This week-only, we have guest blogger, Richard Corredera, CMA, CSCA, EA, Director of Brilliant Management Resources and Advisory Services Florida, taking over for Brilliant’s Blog – Accounting & Finance Talk – to discuss the FASB’s decision on redefining materiality. Take a look at his blog below.
Materiality is a concept underpinning the very foundation of financial reporting and transversely the transparency needed to support efficient capital markets.
Finance leadership, their auditors, courts and numerous regulatory bodies all depend on the concept of materiality each day. Not surprisingly, with so much depending on the concept, discussions related to the definition of materiality can bring about a multitude of viewpoints and quickly escalate to substantive and healthy debate.
• Background on the FASB’s efforts to clarify materiality
For the Financial Accounting Standards Board (FASB), perhaps the most recent, and certainly not the last, run at materiality ended in November 2017 after a two-year project intended to “clarify” the definition of materiality with respect to financial statement footnote disclosures. A definition that seemed to the FASB to be in need of clarification following their 2010 issuance of Concept Statement No. 8: Conceptual Framework for Financial Reporting.
Concept Statement No. 8 was issued with an identical definition of materiality as that contained in the International Accounting Standard Board’s (IASB) Conceptual Framework for Financial Reporting. In 2015, the FASB issued proposals to change the language used in the definition of materiality in Concept Statement No. 8 and ASC 235: Notes to Financial Statements.
The proposals targeted change centered on a simple addition to ASC 235:
235-10-50-8 Materiality is a legal concept.
• Supporting information provided by the FASB for its addition
The board provided background for their choice of language for the change to ASC 235 and was perhaps even more informative on their overall intention for the proposed change to Concept Statement No. 8 Chapter 3 which in part included:
“The Board became aware that the current definition of materiality in Chapter 3 of Concepts Statement 8 as originally issued was inconsistent with the legal concept of materiality in the United States. That inconsistency created uncertainty about potential interpretations and how to reconcile the two when assessing materiality. The definition in Chapter 3 was not intended to be different from the legal concept of materiality. The Board decided that the simplest and most effective way to avoid creating uncertainty or confusion is to (a) make it clear that the Board should not define materiality and (b) remove the existing definition of materiality and replace it with a broad observation of the U.S. Supreme Court’s definition in the context of the antifraud provisions of the U.S. securities laws.”
• Reactions from accounting and finance organizations
The responses to the FASB proposals were voluminous with comments from organization such as the Securities and Exchange Commission (SEC), the American Institute of Certified Public Accountants (AICPA), the Institute of Management Accountants (IMA), the CFA Institute, the International Corporate Governance Network (ICGN) and many others.
Although support for the FASB’s effort to clarify materiality was evident in many of the responses, a clear resistance to binding US GAAP to a “legal concept” was very clear. From the fear of unneeded involvement of legal professionals in accounting matters, to undue discretion given to management to selectively include disclosures, to what may best be described as a “don’t fix what is not broken” perspective, the resistance took various forms and served to highlight just how many different stakeholders and perspectives become involved when something as fundamental as the definition of materiality becomes the topic of discussion.
• Latest development from the FASB
Ultimately, in November of 2017, the FASB dropped its proposals and issued only a brief tentative decision on the topic:
- Amend the current definition of materiality in Chapter 3, Qualitative Characteristics of Useful Financial Information, of the FASB Concepts Statement No. 8, Conceptual Framework for Financial Reporting, with language similar to that of the definition in the FASB Concepts Statement No. 2, Qualitative Characteristics of Accounting Information (superseded).
- Remove the reference to materiality as a legal concept in Concepts Statement No. 8 and in Topic 235.
• What does this all mean?
In short, the FASB not only relented on their goal to clarify materiality, they also rolled back – in part – the effort made in 2010 to bring US GAAP closer to IFRS. They learned that the complexity of framework unification would manifest in even seemingly simple matters like lexicographical cleanup. Interestingly, what the FASB did not do was close the door on future materiality discussions with their closing decision statement: “The Board will continue to redeliberate materiality in the context of the FASB Accounting Standards Codification®.”
Materiality will be back again. Next time the catalyst may be focused on aspects of materiality only tangentially involved in the aforementioned proposals such as performance materiality, planning materiality or evaluation materiality. Disclosure materiality or framework unification may again be the core, and it may come as another attempt at IFRS convergence or as a result of some yet unknown scandal that may have been avoided with a stronger financial accounting definition of the concept. However, as the next discussion begins, Brilliant will be watching and eager to dive in to assess and understand the ramifications and impacts for the world of accounting and finance professionals.
What are your thoughts on the FASB’s decision to not quite define materiality? Share your comments below!
Richard Corredera, CMA, CSCA, EA, leads Brilliant’s Management Resources and Advisory Services Florida practice based in Fort Lauderdale. His experience includes nearly two decades worth of technology, accounting and corporate finance leadership roles. With a focus on complex technical accounting, forecasting, valuation, and business intelligence projects, Richard dives deep into the challenges facing financial leadership teams and assists with the creation of targeted and measurable strategies to overcome them.