O'Dell noted that the PCFRC had met with Jack Brennan, Chairman of FASB's parent organization, the Financial Accounting Foundation (FAF), earlier this year, as part of the FAF's 'listening tour.' She added that PCFRC sent a letter to the FAF on November 2nd (PCFRC letter to FAF) which recommended:
[T]he FAF should take a leading role in ensuring the establishment of private company standards. In doing so, the FAF will be helping to shape the future of U.S. private company financial reporting in a manner that is in the best interests of U.S. private company constituents.
The PCFRC noted a number of recent developments led the PCFRC to reach its conclusion, including the issuance earlier this year of a 250-page, self contained set of International Financial Reporting Standards for Small- and Medium-Sized Entities (“IFRS for SMEs”). [NOTE: IFRS for SMEs can only be applied by private companies, but could be considered Generally Accepted Accounting Principles for private companies in the U.S. today, since the AICPA voted a few years ago to recognize the International Accounting Standards Board as a setter of GAAP - and that designation applies to all standards issued by the IASB, including full IFRS, and IFRS for SMEs.] Additionally, PCFRC noted recent decisions in Canada, the U.K., South Africa and elsewhere on how to handle private company GAAP, surveys of financial professionals in the U.S. that demonstrate a preference for differential accounting standards for private companies, and, according to PCFRC, "the increasing number of complicated accounting standards, driven primarily by public company investor and analyst needs, which are often expensive to implement for private companies and provide no real benefit for the users of private company financial reporting."
PCFRC Identifies Five Alternatives for Private Co GAAP
The PCFRC identified five alternatives for the FAF to consider for private company GAAP. As described in more detail in attachment 2b (pdf pgs 24-34) in FASB's Dec. 3 board handout, the alternatives include that private companies could use:
1. IFRS for SMEs,
2. IFRS for SMEs, adapted for the U.S,
3. Full IFRS adapted for private co's in the U.S.
4. U.S. Private Company GAAP - based on a revised set of current GAAP, adapted for private co’s,
5. U.S. Private Company GAAP –using U.S. GAAP as it exists today, modifying it going forward for private co’s
O'Dell, the founding chair of the PCFRC, formed three years ago as a joint advisory committee of the AICPA and FASB, said, "We have worked hard on the PCFRC to closely follow standards, and express the private company viewpoint." She acknowledged, "We've been listened to," but she and certain other PCFRC members expressed some frustration with the results.
As a result, O'Dell said: "More and more, we’ve come to the conclusion it's time to look at a separate set of private company accounting standards. Whether that’s a good idea, whether there are other alternatives, remains to be seen, but it's time to at least start that discussion."
Thrower’s View: FASB Set Public Stds; A New Body Set Private Standards
An alternative recommendation was put forth by SBAC member (and former FASAC member) Andy Thrower, who said: "Looking at the options presented by PCFRC - and I commend them for that - I believe IFRS for SMEs and the newly issued Canadian standards, or at least the draft that was issued, are fundamentally flawed for use in the U.S. environment, and I believe they are fundamentally flawed because they continue to be based on public company or the investor conceptual framework, and I believe attempts to implement those investor principles will not satisfy private company users in this country." Thrower said:
I want to go on the record today, after a long journey, after years of participating in various advisory groups, and my opinion is, the private company input process that we have been using is not working, and is not effective. I don’t believe the [FASB] board could have done anything differently from what it's done, I commend them, I applaud them for their efforts, but I think the mechanism is no longer working. I want to go on record for two things today:
1. I believe that efforts by FASB to include U.S. private company views within U.S. GAAP designed for general purpose external financial reporting should be discontinued; and that the mission of the FASB should be to focus entirely on the investor view of public and registered co's, which I fully support
2. there should be a committee formed consisting of independent individual private company preparers and users, tasked with two things: (i) to develop a proposed financial reporting framework for users of private company financial statements in the US, and (ii) to develop a proposal for both the structure and funding mechanism for a body to develop private company financial reporting standards totally within that framework.
The individual independent committee members should seek, and have moral support, and hopefully financial support from their constituencies, and specifically from the FAF, and the committee should present its work for those two proposals to its constituencies.
The constituencies should comment, approve or disapprove the results of that work,
and I think that mechanism should definitively answer the question, and I believe it would support, if they answer in the affirmative, that there should be a separate path for accounting standards for private companies; in the event the committee can't reach consensus, that would be telling; in the event the constituencies can’t reach [consensus],that would be telling, but in event there is consensus reached and path agreed to, for pursuing separate mechanism for developing private company standards in the US.
Some may view Thrower’s proposal as radically different from the PCFRC’s proposals. However, a common theme shared in Thrower’s proposal and the PCFRC’s five proposals can be seen the detail of the PCFRC proposals shown in attachment 2b (pdf pgs 24-34) in FASB's Dec. 3 board handout .
Specifically, in each of PCFRC’s proposals (with the exception of the possibility of adopting IFRS for SMEs with no modification in the U.S.), the PCFRC notes that: "An accounting board would need to exist to review and modify current U.S. GAAP [or, to review and modify IFRS or IFRS for SMEs, depending on the model chosen], and "A mechanism for funding the standard setting board and their work would need to be identified."
Push-Back on Disclosure Framework Could Reach 'Tea Party' Proportions
As lead-in to his recommendation above, that a new body be established to set private company standards, Thrower noted that the direction FASB is taking in its disclosure framework project - influenced heavily by recommendations made by FASB's Investors Technical Advisory Committee (ITAC), consisting mainly of public company analysts - will likely cause push-back from private companies greater than ever in the past, "potentially of tea party proportions." Specifically, he said:
My concern here is, the push back, from private company constituents on the disclosure framework proposal is going to be a watershed event, I think it will exceed the combined pushback on all the other problems for private companies, FAS 150, FIN 46-R, FIN 48, all those mid-140 FAS standards that caused so much problems, and I think push back here potentially is of tea party proportions, I really do; I don’t think FASB right now, with its current mission, needs to get this type involvement, push-back, get tangled up in that perspective on private companies, I don't think that's the mission right now.
NOTE: On Day 2 of the PCFRC meeting (Dec. 4), FASB Chairman Bob Herz told the PCFRC:
“We are aware of all of your letters, incorporate in our discussion… Like our other advisory groups, the Investors Technical Advisory Group (ITAC), etc., there is a perception that if we don’t act on something [you send us], we don’t agree… Don’t think we are not paying attention…you made a decent point [at yesterday’s joint meeting] about - at what point should there be consideration of private company [issues] in the [standard-setting] process… vs. earlier on in the process.”
FASB Board Member Leslie Seidman added on Dec. 4: “Especially [important] on the Disclosure Framework project… If we have the inclination to provide differential reporting, especially on disclosures, that’s one where we need to be in lockstep.”
Big GAAP/Little GAAP vs. Exceptions To GAAP
In response to the PCFRC's recommendations, and the separate alternative suggested by Thrower, various other SBAC and PCFRC members noted their views, with some favoring, and some not favoring, development of a separate set of private company standards (also called 'differential' reporting or 'big GAAP/little GAAP'.)
A number of SBAC members noted that, due to cost benefit considerations, some private companies were asking their users (e.g., lenders) if they would accept certain exceptions to GAAP (although that may result in a qualified audit opinion) if the specific GAAP requirement was not particularly relevant to the user.
For example, SBAC member Dennis Hein said: "I’ve seen so many exceptions, FIN 46 opened the door on that, the qualified opinion [for private companies] is now becoming the norm, rather than the isolated case.... We are getting so many exceptions out there, I wonder where GAAP is any more.... I don't think two sets of standards, 'big GAAP/little GAAP,' is the answer. Instead, I'd propose additional disclosure requirements for public companies to satisfy that small group of analysts, investors, that want that, and leave GAAP alone, GAAP should be GAAP; if you need additional information give it in schedules, in footnotes, but don't put undue cost out to 95, 98% of companies in the U.S., that are going to get zero benefit out of it."
Similarly, SBAC member Scott Waite said: "I am not in favor of dual standards, certainly not in favor of a separate standard setting body, I am more in favor of scope exceptions perhaps as an answer, I think it's a worthwhile discussion."
SBAC member Mark Ellis said his company follows all GAAP requirements and does not have a qualified report, but is frustrated that the value in applying all the GAAP requirements is negative. For example, he noted:
In effect, family owned private companies that are not going to be sold to anybody in short term, have actually much longer term view than public companies, so when you ask us to value things using fair value based on things very difficult to value, or have big shifts in value because of the way interest rates have moved over the short term, they produce financial statements that are not very valuable to us because we look at things over the longer term; we want to comply, but what we are getting is not of value to us.
My advice would be, let FASB, or whoever FASB feels can do this, take the [IFRS
for] SME standard and decide if it does work for us, if there are differences between U.S. and other countries, maybe we need to give input to the IASB so it can be modified to be more useful to us.
Herz: Consider Market Demand; Network Externalities
Asked for his views, FASB Chairman Robert Herz responded:
I believe in meeting market demand, and if there is a demand for something somewhat different, that needs to be looked at… On the other hand, I believe there are huge network externalities for having an integrated reporting system between public and private companies; not [necessarily] everything the same - even some recognition and measurement differences maybe - but something that is recognizable, that you can teach one off of the other, that gets beyond just education, gets to all sorts of things in the overall system.
My view has been, if ... public companies go to IFRS at some point, maybe [IFRS for] SME makes sense [for private companies] in that context; if we stay with US GAAP as it evolves through convergence, we still should have something vertically integrated, that meets cost benefit tests on both sides - benefits to users and costs to preparers.
Next Steps From FAF 'Listening Tour' Coming Soon
Terry Polley, President of the FAF, noted she had participated in the FAF's listening tour earlier this year, including discussions about private company standard-setting, and mentioned twice that something would be coming "very soon" or “very shortly” from the FAF, as a result. Specifically, Polley said:
This is an issue that we are very much aware of, that the Trustees are very much aware of, as Judy mentioned earlier, Jack and I and several trustees embarked on
listening tour earlier this year, without exception, we went to 5 cities, met with variety of constituents, without exception at every meeting we heard this is an issue. We also met with all FASB’s advisory groups and heard the same thing.
When the [FAF] trustees met in August, spent some time at a very high level, talking about the different findings of the listening tour; Judy and her committee sent a letter to Jack [Brenna, FAF chair] a few weeks ago, so when I tell you that you have the trustees attention, I assure you that you do, and they are taking your concerns seriously, this discussion is important, and discussions going on, how should we best address the issue; what Andy is suggesting, maybe Candy as well, to take a clean look at the issues... Andy outlined one possible outcome, but I think there are probably an array of outcomes.
What I'd like to emphasize, as we embark on this process, which I expect you’ll hear about very shortly, we need to continue this dialogue, with PCFRC, SBAC, many of you come from organizations like the Chamber [of Commerce], various industry groups, it is important to get the attention of your colleagues that are affected by this, so we can get the right kind of input, so we are headed in the right direction. To the extent you can go back and get the word out, that would be helpful, and we will keep you posted very soon on how we are going to take a look at this.
FEI members can read more from the Dec. 3 FASB PCFRC-SBAC meeting (including an update on this morning's PCFRC meeting with FASB) in our detailed summary here. Additionally, FEI members interested in joining FEI's Commmittee on Private Company-Standards, which addresses accounting issues of interest to private companies, can contact me for more information at firstname.lastname@example.org.
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