Here’s what the board is floating. Starting this quarter, U.S. companies would be allowed to report net-income figures that ignore severe, long-term price declines in securities they own. Not just debt securities, mind you, but even common stocks and other equities, too.
All a company would need to do is say it doesn’t intend to sell them and that it probably won’t have to. In most cases, it wouldn’t matter how much the value was down, or for how long. In effect, a company would have to admit being on its deathbed before the rules would force it to take hits to earnings.
So, if these rules had been in place last year, a company that still owned shares of American International Group Inc. or Fannie Mae, for instance, could exclude those stocks’ price declines from net income entirely. It would make no difference that the companies were seized by the government last year, or that both are penny stocks. The loss would get buried away from the income statement, in a balance-sheet line called “accumulated other comprehensive income.”
Jonathan then goes off on an almost personal vendetta with the 3 members of the 5-person FASB board who voted in favor of the proposal.
These are the earnings we get when the people who write accounting standards give in to desperate bankers. And it’s no mystery why the three FASB members who voted for this -- Leslie Seidman, Lawrence Smith and Chairman Robert Herz -- did so. (The two who opposed it were Tom Linsmeier and Marc Siegel.)
Since the credit crisis began, the board’s members have been under assault by the banking industry and its wholly owned members of Congress. The most recent display came last week at a House Financial Services Committee hearing, where Democratic Representative Paul Kanjorski and other lawmakers beat Herz like a dog. Herz declined my request to be interviewed. A FASB spokeswoman, Chandy Smith, confirmed my understanding of how the rule change would work.
The banks want unfettered license to value their assets however they see fit, and to keep burgeoning losses out of their earnings and regulatory capital. The FASB had been holding its ground, for the most part. Now, though, the board has assumed the fetal position.
Zero Hedge applauds Jonathan for his passion and his desire to out those who first create, then flip flop on, core critical accounting matters. However, while the FDIC's action is at best deplorable, Jonathan's rage may be a little over the top. The reason for that is that more sophisticated investors realize all the accounting tricks in the book, much better than the FASB itself.
In its essence, the recent FASB proposal is a fudge on the often ignored FAS 115 rule, which Zero Hedge wrote about previously (in a post also dealing with FAS157 and Level 1-3 asset evaluation: I recommend it for anyone who wants to catch up on these two most critical accounting standards). That rule deals with the distinctions of marking-to-market three types of assets: trading, available for sale and held-to-maturity. In its essence the proposed rule does not change anything materially. As Weil himself points out, to every fudge the FASB proposes, there is a counterfudge. While the FASB has tried to make Tier 1 as the critical threshold for balance sheet viability, investors have realized that Tier 1 adds intangible assets, ignores certain losses and treats some liabilities as assets. As such Tangible Common Equity has become the defacto marker for healthy balance sheets, and even the administration has been forced to adopt TCE in its stress test evaluations as anything else would be immediately singled out as fluff by the sophisticated crowd and would not get no credibility. And as Tier 1 is to the balance sheet, so is Net Income to the income statement: the proposed changes will provide a vastly inflated net income line items for most commercial banks (not so much for pure broker dealers). However, once the garbage FASB standards become prevalent, their entire impact can be ignored by avoiding the Net Income line altogether and instead looking at Comprehensive Income which differs from Net Income by an adjustment line known as Accumulated Other Comprehensive Income (AOCI).
As more investors focus exclusively on Comprehensive Income, what the FASB does with FAS 115 or any other rule fudging is irrelevant. But this is old news to credit investors who haven't looked at "below the line" items for decades, and instead have focused exclusively on EBITDA and Free Cash Flow.