FASB Unveils Fair-Value Plan; PCAOB Eyes Liability

The Financial Accounting Standards Board has issued an exposure draft giving companies the choice, but not a mandate, to report certain financial assets and liabilities at fair value.

Under the proposed statement, companies could measure financial assets and liabilities at fair value on a contract-by-contract basis, with the effect included in earnings. Assets and liabilities measured at fair value would be displayed separately from others measured under different attributes, and the choice to measure a given asset or liability using fair value would be irrevocable.

FASB says the selection of fair value measures for the assets and liabilities included in the proposed statement would reduce accounting complexity and volatility in earnings caused by current Generally Accepted Accounting Principles.

“The proposed standard helps to mitigate this type of accounting-induced volatility, by enabling companies to achieve a more consistent accounting for changes in the fair value of related assets and liabilities without having to apply complex hedge accounting provisions,” the board said in a written statement.

The fair value option also brings U.S. GAAP closer to international standards, board member Leslie Seidman says—a goal that now underlies virtually all FASB rulemaking activity.

Bahnson

The proposed statement, open for comment through April 10, is likely to get mixed reviews, says Paul Bahnson, accounting professor at Boise State University and a former FASB member.

Analysts and other users of financial information have been calling for greater fair-value reporting to understand the full economic effects of entity operations, Bahnson says, so they likely will view the exposure draft as progress.

“Preparers, on the other hand, often object to moving to fair values largely because of the volatility the fair value gains and losses introduce to earnings,” he continues. “The exposure draft will make these folks nervous as it expands fair value measurement.”

Bahnson notes that the proposed statement allows—but doesn’t require—companies to use fair value measurement for related assets and liabilities. “Giving managers the option really puts the onus on them to make appropriate choices,” he says. “Going forward, as progressive managers expand their use of fair value reporting to accommodate user demands—and reap the benefits of lower cost of capital associated with reducing user information risk—other noncompliant managers may well begin to feel some market-based pressure to conform.”

Beresford

Dennis Beresford, accounting professor at the University of Georgia and another former FASB member, believes the proposal won’t be terribly controversial because it’s optional; nor is it likely to be widely adopted by companies. “It’s intended to address the concerns that some people have about accounting for derivatives, where you have certain transactions that are required to be accounted for at market value and other transactions that have other offsetting economic effects not accounted for in the same way,” he says. “This proposal removes that argument.”

Beresford said he believes the proposal represents a movement to “put the tools and dies in place” as FASB continues its march toward more fair value measurements over the long haul.

FASB said the exposure draft represents the first phase of FASB’s two-part approach to fair value. In the second phase, the board plans to address allowing fair value measurement for certain nonfinancial assets and nonfinancial liabilities, as well as some of the financial assets and liabilities excluded from the scope of the phase-one draft.

The proposal is available from the box above, right.

PCAOB Advisory Group To Talk Auditor Liability, Materiality

The Public Company Accounting Oversight Board has asked its Standing Advisory Group to meet Feb. 9. On the agenda: whether auditors’ efforts to seek protection from litigation in their engagement letters affects their independence.

Questions about auditors’ independence when firms are protected by indemnification clauses first surfaced last year, when banking regulators issued guidance warning financial institutions to reject auditors’ efforts to negotiate protections from liability (see related coverage at right). The banking regulators viewed virtually any pre-arranged protection as a threat to auditor independence.

A few months later, the American Institute of Certified Public Accountants joined the debate with a proposed interpretation of its ethics rules: auditors should be able to negotiate protections against claims arising from audit problems that can be traced to a client’s fraudulent behavior.

Now the PCAOB wants its advisory group, about half of whom just began new terms in January, to contribute its views on whether auditors’ independence is impaired given the nature of the protection, whether it extends to third parties (such as damage claims by investors), client negligence or fraud, a cap on damages to the amount paid in fees, and other factors.

In addition to auditor liability, the PCAOB also wants its advisory group to discuss how much and what kind of guidance to give auditors about materiality and the risk of misstatement, and whether auditors should rely on the skills of outside specialists for certain audit issues or be expected to possess the requisite skills themselves.