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The Future of Financial Reporting 2009:
The Future of Financial Reporting 2009:
A Time of Global Financial Crisis
A discussion paper based on the British Accounting Association Financial Accounting and Reporting
Special Interest Group (FARSIG) Colloquium, 9 January 2009
About ACCA
ACCA (the Association of Chartered Certified
Accountants) is the global body for professional
accountants. We aim to offer business-relevant,
first-choice qualifications to people of application,
ability and ambition around the world who seek a
rewarding career in accountancy, finance and
management.
We support our 131,500 members and 362,000
students throughout their careers, providing
services through a network of 80 offices and
centres. Our global infrastructure means that
exams and support are delivered – and reputation
and influence developed – at a local level, directly
benefiting stakeholders wherever they are based,
or plan to move to, in pursuit of new career
opportunities. Our focus is on professional values,
ethics, and governance, and we deliver valueadded services through our global accountancy
partnerships, working closely with multinational
and small entities to promote global standards
and support.
We use our expertise and experience to work with
governments, donor agencies and professional
bodies to develop the global accountancy
profession and to advance the public interest.
Our reputation is grounded in over 100 years of
providing world-class accounting and finance
qualifications. We champion opportunity, diversity
and integrity, and our long traditions are
complemented by modern thinking, backed by a
diverse, global membership. By promoting our
global standards, and supporting our members
wherever they work, we aim to meet the current
and future needs of international business.
The paper is available in PDF from the ACCA
website at: www.accaglobal.com/general/
activities/library/financial_reporting/other
The Financial Accounting and Reporting Special Interest
Group (FARSIG) is a group set up under the aegis of the
British Accounting Association (BAA). The main purpose of
the FARSIG is to further the objectives of the British
Accounting Association and for that purpose to
• encourage research and scholarship in financial
accounting and reporting
• establish a network of researchers and teachers in
financial accounting and reporting
• enhance the teaching of financial accounting and
reporting
• provide support for PhD students in financial
accounting and reporting
• develop close links with the accounting profession in
order to inform policy
• publish a newsletter and organise targeted workshops
• develop and maintain relationships with the British
Accounting Association and the professional
accountancy institutes, and
• provide a forum for the exchange of ideas among
accounting academics.
The symposium, which is one of an annual series, provides
a forum for academic, practitioner and policy-orientated
debate. Such forums are useful for expressing and
developing rounded opinion on the current meta-issues
facing financial reporting. They are also useful in that they
serve to illustrate the policy relevance and impact of
current academic thinking and outputs in accordance with
The Economic and Social Research Council (ESRC)/
Advanced Institute of Managament (AIM) calls for relevant
and rigorous research through a combination of
practitioner and academic perspectives.
We would like to express our thanks to the five main
contributors, both for their presentations at the symposium
and for their subsequent time and comments during the
development of this discussion paper. We have tried
faithfully to capture the flavour of the original presentations.
Nonetheless, although we ran our commentary of the
presentations past the original authors, any errors or
omissions remain our own. We would also thank ACCA for
hosting the symposium and for its support in the
publication of the discussion paper. Finally, for any readers
who wish to learn more about FARSIG or to become a
FARSIG member, please contact either of the authors.
Mike Jones ([email protected]) is chairman
and Richard Slack ([email protected]),
secretary to the FARSIG Committee.
© The Association of Chartered Certified Accountants,
December 2009
The Future of Financial Reporting 2009:
A Time of Global Financial Crisis
Michael John Jones
Professor of Financial Reporting
University of Bristol
Richard Slack
Professor of Accounting
Newcastle Business School
Northumbria University
Foreword
I am very pleased to provide a few introductory words to this report on the FARSIG symposium held in January 2009.
The theme of the future of financial reporting at a time of global crisis was very topical. The papers and discussion, well
captured in this summary, set out the main thoughts at that point, both on the role of accounting in the crisis and the
impact of the crisis on accounting. The factors which provoked a crisis on that scale and the issues that needed to be
thought about were then becoming clear and agreed upon, but the longer-term changes and preventative measures were
only just starting to be mapped out.
It is very helpful to bring together accounting academics and those in the profession with more practical perspectives to
consider these sorts of issues and the FARSIG colloquiums have been a great example of this. ACCA was therefore very
happy to sponsor FARSIG and to host this event. We hope to continue our support in coming years.
Richard Martin
Head of Financial Reporting, ACCA
2
1. Introduction
Financial reporting itself is at an interesting juncture. The
global financial crisis has meant a re-questioning of basic
issues within accounting such as measurement principles,
financial regulation, the conceptual framework and the
future landscape of global accounting standards. The
2009 FARSIG symposium was held at ACCA, London, on 9
January 2009 and focused on the impact of the current
global financial crisis on the future of financial reporting.
The symposium was thus timely to capture the current
financial situation and its significance to accounting. The
symposium enabled five key presentations to be delivered
followed by discussion. These five papers were:
1. Ian Mackintosh, ASB – The Future of Financial Reporting
in a time of Global Uncertainty.
2. Peter Holgate, PricewaterhouseCoopers – Organisational
Politics: the IASB, the FASB, the EU et al.
3. Ken Peasnell, Lancaster University – Asset
Securitization, Fair Values and the Credit Crunch.
4. Alan Teixeira, IASB – The International Spread of
International Financial Reporting Standards (IFRS):
Challenges and Opportunities.
5. Paul Moxey, ACCA – Corporate Governance and the
Credit Crunch.
The five papers and subsequent discussion expressed a
range of views on the current financial crisis and
accounting and reporting from accounting practitioners,
standard setters and academics.
Background to the symposium
The symposium was held at a particularly interesting time
both economically and politically. The world has been
buffeted by a credit crunch and this has affected all
aspects of economic and political life, including
accounting. The world’s economic crisis had begun in the
US, partly as the result of an over-heated housing market
coupled with excessive risk taking, credit availability and
lending practices within the banking sector and a surge in
the trading of credit risk derivatives. The collapse of the US
mortgage market, among other things, acted as a catalyst
that ultimately led to an international banking crisis.
However, the global financial crisis, like other financial
crises that have preceded it (most notably the South East
Asian crisis in 1997 and the Russian crisis in1998) is the
culmination of a number of interrelated factors. The
combination of these factors lead to events which could
not have been predicted. They led, seemingly inexorably, to
collapses in the world banking system, economic turmoil
and then global recession.
From early 2000, US interest rates fell steadily, from over
6% to 1% by 2004, which stimulated growth in home
ownership in the US mortgage market backed by
corresponding increases in the value of real estate. Those
involved in the housing market (banks, home buyers and
indeed governments) all seemed to believe and act as if
the cheap lending was effectively risk free, as any default
would be more than covered by the security held on the
underlying asset (real estate). This thinking led to an
environment of high-risk lending and the growth of the US
sub-prime mortgage market. In addition, to reduce
individual bank credit risk exposure, there was a
corresponding increase in the development of and trading
in credit derivative products, most notably collateralised
debt obligations (CDOs). This further increased the
interdependence within the banking sector and bank
exposure to the credit, and original mortgage, market. For
instance, in 2006 Northern Rock moved into sub-prime
lending through a deal with Lehman Brothers, who in turn
underwrote the risk.
By 2005–2006 US interest rates had steadily increased to
over 5%, owing to concerns about economic over-heating
and the need to dampen down inflationary pressures. This
general pattern of interest rate movement and real estate
growth was mirrored in the UK where interest rates fell to
3.5% by 2004 before rising to near 5% by 2006. In the US,
in particular, owing to the increased financing cost of debt,
debt default rates rose and real estate values started to fall
as the market reacted to forced housing sales and the
realisation that the housing market itself had over-heated
and that real estate was fundamentally over-valued. The
banking sector was now exposed to credit default, no
longer backed by an underlying asset value of equal or
greater value than the loan. Banks themselves had
obtained the initial finance for lending, and on-going
refinancing, through revolving credit facilities from the
wholesale money markets. As lending became exposed,
owing to credit defaults and falling real estate prices, so
liquidity in the money markets also began to tighten and
refinancing became more difficult and more expensive to
obtain. By 2007, the difficulties faced by banks – heightened
by their exposure to the US sub-prime market, and also by
their exposure and reliance on the wholesale money
markets – began to become apparent. Just prior to the
Symposium there were a number of high-profile banking
and real estate credit collapses, the most important of
which are summarised chronologically in the box.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
3
Chronology of key events in the financial
crisis
August 2007:
Liquidity in credit markets tightened. PNB Paribas
announced that three of its hedge funds were frozen owing
to the complete lack of liquidity in the asset-backed
security market, the result of US sub-prime exposure.
The European Central Bank injected 170 million euros into
the banking market to provide short-term liquidity.
September 2007:
Collapse of Northern Rock owing to lack of liquidity and
availability of finance in the wholesale money markets.
Bank of England bail-out assistance as lender of last
resort. Northern Rock was subsequently nationalised in
2008.
March 2008:
Rescue of Bear Stearns by JP Morgan Chase and US
government guarantee of $30 billion against Bear Stearns
losses.
September 2008:
Lloyds TSB takeover of Halifax Bank of Scotland.
Fannie Mae and Freddie Mac rescue by US government.
Bankruptcy of Lehman Brothers, citing bank debt of $613
billion after US government refused bail-out finance.
Merrill Lynch taken over by Bank of America.
AIG rescued by $85 billion loan from US Treasury.
Goldman Sachs and Morgan Stanley abandon their status
as investment banks.
Collapse of mortgage provider Washington Mutual; sold to
JP Morgan Chase.
October 2008:
US and European government interventions.
Approval of TARP – Troubled Asset Relief Program –
authorising the US Treasury to spend up to $700 million to
purchase distressed assets and provide banking sector
liquidity.
Similar interventions approved in Germany (500 million
euros), France (350 million euros) and Spain (100 million
euros).
Icelandic government takes control of the three largest
Icelandic banks: Landsbanki, Glitnir and Kaupthing.
4
November 2008:
G20 summit in Washington focuses on future financial
regulation.
IMF approves $2.1 billion loan to Iceland.
December 2008:
US Federal Reserve interest rate is near 0%.
The impact of the crisis initiated in the banking and real
estate sectors falls has fed through to the real economy.
Global stock markets and national economies have taken a
pounding. Economic problems have been reflected in
lower levels of corporate investment, increased
unemployment rates and a lowering of general consumer
confidence. These factors, (alongside credit availability)
have contributed to the collapse of a number of nonbanking companies in the UK, for instance, Woolworths.
The financial crisis and turmoil has wider implications for
all businesses (and for auditors in expressing an opinion
on their financial statements) with respect to the going
concern assumption. Owing to the general tightening of
credit, businesses are now faced with far greater debt
exposure, which undermines the going concern basis on
which their financial statements have traditionally been
prepared and audited.
The immediate consequences of the banking crisis led to a
focus by government and other regulatory bodies on, inter
alia, the underlying regulatory, accounting and corporate
governance aspects of the credit crunch. The risk and
reward structures within the major banks were examined,
with questions being asked about levels of risk taken and
the remuneration structures of top executives and market
traders – particularly where incentive bonus schemes were
based on lending levels. Turning more specifically to
accounting, questions were asked about the
appropriateness of the current regulatory regimes. In
particular, did existing accounting standards actually
exacerbate the situation through the accounting
recognition and measurement of derivatives and financial
instruments traded by banks prior to and during the credit
crisis? The role and influence of the international
accounting standard board was questioned worldwide, and
there was close scrutiny of recent pronouncements on
recognition and measurement issues, in particular those
on financial instruments. These issues are briefly covered
below, but were covered in more depth by the speakers.
Issues raised by the symposium
The role of accounting in the financial crisis was much
discussed during the symposium. One issue was the role
of fair value. In essence, fair value is a relatively new
measurement system that is, in the current thinking of the
standard setters, more relevant for decision making than is
historic cost.1 Those who support the use of fair value
during the credit crunch state that it merely records the
present value of assets in line with their market value and
thus serves to reflect current market conditions, so that
assets are not held at over-valued or under-valued prices
as shown on the balance sheet. However, its detractors are
concerned that assets may be recorded at fire-sale prices
that do not reflect the assets’ true value, but rather reflect
short-term volatility. An additional concern about fair value
is that pro-cyclicality (self-reinforcing trends) may occur,
resulting in a downward spiral of asset values. This could
exacerbate the financial crisis owing to asset write-downs,
and the downgrading of credit ratings based on asset
values as shown on the balance sheet. Fair value has also
led to enhanced concerns with going concern, because of
the potential for such write-downs, with potential breaches
of debt or loan covenants, and because of its possible
effect on the ability of a business to safeguard, or provide
assurances about, its future financing requirements.
Another issue was the role of financial instruments in the
crisis, and their accounting recognition and measurement,
captured in the discussion and controversy surrounding
IAS 39 Financial Instruments Amendments in October
2008. Mortgages that had been advanced by financial
institutions were wrapped up into complex packages, such
as CDOs, and sold from one institution to another, resulting
in a complex derivative market for mortgage-based,
asset-backed products. The final owners of these
securitised assets often had little idea of the true nature
and value of their assets, or of the actual or potential levels
of risk contained within the financial instrument held. This
became apparent with the collapse of Lehman Brothers
when the financial exposure of other financial institutions
to Lehman’s was not immediately known until derivative
products were unravelled. Also, too many of these assets
were held off-balance sheet which added to the
uncertainty of financial exposure and levels of risk. Other
financial instruments, such as Credit Default Swaps (CDS),
have also been subject to public scrutiny for their role in
the crisis.
1. For a detailed review of fair value and its application to accounting
measurement interested readers should see the FARSIG symposium 2008
discussion paper, The Future of Financial Reporting 2008: Measurement and
Stakeholders, and in particular the symposium papers presented by
Geoffrey Whittington and Richard Martin.
Perhaps inevitably, the standard setting bodies have also
come under close public scrutiny. The IASB in particular
has been a recent advocate of fair value accounting. The
political nature of this body is illustrated neatly by the
controversy over IAS 39, which the speakers at the
symposium discussed at length. Stakeholders in the
European Union felt that this standard on financial
instruments had been an exacerbating factor in the credit
crunch. Therefore, considerable pressure was applied to
the IASB, by EU leaders and finance ministers through the
ECOFIN Council, to change this standard and, indeed,
changes were made at very short notice. The key changes
were connected with the reclassification of financial
instruments. In its press release2 the IASB commented
that ‘these amendments are the latest in a series of steps
that the IASB has undertaken to respond to the credit
crisis and [to ensure] that European financial institutions
are not disadvantaged vis à vis their international
competitors in terms of accounting rules and their
interpretation.’ The amendments to IAS 39 introduced the
possibility for companies reporting under IFRSs to use
reclassification amendments from 1 July 2008.
However, these changes were not without a political cost,
particularly in respect of international standards
convergence with the US. There was perceived to be a lack
of due process in the IASB decision. This was particularly
important as the FASB is working closely with the US to
converge their standards in the so-called road map. This
stems from the IASB/FASB Memorandum of
Understanding after their joint meeting in 2002 and the
Norwalk Agreement, which established the commitment
towards compatible accounting standards. Each party
acknowledged their commitment to the development of
compatible accounting standards that could be used for
cross-border financial reporting. This commitment to
convergence was reaffirmed at the joint meetings in April
and October 2005, aimed at producing a common set of
high-quality global standards. In September 2008, the
IASB and FASB issued a progress report and timetable for
completion. Within a month the IAS 39 amendment had
been approved, which re-emphasised the tension and the
difficulties involved in achieving a single set of global
accounting standards. It is also unclear what the attitude
of other major global players, such as China, will be to the
IASB’s move.
Overall, therefore, the symposium came at a time of great
political and economic upheaval. It was thus particularly
interesting to have the views of five informed observers.
2. ‘IASB amendments permit reclassification of financial instruments’,
13 October 2008.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
5
2. Symposium Papers
The Future of Financial
Reporting in a time of
Global Uncertainty
Ian Mackintosh, ASB
Informed by his role as chairman of the UK Accounting
Standards Board, Ian’s presentation was based on his
insights about the present situation facing the accounting
world, some possible responses to this, the potential
scenarios that could unfold and their implications, and a
review of UK GAAP in the future.
Ian outlined the present situation with a review of recent
key events from August 2008 to date (January 2009).
August 2008
US announcement of SEC road map, being the first step
towards the US adopting IFRS and the route to increasingly
global accounting standards.
September 2008
Continuing credit crisis and falling equity markets put
more pressure on financial reporting standards, with
issues around financial instruments, capitalisation and the
rise in political significance of accounting issues (such as
fair value)..
October 2008
‘Black Monday’, IASB adoption of amendments to IAS 39
(and also IFRS 7) allowing some reclassifications in value
relating to non-derivative financial assets, loans and
receivables. The amendments were issued without the
normal exposure draft process owing to the urgency
stemming from market conditions and European
Commission pressure.
October 2008
Further pressure on the IASB from the European
Commission for further changes to IAS 39: fair value
options (FVO), embedded derivatives and impairment.
European pressure for faster change contrasted with the
opposition already expressed elsewhere, such as by the
US, to the lack of due process on IAS 39. This raised
increasing objections from other constituents over the
speed of change and the consultation process.
November 2008
SEC road map published, and a commitment made to
make a decision by 2011 over whether to or not to adopt
IFRS, but with no promises one way or the other. G20
pressure on IASB over global standards, valuation
guidance and off-balance sheet issues.
Thus the backdrop to the current situation is one of
reaction to events that are supported by some parties but
resisted by others, either in terms of the proposed changes
or whether due process was (or was not) followed. The
European Commission demands more urgency with its
continuing pressure for change, whereas the US and rest
of the world is concerned about due process. In addition,
the US is concerned with the longer-term issue of its
position on adopting IFRS. The IASB has provided a range
of responses to the present situation in response to
requests from the European Commission and G20. This
has included the IAS 39 amendments referred to above,
valuation guidance, exposure drafts on consolidations,
impairment disclosures, embedded derivatives, a proposed
exposure draft on derecognition, and a fast-track project
on fair value options. At the same, time there is also a
concern for longer-term thinking on governance.
6
The result of this is a potential ‘death-or-glory’ scenario,
summarised by Ian, as follows: ‘I believe we are in a
situation where the financial crisis the world is facing, and
the pressures the IASB are having to deal with could
ultimately lead to either the IASB securing its position as a
long-term viable global standard setter [glory], or,
alternatively, the demise of the present IASB as constituted
[death]’. Four possible scenarios and outcomes were then
presented.
Scenario 1:
Europe believes that the IASB has not responded
appropriately and/or quickly enough, and seeks its own
framework (a carve-out). Europe would no longer comply
with IFRS and as a consequence the US would lose interest
in adopting it, resulting in the demise of the vision of a
global accounting standard. Alternatively, a better result
for IASB would be that the US might persevere with its
interest in adopting IFRS but, owing to its stance, Europe
would become isolated over global accounting standard
goals.
Scenario 2:
This is a more conspiracy theory formulated scenario. The
G20 does not believe the IASB has responded
appropriately to financial reporting issues. The outcome of
which is that the G20 makes moves to take over,
reconstitute or replace IASB.
Scenario 3:
The US decides not to adopt IFRS, at least not for the
foreseeable future, and to stay with US GAAP. As a result,
US and international GAAP remain – with the IASB battling
on, working hard with other countries over IFRS adoption –
with the possible isolation of US from global accounting
goals.
Scenario 4:
The ‘glory’ scenario, where the IASB and FASB proposals
on the credit crunch and the current financial crisis are
accepted by the G20 and the European Commission and
the US moves to adopt IFRS. This is the best result, and
provides the long-term stability for global accounting
standards after the credit crunch passes. This would
represent an outstanding achievement for the present
IASB and provide it with a more appropriate forum for
political input to accounting issues. The IASB would then
have the credibility and unity to examine how its future
political influence could best be both ensured and used
through due process and potential constitutional review.
The position of UK GAAP in the future was reviewed, based
on the alternatives of death (scenarios 1 or 2) or glory
(scenario 4). Assuming glory, following a six-month
consultation period, IFRS would be extended to all publicly
accountable entities. Based on what happens at a national
level, micro entities may not need to report under IFRS at
all, and small entities may retain the Financial Reporting
Standard for Smaller Entities (FRSSE) which would be
reviewed in due course. Those that are not micro, small or
publicly accountable would report under IFRS for SMEs. At
present, there is too much irrelevant disclosure currently
required for subsidiaries under IFRS and this would need
to be rationalised. The future for UK GAAP in the ‘death’
scenarios is clearly bleak, and bad news for the City of
London as a global financial centre. The UK, possibly along
with Europe, would be isolated from the rest of the world
with the potential of the return of national standards in UK
and European countries. Any idea of global accounting
standards would clearly be ended.
Questions and discussion
A range of issues was raised following the presentation.
These have been summarised as follows.
• The reaction of China, India and Japan to current events:
all of whom were concerned over lack of due process re
the IAS 39 amendments. For Japan, there is a
Memorandum of Understanding, and the IASB is moving
ahead with this in line with a continued move towards IFRS
global adoption if scenario 4 is the outcome.
• Whether it matters if there are differences in global
standards, and the idea that competition between global
accounting bodies is a good thing rather than not. The
problem with this view is the current global disparities
between the financial positions of companies across
countries, and the consequent investment decision
problems. While national standards bodies are important,
they would still need to input into global standards.
• Increasing demands from Europe for changes in
accounting standards, and the need to manage political
pressure. Again under scenario 4, post-crisis the IASB
would emerge as a strong body and a forum for due
political input and management. If Europe were to be
isolated, then the US may take the lead on international
standards with the UK following.
• The role of the European Financial Reporting Advisory
Group (EFRAG) advice on current and future technical
issues, given the urgent adoption of the IAS 39
amendments without due process and consultation.
• The issue of reactive or proactive accounting changes and
standards in the current global financial crisis and
uncertainty. The problem with such crises is their
unpredictability, and as a result changes tend to be
reactive rather than proactive in nature. The dangers are
those of over-reaction and the potential for political
interference in such accounting changes.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
7
Organisational Politics:
the IASB, the FASB, the
EU et al.
Peter Holgate, PricewaterhouseCoopers
Peter Holgate provided a practitioner and accounting
professional insight into the current crisis, its
implications for valuation, current reporting and going
concern issues and his reflections on Ian Mackintosh’s
earlier presentation. He began his presentation by
referring to the problems arising from the huge losses on
financial assets with the associated problem of ‘thin
markets’ lacking liquidity for normal trading of (financial)
assets.
The consequent valuation and measurement problems
arising from the ‘thinness’ of markets has added another,
specifically accounting, dimension to the current
problems. Owing to the market conditions, such
transactions that have occurred have been at low prices,
but these prices have been regarded as the best indicator
of fair value. Applying these low benchmark prices has
resulted in fair value losses elsewhere. This has led to
criticisms of fair value. Some critics have argued for a
retreat to historical cost. However, Peter argued that in
the context of the current crisis we need even more (not
less) fair value information on assets and liabilities.
There has not been a wholesale rush to abandon fair value,
but a partial one; for instance, through the IASB’s IAS 39
reclassification amendment. Deutsche Bank recently
reported under this amendment. By using this
reclassification, Deutsche Bank reported a profit, whereas
without the reclassification a loss would have arisen.
However, this is really a presentational change, as all the
detail is still presented in the notes to the accounts.
However, despite the adverse market conditions and
limited application of the reclassification amendment, fair
value continues in 99% of cases. In practice, the calls for
the abandonment of fair value have translated into more
disclosure, especially of impairment values.
The need for more disclosure and the impact of the crisis
on the valuation and measurement of financial assets was
highlighted by the IASB’s new Exposure Draft, Investments
in Debt Instruments. This would use twofold disclosure of
losses on debt instruments – against amortised cost and
against fair value. However, despite advocating more
disclosure, the Exposure Draft was not supported for a
number of reasons. First, the time for consideration and
comment was limited to only a three-week exposure time,
from 23 December 2008 to 15 January 2009. As well as
worries over the abbreviated exposure draft time, there
were concerns over the extended scope of the Exposure
Draft, which had been widened to other debt securities
(‘scope creep’), and the practical difficulties of application.
These difficulties would be even more pronounced if any
revised standard were to be applicable immediately, that
is, to 2008 year ends – indeed, such implementation
would be almost impossible to achieve, as to collect the
data in such a short time-frame appears infeasible. 3
Peter then discussed what is currently happening in year
end reporting and the issue of the going concern basis of
preparation and its implications for the audit opinions.
From a practice perspective, there is now a lot more
scrutiny and detailed disclosures of the impairment of
financial assets, property, plant and equipment and stock.
The calculations and disclosures are not new but are
particularly important in sectors such as construction
where, if value in use (present value of cash flows) is being
used, it becomes a very difficult exercise to estimate future
cash flows and hence asset valuation.
With regard to the going concern basis for the preparation
of accounts, if there are significant doubts then there is a
need not only for detailed disclosure of these doubts by
the directors, for instance, on refinancing assumptions, but
also for directors and auditors to re-evaluate normal
assumptions of going concern where appropriate. Going
concern questions are occupying firms and the profession
in general. One major issue with any question of going
concern in the audit opinion is the impact on future
financing for the business. This is thus a very sensitive
issue given that it could affect the firm’s ability to raise
future finances in an already difficult market. In the
financial sector and elsewhere auditors are drawing
3. Post-event note: in recognition of these difficulties, the IASB withdrew
these proposals later in February 2009.
8
attention to the directors’ disclosure on the availability of
financing and of the company’s ability to meet any
financing needs for the foreseeable future (12 months).
Finally, Peter made a few remarks on Ian Mackintosh’s
commentary. Ultimately it is difficult to predict which of
the four scenarios will be realised. Looking at the 2011/12
world map of countries that would potentially adopt IFRS
– the EU, Central and Eastern Europe, China, Japan, South
Korea, India, Canada, the Middle East and much of South
America – it is possible that the current dominance and
power of the IASB board of the US and EU would be
watered down. It is possible that we could see the US
retreat into isolation. If we look back a few years, Europe
was the main power bloc using IAS. If we look forwards,
however, we can envisage IFRS being used in most of the
world. The more countries sign up to IFRS, the more the
influence of the EU and the US declines. Over the last
couple of years fewer companies have been seeking to list
on the US market as foreign private issuers. This has
demonstrated the relative unattractiveness of the US
market and its potential decline in power against other
global markets.
Looking back on our current times, it may be that we will
conclude that we were naive in saying that a private body,
the IASB, could set itself up as a world body and operate
without political interference. It is hard to find other
examples of successful private sector, non-governmental
international bodies. The IASB has now become more
engaged politically, and it will need to manage this process
of engagement to ensure that it remains connected to the
political process but still is independent and respected for
that.
Questions and discussion
Issues were raised around going concern, accounting
principles, and theory and practice, as well as further
reflections on Ian Mackintosh’s earlier presentation.
• There was concern that deciding on the
appropriateness of going concern was now placing a
ridiculous burden on auditors. Thus, in the current
financial situation, what would be wrong with including
a going concern modification in the audit opinions of all
companies?
This suggestion was viewed as unrealistic. For a
number of companies, the directors are (too) optimistic.
They think they have a mixture of new financing and
asset sales in place. They think they will be all right for
the foreseeable future, and thus the going concern
basis of preparation is appropriate. However, banks
may not be as willing to provide financing as the
directors had hoped; also it may be harder than
expected to sell the assets in question. Is the board
properly disclosing to shareholders the issues and
assumptions regarding future financing? Thus it is
important that auditors are not only content with the
assumptions used by the board in preparing accounts
on a going concern basis, but also recognise the need
to evaluate the assumptions given the current financial
situation. It is not easy, but professional judgement
must be exercised and, if necessary, going concern
issues will have to be referred to in the auditor’s
opinion if there are material uncertainties or
disagreement about the basis on which the accounts
have been prepared.
• A question was raised concerning practice as against
principles. In the term ‘GAAP’, the ‘P’ means ‘Practice’
in the US, but in the UK it means ‘Principles’.
Peter expressed his personal view that he favoured
principles applied with judgement. The role of a
profession is to exercise judgement. The US profession
has problems because it has been brought up using
rules; but standards should be based on principles, not
on rules, and the use of professional judgement in their
application.
• Is the gap between theory and practice getting bigger,
especially because of impairment?
Practically speaking, impairment calculations are very
tricky, but the underlying principles are sound. Peter’s
auditing colleagues think the standards are too
theoretical and they criticise fair value in some
circumstances. While fair value disclosure is sensible,
often the presentation is very difficult, too volatile, not
realistic, with data not easy to assimilate; for instance,
the Exposure Draft on Debt Instruments referred to
earlier. Is the current financial reporting system really
broken? The amount of potential future disclosure may
also be in danger of getting out of hand, leading to a
revamping of financial statements and questions over
their usefulness.
• Finally, reflecting on Ian Mackintosh’s presentation (will
glory prevail? – scenario 4).
It is quite easy to see that the IASB is caught between a
rock and three or four hard places. If we look forward a
few years, we can easily imagine the US and Europe,
China and others all lobbying the IASB, seeking to
retain their own positions of influence. In the period
1970–1990, the standards issued by the UK Accounting
Standards Committee had to be approved by all six of
its sponsoring professional bodies, and any of them
could reject its standards. This could happen on the
international stage, and the result may be potential
fragmentation of international standards on national
lines.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
9
Asset Securitization, Fair
Values and the Credit
Crunch
Ken Peasnell, Lancaster University
Ken’s presentation focused on the current credit crunch,
the issues around asset securitisation and whether
accounting and financial reporting were in any way to
blame for the current situation. This discussion may also
serve to achieve a sense of proportion about the issues
underpinning the crisis. Ken commenced the
presentation with an appropriate quotation: ‘when you
see a depressed and lonely old man staggering away
from his local turf accountant, re-lighting half a rolled up
cigarette…you can comfort yourself with the knowledge
that (a) at least it was his own money that he wasted, and
(b) at least the horse he blew it on actually existed.
Neither of these consolations applies to failed banks’.
(Zaltman 2008) The lessons learnt from this quotation
relate to the creation of derivative products, increased
levels of risk, and undue confidence in past market
conditions and returns.
The crisis itself is a macroeconomic phenomenon caused
by a long economic boom, surging house prices and low
central bank interest rates, all of which encouraged
increasing levels of lending and resultant corporate and
private household debt. As lending rose, banks
increasingly financed this using the wholesale money
markets backed by asset securitisation (such as on
property), on the assumption that the growth in the value
of the underlying assets would continue. These boom
conditions resulted in a situation of over-confidence,
increasing levels of risk and the growth of more dubious
business dealings. However, proportionally, the American
sub-prime mortgage market represented only a small
percentage of total global debt, which made the crisis that
did arise all the more unpredictable. Indeed, it represented
the confluence and summation of a number of factors,
including those mentioned above, and was not the result of
sub-prime lending alone. When this is understood then the
challenges facing the IASB in supporting the role of
financial reporting in re-creating trust in the banking
system are evident.
The key points about asset securitisation and its growth
were then set out. First, what led to the development of
asset securitisation? Factors included: banks seeking
additional finance vehicles to back lending; investors’
appetite for derivative products; regulators seeing this as a
way of spreading risk; and governments as a way of
financing increased levels of home ownership.. However,
the risk behind asset securitisations took on unexpected
forms. Good lending practices and financial prudence were
driven out by more risky lending on the assumption of
rising asset prices used to back loans. Risk was viewed as
being spread by primary and secondary investment in
securitisations; but this is not the same as risk being
managed, so a growing false comfort resulted, with
investors more and more unable to ascertain the real
quality of the underlying assets and the actual credit rating
of secondary securitisation products.
Along with unreliable credit ratings, there were other
factors that also contributed to problems in asset
securitisation: bank bonus schemes that encouraged
excessive risk taking; lack of prudential board governance
and management; as well as the huge growth of credit
default swaps (c. $60 trillion). Hedge funds had invested in
the riskiest tranches of securitisations, typically hedged by
short positions in the ABX index. As the sub-prime
problem became evident so the market feared the
continued ability of securitisations to meet returns. This
resulted in a collapse of the securitisation market, and the
consequent funding crisis for banks that were dependent
on that market for their own financial position.
So amid this market turmoil what, if any, was the role of
accounting in the crisis? First, in the US, did the offbalance sheet treatment of securitisations mean that
10
transparency was impaired? (It should be noted that in the
UK, for instance, Northern Rock’s securitisations were on
balance sheet.) However, did the fact that US
securitisations were generally off the balance sheet delude
investors? Research by Landsman et al. (2008) suggests it
did not. Ken outlined that the research which consolidated
SPEs [Special Purpose Entities] for 112 US firms, found
that the weights attached in a residual income pricing
model to the securitized assets and liabilities were no
different to those for assets and liabilities already onbalance sheet. Other evidence also supports the view that
the securities markets are mature and sophisticated
enough correctly to value businesses, including any
securitisations (see, for instance, Nui and Richardson
2006; Chen et al. 2008).
Second, and a key problem highlighted by the crisis, under
regulatory rules such as Basel I and II, capital definitions
start with accounting numbers. Thus, there appears to be
a greater need to change the regulations rather than to
blame the accounting that results from the implementation
of such regulations. Look at the causes of the issue rather
than the symptoms.
Qualifying Special Purpose Entities (QSPEs) were then
outlined, noting the way in which they had been used, and
consequent valuation issues within the crisis. QSPEs were
meant to be purely passive pass-through vehicles for SPE
security holders. However, QSPEs were increasingly used
to handle complex bundles of securities (including
derivatives) that required active management and financial
support. Indeed, many SPEs had to be rescued by their
originators, with SPE assets and liabilities ending up back
on the balance sheet as a result, raising the question of
whether they had actually been sold or loaned in the first
place. Given their on balance sheet treatment, how were
such SPEs to be valued? It is clear that property-backed
financial assets lost value as the property and
securitisation markets fell. However, fair value estimation
becomes very imprecise in a now illiquid market suffering
from the credit crunch, ‘a fair value level 3 world’ (no
observable market data). In such an illiquid market even
with observable data (levels 1 and 2), critics of fair value
argue that true value is then understated and losses
overstated because fire sales act as a market benchmark
price on which other similar asset values are based.
The IASB response to this was encapsulated by its actions
in October and December 2008. On 13 October 2008,
amendments to IAS 39 and IFRS 7 permitted
reclassification of certain non-derivative financial assets
out of the profit or loss category, to be accounted for at
cost (and thus left on the balance sheet), and the transfer
of certain available-for-sale financial assets to loans and
receivables. Readers should also refer to the previous
commentary on Ian Mackintosh’s presentation. On 22–23
December 2008, additional amendments to IAS 39 and
IFRIC 9 were as follows:
• To require an embedded derivative to be separated out
from a host contract when a hybrid financial asset is
reclassified out of fair value through profit or loss.
• If the fair value of the embedded derivative cannot be
reliably measured, then the entire instrument cannot be
transferred
• Additional disclosures about the effects on profit or loss
of using fair value and amortised cost for debt
instruments, other than those included in fair value
through the profit or loss category.
The issues challenging accounting at present are concerns
over fair value application and whether it serves in a crisis
to understate assets and overstate losses/liabilities.
However, the stock market does not appear to believe that
fair value is understating asset values, as the shares of
59% of all banks listed in the US were trading in November
2008 at less than their book value. Clearly fair value does
work best when securities are traded in transparent, liquid
markets with readily known prices, but that is not the case
at present in a climate of uncertainty and forced sales.
Overall perhaps, this issue needs to be set against a
background of the still-primitive development of
conceptual models of measurement within accounting.
Finally, the presentation then considered measurement
issues and the importance of correlations in measurement
errors. ‘Earnings’ is the difference between two numbers
(book value at T0 and book value at T1) over a time period,
and so correlation matters. The variance in income is
found by:
var (income) = var(BV0) + var(BV1) – 2cov(BV0,BV1)
A simple worked example of uncorrelated errors and its
impact was given, where measures are unbiased and
independent (and so covariance is zero), but can vary by
+/-10%, with equal probability starting at 100 at time T0.
Book Value T0
Book Value T1
90
108
100
120
110
132
This gives us three earning situations as follows:
Earnings
Max loss = 110 at T0 to 108 atT1 = -2
Max income = 90 at T0 to 132 T1 = +42
‘True income’ = 100 at T0 to 120 T1 = +20
Thus a balance sheet error of 10% has resulted (and
magnified) in an income error with a standard deviation of
63%. If errors are positively correlated across time,
however, then the income error would be reduced. The
new disclosures will present many opportunities for this to
be researched in greater depth!
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
11
In conclusion, Ken Peasnell maintained that the nature of
the current crisis poses no new issues for financial
reporting, and is essentially a fundamental problem of
bank regulation, governance and management. However,
given the challenges that face accounting, such as those
around fair value, the IASB and FASB will need steady
nerves as they are faced with demands for change in
response to the crisis.
Questions and discussion
The questions were mainly concerned with asset value and
the underlying securities markets.
• Are securitised losses currently over-estimated? Ken
stated that clearly there is an economic risk of this
owing to the current uncertainty and the difficulties of
establishing valuations of derivatives resulting from
swap defaults and counter-party risk positions.
However, even if there is short-term market error, this
will be corrected in future, with resultant gains.
• The issues of incentives around bank profit and share
price and taking increased levels of risk were raised.
Ken stated that the risks had been thought to be
appropriately managed but, owing to more complex
counter-party risk and the falling property markets,
both the risk and market assumptions became
unrealistic as the crisis developed.
• The failure of the securities market function to provide
accurate valuations for equity investors and other debt
claims. Ken believed that while this may be a shortterm issue, the long-term position is that securities
markets are mature and sophisticated enough to
provide accurate values for financial products and
furnish accurate corporate valuations.
12
The International Spread
of International Financial
Reporting Standards
(IFRS): Challenges and
Opportunities
Alan Teixeira, IASB
The views expressed by Alan in his presentation are
based on his own personal reflections concerning global
accounting standards, as a member of the IASB. The
presentation covered three main aspects, namely: the
benefits and challenges of global standards; the FASBIASB Memorandum of Understanding (MoU); and a
review of the credit crisis, specifically the reclassification
process re IAS 39, and the steps that were taken in
relation to this.
One of the main benefits of global standards is that of the
consistency of financial reporting. Global standards are
viewed as fundamental to achieving a high-quality global
financial reporting system, which in turn results in
increased transparency. This facilitates investment, and
reduces both the cost of capital and overall reporting
costs. The move towards creating a global platform has
gathered momentum, with the establishment of, inter alia,
the IASB in 2001; EU adopting IFRS in 2002; Australia,
New Zealand, Hong Kong and South Africa committing to
adopt IFRS in 2003; and, in 2006, a Memorandum of
Understanding (MoU) between the FASB and the IASB.
By January 2009, IFRSs are used by listed entities in over
110 jurisdictions, and by unlisted entities in over 80
jurisdictions. More telling data about the adoption of global
standards are provided by Fortune Global 500 reporting
data from July 2008, and by comparing these data with
forecast reporting to 2012, based on companies’
announced plans. Using this data, at present 39% of
Fortune Global 500 companies report using IFRS or IFRS
equivalents, and this is forecast to rise to 49% by 2012.
Thirty-one per cent currently use US GAAP and this is
expected to remain at this level, and a further 31%
currently use national GAAP which is forecast to reduce to
21%. This marks a shift away from national GAAP towards
IFRS by 2012. As regards the US adopting IFRS, in
November 2008 the SEC proposed its ‘road map’, with
early adoption available to a limited group of companies
by 2009, and with a decision in 2011 as to mandatory
adoption of IFRS in the period 2014–16. This would be
conditional on progress on the FASB-IASB MoU, IASB
funding infrastructure and experience to date in the US.
Thus adoption will be influenced by progress on current
projects and is therefore tied up with issues arising out of
the current credit crisis, which formed the third part of this
presentation.
An ideal global standard would be the full adoption of IFRS
as issued by IASB as the reporting framework, with the
audit report confirming conformity to IFRSs without any
localised endorsement. The overall vision is that of a single
set of high-quality global accounting standards. This may
be difficult to achieve, however, owing to local endorsement
issues, local adaptations, translations and enforcement.
Such issues may give rise to concerns as to what
standard(s) the audit report should then refer to, and
whether users would fully understand the nuances of full
IFRS adoption against any localised versions and
adaptations used in financial reporting.
Alan then addressed the issue of adoption versus adaption
of IFRS and the use of ‘jurisdiction equivalents’. Does
adaptation really mean full adoption, the ideal scenario, or
are there national variations which potentially would be a
move away from true global standards? IFRS adaptation
refers to cases where word-for-word adoption is not used.
Local adaptations of IFRS are made and, consequently, the
entities applying these are not conforming to true IFRS,
despite their jurisdictions contending that such adapted
standards are ‘IFRS equivalent’. This problem does not
relate to differences in effective date or other transition
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
13
arrangements which may be necessary for full adoption.
Some jurisdictions can only adopt IFRS by law, and by
their nature laws are hard to update and time consuming
in process. This problem may also arise even when local
professional bodies adopt IFRS word for word. The slow
process of adoption was highlighted by the examples of
time lags relating to IFRSs and IASs not yet endorsed in
the EU including, among others, IFRS 1 and IAS 27, IFRSs
2 and 3, which were published in January 2008 and not
yet endorsed, and IASs 1, 23, 27 and 39. Even with wordfor-word adoption there may be difficulties; for example,
where the audit report and the basis of accounts
preparation in the accounting policies note still refer to
national financial reporting standards. In such a case, all
the hard work of adopting IFRS has been carried out
without realising the benefits, and the financial reports
may not necessarily be recognised as IFRS-compliant in
other jurisdictions.
Alan then highlighted two other areas of complication:
namely translation and enforcement issues. Translation
issues arise from differences between the official
translations of the IASCF and local unofficial translations,
and the context of standards in different languages. For
instance, in Germany the same word is used for
amortisation and depreciation; and for Spanish-speaking
countries, should Continental European or Latin American
words be used? Can enforcement be rigorously and
consistently applied across all jurisdictions? And what are
the consequences of non-compliance and enforcement?
Finally, Alan drew attention to the World Bank ROSC
reports (Reports on the Observance of Standards and
Codes (www.worldbank.org/ifa/rosc.html), the results of
which suggest that for many countries compliance in the
early stages of adoption is not uniform.
The second main aspect of the presentation related to the
FASB-IASB MoU. The current crisis has forced greater
focus on the core issues, which is to be welcomed, with the
detail/minutiae to be dealt with later. Overall, the MoU will
lead to an aligned conceptual framework. In the short
term, the focus is to remove selected differences in current
accounting standards, and in the medium term to issue
new joint standards where significant improvement on
current standards is required. The intention is to ensure
that during the process of convergence standards will be
developed in line with this longer-term goal and will not
need to be changed twice. This could happen if short-term
changes to standards were to be made without considering
the overall aim of convergence.
The MoU sets out the convergence programme between
the IASB and the FASB. The short-term projects were to be
completed by 2008, with convergence scheduled for 2011
when the decision for mandatory adoption (as set out
earlier) is to be made. Both the FASB and the IASB are
providing ongoing guidance and time-frames for the
completion of the MoU. A sequence of MoU milestones
were then presented, highlighting the project area,
progress towards milestones, the work done to date and
the expected future work. A number of specific examples
of these are set out below.
14
Project
Financial
statement
presentation
Milestone
2011
converged
requirements
Work done
Preliminary
Views Document
(PVD) and
Discussion Paper
(DP) issued
Expect
Exposure
Draft (ED) in
2010
Fair value
measurement
guidance
2010
converged
guidance
SFAS 157 and
DP Fair value
Measurements
issued
IASB ED in
first half of
2009
Financial
instruments
2011
converged
requirements
PVD and DP on
complexity
issued and FASB
ED on hedging
issued
Consolidation
and SPE
2010
converged
requirements
FASB EDs
revising FIN 46R
and FAS 140
IASB ED
Postemployment
benefits
2011
converged
requirements
SFAS 158 and
DP issued
IASB ED in
second half
of 2009
The outcome of convergence under the MoU is for
continued cooperation, bringing a closer alignment of
principles and development of shared standards in those
areas needing improvement. Standards would be based on
principles, not rules, and tied to the conceptual framework.
It was apt that the final part of the presentation examined
the problems caused by the current financial situation in
relation to convergence, and the tensions arising from
conflicting interests, such as US and European
Commission (EC) pressure. The key issue identified was
the reclassification out of fair value, and the events of
October 2008 and the IAS 39 amendment. Readers should
also see the issues raised by Ian Mackintosh and Ken
Peasnell in their presentations.
The continued credit crisis brought increasing demands
for reclassification from Eurogroupe (group of euro
currency member states) and ECOFIN (the Economic and
Financial Affairs Council) during the period 4–7 October.
ECOFIN is a body of the Council of the European Union
and composed of the economic and finance ministers of
the member states, and meets on a monthly basis. On 9
October, the IASC Foundation trustees supported the
accelerated steps to be taken by the IASB. A seven-day ED
was initially planned, but increasing European pressure led
to a straight amendment in order to prevent an EC ‘carveout’. On 13 October, the IASB issued revisions to IAS 39
and IFRS 7 Reclassification of Financial Assets. Owing to
EC pressure and the urgency of the situation there was no
time for consultation, and on 16 October the endorsed
standard was published in the EU, following positive advice
by the European Financial Reporting Advisory Group
(EFRAG) and a unanimous Accounting Regulatory
Committee (ARC) vote. The ARC is composed of
representatives from member states and chaired by the
European Commission. As a result of reclassification,
appropriate full disclosures will be necessary to fully
inform investors. The reclassification does, however,
address one difference between Europe and the US, but
does not create a level playing field with US GAAP. There
are so many other differences between IFRSs and US
GAAP in relation to financial instruments that the longerterm convergence goals will only be met when we have
common standards. Although this period is clearly unusual
and drastic measures were taken, the longer-term core
agenda of convergence still remains and the next few years
will be crucial in achieving progress over this.
Questions and discussion
There were a number of questions raised around the
sustainability of the convergence framework in the light of
the current crisis.
• The impact of the current crisis on short-term and
longer-term projects and the need for reflection and
transparency. Two main aspects were highlighted. First,
the need to race ahead with some short-term projects
to restore market confidence; and second, the
requirement to take a longer and more reflective view
on issues such as the conceptual framework.
• Concern over the achievability of the ideal standard of
adoption and the pragmatic need for adaption of IFRS.
While adoption may be the ideal, how many times has
this been fully achieved in practice? Often, adoption will
be nearly achieved but then there may be a change of
name, or other detail, which results in adaption. One
solution may be to make adaption more difficult, in
order to try and force full adoption of standards, but
this would depend on the solidity and stability of the
whole framework.
• Another real difficulty concerns the availability of
reliable empirical data on which to base adoption of
global standards. For instance, in relation to joint
ventures, how many European joint ventures are
currently in existence and what is their aggregate
economic value, regardless of how that is measured? If
there is a lack of such data it is difficult to identify the
extent to which there are underlying differences in
accounting – the starting point for trying to achieve a
global change in practice.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
15
Corporate Governance
and the Credit Crunch
Paul Moxey, ACCA
Paul Moxey, Head of Corporate Governance and Risk
Management at ACCA presented an overview of the
credit crunch. He discussed its root causes, stating that a
main cause is poor corporate governance. To explain this,
he looked at ten principles of good corporate governance
developed by ACCA’s Corporate Governance and Risk
Management Committee.
The last few years saw an unprecedented growth in the
size and profitability of the global banking industry.
According to McKinsey (2008), global banking profits in
2006 were $788 billion (over $150 billion greater than the
next most profitable sector: oil, gas and coal). Global
banking revenues were 6% of global GDP and its profits
per employee were 26 times higher than the average of
other industries. Some maintain that such profitability is
due to regulatory anomalies (ie lack of competition,
asymmetry of information, and externalities such as state
support in times of trouble). The governmental rescue
package has been put at $2 trillion. The cost to the global
economy may be many times greater.
ACCA has met with groups of experts and identified
several root causes of the credit crunch, including:
1. failure to manage the link between business risks and
remuneration incentives
2. excessive risk taking and short-termism resulting from
remuneration structures and bonuses
3. risk management departments clearly lacking influence
and power
4. weaknesses in reporting on risk and financial
transactions
5. poor oversight by senior executives, and lack of
challenge by independent non-executive directors
6. a general lack of accountability.
These factors, combined with imperfections in regulation
and monetary policy, led to an excess of money supply
and, ultimately, to the market dislocation. Further
contributory factors were:
1. product over-complexity and lack of managerial
understanding of the associated risks
2. excessive leverage
3. interconnectedness of financial institutions
4. misalignment between the interests of the different
parties involved in complex financial products
5. complacency after a prolonged bull market
6. failure to appreciate cultural factors, such as human
greed.
16
Previous financial episodes – such as the savings and
loans bank crisis in the US in the late 1980s, the East
Asian crisis in the late 1990s and the failure of Enron and
WorldCom – taught us the importance of sound corporate
governance and risk management. We did not learn the
lessons in the past: we must do so now.
ACCA’s Corporate Governance and Risk Management
Committee Agenda contains 10 principles of good
corporate governance. The principles are set out here in
the order given in the presentation, and are therefore not
in numerical order (further, not all of the principles are
detailed in this commentary). For a detailed discussion of
all of the principles readers should refer to the ACCA
Discussion Paper, Corporate Governance and the Credit
Crunch (2008).
Principle 1
Boards, shareholders and stakeholders should share a
common understanding of the purpose and scope of
corporate governance.
Good corporate governance is about boards directing and
controlling organisations in the interests of long-term
owners and accountability.
Principle 2
Boards should lead by example. Boards should set the
right tone and behave accordingly, paying particular
attention to ensuring the continuing ethical health of
their organisations.
This embraces the impact on their employees and on the
wider society. While bank boards owe their primary duty to
their shareholders, they also have obligations to other
stakeholders (eg their borrowers, employees and savers).
Principle 6
Executive remuneration promotes organisational
performance and is transparent. Remuneration
arrangements should be aligned with individual
performance in such a way as to promote organisational
performance.
Performance schemes must be based on sound principles
and applied properly. The incentive and career structure
packages of banks meant enormous rewards, discouraged
prudent risk management and worked against the
interests of other stakeholders. Risk management,
remuneration and incentive systems must be linked.
Transactions with high-risk profits should trigger smaller
bonuses than similar less risky projects and profit streams.
Risk management should be linked with remuneration
incentives. The status of risk managers should be raised
and they should advise the remuneration committee.
Principles 8 and 9
Boards account to shareholders and, where appropriate,
other stakeholders for their stewardship [and]
shareholders and other significant stakeholders hold
boards to account.
Shareholders have limited ability to influence companies
they own. Executive managements have therefore
extracted increasingly larger proportions of corporate
earnings. In addition, dispersed shareholdings create a
fundamental governance challenge, exacerbated by the
emergence of new strategies (eg derivatives) for
participating in corporate profitability. The receipt by
boards and shareholders of appropriate, clear and reliable
information on risk and financial results will help to
address both challenges.
Principle 4
Principle 3
Boards should set clear goals, accountabilities,
appropriate structures and committees, delegated
authorities and policies. They should provide sufficient
resources to enable executive management to achieve
the goals of the organisation through effective
management of day-to-day operations and monitor
management’s progress towards the achievement of
these goals.
A fundamental role of a board is to provide direction,
control and monitoring. The non-executive directors of
Enron and WorldCom failed to discharge this obligation.
Reforms, such as the US Sarbanes–Oxley Act, the EC
Corporate Governance Action Plan, and the Higgs and
Smith reports in the UK are intended to address this
failure.
Boards ensure their strategy actively considers both risk
and reward over time. Consideration of risk should be a
key part of strategy formulation. Risk management should
be embedded within organisations so that risk is
considered as part of decision making. Boards need to
understand the risks faced by the organisation, satisfy
themselves that the level of risk is acceptable and
challenge executive management when appropriate.
Banks have highly sophisticated risk-management
functions, yet recent events have illustrated their
weaknesses. The Swiss bank UBS reported write-downs of
$38 billion in 2008. Its explanation to its shareholders
provides a clear and fascinating example of risk
management failings such as the danger of having silos
within organisations.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
17
Credit ratings also seem to be widely misunderstood.Many
investors bought ‘AAA’-rated instruments with little or no
further consideration of risk, thinking that such
investments were totally ‘safe’.
A low-inflation environment stimulated a desire to look for
new ways to generate yield (eg derivatives). Huge increases
in computing power added to complexity by generating
many more transactions and, thereby, apparently deep
markets. Chief executives of banks may have had
insufficient understanding of these new products.
Combined with this complexity, traders were given free
rein. The newly created yields, helped by the apparent
safety of AAA ratings, may have mesmerised top
management.
Accounting for risk is a primary driver of capital value.
Present prices, showing points rather than ranges are not
always good indicators of future asset values. Many of the
risk management tools, such as value at risk, assume an
‘efficient’ market predicated on the existence of normal
distribution, which is not always the case.
Principle 7
The organisation’s risk management and control is
objectively challenged, independently of line
management.
Boards and their audit committees receive a massive
amount of information on risk, and not all of it is useful.
The information is rather like pieces of a jigsaw puzzle.
Unfortunately, the audit committee does not have the box
with the picture of the puzzle on it; nor does it know how
many pieces there are; nor whether all the pieces are from
the same puzzle. It is also tempting for managers to make
sure that information prepared for non-executive directors
does not raise too many difficult questions.
The use of fair value can lead to some odd results.
Concerns about a bank’s credit worthiness concerns can
reduce the ‘fair’ value of a bank’s own debts. Strangely, a
bank can even report a ‘profit’ on the reduction. A KPMG
report (2008) noted that twelve European banks
recognised such gains in 2007 (the largest such gain being
£1.5 billion). For three banks this was more than 12% of
pre-tax profit.
Recent events have highlighted the fragility of financial
institutions. Banks, by their very nature, borrow short and
lend long. Few banks can withstand a sustained run on
their deposits. Preparing accounts on a break-up basis, or
with a going concern qualification, would not help and
could itself precipitate collapse. However, the fact that
auditors have not qualified failing banks’ financial
statements is of concern to users, who need to know
whether an organisation will continue as a going concern.
The credit crunch has posed other challenges for
accountants. It may be time to take a more fundamental
look at accounting by asking some basic questions.
1. What is the purpose of accounts? Is it to reflect an
accurate picture of the past, inform the present, or help
predict the future?
2. Is a set of accounts expected to do too many things?
What responsibility do accountants have for the use of
accounts?
3. What are the expectations of users? Are they realistic in
the light of the credit crunch?
4. Should accounts pay more attention to cash?
5. If accounts are to reflect risk, should they also reflect
the underlying probability or confidence?
Internal auditors must be both objective and independent.
To ensure their independence, they must not have any line
or management responsibilities. Internal audit should
include both risk management and the board’s oversight
of risk. Internal auditors should report to the non-executive
audit committee chairman rather than to an executive.
Audit committees could find their job easier if they had
access to a dedicated function, separate from internal and
external audit, bringing together all the sources of
information to create an overall assurance picture.
6. Which information on risks should be communicated?
At a recent debate held by ACCA, IFRSs were said to have
added to the complexity and length of reports, but not to
their clarity or ease of understanding. Accounts do not
differentiate between price and value and nor provide a
proper snapshot of either. The price of the UBS writedowns was calculated in early 2008 as $38 billion but
these are not actually losses. It is also unclear whether the
accounts of the banks which recently posted large writedowns have overstated profits in the past, or whether the
write-downs and losses genuinely reflect a changed
business environment.
The banking sector has a social function. It has a licence to
operate from society and so is regulated. Regulation
strongly influences bank operations, market forces and
profitability.
18
7. How can the complexity of accounts be reduced and
their comprehensibility and value to shareholders
enhanced?
8. Is there an expectation gap with regard to audit
reports? For example, do people expect an unqualified
audit report to mean that a company will remain a
going concern?
Under the Basel Accord, capital requirements change
according to the perceived quality of an institution’s
assets. The business cycle means that a lowering of asset
quality tends to occur at the same time as a lowering of
capital through losses. Banks, therefore, need more capital
at the very time that they have less. Assets are also
reduced, so worsening the credit environment (ie the
‘pro-cyclicality effect’). Basel II arguably increased procyclicality. Inconsistencies in capital regulations
encouraged banks to use off- balance sheet vehicles to
lower the required regulatory capital. The credit crunch
revealed that, because of reputational risk or liquidity
recourse agreements, these off- balance sheet vehicles
were still organisational liabilities. We need to explore
appropriate banking balance sheet and capital
requirements.
Basel II considers assets rather than liabilities and we
probably need to consider liabilities more. Under IFRS and
fair value accounting, price changes feed straight through
to reported profits and capital requirements. This can
reinforce pro-cyclicality.
We are in danger of having a system that allows profits to
be retained in the private sector yet requires losses to be
met by the public. This is clearly unacceptable, but finding
a solution is challenging. ACCA does not claim to have a
ready answer, but believes a solution will be easier to find
if greater attention is given to the bigger picture and, in
particular, if we ensure that organisations are properly
governed, risks are more prudently managed, and
accounts and related disclosures are clearer.
Questions and discussion
Various questions were raised at the end of the
presentation and are grouped below.
• What positive incentives do directors have to do a good
job and discharge governance in an appropriate way?
From a shareholder perspective, a director may not be
acting in the interests of the shareholders and fail fully
to discharge governance requirements, but may
nonetheless make big profits.
How should people within organisations be
remunerated? Which incentives should drive
businesses? (For example, in the management of credit
risk sales representatives and organisational incentives
may not be congruent.) It is extremely difficult to be a
representative for shareholders and other stakeholders
at the same time. In the UK, we recognise stakeholders
but have not gone overboard in terms of regulatory
change. In the current situation, it is hard to find either
board directors or experienced risk managers. The
definition of risk appetite is very hard to define and
manage at all levels within an organisation.
More detail on the corporate governance and risk
discussion is provided in the ACCA discussion paper
Corporate Governance and the Credit Crunch. Other relevant
ACCA Publications are Climbing Out of the Credit Crunch
and Sure Enough to be Unsure? Questions for Audit
Committees Thinking about the Credit Crisis.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
19
3. Discussion
These five papers were presented in January 2009, against
the backdrop of the credit crunch and of continuing and
persistent criticism of accounting measurement policies, in
particular the role of fair value. Each presenter took a
different approach to this issue. Peasnell provided an
academic view; Holgate gave a practitioner insight;
Mackintosh gave insights from a national standard-setting
perspective, while Teixeria provided an international
overview from the IASB. Finally, Moxey gave a summary of
a professional institute’s views, namely ACCA. A brief
précis of their presentations is provided before a
comparative overview of the five presentations.
Ken Peasnell
Peasnell’s presentation tackled key issues of the current
crisis: asset securitisation, fair values and the credit
crunch. He also focused on accounting and financial
reporting’s role in this crisis. He stated that the crisis itself
was a macroeconomic phenomenon caused by, inter alia,
surging house prices and low interest rates. This led to
increased lending which the banks financed through the
use of, and reliance on, wholesale money markets backed
by asset securitisation. The economic boom led to overconfidence. Asset securitisation was achieved by the banks
seeking new finance vehicles to back lending and the
development of more complex derivatives. Bad lending
practices drove out good. Risk was spread rather than managed.
The real quality of underlying assets and actual credit
ratings deteriorated. Lack of prudential corporate governance,
bank bonus schemes and credit default swaps also
contributed to the potential sub-prime problems. Eventually,
the securitisation market collapsed, causing a funding crisis.
Peasnell then investigated the issues relating to
accounting. First, in relation to off-balance sheet financing,
he observed that Northern Rock’s securitisations were on
balance sheet. He cited academic research in the US (eg
Landsman et al. 2008) to show that the securities markets
were mature and sophisticated enough to value businesses.
Second, in terms of the regulatory framework, under Basel
I and Basel II capital definitions start with accounting
numbers. Therefore, accounting was a symptom and not a
cause of the crisis; thus he blamed the regulations per se,
rather than accounting, and was therefore of the opinion
that the focus for change should be on regulation. Third,
Qualifying Special Purpose Entities (QSPEs) were set up as
possible financing vehicles for SPE holders. Increasingly,
however, they handled complex bundles of securities (including
derivatives) requiring active management and financial
support. Many SPEs had to be rescued: raising doubts as
to whether the original assets had been ‘sold’ or ‘loaned’.
So how should these property-backed assets be valued,
given that they have lost value? In a fair value world, fair
value estimates become imprecise in illiquid markets, with
fire sales acting as market benchmark prices. Peasnell
pointed out that the IASB response was to allow some
reclassifications of certain non-derivative financial assets
out of profit and loss to cost. In Peasnell’s view, the stock
market does not believe fair value understates asset values,
as 59% of US banks were trading in November 2008 at less
than book value. Peasnell then gave a numerical example
20
of uncorrelated errors, showing that a balance sheet error
of 10% could result in an income error with a standard
deviation of 63%. Overall, therefore, Peasnell presented
the potentially controversial view that the current crisis
posed no new issues for financial reporting and is
essentially a fundamental problem of bank regulation,
governance and management.
Peter Holgate
Holgate investigated the credit crunch crisis from a
professional firm’s perspective. He pointed out the problems
arising from huge financial losses on financial markets with
‘thin markets’ that lacked liquidity for normal trading. These
transactions at low prices have caused fair value losses. This
has led to criticisms of fair value. However, Holgate thought
we needed more rather than less fair value information on
assets and liabilities. There had been a partial abandonment
of fair value by companies such as Deutsche Bank which
reported a profit through reclassification rather than a loss.
However, fair value continues to be used in 99% of cases.
The IASB’s new Exposure Draft, Investments in Debt
Instruments, issued in December 2008, highlighted the
need for more disclosure. However, the short time period
for discussion and its extended scope led to a lack of
support. The financial problems have led to a lot more
scrutiny and detailed disclosures on the impairment of
financial assets, property, plant and equipment and stock.
There is also widespread concern with going concern as
the basis for the preparation of accounts. Negative audit
opinions might well have effects on businesses’ ability to
obtain future financing. Holgate also commented on the
world of potential IFRS adoption by 2011/2012. He thought
that the current dominance of the US and EU would be
watered down as more of the world adopted IFRS. Already,
fewer foreign private issuers were listing on the US market.
He also thought that it is hard to find examples of successful
private sector, non-governmental bodies such as the IASB.
The IASB will need to manage a policy of political engagement,
given its recent profile, and will also need to protect the
integrity and independence of financial standards.
Ian MacKintosh
Mackintosh outlined a number of potential scenarios for
standard setting, and the role of UK GAAP in the context of
current world events in accounting. He first outlined some
key recent events: August 2008, the US announcement of
a road map; September 2008, the continuing credit crisis
and falling equity markets; October 2008 ‘Black Monday’
when amendments to IAS 39 were adopted without
following due process and under pressure from the
European Commission; pressure from the European
Commission on fair value options; November 2008 US
promises to make a decision on IFRS adoption by 2011.
There is currently a difference in approach to standards
setting: the European Commission demands urgent
change while the US and the rest of the world want due
process. The US is also concerned about its future
potential adoption of IFRS. Meanwhile, the IASB provided a
range of responses to the present situation.
As a result of this Mackintosh set out four possible
scenarios. In scenario 1, Europe believes the IASB has not
responded adequately and seeks an EU ‘carve-out’. The
US would then either lose interest in IFRS, or persevere
thus isolating Europe. Under scenario 2, the G20 believes
the IASB has not responded appropriately and makes
moves to replace it. Scenario 3 sees the US isolated from
IFRS, choosing non-adoption. Both regimes, US GAAP and
IFRS, remain, with IASB continuing its efforts to win over
the rest of the world. Finally, Mackintosh presented the
‘glory’ scenario – scenario 4, where IASB and FASB
proposals on the credit crunch are adopted by the G20
and the European Commission, and the US moves towards
adoption. The position of UK GAAP under scenario 4 would
be that IFRS would be extended to all publicly accountable
entities. Micro entities might be able to retain Financial
Reporting Standards for Smaller Entities (FRSSE). Those
entities that are not micro, small or publicly accountable
could use IFRS for SMEs. Under the other scenarios, the UK
and Europe would become isolated from the rest of the world.
Alan Teixeria
Teixeria covered the benefits and challenges of global
standards, the FASB-IASB Memorandum of Understanding
(MoU) and a review of the credit crisis. Consistency of
financial reporting is the main benefit of global standards.
This will create a high-quality financial reporting systems
that will increase investment and reduce the cost of
capital. There has already been substantial progress
towards world-wide adoption of IFRS. In January 2009,
IFRS are used in over 110 jurisdictions by listed companies
and in over 80 by unlisted companies. At present 39% of
fortune Global 500 companies use IFRS, with 31% using
US GAAP and 31% using individual GAAP. The percentage
using IFRS is likely to rise. The SEC has prepared a road
map for convergence, with a decision in 2011 about
possible implementation in 2014–16. World adoption of a
single set of high-quality global accounting standards
would be ideal. However, there are problems, for example,
of local endorsement, local adoptions, translations and
enforcement. In a legalised jurisdictional framework
adoption may be slow. Some countries do not have
specialised financial terminology for translation, and
auditing standards vary globally. The FASB-IASB MoU will
lead to an aligned conceptual framework, removing selected
differences in the short term and issuing common standards
in the future. A number of firm dates are provided for
financial statement presentation, fair value measurement,
financial instruments, consolidation, SPE and postemployment benefits. A consequence of the continued
credit crisis was European pressure for reclassification out
of fair value. To prevent a European carve-out, the IASB
issued revisions to IAS 39 and IFRS 7. This amendment
addressed one difference with US GAAP, but the many other
differences would only be met with common standards.
Paul Moxey
Moxey’s presentation provided a view from ACCA. It was
given against the background of the credit crunch from a
corporate governance perspective. Moxey outlined the
unprecedented recent growth in the banking sector. ACCA
had held a number of meetings to examine and potentially
identify the key causes of the credit crunch (eg
inappropriate remuneration structures, poor risk reporting
and lack of accountability) as well as contributory factors
(eg over-complex financial products, excessive leverage,
complacency, greed and interconnected financial
institutions). We have not learnt important lessons from
the past such as the East Asia crises in the late 1990s,
Enron and WorldCom.
Against this backdrop ACCA has developed ten principles
of good corporate governance where boards direct and
control organisations in the interests of long-term owners.
Boards should be accountable and should obey the spirit
not the letter of the regulatory framework. Moxey
discussed several of ACCA’s principles and their
implications. Performance schemes should be based on
sound principles properly applied. Risk management and
remuneration systems must be linked. In addition, boards
and shareholders should receive appropriate, clear and
reliable information on risk and financial results. The
highly sophisticated risk management functions of banks
have been found wanting. A lack of understanding of new
financial products and their complexity at board level
allowed traders free rein. This was compounded by a lack
of detail on the range of risks and a belief in the efficient
market. The role of audit committees and internal auditors
needs to be strengthened. Audit committees need
unsanitised information and internal auditors need to be
objective and independent. These problems are
compounded by the complexity and length of IFRS. The
use of fair value can create anomalous results whereby if a
bank holds debt and the value of the debt is reduced, the
bank can report a ‘profit’ on the reduction.
Recent events have shown the fragility of financial
institutions. Moxey pointed out that there was a need for
debate and research on key issues such as: the purpose of
accounts; the responsibility of accountants; the
expectations of users; the key role of information in risk;
the complexity of accounts; and the expectations gap.
Under Basel requirements, when asset quality lowers then
so does capital. Banks need capital at the very time when
they have less, leading to reduced assets and a worsened
credit environment. Basel II has increased this procyclicality effect. Inconsistencies in capital regulations
encourage banks to use off- balance sheet vehicles to hold
assets to lower required regulatory capital. However, these
off- balance sheet liabilities were still, in effect, institutional
liabilities. There is an urgent need to reconsider their
accounting treatment. The present system is in danger of
permitting profits to be retained in the private sector, but
losses to be met by the public. The ten principles of
corporate governance set out by ACCA would hopefully
improve the current situation.
The papers in Table 1 have been grouped into two broad
categories rather than being dealt with in their strict order
of presentation. In the first group, we look at the papers by
Peasnell, Moxey and Holgate who give very different views
of the role of accounting. In the second group, we have
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
21
Mackintosh and Teixeria, who present their views on where
the current crisis has left standard setting both at the
national and international level. There is, however, some
overlap between the two groups, with Holgate’s paper in
particular straddling both groups.
The authors approach their topics from very different
perspectives. Ken Peasnell is a very experienced
accounting and finance academic from Lancaster
University and was able to provide an academic
perspective on the credit crunch, drawing in particular on
some recent research published in the Accounting Review
a top-quality US refereed academic journal. Peter Holgate
by contrast, is a well-respected accounting practitioner.
Peter is senior technical partner for the UK firm of
PricewaterhouseCoopers and was able to provide an
up-to-date and informed practice-based perspective on
the topic. Paul Moxey provided a third perspective as Head
of Corporate Governance and Risk Management of ACCA.
ACCA has observed, researched and commented on the
credit crunch from an independent, but very interested,
perspective. Ian Mackintosh and Alan Teixeria both gave
views on the present financial situation from a standard
setters perspective. However, their perspectives varied
widely. Ian approached the topic as head of a national
standard setting body, the UK’s Accounting Standards
Board. He can, therefore, be seen as an informed outsider
in his comments on the IASB. By contrast, Alan can be
seen as an informed insider. He is Director, Technical
Activities, IASB, and thus is intimately involved with the
current practices and procedures of the IASB.
These differing backgrounds were reflected in the nature
of their contributions. Peasnell provided an academic
perspective on the current credit crunch, particularly the
role played by accounting and challenged many widely
held assumptions. Holgate investigated the role which
accounting played in the credit crunch and then
investigated, from a practitioner-perspective, the response
of the IASB. Moxey investigated the nature and function of
the accounting crisis from the perspective of a set of ten
principles on improved corporate governance devised by
ACCA. Mackintosh looked at a timeline of recent events
before proposing four possible scenarios for the future of
international standard setting. Finally, Teixeria looked at
the benefits of global standards and the challenges facing
international standard setters, the FASB-IASB
Memorandum of Understanding, and reviewed the credit
crisis from a standard setting perspective.
The first group of papers (Peasnell, Holgate and Moxey)
therefore focused on the underlying credit crunch and the
problems it poses for accountants. Interestingly, the
speakers were divided in their views, demonstrating the
problems which these catastrophic global events has
caused for the accounting community. While all three
speakers broadly agreed on the causes of the present
crisis, their analysis of the part played by accounting was
very different. Peasnell and Holgate saw accounting as
basically a medium that did not affect the result, while
Moxey was more critical of accounting per se. Peasnell, for
example, pointed out that in the UK the spectacular failure
22
of Northern Rock was not caused by off- balance sheet
financing nor did academic research support the notion
that in the US, off- balance sheet financing fooled
investors. Peasnell was also of the opinion that the US
stock market did not believe that fair value overstated
asset values. Holgate also did not blame fair value, arguing
that in the current crisis we need more rather than less
information on current values. By contrast, Moxey was
more critical of accounting in general and of fair value per
se. He believed that the credit crisis asked fundamental
questions of accounting, such as the purpose of accounts,
the complexity of accounting, the role of cash and the
relationship between accounts and risk. In addition, he
highlighted deficiencies in IFRS. Recent developments in
IFRS had added to their complexity and length, but not
necessarily to their clarity or ease of understanding. Fair
value was blamed for producing anomalous results and
also for creating problems of pro-cyclicality. Unlike
Peasnell and Holgate, he therefore did not see accounting
as an innocent player.
Four of the speakers were concerned with IAS 39
reclassification. They approached this from slightly
different perspectives. Peasnell’s comments were mainly
descriptive and he did not accept that there was a problem
with fair value per se. Holgate suggested that IAS 39 was
principally a presentational change with disclosures in the
notes, and that few companies had actually made use of it.
Mackintosh and Teixeria took a more political stance.
Mackintosh saw the reclassification as an example of
pressure from the European Commission, while Teixeria
focused on the day-to-day background that had led to the
revisions to IAS 39. He also pointed out that in the overall
context of differences between IFRS and US GAAP, this was
a minor difference and had highlighted the need to focus
on core issues rather than detail.
Apart from their discussion of the IAS 39 carve-out;
Mackintosh and Teixeria were particularly concerned with
geopolitical standard setting. Mackintosh saw the credit
crunch as leading to a fundamental crossroads for
international standard setting. This could lead to (1) A
European carve out with either an isolated US or Europe,
depending on the US attitude; (2) A takeover by the G20 of
the IASB; (3) Non-adoption by the US of IFRS and the
current situation of US and international GAAP remaining;
and (4) worldwide agreement, including agreement
between the US and the UK. Under the fourth option, the
UK would benefit, but under the other three options UK
GAAP would suffer. Holgate commented on this scenario
and suggested that, as more countries sign up to IAS
European and US influence would decline. This takes
Mackintosh’s scenario even further as it suggests that even
under scenario 4 the UK is likely to lose influence. Holgate
also saw political aspects of the IASB’s role as essential –
especially given the current crisis. Rather than focus on
the ‘death or glory’ options outlined by Mackintosh,
Teixeria emphasised the relationship between US GAAP
and IFRS. He outlined the current efforts by the US and
IFRS to enhance and develop mutual understanding, and
set out milestones on the way towards convergence and
continued cooperation.
Table 1: Thematic overview of the five presentations
Author
Background
Context
Topic area
Key issues/findings
Ken Peasnell
Lancaster University
Academic
UK, International
Asset,
securitisation,
fair value,
credit crunch
A long economic boom led to increased loans and
growth in asset securitisation. US securitisation was
off-balance sheet, but this did not delude investors as
sophisticated capital markets are able effectively to
value business. Fair value problems re asset valuation
in thin markets associated with financial crisis Current
crisis, no new issues for financial reporting more a
problem of bank regulation, governance and
management.
Paul Moxey
ACCA
Professional
institute
UK, International
Accounting,
corporate
governance
and credit
crunch
Global banking has grown rapidly in recent years. The
roots of the credit crunch were traced to poor
corporate governance, inappropriate risk and reward
structures, and poor levels of risk management
information and reporting. ACCA proposes ten
principles of corporate governance to redress these
issues. It was argued that it was time to look at the
basics of accounting, and ask some fundamental
questions concerning the purpose and use of
accounting information.
Peter Holgate
Practitioner
PricewaterhouseCoopers
UK, International
Organisational Huge losses on financial assets. Fair value has been
politics
criticised. More, not less, disclosure would be
beneficial in determining the value of assets and
liabilities. A partial retreat occurred through the IAS
39 reclassification amendment. Increasing problems
with going concern questions and implications for the
audit opinion. Can the IASB as a private sector body
act without political interference?
Ian Mackintosh
ASB
Standard
setter
International
regulations
Regulatory
change
From August to November 2008, there was a
sequence of events in accounting, set against the
background of the credit crunch, such as amendment
to IAS 39, SEC road map for IFRS adoption. The IAS
39 amendments highlighted tensions in achieving
global accounting standards. Four potential scenarios:
European carve-out; G20 replaces IASB; US rejects
IFRS; and IASB/FASB and G20 all adopt IFRS. If latter
option, IFRS could be extended to all publicly
accountable entities. Micro entities would not report
under IFRS; smaller entities would retain FRSSE.
Alan Teixeria
IASB
Standard
setter
International
Spread of
IFRS
Benefit of IFRS is global consistency. In July 2009,
IFRS used by listed companies in over 110 countries
and unlisted companies in 80 countries. The ideal for
global standards would be uniform adoption of IASB
without localised endorsement or adaptation. Slow
process of change hampered by differing legal systems
and the status of accounting standards in law.
Translation and enforcement issues are also significant.
An ongoing convergence programme between IASB
and FASB (MoU) with projects and key milestones
outlined. Tension from conflicting interests and IASB
amendments to IAS 39. Crisis has led to focus on core
issues in convergence rather than detail.
The Future of Financial Reporting 2009: A Time of Global Financial Crisis
23
4. Conclusions
The five papers were presented at a very interesting time,
both economically and politically. The financial crisis and
associated credit crunch has led to a re-questioning of
aspects of accounting, in particular recognition and
measurement issues, corporate governance and the
current regulatory system that governs accounting. While
some of these areas are not new, perhaps the financial
crisis has led to a greater concentration on them and also
provided the accountancy profession, regulatory bodies
and standard setters with an opportunity to reflect on the
core issues. The crisis has also contextualised some of the
difficulties facing international convergence.
Given the impact of the current financial crisis it is not
surprising that all the speakers used it as a context for
their presentations – its causes, the interdependence of
financial markets, its impact on accounting and
governance issues, and the future challenges to the
accounting profession and changes that need to be made.
It is clear that there is no single answer, just as there was
no single cause of the crisis. A multi-dimensional approach
is therefore appropriate given the complexities associated
with risk, reward structures, lending, governance,
behavioural issues and accounting recognition and
measurement.
The speakers dealt with different questions and
approached the issues from differing perspectives. Ken
Peasnell, for example, is a leading UK accounting and
finance academic. He was supportive of the role of
accounting in the credit crisis. He recognised that while
asset securitisation was off-balance sheet, this did not fool
investors as sophisticated capital markets are still able to
value businesses. He believed the problem was connected
with the actual levels and understanding of risk, and the
trading volume of asset-backed derivatives, and not
necessarily whether they appear on or off-balance sheet.
He also did not believe that fair value understated market
value, but rather that in times of financial crisis fair value is
problematic in its application in thin markets. The main
issues remained regulation, governance and management
and these should be separated from any accounting
issues, which are more symptomatic than causal. Peter
Holgate, a PricewaterhouseCoopers partner, was also
supportive of accounting. He dealt with the IAS 39
reclassification amendment and the increasing problems
that practising accountants like himself had with going
concern in the global financial crisis. Like Ian Macintosh,
Peter Holgate discussed the political nature of the IASB,
highlighting its unusual role as a non-governmental body.
Ian Mackintosh also dwelt on the political nature of the
IASB. He presented a series of possible scenarios which
could arise in the future. In some of these the IFRS would
flourish; in others it would not. Alan Teixeria came to the
debate with an international accounting perspective given
his role at the IASB. He showed how the use of IFRS has
increased rapidly. He also demonstrated the problems
involved in translation, adaptation and enforcement. His
view as an international standard setter thus neatly
complemented that of Ian Macintosh. Finally, Paul Moxey
from ACCA provided an extremely critical look at the role
of accounting. Indeed, he was probably the most critical of
24
the five speakers. He analysed the roots of the credit
crunch and proposed ten principles of corporate
governance which, he argued, would improve the present
system of board governance. Paul was extremely critical of
business and banks in general, but also of accounting. He
believed it was time to look at some of the basics of
accounting, its purpose and use of financial statements.
Given these differences in background and perspective the
authors suggest a range of questions which are
summarised below.
• What should the appropriate measurement system for
financial statements be? Is fair value appropriate in
times of economic crisis?
• How should accountants treat going concern in times
of economic downturn? What assumptions can be
made about the surety of future financing requirements
consistent with going concern?
• How do we balance being cautious and fair to investors
without turning the going concern qualification into a
self-fulfilling prophecy?
• Do we need to look again at the role of accounting
practices such as off-balance sheet financing, credit
default swaps etc?
• Will the IASB be able to survive as a private sector
standard setting body?
• What will be the future relationship between the IASB,
the FASB and the European Union, the G20 and
individual countries, such as China?
• How will future potential changes to governance and
risk reporting and requirements affect accounting and
the accounting profession?
• What will be the effects of the financial crisis, especially
the IAS 39 amendment process, on the overall ideal of
global accounting standard convergence and the future
of the US-IASB road map?
Such important questions are unlikely to be solved quickly.
Although at the time of writing this report (November
2009) some of the pressures have eased, the underlying
questions persist. What the speakers in the symposium
have emphasised is the fundamental and problematic
nature of key issues of accounting recognition and
measurement. They have also tentatively mapped out
some possibilities about the future development of
accounting. Only time will tell whether their reflections are
accurate or not.
References
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Chen, W., Lui, C.C. and Ryan, S. (2008), ‘Characteristics of
Securitisations that determine Issuers’ Retention of the
Risks of Securitised Assets’, The Accounting Review, 83 (5):
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International Accounting Standards Board (2008),
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Reporting 2008: Measurement and Stakeholders, [FARSIG
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<http://www.accaglobal.com/pubs/general/activities/
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store for global banking?’, McKinsey Quarterly, January.
<http://www.mckinseyquarterly.com/Financial_Services/
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Moxey, P. and Berendt, A. (2008), Corporate Governance
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