Standing on Principles

In a world with more regulation than ever, can the accounting rulebook be thrown away?

The SEC, of course, says it is only doing its job. “I will admit that the SEC staff does believe that bright-lines in the standards ought to be respected — not necessarily because we like them, but because it seems appropriate to apply the standards that exist, as opposed to the ones we might wish existed,” Taub said in a June speech at the University of Southern California.

“Contrary to popular belief, I think the staff here is very good at dealing with a principles-based environment,” says Taub. “Just off the top of my head, I can count six times in the past two months when we accepted an issuer’s interpretation because they’d gone through a reasonable process to reach a reasonable interpretation, even though it wasn’t our preferred application of the standard.”

Escaping the Snarl

With so many factions at odds over so many issues, loosening the rules will require a substantial collective effort. Herz admits as much in calling for a “national initiative,” but is vague about what that would entail. Taub confirms that “a lot of people have been talking” about forming a working group that would look at ways to implement principles-based accounting. The hottest potato for any such group will clearly be how to protect every judgment from spawning an SEC enforcement case or a lawsuit without stripping the regulator of its authority or shareholders of their rights. (The last major effort of this sort, the Private Securities Litigation Reform Act of 1995, has so far done little to stem the tide of shareholder litigation.)

One thing is clear: principles are unlikely to prevent fraud any more effectively than a rules-based system does. “The fact of the matter is, if people want to falsify documents and fabricate transactions that never happened, they will do so under any accounting standards,” says Taub. But if principles won’t necessarily mean less-diligent law enforcement, they may create one enormous change: accounting standards that rely on logic rather than legalese. Groucho would approve.

Alix Nyberg Stuart is senior writer at CFO.

Fewer Rules, but More Disclosure

Notwithstanding the roadblocks, the Securities and Exchange Commission and the Financial Accounting Standards Board are set on moving toward principles-based standards and enforcement. What does it mean for finance chiefs?

First, CFOs will likely have to offer their finance staffs some education on the topic. Principles-based accounting “is something FASB talks about all the time, but around the company there are very few people who would be interested in a prolonged discussion on it,” says Lyondell Chemical controller Charles Hall. In the years ahead, accountants will also need new skill sets, predicts CVS Corp. CFO David Rickard. “In the long term, we have to make sure accountants are equipped to make judgments — maybe get them involved in strategy and give them a year or two to work on areas outside their technical training,” he says.

Second, companies can expect to be asked for even more disclosure. Even now, Scott Taub, the SEC’s deputy chief accountant, believes that some of the problems associated with too many rules could be solved through better explanations. “There’s nothing to prevent a company from adding more disclosure about financial instruments,” one of the most rule-laden areas, he notes, but companies generally stick to the minimum.

On the plus side, though, Taub says finance chiefs should also expect to have fewer restatements, since most current restatements “are just misapplications of accounting standards, not intentional deceit.” There’s also the promise of lower costs for financial reporting, because better-organized standards should require less technical expertise and make for shorter documents. — A.N.S.

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