Peeling away financial reporting issues one layer at a time

Ten Claims in Support of IFRS Adoption by the SEC – and Why They are False (Part One of Three)

Dear Reader,

This essay is far too long for one blog post. For that reason, I have chopped it into three pieces, with links at the end of each one to take you to the next. I apologize for any inconvenience.


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I am a terrible 'blog administrator.' I don't obsess about my blog statistics, and I don't even know how to track the number of hits to each of my posts. Still, I am 100% certain that Top Ten Reasons Why IFRS Adoption is a Terrible Idea, written 3 1/2 years ago has been my most popular posting. Time sure has flown by; and so, lately, has the rhetoric as the SEC girds itself for a giant leap of faith toward IFRS.

This past Saturday I had the honor of addressing the Public Interest Section of the American Accounting Association on the topic of IFRS adoption. In that speech and a similar one that I gave in October, my remarks were largely structured around ten claims being made in support of IFRS adoption, and why they are false. This series of posts is based on my latest speech, and regular readers of my blog should be aware that there is some repetition from earlier posts. However, I do believe that many visitors to The Accounting Onion can benefit from the re-organization and having everything in one place.

How We Got Here

The IFRS adoption question has been so long in the works that many readers may not be fully aware of how this whole thing got started. So, before we get to the new Top Ten, let's begin with some background.

Convergence with IFRS became a topic because Congress believed that inadequate accounting standards were at least partly responsible for the wave of frauds exemplified by Enron and Worldcom. (I disagree – see the end of this post.) Consequently, Section 108 of the Sarbanes-Oxley Act of 2002 directed the SEC to consider, when adopting accounting standards, whether "…international convergence on high quality accounting standards is necessary or appropriate in the public interest and for the protection of investors." The SEC, FASB and IASB have been working together towards adoption of IFRS since the passage of Sarbanes-Oxley.

One of the first formal actions was the so-called Norwalk Agreement, whereby the FASB and IASB entered into their initial Memorandum of Understanding to make their best efforts to converge U.S. GAAP and IFRS. After six years, little substantive progress had been made on convergence; yet, just as SEC Chair Christopher Cox was preparing to step down, the SEC published its proposed Roadmap toward final rulemaking that, if finalized, would have required SEC registrants to begin complying with IFRS sometime about now. To be sure, the Roadmap has hit numerous snags, and timelines have been stretched. Nevertheless, a follow-on policy statement from the SEC should be coming by the end of this year.

The SEC staff provided a strong indication of what may come from the Commission in a May 2011 staff paper informally referred to as the "condorsement" proposal. In that paper, the Staff has finally conceded that a complete abrogation of U.S. GAAP in favor of IFRS as set forth in the Roadmap would not be feasible, and now proposes a restructuring of the standard setting regime: the FASB would retain its status with the SEC as the standard setter for U.S. GAAP; but it would not add any new projects to its agenda, unless to endorse an existing IASB standard, or to work with the IASB on a project the IASB chooses to undertake.

At this point in time, the FASB and IASB are focusing their efforts on achieving closure on just a couple of pivotal projects: revenue recognition and leases. These projects have, as one would predict, been extremely controversial, but some sort of final standard is clearly a prerequisite to a continuation of the SEC's efforts to adopt IFRS.

The Ten False Claims for IFRS Adoption

Time is of the essence on IFRS adoption; in large part because the IASB has made it clear it will not continue to wait for the U.S. to come up with a firm IFRS adoption policy for much longer. Its own final public relations push began this past October when Hans Hoogervorst and Harvey Goldschmid, IASB chair and CAQ board member, respectively, delivered keynote speeches (both available here) at the IFRS Foundation/AICPA Conference in Boston. While I understand that speeches in that kind of setting leave little time to deal with the details, I do believe that the devil of IFRS adoption is in those details.

Richard Breeden, a former SEC chairperson and now the head of a $2 billion international investment fund, stated that if the SEC were to adopt IFRS, "it would be the darkest day in the history of the SEC." My goal for this second "Top Ten" list is to convince you that he was not exaggerating, and that the SEC should have long ago made a U-turn on its IFRS adoption proposals.

False Claim #1: There are some large U.S. corporations that want to switch to IFRS.

Indeed, there are, but there are many more that adamantly oppose a switch to IFRS. As summarized by Gaylen Hansen, Vice-Chair of NASBA, large public companies responding to the SEC's original Roadmap proposal opposed IFRS adoption by 47 to 28; and of the 47 that opposed IFRS adoption, 35 – about three-quarters of them– strongly opposed IFRS adoption.

Those invested in IFRS adoption would like to dismiss any analysis of the comment letters on the grounds that only 240 letters were received in total. However, based on historic response rates to SEC requests for comments and widely accepted statistical norms, a sample size of 75 large companies is considerable, and I have not seen anyone try to claim that the sample was not representative of the population from which it came. If anything, the weight of the comments received would seem to be biased for IFRS adoption, because economic incentives to write a comment letter in support should be high; and there seems to be little incentive to be critical of IFRS adoption.

For example, if a company's management actually perceived that IFRS adoption would be profitable, then it would seem that the marginal cost to write a comment letter in support of IFRS adoption would be low relative to being able to nudge the SEC in the direction it obviously wanted to go. The presence of economies of scale would further suggest that the cost-benefit tradeoff could be most attractive to the management of large public companies.

Cavils about sample size notwithstanding, the results of the comment process were strongly negative, and that negativity has been confirmed by subsequent feedback. During the first panel of the July 2011 Roundtable convened by the SEC to discuss the Staff's condorsement proposal, the representatives from the credit rating agencies conceded that they do not rank either accounting framework, U.S. GAAP or IFRS, above the other in rating financial statements. Most tellingly, the smaller public companies panel unanimously and emphatically turned their thumbs down; all anyone saw in IFRS was a lot of incremental cost and zero benefit.

As to the few large companies that still support IFRS adoption, my own consultations with U.S.-based global companies makes me skeptical of the claim that adoption of IFRS would save money.

For example, foreign operations often have local statutory reporting obligations that may conflict with, or may even be completely independent of IFRS, and these statutory reporting requirements will remain even if U.S. GAAP is replaced with IFRS. Moreover, in the significant majority of the companies I have interacted with, the accountants physically located at the foreign operations are in charge of producing U.S. GAAP financial statements; and the managers at the foreign subsidiary are evaluated on their U.S. GAAP results as stated in the foreign currency. In these cases, whether IFRS is currently in the mix or not, everybody already speaks the same language; and that language is U.S. GAAP.

IFRS adoption would mean that all U.S. accountants would have to learn a new language, and so would many of the accountants at the foreign subsidiaries. As for accounting educators, there will come the day when you will have four bases of financial reporting to know and to teach – and your students will have four sets of rules to learn and to be tested on: U.S. GAAP, U.S. GAAP for non-public companies, IFRS, and IFRS for SMEs; and that doesn't include all of the tax rules that must be taught, learned and tested.


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