Big changes are coming for financial statements, if the Financial Accounting Standards Board's recent discussion with its advisory board is any indication.This spring, at a meeting of its Financial Accounting Standards Advisory Council, the board and staff discussed their working ideas on what statements could and should look like in the future if they are going to be useful. The discussion took place in the context of the board's joint project with the International Accounting Standards Board on financial statement presentation. It was held in anticipation of releasing a preliminary views document sometime this fall.

Those hoping this project will do nothing more than provide a light wax and buff are facing a major disappointment, if not a heart-clinching shock. A quick perusal of the briefing materials makes it apparent that the boards are aiming at a major redesign, not just an overhaul. Change for its own sake would not be good, but neither would sticking to the status quo when it has outlived its usefulness. The issue is whether such radical changes are needed.

For us, the answer should always be sought by considering the needs of society and statement users. This idea may seem obvious, but far too many times, important standard-setting votes have accommodated preparers and auditors without meeting others' needs.

Based on feedback provided by the CFA Institute, the leading association of financial analysts, the answer to whether radical change is needed is a resounding "Yes." Users have been asking for just this sort of change in the way statements are presented, and the proposal makes it clear that the boards have been listening. Thus, we applaud the current effort, and hope that not much shape-shifting compromise happens before the preliminary views release goes public. Space will not allow us to fully summarize all the improvements we noted, but we can hit the high points. We encourage you to have a look the proposal at


The document proposes a familiar set of four financial statements, including statements of financial position, comprehensive income, cash flow, and owners' equity. (The box on page 17 reproduces a chart presented to FASAC.) Most noticeable is that the first three will report more line items compared to current practice. The reason is that they will have multiple sections for disaggregating operating, investing and financing activities.

However, it's not just a simple extension of these familiar cash-flow components to the other financial statements. First, operating and investing events are presented together within a broader category called "business." The second section describes "financing" activities, and will report only transactions with creditors, while cash flows related to equity have their own section. Finally, discontinued operations and tax effects will be reported separately.

Because of the enhanced reporting in the three primary statements, the statement of owners' equity is actually more succinct. With details of equity events reported elsewhere on the other three, this one does little more than draw on those facts to reconcile the beginning and ending equity balances.


The results of applying the operating, investing and financing structure will surely surprise those who take their first look at the new balance sheet. For instance, working capital items would still come first on the balance sheet, but cash wouldn't be included because it would be classified as a financing asset. Furthermore, the boards propose presenting the working (or "operating") capital items in a single list, offsetting the assets and liabilities. Granted, most debt will be reported elsewhere in the financing section, but it is a bit shocking to see current liabilities like accounts payable and customer deposits intermingled with accounts receivable and inventory.

There would also be little distinction between current and noncurrent items within the operating, investing or financing items, at least as illustrated in the specimen statement. The discussion explains that some entities should "further classify their assets and liabilities in each category into short- and long-term categories," but does not elaborate. Apparently that will come later. However, the proposal hints that "a classified statement of financial position is not the best way to present liquidity information for all entities." (Page E1-4)


The new comprehensive income statement also would be unfamiliar, especially in light of the traditional bottom-line focus. Incorporating the operating, investing and financing trio re-arranges line items so thoroughly that it probably wouldn't be feasible to reconstruct the current GAAP net income amount that so readily mixes apples and oranges.

All this surely makes sense to users who have reported items that were classified by their nature (which part of the business), rather than their function (what the money was spent on). For example, compensation expense would be distributed among cost of goods sold, selling expenses, G&A and other expenses.

But the new format is not just about re-arranging the usual income items. It would recognize the components of other comprehensive income that are presently relegated to the balance sheet (like unrealized gains and losses) to provide a richer information set for compiling performance metrics and predicting future outcomes. This, too, is what users have been asking for.

A final thing we noted is that accountants will no longer contend with managers over whether gains or losses are extraordinary, because this category would no longer exist. Good riddance.

One implication of this redesign is that airheads in the financial press will have to give way to more thoughtful commentators who understand that traditional earnings and earnings per share are so shallow as to be empty of useful content for stock valuations. The useful facts are not in the bottom line, but in the details above it. As for the totally superficial sound bites that "XYZ fell short of/exceeded analysts' expectations," the world will be better off without them, too.


The proposal turns back the clock to 1987 by having operating cash flows reported with the direct method. This music to our ears hasn't led to dancing just yet. For those not familiar with the history, FASB proposed direct-method reporting in its exposure draft leading up to SFAS 95, with strong support from users. The board's capitulation in the final standard was a concession to preparers' alleged lack of system support for direct calculations.

Of course, direct-method line items, like cash collected from customers and cash paid to employees, suppliers and vendors, aren't exactly cryptic or arcane; rather, they're easy to understand and use. At the time, we were incredulous when so many managers publicly proclaimed that their accounting systems were so deficient. Our reaction, then and now, is that a business cannot be run effectively without this knowledge. We hope the boards maintain their resolve regarding the direct method and don't get suckered by disingenuous claims from managers who still can't track these cash flows.

In addition, the proposal suggests it would be useful to align the items on the statements of comprehensive income and cash flows in order to explain the difference more usefully than the nonsensical indirect-method tabulation. It makes perfect sense to us.

The proposed scheme for investing cash flows limits this term to describing financial investments that are not tied directly to operations. This would report capital investments like equipment purchases among the operating cash outflows, with the new bottom line for operations coming closer to the highly desired but elusive free cash flow.

We are pleased to see fixes to two long-lasting conundrums in existing cash flow reporting, in that received dividends and interest would be reported as investing inflows, while interest payments would appear as financing outflows. The current classification of these amounts as operating has never made any sense in terms of providing users with helpful information.


Of course, it's way too early to tell whether the proposal will still be intact when the boards eventually make their decision. At this point, we are optimistic. Recent FASB decisions about market-value measurement and pension reporting suggest that the members are ready to create real progress, instead of clinging to the Pitifully Old and Obsolete Principles we discussed in our most recent column. We hope this user-oriented momentum propels FASB and IASB through the statement presentation project as well.

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. Reach them at

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