The Wall Street Journal
By MICHAEL RAPOPORT And DAVID
ENRICH
In an unusual move,
international accounting rule makers said some European banks haven't taken
big-enough write-downs on the value of the distressed Greek government debt
they hold.
Some banks are using their own
models to value their Greek bonds and other distressed sovereign debt when
accounting rules dictate that they should be using market prices to determine
the securities' fair value, the International Accounting Standards Board said
in a letter this month to the European Union's chief securities regulator.
In some cases, using the
"mark to model" approach, as opposed to "mark to market,"
may have helped some banks to dodge potentially painful losses in recent
midyear financial reports.
Banks are applying the rules
on write-downs inconsistently, and that is "a matter of great concern to
us," IASB Chairman Hans Hoogervorst wrote in the letter to the European
Securities and Markets Authority. The IASB, which sets the accounting rules
used in Europe and much of the rest of the world, doesn't usually comment on
how its rules are applied, but the inconsistency prompted it to do so in this
case, Mr. Hoogervorst said.
In response to the letter, the
ESMA is reviewing whether there are differences in how companies treat their
sovereign debt and whether such differences are acceptable under accounting
rules, the regulator said in a statement. The general findings will be shared
with the IASB, the ESMA said.
The letter was dated Aug. 4.
The IASB didn't release it publicly until Tuesday, after the Financial Times
reported on the IASB's concerns.
The episode could add to
questions about the strength of European banks at a time when many big lenders
have been under pressure in the market. Shares of France's Société Générale SA
fell as much as 22% in a day this month amid doubts about big banks' capital
and access to dollar funding.
International Monetary Fund
chief Christine Lagarde called on Saturday for European countries to urgently
recapitalize their banks. Others, however, have pointed to last month's
"stress tests" as evidence that the Continent's banks aren't facing a
widespread capital shortfall.
"The only banks that need
to be recapitalized are those that didn't pass the European stress tests,"
Bank of France Governor Christian Noyer said in a television interview Tuesday.
"There are a few banks that need to be recapitalized rapidly."
The issue of banks'
inconsistent accounting drew attention when the banks announced second-quarter
earnings. Banks generally were transparent about the size of the discounts they
used and how they came up with those numbers, and they were explicit about the
fact that there was a split in the industry, with banks using different accounting
methods and arriving at varying loss estimates on similar bonds.
Mr. Hoogervorst didn't single
out any specific banks for criticism. But BNP Paribas SA is one bank that used
an internal model to try to estimate the Greek bonds' value, arguing that they
were so thinly traded that it was impossible to derive an accurate estimate of
their value based on observable trades. Mr. Hoogervorstsaid that just because
trading activity in a market has declined, that doesn't mean banks are free to
ignore market prices when valuing a security. Even when using their own models,
they are supposed to consider market prices as a factor.
"Market prices not
representative of fair value," France's BNP Paribas executives said in an
Aug. 2 investor slide presentation, citing "the illiquidity of the
bonds." BNP arrived at a 21% discount to the bonds' book value, prompting
the bank to set aside more than €500 million, or roughly $725 million, to cover
the increased likelihood of losses.
A BNP spokesman wasn't
available to comment.
By contrast, many other banks
did attempt to value the Greek bonds at the prices that they were changing
hands in the market—a method that pointed to the bonds being worth at most half
of their face value. Royal Bank of Scotland Group PLC, for example, calculated
a 50% loss rate on its £1.45 billion ($2.38 billion) of Greek government bonds,
and set aside £733 million to cover potential losses. The bank said it could
recoup some of those losses later this year, depending on the final outcome of
the Greek debt restructuring.
"Although the level of
trading activity in Greek government bonds has decreased, transactions are
still taking place," Mr. Hoogervorst said. The rules are "clear that
unless there is evidence that the prices in those transactions do not represent
fair value...the observed transactions prices should be used to measure fair
value."
It is "hard to
imagine" that there are buyers willing to buy the bonds at the prices
suggested by the valuation methods some banks are using, he said.
—William Launder, William
Horobin and Noemie Bisserbe contributed to this article.
Write to Michael Rapoport at
Michael.Rapoport@dowjones.com and David Enrich atdavid.enrich@wsj.com
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