Widening the gap: big GAAP vs. little GAAP.

Half of the United States' economic output is driven by nonpublic entities. There are more than 22 million private businesses in the U.S., and approximately 17,000 public companies. Every so often, the debate arises as to whether separate accounting and reporting standards should be set for small and medium-sized enterprises (SMEs).

This time, it seems to be gaining momentum as recent trends in standard-setting have increased the differences between the needs of users of financial statements. Many small companies feel that as the Financial Accounting Standards Board (FASB)'s rulemaking has become more complex, they simply don't have the wherewithal to keep up, particularly as they look at some of the far-reaching projects on FASB's agenda, such as the evident move towards fair value accounting. (Truth be told, many large companies feel the same way!)

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To limit compliance costs, some companies chose to depart from certain GAAP requirements and to have qualified audit or review reports, or moved from audited or reviewed statements to compilation engagements. Several factors have influenced this renewed interest and momentum in developing separate standards for SMEs:

* The IASB issued "Preliminary Views on Accounting Standards for Small and Medium-sized Entities" in June ("the PV"). The PV reacts to concerns from countries that have chosen to adopt the International Financial Reporting Standards (IFRS) that SMEs need to be separately addressed. Since many of these countries already have differential standards for SMEs, the alternative is to have separate SME accounting standards, inconsistent with IFRS, that are set by individual country accounting standard-setters. Many believe that this is an inefficient way to set such standards.

* Many other countries, including Canada in 2002, already have established differential GAAP for SMEs.

* The Sarbanes-Oxley Act of 2002 mandates that funding for the FASB, as well as the Public Company Accounting Oversight Board (PCAOB), come from public companies only.

* The needs of financial statements users are different for nonpublic entities and public entities.

Another issue is that FASB is now funded by public companies only. Formerly, funding came from a variety of sources, including accounting firms, investment companies, trade associations and nonpublic companies. The change has many SMEs concerned that FASB standard-setting will be principally focused on those companies from which its funding comes. This argument has also been used for auditing standards, since the PCAOB is focused on firms that audit SEC registrants.

For its part, FASB recently established the Small Business Advisory Committee to ensure that as it moves forward with future rulemaking, the concerns of private and small public companies are being heard. We were asked to nominate potential members, and, as a result, several FEI members are participating.

In existing GAAP, there have been instances where exemptions for small or nonpublic businesses have been made, as well as instances where nonpublic companies or companies under a certain size have been afforded longer adoption times. Additionally, the American Institute of Certified Public Accountants (AICPA) has also set up a task force to study this issue. FEI is participating on this task force as well.

As we think about differential accounting standards, there are obviously many issues to consider: Would this cause more investor confusion? What happens to the comparability of private and public companies, and between U.S. and offshore companies? What happens when a private company goes public? Will investors and other users of information respect one kind of accounting more than the other? Are there really two correct ways to account for transactions?

Another issue is whether the content of financial statements should be driven by financial statement users' needs. Public company financial statements are widely circulated and available to an unlimited number of users, who benefit from access to a broad range of detailed financial information, making the size of the company largely irrelevant. Or should an accounting transaction be accounted for and disclosed the same way, regardless of the entity? (If Joe's Lemonade Stand enters into complex derivatives, shouldn't it account for them as a large company does?)

Creating differential standards would also take a great deal of coordination among the regulatory bodies, preparers, auditors and users of financial statements. Some users of financial reports have expressed concerns that a "big GAAP/little GAAP" system could undermine the comparability and credibility of financial reports. They believe that such a two-tiered system also would add costs to the users, auditors and preparers that would likely more than offset any perceived benefits.

It is clear that many issues need to be discussed and resolved before this becomes a reality in the U.S. I encourage you to get involved in the debate.

Colleen Sayther