The road to IFRS: does the SEC's roadmap mean that U.S. companies may soon report under International Financial Reporting Standards?

Strategic Finance, Sept, 2007 by Parveen P. Gupta, Cheryl Linthicum, Thomas G. Noland

Ten years ago, harmonization of worldwide accounting standards was considered a worthwhile, yet likely unachievable, goal. Today, the term "convergence" is in vogue, and much more than terminology has changed. In 2002, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) co-signed the Norwalk Agreement, pledging to work toward a single set of high-quality global accounting standards. Since that time, the two organizations have joined forces in drafting several new and updated standards.

In 2005, Donald Nicolaisen, then the Securities & Exchange Commission's (SEC) chief accountant, published a roadmap for the possible elimination of the reconciliation of International Financial Reporting Standards (IFRS) to U.S. Generally Accepted Accounting Principles (GAAP). Given that foreign (non-U.S.) registrants must either provide U.S. GAAP statements or reconcile to U.S. GAAP, eliminating the reconciliation would signify a significant regulatory change. Currently, the SEC recognizes FASB standards for reporting; the elimination of the reconciliation would, in effect, allow two sets of standards to coexist in U.S. markets.

But the roadmap didn't call for eliminating the reconciliation without review. Rather, Nicolaisen's 2006-2009 plan calls for evaluation of IFRS, given that they would stand alone absent reconciliation to U.S. GAAP. Nicolaisen's plan didn't hold the IASB and FASB to full convergence so that reconciliation would be dropped; rather, the threshold for elimination of the reconciliation from IFRS to U.S. GAAP is the consistent application of IFRS as a high-quality basis of accounting.

CURRENT STATUS OF IFRS IN THE U.S.

After the mandatory adoption of IFRS in the EU for fiscal years ended in 2005, the SEC saw a critical mass of IFRS filings in 2006. The EU now has more than 7,000 listed companies that are required to report under IFRS. As IFRS continue to replace dozens of national accounting standards, the question becomes: Should IFRS replace all GAAP, including U.S. GAAP, as the basis for U.S. filings, or should they at least serve as an alternative for U.S. filings?

At a March 2007 SEC-sponsored roundtable on International Financial Reporting Standards, Don Nicolaisen suggested that the SEC should require both U.S. and foreign registrants to file their periodic financial statements using one set of global accounting standards because it created confusion among investors by allowing both U.S. GAAP and IFRS to be followed. He added that if the SEC drops the requirement for foreign private issuers to reconcile their financial statements to U.S. GAAP, as he proposed in his 2005 roadmap, U.S. registrants will want the option to use international standards.

Catherine Kinney, president of the New York Stock Exchange Group, also commented that U.S. companies may want to report using IFRS rather than U.S. GAAP. Phillip Jones, manager of accounting policy at DuPont, said that DuPont has subsidiaries around the world and would be supportive of a single global accounting standard.

After the March roundtable, the SEC began work on two important regulatory releases. The first is a proposed rule to eliminate the reconciliation from IFRS to U.S. GAAP. The proposal is open for comment through September 24, 2007. The second is a concept release that has been published that requests feedback on the question of whether or not IFRS should be allowed as a reporting option for U.S. companies. The concept release is open for comment through November 13, 2007.

Although support for the proposed rule is likely to run in favor of eliminating the reconciliation, the longer-term prospect of allowing IFRS for U.S. issuers will probably elicit mixed comments and much debate. Nicolaisen's proposal for one single set of global accounting standards may be a subject of even greater debate. His proposal may be sound for large U.S. registrants that have substantial international operations, but several implementation issues must be addressed before full-fledged implementation of IFRS for all U.S. registrants. Besides cost factors such as accounting systems and software implementation, the issues fall primarily into three categories: (1) training and education, (2) consistency in application, and (3) lack of uniform audit standards.

TRAINING AND EDUCATION

During the roundtable, several auditors and preparers stated that a "paradigm shift" would have to occur if the SEC allowed U.S. registrants to report using IFRS. The first concern was that, even if a registrant has expertise in IFRS, the registrant's auditors may not have enough IFRS technical experts to audit the company if a large number of the auditor's clients began to report using the standards. For firms to gain the necessary expertise, they would have to invest a substantial amount of time and money in training their personnel. In addition to auditing firms gaining expertise in IFRS, the investing public and institutional investors have to be given time to study the standards. The SEC's mission of investor protection and maintaining orderly and efficient markets requires investors to have a basic understanding of the accounting principles that are used in the financial statements of public companies.