Last spring, when he was chairman of the International Accounting Standards Board (IASB), Sir David Tweedie made a case for principles-based accounting standards.
“I believe that this approach is superior,” he said during a speech to the U.S. Chamber of Commerce.
Tweedie was advocating for standards based on principles rather than rules as he pushed for incorporation and use of IFRS for public companies in the United States.
Principles-based vs. rules-based standards is one of many topics expected to come up Tuesday when Tweedie joins IFRS Advisory Council Chairman Paul Cherry and Bob Herz, a former FASB chairman, as part of a panel discussion on financial reporting’s past, present, and future.
The session is called “Shaping the Future: Lessons From Accounting Standards Leaders.” A presentation of the AICPA, the Institute of Chartered Accountants of Scotland (ICAS), and the Canadian Institute of Chartered Accountants (CICA), the panel discussion is likely to include topics such as the impact of the recent financial crisis; private company solutions worldwide; and the complexity of financial statements.
AICPA Chairman Greg Anton and ICAS Chief Executive Anton Colella will moderate the invitation-only session in New York City.
Tweedie took office as ICAS president on Friday. A little more than a year ago, he discussed principles-based accounting, saying that the use of principles is superior to rules-based approaches because well-intentioned rules present opportunities for what he called “financial engineering.”
“It is harder to defeat a well-crafted principle than a specific rule that financial engineers can bypass,” he said. “A principle followed by an example can defeat the ‘tell me where it says I can’t do this’ mentality. If the example is a rule, then the financial engineers can soon structure a way round it.”
Principles-based accounting has become a frequent topic of conversation in the profession because of the use of IFRS by many countries, and the SEC’s consideration of adoption of IFRS for U.S. public companies. IFRS financial reporting standards tend to be more principles-based and less rules-intensive than the standards in U.S. GAAP.
The proposed, converged FASB and IASB standard on revenue recognition from contracts with customers demonstrates the angst that principles-based standards can create.
The proposal is called Revenue Recognition (Topic 605): Revenue From Contracts With Customers by FASB and Revenue From Contracts With Customers by the IASB. The standard’s core principle says revenue should depict the transfer of promised goods or services to customers in an amount that the company expects to be entitled to receive in exchange for those goods and services. But accountants in industries in the United States are used to receiving more guidance for their specific circumstances and are afraid of getting tripped up in Step 1 of the five-step process used to identify that amount, as demonstrated by a recent letter from the AICPA Health Care Expert Panel to FASB and the IASB.
Step 1 calls for the entity to identify the contract with a customer. The Health Care Expert Panel letter said health care operations often involve a network of contractual relationships between the patient, physician, hospital, and third-party payer that could make the standard difficult to apply without more explicit guidance.
The letter said different conclusions could be reached on whether third-party payer contracts can be considered contracts with customers, and that the exposure draft’s provisions around the combining of contracts are likely to present interpretation and application challenges for health care providers.
“It’s a very unique type of revenue transaction when there are all those parties … to a single procedure,” said Richard Paul, chairman of the AICPA Financial Reporting Executive Committee, which is authorized to make public statements on behalf of the Institute on financial reporting. “And you can see how that adds to the complexity of trying to account for all those different revenue streams.”
It’s a complexity that advocates of rules-based standards could say is not addressed by the principles-based standard. The question of principles-based standards even found its way to a hearing on accounting and auditing oversight in front of the House of Representatives’ Subcommittee on Capital Markets and Government Sponsored Enterprises on March 28.
Rep. John Campbell, R-Calif., a CPA, asked panelists about problems with litigation that principles-based accounting could create if IFRS were adopted in the U.S.
“Principles-based accounting is a good thing, and that we ought to go in that direction, but that under our current litigation system, if we do that, we won’t have a Big Four (of) accounting firms,” Campbell said. “We might not have a Big One accounting firm because it’s too easy in a principles-based system to second-guess a judgment call, which turns out to be wrong.”
Tweedie and the other panelists for Tuesday’s session bring considerable clout to that discussion and others relevant to financial reporting. Tweedie was IASB chairman from 2001 to 2011 before becoming president of ICAS. Herz was FASB chairman from 2002 to 2010 and was a senior executive with PricewaterhouseCoopers. Cherry chairs the IFRS Advisory Council and was chairman of the Canadian Accounting Standards Board for eight years before retiring in June 2009.
Last year, Tweedie acknowledged in his speech that principles-based accounting will be difficult to implement and sustain in the United States because of the propensity for litigation. But he said that challenge is overstated.
“It can be mitigated by the careful generation, collection, and retention of documentation and by seeking of expert advice and the views of professional colleagues throughout the life cycle of transactions,” Tweedie said last spring. “Above all, those who make such judgments, document them, and make an honest and fair attempt to meet the principle should be defended.”
—Ken Tysiac (
ktysiac@aicpa.org
) is a JofA senior editor.
