FASB Rolling Back Fair Value Accounting

Good news this week that the Financial Accounting Standards Board (“FASB”) has finally acknowledged what so many in the industry have been saying for years.  The relatively recent rule that forced banks and other financial institutions to account for “all” assets at Fair Market Value or to “Mark-to-Market”, as it commonly called, just doesn’t make sense.

At the Board’s meeting on January 25th, one of the central topics of conversation was the accumulating evidence that both the companies holding these assets AND the very investors that the rule was supposed to “protect” both think that forcing these companies to assign a current market price is not consistent with their  business model, does little to help investors understand the value of these companies and very likely was a major contributor to the financial crisis.

For months and months, the banks held onto loan positions, despite the draconian write-down rules that the Fair Value standards placed on them, simply because everything they had been taught and everything they had learned over the years told them that these assets were actually much more valuable than market prices in 2007, 2008 and 2009. As it turns out, the banks were right, as market values did ultimately recover.  Many of these banks have been rewarded for holding out.   However, this was not before way too much “unnecessary pain” was inflicted on these companies and their shareholders.  Tough lesson, no doubt. 

The decision to consider the business model for the entity carrying the asset (e.g. bank vs. broker dealer) as an important component of the overall analysis is a significant step backwards from FASB’s previous “one size fits all” position.  Good for FASB and good for the market! 

From the FASB news release…… “The Board decided that a business activity approach should be used and that financial assets that an entity manages for the collection of contractual cash flows through a lending or customer financing activity should be measured at amortized cost.”

We’ll wait to see exactly how expansive the definition for “lending and customer financing activity” becomes.  We, for one, would hope that for assets held and managed away from the trading floor, the banks be given as wide a berth as possible, in this area.

About markferraris
Managing Principal Orchard Street Partners LLC

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