This article originally appeared in the December 2012 issue of Smart Business Philadelphia magazine.

In May 2012, the Financial Accounting Foundation (FAF) of the Financial Accounting Standards Board (FASB) announced the formation of the Private Company Council (PCC). The PCC was created to work with the FASB to determine whether and when to modify U.S. generally accepted accounting principles (GAAP) for private companies. The PCC will replace the Private Company Financial Reporting Committee (PCFRC).

According to the FAF’s final report, Establishment of the Private Company Council, the PCC has two principal responsibilities. The first is to determine whether exceptions or modifications to existing nongovernmental GAAP are required to address the needs of users of private company financial statements and the second is to serve as the primary advisory body to the FASB on the appropriate treatment for private companies for items under active consideration on the FASB’s technical agenda.

Smart Business spoke with Laurie A. Murphy, director, risk management, at Kreischer Miller about these changes.

Could you give us a brief history of differential accounting standards?

The question as to whether and how to establish differential accounting standards for public versus private companies, which is referred to as Big GAAP versus Little GAAP, has been going on for decades. The movement abroad to address the needs of private companies has already taken place. The International Accounting Standards Board (IASB) issued GAAP requirements for small and medium-sized entities in July 2009. These standards are significantly smaller and less complex than the International Financial Reporting Standards (IFRS) or U.S. GAAP. The IASB recognized that small, privately held companies usually don’t need the complex reporting standards and disclosures of public companies. Under IFRS, small, privately held companies can utilize and choose reporting standards that make the most sense for their particular size.

In 2006, the FASB created the PCFRC to provide recommendations to the FASB on issues related to standard setting for private companies in the U.S. In 2009, the FAF undertook a nationwide ‘Listening Tour,’ and one of its results was the formation of the blue ribbon panel (BRP) on private company accounting by the FAF, the AICPA and the National Association of State Boards of Accountancy (NASBA). The BRP was established to address how accounting standards could best meet the needs of users of U.S. private company financial statements and was charged with providing recommendations on the future of standard setting for private companies to the FAF.

The BRP submitted its report to the FAF in January 2011, in which it included recommendations for how GAAP could best meet the needs of private company financial statement users. Among them was a recommendation for a new board, to be overseen by the FAF, which would focus on developing the exceptions and modifications to GAAP for private companies to better respond to the needs of financial statement users. Importantly, the BRP did not believe that the system of accounting setting had done a sufficient job of understanding the information that users of private company, as opposed to public company, financial statements consider useful and weighing the costs and benefits of GAAP for use by private companies.

Is the PCC the solution that the BRP expected?

The BRP recommended the establishment of a separate private company standards board that would work closely with the FASB but also would have final authority over exceptions and modifications. The BRP also recommended the creation of a differential framework to facilitate standard setters’ ability to make appropriate, justifiable exceptions and modifications. However, the authority to approve exceptions and modifications to GAAP was not granted to the PCC. While PCC is charged with determining whether exceptions or modifications to existing GAAP are required to address the needs of users of private company financial statements, approval by the FASB is required before those exceptions will be incorporated into U.S. GAAP. Since recommendations of the PCC must go through the FASB’s lengthy approval process, it may be a slow process to make changes that will benefit private companies. It is also unclear whether these changes, which will be incorporated into existing GAAP, will result in a differential standard.

What is the FRF for SMEs?

It appears that the AICPA was tired of waiting on the FASB or it lacked confidence that the FASB would accomplish its original charge of simplified standards for private companies. Therefore, in November 2012, the AICPA released an exposure draft on its proposed Financial Reporting Framework for Small-and-Medium-Sized Entities (FRF for SMEs). The FRF for SMEs, otherwise known as a special purpose framework, is intended to be an optional, simpler framework for the millions of small and medium-sized entities in the U.S. that are not required to prepare financial statements in accordance with U.S. GAAP. The FRF for SMEs is based on a simpler historical cost and accrual tax basis framework and, if adopted, would be a standardized alternative to GAAP if permitted by financial statement users. The FRF for SMEs is considered nonauthoritative and would be an optional method of financial reporting for internal use and for external use when external users have direct access to management. While this is not a replacement for differential standards, it may fill the gap for a subset of privately held companies.●