Running head: Mark to Market Accounting
Mark to Market Accounting and Ethical Issues
Ethical Issues ACC-504
April 16, 2012
Economic principle’s rationale for requiring guidance for financial institutions is to use mark-to-market accounting or fair value accounting on their financial reports. With the current economic crisis, questions have been raised as to whether or not fair value accounting is making this crisis worse. In this paper I review the history of fair value accounting and the ethics behind whether fair value accounting gives an accurate picture or is it causing a need for higher capital requirements and unnecessary concern with investors. There is a need for transparency. It is Accounting Standards and Ethics that helped restore the investors trust after the corporate scandals, now with financial institutions wanting to suspend the mark-to-market accounting it would further decrease the trust investors have.
Mark-to-Market Accounting and Ethical Issues
Accounting standards and ethics are directly related, we see this when we look at the issue of mark-to-market accounting. Is it ethical to not truly disclose the true value of assets, or the paper that is being held? Should financial institutions be able to suspend the FASB 157 (accounting for fair values) due to their lack of not wanting to disclose their losses or have a need for further capital requirements? Is fair value accounting causing the concern and the problem for the current financial crisis? Are there further ethical issues that are of concern when companies do not want to disclose potential losses that they are holding on their books?
Background of Mark-to-Market / Fair Value Accounting
Accountants and regulators have always discussed whether the changes in market value assets should be incorporated into accounting reports or not. This is contentious in that accounting reports are used in the regulatory process: The numbers reported have direct implications for the supervision and regulation of the firm. This could be in terms of capital requirements or even contributions to pension plans. Companies even have concerns on whether or not accounting rules will affect the volatility of earnings. When we look to understand what we are talking about in historical cost accounting and fair value accounting, we have to realize that accounting for assets at fair value and accounting for them at book are the exact opposite. When we refer to fair value accounting it shows the changes to the balance sheet and measures how the changes effect the firm based on the changes in fair value. Historic cost accounting on the other hand relies on cash flow to measure changes in the financial condition of a company. Fair value accounting puts more emphasis on the balance sheet, while historical cost accounting ignores the balance sheet and focuses on net income. Fair value accounting provides a measure of changes in resources available to shareholders. Both assets and liabilities reflect future cash flows and the profits and losses generated by the asset revaluations are recognized at one time. When firms are operating a loss under the historic cost accounting but a profit under fair value it was possible to borrow equity to fund current operations through expected gains. Complaints against fair value accounting are:
1. Many feel that asset valuations under fair value accounting are easily manipulated. This is partially true, however it is also possible to manipulate earnings with accrual accounting. 2. Some argue that earnings are volatile under fair value accounting. A firm does have the ability to make footnotes in the financial statements if they feel the earnings are volatile. The main point though is if asset values are changing that rapidly then it is likely to be information that is of interest to owners and stakeholders of the firm. 3. In the SEC study (SEC, 2008) it is mentioned that there is concern that...
References: Board, F. A. S. (2007, February). “The fair value option for financial assets and financial liabilities,” including an amendment of FASB statement no. 115. Statement of Financial Accounting Standards No. 159, Financial Accounting Standard Board, Norwalk, Connecticut
Cortese-Danile, T. M., Mautz Jr, R., & McCarthy, I. M. (2010). Ethics is Imperative to Effective Fair Value Reporting: Weaving Ethics into Fair Value. Review Of Business , 30(2), 50- 58.
Haidar, J. (2009). The mark-to-market valuation and executive pay package regulations within the 2009 US (Bailout) Emergency Economic Stabilization Act. Journal of Economic Policy Reform, 12(3), 189-199. doi:10.1080/17487870903105361
Merkel, D. (2008, October 1). Accounting Rules Do Not Affect Cash Flows [Web log post]. Retrieved from The Aleph Blog: http://alephblog.com/2008/10/01/accounting-rules-do- not-affect-cash-flows/
Phillips, M. (2009). Mark-to-Market My Words. Newsweek, 153 (15), 8.
Seay, S. S., & Ford, W. H. (2010, January). Fair presentation ethical perspective on fair value accounting pursuant to the SEC study on mark-to-market accounting. Journal of Legal, Ethical and Regulatory Issues, Retrieved from http://findarticles.com/p/articles/mi_m1TOS/is_1_13/ai_n55123074/pg_2/?tag=content;c ol1
United States Securities and Exchange Commission. (2008). Report and Recommendations Pursuant to Section 133 of Emergency Economic Stabilization Act of 2008. Office of the Chief Accountant Division of Corporate Finance.
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