Who Rules Accounting?

Congress muscles in on FASB -- again.

Meanwhile, the legislation would impose a moratorium on new FASB rules related to stock options, so if the board went ahead and mandated expensing anyway, the SEC would be barred from recognizing the rule as part of generally accepted accounting principles (GAAP).

So much for independently set accounting standards.

Back to the Future

In the face of similar pressure nine years ago, FASB’s retreat enabled it to live to fight another day. But board members and others involved in that decision now regret the move. Former SEC chairman Arthur Levitt admits that urging FASB to back off was “the biggest mistake I made” during his eight-year tenure.

The International Accounting Standards Board (IASB), FASB’s international counterpart, is clearly concerned about the impact the bill could have on accounting standards in general. “If the U.S. Congress or political authorities in other countries seek to override the decisions of the competent professional standard setters…accounting standards will inevitably lose consistency, coherence, and credibility,” warned Paul A. Volcker, former Federal Reserve Board chairman and current chairman of the foundation that oversees the IASB, in written testimony.

But Eshoo and Dreier represent districts in California where incentive stock options are still sacrosanct. And to be sure, high-tech companies, many in their early stages and strapped for cash, rely on stock options as incentives for employees as well as for executives. According to these lawmakers, expensing would hobble the ability of such start-ups to attract talent and, in turn, stifle innovation in the U.S. economy. “This is a public-policy issue,” said Dreier in his testimony at the hearing in June. “This is not an accounting issue.”

Yet it’s hard to see how accounting is not public policy when the public relies on financial statements prepared under U.S. GAAP to determine whether companies deserve its capital. In FASB’s view, options should be included in the income statement like other forms of compensation expense, because that would give shareholders a more honest picture of a company’s finances than burying the impact of options in the footnotes. Investors applaud the stance. “If the result of having [option-based pay] expensed means you do away with the plans,” says Peter Clapman, senior vice president and chief counsel of corporate governance at TIAA-CREF, “it means that it was never a particularly good form of compensation in the first place, because it shouldn’t depend on accounting treatment.”

The IASB, for its part, agrees with FASB. And there’s nearly universal agreement that the capital markets would benefit from a single global standard for financial reporting on this item as well as others.

Of course, it’s not surprising that FASB’s congressional opponents claim their legislation does nothing to compromise FASB, which was established in 1973 as a replacement for the American Institute of Certified Public Accountants’s Accounting Principles Board.

With a board of seven paid, full-time members intended to keep standard setting a function of the private sector, FASB’s structure is supposed to ensure its independence from private interests that might interfere with its primary objective of creating neutral accounting rules. And while the Securities Exchange Act of 1934 gives the SEC the authority to set standards, the commission delegates that authority to FASB.

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