by Glenn Cheney

Norwalk, Conn. - If history remembers 2002 as a year of corporate scandals and bankruptcies, 2003 may be remembered as a year in which the Financial Accounting Standards Board took on some of accounting's most difficult issues.

The board isn't yet sure, but it is thinking about once again taking up the thorniest of accounting issues, employee stock option compensation. In November, the board issued a proposal to attempt to converge FASB's Statement 123 with an international standard proposed by the International Accounting Standards Board.

Convergence would likely mean amending the United States standard to require the expensing of stock option compensation and adopting the IASB formula for measuring the value of stock options.

These, however, were the very issues that enraged various factions of the accounting, investment and corporate sectors when FASB was working on its standard in the mid-1990s. In an unprecedented display of political pressure on the board, the U.S. Senate -- inspired by FASB's home-state Democratic senator, Joe Lieberman -- passed a non-binding resolution asking the board to drop the project. It was the country's most serious threat to private-sector standard-setting.

With Lieberman having announced his candidacy for the White House in 2004, and the rest of the world poised to adopt a principle that the corporate sector continues to vigorously oppose, FASB is now considering whether to once again pick up this hottest of all potatoes.

"Last year, we sent out an invitation to comment that compared our rules with the IASB proposal," FASB chair Robert Herz said. At press time, he expected comments by Feb. 1. "By March, we'll see what came back and will decide whether to propose a project to change current U.S. rules to require expense treatment. And if so, should it be the 123 approach or the IASB approach, or something in between, or what?"

As of mid-January, Herz said, most of the comment received simply expressed support or opposition to the expensing of stock-option compensation. He was still expecting more letters of substantive comment.

Response to Enron

Before the board gets around to deciding on that issue, it is expected to hand down a statement that may rub corporate accountants the wrong way. The statement will reclassify as liabilities certain financial instruments that are currently considered equities -- among them, mandatorily redeemable stock, obligations that can be settled by issuance of stock, and instruments to repurchase an entity's own equities.

"This statement may have an impact on some companies' debt-to-equity ratios," Herz said. "It may also impact the techniques some companies use to buy back their own stock, such as put options, because they will get a less favorable treatment. This would cover an Enron-type situation, such as when Enron guaranteed that if the value of its special purpose entities fell, the parent company would use its own stock to top it up. They showed this in earnings-per-share, but not as a liability."

Also related to the Enron debacle is the board's first pronouncement of the year on SPEs. The project made quick progress through the board last year. The document, Interpretation No. 46, "Consolidation of Variable Interest Entities," offers comprehensive guidance on affiliations between entities. Under the old SPE guidelines, auditors allowed companies to keep entities off their books if an outside investor put up all the equity and it amounted to at least 3 percent of total assets.

The new rule hikes that number to 10 percent and mandates that the auditor gauge whether the level of capital is enough to support the SPE or whether it requires a guarantee from the sponsoring company.

IASB projects

The board is also working on a revenue recognition project in conjunction with the International Accounting Standards Board. Herz said that FASB hopes to make "good progress" on the project but that it will take a few years to complete.

The board is also working with the IASB to converge both boards' standards, starting with several that can be readily adjusted. FASB hopes to issue an exposure draft on more than a dozen converged standards this summer.

A flood of drafts

Herz said that FASB has a trio of business combinations projects in the hopper and hopes to issue exposure drafts by mid-year. One project is on the procedures of the purchase method that will likely be required for all business combinations. Another is on combinations of not-for-profit organizations, and the third is on combinations of mutual enterprises.

By the middle of the year, the board hopes to issue an exposure draft on disclosures about fair value. It would replace Statement 107 by providing guidance on measurement, reliability and presentation in financial report footnotes.

"I think we all believe that if fair value can be reliably measured, it's a good thing to do," Herz said.

User advisory group

In December, the board formed an advisory group composed of the users of financial information. Over 30 accounting and finance professionals have signed on, and they will meet for the first time on Feb. 15, in New York.

"These are real-life users," Herz explained. "Portfolio managers, people who analyze data, hedge funds, short-sellers, rating agencies, Wall Street analysts, bank lenders. We intend to use this group pretty actively for advice on our overall agenda and for their input on specific projects as they are developed."

Pension accounting

The board's Statement 87 on pension accounting was a flaming controversy when it was developed in the 1980s. It was widely criticized for its requirement that more liabilities be accrued. The standard has been working well, however, and the financial community has been asking for an expansion and refinement of the standard. The board has asked its staff to look into whether the issue merits space on the board's agenda. A decision should be reached by the end of March.

Principles-based accounting

Late last year, the board issued an invitation to comment on the advisability and feasibility of developing accounting standards that are less detailed and prescriptive and more general and based on principles. The latter is the approach favored by the IASB.

The Sarbanes-Oxley Act of 2002 requires the Securities and Exchange Commission to investigate the feasibility of a more principles-based approach. FASB has been providing input into that investigation. The SEC is supposed to report to Congress by July.

In December, the board held a roundtable discussion on the issue. The advice was mixed. "We found general support of the concept, but skepticism as to whether it will work," Herz said. "People are nervous about this in the current environment. But most people think that, if we can do it, it will be a better system."


That "current environment" includes not just business uncertainties and the threat of war, but also the formation of the new Public Company Accounting Oversight Board. The board has yet to establish the means and scope of its oversight. It may well take on the setting of auditing standards -- a precedent that could foreshadow a move toward government control over the setting of accounting standards.

"I think for us to be successful and for the system to benefit, we, the SEC and the PCAOB need to work closely together," Herz said.

The powers behind the formation of the PCAOB have, unfortunately, not been keeping FASB in the information loop. Herz says that he knows no more than what he reads in the press. But he takes it as a compliment that the PCAOB is being modeled after FASB, and its members will receive about the same salaries.

"We need to work closely because they'll be seeing indirectly how our standards are actually being implemented," Herz said. "I want to know what they're finding. I'd like to get feedback from them and the SEC, saying, ÔHere are some problem spots we see and which you guys ought to consider.' We hear a little, but they're going to be where the rubber meets the road."

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