Time to Revisit Capital Maintenance on Profits Distribution: Lesson from Carillion and Beyond

Abstract

This paper aims to reengage the debate about capital maintenance as the regime for restricting the distribution of profits. Two arguments challenging the effectiveness of capital maintenance are made here. The first argument says that fair value accounting applicable to fixed assets creates complications for compliance with capital maintenance in the area of profits distribution. Prior literature has studied the link between fair value accounting and distributability of the revaluation reserve of fixed assets. Little research has been seen, however, relating to the complications this may cause to the compliance of capital maintenance. The second argument says that the effectiveness of capital maintenance as a creditor security mechanism is undermined by the fact that the satisfaction of capital maintenance in relation to profits distribution is not equal to company solvency. To make this argument, I examine the intersection between capital maintenance and accrual accounting principle through both theoretical analysis and a case study of the recent collapse of Carillion plc, and conclude that the intersection gives rise to aggressive accounting, and aggressive accounting creates a situation where capital maintenance is satisfied but company solvency is not. Capital maintenance facilitates aggressive accounting and therefore should be reformed. Capital maitenance, company solvency, carillion, accrual, fair value, aggresive accounting