of the trading banks; that provision for the depreciation of premises, or to write down the value of premises, or for depreciation of investments, should be made out of disclosed profits; that transfers from inner reserves to the credit of the profit and loss ace.unit dining the accounting period should bo disclosed, and that the existence of inner reserves should be indicated in a similar manner in the accounts of all the banks.' "