SEC advisory committee recommends revamp of FASB

The Securities and Exchange Commission’s Investor Advisory Committee released a set of recommendations for reforming the way the Financial Accounting Standards Board operates so it can be more responsive to the needs of investors.

“In recent years, investors have increasingly voiced concerns that accounting standard-setting has not kept pace with the evolution of the sources of value and risk, leaving investors without the information they need to value modern companies,” the committee wrote in draft recommendations delivered during a meeting Wednesday. 

The group pointed to concerns from the CFA Institute, an organization for investment professionals, which sent a letter last year to SEC Chairman Gary Gensler: “Investors are working with a 19th century manufacturing accounting model in a 21st century service-oriented, global, intangibles-based economy,” said the letter from Sandra Peters, senior head of global financial reporting advocacy at CFA Institute. “Our view is that the accounting model does not provide a suitable framework for the information investors need.”

The SEC advisory committee said it shared those concerns and believes that accounting standard-setting must prioritize the needs of investors and enhance investors’ ability to understand and analyze company value in modern markets. It pointed to efforts in recent years by FASB to simplify accounting standards as a way to make them easier to apply by financial statement preparers, but not necessarily to address the concerns of investors.

“In fact, 30% of the accounting standards updates offered between mid 2013-2021 related to ‘simplification,” said the committee. “It appears that a significant portion of the FASB’s limited time and resources are spent on fine-tuning narrow standards rather than addressing more pressing accounting issues, such as cash flows, intangibles, financial statement presentation, labor cost accounting, segment reporting, and measurement of the financial impacts of climate change and energy transition.”

The committee cited several examples, saying the statement of cash flows is in need of reform for which the guidance hasn’t been updated since the 1980s. In addition to cash flow reporting, the committee also pointed to “widespread concern about the lack of authoritative guidance for internally developed intangible assets.”

A FASB spokesperson declined to comment. 

The Investor Advisory Committee asked the SEC to establish an Advisory Committee on Accounting Modernization similar to one that was set up in 2007 after a series of accounting scandals. It pointed to the recently enacted Inflation Reduction Act as one reason why such a committee is needed.

“First, the Inflation Reduction Act of 2022, HR 5376, imposes a new 15% corporate minimum tax based on ‘adjusted financial statement income’ for certain large corporations,” said the panel. “Throughout the history of accounting standard-setters, the SEC has gone to great lengths to remove political influence from financial reporting. By basing taxes on adjusted financial statement income, however, the act runs the risk of negating decades of efforts to remove political interference in accounting standard-setting. Indeed, 264 accounting and tax scholars recently signed a petition criticizing the use of financial accounting income as part of the alternative tax base. Given this threat to FASB’s independence, we recommend that the committee consider how best to support FASB and ensure that it remains politically independent.”

The committee noted that there is a significant backlog of high-priority accounting topics that need to be addressed, including intangibles and key performance indicators. “The nature of public companies has changed dramatically over recent decades, and the FASB has yet to promulgate standards to account for these changes,” said the group. “For example, for the first time, more than half of public companies traded in the United States reported an accounting loss in 2020.”

It noted that intangible assets make up an increasing percentage of company assets, yet internally developed intangible assets are typically reported at zero dollars on the balance sheet. It recommended that the proposed committee consider potential improvements to financial reporting in that area, citing a recent recommendation from Big Four firm PwC, and whether disclosure-only solutions would be appropriate as temporary solutions for certain priority areas while FASB decides the best way to reflect such a phenomenon in financial statements.

The panel also wants the proposed advisory committee to work with FASB to improve its technical understanding of public companies’ internal data infrastructure, similar to the Data and Technology Task Force established by the Public Company Accounting Oversight Board to help staff understand data analytics and emerging technologies.

“As part of this process, we suggest that the committee consider how the FASB could better work with software providers such as Oracle and SAP that service a significant number of issuers,” said the group. “At present, standards are delayed while these technology providers update their software to reflect new standards, so we suggest the committee consider ways for these providers to incorporate new standards in an efficient manner that expedites implementation.”

The committee also wants to see FASB expedite its standard-setting, pointing to the prolonged process of implementing the lease accounting and revenue recognition standards.

“The FASB’s process to promulgate new standards is lengthy,” said the group. “For instance, lease accounting was added to the FASB agenda in 2006. However, the new lease accounting guidance was not released until 10 years later, in 2016. The earliest adoption (for public business entities and employee benefit plans that file financial statements with SEC) became effective for fiscal years beginning after Dec. 15, 2018. FASB’s recent standard for revenue recognition took even longer than lease accounting.”

In part the delays are due to conducting a cost-benefit analysis and then going through multiple consultations and due process. 

“This process, while well-intentioned, has the effect of deterring and/or delaying action by FASB,” said the panel. “The FASB board exerts significant, and time-consuming, efforts to craft standards, but there are costs to such a lengthy process. Most notably, investors do not get the benefit of the updated standards until they are effective or companies voluntarily adopt them. There comes a point when the costs to investors of delay exceeds the benefit of further delay. Therefore, as the FASB conducts its cost-benefit analysis, we propose that the board consider the costs of delay.”

Finally, the group also wants FASB to make access to its standards more affordable. “The SEC has previously suggested that the FASB increase access to its authoritative literature by creating a single searchable database that would be freely available to the public,” said the group. “They reasoned that because the FASB is funded by fees charged to SEC registrants, ‘the long-run goal should be for the FASB’s documents to be freely available’ since ‘the costs of providing such documents could appropriately be covered by the funding mechanism provided for in the act.” Today, the cost of purchasing FASB standards is $1,197 for an annual ‘professional view’ subscription. While there is a free ‘basic’ view, in order to have ‘full functionality and advanced navigation,’ users must purchase the ‘professional view.'”

In contrast, PCAOB standards are free, and a digital subscription to International Financial Reporting Standards costs 295 euros ($286) per year, while a combined digital and print IFRS subscription costs 595 euros ($586) per year.

“While it is commendable that the FASB developed a searchable online database, it is unclear why there is a need to charge such significant fees to access it,” said the committee. “We are concerned that accessibility is limited by the cost of the standards, and we recommend, as the SEC did many years ago, that the FASB move toward eliminating such fees.” 

Commissioners react

SEC Chairman Gary Gensler reacted favorably to the recommendations. “I welcome your recommendations for ways to enhance, in a manner consistent with the Sarbanes-Oxley Act, the responsiveness of our nation’s accounting standards to changing business practices — including by making the Financial Accounting Standard Board’s accounting standards readily available and searchable for the public at no cost,” he said in a statement.

SEC Commissioner Hester Peirce pointed out that FASB was already planning on making some of the recommended changes, according to its latest agendas.

“The Financial Accounting Standards Board does have a number of items on its technical and research agendas that respond to investor concerns,” she said in a statement. “Should that fact be reflected better in the recommendation? Should the draft recommendation reflect concerns about the SEC taking on issues that might better be left to the FASB? One example is the SEC staff’s recently issued SAB 121 on crypto asset custody. The draft recommendation related to the FASB rightly underscores the importance of the independence of the accounting standard-setter. It also identifies as examples of ‘pressing accounting issues,’ ‘measurement of the financial impacts of climate change and energy transition.’ These issues invite controversy. What can the commission, as a steward of FASB’s independence, do to ensure that efforts to modernize do not become efforts to politicize FASB?”