Democracy Is in the Eye of the Beholder

Lou Grumet’s December 2003 Publisher’s Column brought to mind the saying, “It’s all in the mind of the beholder.” While I agree with the headline, “Sunlight Is the Best Disinfectant,” and some of examples the of the “exposure” NYSSCPA members have had to “sunlight,” I disagree with other examples.

Although establishing six new chapters and expanding the NYSSCPA board of directors does provide for additional member involvement, which is good, there is a benefit only if those new board members view their position as that of a fiduciary for their constituents. It is not only incumbent upon both old and new members of the board to align themselves with the leadership on issues upon which they agree, but also, as independent board members and independent CPAs, they should challenge the leadership where they believe doing so is in the best interests of the Society and its members.

Regarding the new bylaws concerning the makeup of the Nominating Committee, I take an entirely different view from that of Lou Grumet. Prior to the bylaw amendment that limits members to signing only one petition for a nominee to the Nominating Committee, NYSSCPA members were permitted to sign petitions for more than one member seeking selection to the committee. For example, if the committee had seven openings, a member could sign seven petitions for different members. This is similar to regular election procedures where there are, for example, three judges to be elected on a ballot and you are permitted to vote for as many as three. Another pertinent example is primary elections where a number of candidates hope to be on the ballot and a citizen is permitted to sign more than one petition. I believe this is democracy.

Let’s examine how the new NYSSCPA bylaw worked in its first year. Possibly because of the new restriction, an insufficient number of members were nominated to contest the positions for the Nominating Committee, something that has occurred only occasionally in the past 40 years. Although Grumet contends that under the old rules, “as few as 10 members could control the nominating process by stuffing the ballot box,” this has never happened in the past 40 years. This year, because of the lack of nominees proposed by members’ petitions, the board appointed more members to the Nominating Committee than in any recent year. Grumet considers the filling of the vacancies by the board as “another lesson in democracy.” I believe it is just the opposite. Under the prior rule, two years ago 14 members’ petitions were submitted for the seven seats on the Nominating Committee. I believe that is democracy in action.

Although Society members approved this bylaws amendment, I question how many understood it when they voted. One reason they may not have known the full impact of the proposed amendment was that the ballot did not include pros and cons, something we have always demanded of the AICPA in its member ballots. In fact, the information provided with the ballot did have some editorial pro comments but no cons. Democracy?

Those who voted on the bylaws amendment may also not have realized that they voted to change the quorum to call a special meeting of the members from 100 members to 2% of the Society’s membership (approximately 600). This means that in order to call a special meeting, a member will now have to seek out at least 600 members to sign a petition rather than, as previously, 100 members. I believe this does not enhance the democratic process. Incidentally, the quorum for a meeting remains at 100 members, not the 600 required to petition for a meeting.

I agree with Grumet’s call for greater openness elsewhere in the profession and applaud the NYSSCPA’s recommendations with respect to AICPA governance. I also applaud NYSSCPA President Jeff Hoops’ recent statement in The Trusted Professional that good strides have been made towards a better relationship between the Society and the AICPA. We will all benefit from that closer relationship.

I hold the NYSSCPA very dear to my heart and I am dedicated to a lively, active, democratic NYSSCPA. I hope my comments help in promoting this.

Abraham Briloff’s article on accounting for stock options (December 2003) brings to mind the adage, “For every complex problem, there is a solution that is simple, obvious, and wrong.”

The basic problem with the presently required accounting for stock options is that it violates the general principle that equity and debt instruments issued by a company should be accounted for at their value at date of issuance. While stock options clearly have value, companies can avoid accounting for that value if they so choose.

Briloff’s “solution” would also violate this general principle. Instead of accounting for the value of stock options at date of issuance, he would continuously mark them to market for an indefinite future period. He does not propose to extend this approach to other security issuances, although his logic would suggest that he should. For example, if convertible debt issued by a company increases in value because of an increase in value of the underlying stock, should that higher value be recognized in the company’s accounts, presumably by a charge to interest income?

According to his article, Briloff’s main problem with the Black-Scholes method is that it is “convoluted.” If the method can be improved upon, I think most accountants would be supportive, but he offers no theoretical objections to using value at date of issuance. The practical arguments—that it is too hard to do and the answer is not “precise”—have been offered and rejected on numerous occasions. To cite one example, the same arguments were made against accounting for postretirement benefits other than pensions (OPEB) on an accrual basis. Fortunately, they failed.

Briloff cites SFAS 141 as supporting his position. In fact, it does the opposite. SFAS 141 does not require (or permit) the constant revaluation of securities issued in a business combination with a continuous changing of the value of the assets acquired and liabilities assumed.

Other observations: First, for accounting purposes, applying Occam’s Razor (the simplest theory is preferred to the more complex) would lead to the return of cash basis accounting (because it is much simpler than accrual accounting), but I doubt many accountants would view that as an improvement. Second, Briloff states that the theory underlying SFAS 5 would require compensation expense to be recognized at the time of exercise. This is incorrect. The theory underlying SFAS 5 would require compensation expense to be recognized when exercise is probable. Third, Briloff states that the economics implicit in “phantom” stock programs are little different, if at all, from a typical stock option arrangement. This is also incorrect. A phantom stock plan requires payment of cash by the company to the employee with no issuance of stock. The exercise of a stock option results in a cash flow in the other direction: The employee pays cash to the company in exchange for shares.

FASB had the right answer in SFAS 123: Value the option at date of grant and account for the resulting compensation expense. If the valuation model has problems, fix them. But don’t (again) adopt a “one-off” accounting model for stock options.

The writer is a former member of the FASB Emerging Issues Task Force (EITF) and Advisory Task Force on the Consolidation Project, the International Accounting Standards Committee (IASC), and the AICPA Accounting Standards Executive Committee (AcSEC).

The February article “Tax Issues Arising with IRC Section 338(h)(10) Acquisitions,”reprinted an exhibit and a list from the four-volume treatise Mergers, Acquisitions, and Buyouts by Martin Ginsburg and Jack Levin (Aspen Publishing, 2003). The CPA Journal apologizes for failing to include a citation to the source.

I n “The Hidden Risk in Analytical Procedures: What WorldCom Revealed,” by Neal B. Hitzig (February 2004), a sentence fragment inadvertently appeared in the 18th line of the third column on page 34. The complete sentence should read: “While this is the case for statistical sampling, it is not true for analytical procedures, whether or not sophisticated quantitative techniques are employed.” The CPA Journal apologizes for the error.

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