Question

What organizations are responsible for governing financial reporting? What are their roles? How have the roles changed in the last 20 years? How will their roles change in the next 20 years?

Answer 1

Financial reporting is regulated by organizations such as the Securities Exchange Commission (SEC), the Financial Accounting Standards Board (FASB), AICPA and the International Accounting Standards Board (IASB).

The SEC was created by the federal government to help create a standard approach on how financial information is presented to stockholders.

The mission of the Securities Exchange Commission, or SEC (2010), is to “protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation” (para. 1). The SEC maintains that all investors, whether larger or small, should have all of the basic information of a security required to make investment decisions (para 6). As a result, the SEC requires all publicly traded companies to disclose “meaningful financial and other information to the public” (para 6). The SEC was formed under the Securities Act of 1933 and the Securities Exchange Act of 1934 in the wake of the great depression to restore confidence in the stock markets (para 16).

Next, we have the Financial Accounting Standards Board, or FASB. Similar to the SEC, the FASB aims ensure that investors have useful information for making investment decisions. More specifically, the FASB’s mission is to “establish and improve standards of financial accounting and reporting that foster financial reporting by nongovernmental entities that provides decision-useful information to investors and other users of financial reports” (para 3). The FASB notes on their website that while the SEC has the legal authority to establish the financial accounting and reporting standards, the SEC’s position is to rely on private organizations, like the FASB, for this function (para 2).

The next organization is the American Institute of Certified Public Accountants (AICPA). The AICPA is a national group of professional certified public accountants that created committees to create standards, procedures, and guidelines that make up the GAAP. The AICPA group successfully created the accounting principles board over the years allowing advancement in accounting principles and practices.

we have the International Accounting Standards Board, or IASB. The IASB (2010) is responsible for developing and publishing International Financial Reporting Standards (or IFRSes,) ensuring that these standards are enforceable, and promoting their use (para 1).

Their role in governing financial reporting

The SEC requires all publicly traded companies to provide detailed financial reports to the public on a quarterly basis and uses the FASB standards as a format for those reports. Together, the SEC and FASB want to make sure that people have as much information as is possible about the companies they invest in, and that this information is delivered in a clear and consistent manner. FASB standards are aimed at creating financial transparency and eliminating fraudulent activity so that companies are less likely to fool investors through accounting slight-of-hand.

The SEC consists of five divisions and 23 offices. Their goals are to interpret and take enforcement actions on securities laws; issue new rules; provide oversight over securities institutions; and coordinate regulation among different levels of government. The five divisions are:

• Division of Corporate Finance: Ensures investors are provided with material information in order to make informed investment decisions
• Division of Enforcement: In charge of enforcing SEC regulations by investigating cases and prosecuting civil suits and administrative proceedings
• Division of Investment Management: Regulates investment companies, variable insurance products and federally registered investment advisors
• Division of Economic and Risk Analysis: Integrates financial economics and data analytics into the core mission of the SEC
• Division of Trading and Markets: Establishes and maintains standards for fair, orderly and efficient markets

The AICPA performs specific functions for the advancement of its members and the practice of management accounting.

1. Setting Standards of Ethics and Best Practice for Accounting Professionals

AICPA guidelines define generally accepted accounting standards for various areas of practice for CPAs. In spite of recent developments that transferred some of the oversight for CPA practices in public companies, AICPA retains considerable influence in setting standards, enforcing ethical practice and monitoring service quality in relation to accepted accounting practices for CPAs in private practice or who provide services to individuals and privately held companies. The Financial Accounting Standards Board, under the helm of the Securities and Exchange Commission, establishes and authorizes accounting rules, and AICPA provides technical and administrative support as needed.

2. Developing Credentialing Programs to Enhance Member Competencies

CPE credits are mandatory for those renewing their CPA license and AICPA membership as well. AICPA offers seminars and training programs that count as CPA credits. These programs may be single-unit events or an entire course that will lead to a new credential for the member. The Personal Financial Specialist credential is for CPAs specializing in personal financial planning services. The Certified Information Technology Professional is a CPA who specializes in the intersection of technology and accounting practices while CPAs taking the Accredited in Business Valuation program learn about strategies in valuation and forensic litigation that could help clients maximize the yield of their investments.

3. Leading and Sponsoring Advocacies that Benefit Accounting Professionals

AICPA monitors legislative efforts and other issues that may have an impact on accounting practices and standards. AICPA collaborates with state CPA societies and other organizations to disseminate information and to educate federal, state and local policymakers on issues affecting the accounting sector. AICPA may prepare comment letters on technical proposals and contribute professional feedback for legislative initiatives that directly affect the accounting profession.

4. Undertaking Research

AICPA prepares white papers and technical briefs on pending and approved legislation. The organization may also create guidelines for compliance with new legislation while encouraging feedback on specific features of initiatives and programs that relate to the practice of accounting.

5. Preparing and Curating Publications on Industry-related Matters

Aside from its regular newsletters, AICPA maintains a library of resources that members can access for free or at discounted prices. These publications include books, journals and other trade publications covering topics such as accounting and auditing, business valuation, financial management and reporting, fraud and forensic strategies, practice management and financial planning.

The American Institute of Certified Public Accountants plays a key role in ensuring that accounting professionals are held to the highest standards. To ensure member success in all aspects, AICPA provides resources to help members gain more credentials and master the skills that would help them succeed. AICPA takes a leadership role in advocacies and research initiatives that benefit accounting professionals.

The reasons for the changes that have happened in the roles of these organizations during the last 20 years

Pressures on the accounting profession to establish uniform accounting standards began to surface after the stock market crash of 1929. Some feel that insufficient and misleading financial statement information led to inflated stock prices and that this contributed to the stock market crash and the subsequent depression.

The 1933 Securities Act and the 1934 Securities Exchange Act were designed to restore investor confidence. The 1933 act sets forth accounting and disclosure requirements for initial offerings of securities (stocks and bonds). The 1934 act applies to secondary market transactions and mandates reporting requirements for companies whose securities are publicly traded on either organized stock exchanges or in over-the-counter markets.⁸ The 1934 act also created the Securities and Exchange Commission (SEC).

The Securities and Exchange Commission (SEC) was created by Congress with the 1934 Securities Exchange Act.

In the 1934 act, Congress gave the SEC both the power and responsibility for setting accounting and reporting standards for companies whose securities are publicly traded.However, the SEC, a government appointed body, has delegated the primary responsibility for setting accounting standards to the private sector. It is important to understand that the SEC delegated only the responsibility, not the authority, to set standards. The power still lies with the SEC. If the SEC does not agree with a particular standard issued by the private sector, it can force a change in the standard. In fact, it has done so in the past.

The SEC has the authority to set accounting standards for companies, but has delegated the responsibility to the accounting profession.

The SEC does issue its own accounting standards in the form of Financial Reporting Releases (FRRs), which regulate what must be reported by companies to the SEC itself. These standards usually agree with those previously issued by the private sector.

Early Standard Setting. The first private sector body to assume the task of setting accounting standards was the Committee on Accounting Procedure (CAP). The CAP was a committee of the American Institute of Accountants (AIA). The AIA, which was renamed the American Institute of Certified Public Accountants (AICPA) in 1957, is the national organization of professional public accountants. From 1938 to 1959, the CAP issued 51 Accounting Research Bulletins (ARBs) which dealt with specific accounting and reporting problems. No theoretical framework for financial accounting was established. This approach of dealing with individual issues without a framework led to stern criticism of the accounting profession.

In 1959 the Accounting Principles Board (APB) replaced the CAP. Members of the APB also belonged to the AICPA. The APB operated from 1959 through 1973 and issued 31 Accounting Principles Board Opinions (APBOs), various Interpretations, and four Statements. The Opinions also dealt with specific accounting and reporting problems. Many ARBsand APBOs have not been superseded and still represent authoritative GAAP.

The Accounting Principles Board(APB) followed the CAP.

The APB’s main effort to establish a theoretical framework for financial accounting and reporting was APB Statement No. 4, “Basic Concepts and Accounting Principles Underlying Financial Statements of Business Enterprises.” Unfortunately, the effort was not successful.

The APB was composed of members of the accounting profession and was supported by their professional organization. Members participated in the activities of the board on a voluntary, part-time basis. The APB was criticized by industry and government for its inability to establish an underlying framework for financial accounting and reporting and for its inability to act quickly enough to keep up with financial reporting issues as they developed. Perhaps the most important flaw of the APB was a perceived lack of independence. Composed almost entirely of public accountants, the board was subject to the criticism that the clients of the represented public accounting firms were exerting self-interested pressure on the board and influencing their decisions. Other interest groups were underrepresented in the standard-setting process.

Current Standard Setting. Criticism of the APB led to the creation in 1973 of the Financial Accounting Standards Board (FASB) and its supporting structure. The FASB differs from its predecessor in many ways. There are seven full-time members of the FASB, compared to 18–21 part-time members of the APB. While all of the APB members belonged to the AICPA, FASB members represent various constituencies concerned with accounting standards. Members have included representatives from the accounting profession, profit-oriented companies, accounting educators, and government. The APB was supported financially by the AICPA, while the FASB is supported by its parent organization, the Financial Accounting Foundation (FAF). The FAF is responsible for selecting the members of the FASB and its Advisory Council, ensuring adequate funding of FASB activities, and exercising general oversight of the FASB’s activities.¹⁰ The FASB is, therefore, an independent, private sector body whose members represent a broad constituency of interest groups.¹¹

The FASB currently sets accounting standards.

In 1984, the FASB’s Emerging Issues Task Force (EITF) was formed to provide more timely responses to emerging financial reporting issues. The EITF membership includes 15 individuals from public accounting and private industry, along with a representative from the FASB and an SEC observer. The membership of the task force is designed to include individuals who are in a position to be aware of emerging financial reporting issues. The task force considers these emerging issues and attempts to reach a consensus on how to account for them. If consensus can be reached, generally no FASB action is required. The task force disseminates its rulings in the form of EITF Issues. These pronouncements are considered part of generally accepted accounting principles.

The Emerging Issues Task Force (EITF) identifies financial reporting issues and attempts to resolve them without involving the FASB.

If a consensus can’t be reached, FASB involvement may be necessary. The EITF plays an important role in the standard-setting process by identifying potential problem areas and then acting as a filter for the FASB. This speeds up the standard-setting process and allows the FASB to focus on pervasive long-term problems.

One of the FASB’s most important activities has been the formulation of a conceptual framework. The conceptual framework project, discussed in more depth later in this chapter, deals with theoretical and conceptual issues and provides an underlying structure for current and future accounting and reporting standards. The FASB has issued seven Statements of Financial Accounting Concepts (SFACs) to describe its conceptual framework. The board also has issued over 150 specific accounting standards, called Statements of Financial Accounting Standards (SFASs), as well as numerous FASB Interpretations and Technical Bulletins.¹²

In addition to issuing specific accounting standards, the FASB has formulated a conceptual frameworkto provide an underlying theoretical and conceptual structure for accounting standards.

Graphic 1-2 summarizes this discussion on accounting standards. The top of the graphic shows the sources of accounting standards in order of authority. Congress gave the SEC the responsibility and authority to set accounting standards, specifically for companies whose securities are publicly traded. The SEC has delegated the task to various private sector bodies (currently the FASB) while retaining its legislated authority.

GRAPHIC 1-2 Accounting Standard Setting

The lower portion of the graphic summarizes the framework for selecting the principles to be used in preparing financial statements in conformity with generally accepted accounting principles. The GAAP hierarchy includes the authoritative pronouncements and interpretations of the SEC, CAP, APB, and FASB, as well as AICPA industry guides, bulletins and interpretations. The FASB recently decided to categorize these various sources in descending order (a through d) of authority. Previously, this formalization of a hierarchy existed only in the auditing literature.¹³

ADDITIONAL	CONSIDERATION
Accounting standards and the standard-setting process discussed above relate to standards governing the measurement and reporting of information for profit-oriented organizations. In 1984, the Government Accounting Standards Board (GASB) was created to develop accounting standards for governmental units such as states and cities. The GASB operates under the oversight of the Financial Accounting Foundation and the Governmental Accounting Standards Advisory Council.

THE ESTABLISHMENT OF ACCOUNTING STANDARDS—A POLITICAL PROCESS

The setting of accounting and reporting standards often has been characterized as a political process. Standards, particularly changes in standards, can have significant differential effects on companies, investors and creditors, and other interest groups. A change in an accounting standard or the introduction of a new standard can result in a substantial redistribution of wealth within our economy.

The role of the FASB in setting accounting standards is a complex one. Sound accounting principles can provide significant guidance in determining the appropriate method to measure and report an economic transaction. However, the FASB must gauge the potential economic consequences of a change in a standard to the various interest groups as well as to society as a whole. One obvious desired consequence is that the new standard will provide a better set of information to external users and thus improve the resource allocation process.

The FASB must consider potential economic consequences of a change in an accounting standard or the introduction of a new standard.

An example of possible adverse economic consequences is the issue of accounting for postretirement employee health care benefits. Many corporations guarantee to pay the health care and life insurance costs of their employees after retirement. Traditionally, these companies accounted for these benefits as expenses in the period in which they made payments to or on behalf of retired employees. In 1989, the FASB proposed that these costs be accounted for by recognizing expenses over the period of employment rather than after retirement.

Companies feared that the new standard would seriously depress their annual income, and as a result, they would be forced to reduce their health care costs for retirees to soften the effect of the new standard. A survey of 992 large companies found that during the two years following the adoption of the new standard, 79% of the companies surveyed changed their retiree medical plans. Of those, 78% increased retirees’ share of costs and 1% eliminated all coverage.¹⁴ As a specific example, American Telephone and Telegraph Co. in 1989 negotiated with its union to pay health care benefits to retirees only up to a maximum fixed amount, as opposed to unlimited medical benefits offered by many companies. Of course, AT&T’s decision to limit retiree medical benefits may have been purely a business decision unrelated to the new reporting requirements.¹⁵ Or, the new accounting standard may have caused companies like AT&T to reevaluate the costs and benefits of their postretirement packages.

Carl Landegger, chairman of The Black Clawson Company, expressed his fear of the new accounting standard in open hearings before the FASB in 1989. The FASB reacted to these fears by modifying their originally proposed accounting treatment to ease possible adverse economic consequences to current and future retirees covered by these postretirement health care plans. The resulting standard, SFAS 106, “Employers’ Accounting for Postretirement Benefits Other Than Pensions,” was issued in 1990.

Another example of the effect of economic consequences on standard setting is the highly controversial debate surrounding accounting for employee stock options. Employees often are given the option to buy shares in the future at a preset price as an integral part of their total compensation package. The accounting objective for any form of compensation is to report compensation expense during the period of service for which the compensation is given. At issue is the amount of compensation to be recognized as expense for stock options.

Historically, options have been measured at their intrinsic value, which is the simple difference between the market price of the shares and the option price at which they can be acquired. For instance, an option that permits an employee to buy $60 stock for $42 has an intrinsic value of $18. The problem is that options for which the exercise price equals the market value of the underlying stock at the date of grant (which describes most plans) have no intrinsic value and thus result in zero compensation when measured this way, even though the fair value of the options can be quite substantial. To the FASB and many others, it seems counterintuitive to not record any compensation expense for arrangements that routinely provide a large part of the total compensation of executives.

In 1995, after lengthy debate, the FASB bowed to public pressure and consented to encourage, rather than require, companies to expense the fair value of employee stock options. Recently, nearly a decade later, the contentious issue resurfaced, and the FASB issued an exposure draft requiring companies to measure options at their fair values and to expense that amount over an appropriate service period.

Public pressure sometimes prevails over conceptual merit in the standard-setting arena.

The most recent example of the political process at work in standard setting is the heated debate that occurred on the issue of accounting for business combinations. Back in 1996, the FASB added to its agenda a project to consider a possible revision in the practice of allowing two separate and distinct methods of accounting for business combinations, the pooling of interests method and the purchase method. A thorough explanation of the differences between these methods is beyond the scope of this text. For our discussion here, just note that a key issue in the debate related to goodwill, an intangible asset that arises only in business combinations accounted for using the purchase method. Under the then-existing standards, goodwill, like any other intangible asset, was amortized (expensed) over its estimated useful life thus reducing reported net income for several years following the acquisition. It was that negative impact on earnings that motivated many companies involved in a business combination to take whatever steps necessary to structure the transaction as a pooling of interests, thereby avoiding goodwill, its amortization to expense, and the resulting reduction in earnings.

As you might guess, when the FASB initially proposed eliminating the pooling method, many companies that were actively engaged in business acquisitions vigorously opposed the elimination of this means of avoiding goodwill. To support their opposition these companies argued that if they were required to use purchase accounting, many business combinations important to economic growth would prove unattractive due to the negative impact on earnings caused by goodwill amortization and would not be undertaken.

To satisfy opposition to its proposal, the FASB suggested several modifications over the years, but it wasn’t until the year 2000 that a satisfactory compromise was reached. Specifically, under the new accounting standards issued in 2001¹⁸, only the purchase method is acceptable, but to soften the impact, the resulting goodwill is not amortized.

The FASB’s dilemma is to balance accounting considerations and political considerations resulting from perceived possible adverse economic consequences. To help solve this dilemma, the board undertakes a series of elaborate information-gathering steps before issuing a substantive accounting standard involving alternative accounting treatments for an economic transaction. These steps include open hearings, deliberations, and requests for written comments from interested parties. For example, 467 comment letters were received on the 1989 proposal concerning accounting for postretirement employee health care benefits. Graphic 1-3 outlines the FASB’s standard-setting process.

The FASB undertakes a series of information-gathering steps before issuing a substantive accounting standard.

The change of roles of these organizations in next 20 years

As corporate reporting is an integral part of the corporate world, companies need to keep pace with changes in technology that might affect their reporting in order to be able to survive. Changes in technology are critical for a company as they affect all the aspects of how companies conduct their business, for example, enabling faster processing of information at reduced costs, increasing multitasking possibilities in all of their business operations. Technological innovations, especially in recent years, have also resulted in changes in corporate communication, culture and mind-set. The corporate reporting of the future should take full account of changes in technology. Developments in the model for future corporate reporting should be flexible and able to adapt to changes in technology which affect the way people interact with an entity and which significantly affect the delivery of the information itself. Most people would agree that technology has changed their way of working and living significantly. Current developments in technology and social media already bring an unprecedented level of immediacy and sharing of information. Accessibility of corporate reporting has extended to stakeholders well beyond the investment community that represents its historical target. Information published on websites and through other digital means is instantly available to global audiences. A comparison will enable to understand the same very much

2015 Benchmarking finding	2030 Future provocation
Top performing Finance teams spend 17% less time on data gathering and 25% more time on analysis than typical functions.	Very little time will be spent on data gathering. Financial data will be available to all stakeholders in real time from a robust data source. Teams will spend part of their time on analysis but the vast majority of their time with internal and external stakeholders modelling future performance and building scenarios based on potential external events and competitor actions.
Top performing Finance teams take just 7 days to produce their forecasts. The typical function needs time.	Real time forecasting will be made possible via the use of emerging technologies and the budget/rolling forecast as we know it will cease. External/environmental factors such as customer behaviour, competitor activity, new market entrants and activity in other competing industries, markets or economies will be available, tracked and built into scenarios for management and shareholders to consider
49% of companies have relevant metrics for sustainability reporting, with 27% reporting detailed actions on their strategic priorities and 44% reporting on a segmental level about their business model	100% of companies will report on relevant sustainability metrics and in some cases this will be mandatory. Most companies will report on actions across their strategy, and over 75% will report on their business model at a segmental level.
Leading Finance teams have reduced the amount of time they spend on transactional activities by 20% in the last 3 years.	As standard, all transactional components of Finance will be fully automated and/or outsourced. Invoices will no longer exist, with organisations electronically messaging transactions seamlessly through utility hub providers. Human intervention is only to review variances and exceptions. The reduction in geographical labour arbitrage will have impacted the location of outsourced centres and brought many back on shore.