The Big Risks of Little GAAP

Private U.S. companies and their stakeholders may soon get the "little GAAP" they have long sought. Could this dream-come-true turn into a nightmare?

The use of diverse accounting standards by private U.S. companies creates several problems for users of their statements. Under diverse standards, the reliability of reported information can and does vary greatly from company to company. Furthermore, it is difficult for users to compare financial statements across companies and over time.

Fixing the Problem

In the private-company realm, unfavorable trends in GAAP and the disadvantages of using diverse alternatives are matters of pervasive and deep concern to those who must bear the consequences first-hand. But these realities also raise public-policy issues; aligning private-company reporting with the information needs of financial-statement users and aligning its costs with its benefits would reduce capital costs and operating costs for companies that make up a large sector of the U.S. economy. As a result, economic recovery and growth could be enhanced by improving the way private-company financial accounting and reporting standards are set and used.

In December 2009, three prominent accounting organizations announced the formation of a blue-ribbon panel to investigate and recommend potential improvements to the standard-setting process for private companies in the United States. The panel’s sponsoring organizations are:
• The Financial Accounting Foundation (FAF), FASB’s parent organization;
• The American Institute of Certified Public Accountants (AICPA), a voluntary membership organization for certified public accountants; and
• The National Association of State Boards of Accountancy (NASBA), a voluntary membership organization for state-level governmental agencies that regulate the practice of public accountancy.

The panel has met publicly on four occasions. Through its consideration of input from interested parties and its own deliberations, the group has tentatively identified the following elements of a new approach to setting GAAP for private U.S. companies:
• Private U.S. companies would get a distinct little GAAP; that is, a set of standards significantly different from full or “big” GAAP, which public U.S. companies would be expected to continue using.
• Little GAAP would be defined by specifying extensive exceptions to big GAAP.
• The identification of appropriate little-GAAP exceptions would be done by a new standard-setting body separate from FASB, which would continue to set big GAAP.

Unfortunately, the path forward that the blue-ribbon panel has tentatively defined leads directly into a dense thicket of significant risks. If unmitigated, those risks are likely to thwart the panel’s best efforts. And the failure of the approach the panel is contemplating would make things worse than they are now for private companies, their stakeholders, and the U.S. economy. How? Introducing an additional set of standards without attaining pervasive acceptance and successful implementation would increase the diversity of standards used by private U.S. companies. In turn, this would further reduce comparability across reporting entities while increasing the complexity and cost of financial-statement preparation, auditing, and analysis. And the flow of capital to private companies could be disrupted at a time when our economy cannot bear such a disruption.

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