Promise you’ll stick with me for three paragraphs? Promise? Good. So the Securities and Exchange Commission (SEC) recently proposed some changes in accounting rules (Hey, you promised!) that threaten to put U.S. technology companies at a disadvantage versus international competition.
Weren’t present GAAP
rules devised to prevent
When any equipment vendor makes a sale, the sale usually involves not only hardware, but installation, service and support provisions. Under Generally Accepted Accounting Principles (GAAP), the revenue from technology sales is typically spread out over at least some of the term of the entire contract. International Financial Reporting Standards (IFRS) are looser than GAAP, and under IFRS, a company can report revenue up front.
International companies listed in U.S.-based exchanges prepare their financials under IFRS, but are obligated to provide GAAP reconciliations if there’s a discrepancy between IFRS and GAAP. The SEC has proposed lifting that obligation. The potential problem is that international competitors could appear to have significantly better revenue performance than their U.S. rivals.
“For technology companies, revenue is critical to valuation, which is often based on top-line revenue growth,” says Jay Howell, a partner in BDO Seidman.
Why is the SEC proposing the rule change? In part, Howell explains, it’s because companies who conform to IFRS in Canada, Europe and Israel are pressuring the SEC about having to do double accounting. According to SEC documents, the Commission is worried that some international companies, reluctant to do double accounting, won’t seek listing in U.S. exchanges. That, the SEC writes, “would deprive U.S. investors of investment opportunities and potentially compel them to purchase foreign securities on foreign markets, where disclosure may be less than that required in filings with the Commission.”
If I’m reading that correctly, the idea is to allow non-U.S. companies to report using IFRS in the U.S., to protect U.S. investors from having to buy those companies’ securities on foreign exchanges, where those companies report using IFRS. A cynical person might conclude the whole point is merely to get more international business for U.S. exchanges. But we’re not that cynical. And the SEC will just keep marching forward with those rule changes if it doesn’t hear any objections, Howell says.
The SEC proposal, including information on where to send in comments, can be found at: www.sec.gov/rules/proposed/2007/33-8818.pdf.
Howell says the SEC has also started considering the possibility of letting U.S. companies report under IFRS. I couldn’t help asking: weren’t present GAAP rules devised to prevent financial scandals of the kind the U.S. has experienced during the last couple of decades? Wouldn’t going to a less strict set of accounting rules be potentially risky for, I dunno, maybe investors?
“Changing the rules and going to something more vague? Yes, there’s potential for more scandal,” Howell says. “That’s the reason GAAP has developed to be more rules-based.”