Our first objective for this column is announcing that our latest book, the Fifth Edition of The FASB: the People, the Process, and the Politics, has been published by Sigel Press.

The second is to once again explain the facts to those who continue to support convergence of GAAP and International Financial Reporting Standards, especially the chair of the Securities and Exchange Commission, Mary Jo White, and her chief accountant, Jim Schnurr. They all need to fully understand that international accounting standards are both undesirable and infeasible for many reasons, one of which is the fact that they cannot possibly overcome the many problems associated with developing efficient capital markets around the world. It just makes no sense for these leaders, and the few remaining proponents, to keep thinking it’s a good idea to have international standards.

This expanded-length column is adapted directly from an analysis in the new book.

There can be no doubt that a future frontier for any accounting standard-setters is improved financial reporting in global capital markets. Although the Financial Accounting Standards Board encountered a number of conceptual, procedural and political issues in its joint effort with the International Accounting Standards Board to converge the output of their two processes, they pale in comparison to the real issue. We now closely examine a phrase that the international board’s management and advocates frequently used to frame the discussion of that controversy.

In particular, many people argued vehemently in favor of the objective of promoting global capital market efficiency through uniform, high-quality reporting standards. We agree that this goal is worth pursuing, but we’re not at all sure whether everyone who has endorsed it has sufficiently analyzed it.

In particular, we believe that phrase devolved from a high-minded vision statement into a frequently repeated political slogan to support minimizing FASB’s role in international financial reporting and setting it up to be replaced by the IASB as the SEC’s designated standard-setting body.

The following discussions summarize why this high-level objective cannot be a suitable rationale to justify taking FASB out of standard-setting for the United States and internationally. In fact, we find it to be so seriously flawed that we hope it will never return.



We’ll start by explaining that uniformity is not all that people tend to think it is. Specifically, many, if not most, seem to believe that applying uniform financial reporting standards will inevitably enhance comparability between financial statements produced by all companies. While superficially appealing, this idea is too simplistic to be valid.

Consider the example of the existing standard (SFAS 2) that governs accounting for research and development. It requires a company to immediately expense all R&D costs except those incurred to acquire assets that it can use for other future unrelated projects. Because there are no exceptions, every company in the United States applies this standard and reports an R&D expense without regard to its R&D accomplishments.

To illustrate the difference between uniformity and comparability, suppose that two companies each spend $100 million in the same year, with one of them discovering knowledge that seems to be worth $80 million while the other has new knowledge that appears to be worth $220 million. It’s clear their financial statement information would be comparable if and only if they reported these intangible assets at their fair value and, in the first case, a $20 million loss and, in the latter, a $120 million gain from their efforts. This information would allow financial statement users to project future cash flows, with an edge going to the second company because of its better results. However, under GAAP reporting, each company reports a $100 million expense and no asset, leaving users with no way of learning from the financial statements which one, if either, is more capable of producing future cash flows.

Also consider a situation in which two companies have similar real estate holdings that are each worth $600 million after appreciating over several years since they were acquired. If one paid $200 million and the other $500 million, their GAAP balance sheets would both uniformly report these assets at their cost and no gain would have appeared on either of their income statements. Financial statement users would not have a clue that both properties have the same future cash flow potential. To add to the confusion, the company that paid less would appear to be worse off (because it seems to have less cash flow potential) and thus less valuable than the one that paid more. Now, suppose macroeconomic factors subsequently cause these properties to both decline in value to $450 million. After uniformly applying impairment accounting, the first company would not report any part of its real $150 million loss while the second would recognize only the $50 million of its loss equal to the drop in value below its $500 million original cost. Again, despite following uniform practice, their financial statements would not reveal to users that these companies have equivalent future cash flows from their properties and suffered identical losses from their declines in value.

These cases show that uniform accounting does not automatically lead to comparable financial statements. To express the point succinctly: Uniformity is necessary but not sufficient for comparability. Instead, comparability exists when all companies uniformly apply the same accounting principles that cause financial statements to contain useful information that is relevant and representationally faithful in every respect.

For the above two examples, it’s clear the companies’ financial statements would be comparable if, and only if, they report the R&D and other assets at their market values and flow the resulting gains and losses through their income statements.



When these observations are brought to bear on the movement to replace GAAP with IFRS (which really means replacing FASB with the IASB), everyone should see that the proponents for comparability through uniformity jumped right over the hard part, which is producing standards that lead to reporting fully useful information.

The immensity of this obstacle is indicated by the fact that very few existing accounting principles actually produce unequivocally useful information. That shortfall exists because the politics of standard-setting inevitably produce compromises that decrease usefulness. Further, we trace those compromises to the mistaken belief that capital market participants make decisions using only what is reported in financial statements without supplementing (or replacing) it with all sorts of other useful information they must garner from other secondary sources.



Another shortcoming in the claim that moving to the IASB from FASB would produce comparable financial reports is its adherents’ disregard for the fact that there are no means for compelling any country, much less all of them, to adopt a single set of standards. Despite the widely used (and known) practice under which countries’ regulators “carve out” parts of IFRS they find to be offensive or otherwise unsuitable in their jurisdictions, adherents for abandoning GAAP and FASB acted as if IFRS is already universally accepted and applied everywhere but the United States. This assumption flies in the face of reality because the world is presently well short of enjoying the happy situation of having truly informative financial statements anywhere, much less everywhere.



Another key part of the popular phrase used by many to justify moving to international standards asserts that having uniform, high-quality reporting standards will promote more efficient capital markets in other economies. This section shows how the fallacy in this claim further weakens the argument for global standards.

To be clear, we define capital market efficiency as the condition in which markets quickly reach well-informed equilibrium prices for securities that approximate their real intrinsic value. This condition is desirable because efficiency helps an economy generate and distribute wealth more effectively, thus increasing the standard of living for its citizens. Apart from a few who benefit temporarily (or inappropriately) from inefficiencies, efficient markets (for everything, not just capital) lead to superior social conditions.

Therefore, proponents for displacing GAAP and FASB who presented this argument were tapping into a widely held fundamental desire to make the world better for more people. It would obviously be good if economically struggling countries could have more efficient capital markets. It would also be good if investors from developed countries could access new capital markets to diversify their holdings and tap into new returns while also helping others to be better off.

As admirable as those assertions may be, those who used them to support IFRS and the IASB actually overlooked a great many other points they should have considered. We don’t know whether they acted disingenuously or were just too eager to support their position, but it’s readily apparent to us that they didn’t consider the following factors that contribute to capital market efficiency:

  • Stability. Capital markets cannot be efficient unless they exist where there is a stable currency, economy, society, government, region and world.
  • Banking system. Without a dependable banking system to provide safety for cash reserves and liquidity for settling transactions, there will be no efficiency.
  • Information infrastructure. Market efficiency can exist only in the context of rapid and dependable communication and recordkeeping systems; without this infrastructure, market participants cannot access reliable information or act on it with confidence and timeliness.
  •  Population with adequately distributed wealth. Without large numbers of buyers and sellers, a market will fall under the control of a few hyper-wealthy individuals, thus losing any chance for efficiency.
  • Regulation. Efficiency is improbable without effective regulatory systems for promoting fair dealing and providing assurance that miscreants will be dealt with quickly and appropriately; without this support, participants will be so uneasy trading in the markets that they will impose additional discounts to compensate for their risk or maybe just not trade at all.
  • Judicial system. Besides doling out punishment to wrongdoers, legitimate courts are also needed to assure market participants that they have a means of being recompensed for their damages; this system also assures both parties in contracts that they have recourse in case the other side doesn’t perform as agreed.
  • Cultural norms. Unless there is a widespread cultural value that generally demands fair dealing with others, efficiency simply will not exist because no regulatory or judicial system can possibly keep up with the volume of complaints that would surely be filed if such things as misrepresentations and breached contracts were to be completely routine. In fact, without a high social preference for fair dealing, it’s unlikely those systems would even be created.
  • Growing economy. An expanding economy is essential for market efficiency because it puts capital in the hands of more investors and creates more investment opportunities to compete with the existing ones.
  • Full and fair disclosure. Last, and perhaps even least, is the need for a system that requires and encourages managers to report openly, completely, accurately and usefully with dependability and timeliness. Without easy, even virtually costless, access to this information, participants who have private information sources will be at an advantage over those who don’t, and those who don’t have those sources will know they’re disadvantaged and will be less willing to invest unless they can extract a premium return to justify their risk. In summary, the uncertainty created by a condition of asymmetric information is anathematic to market efficiency.



This long list shows that uniform high-quality accounting and reporting standards, even if they existed, could not even begin to create efficient global capital markets on their own. The impediments to widespread efficiency are simply too extensive to overcome without decades, even centuries, of continued economic, social and political development to put these essential factors into place. Of course, improved financial reporting could begin to make its contributions much earlier, but it is pretentious at best, and deceitful at worst, to claim that global standards will be sufficient to create efficiency.

All these points show that the SEC leaders’ fixation on international standards is not supported by rational analysis. We’re also puzzled by the chair’s persistence in this unattainable quest despite the uproar created by her pressuring the Financial Accounting Foundation to contribute to the IASB’s coffers in 2014. After all, without it, there may have been no need for her to have a different chief accountant.

Next month, we’ll describe three items for FASB’s “to-do” list and show that the SEC just needs to get out of the board’s way.

Paul B. W. Miller is a professor at the University of Colorado at Colorado Springs and Paul R. Bahnson is a professor at Boise State University. The authors’ views are not necessarily those of their institutions or Accounting Today. Reach them at paulandpaul@qfr.biz.

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