Most readers of mine will know that GAAP stands for Generally Accepted Accounting Principles. The term is a bit of a misnomer as they aren’t necessarily “Generally Accepted” until the are prescribed by the Financial Accounting Standards Board of FASB. These rules, GAAP, are required for those companies that are being audited by American CPAs. They are the rules that make up how accounting in done in the U.S. and for that matter, most of the rest of the world follows similar rules.
I held a CPA license for 45 years until I put my license on retirement status last summer. I’ve got a strong background in accounting, I think it is fair to say, and even I find some of this stuff confusing. I deal with mostly privately held companies, although occasionally I wander into the domain of publicly traded companies. The accounting rules are slightly simpler for private companies, but still, most rules are the same. Thus, I get thrust into this area that I’m calling, “GAAP Gone Wild!”
For instance, take the relatively new long-term leasing accounting. Please. In the recent past, for long-term leases, if the lease was an installment payment arrangement to buy an asset, it was treated as such. The leased asset was capitalized as a fixed asset, and the lease obligation was treated like a long-term note payable.
But when a long-term lease was on something like the rental of office space, the monthly payments were recorded as rent. Simple. Not anymore. Now, the rental payments over the life of the lease are all aggregated and recognized as a long-term obligation. This includes any options to extend the lease if it is likely the lease will be extended. This can mean aggregating the payments for decades, leading to a very large obligation that shows up on the Balance Sheet. Because of the long-term nature of the lease, this is done on a discounted basis to recognize the time value of money.
Offsetting this liability is an asset called a Right of Use (ROU) asset, representing the right to use the space over the term of the lease. These rights are amortized over time. The entries to record and amortize the long-term lease usually require the use of specialized software.
Who benefits from all of this? It’s supposed to be better accounting, recording an obligation that was not previously disclosed. But I can’t think of a single user of financial statements for any of my clients who will benefit by this. It adds complexity and very few, if any, users understand the disclosures. For the bankers, all of their balance sheet ratios get distorted.
Here’s another example: accounting for Deferred Income Taxes. This is not a new rule, it goes back many years. But the complexity is something to behold. I’ve only got a few clients who are required to get CPA audits. None of the clients understand how to set up these tax provisions, I don’t, and I’m not sure many of the auditors know. Some of the auditors use an outside consultant to set up the provision and the related disclosures.
Again, who benefits from this? Maybe the CPAs, maybe the consultants. I can’t believe many users, if any, of the audited financial statements understand the tax provisions and the related footnotes.
There are plenty of other specialty areas in accounting with very complex requirements: Goodwill Impairment, Hedge Accounting, Consolidation of Variable Interest Entities, Revenue Recognition, Stock-based Compensation (Black-Scholes!), Pension Accounting, ad nauseum.
We used to have “Big GAAP” and “Little GAAP,” with separate rules for bigger and smaller companies. There is still a little bit of this but mostly that concept has become part of the past. Now, even small companies, if they’re audited, have to comply with these rules.
I’m whining here and I don’t have a solution to offer. The costs are higher, the benefits seem illusory, and even the CPAs, I think, would rather not have to do this stuff. GAAP Gone Wild indeed.
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