RSS feedsEven Sir David Tweedie, head honcho at the International Accounting Standards Board and chief architect of international financial reporting standards, registers surprise at the American authorities’ apparent willingness to allow US companies to adopt IFRS.
“There has been an amazing swing in the past 12 months,” Tweedie says. “This has happened faster than anybody thought.” That’s telling, given Tweedie is one of the closest ears to US regulatory ground – and it says a lot about how unlikely such a wholesale ‘yes’ vote from the US to adopt IFRS has been in the eyes of the global regulation industry’s top brass, until very recently.
Tweedie isn’t alone in his reaction to US open-mindedness on IFRS. Put bluntly, few on the opposite side of the Atlantic expected the Yanks to give up their own revered accounting rules so easily, or even at all.
America is nothing if not litigious, and its lawyers have built the safety net of a legal framework from which to quote when defending their corporate clients’ activities – or suing those same corporates on behalf of aggrieved investors.
But having conducted some consultation last summer and a series of roundtables in December, SEC chairman Christopher Cox announced in February that the time had come to devise a roadmap and a timetable to switch US companies over to IFRS. It’s now no longer a question of if, but when.
The prize will be the opportunity for Exxon-Mobil to present its results in a way that enables them to be compared much more easily with those of BP or Royal Dutch Shell. Pfizer’s results can be put side-by-side with GlaxoSmithKline’s and Bayer’s. International capital markets will be delighted – and companies may even be rewarded for such transparency with a lower cost of capital.
The nub of the change is, of course, that IFRS is a set of principles, not rules. Moreover, international enforcement of these principles isn’t on the agenda. In replacing the US financial accounting bible of around 25,000 pages with one of about 2,500, IASB will replace myriad rules with a body of standards that, to apply correctly, auditors must break from their rulebook tradition and dust off their intuition to bring to bear an honest account of the state of a company’s finances, and transparency in how it has reached its profit statements. It will be a bit of a shock for the US accountancy profession, but US investors in foreign companies already have that familiarity with IFRS.
And yet, it’s only really non-US commentators that are still nay-saying on the issue of US adoption of IFRS. American regulators, accountants, audit firms and companies are all but unanimous in saying that they want IFRS.
Robert Herz, chairman of US rule-makers the Financial Accounting Standards Board (FASB), told the US Senate’s Subcommittee on Securities, Insurance and Investment last November that he thought the only way IFRS could be truly international was for it to be adopted by the US. He even added a recommendation to strengthen the IASB’s constitution, improving its position as the global standard-setter.
Getting a head start
As far back as 2005 Donald Nicholson, the SEC’s chief accountant, wrote in
Northwestern University’s Journal of International Law and Business how
“fortuitous” it was that a small group of US companies had already started
preparing their financial statements in IFRS “at a time when the focus of
capital market participants globally and domestically is on the need for high
quality and consistently applied financial reporting.”
Indeed, those groups are beginning to talk about doing away with the long, slow road of convergence and simply dropping US GAAP to convert fully to IFRS. Not only would the swap lighten the load for US lawyers, auditors and company accountants – who, as Tweedie says “can’t use the [US GAAP] standards without using a search engine to make sure you’ve got everything” – a set of core principles would also help restore credibility and confidence in US markets both inside and outside the country. The importance of that element of IFRS for the US as it slides into recession and weathers the effect of the credit crunch can’t be underestimated. Far from being righteously indignant and clinging to US GAAP for the sake of national pride, as some predicted, it seems America’s economic state has been a motivating factor in the shift of opinion on IFRS in the past 12 months. Quite simply, US GAAP has been found wanting.
IASB and its US counterpart FASB entered into the Norwalk Agreement in 2002, which prepared the ground for the convergence of US GAAP with IFRS – already a significant concession from the SEC – though European critics of IFRS regarded it at the time as an unacceptable concession towards the American regulators. But that was accelerated by the February 2006 Memorandum of Understanding between the two standard-setters to push various elements of convergence through this year, with the wider intention of eventually eliminating the need for Foreign Private Issuers (PFIs) to reconcile IFRS statements with US GAAP. By next January, eight more standards should have reached full convergence, with IFRS1 and IAS27 on the cost of investments and IFRS2 on vesting conditions and cancellations on share-based payments scheduled to become enshrined in IFRS by this summer, according to the IASB/FASB timetable.
One of the stickiest elements of financial accounting, IAS39 is scheduled for convergence with IFRS by the end of the year (a discussion paper on this topic was released as this article was going to press).
The SEC and FASB are examining the “faithfulness and consistency” of FPI financial statements using IFRS and accompanying US GAAP reconciliations, and drawing lessons from their findings. The SEC has now agreed to scrap the reconciliation requirements for foreign companies from 2009. The talk about a possible date for US companies to move to IFRS continues. So far, date estimates have ranged from 2011 to 2018. But the SEC itself won’t be rushed into confirming deadlines.
As a test case, the UK’s conversion to IFRS doesn’t appear to have made a great deal of difference either way to corporate reporting. There have been no great scandals to indicate any glaring problems with the new rules. But some think the US will benefit from the lessons learned by the UK and other European countries that managed the switchover to IFRS in 2005.
And there’s another reason why the Americans will have an easier ride than the British. “One of the trickiest aspects of UK IFRS conversion was that many international standards were being improved from 2001 to 2005. We didn’t have, until fairly late in the process, a settled set of standards, a situation which was compounded by the time it took for Europe to adopt the improved IFRS,” says Isobel Sharp, audit partner in Deloitte’s UK practice and president of the Institute of Chartered Accountants Scotland. “Converting was thus trying to hit a moving target. The effort of the IASB is no longer a ‘scatter gun’ over many standards, but more of a ‘rifle’ approach in certain key areas like leasing and debt/equity. Hopefully, it will be easier for future IFRS converters to get a fix on the target.”
Sharp raises one of the most talked-about topics of the day among US regulators and auditors. Most have accepted that the principles-based approach will eventually dominate the US regulatory landscape. But they have legitimate concerns that market forces and due consultation could generate so many additional amendments, IFRS will end up as just another rulebook whose pagination heads back up towards that of the one it is replacing. A lot of talk in the US about IFRS implementation focuses on the example of the controversial European carve-out. The IASB is trying to get rid of the carve-out, a compromise which effectively allows companies to ignore a handful of paragraphs in IAS39. The IASB says that, of 8,000 listed companies, just 29 have made use of the carve-out option.
Even this concession – which was a last-ditch effort to keep the IFRS 2005 project on track – is regarded as anathema by some Americans. Allowing one country to get its own way could, they say, open the door to others trying their luck, compromising the integrity of the one-size-fits-all global standards concept. “If companies are allowed to cherry-pick their way through IFRS it will certainly undermine it,” says Larry Gill, a CPA at law firm Schiff Hardin’s corporate and securities group and chairman of the International Issues Committee at the American Institute of Certified Public Accountants. “IFRS gives the principal and the client a little more leeway to interpret how it should be applied to any given situation. So what happens if you end up with local flavours of IFRS? You want to make sure the global standards are truly global and not nationalised. That becomes an issue straight away when you see the IAS39 carve-out in the EU that doesn’t apply elsewhere.”
The big audit firms – perhaps mindful of their role as educators of the market when new regulation hits, and the business they stand to gain from that position – are now championing the idea of US adoption of principles-based accounting standards, with some cheering for the idea of the SEC making IFRS mandatory for listed companies, as per Europe. “Within a few years, the SEC is likely to designate a date for mandatory adoption, which could occur by 2013,” says Dave Kaplan, international accounting leader at PricewaterhouseCoopers. “Until a policy is adopted that establishes IFRS as the primary reporting framework in the US, allowing the IFRS option means that for a limited number of years there will be two financial reporting languages in use in the US, and the possibility of market confusion is a valid concern,” Kaplan says. “In the long run, the capital markets will be better served by a single financial reporting language.”
Many of the biggest multinationals will willingly embrace the capital m arkets opportunity to talk the same language as the rest of their industry peer group. But what about the small and mid-cap companies that don’t operate or raise capital beyond the 50 states? Will they prefer the trade-off of a difficult transition process in return for an easier on-going reporting methodology? They may not have a choice: as AICPA’s Gill says, “The answer to the question, ‘Will the US move to obligatory IFRS adoption’ is yes. Eventually you will have convergence for the most part between US GAAP and IFRS. I chaired an international conference for AICPA in January in Washington and people were talking about that, including [SEC commissioner] Christopher Cox,” he adds. “I don’t think we will have full conversions until maybe 2015 or 2018 – but given Japan and Canada are considering permitting filings by 2010, there will be pressure on the US to consider doing that too.”
Natural enforcer
Curiously, IASB has stepped away from what would seem its natural role as the
global regulator of IFRS, leaving enforcement and questions of interpretation to
local agencies (for example, in the UK’s case, the Financial Reporting Council).
This approach poses an even greater change of mindset for the US than possibly
any other country, removing its familiar legal certainties and the framework for
seeking guidance on them.
Talk of a solution in IASB merging with FASB has not gained momentum, not least because of the political implications of IASB pairing up with one country. The only other independent and internationally represented organisation that could be considered in a position to regulate IFRS applied globally, then, is the International Organisation of Securities Commissions, but IOSCO also avoids any sort of enforcement rhetoric or positioning, focusing on consultation with IASB on further simplifying principles.
In reality, the SEC is the most serious contender for such a powerful, complex role, were it not for the elephant in the room – its nationality. But IASB, like some commentators, thinks asking about enforcement and discussing principles-based thinking in the same breath is wrong-headed, anyway. “We have to get away from thinking that using IFRS means there must be only one way of doing everything and that any sign of difference means the system is a failure,” says Deloitte’s Sharp. “US preparers and auditors are accustomed to having thousands of pages of accounting guidance, much of which is produced on an industry-by-industry basis. It will be for the UK and others to stop any excessive rule creep. But reasonable variations should simply be accepted.” Only time will tell how that viewpoint will sit with US nerves.
