Accounting Theory paper

14 JULY 2013 / THE CPA JOURNAL

In F o c u s

Updates from FASB and the SEC

Leslie F. Seidman▼

Paul A. Beswick

▼

Standards Setting, Outreach, and Convergence Projects

eslie F. Seidman presided as FASB chair from December 2010 to June 2013 and served two terms as a FASB board member since July 2003. Prior to her appointment as chair, Seidman first served as a FASB industry fellow, later as a project manager, and then as assis-

tant director of research and technical activities. Before joining FASB, she set accounting policies for J. P. Morgan & Co. (now JPMorgan Chase) and worked as a member of Ernst & Young’s audit staff.

Paul A. Beswick is the SEC’s chief accountant. The Office of the Chief Accountant (OCA) is respon-

sible for establishing accounting and auditing policy at the SEC. Beswick oversees the SEC’s work with private-sector accounting organizations, such as FASB; he also serves as an observer to FASB’s Emerging Issues Task Force (EITF). Prior to joining the SEC, Beswick was a partner at Ernst & Young.

On May 2, 2013, Seidman and Beswick presented the opening remarks at Baruch College’s 12th Annual Financial Reporting Conference, discussing recent developments at FASB and the SEC, respectively. The following is an edited transcript of their remarks deliv- ered at the conference.

L

LESLIE F. SEIDMAN FASB Chair

This spring, FASB is celebrating its 40th anniversary, and we are here to stay. FASB was created in response to calls for greater independence and accountability in the development of accounting standards. We’ve had six chairmen over those 40 years, and although each of us has clearly introduced new ideas about processes and priorities, two things have remained con- stant: 1) our commitment to developing standards that benefit investors by provid- ing a clear window into the financial con- dition and performance of the companies in which they are invested or they seek to invest in, and 2) our commitment to a transparent, collaborative process that involves all of our stakeholders and pro- duces standards that meet users’ informa- tional needs at a reasonable cost. My 10- year term ends on June 30, and my suc- cessor and fellow board member Russell

Golden will become the seventh chair- man of FASB.

I’d like to start by giving you an update on how FASB is working to promote con- vergence of global accounting standards. I then want to highlight some developments on the due process front here at home, including how we’re considering costs and benefits, and then I want to mention plans related to FASB’s future technical agenda.

Working with the IASB The past four decades have seen remark-

able development in the improvement and convergence of financial reporting internationally, driven by the demands of our increasingly global capital markets. Since signing the Norwalk Agreement in 2002, FASB and the IASB have complet- ed work on a number of major joint projects, including our impending standard on revenue recognition. Our work togeth- er has both improved financial reporting and brought global reporting standards much closer together, delivering significant benefits to investors and other users of financial statements around the world.

Our methods of working together have evolved over those years. Most recently, as you know, FASB and the IASB have been working intensely as partners on the revenue recognition, leasing, financial instruments, and insurance projects. The completion of these remaining four joint projects over the course of the next year or so will end our formal bilateral rela- tionship with the IASB. It will not, how- ever, end our participation in the develop- ment of improved and converged global standards.

The establishment of the ASAF [Accounting Standards Advisory Forum] ushers in a new, multilateral approach to pursuing the objective of global conver- gence. FASB, along with representatives of 12 other national or regional accounting standards setters, will meet periodically to advise the IASB as it develops IFRS. FASB’s participation on the ASAF is an important opportunity to represent U.S. per- spectives in the IASB’s standards-setting process and to learn from the experiences of other jurisdictions. We plan to support the process by providing research and analysis, staff support, and timely comments on the IASB’s discussions. One of the key projects that this group will discuss with the IASB is the conceptual framework project, including measurement, derecognition, and other comprehensive income. The IASB is planning to issue a discussion paper some- time this summer, and FASB will help solic- it input from U.S. stakeholders.

FASB will retain control over its own technical agenda. Whether we’re consid- ering the conceptual framework or any other project, any proposed changes to U.S. GAAP will go through FASB’s delibera- tive and public due process procedures. On topics of mutual interest, our goal will be to contribute to and leverage the work of the IASB in order to maximize the changes for a converged outcome.

At least for now, FASB will continue to decide what changes are made to U.S. GAAP following our normal due process procedures. In the absence of any decision from the SEC, I want to emphasize that FASB remains com- mitted to our longstanding and long-term objective of improving U.S. GAAP and promoting greater convergence in financial accounting standards. Ideally, the world’s standards setters can work together, so that eventually the differences in standards across nations will become so insignificant that the standards have, in effect, become a single set of accounting standards.

JULY 2013 / THE CPA JOURNAL 15

15FASB/SEC

▼

FASB remains committed to our longstanding and long-term

objective of improving U.S. GAAP.

16 JULY 2013 / THE CPA JOURNAL

FASB’s Standards-Setting Process Accounting standards are essential to

the efficient functioning of the econo- my because decisions of how resources are allocated depend upon credible, con- cise, and understandable financial infor- mation. A body of academic research demonstrates the link between the deci- sion-usefulness of financial information and the cost and availability of capital— that is, higher quality financial report- ing reduces investor uncertainty, which has a beneficial effect on the cost of capital, bid-ask spreads, market liq- uidity, and so forth. For that reason, our starting point in developing an account- ing standard is understanding and evaluating the investor’s perspective. How can we make financial reports more decision-useful for them?

Doing a better job at gathering infor- mation from investors—the benefit side of the equation—is one of the most sig- nificant improvements to the process that we’ve made in recent years. But financial information comes at a cost— the cost of preparing and using that information. So when FASB says it won’t issue a standard unless the ben- efits justify the cost, it means that we aim to issue standards only if the expected improvements in the quality of reporting will justify the cost of preparing and using the information. Until investors have experienced using that information, our understanding of the benefits is based upon what they tell us they need, and how they plan to use it. Likewise, until a company has adopted a new standard, our under- standing of the cost is based upon their imprecise estimates, even in a well- constructed and broad-based field test.

The process that I’ve just described to identify the most faithful way to produce the information includes an implicit statement: we do not try to con- trol how others will interpret or act on the information. We also do not attempt to quantify a specific economic effect on a particular company or a particular industry. For example, if we were to issue a standard that changes a mea-

sure of leverage, the cost of capital for entities with higher leverage could rise, whereas the cost of capital for other enti- ties with less leverage could decline. We don’t try to influence the outcome of that reallocation or repricing of capital.

Our goal is to provide neutral infor- mation; however, it is observable that when market participants perceive an improvement in the credibility of the information they’re receiving, the efficiency of the market improves, and investors are better able to price stocks and other capital investments.

Expanded Outreach Efforts The entire FASB standards-setting

process is a means of gathering infor- mation and carefully analyzing the expected benefits and costs of pro- posed changes. We regularly review and modify our procedures to enhance the quality of that analysis. For exam- ple, we’ve expanded and will con- tinue to expand our outreach efforts to financial statement users, particu- larly in the early, preagenda evalua- tion of whether to add a project to make sure that we’ve properly iden- tified the problem or the potential improvement in reporting. We’ve also been using our XBRL [Extensible Business Reporting Language] team to conduct research on our projects and to identify current reporting pro- cesses, as well as part of our post- implementation review process.

We’ve also expanded our out- reach to the preparer community by hosting industry workshops and other forums at which preparers provide focused input on the cost and work- ability of our proposals. Our exten- sive work on the revenue recogni- tion proposal, which also included investors, is an example of this proac- tive approach. In addition, we’re developing a transition resource group on the revenue recognition project and on any other major changes in accounting in order to provide a trans- parent way for questions about imple- mentation to surface and be resolved.

In recent years, the Financial Accounting Foundation [FAF] has also implemented a postimplementation review process that takes an indepen- dent look at the effectiveness of the standards after they’ve been in effect for several years. These postimple- mentation reviews provide us with use- ful information about the benefits and costs of financial reporting in light of actual experience in both preparing the information and in using it.

Our staff is now analyzing how we might address these findings. The evaluation of whether a proposed accounting change produces more useful information to investors at a reasonable cost is necessarily subjec- tive; however, we are committed to using methods that proactively and broadly engage users, preparers, audi- tors, and regulators so that board members can make informed deci- sions, and in responding to that feedback, board members can identi- fy areas for further improvement and change. The process should work as a continuous feedback loop, so that we are improving reporting on a time- ly and efficient basis.

FASB’s Upcoming Agenda The last topic that I’d like to men-

tion is FASB’s futiure agenda. Several of our major projects will conclude over the next year or so. We asked our Financial Accounting Standards Advisory Council (FASAC) to gather information from stakeholders about potential agenda items for FASB in the near future. We’re going to be asking about the importance and relative pri- ority of projects that we have put on the backburner in order to make room for higher priorities, such as distinguishing between liabilities and equity and improving financial state- ment presentation; items that have been in the news recently, including accounting for pensions and account- ing for income taxes; convergence items; and any other topics that stake- holders would like to raise.

In F o c u s

JULY 2013 / THE CPA JOURNAL 17

PAUL A. BESWICK SEC Chief Accountant

With my time today, I’d like to cover a few broad topics. First, I’d like to give everyone an overview of the OCA, spend some time talking about consultations that we’ve been dealing with, give you an insight into what my priorities are, and talk about IFRS. I also want to discuss account- ing standards and the global financial reporting environment.

Overview of OCA and Its Current Priorities

The past six months at the commission have seen a lot of change. The former chief accountant has left; we now have a new chairman—Mary Jo White—and she’s very quickly prioritizing her issues and get- ting stuff done. But in the past six to nine months in the OCA, we’ve really been sticking to our core competencies, like con- sultations, overseeing the standards setters (FASB and the IASB), and overseeing the PCAOB. The office is set up such that there is a chief accountant who is, by title, listed as the principal advisor on all accounting, auditing, and independence matters. There are three groups within the

OCA: an accounting group; a profession- al practice group, which is responsible for overseeing the audit and independence functions; and an international group. The importance of the international group is that the SEC plays a very active and involved role in the International Organization of Securities Commissions (IOSCO). We also have a chief legal counsel.

Another aspect is rulemaking. Although we don’t take the lead on many rulemak- ings, we are very active in a number of them. It always seems that no matter what the SEC picks up, there’s some inter- action with either accounting and auditing independence. So we work very closely with our other offices and divisions.

In terms of our priorities, we’re spend- ing a lot of time working on the conver- gence projects. FASB and its staff are pro- ducing several exposure drafts right now, and we’re spending a lot of time reviewing them and providing our comments. We have a group of about 12 people who work on overseeing the PCAOB; they also have a very active agenda in terms of standards set- ting. We’re also focusing on IFRS outreach.

Consultations We spend a lot of time helping regis-

trants get the accounting right from the beginning. There are two ways consulta- tions come in. One is on a prefiling basis, where a registrant is about to enter into a transaction or has entered into a transac- tion and has questions, or just wants to get confirmation on whether it got the accounting right. There’s a process that companies can follow; the procedures are on the SEC website—basically, they write in and they discuss with the staff whether they got the accounting right. Consultations also come in on a postfil- ing basis. It’s better to come in on a pre- filing basis than a postfiling basis, but we

do get postfiling consultations, through the Division of Corporation Finance, the Division of Enforcement, or from the PCAOB as it performs the inspections of accounting firms. Sometimes, PCAOB staff will run across accounting that they might not think complies with GAAP, and one of the things they do is consult with us. We also get consultations on a post- filing basis from registrants. About 45% of our consultations come in from regis- trants; about 40% come in from within the SEC; and the last 15% or so come from other places, like banking regulators, the PCAOB, and the AICPA.

In terms of the nature of the consultations, they haven’t been changing much year over year, but if you look at the top four, you have revenue recognition (which is primar- ily principal-agent consideration and multi- ple-element arrangements). You’ve got financial instruments, troubled debt restructurings, allowance for loan losses. You’ve got business combinations and push- down accounting—which I’m thankful is on the EITF agenda and hopeful that it can provide some guidance to decrease the num- ber of questions we receive on push-down accounting. And then you have consolida- tion and variable-interest entities.

This is our thought process regarding consultations: we try to make a determi- nation about whether a company’s view is reasonable in light of existing account- ing guidance. We do have a very rigorous process, and we have certain triggers that require consultations up the scale—all the way up to the chief accountant. But ulti- mately, what we’re trying to do is make a determination about whether we object to a company’s accounting.

Getting a little more granular in terms of the process: when a consultation comes in, we assign a team to it, usually three to four people who have expertise in the area. We then focus on understanding the transac- tion and obtaining the relevant facts. We try to understand the basis for the company’s accounting position. We identify the appropriate literature, determine whether we’ve answered the question before, eval- uate the company’s basis and whether there’s a reasonable application of the

FASB/SEC 17

Are we improving the decision- usefulness of information to investors? Can the standards

be implemented?

▼

18 JULY 2013 / THE CPA JOURNAL

accounting literature, discuss the dif- ficult judgments with the registrant, and ultimately conclude whether we object. That’s generally the process we try to follow.

We honestly don’t try to substi- tute our judgment for the judgment of the company and its auditors. We’re really trying to determine whether the accounting is outside the bounds of what is acceptable. Unfortunately, in those situations where we do object, people have tended to say that we substituted our own judgment, but that’s not really the goal. We don’t try to push preferred views; if there are multiple views that are acceptable under the literature, we really try to support that. We use this whole pro- cess of consultations as input into FASB’s standards setting; as input for our own efforts; and, in some cases, as input for the enforcement division.

Standards Setting and Convergence

I often get asked what our role is in relation to FASB’s standards setting. The approach that I take, and I know some of my predecessors have taken this approach, is that we really don’t try to substitute our judgment for what FASB is doing or what the IASB might be doing. We look at our role in terms of answering some key ques- tions: Are we improving the decision- usefulness of information to investors? Can the standards be implemented? Are the objectives sufficiently clear? We look to FASB as the experts and accounting standards setter; its staff has done a lot of work and a lot of out- reach. We really try to just focus on making sure that the standard is improving financial reporting. I think FASB should get a lot of credit because they’ve really increased both the qual- ity and the quantity of outreach to investors over the past couple of years.

I would be remiss if I didn’t talk about IFRS. We frequently get asked what the next steps are. As I said, we’ve got a new chair and she’s work-

ing through her priorities. I wouldn’t read into anything, in terms of whether IFRS isn’t or is a priority. I think there are just some things that need to get addressed first—money market fund reform, cross-border filing, those sorts of things.

In 2010, the commission issued a statement in support of convergence in global accounting standards and directed the staff to develop and exe- cute on a work plan. The staff finished that work plan on July 13, 2012. As we looked around the global market, we learned that almost every jurisdiction has some sort of mechanism to ensure suitability, and I don’t think that should be lost on anybody. At times people came in and said, are you trying to get rid of FASB? In my view, FASB is integral to any decision that the com- mission makes. And one of the things we heard from people is that FASB does a wonderful job and that we need to keep it heavily involved. That’s not to say that there wouldn’t be benefits from taking the next step, and the ques- tion is: what is the next step, and how big a step are we going to take? That’s something that the staff is continuing to study; we’re continuing to do outreach to preparers and auditors to continue to explore these issues.

Why does this matter? Why does moving to a single set of global accounting standards matter? When I look back to my experience at the commission, as compared to when I started there four-and-a-half years ago, things are getting more global. It’s not just accounting. The com- mission is working on over-the- counter derivatives, and they’re work- ing hard to try to resolve the issue on a global basis. That’s not to say that we’re going to give up our sovereignty and regulate over-the- counter derivatives, and rely on some- body else to do that regulation. But one of the things that the financial cri- sis taught us is that there is intercon- nectivity, probably a lot more than we might have realized.

The other reason why IFRS mat- ters and why a single set of stan- dards matters is that IFRS is already in the U.S. capital markets. IFRS in the U.S. capital markets is probably a lot bigger than people realize. Since the commission lifted the reconcilia- tion for foreign private issuers, we’re now up to more than 450 for- eign private issuers who are using IFRS without reconciliation. The mar- ket cap is in the trillions of dollars for those foreign private issuers, which is bigger than a lot of jurisdictions that claim to be on IFRS. There are U.S. investors who are trading and mak- ing investment decisions using IFRS- based standards. From my perspec- tive, it’s important that we stay involved. I think Leslie’s given you some wonderful examples of what FASB’s doing through its participa- tion in the ASAF. We were very sup- portive, and we think their participa- tion can improve that product. Once again, I don’t think their participation lessens their role in the U.S. capital markets. I think FASB’s role in the U.S. capital markets will always be important.

There are other things we’re doing as well. The chair of the SEC is on the monitoring board, which provides the governance oversight to the IASB. The IASB is including the United States in many more working groups. For example, it has a working group that’s trying to do what they call “effect anal- ysis.” They’re trying to determine how they should think about costs and ben- efits, and I’ll be participating in that, along with some representatives from FASB. Things are becoming more interconnected, and that’s why this matters. People are making investment decisions based upon IFRS, so it’s important that we focus on IFRS and try to make it the best-quality product that we can.

Questions from the Audience Audience Member: At each con-

ference, the SEC representative says

In F o c u s

JULY 2013 / THE CPA JOURNAL 19

that they’re studyin g the is s ues . Conceptually, this works, but you’ve got to take a stand.

Beswick: One of the things that we’ve learned is that, right now, there is a lot of change fatigue in the system. FASB is set- ting standards on some of the most funda- mental projects that exist in financial report- ing. A typical refrain we hear from pre- parers is that all they can handle right now is what FASB’s already putting out. So to layer on top of that another series of changes could be somewhat problematic.

What I’m trying to do is think about the ways that we can have a softer transi- tion over time. In some ways, that will frus- trate preparers because they’ll feel like they’re facing perpetual change, and that’s one of the challenges we face. But I think there is real risk to the system if you use a “big bang” approach.

We’re also seeing that in other jurisdic- tions, like Japan and India, which are having the same realizations in terms of change management. That’s one of the rea- sons why we’re studying it. We are light- years ahead of where we were five years ago, in terms of the level of information that we have on this. It might have slowed down the process, but it’s going to make any decision that’s made a better decision. We’re a lot better informed today, and by using that information, we can make better decisions.

Audience Member: My question relates to the revenue recognition, as it relates to IFRS adoption. One of the larger debat- ing points when we were talking about IFRS adoption was the importance of the regulation system around revenue recog- nition in terms of SEC enforcement. But now that we’re evidently going to have a joint project on revenue recognition, and we’re going to have some experience in the application of that guidance, do you see that particular impediment lessening as an objection to IFRS?

Beswick: I don’t want to say we’re exper- imenting with the capital markets—but this is going to be an interesting test from a reg- ulatory perspective. It’s good that FASB and the IASB can get to a converged standard, and I think they deserve a lot of credit for

getting to that. We then have to look not only to FASB and the IASB, but to the securi- ties regulators and the accounting firms to make sure that application and enforcement is relatively consistent. You’re never going to have perfect consistency; you don’t even have that in U.S. GAAP. But the range of consistency, at least what we’ve seen in U.S. GAAP, is fairly narrow, and I think people are interested in making sure that remains the case on a global basis.

One of the things we’re doing is increas- ing our interactions with our counterparts across the globe. There’s an organization called ESMA—the European Securities Market Authority. They oversee securities regulators throughout the European Union. We’re increasing our interactions with them. We’re having greater dialogue with people in Asia. Really, it’s to share views and highlight places where the divergence might become too great. To the extent that we see that, we then need to go inform the standards setters. We’re already seeing that, in standards that have converged. Things are getting sent to the International Financial Reporting Interpretations Committee [IFRIC], for instance, on issues where there was convergence and we iden- tified some different practices.

To your point, that’s a really good test case to make sure that these standards can stay converged. That’s one of the things that preparers and investors want to see. I think FASB coming up with this resource implementation group is a wonderful step; it demonstrates great leadership by FASB and the United States on a global basis.

Seidman: I was going to mention the plan to develop this implementation group, and our view is that the IASB should be partic- ipating with us on it. One of the sugges- tions is that we might include somebody from IOSCO, an international securities reg- ulatory group, which will provide a natural mechanism for diversity in interpretation to surface early in the process, so that we can resolve those matters before widespread application. We’re taking the steps we think are necessary to have a transparent, thorough discussion of the standard.

As you know, we’ve allowed for a significant amount of lead time to adopt

the revenue recognition standard, but we really want to make this transition as smooth as possible for everybody on not only the preparer side—because we know for some industries it’s going to be a cost- ly effort to systematize this—but also, importantly, on the investor side. We want to try to avoid having a hiccup in the transition to revenue recognition if at all possible.

Audience Member: In your personal opinions, did the rule that allowed foreign- based corporations to issue financial statements here without reconciliation to GAAP further your core mission of financial statements being more readily understandable by the investment public?

Beswick: In 2008, when the commission took action, it was to remove the recon- ciliation. Companies always could have used IFRS, so I don’t know if the infor- mation loss was in the reconciliation. On a global basis, it sent a good message about not having carve-outs and trying to pro- mote high-quality financial reporting. We’ve learned a lot through that process. We issue comment letters on FDIs [foreign direct investments] that are filing under IFRS. The marketplace is learning from our experiences, in terms of our under- standing of IFRS.

When I look back to four-and-a-half years ago, our understanding of IFRS has increased significantly. What would be interesting would be to do some sort of postimplementation review or to go back and look at investors and how they’ve reacted to the loss of incremental infor- mation that is the reconciliation. That’s something we haven’t done, but that might be an interesting exercise.

Seidman: The exercise would probably give you a different result today than it would back then, because we’ve continued to nar- row the differences between U.S. GAAP and IFRS. I do think it has furthered our core mission, with regard to our commitment to converge these standards. The fact that there are more than 400 foreign private issuers fil- ing in the U.S. capital markets with a dif- ferent set of accounting standards provides the impetus for us to continue to narrow the differences. q

FASB/SEC 19

Reproduced with permission of the copyright owner. Further reproduction prohibited without permission.