Thursday, June 25, 2009

FASB And Due Process

Steve Burkholder of BNA recently reported that the Investors Technical Advisory Committee (ITAC), an advisory group to the FASB, sent a comment letter to FASB's parent organization, the Financial Accounting Foundation, expressing “grave concerns” about a “substantial erosion in the independence of the accounting standard-setting process” and “a recent weakening of already inadequate accounting standards.”

In his article, FASB's Investors Technical Advisory Panel Notes ‘Grave Concerns' on Board Autonomy in the June 22 edition of BNA’s Daily Report for Executives, Burkholder wrote:
"ITAC, whose 13 accountant-members work as security analysts or investor advocates, focused in part on controversial guidance issued by FASB in April on fair value accounting and asset impairments — guidance affecting banks' valuation of troubled mortgage-backed assets central to the financial meltdown of last fall. The guidance was placed on an extraordinarily fast track after FASB's chairman was pressured at a House subcommittee hearing March 12 to have the board do what it could in a matter of a few weeks to alter fair value and impairment accounting rules, a target of lobbying by banking groups since last summer."

Specifically, ITAC stated in its comment letter:
"[S]pecial interests that have been instrumental in causing the current crisis, the effects of which are borne by hundreds of millions of individuals and families around the globe, have targeted one of the critical components of global capital markets, financial reporting and the transparency it brings, and seek to subvert it to their own purposes... We would remind the FAF that...political pressure bore the desired fruit: the issuance by the FASB on a highly accelerated basis with truncated due process, of standards that a number of investor groups and organizations including the ITAC stated publicly represented an erosion of high quality financial reporting. The standards resulted in a significant reduction in both transparency in the financial statements for distressed financial instruments, the so-called “toxic” assets, as well as delayed timely reporting of the problems. Many investors responded negatively to the reduced quality of information, as reflected in their investment decisions, but that response cannot compensate for the loss of information and, perhaps more importantly, the loss of trust and confidence in financial reporting and accounting standard setting."

To address their concerns about pressure on FASB's independence and due process, ITAC recommended the FAF take action on three fronts, by:
  • reversing FAF's decision made in early 2008 as part of a restructuring of FAF and FASB which reduced the size of the FASB board from seven to five,
  • reversing another FAF restructuring decision, in which agenda setting authority was moved from the FASB board as a whole to the FASB chairman, and
  • increasing the role of the FAF as a buffer for the FASB, to guard its independence.

On this last point, ITAC recommended in its letter that FAF members act as a 'protective shield' for FASB by taking actions such as testifying before Congress (i.e., in place of FASB board members testifying directly). However, ITAC acknowledged it could be challenging to identify an FAF member with sufficient technical expertise to explain FASB's actions to Congress or others.

I asked FAF spokesman Neal McGarity if he had any comment on the issues raised in ITAC's letter. Below is his response, which focuses on ITAC's claim that political pressure influenced the standard-setting process with respect to the recent fair value guidance issued in April, in the form of three FASB staff positions (FSPs). McGarity states:

"The genesis for two of the three [fair value] FSPs were the SEC’s recommendations to Congress. The SEC recommended that the guidance on OTTI [other than temporary impairment] and on Fair Value needed improvement/ clarification; the third FSP added disclosures supported by investors on a quarterly (rather than just an annual) basis.

Regarding agenda setting powers--At the [March 12 Congressional] hearing, [FASB Chairman] Bob Herz responded that he needed to consult with his fellow Board members. That response was followed by his consultation with the other Board members and others upon his return from the hearing. The agenda process has not changed significantly. Also, The FAF Trustees were aware of and engaged in the process. FASB consulted with the FAF after the hearing and the FAF also undertook a post mortem discussion of the events and process as part of its oversight role.

While the FASB due process was accelerated it was within our normal permissible time frames, it was extensive and over 700 letters were carefully considered, along with many meetings and discussions with constituents and major investors in financial institutions-- whose views often differed from those of ITAC members. Over 40 institutional investors were consulted with."

[Note: In a similar vein, I noted in this blog on April 3 that I believed some of the press coverage and commentary at that time "may generate 'buzz' but it over-politicizes the reality of what happened in terms of the action taken yesterday by FASB."]

McGarity adds more generally with respect to ITAC:

"The ITAC membership comprises thirteen investment professionals--- but investor views on fair value and other financial issues vary greatly. The Board has consulted with vast numbers of investors on fair value as part of its due process over many years.

We don’t believe that even ITAC would consider itself the sole 'voice of the investor.' ITAC’s work is greatly valued and considered, but their views and opinions are not definitive.

The FAF is fully committed to safeguarding the independence of the FASB, and has been very active in doing so, in Washington and around the globe.

I would also add that the Board significantly increased the fair value disclosures reported by companies at a sufficiently detailed level to provide greater transparency to investors about the quality of the underlying assets."

FASB's 2008 Restructuring Raised in ITAC Letter
Turning to ITAC's recommendation that the FAF reverse some of the key decisions made in its 2008 restructuring of FASB, BNA's Burkholder noted in his June 22 article that ITAC objected to the reduction in size of the FASB board when it was first proposed in late 2007, as did FEI’s Committee on Corporate Reporting (CCR). (NOTE: Additionally, FEI's Committee on Private Companies, Standards Subcommittee also objected to the then-proposed reduction in the size of FASB's board. See FEI CCR and CPC letters.)

The FAF’s decision to reduce the size of the FASB board was deemed ‘controversial’ at the time. Writing about the change in operating procedures announced by the FAF on Feb. 26, 2008, Marie Leone of wrote on 2.26.08 in FASB Parent: Five is More Than Seven:

"In a controversial vote, the Financial Accounting Standards Board's governing body has approved the reduction of FASB from seven to five members as of July1 [2008]… At a press conference following the FAF trustees' meeting in New York, FAF trustees talked about why they cut FASB's board in the face of widespread opposition…. Concerning the trustees' decision process, FAF chairman Robert Denham told reporters that "this is not a question of counting comments. It's considering comments."

In a follow-on article the next day, Can Bob Herz Make the Trains Run on Time?, Leone added:

“To be sure, the downsizing proposal faced overwhelming opposition during a 60-day public comment period that ended on February 10. Most of the 59 letters set to FAF argued against reducing FASB’s membership. But “the comments were sought for reasons of transparency,” explained Ellyn Brown, a trustee and chairman of FAF’s Special Committee on Governance Review. “It was not a polling process.”

A number of commenters on FAF’s proposal – including former FASB chairman Denny Beresford, who supported the reduction in size of the board - recommended that FASB reevaluate its decision after a couple of years.

My Two Cents
I remind you of the disclaimer on the side of this blog, particularly (but not only) when I identify comments as ‘my two cents.’

FASB and the IASB frequently emphasize the role of due process in their letters to governmental authorities and others, in support of maintaining an independent private-sector standard-setting process. See, e.g. Oct. 2, 2008 letter from FAF to Rep. Barney Frank (ref. Oct. 27, 2008 letter from FAF to SEC (ref. to due process at end of 2nd paragraph), Nov. 11, 2008 letter from IASCF to President Bush and G-20 (see first sentence under subheading: Accountability of IASCF); Nov. 13, 2008 letter from FAF to Pres. Bush, G-20 (second last paragraph references due process); June 8, 2009 Statement of IASCF Monitoring Board Regarding Due Process Toward Addressing Calls from G-20 Leaders (see second paragraph). “Extensive, Open Due Process” was also highlighted in a subsection of FAF’s Feb. 26, 2008 press release introducing the Resolutions passed by the FAF, which noted 59 comment letters were received on the proposed restructuring of FAF, FASB and GASB during the two month comment period. (NOTE: the comment period happened to cross year-end, a busy time for many constituents who may have been interested in commenting on the proposal.)

However, as an example of due process in action, I personally felt some concern when I read the views of various parties cited by’s Leone last year as to the decisions reached in the FASB restructuring, in light of comment letters received, e.g. that ‘comments were sought for transparency,’ but it was ‘not a polling process,’ and that ‘it’s not a question of counting comments, but considering comments.’

To my thinking, if we elected a President of the United States that way (i.e., if the majority vote was ‘considered’ by some authority who would then appoint a President, rather than ‘counting’ votes), I think we would be concerned about the substance vs. form of that kind of due process. (Some may see parallels to the electoral college, but I think even that’s a stretch.)

Of note, it is important to recognize that the FAF and FASB are two separate bodies - although closely linked – and that decisions reached on the FASB restructuring were reached by the FAF, not FASB.

Perhaps the FAF will reevaluate the change in board size as recommended in ITAC's most recent letter, in the earlier letter by Beresford and others. To me, particularly given the weighing of objections voiced on the board reduction issue, that would be a healthy exercise by any organization that emphasizes its attention to due process.

FASB Proposes Disclosures Relating to Credit Quality, Allowance
In other FASB news, yesterday (June 24), FASB released for public comment an Exposure Draft of a proposed accounting standard entitled: Disclosures About the Credit Quality of Financing Receivables and the Allowance for Credit Losses. The proposed standard would be effective beginning with the first interim or annual reporting period ending after December 15, 2009, with early application encouraged. The comment period ends August 24. See FASB's press release and the ED.

Separately, FASB discussed at its board meeting yesterday proposed amendments to FAS 160, Noncontrolling Interests in Consolidated Financial Statements, including amendments to the scope of the standard, and additional disclosures. See FASB’s Summary of Board Decisions for further details.

Herz To Speak At National Press Club
As a reminder, FASB Chairman Robert Herz is slated to speak at the National Press Club on Friday, June 26. According to FASB’s press release, his remarks will be entitled, “History Doesn’t Repeat Itself, People Repeat History—Front-Line Thoughts and Observations on Creating a Sounder Financial System.”

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Anonymous said...

One should hardly view the ITAC as objective or without any agenda.
ITAC was formed by the FASB, and their memebers known supporters of FASBs fair value exit value position so their views should not be a surprise.

The idea that FASB is a private sector and independent is really out there when one considers the source of their funding...public company govenmental assessment and the SEC remains responsible for US accounting standards.

Anonymous said...

I get the concern over the brazenness of the "not counting comments" excerpt; however, think back to 2003-04 as 123R was being deliberated; there were thousands of comment letters submitted and if you just went by volume, we'd still have APB 25. Just because something is popular, doesn't make it right. I think context is helpful in thinking through some of these issues, especially when there are public policy concerns brought to bear on "independent" accounting standard setters that can drive an increase in volume of letters.

Edith Orenstein said...

Thank you to Anonymous #1 and Anonymous #2 for your comments, we welcome comments as they extend and advance the dialogue by encompassing others' experience and points of view.