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Last week, two individuals with corporate backgrounds were named to the IASB. According to a news release, the new members are Dr. Elke König, a former member of the executive board and CFO of the reinsurance company Hannover Re Group in Germany, and Darrel Scott, CFO of the FirstRand Banking Group of South Africa.

Historically, investors have infrequently secured representation on the IASB and its predecessor organizations. Typically, IASB members have a large audit firm background, but a large minority of members have corporate accounting backgrounds. Of the current 15 member group, only two or three members can be said to have primarily an investment background.  It is most definitely true that the numbers are stacked against investors!

This is a significant event, with serious ramifications. Although accounting standard setters claim that they are after “the best” accounting rules, in practice no such thing is possible. The reason being that accounting rules have economic consequences. The major competing interests–corporations against investors–have decidedly different information needs. Corporations prefer flexible accounting rules so that similar transactions can be accounted for differently by companies or even by a single company. Investors prefer more rigid accounting rules so that transactions are accounted for in a uniform manner.

Corporations and auditors claim that flexible accounting will provide more informative disclosures. Investors are skeptical, referring to the many incentives in place to cause corporate executives to provide falsified financial reports, and incentives in place to prevent audit firms from forcing proper accounting.

Investors in the United States should be made aware of the difference in focus between accounting rules under FASB and IASB. In the United States, the purpose of financial accounting is widely viewed as providing information to investors so they can make the best investment decisions. In contrast, the purpose of financial accounting under the IASB is to help companies raise capital. In practice, accounting rules can differ markedly under the two emphases.

Despite the regulated state of the American capital markets system, accounting scandals are fairly common in the United States.  It is widely thought that investors stand little chance of receiving unbiased information under IFRS.

Debit and credit – – David Albrecht

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Occasionally, I’ve been sending e-mails over to AECM about rising European discontent with respect to IFRS.  I’ve been regularly poo-pooed as a result.  After all, I’m an anti-IFRS guy and am thought to be creating rumors of imaginary IFRS difficulties in an attempt to delay American adoption of IFRS.  But I simply read a lot (especially European publications Accountancy Age and Financial Times).  There have several stories quoting EU and member-state politician concerns over the IASB’s IFRS.

WSJWell, the bad news has jumped the pond, to be reported in the venerable Wall Street Journal.  I refer specifically to three stories by Simon Nixon in the Heard on the Street column:

Similar stories appear in European newspapers.  If accurately reporting reality, it all leads one to conclude that there is a reasonable possibility that the EU will back away from IFRS to either (1) modified IFRS, or (2) unique European GAAP.  If either were to happen, wouldn’t it have an impact on IFRS consideration in the U.S.? I would hope so.

In Paris Mounts the Barricades, Nixon concludes, “French minister Christine Lagarde plans to lobby other G-20 finance ministers meeting in Scotland on Friday (Nov. 6?) to accept greater political control of the standard-setting process.”  Later in the article, Nixon says:

Paris’s real objection is to the IASB itself, which it believes is too focused on investor interests and not sufficiently accountable to politicians. Never mind that the G-20 in Pittsburgh specifically endorsed the independence of standard-setters. Never mind the G-20 also endorsed efforts by the IASB to improve its accountability by establishing a monitoring board and consulting more widely with stakeholders such as regulators. Ms. Lagarde’s objective is a greater role for national governments.

Consistent with Shyam Sunder’s brilliant analysis, such an objective is rational, natural and to be expected.

Nixon concludes with, “Instead of tighter convergence on accounting, that would lead to fragmentation, which is in nobody’s interest.”  Mr. Nixon, you are wrong. It  is in France’s national interest to manage its own economy and be responsive to its own citizens.  You see, having accounting standards that promote national interests is important to every country in the world.

In New Proposals … Meet Resistance, Nixon describes new a new IASB standard on financial instrument valuation as an improvement, but only partly effective.  He says,

But before further progress can be made, the IASB must overcome a bigger obstacle:  French resistance to the current watered-down standard. …  Demands for political control of standard-setting appear to be gathering support in Europe.

He concludes with:

“This is worrying.  Standard-setting must be independent if it is to command investor confidence.  Global convergence is too important a goal to let slip.”

Mr. Simon, I wish you knew something about accounting and international finance.  It has been shown, time and time again, that global convergence of accounting standards leads to a grossly sub-optimal economic result.  You see, capital markets are mostly local or national.  Let’s say that an American company with $100 million in sales were to float its IPO.  Its costs to raise capital are much less if it only markets its securities to American investors.  Marketing its stock to European investors would incur prohibitively huge transaction costs and be exposed to currency fluctuation losses.  Moreover, international investors would largely be reluctant to participate in the offering, fearing that any potential investment returns would be wiped out by foreign currency fluctuations.

Finally, in EU’s Go-Alone Approach, you report (or more accurately, your analysis leads you to conclude):

The decision to appoint a low-key Belgian as president, the European Union’s newly created top job, and an obscure unelected British official as foreign-policy chief is a blow for the 27-member bloc’s global ambitions. … France and Germany now look free to decide Europe’s two top economic jobs, which become vacant in January.  The European commissioners for competition and the single market have real power to shape Europe’s economic destiny.  …

If French and German nominees end up holding these economic posts, investors should brace for a shift in EU policy. Important dossiers await the new commissioners, including financial-system overhaul, sensitive state-aid decisions on banks and auto makers, and a revamp of bank-accounting rules. France, for example, wants greater political control of accounting standards, threatening to undermine the Group of 20 industrial and developing nations’ goal of convergence.

European developments should have us all jumping for joy.

Many European observers agree with you.  This gives me reason to jump for joy, and it should for you too.

All of this isn’t too surprising.  Why?  Ten months ago the European Union offered to completely fund all future IASB operations.  As discussed in E.U. Bids to Buy IASB, this was attempted because the E.U. (and your respected Charlie McGreevy) desired to own the IASB, lock stock and barrel.  After being rebuffed, it isn’t surprising for me to hear that the E.U. wants to go it alone.  I’ve been predicting it.

Mr. Nixon, your stories are too biased, promoting one side of a very controversial issue.  Unless placed on the editorial page, readers expect stories to have more meat and less opinion.  Please tone it down.

Debit and credit –  – David Albrecht

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[Postscript:  a well placed observer has questioned the wisdom of my claiming that certain SEC commissioners are ignorant.  Upon glancing through transcripts of the commissioners’ remarks (released after the publication of this essay), I can understand now how “ignorant” was a poor choice of wording, and I apologize to the Commissioners for that word usage.  At the time I wrote the essay, I was grasping for some reason why certain commissioners continue to spout sophistry (false reasoning).   I chalked it up to ignorance.  I now realize that I might never know the reason for the sophistry, as the SEC principals refuse to discuss the assumptions and conceptual foundations of their sophistry.   Never-the-less, sophistry it is, and that’s what I was reacting to.  Were I to write the article today, I would title it either:  SEC Sophistry To Lead to Folly, or, SEC Errant Views To Lead to Folly.  Profalbrecht, 11/27/09]


Yesterday, a third Commissioner of the Securities and Exchange Commission spoke out, (1) decrying the politicization of the accounting standard setting process, and (2) advocating the need for a single set of global accounting standards.  By so speaking she aired her ignorance for all to see. [Sentence removed 11/27/09]

 

As reported in a Reuters update, “SEC’s Casey: Accounting Convergence Must Continue,” Kathleen Casey “warned against the over politicization of accounting rules, or attempts to pressure accounting rule makers to write rules that would favor a specific goal sought by a particular industry.”  Earlier this week, another SEC Commissioner, Elisse Walter, said the same thing.  SEC chair Mary Schapiro has been saying it since her confirmation hearings   Not to be left in the cold, FASB Chair Robert Herz chimed in with a similar sentiment.  Of course, they all chant the mantra of global accounting standards.

They are wrong.  I hope everyone in the world knows it. [Sentence deleted 11/27/09]

Here’s why they are wrong.

There is no such thing as universal accounting truth. Accounting rules spring from the reason of human beings.  The rules and principles that guide today’s capital markets are recent inventions.  The most cherished accounting axiom–assets equal liabilities plus owners equity–has been around less than six hundred years.  Before that there was simply no need for it, therefore it wasn’t yet invented.  Here’s a news flash:  that accounting axiom is obsolete and no longer works in today’s world (we’ve piled so much on it, it no longer balances).

Accounting rules that govern the formation of corporate financial statements all have economic consequences.  It has always been this way.  Every rule puts some interest group at an advantage over another.  From the start, investors have clamored for more disclosure than the executives running corporations have wanted to supply.  This tension is natural.  There is no right or wrong in an absolute accounting sense, God has no such commandment.

It is any (or every) government’s domain is to adjudicate between competing economic interests.  That is what government does.  For example, governments are good at levying and collecting taxes.  This has been going on since the beginning of human history.  And what is tax but one group being forced to transfer it’s money to another group.

How does a government decide between competing interests?  By politics.

It is foolish for anyone to abdicate his/her right to seek a political solution to any political, economic, social or military issue.   Why would anyone want to do that?  It is tantamount to denying the person’s free will, “No, I’m too stupid to decide for myself, you do it for me.  Really, I insist.”

We have not always realized the political nature of standard setting in the U.S.  However, since the formation of the FASB every potential accounting standard has had to go through a political process:  discussion memorandum, then exposure draft.  And the SEC always  has the ability to override (which it has upon occasion).

Why then, are these people decrying the current politicization of accounting standards? It is because they don’t want to get trumped by someone else’s politics.

They are using a time-tested tactic:  state a fallacy long enough and long enough and pretty soon it is accepted as verdad!

Please realize that no SEC commissioner has taken advanced education in accounting.  Nor has the chief accountant.  Nor has the current chair of the FASB. [Sentence removed 11/27] I put forth the notion that possibly, just possibly, they have missed out on something that the rest of us have known for a long time.  It is the way of human beings that accounting standard setting is a political process.

If you can buy into that, then here’s the rest of the truth.  Political factors, and the governmental processes that adjudicate between them, are not the same all over the world.  They are different in parts of Europe and Asia than they are in the U.S.  As a result, the League of Nations could not function as envisioned, neither could the United Nations.

Similar political processes affect accounting standard setting.  Surprise!  How reasonable is it to think that global accounting standard setters are going to be responsive to economic interests in your part of the world?  France is already discovering that the IASB’s IFRS are not responsive to certain French economic interests.  So France is balking.  As it should.  Ceding control of French economic interests over to the IASB was a stupid thing to do.  It was incredibly stupid.  And so it will be if the U.S. does likewise.

Unfortunately, the SEC commissioners are ignorant of all things accounting.  It’s ignorance is leading it to adopt IFRS.  And that, my friends, is pure folly. do not understand that they are sophist in the ways of accounting,   Sophistry acted on is folly. [remarks edited 11/27/09]  A folly that will cost of us trillions.

The SEC's sophistry is a crying shame! (edited)

As has been chronicled in this blog, the smartest and wisest accounting professors (the nerds who study accounting for a living) have carefully explained why there should be no single set of global accounting standards.  The SEC, though, is ignorant. That, or its commissioners are not educated enough to understand.sophist [edited 11/27/09].  Sob, that’s a crying shame.

Debit and credit – – David Albrecht

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In a move that should have sent tremors throughout the accounting world, the European Commission (executive branch of the European Union) on Monday, January 26, proposed funding the operations of the IASB (International Accounting Standards Board) and its parent organization IASCF (International Accounting Standards Committee Foundation).  The proposed level of funding is €15 million Euros ($19.7 million USD) annually for a three year period.

The $19.7 million USD is nearly as much as the SEC $23.7 million USD annual contribution to the Financial Accounting Foundation, parent to both the FASB and the GASB.  The FASB consumes $31 million USD of the FAF’s $41 million USD budget.  If the IASB accepts the funding, it could greatly expand its operations.leasheddog1

This is a clear attempt by the EU to buy the IASB.  “Will you be my b*tch?”

According to Kate Burgess (Accountancy Age), the IASB then could be held more accountable by the EU.  According to Hew Jones (Guardian), “The EU has long sought to increase its influence over the accounting standards bodies, which [currently] receive no direct EU funding. ”  Kevin Reed (Accountancy Age) reports of UK ASB’s Ian Mackintosh:

The IASB must resist extreme pressure against a European carve-out from its standards around fair value
accounting, and push towards convergence with the US or face going out of existence, deathorglorywarned Accounting Standards Board chairman Ian Mackintosh. ‘These pressures bring about threat or opportunity. It’s death or glory.’

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Mary Schapiro testifying before Senate Committee on Banking, Housing and Urban Affairs

Mary Schapiro testifying before Senate Committee on Banking, Housing and Urban Affairs

Yesterday brought a very big piece of news.  Mary Schapiro appeared before the U.S. Senate Committee on Banking, Housing and Urban Affairs.  A video of the appearance is here.    Here is my best attempt at transcripting the most relevant part of the hearing.

Senator Jack Reed (D-RI): Much of what you are going to do will have complications and consequences overseas as well as here in the United States, and one of the areas is IFRS road map.  We have repeated written to Chairman Cox, who tried to determine and develop a very deliberate road map, and I think there’s a rush to judgment on this issue.  In fact, I met witih the CEO of the Honeywell Corporation who has similar concerns over disparate treatment under international rules thata can be used to change income, that can be used to state R&D expenses differently.  There’s a host of … an opportunity for arbitrage between the two systems that I think we have to avoid.  Can you give us a notion of how you wish to proceed with this international accounting with recognition that eventually we’ll have that in a global economy and hopefully we will converge to a set of high level standards.

Mary Schapiro: Well, I would proceed with great caution so that we don’t have a race to the bottom.  I think we all can agree that a single set of accounting standards used around the world would be a very beneficial thing, would investors to compare companies around the world.   With that said, I have some concerns with the road map that has been published by the SEC and is out for comment now.  I have some concerns about IFRS standards generally.  They are not as detailed as the U.S. standards.  There’s a lot left to interpretation.  Even if adopted, there will still be a lack of consistency,  I believe,around the world on how they are implemented and how they are enforced.  The cost to switch from U.S. GAAP to IFRS is going to be extraordinary, and I’ve seen some estimates that range as high as $30 million for each U.S. company in order to do that.  This is a time when I think we have to think carefully about whether we impose those sorts of costs on U.S. industry, really make sense.  Perhaps my greatest concern is the independence of the International Accounting Standards Board and the ability to have oversight over their process as they make standards and the amount of rigor that exists in that process today.  So, I will tell you that I will take a great big breath and look at this entire area again, carefully, and will not necessarily feel bound by the existing road map that is out there for comment.

First of all, I am so happily surprised  that Mary Schapiro made these comments.  They are more protective of U.S. GAAP than I ever imagined would come out of the Obama administration.  I am grateful that the IFRS opposition apparently has been listened to, even though it has not been properly understood.  Welcome aboard, Mary Schapiro.  I hope that you frequently read The Summa for advice on how to handle the IFRS issue.

Her statement, coming during the confirmation process, is not binding.  However, it does give U.S. based opponents of IFRS some hope.  There seems to be an open mind in the Obama administration, that is very good news!

Her statements, however, cannot be considered binding  for three reasons.  First, it could simply be posturing in order to ease concern over her nomination so that she can gain confirmation.  Is this a possibility?  Of course.  Paid $3 million per year to head the NYSE/NASDAQ self-relatory group, her FINRA investigated and failed to catch the  $75 billion Madoff fraud.  Moreover, several key national publications have come out against her confirmation.  She will be confirmed, of course, because Republicans are going to fight a different nomination and not hers.  Never-the-less, she could simply be posturing to gain votes for confirmation.

Second, I don’t think she will have the authority to make the final call over IFRS.   IFRS adoption is an international political issue, and U.S. adoption will be negotiated at the international state level.  It is very possible that the U.S. could bargain away GAAP in order to gain European help to relieve our troops in the Middle East.  Under this scenario, investor protection in the U.S. simply is irrelevant.  National security is the key, and with Obama promising to run up trillion dollar deficits, he will want to save money by bringing home the troops.  Plus, one additional factor.

Third, as I’ve written before, Obama is relying on economists, such as Paul Volcker, for guidance on regulation-related matters, such as accounting standards.  Volcker has been a member of the IASC parent organization for the IASB.  He has been strongly in favor of the U.S. switching to IFRS, for a long time.  He will do everything possible to bring about IFRS in the U.S.  Of course Volcker is out of his depth here, having no background in accounting or finance, and really does not understand the nuances of the issue.  But that isn’t going to stop him.

However, there is no use in saying the sky is falling.  I’m going to take Mary Schapiro at her word and proceed as if the GAAP-IFRS issue is still open.  I have a few comments about her specific words.

First, she says, “I think we all can agree that a single set of accounting standards used around the world would be a very beneficial thing, would investors to compare companies around the world.”  Well, we can’t, because I don’t, nor do others.  One need only to read Shyam Sunder’s work to realize international differences in accounting standards are good.  Countries have different interests, and it is simply ignorant thinking to presume that a single set of standards can satisfy the very different interests that are out there.  For example, the U.S. places a high priority on protecting the investor, and this is reflected in the great amount of detail in our rules.  However, not everyone agrees to that priority.  Nor should they.  Different priorities and national interests will lead naturally to different accounting standards.  This is fundamental and we cannot trust Mary Schapiro to protect U.S. GAAP until she acknowledges it.  No matter what else she says, if she doesn’t get this point then she her thinking is compatible with Paul Volcker, the IFRS champion.

Second, her additional comments sound pretty good.  She seems to be well read.  Don’t know if she’s only read Charley Niemeier, or whether she’s read the other six critics of IFRS.  But at least she has comprehended some of the arguments.  Never-the-less, everything here must be interpreted in the context that she believes a single set of world-wide accounting standards would be beneficial and is attainable.  As I said before, it is not necessarily beneficial, and I’ve argued for a long time that it is unattainable.  For her to continue down this road is simply wasted thinking.

Third, she expresses a desire for the SEC to have oversight with respect to the IASB accounting standard generating process.  Well honey, every other country in the world is going to want to have the same oversight desires.  It seems clear that you want some control over the process, but everyone else wants that also.  Why, Europe has already exerted that control with respect to forcing certain changes to the fair value standard.  Let’s get this straight–the SEC will never, ever, get the degree of oversight it desires with respect to IFRS.  I believe that this should be sufficient to bury the IFRS issue forever.  I don’t even know why you are going to spend time on it.

I’m still going to submit a comment to the SEC on Cox’s proposed road map. And I’m going to continue to write about the benefits for the U.S. to retain GAAP.  If it weren’t for international politics, it would be a no brainer.

Debit and credit – – Dave Albrecht

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One of the courses I teach is Intermediate Accounting 2.  This semester’s paper assignment is to take a position on whether the U.S. should adopt IFRS or retain its GAAP.   To improve the quality of papers I receive, I instituted a system of peer review, requiring each paper to go though two rounds of double non-blind review.  The end result was 51 pretty good papers (39 for GAAP, 11 for IFRS, 1 for both).  I’ll be posting the four best.  This paper is by Marquita Jennings, a senior in business with a concentration in accounting.

Why Switch to IFRS from GAAP?

By: Marquita Jennings

The Securities and Exchange Commission (SEC) announced it plans to switch U.S. companies from generally accepted accounting principles (GAAPs) to international financial reporting standards (IFRSs) based on a recent release of a roadmap. The proposed switch has caused much controversy from professors to accountants, but the switch probably will still occur regardless of what the majority may believe. This paper will discuss the background and roadmap of the transition to the IFRSs, the European success of transition to IFRS, along with the benefits of the United States converting, and an argument against the disputers of the proposed United States switch to IFRS.

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One of the courses I teach is Intermediate Accounting 2.  This semester’s paper assignment is to take a position on whether the U.S. should adopt IFRS or retain its GAAP.   To improve the quality of papers I receive, I instituted a system of peer review, requiring each paper to go though two rounds of double non-blind review.  The end result was 51 pretty good papers (39 for GAAP, 11 for IFRS, 1 for both).  I’ll be posting the four best.  This paper is by Brandon Mills, a senior in business with a concentration in accounting.

IFRS: Not the Change We Need

by Brandon Mills

With the economy and the world getting “smaller” because of advancements in technology and companies being geographically and operationally located in several countries and jurisdictions, it is only a matter of time until the “one world” mentality spreads completely into accounting rules and regulations. Also with investors and businesses increasing their examination of foreign investment options, it would be in their best interest to be comparing apples to apples and not apples to oranges. Over the past few years, there has been a strong emphasis on the convergence between Accounting Principles Generally Accepted in the United States (U.S. GAAP) and International Financial Accounting Standards (IFRS), which are currently the two most commonly used accounting standards in the world. With that mind set the International Accounting Standards Board (IASB) has been working closely with the Financial Accounting Standards Board (FASB) in the United States to level the playing field and eliminate the ambiguity between these two standards (Johnson). This movement is generally perceived to be a step in the right direction to be able to properly compare companies that operate within other countries and report to regulatory agencies other than the Securities and Exchange Commission (SEC) (Rappeport).

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Note:  this is the final version of this essay.

This is part seven of an eight-part series in which I review the seven International Financial Reporting Standards (IFRS) critics (Sunder, Niemeier, Ball, Ketz, Selling, Jensen & Albrecht) of whom I am aware.  The series continues on regular posting dates, MWF.

In today’s essay, I review the anti-IFRS views of myself, David Albrecht, Ph.D.  An accounting professor at Bowling Green State University in Ohio, I have been a vocal opponent of the proposed switchover in accounting standards for quite a while.  Until starting this blog two months ago, my primary forum was via posts to AECM, the e-mail listserv for accounting professors.

I am opposed to IFRS for the U.S. because (1) the politics of the decision are unwarranted, (2)  I believe it will be bad for the country, and (3) it will not aid the world in creating an integrated financial system. (more…)

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This is part six of an eight-part series in which I review the seven IFRS critics (Sunder, Niemeier, Ball, Ketz, Selling, Jensen & Albrecht) of whom I am aware.  The series continues on regular posting dates, MWF.

Robert E. Jensen

Robert E. Jensen

In today’s essay, I review the anti-IFRS views of Robert E. Jensen, Ph.D., as summarized from his posts to the AECM listserv (Accounting Education Using Computers and and Multimedia) and on his web site page on accounting standard setting controversies.

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