Global Business

Europe in Lock Step with U.S. Fair Value

IASB will rush to mesh international fair value rules with recently proposed guidance from the U.S.
Marie LeoneOctober 9, 2008

The parent organization of the International Accounting Standards Board announced support for the standard-setter’s “accelerate” response to the global credit crisis — support that includes embracing the clarification of fair value standards issued last week by the U.S. Financial Accounting Standards Board.

In addition, trustees of the International Accounting Standards Committee said that IASB is currently working on new language to eliminate the differences in how international financial reporting standards and U.S. generally accepted accounting principles classify financial instruments at fair value.

Expressing a sense of urgency regarding handling fallout from the global credit crisis, the trustees agreed to suspend its normal due process and rush out the reworked language sometime next week. Today’s IASC announcement follows FASB’s Oct. 1 statement that it would release fair value guidance by the end of this week to clarify how companies should value illiquid assets under the fair value accounting method described in FAS 157 — the rule related to fair value measurement.

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Like its European counterpart, FASB expedited the guidance-release process by reducing the public comment period to just seven days. The guidance, which is expected to contain an illustrative example, is aimed at quelling the controversial issue of how to measure the value of a financial asset under FAS 157 when no market exists for the asset.

The clarification comes amid a swelling chorus of calls from bank lobbyists, trade groups, lawmakers, and the Bush administration to suspend fair value accounting. Meanwhile, the Emergency Economic Stabilization Act, the new U.S. law that authorizes a $700 billion Wall Street bailout package, also requires the Securities and Exchange Commission to conduct a 90-day study on the effects of fair-value accounting. Further, the law also gives the SEC power to suspend fair-value — also referred to as mark-to-market accounting — “for any issuer.”

Meanwhile, the top financial markets regulator in Europe, EU Internal Market commissioner Charlie McCreevy, called for an easing of fair-value accounting rules for banks, as a way of allowing them to value toxic assets at historical cost rather than current market prices. He also supports FASB’s move to clarify FAS 157.

Those who blame fair-value accounting as either a cause or an accelerant in the current financial crisis do so because it forces banks forced to write down the values of illiquid securities. That in turn, has compromised both their balance sheets and their regulatory capital ratios, affecting their actual or perceived ability to lend. Defenders of fair value counter that the accounting simply exposed serious problems with bank investments, and that suspending it would be the equivalent of ignoring those problems, as Japanese banks did during their so-called “lost decade.”

IASB noted that it has reviewed the FAS 157 guidance, and considers it consistent with IAS 39, the IFRS standard related to the recognition and measurement of financial instruments. Like FASB, IASB also emphasized that the guidance is not an amendment to the fair-value measurement rule, but rather provides clarification for determining fair value in inactive markets.

FAS 157 provides a measurement hierarchy that provides ways to value securities depending on how liquid they are. Regularly traded securities are valued on their selling price, where as securities that are thinly traded or in illiquid markets have a different set of inputs. In practice, however, many experts suspect that banks and financial institutions gave undue weight to the last observable selling price of their securities before the markets froze completely. The new guidance is expected to explain when it is appropriate for companies to use management’s internal assumptions in combination with risk factors, to value illiquid assets.