Peeling away financial reporting issues one layer at a time

I’m Not the Only One Dissing the SEC’s IFRS Fixation

Every time I write a post, I might receive a couple of non-spam comments, and perhaps a few more private emails intended for my eyes only. Most of the feedback is positive, and even encouraging. Nonetheless, I am by nature particularly sensitive to negative feedback, even when delivered in a kindly and constructive manner.

For example, Edith Orenstein thinks I jumped the gun with my assertion that the "fix is in," on the forthcoming SEC Roundtable on IFRS; and Lane suggested that my arguments lack force when I predicted that some panelists would be shills. These comments came even prior to my most irrascible rant on the Roundtable after it took place. In some ways, this post is a response to Edith and Lane: I know that my comments are often unkind and liberally dosed with irreverence and sarcasm; but in my defense, I am not the only one out there letting their frustration with the SEC's IFRS fixation hang out.  Consequently, even in my most untethered moments, it feels kinda OK to know that I'm in pretty decent company:*

Lynn Turner, a former SEC chief accountant no less, circulated this email bearing the incendiary subject line "Stacked Deck":

"I find it interesting that so many credit rating agencies are given slots at the SEC IFRS roundtable when they were the very ones who so shafted investors. And Jonas who was at one of them, now at Morgan Stanley, and who was head of the AA national office is another one of the participants.

Take a look at the panelists on the small-company panel. Bank of the West isn't a public company – it's owned by BNP Paribas. Cuisine Solutions has a subsidiary in France – sort of unusual for a small U.S. company. Viropharma has a European unit. Tandy Leather has operations in Canada and the UK. Are you seeing a pattern here? They specifically aren't having as panelists the kind of strictly domestic small public company that wouldn't benefit from IFRS."

And in a subsequent email:

"The SEC so stacked this deck it is beyond one's imagination as to why they would expect anyone outside their 4 walls would see this as anything short of the typical Washington DC contrived outcome."

Jack Ciesielski, former member of FASAC, AcSEC, EITF and author of one of the most highly respected publications for financial statement analysts, described the upcoming Roundtable as a "railroad job." And he also wrote a must-read comment letter on the SEC staff's paper, "Exploring a Possible Method of Incorporation." Like Gaylen Hansen's remarks from the Roundtable, all of Jack's criticisms are quite devastating, but the one from Jack that resonates with me for its originality and the vividness of the example is the following:

"If the FASB is barred from starting projects independently of the IASB, how are American investors best served? There could be financial reporting issues that are unique to our country, that would never be addressed by the IASB – simply because they are not a problem in the rest of the world.

An example may help make the point. In the United States, many … are troubled by what they consider to be excessive executive compensation. There is only a limited amount of information available annually regarding executive compensation. More comprehensive information about all of a firm's human capital costs (not just executives' compensation), directly displayed in financial statements on a quarterly basis, would be useful for investors to help them assess the value of pay packages on which they vote annually. … There's no cohesive model or set of disclosures for reporting pay information. What gets measured, gets managed – and since there's not much reporting of pay information to investors, it's likely not to be managed too well.

It's a uniquely American problem, not shared elsewhere in the world. The FASB should undertake a project for improving investor information in this area – but it would be barred from doing so under condorsement, unless the IASB deemed it necessary. That's not likely to happen unless it became a problem elsewhere in the world. Is it fair to ask American investors to wait until an American issue that may be resolved by better accounting and disclosure is a problem in the rest of the world? In a word: No." [ first line bold in original, bold italics supplied]

Professors Ed Ketz and Anthony Catanach (Grumpy Old Accountants blog) evidence even less restraint in venting their frustration than yours truly. The title of their latest blog post, "IFRS is for Criminals" is more than sufficient evidence for that.

Floyd Norris, NYT columnist, trenchantly observed that, if the SEC were to follow through on its "condorsement" idea, many "flavors" of accounting would be the result for many years – if not indefinitely. The drive for IFRS to eventually replace U.S. GAAP increasingly appears to be coming from large companies who would like the SEC to give them the option to report using IFRS, just like many of their counterparts overseas.

But, I enjoyed Floyd's column the most for his one-liner response to the latest lobbying by IASB chair Hans Hoogervorst for the EU to endorse its latest pronouncement on the accounting for loan losses. Hoogervorst said straight out that the rule should appeal to the European Commission because it gives banks the free option to ignore economic reality, e.g., Greek bonds trading at junk debt levels:

"But it may not appeal as much to those who rely on financial statements, and would prefer to know when a bank's loans go bad. As a sales pitch, 'Adopt our rules and you won't have any losses' does not sound like a promotion for a superior set of accounting standards." [emphasis supplied]

Gosh, I wish I had written that!

Some say that the same sorts of political machinations are at work on U.S. GAAP. Even granting that point today (which I don't), imagine how things will look if more countried created an EU-like infrastructure for the purpose of lobbying the IASB for just the right IFRS standard to incorporate into its own system. The EU, the US, China, Japan and a hundred other smaller economies would be 'on board' with IFRS, but the IASB chair's head would have to be on a swivel in order to fend off each and every attack from increasing numbers of 'incoporators', 'endorsers', 'advisory groups', etc. The IASB will, in effect, devolve to something awfully akin to its early beginnings when the IASC (the IASB's predecessor) worked as a 90-person committee.

The only "standards" or "principles" back then were that there were none. A new era of balkanized accounting jurisdictions could put the IASB right back to where it started.

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*Some of the comments made were in private correspondence with me. In every case I received permission to reproduce them here.

4 Comments

  1. Reply K O'M July 11, 2011

    Is this another case of the Obama administration hemming and hawing, but ultimately adopting another Bush administration position? Shapiro’s rhetoric when she took office was very skeptical of IFRS, but the SEC seems to be arriving at Cox’s position after a lot of dithering.
    That said, I’ve heard conflicting reaction to the round tables. One view is that the investors were essentially indifferent (they make so many adjustments to GAAP as it is), the small issuers were against it, and so was NASBA. IFRS requires a lot of disclosure, so perhaps analysts are comfortable they’ll be able to gather what they need from the notes, and so are just going with the flow, but wouldn’t be greatly saddened if the US sticks with US GAAP. Small issuers are obviously concerned about cost, and if investors are indifferent, the small issuer views ought to prevail, at least for them.

  2. Reply raph July 15, 2011

    Europeans see it completely different. To sum up they would respond to you “Don’t be afraid; your country will go for condorsement and not endorsement.This will leave the US all the latitude to influence IFRSs for the benefits of the US at the detriment of Europeans.”
    My guts tell me that when two groups are that opposed in the way they interpret a situation both are wrong. But maybe you can reconcile the two views and explain further why in Europe leaders well that they are being cheated by americans.
    With kind regards,
    Raph

  3. Reply David July 27, 2011

    IFRS is totally [expletive deleted].
    If you go to those countries that “adopted” IFRS, you’ll find that IFRS is different in each country because they change some of them to “suit” their own country’s situation. So let’s have our own IFRS: US GAAP.
    Plus, IASB stepped back recently regarding applying fair market value rule to those European bonds due to the pressure of EU. I don’t think it’s a good idea to use some accounting rules in US from an organization that is back off due to political reasons in Europe.

  4. Reply raph August 3, 2011

    Well David nicely said.
    But europeans think exactly the same about americans. The US has numerous US citiazens in the board of the IASB – those board members are those who take the decisions. But strangely the US is not applying the IFRS. On the other hand the EU has no means to impose a political pressure on the IASB: it can only complain laudly that the IASB is running after you, icnreainsg fair value at the expense of amortised cost. If there is any kind of pressure it is surely not political but cultural.
    Accounting is a cultural language that tries to reflect the way the economy is funded. In Europe 80% of the economy is funded via bank loans. In the US it the contrary: 75% is done via financial markets.
    Therefore you want reliable data for investors in order to offset the risk that managers cheat.
    European Banks want relevant data because they know their clients very well and have been following them for years. for them relevant means to avoid artifical volatility in their balance sheet.
    The IASB proposes something that does not please anyone and that means it is a good compromise. It is a mixed measurement model. half fair value, half amortised cost (well in realty it is 3/4 FV but thisis another issue)
    The aim is not to hurt any business model but to work with both of them.
    Unfortuntely the financial crisis is not finished and banks is both sides want to use regulatory arbitrage to win market share. You see it with basel III and you see it also with IFRS
    Against this background The US cannot let the accounting issue slip through its hands especially when canada will apply IFRS, Mexico also and China + japan are moving forward. Yes it is true China, Japan, India will use their own IFRS dialect but the cultural framework of IFRS will be at its core IFRS and not US GAAPs. Too risky for the big investement banks in the US who control de facto the policy making of your country (well in europe it is the same)
    If I was to compare the merit of both accounting systems I tend to prefer IFRS because it is my cultural bias. I compare how you recognise revenus in US GAAP, treat leases, address accounting for financial instruments or insurances and I conclude that although the IASB is lost in the review of most of them in terms of concepts IFRS appear better. please do not tell me that the treatment of leasing is sound in US GAAPs.it would be ridiculous.
    To summarise: you just do not want to change what you are used to. We europeans were forced to. Accounting IS political for god sake. It is a language. You want your rules that you know and you cannot change your mindframe because for you using principles will mean that accounting will not be reliable anymore.
    For us it will not be relevant anymore.
    it can be both. But it will be hard to achieve it because of the need to find extra revenus for banks in both sides of the atlantic.
    If I may make an analogy there is a similar issue in comparative law. We continental europeans have law codes. You have cases. When I met 4 years ago for the first time British bankers and dicuss basel requirements and how they are going to be applied in the EU I was appalled by what appeared to me as a lack of logic.
    They had three concerns. For me all those concerns were only one. It took me some time to understand that for them they were not one single issue but really three different cases.
    In the end we all know that the US is going for “condorsement”. You will keep you cultural influence, and try benefit from regulatory arbitrage. It is the interest of the big US banks and investement firms. You will try to introduce more securitization into the funding of european SMEs and take some market share in this field. I can tell you that already law firms in London paris and frankfurt are hiring in this respect.
    In addition the very probable solution will be that IFRS will be applicable only for listed companies and amongst them only for those who are listed outside the US.
    What a big change.They already publish in IFRS… Dissing the SEC is useless because politically the US has to go for some kind of IFRS. my point is that you are going to play it very nicely and maybe you will win. You have powerful allies in europe: the british and the dutch. Hoogervorst is dutch. Board members are anglo-saxons by culture. But Commisionner barnier is french.
    he is your ennemy. Not the SEC. maybe you can still turn him into an ally but for that you will need to stop playing the bully in regulatory negociations. basel III? not applied in the US. and FATCA? What a horrible proposal.
    It is incredible that you only see one part of the picture and are not interested in udnerstanding the other camp. You are not living in an isolated island anymore and people ressent it.
    When talking about IFRS please first read other point of view and take them into account. Addressing IFRS from a US only pespective is not relevant anymore. really, not anymore.
    kind regards,
    Raph

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