FASB-IASB Hold 3rd Roundtable On Financial Instruments

The third in a series of FASB-IASB roundtables on the financial instruments project was held earlier today in Norwalk, CT. (The first two roundtables were held in Tokyo and London.)

The roundtable handout (we understand the handout for today's roundtable is essentially identical to the 14 page handout used at the prior roundtables) includes some tables comparing some of the FASB and IASB's proposals.

Among highlights from today’s roundtable: FASB Technical Director Russell Golden asked panelists to share their views on where the IASB's proposal stood, vs. FASB deliberations to date, on where to draw the line in terms of what items would be carried at fair value vs. some other basis such as amortized cost, and where the line would be drawn on fair value changes being reflected in Other Comprehensive Income vs. Net Income.

Should Business Model Drive Valuation, Recognition?
Some panelists responded they'd like to see dual presentation of amortized cost and fair value for financial instruments (some believe this dual presentation should appear on the balance sheet; others believe dual presentation in the footnotes would be sufficient, with single presentation in the balance sheet).

Hal Schroeder of Carlson Capital said: "If I were in charge of the accounting world, I would have side by side [presentation]," on the balance sheet, and income statement as well.

Kevin Spataro, representing the Group of North American Insurance Enterprises, argued in favor of measurement principles (e.g. fair value vs. amortized cost with some form of impairment) following the entities' business model.

However, another panelist argued that if the business model became the primary driver or trump card for determining the valuation method, that would be a 'non-starter.'

IASB Board Member Jim Leisenring said: "I view 'business model' as a euphemism for free choice; is there any ‘out of bounds’ business model? Is there anything I could do that you wouldn’t say should drive the accounting? The business model is not relevant, period, to accounting, if you are trying to meet the objectives of financial reporting."

GNAIE's Spataro responded, "We are saying, if financial instrument meaurement does not comport with the business model, it doesn’t comport with decision useful [information]."

Leisenring replied, "I think the opposite; is there any boundary to the business model where you’d say that is just too wacko to drive business reporting?"

Another panelist noted that sophisticated analysts have access to information and the ability to back out information from reported earnings to arrive at their view of a firm's core earnings, but that the average investor does not have this ability, therefore, they said, "For the average retail investor who doesn’t have access to what I have access to, fair value accounting is much better."

However, another panelist said, "As users of financial statements, you do look at cash flows, it is cash flows that will service the debt, not changes in fair value."

In terms of 'geography,' there were varying views about putting fair value information (and related changes in fair value) on the balance sheet (or running changes through the income statement) vs. disclosing it in the footnotes.

FASB Board Member Tom Linsmeier noted he has heard anecdotally that information placed in the footnotes is not subject to "as high quality internal controls," as information that appears in the body of the financial statements.

A panelist replied: "I would disagree; not only are notes subject to audit, they are also subject to Sarbanes-Oxley, so as a preparer, we are not applying less due diligence to the notes than the financial statements."

Convergence Challenge
Additionally, a number of panelists noted concern with the fact that there is a timing mismatch - which could, in the view of some, lead to a potential mismatch in substance - between the IASB’s plan to issue some final standards for financial instruments by year end (in order to be responsive to requests made of the IASB by the G-20 and other governmental bodies); vs. FASB’s plan to release proposals on financial instruments this year, with final standards next year.

Rob Esson of the International Association of Insurance Supervisors asked, "How would FASB be able to converge other than by agreeing with the IASB, if the IASB standard is effectively already out there and being applied as of Dec. 31, 2009?"

FASB Board Member Larry Smith replied, "We are participating in meetings of the IASB, where [they are] redeliberating comments they’ve received on [their] ED [Exposure Draft]... we are ttying to influence the thinking of the IASB, so that it is unlikely we’ll have to issue something that is very different than what the IASB issues."

IASB Board Member Jim Leisenring responded to Esson by saying, "I think you know the answer to the question, you heard what [IASB Board Member] Bob Garnett said [last] Thursday, the political demagogues that have insisted on this by 12.31.09, probably will get something by that date." He added, "We will remain absolutely committed to being converged [with FASB], the people who adopt [the new IASB standard as of] 12.31.09 will go through two fundamenatally [different] adoptions; FASB will not rubber stamp [in its own standard, what the IASB does in its standard]."

FASB Chairman Robert Herz added, "Talking personally here, people know I am very committed to convergence, [there are] big advantages from having a single set of high quality standards. That having been said, our U.S. responsibility under the Securities Acts, [and] under the Sabanes-Oxley Act - under the policy statement from the SEC, involves a lot of things, one of which is convergence, stated in [the] goal of assessing the degree to which convergence makes sense to U.S. investors, protection of U.S. investors; we need to go through that assessment, I hope in the end, politics aside, we can [achieve that]... [it is] important to look at all the issues, a lot are interrelated, whereas the IASB believes they can do it [issue financial instruments standards] in a staged fashion... obviously keenly aware of the difficulty of achieving both goals together."

Tom Panther of the American Bankers Association noted, "In our coment letter we expressed some concerns with IASB's 3-phase approach [segmenting, e.g., measurement from impairment], particularly around, sometimes the discussion gets blurred, maybe even here today, [in] the distinction between measurement - what is the model for measurement - and impairment.... We would support much more of a joint project [between FASB and he IASB]; the operational issues on businesses the ABA represents would be extraordinary... we have talked about dual models.. bifurcating on the balance sheet, those types of things really need to get vetted and understood… and the voice of the broader business community just doesn’t have resources to [allocate] to it [i.e., analyzing and commenting on the proposals] at this point in time."

Carlo Pippolo, a Partner at Ernst & Young, made the final remark at the roundtable, saying that in his firm’s view: “ [C]onvergence is something we agree is critically important, ideally, we’d ask the IASB to take more time, deal with a more targeted project rather than, as [IASB Board member] Jim [Leisenring] said, some companies early adopting [the IASB standard this year], and change again down the road [if IASB amends its standard to conform with FASB]; ideally, [we’d like to see] the boards’ issuing final [standards] at the same time.”

Note
We are aware of some issues with email delivery of our blog posts last Thursday Sept. 10 and Friday Sept. 11, respectively. If you did not receive them, you can read them here and here.

Obama To Wall Street: Return To Normalcy Cannot Lead To Complacency

Earlier today, on the one-year anniversary of Lehman Brothers’ downfall - an event viewed as the penultimate trigger point in the credit crisis, leading to a broader economic crisis which the government sought to stem through the Emergency Economic Stabilization Act of 2008, and the American Recovery and Reinvestment Act of 2009 - President Barack Obama gave a speech on Wall Street in which he noted that: “the growing stability resulting from these interventions means we are beginning to return to normalcy. But what I want to emphasize is this: normalcy cannot lead to complacency.”

Obama called for common-sense, financial regulatory reform, adding: "I have urged leaders in Congress to pass regulatory reform this year and both Congressman Frank and Senator Dodd, who are leading this effort, have made it clear that that's what they intend to do."

"Now there will be those who defend the status quo -- there always are," said Obama, adding, "There will be those who argue we should do less or nothing at all. There will be those who engage in revisionist history or have selective memories, and don't seem to recall what we just went through last year. But to them I'd say only this: Do you really believe that the absence of sound regulation one year ago was good for the financial system? Do you believe the resulting decline in markets and wealth and unemployment, the wrenching hardship that families are going through all across the country, was somehow good for our economy? Was that good for the American people?"

On the subject of systemic risk, Obama said:

While holding the Federal Reserve fully accountable for regulation of the largest, most interconnected firms, we'll create an oversight council to bring together regulators from across markets to share information, to identify gaps in regulation, and to tackle issues that don't fit neatly into an organizational chart. We'll also require these financial firms to meet stronger capital and liquidity requirements and observe greater constraints on their risky behavior. That's one of the lessons of the past year. The only way to avoid a crisis of this magnitude is to ensure that large firms can't take risks that threaten our entire financial system, and to make sure that they have the resources to weather even the worst of economic storms.

Even as we've proposed safeguards to make the failure of large and interconnected firms less likely, we've also created -- proposed creating what's called "resolution authority" in the event that such a failure happens and poses a threat to the stability of the financial system. This is intended to put an end to the idea that some firms are "too big to fail."

He reiterated his plan to create a Consumer Financial Protection Agency, and to close regulatory gaps and loopholes domestically and as part of international regulation, a subject he noted will arise at the upcoming G-20 meeting later this month in Pittsburgh.

Read a transcript of Obama’s remarks; here is the list of attendees invited to the speech. (For additional background, see our June 17 post on the U.S. Treasury Department's report issued in June on Financial Regulatory Reform: A New Foundation.)

Republican Response; Other Commentary
House Minority Leader John Boehner (R-OH) issued a response entitled, President Fails to Provide “Clear Exit Strategy” from Continued Washington Bailouts; Boehner's response links to the Comprehensive Financial Regulatory Reform legislation suggested by House Republicans earlier this year.

Related coverage of the President's speech and the topic of financial regulatory reform in general can be found in Forbes, The Banker-in-Chief on Wall Street, and The Hard Truth About Financial Regulation, and in Time, On Finance Reform, Obama's Unlikely Partner, about the Ranking Republican on the Senate Banking Commitee, Richard Shelby (R-AL).

Sarbanes-Oxley, Fair Value, And What Counts

We received the following information from Jonathan Jachym and Leigh Stapleton of the U.S. Chamber of Commerce. The message is directed at small public companies (i.e. non-accelerated filers, generally defined as those with less than $75 million market cap).

The U.S. Chamber’s Center for Capital Market’s Competitiveness is conducting an on-line survey to compile data on the projected costs of Sarbanes-Oxley (SOX) Section 404(b) and its impact on smaller public companies, defined in SEC rules as “non-accelerated filers”.

Sarbanes-Oxley Section 404(b) requires the external auditor to report on the adequacy of the company’s internal control over financial reporting.

In 2007 the Chamber released a similar study, which showed that compliance with Section 404(b) would disproportionately burden small businesses. That study was part of a successful effort to delay compliance with 404(b) for a full year.

Please take a moment to complete the brief survey of eight questions that will inform Capitol Hill and The U.S. Securities and Exchange Commission (SEC) of the impacts that Section 404(b) will have on small business. We appreciate your time and effort in this regard. Here is the link to the U.S. Chamber's online survey on Sarbox 404(b) The survey will be available until next Friday, September 18

Please note FEI is not conducting the above-referenced survey, we are simply sharing the above information about the U.S. Chamber of Commerce survey. If you have any questions about the U.S. Chamber's survey, contact Jonathan L. Jachym, Legal and Regulatory Counsel, Center for Capital Markets Competitiveness, U.S. Chamber of Commerce jjachym@uschamber.com.

The most recent survey conducted by FEI relating to audit fees generally was published earlier this year; see FEI's June 3, 2009 press release; full survey results can be obtained from the Financial Executives Research Foundation (FERF) bookstore.

Small Co Implementation of 404(b) Required This Year; SEC Cost-Benefit Study Awaited

As we noted in this blog on Dec. 18, 2008, and Jan. 17, 2009, the SEC's Office of Economic Analysis launched a separate survey last year on the costs and benefits of implementation of the existing rules under Sarbanes-Oxley Section 404. According to SEC's Jan. 16, 2009 press release, the SEC received more than 2,000 responses to its survey.

When the SEC originally announced on June 20, 2008, that it would embark on a study of the costs and benefits of implementation of internal control reporting under the SEC and PCAOB rules issued under the Sarbanes-Oxley Act (specifically Section 404), the Commission concurrently extended the effective date for small public companies of the Sarbanes-Oxley Section 404(b) external audit requirement. Specifically, Section 404(b) requires external auditors to opine on a small companies' internal controls; the 404(b) requirement was extended to fiscal years ending on or after Dec. 15, 2009. (See SEC Final Rule, Internal Control Over Financial Reporting in Exchange Act Periodic Reports of Non-Accelerated Filers posted June 26, 2008 and related Technical Amendment.)

The objective of SEC's cost-benefit study was explained in SEC's June 20, 2008 press release as follows:

The SEC staff's cost-benefit study will help determine whether the new management guidance on evaluating the internal controls over financial reporting issued by the Commission in June 2007 and the Public Company Accounting Oversight Board's (PCAOB) Auditing Standard No. 5 approved by the Commission in July 2007 are having the intended effect of facilitating more cost-effective internal control evaluations and audits of smaller reporting companies. The study includes gathering new data from a broad array of companies about the costs and benefits of compliance with the Section 404 requirements. The study also pays special attention to those smaller companies that are complying for the first time with the requirements that are currently in effect.

Significantly, the extension of the Section 404(b) requirement for small companies did not impact the deadline for the Section 404(a) requirement for management's report on internal control, which was delayed previously for small public companies, but became effective in 2007. (Large public companies have already been complying with both Section 404(a) and Section 404(b) since 2005.)

Additionally, the extension for small companies with respect to the Section 404(b) external auditor's report on internal control does not impact longstanding requirements for audited financial statements; 404(b) is scoped specifically to the audit of internal control (which will become integrated with the existing audit of the financial statements).

Results of the SEC's survey have not yet been released, and are expected to be included in a broader SEC study of the costs and benefits of Sarbanes-Oxley Section 404, as noted in the SEC press releases cited above.

Resources For Small Public Companies
Small public companies can find resources relating to Sarbanes-Oxley Section 404 on SEC's Spotlight on Internal Control Reporting Provisions, including SEC's 2007 publication: Sarbanes-Oxley Section 404: A Guide for Small Business.

See also PCAOB's webpage on Auditing Standard No. 5: An Audit of Internal Control Over Financial Reporting That Is Integrated with An Audit of Financial Statements; the webpage includes a link to PCAOB Staff Views on [AS5]: Guidance for Smaller Public Companies.

The PCAOB also is continuing its series of Forums on Auditing in the Small Business Environment; with forums set to take place in Houston Sept. 23, Denver Nov. 3, and Orlando Dec. 1. Preregistration is required; further details on upcoming forums, and links to slides from past forums, are available here.

Additionally, see information published by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), including COSO's 2006 Guidance for Smaller Public Companies.

American Enterprise Inst. Holds Forum On Sarbanes-Oxley and the Financial Crisis

In related news, earlier this week, the American Enterprise Institute hosted a forum on: Sarbanes-Oxley and the Financial Crisis. The keynote presentation was given by former Speaker of the House of Representatives (and current AEI senior fellow) Newt Gingrich; additional commentary was provided by former SEC Chairman (and current CEO of Kalorama Partners LLC) Harvey L. Pitt, as well as Hans Bader of the Competitive Enterprise Institute, and AEI resident fellow Alex J. Pollock. Recordings of the program are posted on the American Enterprise Institute's website in video and audio format.

Gingrich emphasized six points in his remarks at the American Enterprise Institute program, according to FEI intern Maxwell Hyman who attended the program:

1. Sarbanes-Oxley has a devastating effect entrepreneurship and venture capital. The costs of Sarbanes-Oxley compliance delay start up and innovation for small businesses, and cuts into the already low funding of venture capital.


2. Congress estimated the costs of the bill to small businesses to be around $90,000 dollars, but they are actually upwards $900,000 dollars. Congress has a duty to repeal acts that are 100% over their estimated cost, but Sarbox is about 1000% of the original estimate.


3. Our economy is beginning to become burdened by regulations like Sarbanes Oxley to a point where the country is at risk of losing its competitive edge against governments that do not have much regulation, such as China which takes a very pragmatic approach to the economy and job growth. Our unemployment rate could easily reach 20%. In these conditions, any measure that prevents startup is suicidal.


4. Sarbox misdirects the management and the board of directors. Executives and management are focusing on PCAOB and Act compliance instead of creating new and innovative ways to compete in an international market. “The criminalization of Boards of directors is fundamentally irrational if you want economic growth.”


5. Sarbanes-Oxley was created to punish the public sector for bad accounting practices, but ironically, companies are now moving into the private sector to avoid regulations.


6. The Act also didn’t contribute any information during the start of the most recent financial meltdown. Many companies were associated with accounting and auditing fraud, but there weren’t any known successes of the PCAOB in finding any wrongdoing. Despite all the costs, there is no net gain from the bill.

ABA Asks Geithner, Bernanke to Raise Fair Value Accounting At G-20

WebCPA reported earlier today: Bankers Want G-20 To Rein In FASB, IASB. The article notes:

The American Bankers Association has written to Treasury Secretary Timothy Geithner and Federal Reserve Chairman Ben Bernanke asking them to raise accounting issues at the upcoming G-20 meeting in Pittsburgh in order to curb efforts by standard-setters to expand mark-to-market accounting to loans and debt instruments. In the letter, ABA president and CEO Edward Yingling claimed that the mark-to-market accounting changes proposed by the Financial Accounting Standards Board and the International Accounting Standards Board are at odds with the changes recommended by the G-20 in a statement last week.

"Most experts, including banking leaders, believe that repairs are needed to the accounting model, particularly in the area of provisioning for loan losses,” wrote Yingling. However, he argued that the FASB and IASB proposals go too far and “would undermine the G-20’s efforts to strengthen the financial system.”

Read ABA's Sept. 9, 2009 Letter to Geithner, Bernanke. [NOTE: See our Aug. 13, 2009 post for further details on ABA's concerns with the FASB and IASB financial instruments projects, particularly as relate to fair value.] For related reading, see our Sept. 8 post about the G-20. [UPDATE: We have followed fair value accounting/mark-to-market issues frequently in this blog; for just a few examples, see our posts from Feb. 26, 2009, Feb. 24, 2009, April 20, 2009, April 3, 2009, Nov. 26, 2008, Nov. 23, 2008, and Oct. 13, 2008.]

For another point of view, see Floyd Norris' article in the New York Times, Accountants Misled Us Into The Crisis, and Jonathan Weil's commentary in Bloomberg, Five People Who Stayed Clean in Banking's Bilge.

Remembering 9/11

I feel like no post today would be complete without saying something about 9/11. (These are my views only, see disclaimer in the right margin of this blog.) Perhaps the moment of silence itself which took place earlier today is the most important thing that can be said, if one uses that time and other times to consider the enormity of the losses due to the terrorist attacks carried out by hijacking four planes that brought down One and Two World Trade Center, crashed into the Pentagon in Washington, DC and crashed in Shanksville, PA, that fateful day in 2001. Time spent during such a moment of silence and some time spent during the rest of the year can be used in contemplation of whatever is within one's power though one's personal and family life, job, or service to one's country and home town, to help prevent such tragic events in the future, and to protect and rescue those impacted by such events. Here's coverage of memorial events taking place today as noted in the New York Times, Washington Post, and The Daily American of Somerset County, PA.

I remember sitting in a meeting room in the basement of SEC's old headquarters at 450 Fifth St. NW on 9/11/01, in one of the periodic meetings held between SEC staff and FASB staff. (At the time I worked for the SEC.) I remember vividly the information slowly trickling through the building, particularly from those who had television sets in a couple places in the building (since the internet and phones were down). I also remember many of the people who were in that room and in the building that day, and one thing I'll say is that, although retention of staff is an issue that every organization faces - including the SEC - as noted in the Senate Banking Hearing on the Madoff affair yesterday, I know there are numerous exceptional people who were at the SEC in 2001 and are still there today, or are at the PCAOB today, or FASB today, serving investors and the capital markets. Moreover, I'd like to give a shout-out to all the folks who risk their lives as police, fire and emergency workers, those are the real heroes.

Remembering 9/11 puts into perspective what really counts, and regardless where we stand on issues like Sarbanes-Oxley, or fair value accounting, it's important to remember there's more that brings us together than tears us apart.

(Video credit: Bruce Springsteen performing You're Missing (via YouTube/Tonio19494) from his album released in memory of the victims of 9/11: The Rising.)