Down and dirty: Corporate America v IASB

Never let it be said that accountants lack guts. The nascent International Accounting Standards Board, still wet behind the ears, barely toddling on its own, has taken up the hottest accounting controversy in the world, one which could well make or break the Board.

The Board calls the project Accounting for Share-Based Payment. A few years ago, the American standard setter, Financial Accounting Standards Board, grappled with a strikingly similar project, then called Accounting for Stock Option Compensation.

The FASB project raised the biggest stink in recent accounting history. When the Board issued an exposure draft that proposed expensing stock option compensation on income statements, US corporations rallied as if in defense of nothing less than the holiness of motherhood and the almighty dollar. The value of stock options can’t be measured, they said. Adding any such value to the balance sheet would devastate Wall Street, they said. Any such requirement, they said, would bleed the high-tech sector of an essential resource.

They rallied the Congress, had hearings held, even persuaded the Senate to pass a non-binding resolution begging FASB to drop the project. They rallied the big accounting firms, inducing them to oppose the project on vague grounds of immeasurability. They rattled the cage of the Securities & Exchange Commission, threatening to take standard setting out of the private sector and into the government purview.

Despite irresolvable questions about the accuracy of its measurement formula, FASB had its accounting straight. Stock options are certainly worth more than zero. Politics, however, won out over the Board’s better judgment. FASB Statement 123 keeps the value of stock option compensation off the balance sheet, requiring only that its estimated value be disclosed in a footnote.

Time passes. The years go by. Water flows under the bridge. The world becomes a smaller place. An international accounting standards board is created. A few Americans are recruited onto the Board, of course. Among them are James Leisenring and Tony Cope, men of accounting renown who served double terms as FASB members during the stock option debacle.

One could almost hear their visceral chuckles, catch a cunning glint in their eyes and see the flash of tilting lances as the IASB added to its first agenda a project on stock option compensation.

But it wasn’t a matter of pay-back or ultimate justice. It was a matter of propriety and expediency. Equity-based compensation is becoming increasingly common throughout the world, especially where up-start companies need something to keep employees onboard. Few if any countries, however, have standards for the accounting of stock options issued as compensation. That means that they not only need a standard but don’t have an established practice that a new standard might thwart. As an early project of the IASB, therefore, this one is a logical choice.

As a starting point, the Board issued a suggested methodology that had been developed by the so-called G4+1, a group of standard setters from four nations working with the International Accounting Standards Committee, IASB’s predecessor. The IASC suggestion was quite similar to FASB’s original proposal, the dead one with the bullet holes.

And again the corporations rally, this time under the ad hoc banner of the International Employee Stock Compensation Coalition, an entity operating out of the Washington DC office of Financial Executives International. Almost all of the 70-odd members are American companies and associations. Adding the pinch of international flavour are, among others, the European Private Equity and Venture Capital Association and the Australian Venture Capital Association.

So far, the coalition’s resistance has consisted of a campaign of comment letters. Most of the letters received at IASB headquarters oppose the project, but 116 of them are verbatim clones, most of them signed by individuals referring to a uniformly anonymous “my company”.

The letters of more original outrage warned the Board not to fall into the controversy that dealt FASB such a blow. If the world really needed a standard on this issue, they said, it should adopt the one that the United States so painfully settled on, the one that keeps stock option compensation off the income statement.

Some letters included what could be interpreted as veiled threats. The IESOC letter said: “If the IASB continues on this controversial track, the debate on this one issue could endanger the current consensus supporting the IASB.” The FEI letter said: “We believe it is inappropriate and wasteful to relive the acrimonious debate that took place (during the FASB project)….”

Still, both letters reiterate that they support the IASB and the development of international standards. Both expressed a desire to see the Board devote its efforts to issues they consider more pressing.

Tony Cope says that the number of letters received from the users of financial information—investors and financial analysts—was impressive, a total of 19, well above the two or three that national standard setters ordinarily receive. All agree that they’d like to see stock option compensation recognised as an expense on income statements.

Eight letters came in from accounting firms. Seven of them supported recognition on the income statement.

Still, it isn’t the numbers that count. In pre-emptory defense against accusations that the Board may shortcut its due process by ignoring the avalanche of opposing comment letters, Cope points out that the comment process isn’t a popular election.

“You don’t count votes; that’s not the process,” Cope said shortly before the February IASB meeting where the letters would be analysed. “You look at the arguments. If the same argument is made 116 times, that doesn’t particularly add to the strength of the opinion.”

Cope said that in the initial discussion of the arguments presented in the comment letters, the Board seemed generally in agreement that stock option compensation should be expensed. The comment letters tended to agree that the grant date, not the vested date, was the most appropriate measurement date. Some advocated the exercise date. There was no agreement on the best measurement method.

Measurability is bound to be the most contentious point in the Board’s discussions. Usable formulas, however imperfect, exist. Financial analysts use them all the time. But corporate resistance is bound to focus its attack on the utility and accuracy of any chosen metrics.

Cope emphasizes that the IASB is still very much undecided about the final form of any eventual standard.

“The way forward is still unclear, I think,” he said following the Board’s discussion of the comment letters. “There definitely seems to be a consensus among Board members that there is an expense that should be recognised, but it appears there may be significant differences about measurement techniques and the appropriate measurement date.”

The stakes are very high

Here’s what’s at stake. International business needs international accounting standards. To work, however, such standards need to be accepted by the United States, the world’s preponderant economy. The SEC has issued a request for comments on the possibility of accepting IASB standards for the financial reports of companies trading on US stock exchanges. The comments are mixed, but the general trend is towards accepting international standards only when they are reconciled to US GAAP. As recently as late February, the SEC only indicated that it was monitoring the world’s progress towards international standards and that the commission was “working toward convergence”.

But what happens if the IASB adopts a standard that is abhorrent to American corporations? The IESOC has sworn to resist such a standard “for as long as it takes” to finish it off. If the IASB comes to America proffering a disagreeable standard, the coalition, not to mention the FEI and other corporate associations, may well take the issue to the Congress. Congress may well order the SEC to reject international standards even if such financial isolationism deals a crippling blow to the efficiency of global business.

So the stakes are very high. The IASB is betting the integrity of its independence, maybe even its existence. American corporations are betting their membership in a truly global business community. Maybe the world’s accountants will find their way to a global compromise. And maybe they won’t.

Glenn Cheney is a business journalist based in the USA.