The Cost-Benefit Analysis Integrated throughout the FASB’s Standard-Setting ProcessIn order to make better decisions about whether, when, and where to allocate investment capital, high-quality financial reporting is a prerequisite. Since 1973, the Financial Accounting Standards Board (FASB) has worked to strengthen U.S. capital markets by setting accounting standards that provide investors with the information they need for decision–making.
FASB standards, known collectively as nongovernmental Generally Accepted Accounting Principles or GAAP, are essential to the efficient functioning of the U.S. economy. Investors, creditors, donors, and other users of financial reports require credible, transparent, comparable, and unbiased financial information. As an independent setter of accounting standards, FASB is focused on the needs of financial statement users for neutral information and fair presentation: FASB is not attempting to influence behavior or to achieve a particular outcome.
Financial reporting comes at a cost—the cost to prepare, provide, and audit the information. For that reason, projects are only added to the FASB’s agenda when current financial reporting information is not portraying an objective and complete reflection of the underlying economics. Furthermore, an associated principle guiding the FASB is to issue standards only when the expected improvement in the quality of the information provided to users—the benefit—justifies the cost of preparing and providing that information. The FASB strives to improve financial reporting in the most cost–effective manner.
How Does the FASB Gather Information About Potential Costs And Benefits of Standards?
An independent standard-setting process is critical to producing high-quality accounting standards, because it relies on the collective judgment of experts, and it is informed by the input of all interested parties through a thorough and deliberative process. The FASB sets accounting standards through processes that are open and allow for extensive input from all stakeholders. These stakeholders represent a broad range of capital market participants, including investors, analysts, donors to nonprofit organizations, financial statement preparers, auditors, academics, and other interested parties.
Throughout the stages of a project, the FASB’s procedures, which are called “due process,” are specifically designed to generate feedback about costs and benefits of a proposed new standard. Stakeholders are asked about the most faithful way to portray a transaction or economic phenomenon, as well as the most cost-effective ways to implement any changes. Before being implemented, every proposal is exposed for public commentary and discussed with numerous informed stakeholders. Technical decisions by the Board are made in public meetings after careful consideration of the input from stakeholders. The chart below illustrates the many elements that play into the Board’s decision-making process.
Cost–Benefit Differs from an Analysis of Economic ConsequencesThe economic consequences of a new financial reporting standard are separate and distinct from an analysis of costs and benefits relating to the adoption of a new standard. The role of financial reporting is not to deter-mine or influence what capital allocation decisions should be made or what actions should be taken by management. Rather, the role of financial reporting is to promote decisions that are well-informed and to provide investors information they need to make those decisions. The FASB’s objective in developing accounting standards is to show a complete and unbiased picture of a company’s financial position and performance. Better information (which could be favorable or unfavorable for a particular organization) is expected to change capital allocation decisions, but the Board does not try to influence the outcome of those decisions.
A Case in Point—Accounting for Lease TransactionsAs noted above, accounting standards are not intended to drive behavior in a particular way; rather, they seek to present financial information so that financial statement users can make informed decisions about how to best deploy their capital.
For example, the FASB issued a financial accounting and reporting standard in February 2016 that improves financial reporting about leasing transactions by providing financial statement users a more faithful representation of an organization’s leasing activities.
The project was added to the Board’s agenda in response to feedback from investors and other financial statement users concerned about the lack of transparency relating to material lease obligations that today are not included on the balance sheet. While some industries have argued that increased transparency about lease obligations would potentially create a less favorable economic picture of certain companies, the objective of the proposed standard is to provide a fair and complete representation of the obligations and rights of a company.
The purpose of our due process is to determine the appropriate representation of the economic phenomena. Investors may view the new information favorably or unfavorably and that is the expected consequence of neutral information. The Board carefully considered the feedback received about the proposed changes to lease accounting before issuing the final standard. This document summarizes how the FASB considered the expected costs and benefits of the Leases standard.
Today, as the U.S. economy continues to recover from the financial crisis and recession, the FASB remains committed to ensuring that our nation's financial accounting and reporting standards provide investors with the information they need to confidently invest in the U.S. markets.
COST-BENEFIT ANALYSIS—ADDITIONAL LINKSFrom the Chairman’s Desk by FASB Chairman Russell G. Golden [4Q 2014]
The FASB’s Cost-Benefit Analysis presented by FASB Member Marc A. Siegel at the FEI-CFRI conference on November 17, 2014.