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Hank
Berkowitz

Gut Check on International Accounting Standards

Adoption of global standards fast approaching in the rear-view mirror.

June 16, 2008
by Hank Berkowitz

New York, NY — For Tom Jones, a former Citibank chief accounting officer, the move to international financial reporting standards (IFRS) is not a matter of if, but when.

“I see it happening in the next five years,” said Jones, now Vice Chairman of the International Accounting Standards Board (IASB), in his distinctive British accent. Jones was among the distinguished thought leaders, academics and journalists debating the integration of global accounting standards at a recent IASB/ Pace University forum attended by AICPA magazine and e-newsletter staffers.

It didn’t take long for the wide-ranging discussion to leap from theoretical to current events. For instance, is the U.S. credit crisis, which is having a ripple effect on the global financial markets, emblematic of the need to overhaul U.S. accounting?

“We’re in the midst of a downturn precipitated by a credit crisis,” quipped Alan Murray, Executive Editor, The Wall Street Journal Online. “Once again bad accounting is at the forefront. Would you agree?”

“Not necessarily,” said Jones. “We’re talking about all kinds of highly complex financial instruments. They’re hard to value. Many people just don’t understand them fully. I’d say it’s more a behavioral issue than a matter of bad accounting.”

“To many people, it seems like these are just ploys to move things off the balance sheet,” said Murray.

“It’s premature to say the rules have been broken,” said Jones.

“So are we talking about another financial version of Enron?” asked Murray.

“Don’t react too hastily,” cautioned Jones. “As we’ve learned with most market disruptions, a hasty reaction usually turns out to be problematic. Enron was out and out fraud. In this credit crisis, many regulators just didn’t understand it enough. Financial excess always creates problems — in this case, financial engineering.”

Is mark-to-market as a valuation standard exacerbating the problem?

“No valuation system is perfect” said Jones. “As we’ve learned, historical prices are just not that relevant to fair valuation today. People are looking not to change market-to-market; they’re just looking for relief. If you remember the 1980s, it took the Japanese 10 years to recover from their credit crisis. They just didn’t want to acknowledge fair valuation at the time. I’m open to new ideas for change, but I haven’t heard anything really workable so far.”

How about fair value? Is that a good proxy?

“I’m talking about fair value, not for factories, but for complex financial instruments,” said Jones. “Until we come up with a better system, we’re stuck with fair value. How do you value things like insurance when there’s not a ready market for it?”

“Innovation by definition has to have some freedom. When I was at Citibank, we were allowed to experiment [in small programs] until we really understood the pros and cons of new financial products we were considering. In today’s market, the rewards come to those who are in early enough to create the problem, but don’t have to be around for the result. I’m a banker by training. Bankers tend to have short memories. We don’t remember crises that have happened more than a few years back.”

IFRS Backdrop

More than 100 countries require or allow companies to use the IASB’s International Financial Reporting Standards (IFRS) today and the IASB expects that figure to reach 150 countries within five years.

The U.S. Securities and Exchange Commission (SEC) last year issued a concept release to gauge public interest in allowing U.S. companies to use IFRS when getting their financial statements ready for SEC filing. However many cultural and compliance cost hurdles will have to be cleared, not to mention philosophical differences on transparency and principles-based international standards versus rules-based U.S. accounting standards.

“Recognizing the accelerating pace of global acceptance of IFRS, we at the AICPA are working to provide the U.S. accounting profession with the tools CPAs need to learn about, understand and apply IFRS,” said Barry C. Melancon, president and chief executive officer of the American Institute of Certified Public Accountants in a recent news release.

While a 55 percent majority of CPAs said in a May survey by the AICPA that they expect U.S. introduction of IFRS will have a direct impact on their firms and their work, 59 percent said they have not yet begun to prepare for IFRS adoption. Just 17 percent said they were actively preparing and nearly a quarter (24%) said they were having preliminary discussions about how to get ready for IFRS, according to the survey of 1,240 respondents.

Julie A. Erhardt, SEC Deputy Chief Accountant, said the Commission is developing a timetable to move U.S. companies to IFRS, but speaking on behalf of the SEC, couldn’t commit to a firm start date.

Late last year, the SEC gave foreign private issuers the option of filing their financial results using international standards instead of using U.S. GAAP to square up their financial statements. Erhardt said 37 companies already report their results via IFRS, and of those, 35 provided investors with the IASB version of IFRS. Of the 35 who provided results using the IASB version, 29 also presented their results in their local IFRS. Erhardt expects about 70 companies to submit their results using IFRS by the June 30 filing deadline.

Many feel it’s a start in the right direction, but the journey could be long. Better bring a map.

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Hank Berkowitz is the Publisher of AICPA’s Insider™ electronic newsletter group in New York City.