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IASB faces battle to reconcile divergent view on prudent accounting

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The IASA has received strong support for the reintroduction of the concept of ‘prudence’ into its conceptual framework – however no clear direction on how it should do so, has been found.

According to a staff summary of comment letters on the board’s recently issued exposure draft, some 3/4 of respondents commented on plans to bring back an explicit reference to prudence.

The concept was removed from the iteration of its framework by the IASB in 2010.

But whatever path the board take on the issue over the course of its new deliberations, one board member warned it against “playing games” with words.

Patrick Finnegan, speaking during the 15 March meeting, said: “The problem we have right now is that the definition of ‘prudence’ in a dictionary… is more consistent with asymmetric prudence that it is with the IASB’s proposed definition.

“My advice is to describe what you mean more precisely. Don’t use a word imprecisely. Don’t say something is something that it is not. And that’s what we’re doing right now.”

His comments came as the London-based accounting rule-maker considered a staff summary of comments on its October 2015 exposure draft.

The board announced its conceptual framework project in 2011.

In July 2013, a discussion paper followed.

The project of keen interest to many long-term investors in the UK arguing that accounting standards should emphasize conservatism and caution.

In particular, they want to see more timely recognition of losses and a more cautious approach to assets – especially where there is measurement uncertainty over the availability of an asset.

The IASB received 233 comment letters on its latest exposure draft.

Staff reported that constituents generally viewed the conceptual framework project as ‘high priority’.

In particular, they saw the exposure draft as “a significant improvement on both the existing conceptual framework and the proposals in the discussion paper.”

The project that updates, clarifies and fills gaps in the existing framework; rather than being a fundamental rework of the framework.

The early signs are that the board’s new deliberations in the coming months will focus on the tensions between prudence in the of “cautious prudence” or “prudence” as asymmetric prudence.

The IASB defined prudence in its exposure draft as caution when making judgments under conditions of uncertainty – but without exercising more caution when recognizing gains and assets than losses and liabilities.

A business would recognize losses sooner than it would recognize gains, under the competing asymmetric approach to prudence.

Nonetheless, a leading accounting academic and former IASB staffer slammed the proposals as being essentially meaningless.

A comment letter on 21 November from professor Richard Baker, Oxford University’s Said Business School wrote: “This approach is … fundamentally flawed. The reason is that it introduces a ‘concept’ into the framework that is not really a concept at all. At Best, this achieves nothing – at worst, it leads to confusion.”

He added: “The problem is that prudence is in substance defined in a way that adds nothing to the concept of neutrality. As defined, prudence essentially mean ‘makes sure to be neutral’.

“Given that the framework defines neutrality already, there is nothing to be gained from the introduction of an additional ‘concept’ that has no distinctive meaning.”

The UK Financial Reporting Council has also called on the IASB to bite the bullet and adopt asymmetric prudence.

The reintroduction to the Conceptual Framework of a specific reference to prudence is very welcome.

However, the treatment of it in the exposure draft – as support for the idea of neutrality – is wholly inadequate.

“The essence of prudence is the idea referred to in the Basis for Conclusions as ‘asymmetric prudence’ — a lower threshold for the recognition of liabilities and losses than for assets and gains — which is absent from the text of the draft Conceptual Framework itself.”

The IASB is expected to fix the future strategy for finalizing the conceptual framework project at its April Meeting.