FASB Eases Fair-Value Rules Amid Lawmaker Pressure (Update1) - Bloomberg.com
"The Financial Accounting Standards Board, pressured by U.S. lawmakers and financial companies, voted to relax fair-value rules....The changes to so-called mark-to-market accounting allow companies to use “significant” judgment when gauging the price of some investments on their books, including mortgage-backed securities. Analysts say the measure may reduce banks’ writedowns and boost their first-quarter net income by 20 percent or more"
Former SEC chairperson Arthur Levitt who "along with former SEC head William Donaldson, of the Investors’ Working Group, a non-partisan panel formed to recommend improvements to regulation of U.S. financial markets. " disagreed with the decision:
"Fair-value “provides the kind of transparency essential to restoring public confidence in U.S. markets,” and "The group is deeply concerned about the apparent FASB succumbing to political pressures, which prevent U.S. investors from understanding the true obligations of U.S. financial institutions"
What is at stake? Forgetting cynicism, we can assume that both sides want true values reflected. The difference is in what is "true". Levitt and others believe that market prices should be used while the banks believe that markets are not giving "fair values" right now and that their own models give a truer value.
"Wells Fargo and other banks argue the rule doesn’t make sense when trading has dried up because it forces companies to write down assets to fire-sale prices.
By letting banks use internal models instead of market prices and allowing them to take into account the cash flow of securities, FASB’s changes could raise bank industry earnings by 20 percent, according to Robert Willens, a former managing director at Lehman Brothers Holdings Inc. who runs his own tax and accounting advisory firm in New York."
Neither market values nor valuation models are always going to be right, but I have to side with Levitt and say that the objective market values are better.
Why? Because those making the subjective valuations may have an incentive to inflate the values. Consider this example. In my life outside of academia I help out at my family's grocery stores. What if rather than writing down old lettuce, I keep them on the books because I want to keep earnings up (at least temporarily) so that I get a bonus, can cash out stock options, or the like. The lettuce is still bad, whether I say it is good or not. But to the outside investor, they can no longer tell.
From CFO.com the IASB joined in the criticism of FASB:
" "As distasteful as it is, we've got to recognise that there is a crisis on and we can't totally ignore what another standard-setter is doing," said a board member at the meeting in London. But other members, most notably James Leisenring, argued that FASB was proposing to allow companies to "ignore" the traded price of a financial instrument in favour of using internal models.
In the end, the IASB issued a "request for views" about FASB's proposals. This rarely used document is unusually broad and asks parties what they think of the proposals, with no formal implications for what the IASB's next steps should be. The IASB's document is read as a thinly veiled critique of how FASB's hand was forced by US politicians. It cautions that "attempting accelerated efforts in complex areas" can have "unintended consequences and undermine investor confidence in financial reporting.""