Beswick's 'Condorsement' and Herz' 'Improve and Adopt'

'Condorsement,' a term coined by SEC Deputy Chief Accountant Paul Beswick in his speech at the Dec. 2010 AICPA Conference, referencing an approach somewhere "in between" ... "convergence or... endorsement" of International Financial Reporting Standards, forms the basis of the proposal floated for public comment in the SEC Staff Paper on IFRS released on Friday.


Interestingly, the term 'condorsement' was used only once in that paper, and personally (now would be a good time to remind you of the disclaimer posted on the right side of this blog) I believe the term 'condorsement' was used sparingly because the SEC staff wanted to emphasize the sovereignty factor, and attention-to-high-quality factor, presumably subsumed under the proposed approach of Endorsement (ongoing Endorsement of IFRS by the FASB for use in the U.S.) prior to Incorporation of IFRS into U.S. GAAP, the central message of the staff paper. Thus, the emphasis was on thoughtful, paced Endorsement, potentially subduing some of the criticism (such as that of Albrecht & Selling) pointed at the Convergence half of the Con-dorsement equation, particularly as relate to a 'big-bang' type of wholesale movement to IFRS - something the SEC will continue to obtain feedback on, at its upcoming (July 7) roundtable on IFRS.


On the subject of Condorsement, one thing I find fascinating is the extent to which former FASB Chairman Bob Herz' 'Improve and Adopt' approach - first introduced in his testimony at a Senate Banking Committee, Securities Subcommittee hearing on Oct. 24, 2007 - can be viewed as a possible precursor to Beswick's "Condorsement."


Here's what Herz told Sen. Reed's subcommittee in 2007 about 'Improve and Adopt:"

We expect that the myriad changes to the U.S. financial reporting infrastructure would take a number of years to complete. During that time, the FASB and IASB should continue our cooperative efforts to develop common, high-quality standards in key areas where neither existing U.S. GAAP nor IFRS provides relevant information for investors. Those common standards, issued by both the FASB and IASB, would be adopted by companies in the U.S. and internationally when issued. In other areas that are not the subject of those joint improvement projects, we envision that U.S. public companies would adopt the IFRS standards “as is” over a period of years. The adoption of those IFRS standards by U.S. companies would complete the migration to an improved version of IFRS.

We believe there are many advantages to employing such an “improve and adopt” approach in transitioning to IFRS. Financial statement users both domestically and internationally will benefit from the continued, cooperative efforts by the FASB and IASB to improve, simplify, and converge financial reporting in those areas of existing U.S. GAAP and IFRS that are clearly deficient. Under this approach, new standards or existing IFRS will be gradually adopted over a period of several years, smoothing the transition process and avoiding the capacity constraints that might develop in an abrupt mandated switch to IFRS. Moreover, this approach permits the Boards to focus their resources on improving standards in areas important to investors, rather than on eliminating narrow differences among our many existing standards.

Compare that with Beswick's description of Condorsement in his Dec. 2010 speech:

...[W]hat would be a reasonable approach for the U.S.? In our October update we highlighted that the majority of jurisdictions are following either a convergence or an endorsement approach. In my opinion, if the U.S. were to move to IFRS, somewhere in between could be the right approach. I will call it a "condorsement" approach. Yes, I admit I just made up a word. And by the way, the patent is pending as we speak.

So how would this approach work? Well, to begin, U.S. GAAP would continue to exist. The IASB and the FASB would finish the major projects in their MOU. The FASB would not begin work on any major new projects in the normal course. Rather, a new set of priorities would be established where the FASB would work to converge existing U.S. GAAP to IFRS over a period of time for standards that are not on the IASB's agenda. This is not meant to be an MOU2 but rather would entail making sure that, on a standard by standard basis, existing IFRS standards are suitable for our capital markets.

At the same time, the FASB would have a process where they would consider new standards issued by the IASB for incorporation into U.S. GAAP and then integrate such standards into the U.S. codification. The ideal would be to incorporate such standards as issued by the IASB without modification. However, criteria would need to be established for FASB's consideration of endorsing or incorporating standards — for example whether incorporating a given standard is in the interests of U.S. investors or the U.S. capital markets. Sir David Tweedie has indicated in speeches that the IASB has already started thinking about their agenda after the completion of the MOU. I would expect the FASB to participate in the IFRS standard setting process much like other jurisdictions do. At the same time, I would expect that the IASB would take seriously the input of the U.S. in their deliberations.

So why consider this approach? I believe this approach is worthy of consideration and may work in the U.S. for various reasons, including the depth of the U.S. markets; the quality of our existing standards;, and, quite frankly, the existing consistency at the objectives level between many areas in U.S. GAAP and IFRS.
It is clear to me that this is in fact a method of incorporating a single set of standards into the U.S. market. But it also acknowledges our responsibility to the U.S. capital
markets and provides mechanisms to ensure that the standards must be high quality prior to their incorporation. If new standards of sufficiently high quality were incorporated into U.S. GAAP, the process of creating new differences would stop. Further differences would be eliminated one by one as new high quality global solutions are achieved.

It is important to note that the calculus of moving using a "big bang" date from existing standards to an alternative set of accounting standards presents a different set of costs and benefits, and different challenges for the U.S. as compared to other jurisdictions. While our evaluation of the differences between U.S. GAAP and IFRS is ongoing, it seems clear that, in a number of major areas, the two sets of standards are consistent at the objectives level. Take, for example, PP&E, Share-Based Payments, or even Income Taxes. While I'm not at all suggesting that there are not differences, when the two bodies of standards are compared, the differences appear in many cases to be in the method of application as opposed to the objective of the standards. Requiring retroactive adoption, or even requiring new systems to be put in place prospectively on a big bang adoption date is something that requires serious consideration as to
whether they're necessary. This is particularly true where the IASB may be
considering modifications to their existing standards to avoid the imposition of
a "two-step" change.

Further, in the U.S. we have such a wide spectrum of companies that are currently using U.S. GAAP. The cost-benefit consideration is very different for many of these companies. For example, a large Fortune 50 company has different economic considerations (both as to costs and potential benefits) as compared to a small public company in Iowa. We need to be act very deliberatively and understand fully the benefits before we create the potential for such a significant burden on U.S. companies; particularly smaller public companies and private companies.

This approach may be appealing to some as it seems to provide for a way forward in achieving the broader objective, maintains our vital interest in the U.S. capital markets, and appears to do so in a way that would manage the burden of achieving the objective to an acceptable level. If the change is gradual, and if the smaller companies can learn from the larger companies, then the cost of incorporating a global set of standards should be decreased.

However, there are a number of questions that would need to be answered under such an approach. One of the most significant questions that needs to be considered is "Should the largest companies be required or allowed to move to IFRS prior to the FASB completing its condorsement efforts?"

In any case let me reiterate that all I have done is I've outlined an idea. Don't shoot me as it is just that, an idea. But I hope it demonstrates that we are serious in considering how to achieve the broad objective, to do so in a way that maintains the protections to U.S. investors we have been afforded though our standard setting processes to date, and to do so in a way that minimizes the cost ultimately born by the U.S. investing public.

Risks
So why shouldn't we just commit right now and move? As we noted in the progress report there are still some significant areas we are considering, including the quality of the standards, and the governance and funding of the IASB. In the meantime there are some potential pitfalls that remain before the Commission makes its
decision.

First and foremost, the efforts of the IASB and the FASB on the MOU projects need to result in high-quality accounting standards. If the efforts focus on meeting deadlines as opposed to producing high-quality accounting standards, it would be very difficult to see how we will end up with unified standards. I hope the Boards take the time they need to get the standards right and, if that means taking time past June 2011, I would be very supportive. Recently I was talking with an IASB Board member on the timing for completion of the MOU projects. The Board member noted that when they explain to their grandkids what they did while serving on the IASB, they hoped they could say they issued high-quality accounting standards rather than saying they issued an accounting standard by a specific date.

Another potential pitfall involves some of the sales literature and advertising I have recently observed by the larger firms that market their ability to help with the IFRS transition. I have seen advertising that creates the impression that the process will be challenging and painful. The implication is a company will not be able to convert to IFRS without outside help. I will note this type of tactic, as some have referred to them as "scare tactics", not only has the potential to put the profession in a bad light, they also reinforce some myths on the conversion to IFRS and could potentially hinder our ability to incorporate IFRS. Let me point out that the Commission has not yet made a decision on whether to incorporate nor have there been any decisions on the best method to do so. In the staff's efforts to complete the Work Plan, we intend to consider ways to lessen the burden on converting to IFRS while at the same time protecting the interests of investors.

As further detailed in last week's SEC Staff Paper, on which comments are due by July 31:

The FASB would continue to promulgate U.S. GAAP primarily through its endorsement of standards promulgated by the IASB. Under the framework, due to
the FASB’s participation in the IASB’s standard setting process, the FASB should be in a position to readily endorse (i.e., incorporate directly into U.S. GAAP) the vast majority of the IASB’s modifications to IFRS. However, the FASB would retain the authority to modify or add to the requirements of the IFRSs incorporated into U.S. GAAP, similar to other jurisdictions, and such U.S.-specific modifications would be subject to an established incorporation protocol. Such a protocol could entail the FASB determining whether the IASB’s modification to IFRS (either by means of issuance of a new standard or amendment of an existing standard) met a pre-established threshold—for example, a threshold that incorporates the consideration of the public interest and the protection of investors. If the IASB’s modification reaches that threshold, the FASB would incorporate fully the IASB’s adopted standard into U.S. GAAP. If the FASB concludes to the contrary, in incorporating the standard, it would need to determine whether it should modify the requirements of the standard, retain relevant U.S. GAAP, or find an alternative solution. Before making any modifications, the FASB could discuss the situation with other national standard setters to understand their perspectives on the issue and the approaches they have taken for endorsement of that standard in their respective jurisdictions.

In addition to incorporating new IFRS amendments into U.S. GAAP, the FASB also would exercise its authority as the national standard setter when it found, based on its experience in the ongoing interpretation or application of IFRSs incorporated into U.S. GAAP, that supplemental or interpretive guidance was needed for the benefit of U.S. constituents.

Although Herz' "improve and adopt" model circa 2007 is not precisely the same as Beswick's 2010-2011 "condorsement" model (which lies at the heart of last week's SEC Staff Paper), I believe at the very least that Herz, through his 'improve and adopt' model, can be viewed as the uncle, if not the father of condorsement.

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