Fair Value: Fair To Investors
With a new Congress and a new administration on the horizon, all eyes are on Washington, D.C., and efforts to cure our financial ills. Any solution that emerges in 2009 should see to it that companies’ financial statements reflect the realities of current markets.
Fair value accounting serves that goal. Fair value, or mark-to-market, accounting, requires that securities and other financial instruments be valued according to current market conditions rather than anticipated future values.
To use an analogy, if you spend $10 to buy a baseball card of a star player, it might be reasonable to assume that you could sell it in a few years for $15. But if you tried to sell the card after the player had a miserable season, it might fetch only $5. In that scenario, fair value says the card should be appraised at $5 (its worth in the current market) rather than $10 (its purchase price) or $15 (the anticipated future price).
Confidence Conductor
Particularly during this challenging and turbulent time, investor confidence in the reliability of audited financial statements is critical to the strength and stability of our capital markets. Suspending fair value accounting would remove valuable information from the marketplace at a time when we need it most.
It is not surprising that some financial industry leaders want to see fair value suspended. They worry that reduced asset valuations of financial instruments could put struggling financial institutions out of compliance with government regulations on capital requirements. That may be a legitimate concern, but it can be addressed without suspending the current common-sense approach to asset valuation.
When it comes to capital requirements for financial institutions, fair value accounting is just the first step in a two-step process. Valuing an asset to reflect the current market is the first step. The second step is to factor the new, lower value into the formulas for capital requirements. Whether and how the lower valuations affect capital requirements is an issue for bank regulators.
In the event changes in fair value reporting are deemed necessary, those decisions should be left to independent experts with a mandate to serve investors. There is significant cooperation between the Financial Accounting Standards Board, the independent body that writes U.S. standards (and is overseen by the U.S. Securities and Exchange Commission), and the International Accounting Standards Board, the European equivalent. Both should be allowed to continue their work without political interference generated by financial interests.
For its part, the CAQ has joined with groups representing consumers, institutional investors and financial analysts in opposing calls for suspension of the fair value standard. We remain committed to serving investors with timely and transparent valuations that reflect reality.
In the final analysis, the economic crisis was the result of breakdowns in governance, risk management, underwriting and regulation. To suggest otherwise is to engage in misdirection. Fair value didn’t cause the problem and suspending fair value won’t solve it.
Cindy Fornelli is executive director of the Center for Audit Quality, a Washington-based public policy organization serving investors, public company auditors and the markets. For more information, visit www.thecaq.org.
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