Monday, March 16, 2009

Under Pressure

Under pressure from Congress, called upon to issue guidance on fair value (mark-to-market) accounting in inactive markets within three weeks (by the start of the G-20's April 2 meeting), as we reported here, and prodded further by this letter to SEC Chairman Mary Schapiro sent by Rep. Spencer Bachus (R-AL), Ranking Member of the House Financial Services Committee, and Rep. Roy Blunt (R-MO) on March 11, which states: "The SEC has the power to force FASB to act or to act in their place where necessary," adding, "we urgently request the SEC to take immediate action," FASB has moved quickly to schedule an open board meeting for this morning, Monday March 16 at 8am, during which the FASB board will be presented with some proposals from its staff relating to fair value (mark-to-market) and other-than-temporary-impairment (OTTI).

As shown in the board handout for this morning's meeting, the FASB staff will propose to the board issuing a Proposed FASB Staff Position (FSP FAS 157-x, Determining Whether a Market is Not Active and a Transaction is Not Distressed) which would provide a two step approach to determining when significant adjustment to observable prices (such as market prices or dealer quotes) should be made in determing the fair value of an asset under FAS 157, Fair Value Measurement. First, the Proposed FSP would provide a list of factors for determining - using significant judgment, as emphasized in the board handout - whether the market for an asset is inactive. If the answer to that question is 'yes' - or as stated in the board handout: "If after evaluating all the factors the sum of the evidence indicates that the market is not
active, the reporting entity shall apply step 2." (emphasis added; I wonder if some people may believe that use of the words 'all' and 'sum' in the preceding sentence, particularly in combination, could lead to an overly prescriptive reading or implementation vs. if the intent was that one or more factors could be present, and should be assessed and weighed as a whole).

The second step in the proposed FSP - if FASB should vote to issue the proposed FSP as suggested by its staff, subject to change for the board's discussion at this meeting - would be, as shown in the board handout: "The reporting entity shall presume that the quoted price is associated with a distressed transaction unless the reporting entity has evidence that indicates that both of the following factors are present for a given quoted price:

a. There was a period prior to the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets or liabilities (for example, there was not a regulatory requirement to sell).

b. There were multiple bidders for the asset. " (emphasis added)

It will be interesting to see how the board views the above points in Step Two of the FASB's staff's suggested approach shown in the board handout. It is possible that some people may view the above two factors as being so broad as to potentially negate virtually every rebuttable presumption that a transaction in an inactive market is distressed, i.e. if there is literally more than one bidder ('multiple bidders') and in the absence of a regulatory requirement to liquidate the particular asset.

According to the board handout, the staff intends to recommend to the FASB board releasing the proposed FSP for a 15 day comment period, to facilitate considering comment letters in time to vote on a final standard at a board meeting on April 2nd. Separately, the board handout also contains the staff's recommendations to be considered by the board on OTTI. FASB's meeting will be webcast, and FASB helpfully posts Summaries of Board Decisions in its News Center , generally within 48 hours of board meetings.

In related news, the G-20 posted on March 14 a Progress Report on the Immediate Actions of the Washington Action Plan prepared by the UK Chair of the G20. (See G-20 Progress Report .) The first page of the six page report is devoted to accounting and disclosure related issues under the heading: Strengthening Transparency and Accountability.

'Groups Urge PCAOB to Tell Auditors Not to Be Too Negative on Fair Value,' BNA Reports

The PCAOB is also at the receiving end of some pressure relating to auditing of fair value numbers. The above-titled article, appearing in BNA's Daily Report for Executives on Friday, stated: "A group of banking and business groups urged the [Public Company Accounting Oversight Board in a March 4 letter to ensure auditors are not being too strict on fair value accounting with the companies they audit."

"Simply put, the left hand should not use a club to remove the instrument of reasonable accounting reforms from the right hand," said the letter, according to BNA, noting the letter was sent to PCAOB Chairman Mark Olson from 15 groups that included the U.S. Chamber of Commerce, the American Bankers Association, the Mortgage Bankers Association, the American Council of Life Insurers, and the heads of five Federal Home Loan Banks." BNA added that the letter continued by urging the PCAOB "to issue 'guidance and standards' on how it will inspect the audits of fair value accounting, particularly in light of further guidance on accounting for fair value in illiquid or inactive markets offered by the [FASB] and the [SEC]."

The PCAOB has previously published a number of Staff Audit Practice Alerts (APA's) relating to fair value, including APA No. 3, published Dec. 5, 2008 on Audit Considerations in the Current Economic Environment, and APA No. 2 published Dec. 10, 2007 on Matters Related to Auditing Fair Value Measurements of Financial Instruments and the Use of Specialists.

SEC To Meet On Uptick Rule on April 8

The SEC has been under pressure in other areas than fair value, including some calling for reinstatement of the uptick rule relating to short sales. On Friday, the SEC posted a Sunshine Act Notice announcing that it will hold an open commission meeting on April 8 at which the commission will consider: "whether to propose short sale price test rules." This development was reported by Ronald D. Orol in Marketwatch Friday evening.

Madoff Pleads Guilty

On the subject of those feeling under pressure, alleged (and now admitted) Ponzi schemer Bernard L. Madoff pled guity on Thursday to 11 counts of fraud. Reuters coverage of the Madoff Scandal is very broad, including the article "Madoff Says Felt Compelled to Deliver 'At Any Cost," by Martha Graybow, and a link to what Reuter's describes as Madoff's statement-'How I Did It' (technically the Plea Allocution of Bernard L. Madoff). Madoff is presently in jail awaiting sentencing; Chad Bray reported on Friday evening Madoff Appeals Jailing, including that "A hearing before a three-judge appellate panel is set for March 19."

Madoff's victims clearly feel under pressure as well, as do regulators in the continuing investigation into how clues such as statements delivered to the SEC by investigator/analyst Harry Markopolous did not result in regulatory action to stop the fraud sooner; however, Madoff admits on pg 3 of his statement "knowingly giving false testimony to the SEC," and admits on pg 4 the "filing of false and misleading certified audit reports and financial statements with the SEC," which he states he "knew were false and that they would also be sent to clients." Madoff's statement (pg 2) describes how he created the 'split strike conversion strategy' "to falsely give the appearance to clients that I had achieved the results I believed they expected."

There is absolutely nothing funny about the Madoff scandal, but those wishing to find a respite from some of the pressure may wish to turn to Bernard Madoff's Blog (aka 'fake Bernard Madoff's Blog.')

Print this post


Neil said...

It is remarkable that bankers and senior executives of large corporations have the nerve to pressure the SEC on this question of fair value accounting standards. In the face of the AIG bonus scandal, I suppose such nerve is to be expected, but it is tone-deaf to say the very least. What will be the consequence if the wobbly SEC caves to this pressure? We will have toxic assets paraded across balance sheets as if they were made of gold. And is there really nothing lost when financial statements are themselves toxic? Fraudulent financial statements that nobody will believe - is that really what the SEC is going to support? After all we have been through lately, it is simply obscene.

Edith Orenstein said...


Whoa, tell me what you really think!

But seriously, I am glad you posted a comment, it enhances the dialogue to have diverse views.

See my notes from the FASB board March 16 webcast, linked in Monday' nights (March 16) blog post, particularly FASB Board Member Tom Linseier's remarks, excerpted from my notes below; I am interested in whether that changes your views any, here is the excerpt from my notes:

Linsmeier added, “Part of the thought process I went through this weekend, was trying to figure out, how can Congress and the banks and investors, with different points of view - could it be both are right?” He stated, “I actually came to the conclusion they can be. Congress and the banks telling us fair value has exacerbated the problem, investors tell us fair value is [necessary/useful].” He added that he saw Fed Chairman Ben Bernanke interviewed on 60 Minutes last night, and that Bernanke had observed the need to get private equity investing in banks. Linsmeier described how investors are currently not confident in banks’ reported Tier One capital levels, although those levels (over 11%) suggest the banks are currently well capitalized. He added, “So, what are investors doing? They are using tangible common equity.. for our largest banks, 3%, .. [which] assumes all the losses in Available for Sale (AFS) securities are real, so, there is a possibility if our fair values are too low, investors are thinking things are worse then they are, investors are not going to want to come into those banks if they believe the fair values are too low, so what we are doing now is elevating fair value to a more reasonable point, so [investors can come in there].”

Neil said...

Yes, I guess I shouldn't be outraged by the accounting implications of this mess. Not the worst aspect by far, but I think it is interesting that the accounting rules, and not the derelict and corrupt management of these failed institutions, is to blame. Oh yes, and all the poor people who borrowed in previously red-lined inner city neighborhoods -- they are also the problem here. Amazing.

BTW -- Enjoyed the music video greatly. Who would have thought mark-to-market would have a theme song? Let's have more music please.