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The economic turmoil of recent years exhibited publicly the difficulties faced by the accounting profession in determining accurately and consistently the value of assets. As investment options grow in number and complexity, guidance from the Financial Accounting Standards Board (FASB) lags. Accountants and other business professionals agree with the foundations of fair value accounting, but remain eager to see the broad statements of previous years fleshed into precise and practical standards for implementation. The call for the accurate valuation of assets is by no means new. While historical cost was once the only available standard, the FASB introduced the tenets of fair value accounting with Statement of Financial Accounting Standards (FAS) 115 in May 1993. This change in position responded to concerns stemming from the savings and loan crisis of the late 1980's. Historical cost accounting permitted institutions to disguise substantial portfolio losses causing substantial harm to large numbers of stakeholders (Neely.) Moving forward nearly two decades, the public again bears the brunt of corporate greed manipulating accounting standards for gain. Few people would disagree with the statement that financial reporting should indicate fair and up-to-date values for assets and liabilities. Denying losses and overstating gains produces a distorted picture of an enterprise. As an alternative to historical cost accounting, businesses looked to the markets to provide the truest valuation of their investments. Traditional economic theory teaches that market operations are rational. Supply and demand will always find an equilibrium point to determine market value, normally considered the most accurate predictor of asset value. Newer ideas about behavioral finance indicate irrational and emotional forces acting on modern markets. These forces are further compounded with technology and the speed of information, demonstrated recently on May 6, 2010, when the Dow Jones dropped 1000 points in less than a half-hour only to recover almost the entirety before the day was out. Fair value accounting encountered trying times in 2007 - 2009. Market activity slowed considerably as unusual events undermined confidence. As companies liquidated assets, sometimes in forced circumstances, concern grew that market prices did not reflect the inherent value of the investment (Wallison.) FAS 157 developed several classes of assets, selecting the most appropriate valuation method of each. The least easily valued assets, those which experienced few sales and irregular trading, contraindicated fair value accounting and were labeled level 3. Despite this clarification, questions lingered about the practice of level 3 requirements for alternate valuation. As markets stagnated, the quantity of level 3 assets held by major financial institutions including JPMorgan Chase and Citigroup soared (Moyer.) Banks were not the only business affected by the roller coaster movements of the marketplace. Modern business demands the investment of all funds at all times, even if investing is not the primary line of business. Businesses outside the financial world saw their bottom lines impacted by low market valuations of 2008 and 2009, followed by substantial correction in the following period. In some instances, excessive fluctuation in security values demolished a primary line of business. The banking industry balked at the most recent guidance from the FASB as it introduces sweeping change to the accounting of financial instruments. "FASB Exposure Draft Alarms Bank CFOs" points out the conflicting viewpoints. The FASB states "The objective...is to provide financial statement users with a more timely, transparent, and representative depiction of an entity's exposure to risk from financial instruments." Michael Hagedorn, CFO of UMB Financial, protests "we would have to fair value our loans using different discount rates and various assumptions, and I don't see how that improves transparency" (Ryan.) Hagedorn's words indicate a potential pitfall, the ability to manipulate asset value through selection of discount rate and other factors. Valuation may remain as much art as a science, and the principles behind fair value accounting speak strongly for its continued use. Any system of rules is limited by its practitioners. When new financial instruments come into existence, accountants must continue refining fair value concepts into an acceptable practice of standardizing valuation for the assorted users of financial accounting and reporting. Moyer, Liz. How Fair is Fair Value Accounting? Forbes.com. 25 June 2008. Web. 5 June 2010 Neely, Michelle Clark. The Regional Economist: Making Sense of Mark to Market. Federal Reserve Bank of St. Louis. January 1994. Web. 6 June 2010. Ryan, Vincent. FASB Exposure Draft Alarms Bank CFOs. CFO.com 2 Jun 2010. Web. 5 June 2010. Wallison, Peter J. AEI - Fair Value Accounting. " Fair Value Accounting - A Critique." American Enterprise Institute for Public Policy Research. 28 July 2008. Web. 5 June 2010. |
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