Growth Strategies

Quick Quiz: What’s a Reporting Entity?

In the small-business arena, where people often own or control a number of small businesses, the answer can get complicated pretty quickly.
Cheryl RosenJune 22, 2007

Before you can translate words into another language, you have to be sure you understand what they mean in your own country. Even the English definitions of the most basic accounting terms — such as “reporting entity” — can be interpreted differently at small private businesses and at large public companies. Ideas that fit one group like a glove don’t easily apply to another.

Such confusion was obvious at a discussion at Wednesday’s meeting of the Financial Accounting Standards Board’s Small Business Advisory Committee, where FASB’s Ron Bossio asked for feedback on what a reporting entity might actually be. As part of their Joint Conceptual Framework Project, FASB and the International Accounting Standards Board (IASB) have been unearthing gaps between the ways different groups think about financial reporting. Their goal: to try to bridge those hiatuses in a way that will make future international decision-making easier. But first FASB must reconcile the differences between small- and big-company concepts at home.

The boards’ current definition of a reporting entity is a “circumscribed area of economic interest that chooses to, or is required to, prepare general purpose external financial reports” and that “controls” the power and benefits of other entities, according to a handout circulated at the meeting. That seems straightforward enough when a group of companies is controlled by a Berkshire Hathaway or a General Electric, for example.

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But in the small-business arena, where people often own or control a number of small businesses, things get complicated pretty quickly. “The brother-sister kind of relationship, where two entities are aligned, is pretty common in the small-business environment,” said Bossio. Further complicating the issue are cases in which the parent is, well, a human parent, say one named John Smith, who owns Company A and Company B. Must Smith include the assets of the “parent” — his house and his car, for example — in a combined financial statement that also includes the accounts of his two businesses?

Wednesday’s discussion had no immediate answer. For now, FASB and IASB agree on requiring consolidated financial statements for a parent entity. While FASB wouldn’t require a parent company to issue so-called “parent-only” financials in addition to consolidated financials, IASB members haven’t reach a decision on that issue, according to Bossio. Some IASB members hold the same view as FASB, while other IASB members would require parent-only financials in addition to consolidated financials of the parent.

Reconciling the U.S. and international positions on the reporting-entity issue, as on many other matters, will be a long time coming. The framework project will take years to complete, Bossio acknowledges, so the two boards and their many constituencies have plenty of time to work things out. “We’re working toward a discussion paper [on how to account for reporting entities] that then would go to exposure draft. But good conceptual thinking will help the boards think things through,” he said.