Accounting & Tax

Backing Off from the Fair-value Option

After considering early adoption of FAS 159, CIT Group determines that applying the standard ''could introduce continuing volatility into its earni...
Stephen Taub and Dave CookMay 2, 2007

CIT Group disclosed that it will reduce first-quarter earnings by nearly $71 million, or 26 percent, after deciding not to be an early adopter of a new fair-value accounting standard.

The commercial and consumer finance company had issued an earnings release on April 18 detailing its financials based on the early adoption of FAS 159, The Fair Value Option for Financial Assets and Liabilities. Issued in February by the Financial Accounting Standards Board, the accounting rule provides companies with an option to measuring assets and liabilities at their historical value.

CIT explained, however, that guidance recently issued by the AICPA’s Center for Audit Quality prompted the company to reevaluate its early adoption of the standard for selected debt and capital securities.

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According to the company, it recognized that a substantial portion of the liabilities initially elected for fair value accounting under FAS 159 were subsequently paid off, and that it did not apply fair value accounting to any replacement liabilities. “CIT determined that applying the fair value accounting option to replacement liabilities could introduce continuing volatility into its earnings,” it added in a statement.

Reuters explained that the rule aims to reduce earnings fluctuations that result from assets and liabilities being recorded at historical value, while at the same time instruments hedging those assets or liabilities must sometimes be recorded at fair value.

As a result, CIT disclosed, net income was cut by $70.8 million, while return on equity was reduced from 15.6 percent to 11.5 percent.