Sometimes after announcing they need to restate their financials, companies go into shutdown mode. For up to two years, investors won’t see a regulatory filing or hear a significant financial peep while a company tidies up its past.
The Securities and Exchange Commission’s Advisory Committee on Improvements to Financial Reporting (CIFR) hopes to reduce the frequency of these so-called dark periods. During a panel held by the Center for Audit Quality (CAQ) on Tuesday, CIFR chairman Robert Pozen suggested that some of these restatements could be resolved more easily through an 8-K filing that corrects an error but spares the company from having to go through all of its old financials with a jeweler’s loupe.
On average, restating companies make adjustments to nearly two years’ worth of financial statements, according to a new study. Some of that work may not be necessary; less than 25 percent of restatements are actually material to a company’s financial standing, say CIFR members.
In their attempt to cut down on the number of those unnecessary restatements, which has risen steeply in recent years, CIFR’s members recommended that the SEC reconsider its materiality guidelines and encourage companies to weigh their decisions on whether to restate on the needs of current investors. Investor advocates recently frowned upon those recommendations, worried that changing the SEC’s 10-year-old materiality guidance would result in less transparency.
A study commissioned by the U.S. Treasury Department released on Wednesday reports that restatements increased from 90 in 1997 to 1,577 in 2006. Business advocates have blamed the trend on various things, including increased regulation after Enron’s collapse, confusion over accounting standards, and fear over repercussions from regulators.
Panelists at Wednesday’s CAQ discussion, including Staples CFO John Mahoney, suggested that companies have adopted a defensive temperament in recent years while preparing financial statements. For instance, some restate because they’re afraid of being second-guessed by regulators — without thinking about whether the change is important from an investor’s point of view, according to James Kroeker, a deputy chief accountant for the SEC.
The Treasury’s report could help the regulators put real numbers behind their theories. Put together by Susan Scholz, an accounting professor at the University of Kansas, the study is devoid of analysis and chock-full of statistics. “The goal was to take a clear look at figures often used when discussing U.S. companies’ competitiveness and investor confidence in financial reporting,” the Treasury said in a press release.
Scholz reviewed 6,633 restatements between 1997 and 2006. Among the findings:
• Fraud was one of the reasons for 29 percent of the restatements made 11 years ago, but was only a factor in 2 percent of the 2006 restatements.
• 88 percent of restatements result in reduced income.
• Revenue-recognition changes were responsible for 40 percent of statements in the late 1990s, but fell to 15 percent in 2005 and 11 percent in 2006.
• The recent rise in restatements began in 2001, before the Sarbanes-Oxley Act was passed in 2002. Scholz attributes this growth to the economic malaise that began in 2001 following the craze and fall of Internet businesses.