IFRS & U.S. GAAP: Where Do We Stand?

In late 2007, I predicted in a presentation that U.S. companies would be using International Financial Reporting Standards as their basis of accounting within 10 years. In the Q&A that followed, two audience members said my prediction was ridiculous; one said the United States wouldn’t move that quickly, while the other said there was no way it would take so long.

Of course, last year the Securities and Exchange Commission actually proposed a roadmap to move from U.S. Generally Accepted Accounting Principles to IFRS. According to that schedule, if all goes well, convergence and education would continue for the next several years, and the SEC would make a final decision in 2011 to mandate the use of IFRS starting in 2014.

That proposal makes my second objector from 2007 look pretty sharp. Many in the financial reporting world have suggested that if IFRS really is going to arrive starting by 2014, companies need to start planning now for a smooth transition to the new system.

But in the six months since the SEC approved its proposed roadmap, much has changed. Where the future was once bright and clear for IFRS in the United States, today the picture is cloudy. The end result (whatever it might be) doesn’t seem as close as we previously believed. So perhaps my first objector from 2007 was making the better observation after all.

In the midst of all this uncertainty and conflicting messages, companies need to make decisions about just how much time and money to spend on IFRS right now.

Where Are We Going?

Despite the recent market crisis and other events, the logic of using a common set of accounting standards all over the world is difficult to refute. Even as new SEC Chairman Mary Schapiro and others have started calling for deviations from the proposed roadmap, they also still suggest that a single set of global accounting standards is the right goal overall.

While U.S. GAAP could conceivably become the de facto global standard, it seems more likely that IFRS will hold that distinction. More countries and markets use IFRS, it has been developed with an international view from the start, and it has the structures in place to obtain global input and acceptance. In addition, some corners of the world still resist the adoption of anything “American” as a standard. For all these reasons, I continue to believe that the United States will eventually move to IFRS.

The roadmap proposed by the SEC is a combination of convergence (where U.S. and international accounting rule makers collaborate to eliminate differences between GAAP and IFRS) and conversion, where we would “flip a switch” and migrate from GAAP to IFRS. Realistically, this is the only way to get to a global set of standards. Pure convergence would take far too long, given that there are literally hundreds of differences to be analyzed and debated. Immediate conversion doesn’t make sense either, since the International Accounting Standards Board is working on numerous significant projects that will both improve IFRS and converge it with U.S. GAAP at the same time.

The question really is how much longer do we work on convergence while getting ready for conversion.

When Will We Arrive?

The proposed roadmap gave about six years’ time from its adoption until the first mandatory IFRS filing—but the SEC wouldn’t make a final decision until 2011, and that first filing would have to include three years of IFRS data. This would leave only a few months between the final adoption decision and the arrival of the first IFRS balance sheet. For that reason, many (including me) were skeptical that the proposed timeline could be met.

The likelihood of a delay has grown stronger since the roadmap proposal was approved last summer. The Financial Accounting Standards Board and the International Accounting Standards Board have had their hands full responding to issues brought about by the financial crisis and have made little progress on major joint projects. The list of significant projects that the boards are supposed to complete by 2011 was already incredibly ambitious, and I don’t believe the boards will be able to meet those aggressive deadlines. My estimate is that at least several of those projects won’t be finished until early 2013, at least.

At this point, spending time and money that can’t be appropriately focused is hard to justify especially when so much else demands companies’ attention.

Comments on the SEC’s proposed roadmap aren’t likely to show widespread agreement on the timeline either. Many companies believe they will need more time between a final decision and the first required IFRS filing. And investors have largely held the view that a switch to IFRS should not be undertaken at least until a significant amount of additional convergence has occurred. During her confirmation hearing, Schapiro herself told Congress she believes in going slower on IFRS.

It seems likely that the SEC will wait to make a final decision on whether U.S. companies should adopt IFRS until after FASB and IASB complete a majority of their current major projects. And I believe that the SEC will almost certainly need to allow more time between that final decision and the opening IFRS balance sheet. Some of that time could be gained by allowing the first IFRS 10-K to contain only two years of income statements instead of three, but I suspect that there will also be a longer lead-time between the final decision and the required filings. My prediction of 10 years from 2007 still feels good, although I wouldn’t be surprised if the requirement kicks in a year before that.

What Should We Do Now?

Auditing firms and others have been suggesting that companies should start planning for IFRS adoption right away. While there is certainly good reason to believe that advance planning and an early start will lead to smoother implementation, spending a lot of time and money now seems premature to me. Even in the extremely unlikely event that the SEC sticks with the 2014 date, the opening IFRS balance sheet is still almost three years away, and that the first IFRS 10-K filing deadline is six years away. And as I’ve said, I believe it is highly likely that the conversion will be put off further than that.

That being said, it could be useful to start considering a few strategic IFRS issues now. One of those is whether to approach IFRS with a strategy of minimizing changes, or start with a clean slate. At one end of the spectrum, a company could decide to continue any U.S. GAAP policy allowed under IFRS, which minimizes changes and, therefore, disruptions. On the other hand, you’re likely to encounter some situations where the U.S. GAAP treatment is just one of several acceptable answers under IFRS. By starting with a clean slate, a company could consider whether any of those other allowable policies are preferable. This approach requires more work and would result in more changes upon conversion. But the benefit would be accounting policies that better match the underlying business. Of course, most companies will probably land somewhere in between those two extremes.

Another issue worth considering now: when to be ready to run the daily business under IFRS. Some have suggested that the best practice would be to be ready by the date of the opening IFRS balance sheet, which is the beginning of the first fiscal year that will eventually be reported under IFRS. This would reduce the chance of errors in those IFRS financial statements, but it would require running U.S. GAAP and IFRS parallel for several years and would commit a lot of time and money to the effort years before the information will be used for public reporting (and maybe even before the SEC has made a final decision about IFRS). The alternative of waiting longer to get systems ready for IFRS risks the need to compute adjustments from U.S. GAAP to IFRS retroactively when the first IFRS 10-K is filed.

Finally, U.S. companies can certainly review their significant accounting policies to determine what changes would be necessary (or permitted) if we move to IFRS. Although a high-level review is unlikely to catch every difference, it should still provide much useful information, and doesn’t require a large investment of time or money.

A high-level review at this point is cost-effective in part because a lot of resources are available to assist in this process—not the least of which are guides to differences between U.S. GAAP and IFRS that have been published by the large auditing firms. Of course, the results of this review would feed back into the strategic considerations I discussed above.

Beyond these few strategic considerations, IFRS-related planning and implementation work can wait a bit. Even if you accept that IFRS will eventually happen in the United States (I haven’t even touched on the arguments that it shouldn’t happen at all), a significant amount of uncertainty exists about when an IFRS adoption will occur. At this point, spending time and money that can’t be appropriately focused is hard to justify, especially when so much else demands companies’ attention.

So my advice is not to put your IFRS efforts into high gear just yet. Yes, IFRS is probably still coming, and you should do some advance planning to make sure you aren’t caught by surprise if events accelerate.

But there should be enough time for major work further down the road, when more certainty in the timing of conversion will allow the efforts to be better focused. Meanwhile, there are plenty of significant FASB-IASB standard-setting projects where companies could provide valuable input, now that I’ve freed up much of the time that might otherwise have been spent on IFRS planning.