Checks On IASB Called For
As of next year, the International Accounting Standards Board will assume considerably more influence when its rules form the basis for a single set of global standards.
To balance this increase in power, the G20 has called for the creation of an independent monitoring body. This was necessary, said David Wright, deputy head at the EU’s European Commission internal market unit, to “depoliticize” accounting standard setters.
This follows from the G20’s agreement last September that mark-to-market rules needed to be resolutely and quickly reformed – although the aggressiveness of this stance alarmed certain parties.
“Full respect to due process is a must,” said Fernando Restoy, chairman of the Committee of European Securities Regulators and quoted by Reuters. ”The monitoring board is a very big step forward but there is room to think a bit more about the right governance structure.”
Critics in the US and worldwide blame market-to-market rules for amplifying the impact of the credit crunch by forcing banks to price assets at depressed prices, triggering fire sales to replenish capital. These rules were subsequently eased by in the US by the Financial Accounting Standards Board in April 2009.
Accountants, Washington Helping Banks Fluff Profits
Look for another rosy round of profits when banks turn in their numbers for the second quarter ending in June when it will be legal for them to improve their balance sheets by shifting losses into the future, thanks to new accounting rules passed by a one-vote margin by the Financial Accounting Standards Board (FASB).
It’s just one in a series of changes made to accounting rules that allow banks to shift or ignore losses or pretend that liabilities aren’t liabilities. The struggle for control of the financial recovery — where the money goes, how it’s counted and who survives — is nothing short of war. Truth has been the first casualty.
The latest rule change allows banks to split losses into ones that they recognize immediately and others that are pushed down the road and may pop up on the books later. It passed in April with barely any notice from the press. The accounting tricks allow banks, which may otherwise be deemed insolvent, to continue to operate. It’s a hell of a time to be an accountant.
That Wacky Leap of Faith
The Financial Accounting Standards Board (FASB) at long last eased the rule for valuing depressed long-term assets banks carry on their books.
Now bankers can declare that they’ll hang on to an asset until its value recovers. No longer will they be forced to value it at what it would sell for today on a sometimes nonexistent market.
Nonetheless the debate rages. The crux of the problem rests on whether you can trust the bankers. Some say no. Others say you need to take the leap of faith.
Putting a discussion of human nature and greed aside, rest easy. We can take the bankers at their word. As tempting as inflating the value of long-term assets in the short term may be, the FASB ensured that how banks value these asset will be on balance sheets for the whole world to see. In the current climate the number of bankers willing to defend a bogus valuation to the investment community is few and far between indeed. Besides, we really don’t have a choice.
It’s working
NRG Energy, a wholesale power generation company reported a sharp rise in first-quarter profit. Why? FAS 157.
Their tripling of net income was due to $271 million in unrealized mark-to-market gains for the first-quarter compared with $160 million in unrealized mark-to-market losses in the comparable quarter last year. Let’s do the math. A $431 million swing. Because of a change in accounting rules.
But the real good news? Income rose to $0.70 per weighted average common share, from $ $0.12 in the year-ago quarter.
The corporation wins. Employees have greater confidence that their jobs are secure. Investors are pleased. And Wall Street smiles. Everyone is happy.
Not through any largess from the FASB. Rather because a wrong was righted. NRG was able to value their long-term assets at a fair price instead of forcing them to pretend that their value is only what they could maybe sell them for today… in a down or nonexistent market.
FASB Staff Positions
The new FASB positions on impairment and fair value have been released.
- FASB Staff Positions – No. FAS-157-4
- FASB Staff Positions – No. FAS-107-1 & APB-28-1
- FASB Staff Positions – No. FAS-115-2 & FAS-124-22
FASB Modifies MTM!
FASB met this morning as Bloomberg reported in FASB Eases Fair-Value Rules Amid Lawmaker Pressure. Of interest is the new OTTI guidance added a provision that would allow financial institutons that previously recorded an OTTI charge to reclassify the non-credit portion of the charge from retained interest to other comprehensive income. This directly increases Tier 1 Capital. This was not in the FSP but we asked for it in our comment letter along with many others.
For example, the FHLB Atlanta which took a 87 million dollar charge for a 44,000 credit loss will now be able to reclassify 86.56 million into capital (unless credit losses have increased since then).
Click here to download a copy of the article.
Arthur Leavitt Has This Backwards
In Leavitt’s article, Weakening A Market Watchdog, he gets it wrong. The FASB proposals will enhance disclosure and improve transparency by demonstrating the difference between the economic value and liquidation value.
Real dollars vs. accounting dollars.
Bob Herz didn’t back down, or change position. He reiterated existing policy. This is what he said:
Financial Accounting Standards Board Chairman Robert Herz defended the standards set by his independent body and suggested businesses weren’t applying them correctly. When markets dry up, management and auditors are permitted to use other factors, such as cash flow, to determine an asset’s value. They don’t have to rely solely on a price set in traded markets, Mr. Herz said. “The intent is to try to get a reasonable valuation,” he said. “I’m saying here on live public television: The standard allows for the exercise of appropriate judgment. I’m going to say that and say that again.”
I agree with Arthur Leavitt, however about the creeping politicization of the capital markets.
Market/ Government Regulators are supposed to keep a level playing field and punish rule breakers. They are not supposed to pick winners and losers, distort market price through the unintended consequence of well meaning regulation or be unwilling to change with market evolution.
By the way… There is momentum in DC for a “Global Risk Regulator”. We used to have that in the markets: It’s called “LOSS”. If you were bad at risk taking, you lost your money and were out.
We have a current environment where government is more involved than ever in the markets. Capital injections, first loss positions, conservatorship, cram down, servicer safe harbor are all current or proposed intrusions. I am not debating the merits of these programs, but they DO distort market signals.
Criticism of FASB Proposal Unfounded
The FASB released two proposed staff positions (FSPs) on Tuesday as expected to provide application guidance on determining fair value in inactive markets and on accounting for securities that are other than temporarily impaired. The FASB is seeking comments through April 1st on both proposals with the goal of finalizing at an April 2nd board meeting.
Information from the FASB and the FSP’s on the process can be found here:
http://www.fasb.org/news/nr031709.shtml
The two proposals can be found here:
http://www.fasb.org/fasb_staff_positions/prop_fsp_fas115-a_fas124-a_and_eitf99-20-b.pdf
http://www.fasb.org/fasb_staff_positions/prop_fsp_fas157-e.pdf
Jonathon Weil wrote a commentary for Bloomberg on March 18th titled “Accounting Brothel Opens Door for Banker Fiesta” where he calls the new FSP’s the dumbest, most bankrupt proposal of the “Fraudulent Accounting Standards Board’s” 36 year history. However, the basis for his conclusion is based on a misinterpretation of the proposals. Weil writes, “So, if these rules had been in place last year, a company that still owned shares of AIG or Fannie Mae, for instance could exclude those stocks’ price declines from net income entirely. It would make no difference that the companies were seized by the government last year, or they are both penny stocks. The loss would get buried away from the income statement, in a balance sheet-sheet line called “accumulated other comprehensive income.”
This is wrong. Actually, any loss related to an other than temporary impairment (OTTI) stays right on the income statement in the new proposal. In fact, the new proposal provides more transparency as the components of the loss are broken out between credit and non-credit components. Any investor would certainly find that information more meaningful. Read more
From THE Chairman from the FASB regarding “valuation”
Today, in a WSJ article, Regulators Draw Fire in Congress, Bob Herz, Chairman, suggests that preparers and auditors are not using enough flexibility in Level 3 pricing calculations…
Defenders of mark-to-market rules said it is the most-accurate way to put a value on a company, and weakening the principle would mask bad balance sheets and undermine confidence in the markets.
Financial Accounting Standards Board Chairman Robert Herz defended the standards set by his independent body and suggested businesses weren’t applying them correctly. When markets dry up, management and auditors are permitted to use other factors, such as cash flow, to determine an asset’s value. They don’t have to rely solely on a price set in traded markets, Mr. Herz said.
“The intent is to try to get a reasonable valuation,” he said. “I’m saying here on live public television: The standard allows for the exercise of appropriate judgment. I’m going to say that and say that again.”
FASB Changes
Chief Executive Officer Richard S. Berg talks about whether or how the FASB changes will help the current economic situation.
