The Bankers’ case goes back a long way--at least as far as 1999 (and further) with the release of this comment letter, back when the the FASB first began to advance the case for greater fair value use in determining the income of financial institutions. Portions of their case from that letter (remember this is from 1999):
- Users of bank financial statements do not support the proposed change to full fair value accounting. This is because a full fair value system does not provide a sound basis for predicting banking book net cash flows and lacks relevance.
- Banking book income is earned on an ongoing basis over time and not from taking advantage of short term fluctuations in prices; the accruals accounting method provides a dynamic and faithful representation of both this earning process and the manner in which a bank’s management operates. It, therefore, provides a more relevant and reliable representation of this earning process. A notional fair value snapshot taken at a historic balance sheet date fails to achieve this.
- The reality is that fair values for a banking operation are significantly more subjective than values derived under the mixed measurement accounting model and this would reduce both the reliability and comparability of financial statements.
- Within any given accounting measurement model, it is not possible to encapsulate in a single measure everything that an investor needs to know. Both fair value and historical cost accounting need to be supplemented by appropriate risk-based and other disclosures in order to provide investors with a complete picture.
The Bankers' points in other older comment letters are eerily relevant to today’s dilemma: "Notwithstanding the development of securitization techniques and credit derivatives, it remains the case that customer loans are generally held to maturity by banks without variation of the original contractual terms of the loan. Accounting for these loans on an historical cost basis, therefore, most closely reflects the economic substance and cash flows, namely, that income is earned over the period of the loan. The bank is exposed to risk on the non-repayment of the principal advanced. "
"It has been argued that the fair value of a customer loan provides relevant information about the current credit quality of that loan; as a borrower’s credit standing deteriorates, the credit spread demanded rises and therefore the fair value falls and a loss occurs. However, this loss is theoretical because the widening of the spread neither has an impact on the existing loan contract nor on the ultimate repayment of the loan in the majority of cases. "
We do not support the FASB's move toward fair value accounting. This will have a significant impact on all industries and will significantly impair the comparability of financial statements. The indication on the FASB's website that the IASB " believes that the fair value option will enable constituents to become more familiar with using fair value as a measurement attribute for financial instruments" is frightening. Experimental accounting, without sufficient study, should not be used for financial reporting measurement purposes, particularly because it can have such a significant impact on an entire industry. If this is the goal, then the FASB and IASB should provide a discussion document for comment on fair value. This document would need sufficient study and consultation with industry and users prior to issuing a standard. Without sufficient study, this experiment could fail. The indication on the FASB's website that the IASB " believes that the fair value option will enable constituents to become more familiar with using fair value as a measurement attribute for financial instruments" is frightening. Experimental accounting, without sufficient study, should not be used for financial reporting measurement purposes, particularly because it can have such a significant impact on an entire industry.