The Hindu Business Line : Enforcing universal standards

While the London-based International Accounting Standards Board writes the rules, there is no international organisation with the power to enforce them and assure that companies are in compliance.

Mohan R. Lavi

It is by now a known fact that the International Accounting Standards Board (IASB) is taking active steps to formulate a set of global accounting standards. Substantial progress has been made on this front with the mighty Securities and Exchange Commission (SEC) in the US too bending over backwards to alter their standards. However, there could be some hurdles in implementation as the recent example of Societe Generale( SG) shows.

The SG Case

It is probably history now since SG declared that a rogue trader had got into positions that cost the bank €6.3 billion. The exact ramifications of this can be seen when we look at the fourth quarter numbers of the bank. The group reflected an operating income of €163 million and then plugged in a line item called “net loss on unauthorised and concealed market activities” against which it wrote off €4.9 billion — €4.9 arising because there was a profit too of €1.4 billion — on similar trades.

The issue at stake is the principal of accounting followed. SG has obviously used “Events after the Balance Sheet” date as an alibi to write off these losses in 2007 itself although the problem was deciphered in 2008. Regulators are questioning Société Générale’s use of a “get-out” clause to book losses from the trader’s alleged fraud in its 2007 accounts.

Override?

French regulators approved the move but it has prompted queries in the London and Washington regulatory circles. It is thought to be the first time a company of SGs size has used the override, known as “fair presentation” or “true and fair”.

It was built into IFRS accounting rules to cover events that could not be foreseen by standard-setters. The override allows a company not to follow accounting rules if doing so would present a misleading picture. SocGen has not fully explained its rationale for using the last-resort tactic.

In the UK, it has traditionally been called “true and fair” and in international accounting-speak, it is officially “fair presentation”. In any language it has one accounting purpose — to act as a last resort override, allowing circumvention of the accounting rules when for some unforeseeable reason, they do not make sense.

The larger issue

The bigger issue facing the IASB is the problem of setting a single set of accounting standards when implementation and enforcement are left up to local regulators, who often have little influence on their colleagues elsewhere.

The matter is made even more sensitive by the fact that SEC is considering allowing US firms to report under IFRS as part of its longer-term goal of converging its system with the international one.

Although larger firms and companies generally support the switch, there is a strong cadre urging the regulator only to move slowly. The SEC has an override in US accounting rules, but rarely uses it. For those opposed to a rapid jump to IFRS, SocGen’s accounting is a reason to move cautiously.

There is another argument which states that investors should be troubled by this in an IASB (International Accounting Standards Board) world.

While it makes sense to have a ‘fair and true override’ to allow for the fact that broad principles might not always make for the best reporting, they opine that you need to have good judgment exercised to make it fair for investors. SocGen and its auditors look like they were trying more to appease the class of investors or regulators who want to believe it’s all over when they say it’s over, whether it is or not.

While the London-based International Accounting Standards Board writes the rules, there is no international organisation with the power to enforce them and assure that companies are in compliance.

Better quality standards?

The uproar that this accounting treatment has created should not surprise the IASB. These are bound to occur when one body sets the standards and another one implements them, which reminds one of the National Committee on Accounting Standards (NACAS) in India.

Such complications also arise when one has an option to follow an alternate method of accounting. The way forward for the IASB would be to strive and prescribe standards of such quality that none can think of deviating from. Although this sounds idealistic, history should be able to give one enough insight to decide what to prescribe and what not to.

(The author is a Hyderabad-based chartered accountant.)