Clear, accurate financial reporting is an indispensable component of sound corporate governance and crucial to the health of the capital markets. Accounting depicts corporate performance in financial terms. Institutional investors rely on audited financial statements when making investment decisions. The well-being of the financial markets depends directly on the quality of the information contained in audited financial statements and related disclosures.
Accounting rules aim to ensure consistency and comparability in corporations’ disclosures of assets and liabilities on their balance sheets and income and expenses on their earnings statements. In the United States, public company accounting rules are governed by a set of standards known as Generally Accepted Accounting Principles (GAAP) developed by the private, non-profit Financial Accounting Standards Board (FASB). Those standards are not set in stone, however; GAAP allows for some degree of flexibility in the way items are recognized, measured and defined.
Taken to extremes, that flexibility can cause reporting to be misleading and mask poor results or financial wrongdoing. Accounting shenanigans at Enron and a slew of other companies cost shareowners millions of dollars in investment losses and undermined confidence in U.S. financial markets. The scandals led Congress, in 2002, to pass the Sarbanes-Oxley Act, a law aimed, in part, at stiffening the spines of accountants, especially auditors. SOX, as it is often called, created a regulator for the auditing profession, the Public Company Accounting Oversight Board. It bars independent auditors from most consulting work for companies they audit. And it requires auditors to report directly to audit committees of corporate boards, rather than management.
To read CII General Counsel Jeff Mahoney's testimony before the Aug. 4, 2008 SEC roundtable discussion on accounting issues click here.
Independence of Accounting Standards
The Council believes that the responsibility for establishing accounting and auditing standards should reside with independent private sector organizations. To read the Council's policy on Independence of Accounting and Auditing Standard Setting please visit the Council Policies page.
International Convergence of Accounting Rules
Historically, accounting rules and practices have differed widely from country to country. But today, globalization is driving demand for uniform financial reporting standards. The most widely accepted set of accounting standards currently are the International Financial Reporting Standards (IFRS) issued by the independent London-based International Accounting Standards Board (IASB). More than 100 countries, including European Union member states, either use or plan to adopt a version of IFRS rules. The Securities and Exchange Commission (SEC) is currently considering whether U.S. companies should have the option or be required to prepare their financial statements using IFRS in the near future. To learn more about international convergence, please visit the International Accounting Convergence page.
Fair Value Accounting
The global financial crisis prompted many financial institutions to push back against fair value accounting for financial instruments, commonly known as “mark-to-mark.” Fair value accounting requires banks, securities firms and insurers to use market prices (or other market inputs) to determine the value of financial assets. The Council believes that fair value accounting provides the most accurate assessment and that investors have the right to know what price an asset could fetch in the current market. On July 11, 2008, the Council issued an independent white paper on fair value accounting.
Many banks have complained, however, that when there is little or no market for certain financial assets such as during the recent credit crunch, fair value accounting forces them to slash the book value of these hard-to-value assets, unnecessarily depleting their capital. They accordingly pressed for a suspension of fair value accounting rules.
The Council opposed this move and on Oct. 1, 2008, issued a joint statement, with the Center for Audit Quality and the CFA Institute, affirming the utility of fair value accounting for investors.