Information Overload in Financial Reporting for Closely Held Businesses – Part 3

| Audit and Accounting

By Mike Alerding     Over the years, closely held businesses have really received the short end of the stick when it came to compliance with accounting and reporting standards. Pronouncements have always started with the publicly held sector and trickled down to the closely held sector, even though many – if not most – of them either didn’t really apply or had diminimus value to the reader/users of the financial statements. The trickledown effect has been costly and continues to increase disproportionately for this sector as new pronouncements are issued at ridiculously rapid rates.

Over time, a concept has been bantered around called “Little GAAP”. Little GAAP refers to a set of accounting and financial reporting requirements that apply to all non-publicly traded companies, including closely held businesses and not-for-profit entities. This concept, which is now finally receiving serious consideration abroad and, in some limited circles, in the U.S., is long overdue.

Currently, GAAP does include certain requirements that are applicable to publicly traded companies only, but they are very limited. The most recognizable is “Earnings Per Share” computations and disclosures, which are only required for publicly traded companies because, by and large, EPS doesn’t mean anything to privately held companies. The other requirements that are unique to publicly traded companies are few and far between.

Closely held companies have a wide variety of sophistication levels in their internal accounting personnel. A few, usually larger, companies spend the money and see the value in hiring experienced, qualified and highly competent accountants who stay reasonably current on new pronouncements and who have a good understanding of GAAP. Many others have controllers or CFO’s who have only a limited or outdated understanding of GAAP and who are only marginally functional when it comes to drafting contemporary GAAP financial statements. The vast majority, however, have internal accounting personnel who have little or no GAAP experience or understanding and, therefore, must rely solely on the company’s outside auditors in preparing GAAP financial statements. Most closely held businesses just simply don’t see the value in making sure that the company’s financial statements conform to GAAP either because the statements are only used for internal purposes or because the outside readers/users don’t understand or care whether the statements are prepared under GAAP.

Little GAAP would likely bring back into focus the need to have consistency, clarity and simplicity in financial reporting for entities that are not primarily focused on transparency and oversight by unknown third party investors/lenders. Little GAAP would require substantially less continuing education and experience for internal accounting personnel in order for them to be efficient and effective in serving the company. This would also negate the need for paying the external accountants for drafting and providing attestation procedures in the company’s financial statements.

There are many areas where Little GAAP would make sense. For example, it would continue to mandate full accrual accounting, but would simplify the accounting for certain types of derivatives, leasing arrangements, deferred taxes and other assets, fair value measurements, comprehensive income, impairment of goodwill and other intangibles. This eliminates the need for innocuous and complex disclosures on other subjects like pensions, officers’ compensation, definitions of fair value measurements, uncertain tax positions and other similar subjects.

In the end, the goal should continue to be to provide preparers and readers/users of financial statements with a framework that is both simplistic, understandable and that adds value to the preparers and its stakeholders. Each time another standard is issued, apathy grows and both preparers and users get further and further away from understanding what is being said in the company’s financial statements. Establishing the definition of Little GAAP and implementing it into practice will not be an easy task, but the benefit to our entire economy will be substantial and the cost – whatever it might be – will be well worth the effort.

Mike Alerding is a co-founder and Senior Director of Alerding CPA Group, an Indianapolis-based public accounting firm.  Visit our website: www.alerdingcpagroup.com.

This post was written by:

Michael Alerding, CPA
Senior Director

Mike has over 40 years of experience in public accounting. He is a prior columnist for The Indianapolis Business Journal and serves on multiple boards throughout Indianapolis. He currently focuses his time on litigation support, business valuations, succession planning consulting and audit and accounting engagements.
See Michael Alerding’s Full Bio ►

Share this postShare on FacebookShare on LinkedInShare on Google+Tweet about this on TwitterEmail this to someone