FINANCIAL REPORTING AND IR

Continuing globalization of our capital markets underscores the obvious benefits of a common set of global financial accounting and disclosure standards. In fact, over the past 10 years accounting standards setters and securities regulators in virtually all the developed global economies have, like Canada, agreed to abandon their national accounting standards in favour of a consistent set of international standards. One of the last major countries to join the party was scheduled to be the United States, arguably the last to arrive because it had the furthest to travel; since the 1930s, the U.S. developed by far the most complex set of national accounting and financial disclosure rules. The deal was that, in the meantime, all parties would work together to converge U.S. accounting standards and the international standards, so that at the appropriate time the U.S. could change over also. But recent indications are that the U.S. no longer has any intention to join the party.

The idea of having one set of global accounting standards dates back to the 1950s. This concept has now progressed to the point where IFRS is currently used by over 100 countries, with almost half of the Fortune 500 companies now reporting their financial statements under this framework. However, the largest financial marketplace in the world – the United States, headquarters to 26% of the Fortune 500 (The Bureau of National Affairs, 2014) – continues to require the use of U.S. GAAP.

The overarching difference between these two competing accounting frameworks is that IFRS is principles-based and U.S. GAAP is rules-based. These distinctly different philosophies continue to result in significant accounting differences, leading to decreased global comparability of financial statements and increased costs for international companies. The planned – or perhaps not – convergence of IFRS and U.S. GAAP is a highly controversial topic involving many stakeholders, including businesses, government agencies, accounting standard setters, and regulatory bodies around the world.

Update on Convergence Progress

Until recently, accounting standard setting activities have worked toward convergence. Just last year the International Accounting Standards Board (IASB) and the U.S. Financial Accounting Standards Board (FASB) published a joint standard on revenue recognition. Having a fully converged standard in an area of accounting that affects virtually every company was a major achievement to be celebrated. However, the U.S. has since then already begun to introduce some tentative amendments, which many are concerned signals a potential abandonment of its commitment to consistency and the principle of convergence.

The Boards had also been working together toward a converged leasing standard that would bring leases on-balance sheet for virtually all lessees. That effort reached a significant and unfortunate milestone last month; however, both the IASB and the FASB each instructed its staff to prepare its own draft version of a new standard, on which each of the Boards will vote later this year. Convergence is not looking likely.

Another area where divergence – not convergence – has won out is financial instruments. The plan to revise accounting for financial instruments started as a well intentioned joint project between the IASB and the FASB in 2008. However, when they couldn’t reconcile views on the accounting for impairment of financial assets, they went in different directions. The IASB issued its final financial instruments standard in 2014 and the FASB is expected to issue the financial instrument classification and measurement project later in 2015.

None of this bodes well for convergence of accounting standards anytime soon.

The Regulator’s Perspective

Although it has been anticipated for years, the Securities Exchange Commission (SEC) has still not decided whether to allow the use of IFRS in the U.S. beyond foreign private issuers.

There have also been mixed messages coming from the SEC. Early in 2014, at the annual dinner of the Financial Accounting Foundation Trustees, SEC Chair Mary Jo White confirmed that convergence was still on the SEC’s agenda and deemed it a priority.

However, in a speech on March 26, 2015, at the Brooklyn Law School, SEC member Kara Stein shared her view that neither accounting standard is “perfect” and that convergence should not be a priority project. “I am not convinced of a need to abandon U.S. GAAP in favour of IFRS,” she said. “To be frank, this debate between dueling standards needs to move on. Neither regime worked ideally in the financial crisis, and neither may serve investors well in today’s post-financial crisis, technologically disrupted, and data-driven world.”

Perhaps we shouldn’t start expecting a lot of compromising from the SEC in the interests of global convergence.

View from accounting standard setters

The IASB and the FASB set the accounting standards for IFRS and U.S. GAAP, respectively.

During a presentation at Baruch College on April 1, 2015, FASB Chair Robert Herz and former IASB Chair Sir David Tweedie were invited to discuss their vision of Accounting Standards for Global Capital Markets: Past, Present and Future.

The FASB Chair made it remarkably clear that convergence of the two accounting standards is not a priority for the U.S., saying that, “In the U.S., we have become very comfortable with the idea that we will have two global accounting standards, and if there are things in IFRS that we like or the market likes, we will consider adopting those, but [there is] no systematic program to converge at this point. A two GAAP world from the U.S. perspective seems to be a comfortable notion.”

While acknowledging some setbacks, the former IASB Chair adopted a more hopeful outlook. “We (the convergence process) are at a low point now…the real problem is the three Cs: Cost of adoption, Change that nobody likes, and a key one is the Loss of Control…but eventually there will be convergence….the politics will be the driving force…we need another Enron to push the standard setters back together.”

While we may not wish for another Enron to get standard setters back to the convergence party, for now it seems IFRS and U.S. GAAP will continue to be the two predominant – but different – financial reporting frameworks globally. This means that it will continue to be important for preparers and users of financial statements to understand the differences between IFRS and U.S. GAAP. That’s too bad.

Katie McGarry, CPA, CA is a Senior Manager, and Rob Brouwer, FCA is Canadian Managing Partner, Clients and Markets, for KPMG LLP in Canada.