FASB's Anniversary Present to CIFiR
Close to one year ago, (actually Aug. 1, 2008), SEC's Advisory Committee on Improvements to Financial Reporting (CIFiR), chaired by Robert Pozen, issued its final report. On Aug. 7, the Financial Accounting Standards Board (FASB) and its parent organization, the Financial Accounting Foundation (FAF) announced:
"In acknowledgement of the one-year anniversary of the August 1, 2008 report of the Securities and Exchange Commission’s Advisory Committee on Improvements to Financial Reporting (CIFiR Committee), the FAF and FASB have published a response to that report. The response explains the actions we have taken (or plan to take) with respect to each CIFiR Committee recommendation aimed at improving accounting standard setting."
Some of the language in the FAF/FASB response to CIFiR closely mirrors the recent report issued by the FASB-IASB Financial Crisis Advisory Group (FCAG), and numerous speeches by FASB Chairman Bob Herz (e.g. at the National Press Club earlier this summer). For example, the FAF/FASB response to CIFiR states:
While accounting did not cause the crisis and accounting will not end it, it did reveal a number of areas requiring improvement in standards and overall transparency.
Over the past 18 months, the FASB has responded vigorously with a number of new standards and enhanced disclosure requirements relating to securitizations and special-purpose entities, credit default swaps and derivatives, financial guarantee insurance, and fair value measurements and credit exposures. The International Accounting Standards Board (IASB) has similarly been working vigorously to improve international financial reporting standards (IFRS). Responding to the calls for timely improvement within their respective jurisdictions while also advancing convergence has proved challenging for both the FASB and IASB.
The current financial crisis, in addition to highlighting the need for enhanced communication throughout the financial system, also revealed a need for improved infrastructure and transparency around markets for complex structured securities and certain derivatives. It is notable that during the past year, many companies and other market participants found it difficult to obtain some of the important information needed to measure the fair value of certain complex financial instruments partly due to limited market infrastructure for such instruments.
In the report issued today, FASB lists its accomplishments vis-a-vis CIFiR's recommendations, as detailed further below. However, FASB also notes some limitations on its ability to single-handedly reduce complexity in financial reporting, including the need - as recommended by CIFiR - for the SEC and PCAOB to consider developing a professional judgment framework, and the need for a general consideration of the legal environment.
Professional Judgment Framework Should Be Considered by SEC, PCAOB
CIFiR had recommended various ways to reduce complexity in financial reporting, including direct actions by FASB and others. Among its recommendations, CIFiR recommended that SEC and PCAOB consider potentially issuing a professional judgment framework. Some believe such a framework would assist in the move to a more principles-based framework, such as (but not limited to) that of the IASB (although, all things are relative, and some take issue with trying to describe particular frameworks as all principles based or all rules based, as they may contain elements of each, and some believe that IFRS - which is a relatively younger framework than U.S. GAAP, may become increasingly rules-based if there is a demand for more implementation guidance.).
The FAF/FASB response to CIFiR issued on Aug. 7 states:
"The Board acknowledges that a high volume of authoritative implementation guidance contributes to the complexity of U.S. GAAP. The Board supports the idea of issuing implementation guidance in the early years only in emergency situations and evaluating as part of a post-implementation evaluation whether additional guidance is needed to reduce application diversity or otherwise improve reporting."
"The [FASB] Board believes that implementation of that approach would be greatly facilitated were the SEC and the PCAOB to act on the Committee’s recommendation that they develop policy statements articulating how they evaluate the reasonableness of accounting and auditing judgments (a judgment framework). That is because based on our recent experience with implementation of the more principles-based standard on fair value measurement, we do not perceive any significant change in the demand for detailed implementation guidance....
"...Although the [FASB] Board is committed to eliminating or reducing the use of bright lines and exceptions, we do not perceive any significant change in the demand for such guidance, suggesting a possible need for further changes to the institutional, legal, and cultural factors driving that demand."
NOTE - my two cents: Crafting, applying, auditing, inspecting to, and enforcing a 'professional judgment framework' may not be as easy as it sounds. See, e.g. our Feb. 28, 2008 blog post (you'll have to scroll down, we currently have all Feb. 2008 posts on one page) on "SAG Members Warn CIFIR Professional Judgment Framework Could Become Litigation Trap." See also attorney Michael Young's early comments on this issue (Young is co-chair of Willkie Farr & Gallagher's Litigation Department and of its Securities Litigation & Enforcement Practice Group), in question 4 of this April 4, 2008 FEI Q&A With Michael Young.
The FAF/FASB response to CIFiR issued today lists FASB's accomplishments as relate to CIFiR's recommendations. Below are a few highlights.
Investor Input: Although FASB had several investor advisory committees already in place which predate CIFiR's recommendations, FASB has taken additional steps in response to CIFiR to enhance investor participation in the standard setting process. FASB lists these steps in great detail, and adds: "The FASB and the FAF agree that investors are the primary consumers of financial reports. It is critically important that the Board understand investors’ perspectives and give them appropriate weight in developing accounting standards."
Field Testing the Cost-Benefit Equation: FASB notes: The Board agrees that field work is one of several important ways of gathering input about the potential benefits and expected costs of proposed standards. Over the past year, the Board tried several new approaches to field testing its proposals with investors. The Board had to modify a potentially promising approach in response to a number of practical challenges." FASB adds: "[T]he Board plans to consider in the near future how it might enhance other aspects of its field work to make it more consistent and transparent."
Process for post-adoption reviews of standards coming in 2009, may coordinate with IASB: FASB states "We agree that the Committee’s [CIFiR's] suggestions for formalizing the post-adoption reviews of new standards have the potential to reduce the complexity of U.S. financial reporting. We are working to develop and implement a post-implementation review process by the end of 2009."
Disclosure Framework Project - Examining SEC and FASB Dislosures - Discussion Doc for Public Comment Expected 1st Half 2010: FASB states that its Disclosure Framework project (announced in July), will "develop a principles-based framework that would strengthen disclosure quality, rationalize U.S. GAAP and SEC requirements, and improve the consistency and organization of existing and future financial statement disclosures to make them more meaningful for investors." FASB notes that "The Committee’s [CIFiR's] final report contains many thoughtful recommendations about the elements of an effective disclosure framework, and the Board [FASB] will carefully consider them as it develops a proposal. The FASB plans to seek comment on a proposed framework by issuing a Discussion Paper in the first half of 2010."
FASB Governance: CIFiR had recommended that: "The SEC should continue to recommend that the FAF enhance governance of the FASB, as follows: (1) Recommend that the FAF amend the FASB’s mission statement, stated objectives, and precepts to emphasize that an additional goal should be to minimize avoidable complexity, and (2) Recommend that the FAF develop performance metrics to ensure that key aspects of the standards-setting process are effective, efficient, and compliant with the goals in the FASB’s mission statement, objectives, and precepts."
FASB notes it expects to complete the process of updating its Rules of Procedures in "upcoming months," and as part of that update, "will consider whether and how to amend its mission statement, objectives, and precepts." Additionally, FASB notes that the FAF Trustees established an Oversight Committee in Aug. 2008.
FASB Codification vs. Non-authoritative guidance: CIFiR had recommended: "In order to fully realize the benefits of the FASB’s codification efforts, the SEC should ensure that the literature it deems to be authoritative is integrated into the FASB Codification by following, to the maximum extent practicable, a format consistent with the one used by the FASB. All other sources of interpretive implementation guidance should be considered non-authoritative and should not be required to be given more credence than any other non-authoritative sources that are evaluated using reasonable judgments made in good faith that are supportable under U.S. GAAP. "
FASB notes that its Codification - now the single source of U.S. GAAP - was launched on on July 1, 2009, with an effective date of interim and annual periods ending after September 15, 2009. The final numbered "Statement of Financial Accounting Standards" or SFAS, FAS issued under the old (pre-codification) system, FAS 168, "makes clear that all other accounting literature not included in the Codification is nonauthoritative."
NOTE - my two cents: In my view, now that the Codification is out, and in light of the CIFiR rec noted above, it will be interesting to see what evolves going forward, in upcoming speeches of SEC staff, in terms of what was previously informally referred to as "speech GAAP" or guidance communicated by the SEC staff in the form of speeches, e.g. at the annual AICPA Conference in December each year on current SEC and PCAOB Developments.
Restatements: FASB notes that CIFiR recommended that "[T]he FASB or the SEC consider the potential benefits that would result from providing or improving guidance with respect to materiality and the accounting and reporting of error corrections." FASB adds: "Representatives of the FASB and the SEC’s Office of the Chief Accountant carefully evaluated each of those recommendations and concluded that they related to SEC reporting requirements. Accordingly, the FASB has no plans to act on those recommendations at this time."
XBRL: In August, FASB completed a project with XBRL-US to embed the new FASB Codification references into the XBRL taxonomy and display all XBRL elements within the Codification. FASB states this project will produce three main benefits: (1) Financial statement preparers, auditors, and other taxonomy users will be able to electronically link from an element to the relevant content in the Codification to ascertain the appropriateness of using an element. (2) When software vendors integrate the electronic links into analysis tools, financial statement users will be able to link to the associated content in the Codification. (3) The Codification will display all XBRL elements linked to a Subtopic and a paragraph this will enable financial statement preparers, auditors, and others to electronically link the XBRL taxonomy to the relevant portions of the Codification.
Additional highlights from the FAF/FASB response to CIFiR can be found in this FEI Summary, which can be viewed by FEI members only. Consider joining FEI for our many membership benefits, including reduced charge to attend conferences like our Oct. 21 Private Co Forum in Chicago, or our Nov. 16-17 Current Financial Reporting Issues Conference (CFRI) in NYC!