Société Générale sets Floyd Norris in orbit over IFRS

by Kurt Schulzke on March 10, 2008

Floyd NorrisWhen it comes to IFRS, some Wall Street pundits need to breathe into a paper bag. Last week, Floyd Norris (pic, left), in his NYT piece, “Loophole Lets Bank Rewrite the Calendar,” did all he could to ignite “a debate over how well international accounting standards [known as “IFRS”] can be policed in a world with no international regulatory body.”

To hear Floyd tell it, IFRS are a sort of financial three-alarm fire extinguishable only by direct U.S. regulation. The U.S. has done such a good job with our own mortgage meltdown, surely we can be trusted with a broader international regulatory portfolio? Here’s Floyd:

It is not often that a major international bank admits it is violating well-established accounting rules, but that is what Société Générale has done in accounting for the fraud that caused the bank to lose 6.4 billion euros — now worth about $9.7 billion — in January.

In its financial statements for 2007, the French bank takes the loss in that year, offsetting it against 1.5 billion euros in profit that it says was earned by a trader, Jérôme Kerviel, who concealed from management the fact he was making huge bets in financial futures markets.

In moving the loss from 2008 — when it actually occurred — to 2007, Société Générale has created a furor in accounting circles and raised questions about whether international accounting standards can be consistently applied in the many countries around the world that are converting to the standards.

More accurately, the furor exists in some accounting circles. SG’s Big-Four auditors have signed off on the financials. Furthermore, during SG’s 4th Quarter Analyst Conference Call, no call participant found the 2007 placement of the Kerviel loss worth a question. For them, it was a non-issue. Norris continues:

While the London-based International Accounting Standards Board writes the rules, there is no international organization with the power to enforce them and assure that companies are in compliance.

Is this worse that a system in which 100+ countries each write their own accounting rules and “there is no international organization with the power to enforce them”? Back to Norris:

In its annual report released this week, Société Générale invoked what is known as the “true and fair” provision of international accounting standards, which provides that “in the extremely rare circumstances in which management concludes that compliance” with the rules “would be so misleading that it would conflict with the objective of financial statements,” a company can depart from the rules.

In the United States, the Securities and Exchange Commission has the final say on whether companies are following the nation’s accounting rules. But there is no similar body for the international rules, although there are consultative groups organized by a group of European regulators and by the International Organization of Securities Commissions. . .

I guess I’m having a hard time understanding why this is such a big deal. The SEC still has the “final say,” even over French companies like SG if their shares are traded on U.S. markets. Maybe it’s fear of the unknown. Or could it be accounting nationalism? Norris goes on to quote another American, Jack Ciesielski, who edits The Analyst’s Accounting Observer:

“Investors should be troubled by this in an I.A.S.B. world. While it makes sense to have a ‘fair and true override’ to allow for the fact that broad principles might not always make for the best reporting, you need to have good judgment exercised to make it fair for investors. SocGen and its auditors look like they were trying more to appease the class of investors or regulators who want to believe it’s all over when they say it’s over, whether it is or not.”

Ciesielski, it seems, isn’t sufficiently familiar with IFRS to get the words “true and fair” in their correct IFRS order. Hard to take seriously American concerns when Americans don’t go to the trouble to learn basic terms in the language of the controversy. To his credit, Norris goes on to admit that

Investors who read the 2007 annual report can learn the impact of the decision to invoke the “true and fair” exemption. . .

In fact, SG’s CFO, Frederic Oudea, referred in his Conference Call presentation specifically to the 2007 recognition of these losses which are clearly flagged in SG’s 2007 Annual Report. But for some reason, Norris isn’t satisfied that investors who want to move the loss back into 2008 can easily do so on their own:

It appears that by pushing the entire affair into 2007, Société Générale hoped both to put the incident behind it and to perhaps de-emphasize how much was lost in 2008. The net loss of 4.9 billion euros it has emphasized was computed by offsetting the 2007 profit against the 2008 loss.

I find Norris’s concerns convoluted. He appears to argue that if Société Générale can use the “true and fair view” exception to show the Kerviel trading losses (some of which arguably occurred in 2008) in 2007, other more terrible things will happen unless the U.S. Securities and Exchange Commission stops allowing non-U.S. companies (and never allows U.S. ones) to use IFRS at all or, at least, not without direct U.S. oversight.

For me, it all boils down to this: When the U.S. fully adopts IFRS, we will have largely eliminated one huge regulatory dissimilarity — accounting principles — from world capital markets. Underlying legal and enforcement dissimilarities will remain. But those dissimilarities would hardly be solved by running away from IFRS back to a world with 100+ fundamentally different sets of accounting principles and different legal and regulatory frameworks. With IFRS in place, we can better focus on policing common accounting standards “in a world with no international regulatory body.”