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PCAOB Member Argues Against IFRS Capitulation

PCAOB member Charles Niemeier, in remarks to the New York State Society of CPAs, said he believes that the elimination of the U.S. GAAP reconciliation requirement reflects capitulation, rather than an effort toward the convergence with international financial reporting standards. It will not result in greater comparability of financial statements, in his view, but merely moves away from U.S. GAAP. The reconciliation exposed differences in the accounting standards and provided value-relevant information, according to Niemeier. Convergence will now be harder rather than easier, he said. Niemeier said the move to IFRS should be reconsidered.

Niemeier spoke of the misconception that IFRS is better than GAAP because it is principles-based. IFRS is not more principles-based, in his view, just "younger." Accounting under IFRS is more variable, not more principled, he explained. He urged the International Accounting Standards Board to introduce more comparability in the information that is reported for investment purposes.

Niemeier referred to the reportedly frequent remark by preparers to their auditors to show them where the accounting rules say they can't do something they want. He quoted a European asset manager who noted that the IFRS "scope for interpretation ... remains colossal."

Niemeier refuted the claim that the worldwide adoption of IFRS will provide comparability and render GAAP obsolete. He pointed to the use of so-called "nostalgic accounting" in which many European companies continue to base their accounting on home country standards even after being required to use IFRS. Some believe the nostalgic accounting is encouraged by local regulators.

Niemeier said the objectives of comparability for investors and flexibility for managers conflict. If IFRS does not deliver comparability, he said the claims that GAAP is obsolete are misplaced. He again quoted the European asset manager who noted that GAAP may regain its popularity since it imposes the same rules on all issuers.

Niemeier expressed concern that IFRS may weaken investor protection in the U.S. The current IFRS initiative would delink the U.S. from its regulatory model, he explained, and would weaken enforcement. If the move to IFRS changes the SEC's approach to enforcement by making it more deferential to managers, Niemeier said it is short-sighted.

Niemeier also believes that IFRS is more susceptible to political pressure than GAAP. He pointed to Sarbanes-Oxley Act section 108, which he said has been ignored in this policy debate. The IASB's funding mechanism does not comply with section 108, Niemeier explained, yet despite various failings, IFRS has momentum.

If the goal of IFRS is to establish internationally comparable financial reporting, Niemeier said that regulators should stop any efforts to enhance management discretion and focus instead on writing accounting standards in a manner that requires comparability. The entity that sets the standards should be independently funded, he added, so if the IASB wants its standards to be used in the U.S., it should present a plan for independent funding. The SEC should then consider the plan under the framework established in section 108.

Niemeier called for a return to the policy of convergence rather than capitulation. Substantive milestones should drive the initiative rather than timetables, he said. He said the Sarbanes-Oxley Act provides the best roadmap. He also called on regulators to recognize that enforcement is the reason that companies benefit from a U.S. listing and is not a deterrent to listing in the U.S. markets.

In the rush to IFRS, Niemeier said there is no preparation for strong auditing. He pointed to the PCAOB's proposal to place full reliance on inspections of non-U.S. auditor oversight bodies, and even to reconsider the PCAOB's decision to develop its own auditing standards in favor of those set by an international professional association.

Better oversight is in the long-term interest of the profession, both at home and abroad, according to Niemeier, yet some regulators have opposed the PCAOB's oversight, even with respect to audit work performed for U.S. issuers. The PCAOB is in the early stages of conducting non-U.S. inspections, and Niemeier said he is cautiously optimistic that joint inspections are beneficial.

However, Niemeier opposes the proposed policy to place full reliance on non-U.S. oversight bodies that meet certain criteria. He dissented from the PCAOB's proposal and pointed out that few countries spend as much time and effort on the enforcement of financial reporting and auditing as the U.S. He is concerned that some countries have established oversight bodies to persuade the PCAOB not to conduct inspections directly, rather than to strengthen investor protection.

Niemeier said that many countries continue to follow a self-regulatory model. The European Commission recently announced new guidance to member states regarding the requirements for auditor oversight. The guidance allows professional associations to assist in inspections, according to Niemeier, which he believes will make international cooperation less effective. Niemeier also expressed skepticism that non-U.S. authorities will be able to enforce U.S. requirements such as the internal control audit and the auditor independence rules.

Niemeier also addressed the issue of whether to converge U.S. auditing requirements to standards set by the International Federation of Accountants. IFAC has no legal authority, he said. The accounting profession has developed standards through the International Auditing and Assurance Standards Board, which Niemeier said were constructive. However, he said they are no substitute for enforceable standards for developed securities markets like the U.S. He is troubled by the idea of replacing U.S. auditing standards with IAASB standards in the U.S. or with converging U.S. and IAASB standards.

There is no beneficial policy objective that could be achieved by allowing auditors to establish their own requirements, according to Niemeier. He sees auditing as a key element for enforcing the financial reporting requirements. The IAASB's standards are not appropriate for use in a regulatory context, in his view, because they are of limited enforceability. They were drafted as vague principles, he said.

The U.S. financial system and its economy are unique, Niemeier said. The U.S. capital markets serve a purpose that is different from others. It has a dispersed ownership model rather than one that relies on government funding, he explained, so strong regulation is necessary to protect investors and to promote efficient capital formation. Niemeier added that the U.S. has the lowest cost of capital because it has the strongest system of investor protection in the world.