Is IFRS inevitable?

By Cydney Posner

Here's a break from news about the financial markets: While the SEC seems to be pushing hard toward adoption of IFRS (international financial reporting standards) (see 8/27/08 post), there may yet be some serious pushback. Copied below is an article from BNA reporting on a September 10 speech by PCAOB member Charles Niemeier, in which Niemeier questions the move toward convergence. While a single set of high quality standards may be useful, he argues, the standards need to take into account the unique position of the U.S. He further suggests that the notion that IFRS is "principles-based" is just a myth; rather, he argues, "IFRS is not more principles-based, it's just a lot younger." Moreover, because IFRS allows more discretion, it may not in reality improve comparability as is often claimed. Finally, IFRS may be more difficult too enforce than U.S. GAAP. In a quote that may now, in light of recent events, be causing him some chagrin, Niemeier contends that "All the research shows that the United States is unique in the world when it comes to [effective] regulation .... Because of that, we have the lowest cost of capital in the world. Do we really want to give that up? ... Enforcement is not a deterrent to come to our market. It's actually the reason why our system is the most robust in the world."

NEW YORK--The United States should not replace U.S. generally accepted accounting principles with international financial reporting standards for the sole reason of creating a single global accounting standard, Public Company Accounting Oversight Board member Charles Niemeier said Sept. 10.

In a comprehensive, largely negative analysis of the convergence process and IFRS specifically, Niemeier urged caution before the Securities and Exchange Commission requires U.S. registrants to adopt IFRS.

Unique Position
"I am not against convergence to a single set of high quality standards," said Niemeier, a former chief accountant in the SEC's division of enforcement. However, actions taken to implement the change so far have not taken into account the "unique" position of the U.S. economy and U.S. investors and represents "not convergence but capitulation," he said. "I think we have to get back to doing something that makes sense for us."

Niemeier, who stressed he was speaking for himself and not the PCAOB, criticized during his speech what he said were several "myths" concerning positive aspects of U.S. GAAP and IFRS convergence. He argued that any new accounting standard adopted by U.S. registered firms must reflect the sometimes significant differences between U.S. legal and regulatory regimes and those in other countries with stock exchanges.

"We've got to go back to trying to actually achieve something, which is noble, obviously, and not simply convert for the sake of uniformity, which is very dangerous," said Niemeier, who spoke at a New York State Society of Certified Public Accountants conference.

'There Is Time.'
Niemeier said the goal of convergence should be not only to adopt a single standard, but to arrive at a single standard "where everyone is comfortable." For instance, some argue that the United States is too litigious and overregulated, but the U.S. regulatory system currently provides companies with a low cost for capital, he said. "We need to understand what works in our markets."

"I know it seems inevitable that we're moving to IFRS. I will tell you though--and many of you will remember this well--I remember being told it was 'inevitable' we were moving to the metric system. Right? How many years after that are we still using our own system?" Niemeier said.

"I think it's very important that we challenge our thinking, and simply not accept [the push toward convergence] because we're being told something. ... I'm saying a lot about what I don't like and what doesn't make sense to me, but what is it we should do? It's not too late. ... There is time" to address problematic issues associated with the convergence process, said Niemeier.

PCAOB has not formally taken a position on whether it endorses the convergence process, Julie Erhardt, deputy chief accountant in the SEC's Office of the Chief Accountant, told the conference after Niemeier spoke.

The SEC Aug. 27 unanimously proposed a road map that could lead to a mandatory phased conversion to international financial reporting standards for U.S. companies beginning as early as 2014 if various milestones are met (40 SRLR 1365, 9/1/08

IFRS 'Myths.'
Niemeier listed a series of what he labeled "myths" about IFRS that make a compelling case for the United States to move toward IFRS adoption. For instance, he said, there is the notion that IFRS is more "principles-based" than U.S. GAAP.

"When you really look at it--generally accepted accounting principles--somewhere along the way, we started out with principles. There's no doubt there are a lot of rules in GAAP, but it's still based upon principles. I would propose to you that IFRS is not more principles-based, it's just a lot younger."

"The idea of using IFRS in the United States is going to be very interesting to me because it's going to put us right back in this principles-based world, which works very well in an environment where there is no litigation, which may work very well [where] there is very little regulation. But of course, how is this going to work here?" he said.

Niemeier said another myth is that if IFRS replaces U.S. GAAP, investors will able to compare in a meaningful way companies registered in different countries. Under IFRS, companies have greater discretion than those adhering to U.S. GAAP, he said.

"Those two things [discretion and comparability] don't go together, folks," he said. Greater discretion in accounting rules, moreover, provides the means for the most aggressive companies to game the system, he said.

Enforcement Problems
A final myth Niemeier mentioned is that moving to IFRS will solve some of the problems associated with U.S. GAAP. "We know about the more serious types of problems. We haven't dealt with them. We seem to not be able to deal with them, and that in itself is a problem. My concern is that we're not going to address them in IFRS, either," he said. Adopting IFRS is "an exit strategy, but it's not going to take us where we need to go."

More generally, enforcement can be problematic under IFRS, Niemeier said. Many national regulators currently enforcing IFRS rules allow the firms they monitor, especially large firms important to a country's economy, "to do whatever they want" when interpreting IFRS principles, he said.

"All the research shows that the United States is unique in the world when it comes to [effective] regulation .... Because of that, we have the lowest cost of capital in the world. Do we really want to give that up? ... Enforcement is not a deterrent to come to our market. It's actually the reason why our system is the most robust in the world."

Sarbanes-Oxley Implementation
Niemeier also said those companies critical of the Sarbanes-Oxley Act can successfully get rid of its regulations by adopting an accounting standard, IFRS, that would make the law difficult to enforce. Yet implementation of the law has successfully reduced the percentage of financial statements with material weaknesses and improved corporate governance, Niemeier said. The quality of audits has also improved because there is now a lower level of tolerance for errors presented on financial statements, he said. "Auditors are back in control of auditing."

As importantly, the law has helped internal audit committees manage the relationship between a company and its outside accounting firm, which has lessened the "fear" of accounting firms of being fired by clients that disagree with accounting firm conclusions, Niemeier stated. Moreover, while restatements of financial statements increased immediately after Sarbanes-Oxley implementation, the number of restatements is currently declining. Many of the restatements were "one-off events" where errors were caught and fixed permanently, Niemeier said.

By Stephen Joyce

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