What benefits are afforded to CEOs by fair value accounting?
If your company has appreciated assets, you may be able to obtain greater lines of credit or more favorable borrowing terms given the more current information under these provisions. Also, if you’re looking to sell your company or a portion of it, a current valuation of assets may improve your return and, at least, set the stage for negotiations. As CEOs consider acquisitions, it will be much easier to see the prospective business at its present value rather than having to extrapolate the numbers. Private equity investments or debt securities that are classified as held-to-maturity are examples of financial assets that can be updated to reflect their current values, and loans or notes are examples of liabilities that can be affected in a change to fair value accounting.
Of what drawbacks should CEOs be aware?
There is uncertainty inherent in all estimates and fair value measurements, and there’s the risk that financial statements will be seen as more arbitrary with fair value because management has even more ability to affect the financial statements. Financial professionals coming into the workplace need to be trained on recognizing biases with respect to accounting estimates and fair value measurements so they can help CEOs with acquisition evaluations. They also need to be able to explain to prospective lenders and investors how they developed the company’s asset and liability values. It will be important to demonstrate consistency in how you’ve applied the fair value principles and developed your valuations to enable you to maintain credibility with investors, lenders and auditors. Although CEOs may select which assets and liabilities they wish to value under the standard, outside parties will be looking for consistency in how the standard was applied.
Last, CEOs need to consider the future. Once you go down the fair value path, there’s no turning back. Today, fair value standards may provide a great financial advantage for your company, but circumstances and market conditions change. Anticipate that change, estimate how long you will hold any asset and run predicative models to see if fair value will provide an ongoing advantage for your company.
DIANE WITTENBERG is a partner of Audit and Business Advisory Services with Haskell & White LLP. Reach her at (949) 450-6334 or [email protected].