SEC Moves to Pull Plug On U.S. Accounting Standards

SEC's proposal will allow, ultimately require, Amerian companies to follow IFRS rules. The proposal will lower barriers for international investments, hopefully shoring up the status US exchanges in international listings. GAAP are based on detailed rules while IFRS is more general, which tends to inflate earnings... WASHINGTON -- The Securities and Exchange Commission sounded the death knell for U.S. accounting standards, kicking off a process Wednesday that could ultimately require all American companies to follow an international model instead. Introduced in two steps, the shift could eventually cut costs for companies and smooth cross-border investing. At the same time, investors worry it will create confusion, especially during the transition. Others critics worry that the international system offers too much wiggle room for companies, compared with the more precise rules enshrined in U.S. standards. The SEC's proposal would allow some large multinational companies to report earnings according to international accounting beginning in 2010. The SEC estimates at least 110 U.S. companies would qualify based on their market capitalization, among other factors. The agency also laid out a road map by which all U.S. companies would switch to International Financial Reporting Standards, or IFRS, beginning in 2014, at the expense of U.S. Generally Accepted Accounting Principles, the guiding light of accountants for decades. The proposals will be open for public comment for 60 days and could be finalized later this year. U.S. corporations gave the news a qualified welcome. Margaret Smyth, controller at aerospace and building-services conglomerate United Technologies Corp., said the possibility of having one set of books around the world, though still years away, would result in "tremendous savings." In the short term, Ms. Smyth said the shift would be expensive and added that "there are some issues that still need to be worked out," particularly in the realm of tax accounting. The SEC says the change will help the U.S. to compete globally because many other nations use the international standards or plan to do so. Larger companies, especially those with overseas subsidiaries, have urged the SEC to move in this direction. They hope a single accounting standard will enable U.S. investors to more easily compare a retailer in the U.S. with one in France, for example. SEC Chairman Christopher Cox noted that 100 countries around the globe use IFRS and two-thirds of U.S. investors currently own securities of foreign companies. "The increasing world-wide acceptance and U.S. investors' increasing ownership of foreign companies make it plain that if we do nothing and simply let these trends develop, comparability and transparency will decrease for U.S. investors and issuers," he said. The proposal marks the capstone of Mr. Cox's push as chairman to lower global barriers for U.S. investors. It also stems from a concern, voiced more loudly before the credit crunch took hold, that Wall Street was losing business to overseas competitors. In particular, some say the New York Stock Exchange and other U.S. exchanges have been a less attractive place for global companies to list their shares because of the distinct U.S. accounting standards. Mr. Cox will likely step down following the November presidential election and the next administration could have different priorities. But several observers say it's likely the shift to IFRS will still occur. Skeptics, even those who agree with the concept of a common accounting language, called the SEC's approach wrongheaded. Barbara Roper, director of investor protection at the Consumer Federation of America, said allowing certain U.S. companies to switch ahead of others would "shift the burden of the translation between the two accounting languages onto investors." When companies can choose which standard to use, "there's every reason to believe...they'll choose the language that paints their financials in the rosiest light," she added. The U.S. accounting system, which is ingrained in textbooks, business schools and company treasuries, is based on detailed rules, while the international system expects companies to follow broad principles. In practice, the systems differ on smaller matters, such as the timing of when a company should note any change in the value of an investment. Under U.S. GAAP, for example, research and development costs are generally treated as expenses when they occur. Under the international standards, once a project gets to the development stage the costs are spread out over time. GAAP also provides specific instructions for industries such as oil and insurance. IFRS doesn't. Higher Earnings Jack Ciesielski, an accountant and publisher of the Analyst's Accounting Observer, says accounting under IFRS tends to lead to higher earnings. He examined filings from 137 foreign companies whose shares traded in the U.S. in 2006. That was the final year that U.S. regulators required these companies to translate their books into GAAP from IFRS. Mr. Ciesielski says 63% of the companies reported higher earnings under the international standard, and the median increase was 11.1%. A move to international standards "will likely inflate the earnings of U.S. companies and mislead investors," said Gregory Pai of Paradigm Asset Management in White Plains, N.Y. On the plus side, he noted, the convergence should eventually allow multinationals to save on their accounting bills. The SEC's road map requires the two bodies that oversee U.S. and international accounting rules narrow the differences. Arnold Hanish, chief accounting officer of Eli Lilly & Co., said he wouldn't recommend that the drug maker adopt the international standards earlier, assuming it was eligible to do so. "We wouldn't be ready," he said, since the company estimates it will take two and a half years to make the shift, which he called "a massive effort." A major issue that remains to be resolved, he said, relates to how inventories will be treated for tax purposes. Big U.S. accounting firms support the push to a single world-wide rule book, and say the transition will take years. D.J. Gannon, a partner with Deloitte & Touche LLP in Washington, figures most U.S. companies aren't ready yet to switch to international accounting, and probably need five to seven years to prepare. "Education and training is a big issue," Mr. Gannon said. Independent Source The International Accounting Standards Board, the London-based body that sets the international standards, is currently funded by companies and auditing firms, while its U.S. counterpart, the Financial Accounting Standards Board, is essentially funded with a tax on companies. The SEC says finding a stable and independent source of funding for the IASB, founded in 2001, is one of the conditions it has set for going ahead with the switch. The SEC and other regulators have agreed to create a monitoring body to fund and oversee IASB. Under that structure, the SEC, which has sole oversight over the U.S. board, would be one of seven regulators overseeing the international board. Some companies, such as Microsoft Corp., say the SEC should recognize that its role would be "different and less direct" as a result. These companies urge the SEC to be cautious in writing its own guidance and interpretations of international rules. Otherwise, they say, several national interpretations of the same global rules may develop, defeating the purpose of a single standard. The SEC has been discussing a shift to a single accounting standard for years. Those efforts intensified last year when the SEC permitted foreign companies to file U.S. financial statements using the international rules. The SEC intends in 2011 to check progress on its conditions, such as independent funding for the international standards board. If it is satisfied, it would recommend starting the shift to the international standards for all U.S.-listed companies in 2014. SEC Commissioner Elisse Walter, a Democrat, called the plan momentous, but said the U.S. should vote for the switch in 2011 "if and only if" the conditions are met.