by Glenn Cheney

Baton Rouge, La. -- The concept has been kicking around for years: the idea of one set of generally accepted accounting principles for big companies, and another for small companies. Or maybe the better division is between public companies and private companies.

Or maybe all companies —from the corner Mom-and-Pop shop to the ponderous multinational conglomerate — should use the same accounting methods, as they always have.

Earlier this year, Barry Melancon, chair and president of the American Institute of CPAs, called for “a very open discussion” over the wisdom and expediency of “differential accounting,” the concept that was once termed “Big GAAP-Little GAAP.”

“We had this debate in the 1980s and 1990s, and decided against differential accounting,” Melancon said. “But the world is a different place today. The biggest public companies are bigger than ever. The complexity of their transactions is more complex, and the gap between them and Joe’s Hot Dog Stand is wider today than at any time in history. Therefore, it is legitimate to ask whether the financial reporting model stipulated by the Financial Accounting Standards Board should apply to private businesses.”

Melancon pointed out that half of the U.S. economy is generated by non-public companies, and those companies comprise the vast majority of business entities in the country — 15,000 public companies versus uncounted millions of nonpublic companies.

On the “let’s do it” side of the debate is Bill Balhoff, CPA, a partner with the Baton Rouge firm of Postlethwaite & Netterville, a member of the governing Council of the American Institute of CPAs, and a member of the Financial Accounting Standards Advisory Council.

Balhoff says that now the time has come. “The winds have changed,” he said. “I’ve always been of the opinion that if an answer’s right, it’s the correct answer for everybody, that there was no need for differential accounting. But it has
become very questionable whether the generally accepted accounting principles being put out by the Financial Accounting Standards Board are right for non-public companies.”

As a member of FASAC, which identifies accounting issues that need to be dealt with, Balhoff has formally asked FASB to openly consider separate standards for private companies.

The last straw for Balhoff was FASB’s Statement 150. It changed a rule that once let a company — typically a small one — buy back equity from a departing partner and record it as equity. Statement 150 says that the transaction creates a liability. That may be a good rule for large companies, where such a put-back is probably some kind of debt instrument but is not the primary means of capitalizing the company. Applying that principle to a small company that capitalizes itself with partner equity, however, creates a crushing preponderance of liability.

The statement, said Balhoff, is a clear indication that FASB wrote the rule without considering it’s effect on small companies.

“FASB is working at 50,000 feet, at least,” Balhoff said. “They can say what they want; but, in fact, they are writing standards for public companies.”

Balhoff also cites the problem of U.S. standards converging with those of the International Accounting Standards Board. International standards are even more oriented to large, multinational corporations. Applying those same standards to Joe’s Hot Dog Stand could bury Joe in paperwork, resulting in a severe shortage of local weenies.

Balhoff cites the probable new rule on accounting for employee stock option compensation as another example. The rule is likely to require a calculation of volatility even if the stock is not traded on the market. If the rule prohibits an assumption of zero volatility, nonpublic companies will have to hire an appraiser every year to value their un-tradeable stock — an onerous and needless expense for a smaller company.

Balhoff said that since FASB is now being funded entirely by public companies, it will be all the more responsive to the demands of the Public Company Accounting Oversight Board, the Securities and Exchange Commission, and public companies. He fears that FASB will pay proportionately less attention to smaller companies.

“FASB’s concern is going to be over what the PCAOB and SEC are saying and what suits the investors of these large public companies,” said Balhoff. “That’s a big issue, but let’s not ignore the issue of the rest of the companies that have to apply these standards.”

Balhoff is talking very big stuff here. Financial accounting standards aren’t cranked out overnight. A new set of standards customized for non-public companies would likely have to come from a new standard-setting body — perhaps an entity under the Financial Accounting Foundation, which funds and oversees FASB, or a committee within the AICPA. There is also the possibility of a board independent of undue influence from any existing governmental, commercial or professional organization.

Melancon is confident that if a new entity is created to write a new set of standards, the institute should be the organization that oversees it. The institute’s Auditing Standards Board is currently preparing to consider special auditing standards for non-public companies. Melancon sees the possibility of a similar structure for accounting standards.

“While the ASB is technically within the AICPA, and we support it, its activities are autonomous,” Melancon said. “Our governing council and staff cannot go into the standard-setting body and say, ‘You need to make this decision.’ The decision is made in the sunshine, through a deliberative process, with exposure and public comment. Our bylaws give us the ability to designate that body and have it serve in the public interest.”

At FASB, board member Michael Crooch sees little need for more standards. “My advice would be to be sure this is demand-driven,” Crooch said.

“Differential accounting sounds good when you talk about it, but when the alternatives are actually presented to the people who would be asked to follow the new principles, it’s never had a lot of traction. The issue has been addressed many times before, but it has never gotten anywhere. It could be — and I don’t have any facts — but it could be that the mood of the country has changed,” he said.

John Wulff, chair of Hercules Inc. and a former FASB member who resigned before the end of his term, sees the call for differential reporting as an opportunity. “I think it’s appropriate and positive to have a robust dialogue about differential reporting, the pros and cons and the reasons for raising the issue in the first place,” Wulff said.

“I would very much like to see the outcome of that dialogue be a commitment from FASB to seize the opportunity for improvement, and come up with standards that are useful to the private and public company sectors. I’m not a believer in differential reporting, but I think private companies are raising issues of cost-benefit and the usefulness of information that the board ought to take a look at,” he added.

Balhoff said that slicing out private-company accounting from the purview of FASB would make the board’s job easier. Statements would not have to be fashioned to fit companies of all sizes and functions. At the same time, it would become easier to converge with international standards. It might also alleviate one shortcoming of the board — its inability to attract board members and staff from small accounting firms.

On the other hand, a new set of standards would bring its own set of problems.

Auditors would have to learn two kinds of accounting. Educating accountants, auditors and financial analysts would be more difficult. Financial numbers in public and private companies would not be immediately comparable. Private companies going public would need to generate new financial statements. In fact, their current numbers would have to be converted to meet the new principles.

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