Speech by SEC Commissioner:
"International Accounting Standards The Rules of the Game"
by Commissioner Isaac C. Hunt, Jr.
U.S. Securities & Exchange Commission
at the University of Texas School of Law 22nd Annual Conference on Securities Regulation and Business Law
February 17, 2000
Good afternoon. Thank you for inviting me to participate in this 22nd Annual Conference on Securities Regulation and Business Law Problems. During this morningís program, you heard remarks about the effect of the Internet on the securities offering process and shareholder relations. The Internet is an intriguing phenomenon that continues to present novel consequences for investors, issuers and regulators alike. At the base of this phenomenon is the newfound ability to reach trillions of people across the globe in a matter of seconds. That capability has engendered new opportunities for investors, new sources of capital for issuers and new challenges for securities regulators.
Today, I could talk about the effect of technology on our system of securities regulation, but I have decided, instead, to address another topic that often captures my attention Ė sports.
In June of 1998, we witnessed a remarkable event in U.S. sports history Ė tip off of the first regular-season game of the Womenís National Basketball Association. While I could speak at length about my admiration for this league, today I will focus my remarks on the rules of the game. As I mentally prepared to make room for yet another spectator sport in my life, I briefly contemplated the process that might have led to the adoption of the WNBA official rules. After all, professional basketball at the national level traditionally has been male-dominated. How could professional womenís basketball be played in a way that would generate the excitement we sports fans are accustomed to in professional basketball, yet accommodate the physical differences that generally exist between the sexes? Despite this challenge, the WNBA persevered and has, in my view, succeeded in creating a new form of sports entertainment.
The WNBA exemplifies the result the Commission seeks to achieve for international accounting standards that can be used in cross border offerings. Yesterday, the Commission approved for issuance a concept release that invites a dialogue on a set of game rules, in the form of accounting standards, that could be used in the process of global capital allocation. Today, Iíd like to spend a few minutes talking about those rules, but before I continue let me say what I expect you already know Ė the views I express here today are my own and do not necessarily reflect the views of the Commission, my fellow Commissions or the Commission staff.
II. The Commission's Assessment of the Proposed Accounting Standards
I imagine the toughest aspect of developing accounting standards for international use is the actual creation of those standards. I suspect the same was true for the WNBA official rules. Both endeavors require a frank acknowledgment of differences and an attempt to bridge those differences to achieve a high quality result. For the WNBA, that meant adopting rules that varied from those used by the NBA. WNBA rules require a different ball, set a shorter distance for the three-point line, and use a different time interval during which the game is played.
With respect to developing international accounting standards, the difficult first step in the process already has been taken. The International Accounting Standards Committee ("IASC") has worked since 1972 towards developing a core set of standards for international use. The IASC completed its task in 1999 and it is now up to the Commission and its regulatory counterparts throughout the world to assess the acceptability of those standards.
When the Commission voiced its support for the development of international accounting standards in 1996, it indicated that before it would accept those standards in the U.S., it would have to ascertain whether the IASCís standards result in the transparency, reliability and comparability that investors currently enjoy under U.S. GAAP. Since 1998 when the IASC signaled its near completion of the core standards, the Commission staff has been calling upon the accounting profession to contribute to the Commissionís assessment by researching the quality of the proposed standards. But the concept release the Commission approved yesterday opens a forum for discussion that would extend beyond the quality of the standards themselves.
The release exposes the fact that assessing the quality of a set of international accounting standards is only one component of the Commissionís consideration of whether those standards should be accepted in the U.S. You may wonder what more is needed beyond a comprehensive and reliable core set of standards. Well, let us consider what the WNBA may have needed beyond the official rules that would govern each game. I suspect that the association had to confirm that it had a mechanism to change the official rules as needed, without regard to any self-interests and for the purpose of improving the quality of the game. It probably also had to take a realistic look at the athletic talent, both available and under development, necessary to establish professional womenís basketball as a viable competitive sport. I would imagine that the WNBA also had to consider whether it could attract experienced coaches and referees who would lend credibility and ensure fairness. Finally, I expect that the association had to contemplate mechanisms to enforce the rules of the game.
The Commission now faces a similar dilemma as it considers global harmonization of accounting standards. Aside from the standards, what elements are necessary to achieve a scheme of international accounting that gives U.S. investors a level of disclosure, reliability and enforceability that is comparable to that provided under U.S. GAAP? The Commissionís concept release seeks input from the public that will assist it in framing answers to this question. Iíd like to note just a few of the elements the concept release mentions in connection with global accounting standards.
III. The Need for Competent Standard Setters
Like the WNBA two years ago, international accounting standards are now in their infancy and are, in large part, untested. It is virtually impossible to predict with any degree of accuracy the effectiveness of these standards upon implementation. But itís a good bet that once implemented, these standards will require interpretation, clarification, and revision. In the U.S., the Financial Accounting Standards Board ("FASB") satisfies this role with respect to our domestic accounting practices. It stands to reason that an international standard setter will be needed to perform a similar function in connection with international accounting standards. Who will perform these functions with regard to international accounting standards? What level of expertise should they possess? What countries should they be from? As many of you know, these issues have been hotly contested in the international arena.
I note that the IASC recently proposed a restructuring plan for its organization that would entail a board of trustees that would oversee the operation and management of the organization. The trustees would also be responsible for appointing IASC members, based on their technical expertise, who would actually perform the standard setting function. (This structure is similar to our domestic FASB structure.)
The Commissionís concept release seeks a public dialogue on the importance of the standard setting function in the international arena, and the extent to which the composition and technical strength of the standard setter should be considered in the debate over whether to accept international accounting standards in the U.S. Most notably, the release asks whether acceptance of international accounting standards should be conditioned upon the composition and expertise of the standard setter. This is a sensitive issue, but one that needs to be addressed before the Commission moves towards acceptance of international accounting standards.
IV. The Importance of an Effective Audit Function
When the WNBA held its first regular-season game, of course there were referees on the court. But could they make the right calls in a new game with untried rules? The Commissionís concept release poses this question in the context of auditors of financial statements prepared in accordance with international accounting standards. The audit function has traditionally been performed at a national level, governed by national standards that prescribe such matters as the quality controls and training at accounting firms entrusted with the role of auditor. The advent of globalization, however, is spurring national audit firms to international heights. How will the audit function be satisfied when financial statements are prepared in accordance with new and untested international accounting standards? How will training and quality control be accomplished for international audits? What comfort level should the Commission achieve concerning the audit function at an international level before it considers adopting international accounting standards?
I donít know the answer to these questions, but those with experience in previously adopted international accounting standards may. The concept release hopes to draw on the experience of those who have been exposed to the challenges of auditing financial information in the context of global capital formation. In that vein, it seeks information on experiences with such tasks as reconciliation to U.S. GAAP and audit of financial standards prepared in accordance with foreign standards.
V. Adequate Regulatory Oversight
Like the NBA, the WNBA has mechanisms to enforce its rules. For example, it can award free throws to the wronged team, eject players from the game for unsportsmanlike conduct, and impose monetary fines. As part of its oversight function, the SEC is empowered with the ability to promulgate and enforce the accounting standards used in connection with securities offerings conducted in the U.S. While the SEC generally looks to the FASB for promulgation of accounting standards, we are active in our efforts to require adherence to those standards through enforcement actions. The Commission can also bar professionals who engage in improper professional conduct when practicing before it. If international accounting standards are adopted, will markets need global regulatory oversight to ensure that market participants apply the standards properly? What type of sanctions would be available to protect the capital raising process from accounting abuses in the international arena?
On a practical level, the Commission will have to consider the impact of international accounting standards on its ability to perform its enforcement functions. For example, if foreign issuers registering securities in the U.S. use international accounting standards, how efficiently can the Commission obtain the workpapers related to those audits when those documents are located outside the U.S.? Should the Commission implement additional measures to ensure its access to documents that may be in foreign countries or should it continue to rely on the reciprocity it enjoys with some, but not all, regulatory bodies of foreign jurisdictions?
The Commissionís concept release on international accounting standards represents an attempt to generate a frank and productive public discussion on policy issues that must be assessed before the Commission can consider the acceptability of international accounting standards in the U.S. Of course, in an ideal world, international accounting standards would operate within a strong infrastructure that would work in tandem with the standards to achieve high quality. Each country accepting international accounting standards would have strong regulatory oversight to enforce consistent use of the standards. The audit function would be high quality with both national and international expertise. And the standard setter would have sufficient technical skill to issue consistent guidance and make adjustments where needed.
I think no one would disagree that we are far from that model of harmony today. The Commission will have to decide how close the world should be to this infrastructure before the U.S. adopts international accounting standards. It must also consider how long our markets can provide liquidity if U.S. investors increasingly crave foreign investments not available here.
Although I am truly a sports fan, the objective of my remarks today is to peak your interest in the development of international accounting standards and to encourage you to read the Commissionís concept release on this topic. I am personally concerned that the subject of international accounting standards may be receiving more attention in foreign jurisdictions than it is receiving in the U.S., as evidenced by the relatively small number of financial reporters and market participants attending the Commissionís open meeting yesterday.
The international accounting standards project, in my view, requires input from our businesses, our securities professionals and our investors. Foreign competition for U.S. capital is a matter of serious concern. Our investors deserve the best information available before deciding to devote their financial resources to foreign endeavors. Moreover, our industries deserve to be able to compete on equal footing for those financial resources. The rules of this game of global capital allocation are being developed now. The framework within which this game will operate is being explored now. I encourage you to consider the concept release issued by the Commission and to submit your comments to the Commission. I think global convergence of our markets is inevitable, and the policy decisions we make at this point may define the future industrial strength of our nation.
In closing, I have one last thing to say Ė GO COMETS!
Thank you for the opportunity to address you today. I would be happy to take any questions.