The Accounting Onion

Emergency Post: Chief Accountant Candidates Could be Down to Just Two

My practice has been to post about once per week, and I had completed my latest less than a day ago. I'm coming back at you so quickly, because Bloomberg News has just come out with this:

"Securities and Exchange Commission Chairman Mary Schapiro settled on two finalists to be chief accountant, acting director James Kroeker and Baltimore money manager Jack Ciesielski, people familiar with the matter said.

Kroeker, a former Deloitte & Touche LLP partner and acting chief since January, and Ciesielski, who has defended mark-to- market accounting, met with commissioners this month to discuss their interest in the job, said the people who declined to be identified before an announcement …" Continued in article.

With the passage of time, it seems increasingly less likely that the next Chief Accountant will come from the Big Four; it would break a string of the last six in a row (more or less, I think). Especially given the records of the most recent guys in charge, I think that most would agree that it's time for a change in emphasis.   

Appointing Jack Ciesielski, a wise and straight-shooting investor advocate, would send a strong signal from the SEC that the voices of special interests would be muted henceforth. But, if Kroeker is promoted to be the permanent big cheese as an appeasement to the Big Four, it will look to much like Chair Schapiro lacked the gumption to face down a special-interest juggernaut. After all, Kroeker's only bona fides as an investor advocate are his leadership of a recent fair value study that chafed the chops of the banking industry big time. Other than that, the public pretty much knows only of his Big Four acculturation (and the inevitable accompanying baggage), and that he was appointed to deputy chief by the best imitation of a paperweight ever to hold the title of chief accountant.

Bonus Coverage

This morning, I merely smiled to myself at the audacity of two missives (missiles?) from PwC that came across from two very different sources. Now, after the sobering news from Bloomberg, not so much. These guys are nothing, if not tenacious.

First, there was a letter to academics directing them in no uncertain terms to include appropriate IFRS-related materials in the courses—else, their students would be deemed insufficiently programmed to serve as audit highly paid drones according to PwC's new hiring hiring criteria:

"PwC believes it is important for our new hires to have sufficient knowledge and skills about IFRS to transition easily into our practice. Therefore, we will include IFRS in the basis for making decisions about an applicant's level of technical and professional skills and knowledge. Starting in Fall 2009, we will expect that applicants will have used our learning opportunities or other means…"  [italics supplied]

Bob Jensen, a retired academic and former American Accounting Association Educator of the Year called the letter in remarks on the AECM listserv an "insult to the academy of accounting educators." ... " and "I've always admired PwC.  But I can only hope that they lose some terrific accounting graduates because of this Orwellian Big Bully strategy." 

Ditto from me, and sad to say some faculty seem all too willingly to line up and salute the flag.  About a year ago, I asked a first-year assistant professor at a smaller university, that was extremely proud of its record of placing students with the Big Four, why they were looking to add an entire course on IFRS to their curriculum.  Her answer was simple, yet devoid of any trace of irony or regret: "It's our job to give the Big Four what it wants."

Second, revisionist history continues in PwC's latest IFRS First newsletter: 

"Due to a new administration, ongoing economic issues, and responses to the proposed roadmap, there is some uncertainty around the final timetable for adoption of IFRS in the US. However, the responses to the Proposed Roadmap indicate that there still is strong support for a single set of global accounting standards. [LOL] We remain confident that:

The SEC is interested in moving forward with IFRS
The SEC will continue to approach the change with a thoughtful, measured process
The SEC will ultimately propose a revised roadmap
Adoption of IFRS in the US is inevitable " [italics supplied]

Has anybody else noticed that the mantra of "single set of high-quality global accounting standards" has been truncated to exclude that pesky 'high-quality' part?  The marching orders to all who have been captured by the Big Four's largesse is becoming more and more pointed:  'Forget quality. Forget convergence. Get with the IFRS program … or no more soup for you!'

If Mary Schapiro doesn't take a strong stand for investors on the chief accountant appointment, then  "inevitable" will become sooner than you can say PricewaterhouseCoopers.'

Which SEC Roadmap Comments Matter, and What They are Saying

A couple of commenters on the last post found fault with my assertion that the "low" response from issuers on the SEC's IFRS Roadmap proposal is pretty much a non-issue. For example, commenter Andy argues that self-selection bias may well exist because only "... those who feel strongly against or for, will make their views known."

I do agree with Andy in general, and there is strong empirical evidence to support that sort of tendency in some circumstances.* But, I don't agree that it is the phenomena that operates on issuer response rates to an SEC proposal such as the Roadmap.  I consider only the following four factors to affect the decision of an issuer's CEO to submit a comment letter: (1) one's stake in each potential outcome; (2) the subjective probabilities of each potential outcome; (3) the costs of commenting; and (4) the subjective probability that a comment letter can favorably influence the SEC's decision.

Thus, strong opinions are not enough – and perhaps irrelevant – to move a CEO to speak out on the Roadmap. The issuers who determined that investing in a comment letter was worthwhile did so.  For whatever reasons a lot didn't, but it is unlikely that it was systematically related to the 'strength' or substance of their opinion.

Moreover, the third and fourth factors, above, indicate that if the comment submission rate is judged insufficient, the Cox-lead SEC should bear some of the responsibility for that. For example, the cost of commenting is influenced by the ease of doing so. I, for one, wasted a full day out of my life to draft one, and then abandoned the project out of frustration. It took just too much effort to respond to all of the niggling questions, and I felt that anything that didn't fit the particular and numerous questions the SEC was asking would not even be classified, much less read.

With regard to the fourth factor, above, it certainly didn't help that the Cox SEC all but threw in the dust bin the strident and numerous criticisms of their proposal to eliminate the IFRS-to-GAAP reconciliation requirement. The saber rattling by the EU, and the relentless lobbying and PR by the Big Four doesn't help either, as they only lend credence to the proposition that bigger fish will have the ultimate say.

Moreover, issuer comments are in my view, a sideshow compared to investors.  If the SEC largely ignores them, that's how it should be. For example, let's take a look at an excerpt from Wal-Mart's response:

"For a global company like ours, [the benefits of IFRS adoption] include standardized reporting systems, efficiency in accounting training, and efficiency of financial statement review. However, these benefits are limited to the extent that various government and regulatory bodies in countries we operate in adopt IFRS as issued by the IASB for all oftheir reporting requirements. Failure to achieve this consistency in reporting standards minimizes or eliminatesany benefits. At the present time, we do not see any other significant benefits to offset the expected costs in adopting IFRS." [italics supplied]

Is Wal-Mart providing an honest assessment of the costs and benefits of IFRS, or do they have a hidden agenda? I haven't looked at Wal-Mart's financials in a few years, but in the years I did, I was amazed at how steady was their growth rate, and their profit margins were like a steady drum beat year after year. Wal-Mart, being in a very straightforward business with short cash cycles and tending to grow without a lot of M&A activity, probably doesn't face a lot of thorny accounting issues where GAAP and IFRS are significantly different. Except for one: asset impairment, where (as I have written here) IFRS can create more earnings volatility than GAAP. I suspect that avoiding the IFRS long-lived asset impairment standard could be their real agenda.

So, the long and short of it is that we can argue about whether the issuer response rate is low, but the SEC shouldn't be paying much attention to issuer comments anyway – except, perhaps, to help them divine what the costs of IFRS conversion to issuers might be. Evaluating the potential for IFRS to improve the quality of information provided to investors should be the purview of investors and others with financial reporting expertise, and who have no obvious axe to grind (academics, for instance).

And what of the auditors' strongly pro-IFRS comments?  I believe they actually have a role in the process, but not the one they have chosen.  I am reminded of a comment made by the irascible college basketball coach, Bob Knight. When asked about his position on a proposal to reduce the time on the 'shot clock' from 45 to 35 seconds, he said something like, "I don't care if you make it 5 seconds! We're good enough to play that game, too; and if somebody is dumb enough to thnk that the best basketball team will win that way, that's their problem."

What I mean to say is that the only thing I want to know from the auditors is akin to Bob Knight's shot clock response.  In switching from IFRS to GAAP will auditing practices and the reliability of an auditor's report be affected?   The Big Four never features (or perhaps even deigns to answer) those kinds of questions, because they are self-evident and non-self-serving: auditing procedures should not change very much, but the reliability of the auditor's report will decline due to greater reliance on management's judgment.

I'll readily admit that everyone is supposed to have a hidden agenda (except me), but with that caveat, I'll close with a selection of what I believe are some of the more revealing comments on the Roadmap proposal by a few of the organizations which, one might say, should hold 'super votes.'**

In summary, while the FAF and the FASB continue to support strongly the ultimate goal of a single set of high‐quality global accounting standards as part of a global financial reporting system, in our view, additional study is needed to better identify, understand, and evaluate the strengths, weaknesses, costs, and benefits of possible approaches the U.S. should take in moving toward that goal. – FASB

Until a single set of standards that produce such a result [high quality standards] exists, with a demonstrated record of compliance andenforcement, we believe it is premature and unwise to move away from U.S. GAAP… [W]e have seriousdoubts as to whether the proposed roadmap, as currently envisioned, will tangibly benefit investors' interests…In our view, the proposal fails to provide sufficient support as to why it presents a better course of action than the current on‐going convergence efforts… – Investors Technical Advisory Committee, FASB

[L]ittle existing research directly addresses whether U.S. investors, issuers, and markets would benefit fromimplementation of IFRS in the U.S. … We recommend further analysis of the costs and benefits of a mandated transition to IFRS for U.S.issuers, investors, and markets. – American Accounting Association, International Accounting Section

In our opinion, converting to IFRS is a solution without an underlying problem. In fact, we have never heard aninvestor in our company, any stock analyst covering Marriott, or any lender with which we do business in theUnited States or abroad suggest to us that they would prefer we report our results in IFRS. – Marriott

We believe that the costs to convert to IFRS will be extraordinary. The total cost to convert to IFRS is extremelychallenging to capture since it involves both quantifiable cash costs, as well as the cost that the distraction andreallocation of resources will cause to businesses. – McDonald's

Amen.

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*See, for example, Richard J. Cebula, "Strong Presidential Approval or Disapproval Influencing the Expected Benefits of Voting and the Voter Participation Rate," Atlantic Economic Journal, (2005)33:159-167.

**Extracted from a document of excerpts presented to members of NASBA

The Comments on the SEC Roadmap are Clear: Make a U-Turn

There are some definite signs that Mary Schapiro is getting closer to naming her Chief Accountant. For example, I received an email from Denny Beresford, former FASB chair, who was left with the impression from a reporter that an announcement would be coming this week. Indeed, because of recent events I'll be discussing in this post, I'm inclined to believe that it will indeed come to pass.

The Chief Accountant appointment will clearly be setting the tone for the debate on the IFRS Roadmap proposal. But I am also getting strong vibes that, this time around, the many negative comment letters in response to the proposal will be a significant factor in the SEC's deliberations —as opposed to Christopher Cox's tone deaf handling of the elimination of the IFRS-to-GAAP reconciliation requirement. Because of that, the IFRS supporters are spinning the comment letters like crazy.

Most recently, CFO.com reported on remarks emanating from Wayne Carnall, Chief Accountant of the SEC's Division of Corporation Finance. He is generally seen to be an IFRS adoption proponent, and rumored to be a candidate for the Chief Accountant in the Office of the Chief Accountant -- yes, I know it's confusing, because he is already a 'chief accountant.' There are, to the best of my knowledge at least four positions at the SEC bearing the title of Chief Accountant. There's one each in the functional divisions of enforcement, corporation finance, investment management; plus the"Chief Accountant to the Commission" with one's own staff to serve the Commission as its principal advisor on accounting and auditing matters. That's the seat of power that everyone covets, and it's the one that has lacked a permanent possessor since Mary Schapiro took over from Cox's gang.

Anyways, Wayne is reported to have expressed his disappointment that so few public companies have even bothered to express their views on the Roadmap proposal:

"A total of 240 letters were received, about half of them from registrants. Cornall [sic] called that level of response 'disappointing.'

'Only about 1% of the companies in the United States that would be impacted by this change, if we were to adopt it, decided to comment. I thought that was a surprisingly low number,' he said.

He noted that a pair of FASB staff positions issued in March on what he called a 'relatively small, narrow item' — valuing assets in illiquid markets — got 700 comments in a 15-day comment period. 'Yet on a proposal to change the reporting framework in the United States we got 120 comments" from public companies during a 120-day comment period."

Wayne seems to be implying that nothing of significance can be inferred from such a low (in his judgment) response rate. He might have a point if the responses were equivocal, but that's simply not the case.

I read only a few of the comment letters, but I know of at least one person who read them all. That would be Gaylen Hansen, a partner in a Colorado CPA firm, and self-described detractor of IFRS adoption in the U.S. Among other high profile national service positions that Gaylen holds, he is chair of the Strategic Initiatives Committee of the National Association of State Boards of Accountancy (NASBA). The data on roadmap proposal comments displayed here is straight from his presentation at recent NASBA regional meetings (video, here):*

The problem for Wayne and other IFRS supporters is that the data is so darn unequivocal against the IFRS Roadmap proposal that any errors due to small sample size would have to be tsunami-sized in order to reverse the results. Public companies disfavor the Roadmap by a margin of exactly 2:1; and the public companies that express "strong" opposition to the Roadmap proposal outnumber all supporters, however strong, by exactly 1.5:1. Perhaps even more damning to the Roadmap proposal is that not a single investor group expresses "strong" support, and the overwhelming majority want to tear it up.

Not even the AICPA, an IFRS adoption cheerleader for years, can spin a very positive message out of the comment letters, but eschewing all references to actual data, spin fast and furiously they did with something they call an "analysis":

"While many expressed support for the goal of high-quality globally accepted accounting standards, the request for comments produced numerous critics of the SEC's proposed roadmap.  Commentators had serious concerns about the cost of adoption, the benefits of adoption compared to convergence, and whether IFRS were in fact as good as or better than U.S. GAAP. ….

While in the minority, some U.S. registrants generally supported the roadmap and mandatory adoption in the near term. [i.e., the majority voted "nay"] These organizations noted the benefits of global comparability, increased transparency, decreased cost of global financial reporting and the belief that converged standards would fall short of the benefits accruing from use of one global set of accounting standards. …

Responses from investor groups were mixed." [emphasis supplied]---

"Mixed"? While they were relatively few in number, it's safe to say that the major U.S. investor groups one normally expects to weigh in on accounting standards did so here. I suppose one would be technically accurate to state that investors were not unanimous in their strong opposition to the Roadmap proposal, but saying that 'most were strongly opposed' could only be an understatement. (Sometimes, I wonder if the AICPA outsources its communications department to the National Rifle Association.)

Even so, the AICPA's spin is not nearly as blatantly disingenuous as PwC's recent press release:

"Despite uncertainty about timing of the move to International Financial Reporting Standards (IFRS) in the United States, PricewaterhouseCoopers (PwC) maintains that the adoption of IFRS in the U.S. is inevitable [emphasis supplied], and that there is still overwhelming support for a single set of global accounting standards.

We expect steadily increasing convergence activity followed by eventual conversion to IFRS. …

Additionally, all U.S. businesses will face an unprecedented wave of U.S. GAAP changes, influenced by - and, in many instances, conforming to IFRS - over the next several years."

Having to make an explicit choice between the Big Four, and now, practically everyone else, is a scenario that a new SEC chair would certainly like to avoid so fresh out of the box. But, so far, Mary Schapiro appears to be handling it brilliantly: by waiting for IFRS to self-destruct.

"Inevitable"?  Not even close to that anymore.  'Implosion' more aptly describes what is now occuring, with almost shocking rapidity. On the overseas front, Charlie McGreevy of the EU and the European Federation of Accountants (FEE) have been applying countervailing pressure on the IASB to de-link itself from U.S. GAAP -- else the EU is threatening to part company with the IASB. It's a highly credible threat, and it would leave the IASB with little more than the Asian powers, Australia and a gaggle of third worlders no capital markets of their own to speak of.

On the embattled U.S. front, the FASB, without a breath of mention of convergence, has announced its intention to require that all financial assets, including loans, would have to be presented at fair value on the balance sheet. To abandon McCreevy's beloved 'amortized cost' accounting for loans investments in debt instruments would certainly be a bridge too far for EU regulators; and most encouraging to moí, the FASB by this action may finally be tacitly admitting that convergence is holding them back from making urgently needed changes to accounting standards that have contributed to the recent bout of financial havoc.

So, at this rate, the long-awaited appointment of a Chief Accountant may turn out to be an anti-climax -- which is just the way Mary Schapiro would like it.

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* Gaylen's tabulation of the Roadmap comment letters excludes the Big Four, AICPA and others with an obvious pecuniary interest, foreign companies, foreign accountancy groups, foreign companies currently using IFRS, students and responses that defied classification.

Spinning "Convergence"

"Converge" from Merriam-Webster's Online Dictionary:

1. to tend or move toward one point or another: come together: meet

2. to come together and unite in a common interest or focus

3. to approach a limit as the number of terms increases without limit

Now that it has become abundantly clear that convergence of IFRS and U.S. GAAP is not likely to happen, the proponents of IFRS adoption in the U.S. are trying to downplay its importance, and spinning what convergence is supposed to mean. That stratagem should come as no surprise to those who have observed the numerous instances where immutable plain English words have been misappropriated by accounting standards to serve as terms of art no more artful than Dickens' Artful Dodger.* (For some examples I have posted, see here, here and here.)

I have been meaning to write about the notion of convergence and its implications for some time now, but I was having trouble organizing my thoughts until I read D.J. Gannon's article, The IFRS Convergence Quandary.  Gannon is a Deloitte & Touche partner and as far as I can tell, he is his firm's point person on issues related to the SEC Roadmap.  (As Gannon seems to be singing in unison with the Big Four chorus, I hope that my criticisms are not taken to be a personal attack, but simply as a convenient point of reference.)

"Let's start with what convergence is. Convergence is designed to bring U.S. GAAP and IFRS closer together. The focus is on having similar general principles. Many have misinterpreted convergence as meaning the development of the same or "identical" standards. The reality is that convergence never really contemplated "identical" standards.

In fact, the FASB and IASB have acknowledged that doing so is too difficult to accomplish. This is evident in the boards' recently issued business combinations standards that contain differences in certain requirements. And, based on the boards' current thinking on topics such as consolidations and leasing, differences likely will exist in future converged standards."

I would like to suggest that a reading of very plain language in the Boards' 2008 joint progress reporton the Memorandum of Understanding between the FASB and the IASB indicates a very different view of "convergence":

"Convergence of accounting standards can best be achieved through the development of high quality, common standards over time." [italics supplied]

In other words, both Boards have stated that convergence was intended for GAAP and IFRS to actually meet, and not merely come "closer together." The distinction is crucial, because, by claiming that "convergence" has a meaning that is not in the ordinary-folks dictionary, proponents of IFRS adoption now seem to be trying to find excuses for a lack of progress on convergence—and more important, the increasingly dysfunctional relationships between prime movers at the IASB.  I also can't resist pointing out that the phrase "differences likely will exist in future converged standards" makes no sense without some special meaning for convergence, which neither appears to have been contemplated by the MOU nor accomodated by the dictionary definition of "converge."

As to what the FASB and IASB have "acknowledged" regarding their convergence efforts, the alleged facts are that IASB representatives sat in Norwalk as the FASB determined to finalize their new business combination standards (FAS 141(R) and FAS 160). Those envoys reportedly gave assurances that the areas in which the FASB was sticking its neck out would be adopted by the IASB as well. In essence, the IASB reneged on its assurances; and that's as close to an 'acknowledgement' that I am aware of.

Convergence Has Reached the End of the Road -- Now What?

Actually, D. J. Gannon and I do agree on one thing. We both believe that convergence has probably gone as far as it can go. Our differences concern the question of what to do next. Gannon thinks that the U.S. should be ready for IFRS adoption:

"…[Y]ou only have to look at the recent events surrounding the current financial crisis. What historically have been seemingly harmless differences between U.S. GAAP and IFRS now are the source of much politicization.

Take, for example, the issue of when companies can change the classification of financial assets, which in turn impacts the measurement of these items. Prior to last year, the "technical differences" on classification between U.S. GAAP and IFRS were never considered a significant issue in practice. However, the financial crisis put the IASB under tremendous pressure to conform IFRS to arguably a "lesser-quality" answer under U.S. GAAP. This is only one example of literally hundreds of differences between U.S. GAAP and IFRS that likely will never be addressed by convergence."

Actually, it was the EU (not the "financial crisis") that put the IASB under "tremendous pressure," and just as the FASB responded to the U.S. Congress, the IASB caved. I see nothing compelling about this particular case, but that's not my main point. I find it curious that of the "literally hundreds of differences" that could have been picked, Gannon happened to pick one whose lessons are obscured by anomalous constraints imposed by inefficient banking regulations. Just because Congress and the EU want to shoot the messengers, that doesn't mean the U.S. should appoint a new messenger who will no doubt be harder to shoot the next time Congress wants to engage in that distasteful exercise.  

Also, my wandering mind wants to liken the relationship between the FASB and the IASB, as set out in the 2002 MOU, to a crumbling marriage. Both spouses have made some very poor choices in the past and it's as if one spouse is desperately imploring the other to stay together despite a tumultuous past together. "Everything could be just like it was when we first fell in love if we started a family—just like we were planning when we got engaged!" (sob, sob)

Whoa. I say divorce now rather than take a crazy risk like having kids. And, don't think further counseling is the answer either. As Gannon points out, there are "literally hundreds" of irreconcilable differences. Maybe none of those little tics and peeves matter by themselves, but collectively they're sure to drive the whole family nuts.

In case you don't get it from my cutsey troubled marriage analogy, let me spell it out for you.  Adopting IFRS any time soon will require a giant leap of faith that is not at all warranted by past actions. 

What Exactly is the Problem that IFRS Adoption Will Solve?

I learned from a colleague some years ago that the way to resolve a turf battle is to ask the power grabber to describe precisely what the problem is they are trying to solve, and how their solution solves that problem. 

Gannon's opening statement lays out that problem, insofar as IFRS adoption proponents would have the rest of us see it:  

"One thing most everyone in the financial reporting community can agree on is the need for a single set of high-quality globally accepted accounting standards."

Let's start with the presumption that IFRS is "high-quality." I see that as the biggest reason why the arguments of IFRS adoption proponents are not persuasive to skeptics such as myself. To my way of thinking, the one thing that most everyone in the financial reporting community really should finally admit is that IFRS is deeply flawed, and U.S. GAAP is no better.

In far too many respects that belie any pretense of quality, IFRS merely apes GAAP. The GAAP standards that have wrought the savings and loan crisis, the pension crisis, the thousands of pages of hedge accounting rules, hidden executive compensation costs, and now the worldwide financial crisis are converged all right. They're converged at a point barely above lousy.  In short, we will certainly be no closer to high quality accounting standards by adopting IFRS.

As to the advantages of having a "single set" of standards, it would certainly be desirable for all financial statements to spring from a single set of high-quality accounting standards, but we are worlds away from that utopia.   Indeed, dysfunction is beginning to take over the IASB's most prized relationship, the EU.  Charley McGreevy is grumbling that the IASB may not be able to be satisfy the financial reporting needs of the EU, so it remains a distinct worst-case scenario that the U.S. could adopt IFRS just as the EU is trashing it.

But let's ignore that, and assume that we do end up with a single set of accounting standards, albeit badly in need of improvement.  In that case, I predict that, with the U.S. voice muted, the chances will only increase that broken financial reporting standards will stay broken. I still have high hopes that better financial reporting standards can be obtained, but getting them is much more likely to spring from competition between standard setters than cooperation. In all things capitalistic, competition breeds excellence; and cooperation is the fuel for a race to the bottom.

In summary, failure to converge may be a "quandary" for IFRS adoption proponents.  Should we stop convergence efforts and set the stage for adoption?  "Absolutely," they say.  "Damn the risks and costs... full speed ahead (towards higher consulting fees)!"  But for me, the whole notion of convergence is, and always has been, nothing more than propaganda.

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*"He was a snub-nosed, flat-browed, common-faced boy enough; and as dirty a juvenile as one would wish to see; but he had about him all the airs and manners of a man." (Oliver Twist)