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entitled 'Financial Accounting Standards: Accounting for Stock Options 
and Other Share-Based Payments' which was released on July 08, 2004.

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Before the Subcommittee on Commerce, Trade, and Consumer Protection, 
House Committee on Energy and Commerce:

For Release on Delivery Expected at 1:30 p.m. EDT Thursday July 8, 

Financial Accounting Standards:

Accounting for Stock Options and Other Share-Based Payments:

Statement of David M. Walker: 
Comptroller General of the United States:


Dear Mr. Chairman and Members of the Subcommittee:

I appreciate the opportunity to discuss with the subcommittee GAO's 
perspective on the process for establishing accounting standards for 
private-sector entities and then, more specifically, the current 
proposals for accounting for stock options. We recognize that 
accounting for stock options is a complex and controversial issue on 
which reasonable people can and do disagree. As a result, in light of 
the Financial Accounting Standards Board's (FASB) current proposed 
standard for accounting for stock options and other share-based 
compensation, there has been a renewed interest for the Congress to 
possibly legislate accounting rules for stock options. On June 28, 
2004, we sent a letter to FASB commenting on its proposed standard and 
a letter discussing the accounting standard-setting process to the 
Senate Committee on Banking, Housing, and Urban Affairs.[Footnote 1]

FASB is a non-governmental organization empowered to establish 
financial accounting and reporting standards for private-sector 
entities. Although this function legally resides with the Securities 
and Exchange Commission (SEC) for public companies as part of its 
mandate to administer and enforce the provisions of the federal 
securities laws, the SEC has traditionally relied on FASB since 1973 to 
fulfill this function. The U.S. capital markets depend on a system of 
continuously improving financial information about the underlying 
economic activities of companies. This information is fostered and 
framed by independently established financial accounting and reporting 
standards, collectively referred to as generally accepted accounting 
principles (GAAP).

On March 31, 2004, FASB issued an exposure document on a proposed 
Statement, Share-Based Payment, an Amendment of FASB Statements No. 123 
and 95, which addresses the accounting for compensation to employees in 
the form of stock options and other forms of equity. The FASB's 
proposed Statement would generally eliminate the ability for public 
companies to account for share-based services using the intrinsic 
method (which generally results in no expense being recognized) and 
would require instead the use of a fair-value-based method, which would 
generally result in companies treating stock options granted to 
employees as an expense based on their fair value when 
granted.[Footnote 2] It is important to note that in 1995, when issuing 
the current standard that is in place, FASB clearly stated that the 
fair market value is the preferable method. The current standard also 
includes guidance to that effect and requires that if the fair market 
value method is not used, then disclosure must be made of pro forma net 
income and earnings per share presented as if the fair market value 
method had been used.

We support the concepts behind FASB's current proposed Statement 
requiring companies to use the fair market value method, which 
essentially results in companies recording stock options and other 
share-based arrangements as an expense. In our view, stock options and 
other forms of share-based payment have economic value and represent a 
form of compensation expense. Therefore, we believe that the economic 
substance of such transactions should be reflected as compensation 
expense in the calculation of a company's net income to accurately 
portray its financial results. The current standard, which permits 
companies to choose between the intrinsic and fair value methods, 
allows companies to select the impact on net income. It also creates a 
barrier to comparable financial information, both domestically and 
internationally, because the choice of methods used will result in 
differences in reported amounts across companies due to the different 
methods of accounting. We believe that a requirement to expense stock 
options and other share-based payment will provide additional 
transparency, clarity, and comparability in financial reporting.

We also support the four principal reasons FASB cited for issuing the 
new proposal: (1) addressing concerns of users and others that the use 
of the intrinsic value method results in financial statements that do 
not faithfully represent economic transactions and can distort the 
financial condition and operations of the issuer; (2) improving the 
comparability of reported financial information through the elimination 
of alternative accounting methods; (3) simplifying U.S. generally 
accepted accounting principles by requiring the use of a single method 
of accounting for share-based payment; and (4) enabling international 
convergence and greater international comparability in the accounting 
for share-based payment.

Notwithstanding our and others' views on the merits of various 
accounting methods for stock options, we believe that the principle of 
independence, both in fact and in appearance, is essential to the 
credibility of and confidence in any authoritative standard-setting 
processes. With respect to the role of FASB in this and other areas, we 
support its efforts, as the SEC's designated independent non-
governmental standard-setting body, to identify issues for 
consideration, prepare exposure documents, conduct outreach efforts and 
solicit comments on exposure documents, and consider the resulting 
comments in finalizing and issuing new accounting standards. FASB, in 
carrying out its standard-setting activities, has an established 
process in place to obtain and consider feedback from its constituent 
groups, including financial statement preparers, auditors, and users 
such as individual investors, institutional investors, lenders, 
creditors, professional analysts, and various other parties. These 
processes were established in order to balance the competing interests 
and demands of the various groups while providing standards that 
promote transparent, credible, and comparable financial information. 
This time-tested and proven deliberative process has served to 
strengthen financial reporting and ensure general acceptance of the 
nation's accounting standards. This process is especially important 
given the complexity and controversial nature of some accounting 
standards, including the accounting for stock options and other share-
based payments.

We believe it is critical that FASB complete its analysis of comments 
received on its exposure document on share-based payment and finalize 
its proposed Statement in accordance with its established independent 
standard-setting process. In enacting the Sarbanes-Oxley Act of 2002, 
the Congress recognized the importance of having an independent 
standard-setting process that facilitates accurate and effective 
financial reporting and protects investors. As a safeguard, the Act 
specified criteria for the SEC to use for determining whether a 
private-sector accounting standard setter's principles will be 
considered as generally accepted. The SEC determined that FASB met the 
statutory criteria established in the Sarbanes-Oxley Act of 2002. In 
our opinion, the FASB's independent standard-setting process, subject 
to SEC oversight, should be allowed to proceed in its consideration of 
accounting for stock options.

I would like to add that GAO is involved in setting government auditing 
standards and accounting standards for federal agencies. We have also 
implemented deliberative processes to obtain and consider the 
perspectives of affected parties on exposure drafts of proposed 
standards. Standard setting is, by its nature, an iterative process and 
the standard setter needs a high degree of independence to make 
decisions on what represents the best standard in the public interest.

Mr. Chairman, this concludes my statement. I would be pleased to answer 
any questions you or other members of the subcommittee may have at this 

For further information regarding this testimony, please contact 
Jeanette M. Franzel, Director, Financial Management and Assurance, at 
202-512-9471 or [Hyperlink,]. Michael C. Hrapsky also 
made key contributions to this testimony.



[1] U.S. General Accounting Office, Independent Standard-Setting 
Process for Establishing Accounting Standards for Private-Sector 
Entities, GAO-04-480R (Washington, D.C.: June 28, 2004). This letter 
contained as an enclosure our comment letter to FASB.

[2] The proposed standard would permit nonpublic companies to measure 
compensation costs based on the intrinsic method of accounting at each 
reporting date until options are exercised or otherwise settled.