Peeling away financial reporting issues one layer at a time

The FASB’s Mission Incomprehensible

I had believed that one of the few positives to come out of the wave of accounting scandals that broke at the beginning of the just-completed decade would be a general awareness of the critical role that financial reporting and its regulation plays in the functioning of large economies. There certainly seems to be more in-depth coverage in business periodicals, but little else. For example, I was appalled at how little coverage my hometown paper, the Arizona Republic gave to the SEC investigation of Phoenix-based Apollo Group's revenue recognition policies.

But, the NYT's Paul Krugman soothed my ruffled feathers more than a little in his last column of 2009 (which incidentally was at the top of the Times' 'most emailed' list for about a week:

"For as the decade began, there was an overwhelming sense of economic triumphalism in America's business and political establishments, a belief that we — more than anyone else in the world — knew what we were doing.

Let me quote from a speech that Lawrence Summers, then deputy Treasury secretary (and now the Obama administration's top economist), gave in 1999. 'If you ask why the American financial system succeeds,' he said, 'at least my reading of the history would be that there is no innovation more important than that of generally accepted accounting principles: it means that every investor gets to see information presented on a comparable basis; that there is discipline on company managements in the way they report and monitor their activities.' And he went on to declare that there is 'an ongoing process that really is what makes our capital market work and work as stably as it does.'

So here's what Mr. Summers — and, to be fair, just about everyone in a policy-making position at the time — believed in 1999: America has honest corporate accounting; this lets investors make good decisions, and also forces management to behave responsibly; and the result is a stable, well-functioning financial system.

What percentage of all this turned out to be true? Zero." [my emphasis]

And this assessment comes from a guy who has repeatedly displayed a soft spot for financial regulation. Considering the sheer size of diversity of Krugman's audience, it is a devastating indictment that should make the FASB's ears ring.

It All Begins with a Mission Statement

My dear wife, Jane, had a long and distinguished career as an information systems consultant; and her engagements usually began with an in-depth examination of the client's mission statement. Thusly is writ the first sentence of the FASB's:

"The mission of the FASB is to establish and improve standards of financial accounting and reporting for the guidance and education of the public, including issuers, auditors, and users of financial information. …"


Jane has very patiently explained to me on multiple occasions the purpose of a mission statement, and what it should say about an organization. I have to confess, however, that my mind doesn't work on that level. But, I did absorb enough to know that one's mission should be clearly stated and universally understood.

I have studied accounting intensely for more than thirty years, and I don't understand the FASB's mission statement. The only substantive indication I can glean from it is a clear intent to be unclear, thereby rendering the processes in place for setting accounting standards as muddled as the standards themselves. Aside from just being able to state that one does indeed have a mission statement, its only apparent use to the FASB is as a sort of blank check to throw a bone whenever it wants to whomever it wants.

Of course, methinks it should be quite easy to write a sensible and comprehensible mission statement. I offer this one, which I threw together in about 15 minutes, just to kickoff the rest of this conversation with myself.

The mission of the FASB is to establish and revise standards of financial accounting and reporting that significantly improve the usefulness of financial statement information to current and potential investors. Recognizing that significant improvements are urgently needed in numerous aspects of accounting and financial reporting, the Board is to continually evaluate the pace of change, and whether its short- and long-term goals are appropriate considering the current informational needs of investors.

The Board also gives due consideration to the feedback from non-investor stakeholders – principally auditors, preparers, attorneys and other finance professionals – to the extent that such feedback provides relevant information regarding cost and feasibility of a proposed change to standards. However, the evaluation of a proposed standard's effect on relevance and reliability, is to be made independent of feedback from non-investor stakeholders.

Now, that's a mission statement I hope Jane would be proud to read. It's a clear set of marching orders that identifies the organization's 'customers', what to produce, and how to produce it.

Convergence: Mission Impossible

Convergence with IFRS could be the clearest and most timely example of how a true mission statement would direct the FASB goals and processes; there should be general agreement that standards production efforts over the past decade have been focused on attaining convergence with International Financial Reporting Standards. Yet, convergence is neither a necessary nor a sufficient condition for producing significant improvements to the quality of accounting and financial reporting.  As such, according to my own view of what the FASB's mission should be, it is a non-core activity. Indeed, a decade's worth of "zero," as Paul Krugman would have it, must perforce lead one to conclude that convergence has been a prime source of standards production inefficiencies.

I could cite any number of examples of counterproductive behavior resulting from convergence fixation, not the least of which would be the current idiotic "debate" over fair value for financial instruments. But I cannot possibly do any better than Dennis Beresford, erstwhile FASB chair, in a recent posting to the AECM listserv (frequented by about 700 academics and other interesting people):

"But what I find most interesting about the recent decision for the Boards to start meeting every month and to complete the converge plan by 2011 is that these are projects that have begged for a solution for decades in some cases and now they will supposedly be finished in two years. The consolidation project, for example, was added to the FASB's agenda in 1982 and the Board has never been able to operationalize a definition of 'control.' But somehow the joint efforts of FASB and IASB will now solve that issue in 24 months, including all of the normal due process.


And the IASB has just issued an exposure draft on financial instruments impairment and other issues. One 'feature' of that ED is that loan losses will be accounted for using an expected loss model rather than the incurred loss model we have in SFAS 5. This means that companies will have to predict future losses over the lives of loans and not just record what has already happened. Some of the old timers on this list may recall that one of the main reasons the FASB issued SFAS 5 was to eliminate the practice of accruing "catastrophe losses" in advance. In other words, casualty insurance companies that previously priced policies and accrued for a portion of expected future losses for floods, hurricanes, etc. could no longer do so. The new IASB exposure draft deals with with [sic] loan collections and not casualty losses but the principle is the same and applying it would move us back to the pre-SFAS 5 accounting. Is that progress? More importantly, is that something that is capable of being accomplished before the end of 2011?" [italics supplied by me]


Here we have yet another devastating indictment of the process that has dominated standard setting for the past decade. Some convergence has been achieved, but far short of a reasonable goal, even if one were to believe that convergence, in and of itself, were a valid goal to embrace. Just one implication of Denny's comments is that the legacy of the FASB's fixation on convergence could be the entire world ending up with German-style hidden reserves all over again. (I can't resist pointing out that I am writing this while on a plane heading to Frankfurt!)

Convergence has been the tail wagging the dog of high quality accounting standards. The FASB could be much better by starting 2010 with a reconsideration of its mission statement, instead of a head-over-heels run to a finish line – precisely situated at the edge of a cliff.


  1. Reply Dennis Elam January 9, 2010

    Or as Ross Perot commented to GM when informed it would take five years to bring a new car to market, gee, we won WW II in four! What have they been doing all this time?
    If you asked the FASB the cost of a toothbrush they would tell you it is the present discounted net cash flow of what you would have spent at the dentist had you not used a toothbrush less what you saved by using the toothbrush and not going to the dentist, this of course is impossible to calculate…
    Dennis Elam PhD CPA
    Asst Prof Acct
    Tx A & M San Antonio

  2. Reply Warren Miller January 11, 2010

    Anyone who thinks the U.N. is the cat’s meow is gonna love IFRS. Just as Khadafi chaired the old U.N. Human Rights Commission, I can just hear the preaching of the Russians, the Chinese, and the Saudis as they lecture us about the virtues of transparency and full disclosure.
    Warren Miller, CFA, CPA
    Beckmill Research, LLC
    Lexington, Virginia

  3. Reply Independent Accountant January 18, 2010

    I agree. The FASB may take us back to German contingency reserves which will render the income statement virtually useless. So much for convergence. Who will benefit from convergence? The Big 87654, which can sell IFRS implementation studies. Wonderful. Another Sox 404 fiasco.

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