Loretta V. Cangialosi
Vice President and Controller
235 East 42nd Street
New York, NY 10017
July 19, 2002
Mr. Jonathan G. Katz
U.S. Securities and Exchange Commission
450 Fifth Street, N.W.
Washington, D.C. 20549-0609
Subject: Release No. 33-8098, Disclosure in Management's Discussion and Analysis about the Application of Critical Accounting Policies, File No. S7-16-02
Dear Mr. Katz:
Thank you for allowing Pfizer the opportunity to respond to the proposed rules that would require disclosure, in management's discussion and analysis, about the application of a company's critical accounting policies.
Pfizer is a research-based global pharmaceutical company that discovers, develops, manufactures, and markets innovative medicines for humans and animals. For 2001, total revenues and assets exceeded $32 billion and $39 billion, respectively.
Pfizer recognizes the urgent need of the U.S. Securities and Exchange Commission (SEC or Commission) to increase investor confidence, which has been dampened by a number of recent accounting and disclosure scandals, and we commend the Commission for its efforts to propose meaningful solutions.
We believe that Release No. 33-8098 forms the basis for an important improvement in the quality and transparency of corporate disclosure. However, we believe that some of the proposed disclosures may ultimately harm the competitive business practices of a company thereby ultimately causing more injury to shareholders than benefit. As a result, there are some aspects of the suggested disclosures about which we cannot fully support, but, in keeping with the spirit of the Release, we have offered alternative solutions where possible.
We share the same purpose of the SEC - - that of maintaining and strengthening the integrity, quality and transparency of financial statements - - even as we challenge some of the details in the SEC's proposal.
Our more specific comments to several of the items in the proposal are set forth in the attachment.
We appreciate your consideration of these comments. We would be happy to discuss these matters further or to meet with you if it would be helpful.
Loretta V. Cangialosi
Vice President and Controller
David L. Shedlarz
Executive Vice President and Chief Financial Officer
Alan G. Levin
Vice President - Finance
Detailed Responses to the Proposed Rules on
Disclosure in Management's Discussion and Analysis
about the Application of Critical Accounting Policies
The SEC solicits comment with regard to broadening the scope of our proposals to achieve a more expansive objective.
As noted in our letter, we agree with the intent of the proposal and the need to help users focus on important information, but have some specific concerns about some of the detailed aspects of the release.
We do not believe the SEC should require a discussion about the impact of alternative accounting policies when accounting principles generally accepted in the United States of America (GAAP) provide a choice.
When acceptable accounting policies exist under GAAP, a company must choose the most appropriate policy relevant to its business and industry and consistently apply that policy. We fully support an accurate and clear description of the accounting policy elected when initially adopting a new policy. However, a requirement to disclose the impact of alternative accounting treatments will likely add confusion to readers rather than achieve transparency. In fact, providing too much information may obscure important information rather than increase transparency as readers may decide to skip the entire section rather than "wade through" accounting theory. Furthermore, readers would need to have an understanding of the universe of accounting policies, and even with that, they may be confused given the complex accounting requirements. Again, we are concerned that if the volume of information is too high or dense, readers are unlikely to focus on what the important critical accounting policies and estimates are and why they need to understand those policies in their reading of the financials.
Where choices are available, companies carefully evaluate the specific factors related to their transactions and select a policy based on the economics and substance of those transactions. The evaluation process often involves numerous details and is difficult to convey in simple terms without all of the relevant information. We believe that helping readers understand a critical policy is important and relevant but that the evaluation of the alternatives should be left to senior management and discussed with the Audit Committee.
We believe that this information may be misinterpreted by the investing community and would place tremendous burden on the preparer. Further, such disclosure invites second-guessing and the potential for increased litigation from investors who disagree with the method selected by management. We believe that the average investor may become more confused than enlightened by these "what if" scenarios while sophisticated users will likely be familiar with and can factor into their analyses the impact of differing accounting methods should they so desire.
The SEC seeks comment on the proposed definition of critical accounting estimates.
We believe that further clarification by the SEC of the definition of a critical accounting estimate, particularly the "highly uncertain" attribute, is necessary. Moreover, clarification is needed regarding whether the "highly uncertain" analysis applies only to senior management's knowledge of the company or to the general business community as well.
The proposal seeks to enhance an investor's understanding of the application of a company's critical accounting policies. However, the proposed disclosures only refer to MD&A discussion of critical accounting estimates. As you are aware, not all critical accounting policies involve the use of estimates; however, such policies could be significant to understanding a company. It is unclear under the proposed MD&A disclosures if such a policy should be disclosed in the MD&A since it lacks estimation.
In the spirit of principles-based standards, which are supported by the SEC, we encourage the SEC to employ a "principles-based" approach to these requirements. We believe that investors would be well served if the SEC required that "companies disclose, with some qualitative explanation, those accounting estimates with the greatest potential for having a material financial statement impact." No further instruction is really necessary if this approach is taken.
Finally, but most importantly, we remain concerned about disclosures related to litigation, environmental, tax and loss reserves and we ask the SEC to exempt these items from detail disclosure. We believe that the proposed additional and more detailed disclosures about the estimates and assumptions underlying these accruals will likely compromise proprietary and highly confidential information of a company and could significantly impair the ability of a company to reach an appropriate resolution due to disclosure of sensitive information to plaintiffs or other interested parties. We believe that the current disclosure rules, provided primarily through Statement of Financial Accounting Standards No. 5, Accounting for Contingencies, are, and have been, sufficient in these highly sensitive areas.
The SEC requests comment on the proposed identification and analysis of changes.
While we understand the SEC's intent, we do not agree with the proposed requirement to provide quantitative information about critical accounting estimates. We support disclosure of the general background of the matter and the amounts reported in the financial statements. An "estimate" by its very nature is an approximate amount based on an opinion or judgment. Under accounting principles generally accepted in the United States of America, the financial statements are required to reflect management's best estimate of uncertain matters. Quantification of other reasonably likely outcomes will more likely than not result in investor misunderstanding as to why those quantified amounts were not used and it may lead to diminished confidence in the overall accuracy of the financial statements. This seems contrary to the SEC's stated goals.
Again, we would ask that the SEC exempt disclosure of information that would put companies at a competitive or legal disadvantage. Please see our previous comments in this regard.
The SEC solicits comment on the proposed disclosure of past material changes in critical accounting estimates.
We believe that the only element of an estimate that is certain is that it will be wrong. And, if materially wrong, we agree that the investor should be made aware of that fact. However, given that the estimates, by definition, could have a material impact on the financial statements and the SEC's premise that there has been a material change in the estimate, we believe that disclosure would likely occur naturally as the company would have a variance to "street" expectations. Therefore, we support the fundamental premise of this aspect of the proposal and believe that 3-years worth of disclosure (in keeping with the required 3-year income statement presentation) would happen, again, naturally.
We are concerned, though, about the possible requirement to disclose more than 3-years worth of data. Again, we are generally concerned about ever-burgeoning disclosures.
The SEC requests comment on the proposed disclosure about discussions between senior management and the audit committee regarding the development, selection and disclosure of critical accounting estimates.
We generally find that senior management already makes a practice of discussing all estimates material to the financial statements with the audit committee and independent auditors. We believe that the proposed requirement to disclose whether or not senior management has engaged in discussions with the audit committee about the critical accounting estimates may increase an investor's level of confidence in the financial statements and we therefore support the proposal.
We believe that Item 306 disclosures accurately reflect the appropriate role of the audit committee and require no amendment. Implicit in the audit committee report is the audit committee's discussion of material accounting estimates - otherwise the audit committee would be unlikely to approve the inclusion of the financial statements within the annual report on Form 10-K. While we don't believe that additional disclosures in the audit committee report are necessary, we would support such a proposal if it served to increase investor confidence.
The SEC requests comment regarding identification of the segments affected and the proposed additional disclosure of the critical accounting estimates on a segment basis.
We would ask the SEC to consider the impact of these requirements on large, multi-national, multi-segment companies. If there are even two or three critical accounting policies/estimates for each segment, the disclosures could become unwieldy for the reader as well as the preparer. The denseness of such disclosures may make such information less transparent. By focusing readers on the two or three policies/estimates that have the most material impact on the company (not the segment), readers will be better served in increasing their understanding of these uncertainties.
Again, in the spirit of principles-based standards, we encourage the SEC to employ a "principles-based" approach to these requirements. The SEC should require that "companies disclose, with some qualitative explanation, those accounting estimates with the greatest potential for having a material financial statement impact." No further instructions would then be necessary.
The SEC solicits comment with respect to independent auditor examinations of the proposed MD&A disclosure regarding critical accounting estimates.
We do not believe that auditor examination of the disclosures regarding critical accounting estimates should be required. First, we believe that an examination by an independent auditor would be difficult to complete due to the subjectivity involved in developing the proposed quantitative disclosures. Second, we are concerned that an independent auditor would not have enough time to complete the additional audit procedures which would be necessary in order for an opinion to be rendered under the proposed accelerated quarterly and annual filing deadlines. Third, we believe that there continues to be an expectation gap between what users think an audit is and the procedures an auditor may actually apply. This expectation gap may result in users erroneously believing that no other reasonably likely estimates exist other than those stated and may give financial statement users a false sense of comfort with regard to the potential variability of estimates.
We believe that the current auditing standards which require an independent auditor to read the MD&A for reasonableness in the context of the financial statements taken as a whole are appropriate to uncover inconsistencies and information that might be misleading to an investor.
The SEC solicits comment on the quarterly updating requirement for U.S. companies.
While we have no specific comments, we would ask the SEC to recognize that it is asking for more and more data and allowing preparers less and less time for preparation and review. We believe that even the best-intentioned and best-managed registrant will have difficulty appropriately updating this information quarterly if current time periods are accelerated. We believe that these amounts are highly subjective and require a reasonable period of time to be properly assessed and reviewed by senior management and discussed with the audit committee.
The SEC seeks comment on the proposed disclosures related to initial adoption of accounting policies.
The Release asks whether companies should be required to disclose that an initially adopted accounting policy differs from accounting policies applied in "similar circumstances" by other companies in its industry, and the reasons for those differences in policy.
We do not believe that such a requirement is likely to result in meaningful disclosures. Determining accounting policies followed by other companies within an industry may be difficult given that many transactions may appear similar on the surface but may have important, distinguishing features that merit different accounting treatments.
Furthermore, financial statement users may draw the incorrect conclusion that a policy followed by other companies in the industry indicates a preferable accounting method rather than the method used by the company.
The SEC solicits comment on the disclosure presentation aspects of the proposals.
We believe that the SEC should distinguish more clearly between those elements that are more appropriately included in the footnotes to the financial statements and those elements that truly represent management's "discussion and analysis." This may also make auditor involvement more clear and natural. We remain concerned about increasing redundancy in disclosures.
The SEC requests comment regarding the proposed MD&A disclosure of the application of critical accounting policies as it relates to foreign private issuers.
The SEC requests comment regarding the application to small business issuers of the proposed MD&A disclosure.
The SEC requests comment regarding the application of safe harbors for forward-looking information to the proposed MD&A disclosure.
Safe harbor rules for the disclosure of critical accounting estimates should also extend to the impact of material changes in future earnings from other uncertainties and risks that exist but that cannot be quantified as well as from a change in circumstances that has caused an accounting estimate not previously considered critical to become critical.
In order to protect companies from shareholder litigation involving issues of selection of accounting policies, we believe that if a company is required to discuss alternative methods, that discussion should be covered by the safe harbor rules as well.
The SEC solicits comment with respect to alternative regulatory approaches.
The SEC solicits comment with respect to the potential benefits of the proposed MD&A disclosure.
As long as the SEC ensures that only limited, important information is disclosed, the information should prove useful to an investor. However, we caution against lengthy, complex, intertwined and multi-tiered disclosures of multiple estimates, trends, policies, alternatives and sensitivities that will likely frustrate the user community even more and may, in fact, obscure important information from users.
The SEC solicits comment regarding the potential cost of compliance with the proposals.
The SEC solicits comment regarding possible competitive harm.
The SEC is soliciting comment with regard to the perception of increased liability.
We believe that there will be an increase in the perception of increased liability, which would seem to serve the SEC's constituents - - the investor. However, as long as safe harbor provisions apply, preparers of financial statements should not be unduly concerned about this perception.
The SEC asks commenters to provide us with data to estimate the costs of the proposed regulations for small business issuers.
The SEC asks commenters to provide us with data to estimate the costs of the proposed regulations for foreign private issuers.