The Financial Accounting Standards Board has issued an invitation to comment on how it might proceed toward simplifying the measurement of complex financial instruments.The invitation comes amid a global controversy over whether current reporting on some financial instruments at fair value may be causing volatility in securities and credit markets. The issue at FASB, however, is over the perplexing varieties of measurement.
“Right now we’re measuring a lot of similar things a lot of different ways,” said FASB senior technical advisor Ron Lott. “And the people who are trying to read the financial statements have a little struggle trying to sort what’s what — what’s measured this way, what’s measured that way, and how it all affects financial statements.”
Years ago, the board expressed an intention to move measurement toward fair value if possible, and though most professionals agree that measurement should be simplified, there is widespread disagreement on how effectively fair value could be used for all measurement.
Georgene Palacky, director of financial reporting policy at the CFA Institute Center for Market Integrity, believes fair value is the way to go.
“We think the current mixed-attribute model simply increases complexity from the standpoint of investors and probably preparers and auditors as well,” Palacky said. “Our view is that the accounting treatment should be changed so that there are fewer options, and the preferred option would be fair value. We’re very supportive of a joint project of FASB and the IASB.”
FASB and the International Accounting Standards Board have been working together to devise compatible, if not identical, standards on financial instruments and hedging. Within FASB’s ITC is an IASB discussion paper that explores problems related to measurement, intermediate approaches to simpler measurement, and the possibility of a long-term solution that uses a single measurement method for all types of financial instruments.
FASB itself is requesting comments on whether it should start a project on the measurement of financial instruments and, if so, how. It asks whether current measurement requirements are truly a significant problem, how measurement complexity rates in importance and urgency relative to other areas of financial reporting, and how, if at all, to proceed with simplification in the near term.
“The important part of this document, in my opinion, is not necessarily the text of the document itself,” Lott said. “There are no preliminary views or proposals being exposed. Some possibilities are explored, but the big thing is the question: Given all the priorities and all the things people are telling us to do, how important is this? What should we be doing over the next few years? Do you think [the standards on financial instruments] are broken enough that we ought to be fixing that, instead of other hot-button issues?”
The board also asks concerned parties to comment on the IASB’s questions, which probe into the specifics of current and possible measurement issues, including hedge accounting. The paper acknowledges the desirability and difficulty of measuring all financial instruments at fair value.
“Fair value seems to be the only measure that is appropriate for all types of financial instruments,” the paper states. “However, there are issues and concerns that have to be addressed before the boards can require general fair value measurement. It might take a long time to resolve all these issues and concerns.”
A recent informal survey of CFA Institute members depicted the recent turmoil in global capital markets, the credit crisis, an erosion of investor confidence, and investor calls for improved transparency and disclosure. It then asked whether fair value requirements for financial institutions improve transparency and contribute to investor understanding of risks. Of 1,998 respondents, 79 percent said yes.
Big Four accounting firm Deloitte & Touche is among the expected respondents to FASB’s invitation document. Though the firm has not yet formulated its response, partner Magnus Orrell thinks FASB should take on the new project.
“I think it would be hard to disagree with the feeling that there’s a need to do something about the complexity that exists in reporting on financial instruments,” Orrell said. There’s a lot of scattered guidance in accounting literature ... and there should be ways of reducing this complexity.”
FASB is expected to issue a proposed amendment to its Statement 133 on accounting for hedges and derivatives before the middle of the year. Some of that proposal’s concepts are reflected in the IASB paper. FASB’s ITC is available online at www.fasb.org.
Responses are requested by Sept. 19, 2008.
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