Accounting Policy & Practice

White Paper

Debt vs. Equity: Accounting for Claims Contingent on Firms’ Common Stock Performance With Particular Attention to Employee Compensation Options

This White Paper lays out a comprehensive solution to the problem of accounting for claims based the performance of a firm's stock price. The accounting covers employee stock options, stock appreciation rights, put and call options, convertible debt and preferred stock, warrants, and other hybrid securities.

White Paper

Principles for the Application of Fair Value Accounting

This paper lays out principles under which fair value accounting is appropriate. Accordingly, the pros and cons of fair valuing bank loans, core deposits, inventories, investments in subsidiaries, insurance contracts, performance obligations, and debt, to name a few balance sheet items, are resolved, leading to formal financial statement templates for the application of fair value accounting in specific industries.

Occasional Paper

Accounting for Intangible Assets: Suggested Solutions

Current accounting practice expenses many investments in intangible assets to the income statement, confusing earnings from current revenues with investments to gain future revenues. This has led to increasing calls to book those investments to the balance sheet. Drawing on the relevant research, this paper proposes solutions for the accounting for intangible assets that contrast with balance sheet recognition, and compares them to current practice and the IFRS standards that dictate practice. Key is the recognition that an accounting solution comes from a double-entry system which produces an income statement as well as a balance sheet, and that has features that both enable and limit the information that can be conveyed about the value in intangible assets. In this system, asset recognition in the balance sheet must consider the effect on measurement in the income statement, for the income statement conveys value added to investment on the balance sheet. A determining feature is uncertainty about investment outcome and how that affects the income statement, so our solutions centre on accounting under uncertainty. Two other accounting features are added: There has to be an investment expenditure for balance sheet recognition and that expenditure must be separately identifiable from transactions. These features rather than the tangible-intangible asset dichotomy lead to the prescribed solutions.

Professor Richard Barker, Saïd Business School, Oxford University, Andrew Lennard, Financial Reporting Council, U.K., Professor Stephen Penman, Columbia Business School and Alan Teixeira, Deloitte and University of Auckland, authored this occasional paper.

Occasional Paper

Foreign Currency: Accounting, Communication and Management of Risk

We obtain survey responses from 168 North American CFOs and interview 16 of them to understand (i) how foreign currency exposure is measured and reported inside and outside the firm; (ii) how goal setting, performance evaluation and compensation of managers reflect exchange rate impacts, (iii) what specific currency exposures firms hedge and why? To develop expected answers to these questions, we provide a series of exhibits of hypothetical transactions at, and financial reports for, the foreign subsidiary. We benchmark these theoretical insights against the survey responses and uncover several questionable managerial choices.

First, although no performance measure is insulated from a currency impact, a large majority of senior managers and board members only review translated USD data, especially cash flows, that are fraught with significant measurement error.

Second, companies are more likely to communicate, both inside and outside, the currency impact on net income and revenue but not on operating costs, operating cash flows and the foreign subsidiary’s balance sheet. Hence, decision makers, especially investors, will be unable to readily isolate the portion of the firm’s performance attributable to currency changes.

Third, many of the current practices used to (i) set budgeted exchange rates for planning; (ii) hold local managers accountable for currency fluctuations; and (iii) manage foreign currency risk are inconsistent both with one another and with theory.

We hope our work furthers the understanding of currency exposure among students, academics and practitioners.

Professor Trevor S. Harris, Columbia Business School and Professor Shivaram Rajgopal, Columbia Business School, authored the paper

Occasional Paper

Moving the Conceptual Framework Forward Accounting for Uncertainty

Accounting standard setters have long struggled with the development of a conceptual framework to guide rule making on specific issues. The International Accounting Standards Board (IASB) is still engaged. The project to date takes the approach of laying out concepts for the recognition and measurement of assets and liabilities in the balance sheet, with the income statement then falling out as the difference between successive balance sheets. That has drawn criticism from those advocating an “income statement approach” based on revenue recognition and expense matching. It is fair to say the Board is having difficulty reaching closure under the adopted approach.

This paper points to an omission in the Conceptual Framework: Dealing with uncertainty. It shows that the incorporation of uncertainty into the accounting not only gives coherence to the balance sheet approach, but also yields an income statement with appropriate revenue recognition and expense matching. More important, the investor is informed about uncertainty. In short, the paper lays out a combined “balance sheet approach” and “income statement approach” that satisfies the stated objective in the Conceptual Framework of reporting to investors on the amount, timing and uncertainty of future cash flows.

Professor Richard Barker, Saïd Business School, Oxford University and Professor Stephen Penman, Columbia Business School, authored the paper

Occasional Paper

An Alternative Approach for Mergers and Acquisitions and It's Use for Predicting Acquirers' Performance

This paper offers an alternative to GAAP accounting for mergers and acquisitions. It introduces a calculation of goodwill which, in contrast to the “plug” number under GAAP, has an economic interpretation. It can thus be used as a diagnostic to evaluate M&A transactions and to forecast future goodwill impairments.

Hyung Il Oh, University of Washington Bothell is the author of this Occasional Paper.

Occasional Paper

The Design of Financial Statements

This paper proposes a redesign of financial statements. It is written in response to proposals by the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) to revise the presentation of financial statements.

Columbia Business School Professor Stephen Penman is the author of this Occasional Paper.

Occasional Paper

Accounting for Intangible Assets: There is Also an Income Statement

This paper makes the point that accounting is not necessarily deficient in omitting intangible assets from the balance sheet: there is also an income statement, and the value of intangible (and other) assets can be ascertained from the income statement. The paper is instructive, not only to those concerned with accounting issues, but also to analysts attempting to value firms with assets missing from the balance sheet.

Columbia Business School Professor Stephen Penman is the author of this Occasional Paper.

Occasional Paper

The Subject Matter of Financial Reporting: The Conflict between Cash Conversion Cycles and Fair Value in the Measurement of Income

This paper challenges the view of primacy of a balance sheet-based financial reporting model and its extension into a full fair value accounting model. The paper claims that accounting concepts and measurement attributes have to be aligned with the inherent economic logic of an activity if faithful representation is to be achieved.    

Andreas Bezold, a former chief risk officer and deputy CFO of a large German Bank, authored the paper.

Policy Brief

Back to Basics

The policy brief on the root cause of the current financial crisis is published in Ideas At Work of Columbia Business School.

Occasional Paper

Fair Value Accounting in the Banking Industry

This paper studies the application of fair value accounting in bank holding companies in the United States with the purpose of evaluating the effects of expanding fair value accounting in the banking industry. The primary conclusion of the analysis is that expanding fair value accounting is not likely to significantly improve the information in bank financial statements and, in some cases, may introduce distortions that reduce accounting quality.

Columbia Business School Professor Doron Nissim was commissioned as principal project consultant, with Stephen Penman as project director.

Occasional Paper

On the Balance Sheet-Based Model of Financial Reporting

The FASB adopted a balance sheet-based model of financial reporting about 30 years ago, and this model has been gradually expanded and solidified to become the required norm around the world today. Currently, the FASB and the IASB are re-considering their Conceptual Framework, and this is the right time to have a much-needed debate about the proper conceptual foundations of accounting.

Professor Ilia Dichev of the Ross School of Business at the University of Michigan has been commissioned to prepare this Occasional Paper.

Occasional Paper

Perspectives on the Cash Flow Statement under FASB Statement No. 95

This paper demonstrates that the current FASB cash flow statement classification rules are simplistic and wrought with internal contradictions, in part because they do not distinguish between financial and non-financial enterprises. Among other recommendations, the paper favors changing the classification rules to (1) require income tax allocation in the cash flow statement; and (2) distinguish between financial and non-financial enterprises.

Hugo Nurnberg is Professor of Accountancy at the Zicklin School of Business, Baruch College, City University of New York.


London Roundtable Discussion: Fair Value and the Banking Industry


Academic Roundtable Discussion: Fair Value Policy


Debt vs. Equity Project Panel Discussion