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Private Company Counsel- Pt. 1

An Update on the Rise and Quick Effectiveness of FASB’s Private Company Council

Background: To simplify the financial reporting requirements of small and medium-sized companies, the Financial Accounting Standards Board (FASB) commissioned an advisory Private Company Council (PCC) in May 2012. This PCC was tasked with improving how accounting standards are established for and apply to private companies. Decisions in its first three years both simplified some challenging financial accounting treatments and reduced reporting requirements, offering much-appreciated relief for small and medium-sized companies.

Part I – Acknowledging Issues and Pursuing a Remedy
A May 23, 2012 press release followed the unanimous vote. Years of spirited debate and 7,000 comment letters signaled to the Financial Accounting Foundation (FAF) there was substantial interest in recognizing a “one size fits all” approach for accounting standards was short-sighted. Its Board of Trustees sought and read the extensive public comment on the matter, then overwhelmingly set the course for improvement by voting and forming the Private Company Council.

Two principle responsibilities were chosen for the PCC:
• Deciding on exceptions and modifications to U.S. Generally Accepted Accounting Principles (GAAP) for private companies, and
• Advising the Financial Accounting Standards Board (FASB) on treatment for private companies for items on the FASB’s agenda.

The FASB has been the designated organization in the private sector setting standards for financial accounting and reporting since 1973. That responsibility is significant, as these standards are essential for our economy to function efficiently. Investors, authorities, creditors, auditors, and other stakeholders count on credible, transparent and comparable financial data.
Differing Needs for Differing Bodies
Following the trustees’ vote, then-FAF president and CEO Terri Polley said the plan creating the PCC struck in an important balance, recognizing private company needs without creating a “two-tier GAAP system”. A “two-tier GAAP system” had been discussed in recent years, and involved developing separate sets of standards for large, public companies and all other entities, endearingly-called “Big GAAP” and “Little GAAP”.
Private company needs can differ sizably from those of public companies, most notably with regards to the number of users of their financial statements. Many private companies are structured as pass-through entities, rather than corporations with ownership shares traded on public stock markets. Users of financial statements for private companies could have decidedly different investment strategies than those interested in public companies. Private companies frequently have multiple entities under common ownership and small accounting departments servicing them all.
Upper managers, partners, investors, lenders and regulators often are the exclusive users of private company financial statements. Those parties are often privy to key financial reports, or can follow their concerns with conversations and review of accounting records. Producing financial statements in accordance with GAAP can require significant time and expertise – qualities many private companies may not stock abundantly. For these and other reasons, many fewer private companies produce financial statements in accordance with GAAP than public companies.
“Little GAAP” struggled for viability, because of the potential effects of its creation. Users of private company financial reporting did not wish to appear to dilute the reliability and relevance of their information. Second, the time required of a body to weigh, discuss, vote and approve a new, full set of standards could take years. Lastly, administering two separate, domestic standards, while continuing to converge standards with the International Accounting Standards Board (IASB), surely stood to confuse and complicate eventually.
Enough is Enough
Authorities usually opt to carve-out alternatives when forced to do so, like when pressed with significant evidence and a loud contingent. Many felt the FASB’s large, recent efforts addressing increasingly-complex financial products and issues, while appreciated, added responsibilities for all.
The FASB passed 17 new standards in 2009, and followed with 29 new ones in 2010 and twelve more in 2012. It averaged just over a dozen more standards each of the next three years.
Topic after topic impressed new accounting rules to implement or disclosures for all entities following U.S. GAAP. New rules and disclosures required understanding and implementation among entities large, medium and small – as well as the authorities who oversaw them, the owners who controlled them, auditors, creditors, etc. Accounting systems needed updates; disclosures stretched; financial reports lengthened.
Seven thousand comment letters from interested parties arrived, mostly expressing strain at compliance. Accounting Standards Updates had tackled important areas affecting the modern financial world, and at a dizzying pace. But the sizable breadth of new regulations was increasingly deemed excessive for private companies, who usually reported in accordance with GAAP because an authority demanded it – not for efficiency or convenience. Though many private companies had elements specifically addressed by the new standards (like related parties, fair value measurements, tax positions and goodwill), the extra work to implement them became tedious and expensive.
Conclusion
When sweeping changes from new accounting standards arose, the added toil placed on private companies to adopt them was unfortunate side effects. The pace of change after 2008 spun so quickly, that those resulting side effects grew to discomfort many private company stakeholders. Discomfort led to cries for relief. A significant May 2012 vote both answered the cries and saw a unique opportunity to formalize a “Little GAAP” alternative.

 

Written by:

Riley Smith