Panelists Tell SEC Roundtable: Fair Value is Neither 'Fair' Nor 'Value'; Standard-Setters Should Move Speculation To Disclosure

At the SEC's November 8 Roundtable on Measurement Uncertainty, the first in a series of roundtables on emerging issues making up SEC's Financial Reporting Series, representatives of the SEC, FASB and PCAOB heard a range of views from investors, preparers, analysts, auditors and others. Among the panelists were the Chair andVice Chair of FEI's Committee on Corporate Reporting, Lorretta Cangialosi and Gary Kabureck (speaking in their personal capacity, not on behalf of FEI).

In this initial post on the SEC's roundtable, I am going to highlights some remarks by Prof. Stephen Penman of Columbia University, who called for the separation of, in essence, more factual information to be provided in the financial statements themselves, with more 'speculative' information provided in the footnotes and disclosures thereto. I'm also going to highlight some remarks by Pinto Suri, Senior Analyst, Flaherty & Crumrine. Both Penman and Suri, in my view (please see the disclaimer posted on the right side of this blog), strike me as the kind of people who would not be afraid to point out if the emperor had no clothes. Witness Suri's observation that: "Fair Value is neither 'fair,' nor 'value.'"

The importance of the SEC's Financial Reporting Series was underscored by the fact that SEC Chairman Mary L. Schapiro and most if not all of the commissioners were present as observers at the roundtable, with the SEC Chairman making brief opening remarks.

The SEC's Chief Accountant, Jim Kroeker, further crystallized the objective of the roundtable after some of the panelists made introductory remarks as follows:

"Getting back to what do investors want and how do they use it... tradeoffs of providing more forward-looking, or results of, analyses of future transactions, seem to hit upon what accountants used to call the tradeoff between relevance and reliability, something may be more reliable if I put it on the books at cost, but is that more relevant? Getting to the heart of those issues would be very helpful for us."

Stephen Penman, of Columbia University, made remarks that were echoed by a number of other panelists:
"I think investors look for certainty in the accounts, and it’s all a question about handling your uncertainty. I think in the fundamental tradition, Benjamin Graham would say, ‘understand what you know, and separate from speculation; and when you accountants do your work, don’t mix speculation with what you know, because I need an anchor in the financial statements to build on, leave the speculation to me.’"
Pinto Suri, Senior Analyst at Flaherty & Crumrine, concurred with Penman and made some significant points:
"Putting on a façade of mathematical precision, whether its probability weighted estimates, or confidence intervals, or anything like that, I am reminded of Lotfi A. Zadeh , the founder of fuzzy logic, the principle of incompatibility: ‘as a system’s complexity increases, meaningful statements lose precision and precise statements lose meaning.’ I think that would be… because as we start putting on all kinds of mathematical constructs on things that are inherently uncertain, you will just open up to more lack of confidence down the road.
"...One of the things we need is truth in lending, fair value is neither fair, nor value; we need to get that on the table, get comfortable with that, the Earth’s not going to shatter. These items should be moved into disclosure, these are traditional add-ons that are useful to assess what management is doing…
"… This concept of OCI has become a dumping ground; as we hear more and more about new proposals coming in, more and more fair value inserted, [with] offset to OCI… OCI going to look more and more like a trash dump, if it doesn’t belong in earnings, it doesn’t belong in OCI, it should go into the footnotes, and it’s very useful as an add-on, to see, here’s what management is doing, are they credible, here’s what the market is doing…"

Read more of what Kroeker, Penman, and Suri said at the SEC roundtable here

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FEI Financial Reporting Blog provides highlights from SEC, PCAOB, FASB, IASB, and other regulatory news, including reporting under Sarbanes-Oxley Sect 404. It is written by Edith Orenstein, Director of Technical Policy Analysis at FEI

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