FASB chair Richard Jones discusses the US standard setter work on sustainability, and developments in the US more broadly
Your position paper on sustainability dates back to last year, and there have been a lot of developments at the European and international level since then and I wondered how that impacts your thinking, your research and your work going forward?
It would help to start with just a little bit of background. In the US, the FASB is charged with financial accounting and reporting for public companies, private companies, and not-for-profit organizations. Effectively, our role is very similar to the IASB's role. We get our authority to set GAAP for public companies by the fact that we're recognized as a standard setter by the SEC. The SEC has the ability to set accounting standards, but they recognize our standards as authoritative because we meet certain requirements.
A public company in the US files its financial statements using GAAP within the subset of the filing called the financial statements: the balance sheet, the income statement, and the notes that go along with that. The other parts of the public company filing are covered by the SEC. That's the management commentary, the risk factors, and a variety of other disclosures that go into a public company's annual and quarterly filings with the SEC.
Because our focus is financial accounting and reporting, we focus on the financial statements. When it comes to other items, like executive compensation disclosures or management commentary, the SEC does all the rulemaking related to that.
Much of the SEC's proposal on sustainability is outside of the financial statements. That's an area that's outside of our purview. As I mentioned, the SEC does have the right to set accounting standards for public companies, and occasionally they will add supplemental disclosure requirements. Their proposal does include a footnote disclosure requirement in the financial statements related to certain expenditures or effects of climate change, as they define it, on the financial statements. If that rule were to become final, that would be something a public company would disclose in their financial statements—but again, that wouldn't be us, that would be an SEC requirement.
Very often, when you hear about sustainability reporting efforts or climate change reporting efforts in the US, they're being led by the SEC.
There is however some crossover with the work that you do at FASB, you look at intangible assets or ESG disclosures, right?
Financial accounting and reporting is effectively measuring what's happened and the financial effects of what's happened. We just completed our agenda outreach process where we heard from certain stakeholders with a focus on certain ESG type matters that relate to financial accounting and reporting. We heard about two of those in particular: one was on emissions trading credits and the broader category of emissions credits, both voluntary and compliance programs. The other is related to what I'll call ESG-linked financial instruments.
We've added the emissions trading credits and emissions compliance programs to our technical agenda and our board is pursuing standards setting in that regard.
To the extent that I know cap and trade is more common in Europe than it is in the US, it does exist in certain states in the US but there are a variety of different programs that have emerged. While they may fall under intangibles guidance today, the question is: 'what's really the best accounting model for them?'
ESG-linked financial instruments is on our research agenda. It'll be coming back to our board for a decision on whether to add it to our technical agenda. That research project relates to bonds that have different interest rates based on whether you hit your emissions targets or not. We're looking at providing a different accounting model that would be helpful.
For the emission credits, what's the standard setting process and how long does it take to get to a standard?
Well, that one just got added to our technical agenda. Our teams have started to research the population of issues and it's actually quite broad.
We will be discussing the issue through the next several months. The phases of our process are: we have discussions, the board votes, we draft an exposure draft that's issued for public comment, we consider the comments we received, and then, depending on how the comment period goes, from there we can issue a final standard. That's our normal process and it should take us to the beginning of next year.
Out of two items that came back, the credits and the ESG linked instruments, how did you decide that the credits should go down the standard setting route and the ESG link would go down the research route? Because it seems to it seems a credit space is a bit more blurry and less defined that the ESG-linked instruments?
It's just a matter of how much information we need to gather and the timing. We felt we had heard enough about ESG credits and that, while we needed to get more information on the population, we had a pretty good idea of the issues there and knew we wanted to do standard setting.
When it came to the ESG-linked financial instruments, the accounting in US GAAP today is commonly viewed that you account for the variability in interest rates based on hitting emissions targets as a derivative. So it is accounted for at fair value. That derivative accounting is fairly broad. It covers a lot of things beyond an ESG-linked interest payment.
Part of the reason for the research project is, if we're going to scope it out of derivative accounting, we would want to understand whether there are other things that we should be scoping out or whether it is simply that. It touches on issues outside of that single instrument accounting.
It's really a matter of what stage we're at and how quickly we think we can vote.
With the ESG-linked financial instruments, you mentioned the bond where the repayment varies in terms of hitting a target or not. Do you include green bonds as well, where the repayment doesn't change, it's just the proceeds go to something specifically green? Is that part of it or not?
It's something that we've talked about. Companies can issue bonds for a lot of different purposes, but the view of how the proceeds are used doesn't change the fact that that company has to account for the issued debt. While we're aware of those things, our board hasn't specifically discussed this but I would doubt there should be different accounting for those because that's simply how the proceeds are used but it doesn't change the nature of the borrowing itself.
How do you see this evolve? Because obviously it's a new-ish field, this crossover between the financial and the non-financials, today you are working on two specific issues, in 10 years times will be much more 'non-financial' issues cropping in the financials?
Governments may create more of a regulatory environment around environmental matters. That's a trend we've seen and one that I wouldn't be surprised to continue to see. To the extent that we become aware of different items where we don't think the existing accounting is providing the best information, we will certainly look into it.
There will be questions as the ISSB develops standards whether these standards will be adopted in the US. Can you imagine that happening or is that mission impossible?
At this point, that's a better question for the SEC, because they're the ones that have put out their proposed rulemaking for public companies related to climate. Is it going to be the same as the ISSB or is it going to be different? That's a fair question for them.
Can you foresee a situation where the SEC asks FASB, similar to what the IFRS Foundation did with IASB and ISSB, to develop a separate board that looks specifically at these issues? Can you imagine it'd be on the table later?
The SEC has not asked us as of yet.
Can you give me a high-level outlook on the things that are on the agenda for FASB going forward as a standard setter, what are the big hot topics for you?
Some of the themes we heard in our agenda outreach process were focused on disaggregation of financial information. What it came down to was, when you looked at the income statement of a company, were investors really getting enough detail on those earnings to be able to make the best capital allocation decisions? We have two projects on our technical agenda specifically focused on that: one related to income statement expenses disaggregation and one related to segment disclosures.
We also heard input on income taxes from investors. We have a project on our technical agenda related to income tax disclosures, where we're looking at the effective tax rate and providing greater insight into the components in the effective tax rate reconciliation related to both foreign earnings and state and local taxes.
We also heard about some emerging issues where there were accounting models in place today but not necessarily specifically designed for those topics. One of those issues was digital assets, and whether there is a better accounting model, for example, for cryptocurrency. We've added a project to our technical agenda related to the accounting for digital assets.
We currently have eighteen topics on our technical agenda and eight topics on our research agenda. Our research agenda was also greatly influenced by our agenda consultation outreach.
I was quite surprised to see that ESG came third in the top priorities, were you surprised?
Given that our that our mission is focused on financial accounting and reporting, I wasn't. First, we have to all agree on what we're talking about when we say ESG because it's so broad. Our education paper last year highlighted to investors that there are certain assumptions and certain customer behaviors and pricing impacts that are already reflected in our accounting models. We are really targeted on those areas within our mission where there's likely to be either growth or a different accounting model that may make more sense.