Posts Tagged ‘GAAP’

How America’s Participation in International Financial Reporting Standards Was Lost

Editor’s Note: Chris Cox is partner and member of the Corporate Practice Group at Bingham McCutchen LLP and president of Bingham Consulting LLC. Mr. Cox served as Chairman of the Securities and Exchange Commission from 2005 to 2009. The following post is based on Mr. Cox’s recent keynote address to the 33rd Annual SEC and Financial Reporting Institute Conference. The complete publication is available here.

The modern quest for an “Esperanto” of business has been underway for nearly half a century. And though it was initiated by the United States, after 48 years, it has yet to gain our full support. That is unfortunate, because the promise of a global standard is truly dazzling.

An international language of disclosure and transparency would significantly improve investor confidence in global capital markets. Investors could more easily compare issuers’ disclosures, regardless of what country they came from. They could more easily weigh investment opportunities in their own countries against competing opportunities in other markets. And a single set of high-quality standards would be a great boon to emerging markets, because investors could have greater confidence in the transparency of financial reporting.

…continue reading: How America’s Participation in International Financial Reporting Standards Was Lost

Whose Trojan Horse? The Dynamics of Resistance against IFRS

Posted by June Rhee, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Thursday June 5, 2014 at 9:23 am
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Editor’s Note: The following post comes to us from Martin Gelter, Associate Professor of Law at Fordham University. The post is drafted based on a paper co-authored by Professor Gelter and Zehra G. Kavame of Fordham Law School.

The US is the last major economy that has not yet adopted International Financial Reporting Standards (IFRS) while, from Europe to Canada, from Australia to China, around 120 countries are already requiring or permitting IFRS; this figure will likely rise to 150 countries in the near future. The introduction of IFRS has been debated in the United States for several years. The Securities and Exchange Commission (SEC) first issued a paper that includes a plan for possible implementation, and several SEC Staff Reports followed up until the July 2012 Final Staff Report with regard to the work plan. However, whether domestic issuers should be permitted to use IFRS is still very controversial.

…continue reading: Whose Trojan Horse? The Dynamics of Resistance against IFRS

Accounting Class Action Filings and Settlements—2013 Review

Posted by John Gould, Cornerstone Research, on Saturday May 24, 2014 at 9:00 am
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Editor’s Note: John Gould is senior vice president at Cornerstone Research. This post discusses a Cornerstone Research report, titled “Accounting Class Action Filings and Settlements—2013 Review and Analysis,” available here.

The number of accounting case settlements in 2013 increased for the second year in a row, but remained low compared with the previous 10 years, according to Cornerstone Research’s latest report, Accounting Class Action Filings and Settlements—2013 Review and Analysis. While the number of securities class action filings that included accounting allegations (47) remained relatively constant in 2013 compared with 2012, the market capitalization losses associated with these filings more than doubled.

…continue reading: Accounting Class Action Filings and Settlements—2013 Review

The Misrepresentation of Earnings

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Thursday April 3, 2014 at 9:12 am
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Editor’s Note: The following post comes to us from Ilia Dichev, Professor of Accounting at Emory University; John Graham, Professor of Finance at Duke University; Campbell Harvey, Professor of Finance at Duke University; and Shivaram Rajgopal, Professor of Accounting at Emory University.

While hundreds of research papers discuss earnings quality, there is no agreed-upon definition. We take a unique perspective on the topic by focusing our efforts on the producers of earnings quality: Chief Financial Officers. In our paper, The Misrepresentation of Earnings, which was recently made publicly available on SSRN, we explore the definition, characteristics, and determinants of earnings quality, including the prevalence and identification of earnings misrepresentation. To do so, we conduct a large-scale survey of 375 CFOs on earnings quality. We supplement the survey with 12 in-depth interviews with CFOs from prominent firms.

…continue reading: The Misrepresentation of Earnings

Disclosure of Non-GAAP Financial Measures

Posted by Noam Noked, co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Thursday May 23, 2013 at 9:26 am
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Editor’s Note: The following post comes to us from David J. Goldschmidt, partner in the corporate finance department at Skadden, Arps, Slate, Meagher & Flom LLP, and is based on a Skadden alert; the full text, including footnotes, is available here.

Companies commonly supplement their reported earnings under U.S. generally accepted accounting principles (GAAP) with non-GAAP financial measures that they believe more accurately reflect their results of operations or financial position or that are commonly used by investors to evaluate performance. A non-GAAP financial measure is a numerical measure of a company’s historical or future financial performance, financial position or cash flows that includes or excludes amounts from the most directly comparable GAAP measure. Non-GAAP financial measures are used by companies to bridge the divide between corporate reporting that is standardized under GAAP and reporting that is tailored to a particular industry or circumstance.

The Securities and Exchange Commission (SEC) permits companies to present non-GAAP financial measures in their public disclosures as well as registration statements filed under the Securities Act of 1933 (Securities Act) and periodic reports filed under the Securities Exchange Act of 1934 (Exchange Act), subject to compliance with Regulation G and Item 10(e) of Regulation S-K (Item 10(e)). These regulations were adopted to ensure that investors are provided with financial information that is fulsome and not misleading.

…continue reading: Disclosure of Non-GAAP Financial Measures

Risk Modeling at the SEC: The Accounting Quality Model

Posted by Craig M. Lewis, U.S. Securities & Exchange Commission, on Tuesday February 12, 2013 at 9:30 am
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Editor’s Note: The following post comes to us from Craig M. Lewis, Chief Economist and Director of the Division of Risk, Strategy, and Financial Innovation at the U.S. Securities & Exchange Commission. This post is based on Mr. Lewis’s remarks at the Financial Executives International Committee on Finance and Information Technology, available here. The views expressed in this post are those of Mr. Lewis and do not necessarily reflect those of the Securities and Exchange Commission, the RSFI division, or the Staff.

The Division of Risk, Strategy and Financial Innovation, or “RSFI”, was formed, in part, to integrate rigorous data analytics into the core mission of the SEC. Often referred to as the SEC’s “think tank,” RSFI consists of highly trained staff from a variety of backgrounds with a deep knowledge of the financial industry and markets. We are involved in a wide variety of projects across all Divisions and Offices within the SEC and I believe we approach regulatory issues with a uniquely broad perspective.

Because my Division has a slightly cumbersome name – which is why you might hear us colloquially called “RiskFin” (though I prefer the more inclusive and accurate “RSFI,” as you can see) – today in my remarks I thought I’d focus on one word in our magisterial title: “Risk.” Risk, particularly as relates to the financial markets, can be a capacious term, and my Division certainly touches on many of those various meanings. But we are particularly focused on developing cutting-edge ways to integrate data analysis into risk monitoring.

…continue reading: Risk Modeling at the SEC: The Accounting Quality Model

Fair Value Accounting for Financial Instruments

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Tuesday November 6, 2012 at 10:01 am
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Editor’s Note: The following post comes to us from Elizabeth Blankespoor of the Graduate School of Business at Stanford University; Thomas Linsmeier of the Financial Accounting Standards Board; Kathy Petroni, Professor of Accounting at Michigan State University; and Catherine Shakespeare of the Ross School of Business at the University of Michigan.

In our paper, Fair Value Accounting for Financial Instruments: Does it improve the Association between Bank Leverage and Credit Risk?, which was recently made publicly available on SSRN, we contribute to the debate on whether financial instruments should be measured at fair value in financial statements. Accounting standard setters have been deliberating the role of fair values for financial instruments for decades. A fair value is the price at which two willing parties would exchange an asset or settle a liability. Starting after the savings and loan crisis in the late 1980s, the Financial Accounting Standards Board (FASB) has increased the extent to which financial instruments are recognized at fair value (see Godwin, Petroni, and Wahlen 1998). In 2010, the FASB proposed to require that all financial instruments be recognized at fair value, with limited exceptions for receivables and payables and some companies’ own debt (FASB 2010). The proposal was controversial, with over 2,800 comment letters submitted, the vast majority of which objected to the fair value measurement of loans, deposits, and financial liabilities. The FASB is redeliberating this project and has tentatively decided that all financial instruments should be measured at fair value except certain debt financial assets and most financial liabilities (including deposits), which would be measured at amortized cost (FASB 2011).

To empirically provide insight on the controversy, we assess whether a fair value leverage ratio can explain measures of a bank’s credit risk better than a leverage ratio based on a mixture of fair values and historical costs consistent with the mixed-attribute model of US Generally Accepted Accounting Principles (GAAP) and a leverage ratio based on even fewer fair values than GAAP, which is consistent with regulatory Tier 1 capital. We focus on balance sheet leverage because it is very commonly used for assessing firm risk. We define a bank’s credit risk as the risk that the bank defaults on its obligations, and we focus on credit risk because understanding a bank’s credit risk is essential to understanding its financial condition.

…continue reading: Fair Value Accounting for Financial Instruments

Managerial Investment and Changes in GAAP

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Friday February 10, 2012 at 9:51 am
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Editor’s Note: The following post comes to us from Nemit Shroff of the Department of Accounting at MIT.

In my paper, Managerial Investment and Changes in GAAP: An Internal Consequence of External Reporting, which was recently made publicly available on SSRN, I investigate whether changes in Generally Accepted Accounting Principles (GAAP) affect corporate investment decisions. I hypothesize that the relation between changes in GAAP and investment manifests for at least two non-mutually exclusive reasons. First, I hypothesize that changes in GAAP can affect investment because the numbers reported in financial statements have a direct bearing on contractual outcomes. For example, debt contracts often contain covenants based on numbers reported in financial statements (Leftwich [1983]). Consequently, if a change in GAAP has an unfavorable (favorable) impact on current and future financial statements, and debt covenants are not adjusted to incorporate the changes, the change in GAAP will likely tighten (loosen) covenant slack. As a result, managers may alter their actions to avoid covenant violation. Specifically, since most investments have an uncertain future outcome and some positive probability that the outcome is a loss, they increase the probability of violating covenants in the future by adversely impacting future financial ratios. Consequently, managers might respond to changes in GAAP that adversely affect financial statements by cutting investment in risky assets with the goal of preserving net worth and preventing deterioration of financial ratios.

…continue reading: Managerial Investment and Changes in GAAP

Accounting Standards and Debt Covenants

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Monday September 26, 2011 at 9:39 am
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Editor’s Note: The following post comes to us from Peter Demerjian of the Goizueta Business School at Emory University.

In the paper, Accounting Standards and Debt Covenants: Has the “Balance Sheet Approach” Led to a Decline in the Use of Balance Sheet Covenants?, forthcoming in the Journal of Accounting and Economics as published by Elsevier, I examine whether the “balance sheet approach” has led to a decline in the use of balance sheet covenants. Debt contracts, and especially private loan agreements, frequently include accounting-based debt covenants. Many of these covenants require the borrower to maintain a threshold level of some financial ratio or measure. A broad range of financial measures are employed in these financial covenants. Some are written on earnings from the income statement; the borrower may be required to maintain a minimum level of earnings relative to their interest expense (interest coverage) or their total debt (debt-to-earnings). Similarly, covenants are also written on values from the balance sheet; these include covenants requiring a minimum level for the book value of equity (net worth) or a maximum amount of debt in the capital structure (leverage). If the borrower fails to maintain a covenant threshold, the debt enters technical default. In technical default, the creditor has the option to attempt action against the borrower; a common consequence is renegotiation with stricter contract terms.

…continue reading: Accounting Standards and Debt Covenants

Non-GAAP and Street Earnings

Posted by R. Christopher Small, Co-editor, HLS Forum on Corporate Governance and Financial Regulation, on Monday November 15, 2010 at 9:56 am
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Editor’s Note: The following post comes to us from Mary Barth, Professor of Accounting at Stanford University, Ian Gow, Assistant Professor of Accounting Information and Management at Northwestern University, and Daniel Taylor, Assistant Professor of Accounting at the University of Pennsylvania.

In the paper, Non-GAAP and Street Earnings: Evidence from SFAS 123R, recently made publicly available on SSRN, we examine how key market participants—managers and analysts—responded to SFAS 123R‘s controversial requirement that firms recognize stock-based compensation expense. Despite mandated recognition of the expense, some firms’ managers exclude it from non-GAAP earnings and some firms’ analysts exclude it from Street earnings.

…continue reading: Non-GAAP and Street Earnings

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