Despite New Standards, Disclosure Still Rests On Judgment

Despite the recent flurry of new accounting standards, companies discovering accounting problems still have significant leeway and equal margin for error in disclosure. That’s according to Mary Ann Jorgenson, an attorney with Squire, Sanders & Dempsey, who recently delivered a presentation on the topic at the Practicing Law Institute’s conference on securities regulation. Jorgenson echoed predictions from other standard setters recently that the market can expect more restatements in the future.

Jorgenson

Squire reviewed Securities & Exchange Commission filings of 26 companies that disclosed accounting problems that could lead to restatement of financials. The filings occurred from late 2002 to July 2004, a period during which corporate transparency has become a hot-button issue. Jorgenson found that even in the current climate, “companies still rely on a delicate balance of judgment and risk-taking when it comes to disclosing accounting errors.”

Executives weigh the imperative of disclosure against “multiple and shifting” factors such as market punishment on stock value, the prospect of litigation, and internal morale. As a result, disclosure of accounting errors–whether honest mistakes or suspicious irregularities–is driven by judgment and balancing risks, Jorgenson says.

“For even the most compliant reporting company, the discovery of fraud or honest accounting mistakes can catapult management and the board of directors into a bet-the-company situation,” Jorgenson said in an article prepared for the Institute. “Decisions about what and when to disclose to the public may influence how well the company comes through the crisis.”

In predicting more restatements, Jorgenson pointed to a convergence of factors: more strict attention to Generally Accepted Accounting Principles, a shift in audit-client relationships in the wake of Arthur Andersen’s demise, tighter internal controls thanks to Sarbanes-Oxley, the regulatory authority of the Public Company Accounting Oversight Board over auditors, and enhanced finance staffing and tools.

“All of these factors together have prompted restatements, but they will also reduce restatements in the future,” she said, because ultimately they will improve the reporting process.

FASB Proceeds With Fair Value Standard

The Financial Accounting Standards Board has decided it will proceed with its plan to issue a final statement on fair value measurements, despite critics who question the relevance and reliability of fair value measurements.

The Board decided to continue so that a definitive, final statement can give guidance for applying fair value measurement requirements that already exist in other pronouncements. The Board promised to address criticisms about relevance and reliability.

FASB also decided recently it will postpone into 2005 the finalization of its staff position on other-than-temporary impairments to securities. PricewaterhouseCoopers said FASB will take a fresh look at accounting for marketable securities and the meaning of other-than-temporary impairments after it received more than 230 comment letters to the proposed staff position.

PCAOB Pursues Aggressive Agenda for 2005

PCAOB AGENDA

Auditor independence and tax services.

Detection of and reporting on financial fraud.

Relative authority interim auditing guidance.

Communications with audit committees.

Engagement quality or "concurring" reviews.

Auditing related-party transactions.

Consistency of application of GAAP.

Use of confirmations in an audit.

Auditing "FV" measurements, disclosures.

Elements of quality control for audit firms.

Assessing audit risk.

The Public Company Accounting Oversight Board is mulling an aggressive agenda for 2005, seeking new standards in 11 prioritized areas. At the top of the list is work already under way to establish a standard addressing independence of audit and tax services.

The board also is considering issues surrounding financial fraud, authority of auditing guidance on the board’s interim standards, communications with audit committees, quality review, related-party transactions, consistent application of GAAP, fair value, and audit risk. The Board met with its Standing Advisory Group last week to help define its direction for 2005.

The complete list of agenda items discussed at the meeting is listed at left.

Participants debated whether PCAOB can realistically pursue all 11 projects at once.