As the debate rages on over whether fair-value accounting is the root cause of the credit crisis and how best to address concerns about its application, a member of the International Accounting Standards Board has stepped up to defend the accounting method in a speech before a group of U.S. securities analysts.
Thomas Jones, IASB’s vice chairman, argued in Oct. 22 remarks before the New York Society of Securities Analysts, that politicians and regulators may be criticizing “mark-to market” and similar areas of accounting, including consolidation and disclosure, but fair value is still the best solution out there.
Jones
“I do not hear many sane people saying, ‘Scrap fair value and go back to historical cost,’” Jones told attendees at NYSSA’s annual financial reporting conference. But, he added, it’s a “legitimate question as to whether there is any truth to this idea that the spiral of write-offs is an infection which is kind of self-reinforcing.”
Supporters of fair-value accounting say it reflects the reality of the marketplace, whether corporations like it or not. Critics, however, blame the fair-value rules for worsening the financial crisis by forcing companies to slash the value of their assets by billions, even if a company plans to hold those assets many years into the future. Some have called for the suspension of the fair-value accounting rules.
Jones, however, said standard setters are unlikely to move away from fair value.
“It’s a lousy system, but it’s less lousy than any other system anyone’s found so far,” he said, adding: “I don’t find the people who criticize fair value have really come up with any good ideas for an alternative.”
In a liquid market, Jones said, “I think fair value does capture reality and I can’t think of any other system that does.”
Still, Jones doesn’t favor application of fair value beyond financial instruments. “We don’t think making mark-to-market assets that aren’t financial instruments, in general, is very sensible,” he said.
His remarks in New York came one week before an Oct. 29 Securities and Exchange Commission roundtable on fair value. That event is part of a congressionally mandated SEC study of fair-value accounting required by the Emergency Economic Stabilization Act enacted in early October. A report on the findings of that study is due to Congress within 90 days.
Lamonte
As part of recent efforts by regulators to address concerns about fair value, IASB amended its standard on fair value, International Accounting Standard No. 39, to mirror changes to the U.S. standard that permit the reclassification of some financial instruments as “held for maturity.” The move prompted criticism that IASB circumvented its normal due process to help out the banking sector. Earlier in the Oct. 22 forum, Mark LaMonte, a credit analyst with Moody’s, said the reversal “didn’t do much to help the perception” that the IASB is “in the European Union’s pocket.”
In response to the criticism, Jones told Compliance Week that the decision to suspend due process was made by IASB’s trustees. While the board “was not wild about doing that,” he added, “The project was urgent, and it was a due process suspension for one item, on one occasion.”
“I don’t find the people who criticize fair value have really come up with any good ideas for an alternative.”
— Thomas Jones,
Vice Chairman,
IASB
In his remarks to the NYSSA, Jones said the move “isn’t a freebie,” noting that, “If you move from the fair-market value box to held to maturity, you’ve got to hold to maturity.”
Other areas where he said legitimate questions have been raised are the standards related to consolidation and derecognition.
“It’s pretty obvious when banks take billions of dollars off the books, it disappears from sight, and 18 months later it’s back, you’ve got to question whether it should’ve been different,” Jones said. In hindsight, he noted, “We could use a little more disclosure on the liability side” in International Financial Reporting Standard No. 7, Disclosures.
As an example, he cited the case of Northern Rock, the British bank that had to be rescued by the British government last year. Calling the bank’s reporting “superb,” Jones said, “If you open Northern Rock’s IFRS 7 report, you instantly see … that it borrowed for 90 days or so and lent for 30 years.”
While it should’ve been obvious that “the first time there’s any type of crisis, it’s going to hit the wall,” he said, “No one looked.”
Convergence
Jones also devoted a large portion of his remarks to making the case for the United States to adopt International Financial Reporting Standards. The SEC proposed a roadmap for doing so back in August, but a more detailed vision has yet to materialize. Given the plight of the SEC these days with the credit crisis, it’s not clear whether one will be published any time soon.
DAMAGE CONTROL
Other Responses to the Credit Crisis From IASB:
The IASB has committed itself to undertake the following:
Formation of an international advisory group jointly with the U.S. FASB
The IASB and the US FASB at their joint meeting in October decided to form an international advisory group. The group shall will be comprised of senior leaders with broad international experience with financial markets.
They will be tasked with considering how improvements in financial reporting could help enhance investor confidence in financial markets; identifying the accounting issues requiring urgent and immediate attention of the boards as well as issues for longer-term consideration.
The boards will seek to identify external chairs and members of the group as soon as possible in order to enable the advisory group to begin its work expeditiously. The high -level advisory group will also draw upon work already under way in a number of jurisdictions on accounting and the credit crisis.
The advisory group will meet in public session with Webcasting facilities available to all interested parties.
Organization of public roundtables in Asia, Europe and North America
In the coming weeks the IASB and the FASB will organize three roundtables—one each in Asia, Europe, and North America. The purpose of these public roundtables is to gather input on reporting issues arising from the global financial crisis—including responses by governments, regulators, and others.
This should enable the boards to act rapidly and the advisory group, once established, to advance its deliberations efficiently. The first roundtable will be held in Europe.
Permitting the possibility of reclassifications of certain financial instruments to align IFRS with U.S. GAAP
The IASB issued amendments to IAS 39 introducing the possibility for companies applying IFRS to reclassify assets, which was already permitted under U.S. GAAP in rare circumstances.
Consideration of the possible impact of the U.S. Emergency Economic Stabilization Act of 2008 and other similar programs internationally on the valuation of assets and liabilities
The IASB will work closely with the FASB to develop a common approach to accounting questions related to the valuation of financial assets and liabilities resulting from purchases made through the U.S. Emergency Economic Stabilization Act of 2008 and any other similar programs internationally, if and when those are initiated.
Willingness to participate in any study on the impact of accounting in the credit crisis
The IASB recognizes the need to continue to examine IFRS accounting principles for financial instruments. Earlier this year, the IASB published a discussion paper, “Reducing Complexity in Reporting Financial Instruments.”
The discussion paper is the starting point for considering a possible replacement for IAS 39. Working with regulators, investors, and industry, the IASB will draw lessons from the credit crisis as it moves forward with its project to reconsider IAS 39.
Consistently with discussions in the United States, the IASB will be willing to assist in any study that examines the quality of existing fair-value information provided to investors and any impact of financial reporting on the credit crisis.
Source
IASB Website (2008).
Jones cited the globalization of markets as a chief reason the United States should be interested in adopting IFRS. Noting that America is only a fraction of the world population “and gradually it is going to be less important,” he said, “That’s one more reason to not be the only exception to the general acceptance.”
As recently as 2001, no country required the use of IFRS. Today, roughly 120 countries are either using the standards, require them by law, or are in transition toward using them.
Jones dismissed arguments that international standards are immature and unready for global use. “They’ve been around since 1973,” he said. “That isn’t very new. It certainly isn’t untried.”
He also cited “huge benefits,” including cost-savings for multinational companies that have to maintain two sets of books because they use IFRS outside of the United States and bear the cost of educating their employees on two sets of standards.
Still, Jones acknowledged that international standard setters have more work to do. For instance, investor involvement in standard setting, while strong in some countries, is “patchy” in others. He also said more U.S. investor involvement is needed at the board level.
Global enforcement is also an issue. “There are countries where it’s superb … and other countries where there are deficiencies,” he said.
Meanwhile, Jones said convergence is going ahead “irrespective of the U.S. decision to move to IFRS or not.”
“It is no help to us to have different standards between the two major standard setters left in the world,” he said. “It is in fact extremely damaging in a crisis, as we’re learning.” The more U.S. and international standards are converged in advance of any U.S. move to IFRS, “the less will be the transition shock when it happens,” he said.
Touching briefly on U.S. concerns about funding of IASB and whether it is susceptible to political pressures, Jones said funding is “already relatively stable.”
“Although it’s a fair issue, it’s a bit of a red herring,” he said.
Currently, some EU countries, like the United Kingdom, have a levy system like the one used in the United States to fund the Financial Accounting Standards Board. Others, such as Japan and France, “decide on an appropriate amount for their country and look for volunteers.” While some observers have called for a universal levy system, Jones said he’s “not necessarily of that school of thought.”
“I think once the government funds you, the government expects to have a big say in what you do,” he said. “I’m not sure standard-setting benefits from too much interference by government … or any other group.”
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