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Looking to Other Standard Setters
Robert W. Rouse
he Securities and Exchange Commission (SEC)has long been responsible
for generally accepted accounting principles (GAAP) applicable to financial
reporting for publicly held companies. The agency has also been the designated
agency for issuing standards relating to the independence of auditors of publicly
held companies and, in the mid-1990s, was formally authorized to promulgate
generally accepted auditing standards (GAAS).
Robert W. Rouse, Ph.D., CPA, is a
professor at the College of Charleston. He served as an academic fellow
in the Office of Chief Accountant at
the SEC. He is a member of the SEC
Regulations Committee of the
American Institute of Certified
Public Accountants.
Because of limited resources, however, the SEC has preferred to “look to” the
private sector for the promulgation of these standards. The Accounting Principles
Board (APB) and its successor, the Financial Accounting Standards Board
(FASB) have been affirmed as the setters for GAAP. The Auditing Standards
Board (ASB) has been recognized as the standard setter for GAAS, and the newly
created Independence Standards Board (ISB) has been acknowledged as the
responsible agency for independence standards for auditors of registrants. While
recognizing these setters, the Commission has retained the final authority to
issue standards if these agencies do not respond with either appropriate guidance
or in an expeditious manner.
Recent actions by these setters will have significant impact upon financial
reporting and the public accounting profession as they relate to registrants.
Perhaps the Financial Accounting Standards Board made the most startling
announcement in late April. The pooling of interest method of business
combinations will be eliminated and the purchase method of business
combinations will be the one acceptable method.
The change is expected to become effective in late 2000, which is the target
date for the new standard. A formal exposure draft for the new standard is
expected in the third quarter of this year.
In making the announcement Edmund Jenkins, chair of the FASB, stated,
“The Board decided it is hard for investors to make sound decisions about
CCC 1044-8136/99/1004139-03
© 1999 John Wiley & Sons, Inc.
Robert W. Rouse
combining companies when two different treatments exist for what is essentially
the same transaction. We believe that the purchase method of accounting gives
investors a better idea of the initial cost of a transaction and the investment’s
performance over time than does the pooling of interests method.”
The unanimous decision of the Board will bring U.S. GAAP more in line with
the accounting for combinations commonly acceptable in many countries. The
use of pooling of interest is the “exception most everywhere else in the world.”
The Board will revisit the issue of goodwill that is created when the purchase
price exceeds the revalued assets of the acquired company. Goodwill is currently
considered an asset and is amortized to earnings over time.
Walter Schuetze, the Chief Accountant in the Division of Enforcement at the
SEC, has suggested that purchased goodwill should not be recorded as an asset
on the balance sheet. In a speech to the Financial and Reporting Section of the
American Accounting Association, Mr. Schuetze took issue with the conclusion
that the cost of purchased goodwill should be capitalized. If “exchangeability” is
a required criterion for recognition of goodwill as an asset, goodwill would
not qualify.
Mr. Schuetze described goodwill as the amount left over, i.e. the “lump.” The
“lump” cannot be exchanged for anything, cannot be used to produce anything,
and cannot be used to settle a liability. The future economic benefit criterion is
not met, and the amount should be expensed.
In another standard-setting precedent, the Independence Standard Board
issued its first standard, Independence Discussions with Audit Committees. Standard
No. 1 will require the independent auditor to make the following communication
to an audit committee on at least an annual basis—or to the board of directors
if no audit committee exists:
1. A disclosure of all relationships between the auditor and the registrant
that in the auditor’s judgment may be thought to bear on independence
2. A confirmation that the auditor is independent of the registrant within
the definitions of the Securities Acts
3. A discussion of the auditor’s independence with the audit committee
These communications are required for all audits of registrants with fiscal years
ending after July 15, 1999.
The largest public accounting firms have addressed the issue of the auditor
association with a registrant’s interim financial statements. These firms have
recognized a need for a Statement on Auditing Standard (SAS) No. 71, Interim
Financial Statement, engagement to be performed on all interim financial
statements of companies that file 10-Q’s.
The degree of association, if any, of the registrant’s accountant/auditor with
interim financial statements currently covers a wide spectrum. While many
registrants may have SAS 71 reviews, others have limited or no involvement of
their accountants with interim financial statements. An SAS 71 engagement calls
for a review, not an audit, and a report from the accountant is optional.
The five largest firms will require a review of interim financial statements for
clients that file 10-Q’s. While there is an expectation that the requirement will be
The Journal of Corporate Accounting and Finance/Summer 1999
demanded of all registrants, exemptions could be granted by the individual
firms. There would be no requirement for the provision of a review report
because while SAS 71 provides the guidance, no report is required to accompany
the financial statements. It is expected that many of the remaining auditing firms
with publicly held clients will follow suit. ♦
The Journal of Corporate Accounting and Finance/Summer 1999
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