FASB proposal to delay accounting standards could cause headaches for investors

Moody’s Investors Service is objecting to a proposal from the Financial Accounting Standards Board to delay the effective dates of its leases, hedging and credit loss standards for private companies and small public companies, saying it would reduce the comparability of financial statements of public and private companies for investor and delay IPOs and mergers.

At a meeting last month, FASB voted to defer the effective dates of four standards for private companies, nonprofits and smaller reporting companies: leases, hedging, credit losses (also known as CECL for the current expected credit loss model it uses) and long-duration insurance contracts such as life insurance (see FASB to propose delays in major accounting standards). FASB subsequently unveiled the formal proposals as proposed accounting standards updates this month (see FASB issues proposal to delay new accounting standards and FASB proposes to delay insurance accounting standard). FASB typically gives private companies an extra year to implement major new accounting standards after the effective date for public companies.

The proposals would give private companies and nonprofits at least two years beyond the effective date for larger public companies, as well as extend the effective date for smaller reporting companies (those with a public float of less than $250 million; or annual revenue of less than $100 million and either no public float or a public float of less than $700 million). FASB is proposing a new philosophy of staggering the effective dates for major standards between larger public companies and all other entities, including private companies, smaller public companies, not-for-profits and employee benefit plans. Under this philosophy, a major standard would first take effect for larger public companies, and then, for all other entities, FASB would consider requiring an effective date staggered at least two years later. Generally, it’s expected that early application would continue to be permitted for all entities.

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Moody's Investors Service headquarters in New York

Moody’s thinks this new approach could have some negative effects on the capital markets. "The proposal — initiated to give smaller companies more time to implement the new accounting changes — would hinder the credit analysis process by compromising comparability between public and private issuers and delaying, for adoption laggards, the enhanced disclosures these new standards bring," said Kevyn Dillow, a Moody's senior accounting analyst, in a statement. "Such delays will hurt reporting transparency, affecting a swath of non-financial corporates across different sectors.”

In a research note, Moody’s pointed out that staggering the adoption dates of the new standards would compromise the ability of analysts and investors to compare public and private financial statements, especially in sectors with public and private peer groups, such as private equity-owned companies that can be nearly as big as the largest public companies in a given sector.

Moody’s also noted that public companies face audit requirements that private companies don’t, and delaying the new accounting standards would make it harder for investors to get access to the disclosures required under the improved standards.

“Public company financial filings already provide a higher quality of transparency than those of private companies because they must comply with SEC regulations and often include internal audit controls,” said Moody’s. “These new accounting rules provide additional useful disclosures for financial analysis, and so further implementation delays will make the quality gap between these two groups that much greater during the period of staggered adoption.”

In addition, further postponing the effective dates could also complicate the prospects for M&A and IPO activity. “The delay could impact the timing of mergers, initial public offerings (IPOs) and carve-out transactions, in addition to reducing comparability and transparency of financial statements for readers,” said the research note. “For example, carve-outs have been gaining popularity in the corporate sector. These transactions occur when a part of a business is sold or spun off, and can move businesses between public and private reporting. Going forward, those involved in such transactions would have the additional burden of determining whether the appropriate version of the accounting standard had been applied. Such transactions could be delayed, or valuations compromised given the weaker quality of information that deal parties would have. Such deals could be delayed as parties try to determine how the new rules would affect the transaction.”

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