The Convergence Blog™

SEC to FPIs: No need to reconcile IFRSs to U.S. GAAP

On November 15, 2007, the U.S. Securities and Exchange Commission (SEC) voted unanimously to accept from "foreign private issuers" (FPIs) financial statements that are prepared using International Financial Reporting Standards (IFRSs) as issued by the International Accounting Standards Board (IASB) without reconciliation to U.S. Generally Accepted Accounting Principles (GAAP). The SEC's vote represents the official adoption of a rule change that had been proposed earlier this year (see my blog post on the proposal here).

FPIs are private-sector companies based outside of the United States that, for a variety of possible reasons, fall under the jurisdiction of the SEC. Prior to the SEC's vote, FPIs had been required to file either (1) financial statements prepared in accordance with U.S. GAAP or (2) financial statements prepared in accordance with other standards plus a reconciliation of those statements to U.S. GAAP. Now, FPIs that prepare financial statements using IFRSs as issued by the IASB will no longer need to supply a U.S. GAAP reconciliation -- IFRS statements will be accepted "as is" by the SEC.

In contrast to the multiple filing options available to FPIs, domestic companies that fall under the jurisdiction of the SEC have no choice regarding the standards that they must use when preparing financial statements. All U.S. issuers continue to be required to prepare financial statements in accordance with U.S. GAAP.

The SEC's action had been widely expected. However, at the meeting in which the SEC voted to adopt its previously-proposed rule change, the SEC's staff introduced two "surprises," both of which were approved as a result of the subsequent vote. The first was a recommendation that the rule change should be effective immediately. This significantly accelerated the attainment of the objective of the SEC's "IFRS Roadmap," which had targeted the reconciliation requirement for FPIs who prepare financial statements using IFRSs to be removed by 2009. Thus, as adopted, the rule change provides IFRS-filing FPIs with relief from the requirement to provide a U.S. GAAP reconciliation for financial statements covering any fiscal year that ends after November 15, 2007.

The second surprise gives FPIs yet another filing option, albeit a temporary one. During the next two years, the SEC agreed to accept from FPIs financial statements prepared using IFRSs as adopted by the European Union if those statements are accompanied by a reconciliation to IFRSs as issued by the IASB. While this concession to European issuers is likely to have virtually no impact in practice, it was a moral victory for those who had advocated such permissiveness in the face of widespread opposition to the SEC's recognition of so-called "jurisdictional IFRSs."

The SEC's press release regarding its action also contains some surprises. First, there is no mention of the temporary concession made for FPIs preparing financial statements in accordance with IFRSs as adopted by the European Union. Second, the press release characterizes the SEC's action rather oddly -- the headline reads "SEC Takes Action to Improve Consistency of Disclosure to U.S. Investors in Foreign Companies." I'm baffled by the "Consistency" part.

From a historical perspective, the SEC's decision is truly unprecedented. No issuer has ever been allowed to prepare financial statements using standards other than U.S. GAAP without being required to reconcile those statements to U.S. GAAP. The decision is also unusual in that the SEC is giving some issuers a significant filing option that is unavailable to other issuers, i.e., foreign issuers may now choose between IFRSs and U.S. GAAP while domestic issuers must continue to use U.S. GAAP.

For anyone who wants to see and hear exactly what transpired in Thursday's meeting, here's a link to a recorded version of the original webcast. The portion of the meeting related to the rule change for FPIs begins 55 minutes into the recording and ends at 2:34. Bonus: Watch for an "America's Funniest Videos" moment between 1:54 and 1:55 during Commissioner Atkins' Q&A.

Next Week: My post-Thanksgiving post will address the implications of the SEC's action for both public and private U.S. companies.

Improve and Adopt: The Future of IFRSs in the U.S.

On October 24, 2007, the Securities, Insurance, and Investment Subcommittee of the U.S. Senate Committee on Banking, Housing and Urban Affairs held a hearing on "International Accounting Standards: Opportunities, Challenges, and Global Convergence Issues" in Washington, DC [see the hearing web page]. Here are some highlights of the testimony provided at that hearing:

Robert H. Herz, Chairman of the U.S. Financial Accounting Standards Board (FASB): "[W]e do not support permitting U.S. companies a choice between IFRS and U.S. GAAP for any extended period of time. Rather, we believe it would be preferable to move all U.S. public companies to an improved IFRS over a transition period of several years following the blueprint we are advocating be developed."

Charles E. Landes, Vice President, American Institute of Certified Public Accountants (AICPA): "I want to state as directly as possible that the AICPA supports the goal of a single set of high-quality, comprehensive accounting standards to be used by public companies in the preparation of transparent and comparable financial reports throughout the world. The debate or question should no longer be whether we move to convergence of high quality accounting standards, but how soon we can accomplish convergence. . . Is there still hard work to be done towards convergence? Yes. Will there be bumps in the road as we take this journey? Absolutely. But it is a journey that must be taken."

In summary: The FASB, the AICPA, and other providers of testimony expressed strong support for the movement of all public companies away from U.S GAAP to an improved versions of IFRS as the only acceptable set of standards to use in preparing financial statements. And all agreed that the transition process would work better if it was based on a well-conceived "blueprint," which has yet to be developed. But while the AICPA and SEC expressed strong support for the SEC's proposal to eliminate the U.S. GAAP reconciliation requirement for foreign private issuers using IFRSs and the SEC's Concept Release regarding giving U.S. issuers an option to prepare financial statements in accordance with IFRS, other hearing participants were generally either neutral or opposed to the SEC accepting IFRS-compliant filings as-is prior to the development of an improved version of IFRSs, with respect to which U.S. GAAP will either be converged or simply no longer relevant.

Commentary: Regardless of what the SEC does in the short-term, the long-term trend is unmistakable: U.S. public companies (and possibly privately-held companies as well) will eventually use a version of IFRSs that will be significantly different from either current IFRSs or current U.S. GAAP. And it is that yet-undefined set of standards that U.S. financial executives need to begin preparing themselves and their organizations for, knowing that both U.S. GAAP and IFRSs will undergo rapid, profound change along the way.

The Challenge of Change

I write this blog primarily for financial statement preparers, but a recent high-level discussion about the impact of Convergence on financial statement auditors provides some insight into how various participants in the financial reporting supply chain view the challenge of educating, training, and developing U.S. accounting and finance professionals as U.S. GAAP and IFRSs converge.

On October 18, 2007, the Standing Advisory Group (SAG) of the U.S. Public Company Accounting Oversight Board (PCAOB) met in Washington, DC, to discuss, among other things, "Audit Implications of IFRS Financial Statements in U.S. SEC Filings." See the meeting page for links to audio recordings of the meeting and a Briefing Paper for the IFRS discussion. There's also a detailed summary of the meeting at FEI's Financial Reporting Blog.

To date, most discussions about Convergence education, training, and development (such as those held during the recent PCAOB SAG meeting) have focused on how to get accounting and finance students and professionals who are familiar with current U.S. GAAP to learn current IFRSs. But such discussions ignore a bigger issue: Because U.S. GAAP and IFRSs as we now know them will undergo rapid, profound change as they converge into a single set of global standards, accounting and finance students and professionals throughout the world will need to absorb many significant changes that will be made to existing standards, which will be a far bigger challenge than simply learning the current differences between U.S. GAAP and IFRSs. And the bigger challenge would essentially be doubled if companies are given the choice of preparing financial statements under either U.S. GAAP or IFRSs prior to Convergence.

Here are some quotes from the PCAOB SAG meeting that I found particularly relevant to the issue of educating, training, and developing U.S. accounting and finance professionals:

• Jeffrey C. Steinhoff, U.S. Government Accountability Office: "[C]hange is something that happens all the time. Accounting standards, accounting treatments, business -- it’s changing all the time. So education's a lifetime job."
• Vincent P. Colman, PricewaterhouseCoopers: "[I]f the environment is changing, . . . we must change with that environment."
• Samuel J. Ranzilla, KPMG: "[T]aking some of our people who are very good in U.S. GAAP and making them very good in IFRS is not really a whole lot about what’s in the two standards -- it’s actually much more around change management . . ."

In particular, I concur with Sam Ranzilla's characterization of the challenge as being much more about change management than about the technical differences between the two sets of standards. In my opinion, this is indeed a major issue that financial executives will need to contend with in the coming years: "How should we prepare for a future that will be very different from the present, not because we'll be adopting existing IFRSs but because the FASB and IASB are working aggressively to change both U.S. GAAP and IFRSs significantly in a short period of time in order to converge the standards with each other?"

SEC Publishes Concept Release On Allowing IFRSs for U.S. Issuers

On August 7, 2007, the U.S. Securities and Exchange Commission (SEC) published a "Concept Release" to obtain information about the extent and nature of the public's interest in allowing U.S. issuers to prepare financial statements in accordance with International Financial Reporting Standards (IFRSs) for purposes of complying with the SEC's rules and regulations. Currently, U.S. issuers must prepare their financial statements in accordance with generally accepted accounting principles as used in the United States ("U.S. GAAP").

The full text of the Concept Release is available at http://sec.gov/rules/concept/2007/33-8831.pdf.

Comments on the Concept Release will be accepted through November 13, 2007. Comments may be submitted here. Comments received to date may be viewed at http://sec.gov/comments/s7-20-07/s72007.shtml.

Commentary: For readers of The Convergence Blog, the SEC's Concept Release comes as no surprise. It underscores the fact the Convergence is not a "foreign" concept that represents a forsaking of the interests of U.S. companies and their investors. Instead, Convergence has intense support within the U.S. as evidenced by the SEC aggressive efforts to bring it about because it makes economic sesnse for U.S. investors. If the kinds of rule changes described in the Concept Release ultimately come about, U.S. issuers will have new opportunities to do something that many companies have long had the incentive to do, i.e., use a single set of financial reporting standards globally.

SEC Votes to Publish Concept Release On IFRSs for U.S. Issuers

On July 25, 2007, the U.S. Securities and Exchange Commission (SEC) voted unanimously to publish a "Concept Release" to obtain information about the extent and nature of the public's interest in allowing U.S. issuers to prepare financial statements in accordance with International Financial Reporting Standards (IFRSs) for purposes of complying with the SEC's rules and regulations. Currently, U.S. issuers must prepare their financial statements in accordance with generally accepted accounting principles as used in the United States ("U.S. GAAP").

SEC publishes Proposing Release on IFRSs for foreign issuers

On July 3, 2007, the U.S. Securities and Exchange Commission (SEC) published a "Proposing Release" on accepting from foreign private issuers financial statements prepared in accordance with International Financial Reporting Standards (IFRSs) without reconciliation to U.S. generally accepted accounting principles (GAAP). Currently, foreign private issuers (i.e., private-sector entities whose securities trade publicly in the U.S.) must either file financial statements prepared in accordance with U.S. GAAP or file statements under alternative standards and reconcile those statements to U.S. GAAP.

The full text of the Proposing Release is available at http://sec.gov/rules/proposed/2007/33-8818.pdf.

Comments on the Proposing Release will be accepted through September 24, 2007. Comments may be submitted here. Comments received to date may be viewed at http://www.sec.gov/comments/s7-13-07/s71307.shtml.

SEC votes to publish Proposing Release on IFRSs for foreign issuers

On June 20, 2007, the U.S. Securities and Exchange Commission (SEC) voted unanimously to publish a "Proposing Release" on accepting from foreign private issuers financial statements prepared in accordance with International Financial Reporting Standards (IFRSs) without reconciliation to U.S. generally accepted accounting principles (GAAP). Currently, foreign private issuers (i.e., private-sector entities whose securities trade publicly in the U.S.) must either file financial statements prepared in accordance with U.S. GAAP or file statements under alternative standards and reconcile those statements to U.S. GAAP.

SEC Chairman speaks about regulation as standards become more globalized

On May 9, 2007, at the Security Traders Association 11th Annual Conference in Washington, DC, SEC Chairman Christopher Cox spoke on the future role of national regulators as the FASB and IASB continue "to eliminate needless regulatory friction between International Financial Reporting Standards and U.S. Generally Accepted Accounting Principles." See the full text of his speech here.

Framework for Transatlantic Economic Integration

On April 30, 2007, political leaders from both sides of the Atlantic signed the "Framework for Advancing Transatlantic Economic Integration Between the United States of America and the European Union." One of the Framework's "Lighthouse Priority Projects" (i.e., "priority growth projects, selected from the existing work program and other programs within the existing transatlantic dialogue, that will significantly enhance transatlantic economic integration") is to "[p]romote and seek to ensure conditions for the U.S. Generally Accepted Accounting Principles and International Financial Reporting Standards to be recognized in both jurisdictions without the need for reconciliation by 2009 or possibly sooner." As a Lighthouse Priority Project, the parties to the Framework "resolve to achieve progress on these projects within six to eight months of the effective date of this Framework, and at latest by the time of the 2008 EU-U.S. Summit." Additionally, the Framework states "In light of the considerable differences that exist between financial market structure and regulation on both sides of the Atlantic, and given the consolidation underway globally and transatlantically in this sector, we resolve to take steps, towards the convergence, equivalence or mutual recognition, where appropriate, of regulatory standards based on high quality principles."

The full text of the Framework is available in a White House press release here.

SEC Announces Next Steps Relating to IFRSs

On April 24, 2007, the U.S. Securities and Exchange Commission (SEC) announced "a series of actions it intends to take relating to the acceptance of financial reporting in International Financial Reporting Standards (IFRS)".

This summer, the SEC will issue a Proposing Release to request public comments on the Commission's proposed rule changes that would allow foreign private issuers to file IFRS-compliant financial statements without being required to reconcile those statements to U.S. GAAP. Currently, foreign private issuers (i.e., private-sector entities whose securities trade publicly in the U.S.) must either file financial statements prepared in accordance with U.S. GAAP or file statements under alternative standards and reconcile those statements to U.S. GAAP.

The SEC will also issue a Concept Release regarding the possibility of allowing both U.S. and foreign issuers the choice of whether to file their financial statements under U.S. GAAP or IFRSs.

The planned releases follow a recent roundtable discussion of the SEC's IFRS "roadmap." The roadmap was first articulated in April 2005 by the SEC's then-Chief Accountant Donald Nicolaisen and explicitly affirmed by current SEC Chairman Christopher Cox in February 2006. The objective of the roadmap is to eliminate – by 2009 – the requirement for foreign SEC registrants who file IFRS-compliant financial statements to reconcile those statements to U.S. GAAP. The purpose of the roundtable was to identify opportunities and obstacles for the SEC to consider as it pursues the objective of the roadmap. According to Chairman Cox, "The next steps that the Commission is announcing . . . will keep us on course with the Roadmap."

The full text of the SEC's press release is available at http://sec.gov/news/press/2007/2007-72.htm.

Commentary: The SEC's announced actions indicate that they consider IFRSs to possess quality and comparability similar to U.S. GAAP. In other words, U.S. GAAP is still sufficient, but no longer necessary, to protect the interests of U.S. investors. The implications of this shift in thinking are profound. The U.S. financial reporting environment will undergo significant change, for privately-owned companies as well as publicly-traded ones, as the SEC continues to follow its roadmap.

Many U.S. CFOs were surprised by the SEC's announcements. But that just means the CFOs had been ignoring the growing momentum of a global accounting phenomenon that has been underway for decades. In contrast, everyone who was paying attention to the international convergence of accounting standards saw the 'tipping point' coming well in advance.