Thursday, October 30, 2008

SEC Roundtable: Accountants Battle it Out

SEC Gets Conflicting Advice On Mark-to-Market Accounting

U.S. securities regulators received conflicting advice Wednesday on whether to dispense with mark-to-market accounting rules that critics say are deepening the nation's economic woes.

The issue was debated at a public forum at the Securities and Exchange Commission, which is under pressure to suspend or repeal mark-to-market accounting for certain financial instruments. Congress ordered the SEC to examine the matter and provide a written report by Jan. 2. SEC Chairman Christopher Cox said regulators will hold a second public session on the topic on Nov. 21, and seek written input from the public through Nov. 13.

Supporters and opponents of fair-value, or mark-to-market, accounting clashed at Wednesday's session on whether the approach is helping or harming investors.

Former Federal Deposit Insurance Corp. Chairman William Isaac called for fair- value accounting to be suspended or repealed immediately, saying it is " transparently wrong" and "senselessly destructive" to force companies to slash the values of loans and other financial assets to unrealistically low levels.

Yet changing the rules on fair-value accounting could increase uncertainty among investors and make markets more anxious rather than less, countered University of Chicago accounting professor Ray Ball.

"I think it would be a terrible shame if we shot the messenger and ignored the message," said Ball.

PricewaterhouseCoopers LLP partner Vincent Colman defended the current rules and said the Norwalk, Ct.-based Financial Accounting Standards Board should be kept "free from political pressures" and undue outside influence.

Although the SEC oversees the FASB, it rarely overrules it. Isaac recommended more direct oversight, requiring U.S. accounting rules to be approved by the Federal Reserve and the Federal Deposit Insurance Corp. He endorsed a return to historical accounting, which values assets and liabilities at their original cost, terming that vastly superior to the more volatile mark-to-market approach.

Mark-to-market accounting rules require companies to adjust valuations of certain assets and liabilities they intend to trade or sell to reflect current market prices. Critics say it makes earnings too volatile and intensifies market downturns. Even supporters of the approach concede that it is much harder to apply when markets aren't functioning normally, requiring companies to estimate values using computer models, or look to distressed "fire-sale" transactions.

While it's "deeply deluded" to think some battered assets will recover anytime soon, efforts to value something that isn't trading could produce "mark to mush, " worried AFL-CIO associate general counsel Damon Silvers.

"There is a real risk that things here are not what they seem to be," said Silvers.

Mark-to-market accounting rules also are crimping mergers because companies have to adjust valuations of assets they acquire even if they don't intend to sell them, a nasty side-effect that only makes bad markets worse, warned Aubrey Patterson, chairman and chief executive of BancorpSouth Inc. (BXS), based in Tupelo, Miss.

Cleveland-based KeyCorp (KEY) abandoned some acquisitions for that reason, according to accounting policy director Chuck Maimbour. He said the bank "just couldn't make it work" and walked away from deals due to the potential hit from mark-to-market accounting rules.

PwC's Colman suggested that the current fair-value accounting rule could be tweaked to distinguish between actual credit losses and other factors, such as declines in value due to illiquid markets. The idea drew a mixed response, with some questioning whether companies could make such calls easily, or if that would make it even harder to determine the fair value of an illiquid asset.

Cindy Ma, a managing director and valuation expert with Houlihan Lokey Howard & Zukin, said she would be afraid to use that approach, fearing it would rely heavily on computer models that "can be manipulated," and create a "nightmare" for auditors who have to sign off on a company's financial reports.

Swiss Reinsurance Co. (SWCEY) Managing Director and Chief Claims Strategist Richard Murray, who chairs the U.S. Chamber of Commerce Center for Capital Markets Competitiveness, said there is no easy way to value a company, with or without mark-to-market accounting rules. He stressed the need for companies and auditors to bring judgment to bear and asked regulators to consider offering a "safe harbor" from legal liability for honest valuation mistakes.

By Judith Burns, Dow Jones Newswires

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