By Jennifer Hughes in London
Published: March 18 2008 21:43 | Last updated: March 18 2008 21:43
Accounting rulemakers have defended the use of “fair value” accounting against attacks from bankers and insurers, who claim that applying it to financial instruments in the current turmoil risks undermining the financial system.
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Fair value forces companies to mark assets and some liabilities to their market value, leading top banks and insurers to take heavy writedowns as markets seize up and values plummet.
The International Accounting Standards Board, which on Wednesday launches a consultation document on how financial instruments are reported, makes clear that if accounting rules are to be less complex, fair value is the only suitable measurement.
“Fair value seems to be the only measure that is appropriate for all types of financial instrument,” the IASB says in its paper. But it acknowledges that “there are issues and concerns that have to be addressed before the boards can require general fair value measurement”.
Current rules allow a mix of fair value and old style “historical cost” accounting, where assets are booked at the price at which they were bought. But the explosion in the use of derivatives and other complex structured products has meant that increasing amounts of assets are reported at fair value.
Critics have said that because of current market dislocations companies’ profits have been dented by unrealised paper losses. Last week American International Group, the insurance company, said it had proposed to regulators that fair value should be suspended while the credit crunch was worked out.
On Tuesday, Lehman Brothers reported further writedowns of $1.8bn in the value of its mortgage-backed securities and leveraged loans. Goldman Sachs said the value of its holdings had fallen a further $2bn.
Although today’s consultation is led by the IASB, it will be followed closely by its US counterpart, the Financial Accounting Standards Board. The two are working to converge standards into a single global accounting code and have similar rules on financial instruments.
“We are determined to simplify and improve IAS39 [the current standard] by creating a principle-based standard,” said Sir David Tweedie, chairman of the IASB.
The row over fair value is pitting executives against many investors and the accounting profession. Most alternative suggestions involve heavier reliance on subjective management estimates, which investors dislike.
Copyright The Financial Times Limited 2008
