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Summary. As the membership of the Financial Accounting Standards Board has shifted to include more people from the financial services industry, research suggests that fair value accounting has rapidly risen in popularity. In this piece, the authoroffers several possible motives for these executives’ preference for fair value: First, investment banks and asset managers are accustomed to using fair value in their day-to-day business operations. Second, GAAP profits defined on the basis of fair value rather than historical cost accelerate the recognition of gains, particularly when asset prices are rising. Finally, the use of fair value to determine impairment of goodwill from M&A activity may impose less drag on earnings, potentially boosting M&A activity — creating a major revenue source for investment banks. While it’s impossible to be certain about the reasons behindthe increase in financial services representation, it’s clear that an increase has taken place — and business leaders should prepare accordingly.
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For the past two decades, fair value accounting—the practice of measuring assets and liabilities at estimates of their current value—has been on the ascent. This marks a major departure from the centuries-old tradition of keeping books at historical cost. It also has implications across the world of business, because the accounting basis—whether fair value or historical cost—affects investment choices and management decisions, with consequences for aggregate economic activity.
A version of this article appeared in the March 2013 issue of Harvard Business Review.
