As we approach the end of 2011 I thought I would provide an update on some important developments in accounting and auditing that I have written about over the year.

 In February, I provided an overview of the many ongoing developments in financial reporting, with a particular focus on several major accounting  standard-setting projects between the Financial Accounting Standards Board and the  International Accounting Standards Board that were targeted for completion by June 30, 2011. These included projects on revenue recognition, lease accounting, accounting for financial instruments, fair-value measurement, and presentation of comprehensive income.  The boards did issue final, converged standards on fair-value measurement and presentation of comprehensive income.  Both standards are effective for public companies starting with their first quarter of 2012.

The fair-value measurement standard is largely based on existing U.S. Generally Accepted Accounting Principles in this area, with a few changes and new disclosures that are probably of greatest potential significance to financial institutions. The new standard on presentation of comprehensive income requires companies to present either a single statement of comprehensive income or to present separate, but consecutive, statements of net income and other comprehensive income.  In either case, earnings and earnings per share will continue to be prominently displayed. The new standard, however, does eliminate the current practice followed by most U.S. companies of showing items of other comprehensive income within their statement of changes in stockholders' equity.

In April the boards announced that they were extending their timelines to complete the projects on revenue recognition, lease accounting, and financial instruments beyond June 30, 2011. They later announced that they would issue revised exposure drafts on revenue recognition and lease accounting for public comment. While carrying forward basic elements from the boards' 2010 exposure drafts on these subjects, the new proposals will also reflect a number of changes  based on input received  and that in many cases are intended to facilitate implementation of the new accounting approaches.  The revised exposure draft on revenue recognition was issued in November, and the revised proposal on lease accounting is now targeted for release during the first half of 2012. Add in sufficient lead time for companies to properly implement the new requirements, and it seems likely that the new standards on revenue recognition and lease accounting won't become effective until at least 2015. In order to enhance comparability and consistency, however, the new standards may well require some degree of retrospective application. Assuming they go into effect in 2015, U.S. public companies would also need to revise their financial statements for 2013 and 2014. The revised proposals represent significant changes to current accounting and reporting practices, so I encourage interested and affected parties to carefully review the proposals and to provide their views and suggestions to FASB and IASB.

 The path forward on accounting for financial instruments seems less clear at this point.  The two boards have reached some different conclusions on basic measurement and classification issues, but continue to work together to develop an improved and converged approach to accounting for impairments of financial assets.  FASB has also been working to develop various new disclosures on interest rate risks for financial institutions and liquidity risks for all entities.  Thus, FASB may be in a position in 2012 to issue an exposure draft covering classification and measurement of financial instruments, including impairment of financial assets, as well as the proposed new disclosures on liquidity and interest rate risks. Presumably, FASB would then turn to accounting for hedging transactions, including the recent proposal by IASB in this area that contains a number of differences from current U.S. GAAP.

In April I discussed balance sheet offsetting (“netting”) of financial instruments, which is an important aspect of accounting for financial instruments.  I noted that because U.S. GAAP permits balance sheet offsetting of derivative contracts covered by master netting agreements while IFRS does not, there are significant differences between major U.S. financial institutions and those domiciled in Europe in the balance sheet footings and related ratios. I reported that the boards had issued a joint proposal aimed at converging their respective standards that would have required U.S. companies to change to an approach along the lines of the International Financial Reporting Standards approach and that therefore could have significantly increased the amounts of total assets and total liabilities reported by certain major U.S. financial institutions. It would have also affected debt-to-equity and other key balance sheet ratios and metrics.  After considering input from U.S. stakeholders, FASB voted 4 to 3 against this proposed change. IASB, however, continues to strongly support continuing with its current approach. Thus, it seems that convergence will not be achieved in this area. However, both boards agreed to require footnote disclosures to help readers bridge this difference in balance sheet presentation between U.S. GAAP and IFRS.  Still, some point to this as evidence of the ongoing difficulty in arriving at converged answers between FASB and IASB in important and controversial areas, pointing out that convergence inherently requires change by one or both boards and the companies that follow their respective standards.

In that regard, in June I focused on the ongoing consideration by the SEC of whether, when, and how to “incorporate” IFRS into financial reporting by U.S. issuers. I noted that the Securities and Exchange Commission had indicated that it would make a determination on these matters in 2011 and looked at the ongoing work by the SEC staff in support of this. I also discussed one potential approach to incorporating IFRS, known as “condorsement,”  that was addressed in a May 2011 paper issued by the SEC staff.  The SEC staff received some comment letters on the paper and held a public roundtable in July that focused on obtaining the views of investors, small issuers, and other U.S. regulators on the possible incorporation of IFRS into U.S reporting. While most appear to continue to support the ultimate goal of common high-quality international accounting standards, various points of view were expressed on how the SEC, FASB, and the U.S. reporting system should proceed toward this goal. Most recently, James Kroeker, chief accountant at the SEC, said at a conference of the American Institute of Certified Public Accountants that his staff will take “a measure of a few additional months” to complete its work plan on possible incorporation of IFRS for domestic issuers.

There continues to be considerable uncertainty regarding the path forward in the U.S. toward IFRS. If it is to continue, will it be through further convergence and condorsement? What changes on accounting standards might that create in the coming years? ;

 In November, the SEC staff issued two additional papers that provide “A Comparison of U.S. GAAP and IFRS”  and  “An Analysis of IFRS in Practice.”  While not intended as a comprehensive cataloguing of all the differences between U.S. GAAP and IFRS, the first paper provides a very useful discussion by topic of the many differences between the two sets of standards, as well as areas where the standards are converged or generally similar.  Many of the differences relate to matters on which there is detailed guidance in U.S. GAAP but not in IFRS and differences in disclosure requirements.  The second paper details the results of the SEC staff's review and analysis of the most recent annual consolidated financial statements of 183 companies that use IFRS. The companies are from 22 countries, 36 different industries, and include 47 that were SEC registrants at the time of the review. While the SEC staff found that the financial statements they reviewed generally complied with IFRS requirements, they also noted many examples in which the transparency and clarity of the information could be enhanced. They also found diversity in the application of IFRS across countries and industries, which in some cases may be the result of options permitted by IFRS or the absence of detailed guidance in IFRS on certain matters and in other cases may evidence non-compliance with IFRS requirements.

 There continues to be considerable uncertainty regarding the path forward in the U.S. toward IFRS.  If it is to continue, will it be through further convergence and condorsement?  What changes on accounting standards might that create in the coming years? Will there be an option for all or some U.S. issuers to adopt IFRS?  Will FASB continue to undertake new projects to improve U.S. GAAP, but that could create new differences with IFRS?

There is also uncertainty as to whether and how FASB and IASB will work together in the future once they finish the current major joint projects. In that regard, in July, the IASB issued for public comment a major agenda consultation document, seeking input on its agenda for the next three years.  With a growing list of potential projects coming from countries that have recently adopted IFRS or have committed to adopt it in the near future and continuing uncertainty over where the United States stands on incorporation of IFRS, joint projects with FASB may become less of a priority for IASB. If so, continued convergence between U.S. GAAP and IFRS could occur through a condorsement process under which FASB would evaluate whether to incorporate particular IASB standards into U.S. GAAP.  But exactly how that would operate is not yet clear. For example, the SEC could specify a list of topics and criteria and procedures for FASB to follow in assessing the suitability of incorporating IFRS, together with a timeline for completing that process.

 On the other hand,  whether, how, and when to incorporate particular IFRS standards into U.S. GAAP could be left open to the best judgment of FASB as an independent standard setter, as would  the ability of FASB to continue to undertake new projects aimed at improving  U.S. GAAP. Various parties have provided input and suggestions to the SEC on the condorsement approach.  In a November letter to the SEC, the Trustees of the Financial Accounting Foundation (FAF) recommended a number of potential refinements to the condorsement approach aimed at ensuring that the accounting standards used by U.S. issuers are high quality while also continuing to advance global comparability of financial reporting.  The FAF letter describes a number of specific criteria and procedures that could be used by FASB in the condorsement process and some potential changes in the way FASB (and other major national accounting standard setters) work with IASB.

The coming year may bring greater clarity on these matters of great importance to our reporting system. We will continue to update you on these and on other financial reporting developments of interest to readers of Compliance Week.