Year End Technical
Accounting Update
November 2003
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Year End Technical Accounting Update
Recent FASB Pronouncements
ƒ FAS 146 - Accounting for Costs Associated with Exit or Disposal Activities
ƒ FAS 147 - Acquisitions of Certain Financial Institutions
ƒ FAS 148 - Accounting for Stock-Based Compensation -- Transition and Disclosure
-- an amendment of FAS 123
ƒ FAS 149 - Amendment of Statement 133 on Derivative Instruments and Hedging
Activities
ƒ FAS 150 - Accounting For Certain Financial Instruments with Characteristics of
Both Liabilities and Equity
ƒ FIN 45 - Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others
ƒ FIN 46 - Consolidation of Variable Interest Entities -- an interpretation of ARB No.
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Year End Technical Accounting Update
EITF Update
Pending FASB Projects
ƒ Business Combinations: Purchase Method Procedures
ƒ Equity-Based Compensation
ƒ Fair Value Measurement
ƒ Disclosures about Pension Plans
ƒ Financial Performance Reporting by Business Enterprises
ƒ Liabilities and Equity
ƒ Revenue Recognition
SEC Hot Topics
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2003 FASB Pronouncements
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Accounting for Costs Associated
with Exit or Disposal Activities
FAS 146
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Overview
FAS 146 – Restructuring Activities
ƒ The scope of FAS 146 applies to costs associated with an exit or
disposal activity of a business enterprise or not-for-profit
organization
ƒ FAS 146 does NOT apply to
à Termination benefits that are provided to employees under the terms
of an ongoing benefit arrangement (or enhancements to an ongoing
benefit arrangement) or an individual deferred compensation
contract covered by other accounting pronouncements (Clarified in
FSP 146-1)
à Voluntary termination benefits - FASB Statement No. 88,
“Employers’ Accounting for Settlements and Curtailments of Defined
Benefit Plans and for Termination Benefits”
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Initial Recognition
FAS 146 – Restructuring Activities
ƒ FAS 146 requires a liability associated with an exit or disposal activity to be
recognized only when an event has occurred that creates a present
obligation to transfer assets or provide services in the future that meets the
definition of a liability set forth in CON 6
à Commitment to a plan (which was sufficient for liability recognition under EITF 943), in and of itself, does not create a present obligation to others
ƒ In order for an entity to recognize a liability for costs associated with an exit
or disposal activity, the following must be present
à Have a present duty or responsibility to one or more entities that entails settlement
by probable future transfer or the use of assets at a specified date, on occurrence
of a specified event, or on demand
à Have little or no discretion in avoiding a future transfer of assets or providing
services
à Determine that an obligating event has already happened
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Subsequent Measurement
FAS 146 – Restructuring Activities
ƒ FAS 146 requires that the liability should be adjusted for changes
resulting from revisions to either the timing or the amount of
estimated cash flows
à Using the credit-adjusted risk free rate that was used to initially measure
the liability
à Adjustments should be recognized in the period of change and reported
in the same line item(s) as the original costs were classified at initial
recognition
ƒ FAS 146 also requires that these liabilities be adjusted due to the
passage of time as an increase in the liability and as an expense
à Interest on the liability would be accreted after that date using the
original effective rate, and recognized as an operating expense in the
income statement
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One-Time Termination Benefits
FAS 146 – Restructuring Activities
ƒ Includes the same criteria as in EITF 94-3 for determining the
communication date (and the existence) of the one-time termination
benefits
ƒ One-time termination benefits accounted for under FAS 146 are
benefits that are established by a termination plan for a specified
termination event or a specified future period
à Absent evidence to the contrary, an ongoing benefit arrangement is
presumed to exist if an entity has a past practice of providing similar
termination benefits
ƒ The recognition and measurement of that liability is dependent upon
whether the employee is required to provide future services
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One-Time Termination Benefits
FAS 146 – Restructuring Activities
ƒ If employees are not required to render future services (after the
minimum retention period) in order to receive the one-time
termination benefits, must recognize and measure the liability for
such benefits at fair value at the communication date
ƒ If employees are required to render future services (after the
minimum retention period) in order to receive the one-time
termination benefits, the liability (expense) shall be measured
initially as of the communication date based on the fair value of the
liability as of the termination date and that liability must then be
recognized ratably over the future service period
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Lease and Other Contract Termination Costs
FAS 146 – Restructuring Activities
ƒ Applies to costs to terminate an operating lease or other contract,
that existed prior to the entity’s commitment to a plan of disposal
ƒ Circumstances in which there is a termination of an operating lease
not involving a restructuring activity are also to be accounted for
pursuant to FAS 146
ƒ Under FAS 146, contract termination costs that represent
à A cost to terminate the contract before the end of the term should be
recognized and measured at fair value when the entity terminates the
contract in accordance with its terms
™ Early termination payment penalty
à Other contract termination costs should be recognized and measured at
fair value when the entity ceases using the rights conveyed by the
contract in operations
™ Ongoing lease costs
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Lease and Other Contract Termination Costs
ƒ When the contract is an operating lease that is not terminated
à A liability based on the remaining lease rental should be measured and
recognized at fair value when the entity’s cease using the rights under
contract; and,
à Reduced by any estimated sublease rentals (but not reduced to an
amount less than zero), regardless as to whether the entity intends to
enter into a sublease
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Other Associated Costs
FAS 146 – Restructuring Activities
ƒ Not associated with, and will not be incurred to generate revenues
following an entity's commitment to a plan, and
ƒ Incremental to other costs incurred by the entity, and will be incurred
as a direct result of that plan
ƒ A liability for such costs should not be recognized upon a
commitment to an exit or disposal plan. Rather, such costs should
be recognized when incurred and reasonably estimable
ƒ Future operating losses do not qualify for recognition as liabilities
upon an entity’s commitment to a plan of disposal
à Recognized in the periods in which they are incurred
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Effective Date & Disclosures
FAS 146 – Restructuring Activities
ƒ Effective for exit or disposal activities initiated after December 31, 2002
ƒ Ensure SAB 100 disclosures for one-time termination benefits or other
exit costs covered under FAS 146 are made in addition to those
required under FAS 146
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Acquisitions of Certain
Financial Institutions
FAS 147
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Overview
FAS 147 – Acquisition of Financial Institutions
ƒ Removes acquisitions of financial institutions (except for transactions
between mutual enterprises) from the scope of both FAS 72 and
Interpretation 9 and requires that those transactions be accounted for in
accordance with FAS 141 and FAS 142
ƒ No longer recognize and amortize any excess of the fair value of liabilities
assumed over the fair value of tangible and identifiable intangible assets
acquired as an unidentifiable intangible asset
ƒ Amends FAS 144 to include in its scope long-term customer-relationship
intangible assets of financial institutions
ƒ The carrying amount of an unidentifiable intangible asset shall continue to
be amortized in accordance with FAS 72, unless the transaction in which
that asset arose was a business combination in which case the carrying
amount of that asset shall be reclassified to goodwill
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Effective Dates
FAS 147 – Acquisition of Financial Institutions
ƒ Effective dates:
à application of the purchase method of accounting -- effective for
acquisitions on or after October 1, 2002
à accounting for long-term customer-relationship intangible assets -effective on October 1, 2002
à transition provisions for previously recognized unidentifiable intangible
assets -- effective on October 1, 2002
à retroactive restatement is required for the nonamortization of the
unidentifiable intangible asset to the beginning of the fiscal year in which
FAS 142 was applied
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Stock–Based
Compensation
FAS 148
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Overview
FAS 148 – Stock-Based Compensation
ƒ Provides transition alternatives (to minimize the “ramp up” effect) for
companies that elect to adopt the provisions of FAS 123 for fair
value recognition of stock options
ƒ Provides new disclosure requirements for annual and interim
reporting, regardless of whether the provisions of FAS 123 have
been adopted
ƒ Effective for annual disclosures for fiscal years ending after
December 15, 2002 and interim periods beginning after December
15, 2002
(NOTE: The transition alternatives are only available for entities who
adopt for fiscal years ending after December 15, 2002.)
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Transition Alternatives
FAS 148 – Stock-Based Compensation
Prospective
Method
Only method
originally
allowed under
FAS 123.
Apply the recognition provisions to all employee awards granted, modified, or
settled after the beginning of the fiscal year in which the recognition
provisions are first applied.
The prospective method may not be applied for adoptions of the
accounting provisions of FAS 123 for fiscal years beginning after
December 15, 2003.
Modified
Prospective
Method
Recognize stock-based employee compensation cost from the beginning of
the fiscal year in which the recognition provisions are first applied as if the
fair value based accounting method had been used to account for all
employee awards granted, modified, or settled in fiscal years beginning after
December 15, 1994.
Retroactive
Restatement
Method
Restate all periods presented to reflect stock-based employee compensation
cost under the fair value based accounting method for all employee awards
granted, modified, or settled in fiscal years beginning after December 15,
1994. Restatement of periods prior to those presented is permitted but not
required.
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Amendment of FAS 133 Derivatives
FAS 149
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Overview
FAS 149 - Derivatives
Generally, FAS 149 improves financial reporting by:
ƒ requiring that contracts with comparable characteristics be
accounted for similarly and
ƒ clarifying when a derivative contains a financing component that
warrants special reporting in the statement of cash flows.
Is effective:
ƒ for contracts entered into or modified after June 30, 2003, with
certain exceptions
ƒ for hedging relationships designated after June 30. The guidance is
to be applied prospectively.
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Overview
FAS 149 - Derivatives
Amends and clarifies:
ƒ the accounting guidance on derivative instruments (including certain
derivative instruments embedded in other contracts) and
ƒ hedging activities that fall within the scope of FAS 133.
Amends FAS 133 to reflect decisions made:
ƒ as part of the DIG process that effectively required amendments to
FAS 133
ƒ in connection with other projects dealing with financial instruments
ƒ regarding implementation issues related to the application of the
definition of a derivative.
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Liabilities & Equity
FAS 150
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Overview
FAS 150 – Liabilities & Equity
ƒ Improves the accounting for certain financial instruments that, under
previous guidance, could be accounted for as equity
ƒ Requires that those instruments be classified as liabilities (which
used to be classified in the “mezzanine” level of the balance sheet)
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Impacted Financial Instruments
FAS 150 – Liabilities & Equity
FAS 150 affects the issuer’s accounting for three types of
freestanding financial instruments:
#1 - Mandatorily redeemable shares that are required to be redeemed
at a specified or determinable date or upon an event certain to occur.
A financial instrument is deemed mandatorily redeemable if:
• it embodies an obligation outside the control of the issuer and the holder to
redeem the instrument by transferring cash or other assets, and
• the obligation is required to be redeemed at a specified or determinable date or
upon an event certain to occur (i.e. the death or retirement of a holder)
NOTE: Redeemable securities that will only be redeemed if events occur
that are not certain, such as, for example, an IPO, are out of the scope of
FAS 150 and therefore not required to be classified as liabilities.
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Impacted Financial Instruments
FAS 150 – Liabilities & Equity
FAS 150 affects the issuer’s accounting for three types of
freestanding financial instruments:
#2 - Put options and forward purchase contracts - which involves
financial instruments embodying an obligation that the issuer must or
could choose to settle by issuing a variable number of its shares or
other equity instruments based solely on something other than the
issuer’s own equity shares.
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Impacted Financial Instruments
FAS 150 – Liabilities & Equity
FAS 150 affects the issuer’s accounting for three types of
freestanding financial instruments:
#3 - Certain obligations that can be settled with shares, the monetary
value of which is:
• fixed at inception, tied solely or predominantly to a variable such as a
market index, or
• varies inversely with the value of the issuers’ shares (FAS 150 does not
apply to features embedded in a financial instrument that is not a derivative
in its entirety.)
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Other Considerations
FAS 150 – Liabilities & Equity
ƒ “Mezzanine” section not completely eliminated
à Instruments that do not fall within the scope of FAS 150 may still need to be
included in the mezzanine in accordance with SEC rule ASR 268 and EITF Topic
D-98.
ƒ “Freestanding” Instruments
à Defined as an instrument that is legally detachable and separately exercisable
ƒ Private companies
à Some private companies have only one class of shares and all of the shares are
redeemable upon the holder’s retirement or death. The balance sheets of such
companies will show no equity, just assets and liabilities.
ƒ Gross vs. Net settlement
à In a gross physical settlement, the company receives the shares and pays out
either cash or other asset. In a net cash settlement, the company will pay out the
cash for the holder’s gain on the contract. A net share settlement would be
covered in the third class of instruments that are within the scope of FAS 150.
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Effective Dates
FAS 150 – Liabilities & Equity
ƒ Effective date for Public Companies:
à Generally effective for all financial instruments entered into or modified after May
31, 2003, and otherwise is effective at the beginning of the first interim period
beginning after June 15, 2003
ƒ FSP 150-3 defers the effective date of FAS 150 for certain mandatorily
redeemable noncontrolling interests (of all entities, public and nonpublic) as
follows:
à For mandatorily redeemable noncontrolling interests that would not have to be
classified as liabilities by the subsidiary, under the "only upon liquidation"
exception par. 9 of FAS 150, but would be classified as liabilities by the parent in
consolidated financial statements, the classification and measurement provisions
of FAS 150 are deferred indefinitely pending further Board action.
à For other mandatorily redeemable noncontrolling interests that were issued before
November 5, 2003, the measurement provisions of FAS 150 are deferred
indefinitely, both for the parent in consolidated financial statements and for the
subsidiary that issued the instruments that result in the mandatorily redeemable
noncontrolling interest, pending further Board action.
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Effective Dates
FAS 150 – Liabilities & Equity
ƒ For private companies, FSP 150-3 was issued deferring the
effective dates, as follows:
à For instruments that are mandatorily redeemable on fixed dates for
amounts that either are fixed or are determined by reference to an
interest rate index, currency index, or another external index, the
classification, measurement, and disclosure provisions of FAS 150 shall
be effective for fiscal periods beginning after December 15, 2004
à For all other financial instruments that are mandatorily redeemable, the
classification, measurement, and disclosure provisions of FAS 150 are
deferred indefinitely pending further Board action.
à See prior slide for discussion of mandatorily redeemable noncontrolling
interests
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Transition
FAS 150 – Liabilities & Equity
FSP 150-3 requires:
ƒ For mandatorily redeemable financial instruments that were created before
the effective date designated by FAS 150, transition shall be achieved by
reporting the cumulative effect of a change in an accounting principle by
initially measuring the financial instruments at fair value.
ƒ Early adoption of the provisions of FAS 150 for instruments within the scope
of the indefinite deferrals established by the FSP is precluded during the
deferral period.
ƒ Entities that already have adopted FAS 150 for instruments within the scope
of that indefinite deferral shall reverse the effects of that adoption, which
may be reported either by recognizing the cumulative effect of the reversal
or by restating financial statements for periods presented subsequent to the
original adoption of FAS 150.
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FASB Staff Positions
FAS 150 – Liabilities & Equity
ƒ FSP FAS 150-1, Issuer's Accounting for Freestanding Financial Instruments
Composed of More Than One Option or Forward Contract Embodying
Obligations Under FAS 150
ƒ FSP FAS 150-2, Accounting for Mandatorily Redeemable Shares Requiring
Redemption by Payment of an Amount That Differs from the Book Value of
Those Shares Under FAS 150
ƒ FSP FAS 150-3, Effective Date, Disclosures, and Transition for Mandatorily
Redeemable Financial Instruments of Certain Nonpublic Entities and Certain
Mandatorily Redeemable Noncontrolling Interests under FAS 150
ƒ FSP FAS 150-4, Issuers' Accounting for Employee Stock Ownership Plans
under FAS 150
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Guarantees
FIN 45
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Overview
FIN 45 - Guarantees
ƒ elaborates on the disclosures to be made by a guarantor in its interim and
annual financial statements about its obligations under certain guarantees
that it has issued
ƒ clarifies that a guarantor is required to recognize, at the inception of a
guarantee, a liability for the fair value of the obligation undertaken in issuing
the guarantee
ƒ does NOT prescribe a specific approach for subsequently measuring the
guarantor’s recognized liability over the term of the related guarantee
ƒ requires the guarantor to recognize a liability for the FV of the obligation
upon issuance of a guarantee
ƒ includes special disclosures for product warranties
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Overview
FIN 45 - Guarantees
Guarantee contracts with any of the four characteristics fall under the scope of
FIN 45:
Characteristic 1: Contracts that contingently require the guarantor to make payments
to the guaranteed party based on changes in an underlying that is an asset, a liability
or an equity security of the guaranteed party
Characteristic 2: Contracts that contingently require the guarantor to make payments
to the guaranteed party based on another entity’s failure to perform under an
obligating agreement (performance guarantees)
Characteristic 3: Indemnification agreements that contingently require the
indemnifying party (guarantor) to make payments to the indemnified party (guaranteed
party) based on changes in an underlying that is related to an asset, a liability, or an
equity security of the indemnified party
Characteristic 4: Indirect guarantees of the indebtedness of others, as that phrase was
used in FIN 34
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Indemnifications
FIN 45 - Guarantees
Types of Indemnifications covered by FIN 45:
ƒ Prior owner indemnifies buyer for undiscovered liabilities or
environmental obligations in a sale of a business
ƒ Indemnification for adverse judgments in a lawsuit related to past
performance
ƒ Indemnifications for changes in tax laws
ƒ Hold harmless agreements for directors and officers
ƒ Servicer and outsourcing arrangement indemnifications
Consider:
ƒ Does the guarantee/indemnification require contingent payment if the
adverse consequence occurs?
ƒ Does the guarantee relate to future performance of the guarantor?
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Scope Exceptions
FIN 45 - Guarantees
ƒ Complete exemption
à Guarantees of an entity’s own PAST performance are included, and
guarantees of FUTURE performance are not included
à However, guarantees of another entity’s future performance would
be included if they met one of the four characteristics
à Several others including sales rebates, insurance, lease related
guarantees
ƒ Certain guarantees exempt from recognition and measurement but
disclosure required
à Derivatives under FAS 133
à Product warranties
à Contingent consideration in a business combination
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Initial Recognition and Measurement
FIN 45 - Guarantees
ƒ Recognize a liability equal to the fair value of the guarantee upon
issuance.
à Arm’s length transaction with an unrelated party – a liability is
recognized at the inception of the guarantee = to the premium
received or receivable by the guarantor
à Guarantee issued as part of a multiple element transaction with an
unrelated party – liability recognized is the estimate of the
guarantee’s FV
à Consider the premium that would be required by the guarantor to
issue the same guarantee in a stand alone arm’s-length transaction
à Use expected present value measurement techniques (i.e. Con 7)
à We do not expect that many guarantees to have values based on
observable transactions for identical or similar guarantee
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Subsequent Measurement
FIN 45 - Guarantees
ƒ Not prescribed by FIN 45
ƒ In subsequent periods the initial liability would typically be reduced (by a
credit to earnings) as the guarantor is released from risk.
ƒ Depending on the nature of the guarantee, the guarantor’s release from
risk has typically been recognized:
à Only upon either the expiration or settlement of the guarantee
à By a systematic and rational amortization method
à As the FV of the guarantee changes on a mark-to-market basis.
ƒ We believe that the subsequent accounting is an accounting policy
decision formally made by entities, should be consistently applied, and
should be disclosed.
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Disclosures for Guarantees
FIN 45 - Guarantees
ƒ FIN 45 requires certain disclosures about each guarantee or group of similar
guarantees
ƒ Required even if the likelihood of the guarantor’s having to make payments is
remote
ƒ Required in year end AND interim financial statements
ƒ Comparative disclosures for prior years are not required
ƒ Disclosures should include:
à Nature of the guarantee – term of guarantee, how the guarantee arose, the
events/ circumstances where the guarantor would have to perform
à Maximum potential amount of future payments (undiscounted)
à Current carrying amount of the liability
à Nature of any recourse provisions
à Product warranty disclosures
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Proposed FSP
FIN 45 - Guarantees
ƒ FSP, Accounting for Intellectual Property Infringement
Indemnifications under FIN 45
à Software intellectual property indemnifications are related to the
functionality of the software
à Excluded from initial measurement and recognition provisions of FIN
45
ƒ Proposed FSP FIN 45-a, Whether FIN 45 Provides Support for
Subsequently Accounting for a Guarantor's Liability at Fair Value
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Variable Interest Entities
FIN 46
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Overview
FIN 46 – Variable Interest Entities
ƒ Issuance of FIN 46 creates a bipolar consolidation framework:
(i) Traditional model - based upon concept of unilateral voting control, and
(ii) Variable interest model - based upon analysis of risks and rewards and
exposure to variability in returns of entity
ƒ Project originally intended to deal only with SPEs; however, scope was
broadened and now includes all legal entities
ƒ Rationale: Application of majority voting interest requirement to certain
types of entities may not identify the party with the controlling financial
interest.
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GAAP Consolidation Framework – Hereafter
FIN 46 – Variable Interest Entities
Consolidation
Question?
VIE?
Yes
Prim ary
Beneficiary?
Yes
Consolidate
No
Traditional
Control
M odel?
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New Consolidation Framework
FIN 46 – Variable Interest Entities
Variable Interest Model
ƒ Applies to legal entities that are considered VIEs
(limited scope exceptions, e.g., QSPEs, but not private
equity funds)
ƒ Consolidation required if an enterprise will absorb the
majority of expected losses, receive a majority of
expected residual returns, or both
ƒ Decision-making ability is not a variable interest, but is
an indicator that the party may be the primary
beneficiary
Traditional “Voting Interest” Model
• Consolidation is required where there is a
controlling financial interest established
• Unilateral control
• Decision-making authority that permits control
over
à Ongoing, major or central operations of an entity
à Selection, hiring and firing of management
ƒ What comes first, FIN 46 or Existing GAAP?
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First Steps
FIN 46 – Variable Interest Entities
First step in all consolidation decisions:
Determine if FIN 46 applies before using other consolidation guidance,
such as:
‰
ARB 51 - Consolidated Financial Statements
‰
FAS 94 - Consolidation of All Majority-Owned Subsidiaries
‰
EITF 96-16 - Investor’s Accounting for an Investee When the Investor Has a
Majority of the Voting Interest But the Minority Shareholder or Shareholders
Have Certain Approval or Veto Rights
‰
SoP 78-9 - Accounting for Investments in Real Estate Ventures
‰
EITF 97-2 - Application of FASB Statement No. 94 and APB Opinion No. 16
to Physician Practice Management Entities and Certain Other Entities with
Contractual Management Arrangements
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What distinguishes a Variable Interest Entity
from a Voting Interest Entity?
ƒ Distinction is based on the nature, amount, and characteristics of the
equity investment. An entity may be considered a VIE if:
à The equity investment in the entity is insufficient to finance the
operations of that entity without additional subordinated financial support
from other parties;
à The equity investors lack decision-making rights;
à Other parties protect the equity investors from expected losses; or
à Parties other than the equity holders hold the right to receive the entity’s
expected residual returns, or the equity investors’ rights to expected
residual returns are capped;
à An equity investor holds voting rights that are disproportionately low to its
economics and substantially all of the entity’s activities involve or are
conducted on behalf of that investor.
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Common Myths
FIN 46 – Variable Interest Entities
Myth
Reality
Voting control is still the primary determining
factor in consolidation
While voting control is still an important
consideration, other considerations (e.g.
absorption majority of expected losses or
residual returns) need to be considered
The consolidation rules apply only to special
purpose entities
The new rules can apply to normal operating
companies as well as special purpose entities
Consolidation does not apply to investors who
do not own common equity
Any contract that can share in the majority of the
expected losses or returns of an investee may
cause consolidation by the holder
To avoid consolidation, all you need is a 10%
third party equity investor
While third party equity investments below 10%
must be supported, additional equity will be
needed to cover “expected losses” that may
occur
This will not impact preexisting deals or those
currently in the pipeline
All contemplated and preexisting transactions
are subject to the new rules
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Potentially Impacted Transactions
FIN 46 – Variable Interest Entities
• Minority investments with
disproportionate rights
• R&D funding arrangements
• Synthetic leases
• Sale-leasebacks
ƒ Joint ventures
ƒ Real estate partnerships
ƒ Vendor financing arrangements
ƒ Commercial paper conduits
• Build-to-suit leases
ƒ Investments in development stage
companies
• Seller financed carve-outs
ƒ Guarantees of third party debt
• Corporate sponsored VC funds
ƒ Tolling arrangements
• Affordable housing partnerships
ƒ Franchises
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FASB Staff Positions
FIN 46 – Variable Interest Entities
ƒ Applicability of FIN 46 to entities subject to the AICPA Audit and
Accounting Guide, Health Care Organizations.
ƒ Application of paragraph 5 of FIN 46 When Variable Interests in
Specified Assets of a Variable Interest Entity are not considered
interests in the entity under paragraph 12 of FIN 46
ƒ Calculation of Expected Losses Under FIN 46
ƒ Reporting Variable Interests in Specified Assets of Variable Interest
Entities as Separate Variable Interest Entities under Paragraph 13 of
FIN 46
ƒ Transition Requirements for Initial Application of FIN 46
ƒ Effective Date of FASB Interpretation No. 46, Consolidation of Variable
Interest Entities
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Proposed FASB Staff Positions
FIN 46 – Variable Interest Entities
ƒ Proposed FSP FIN 46-a, Effective Date of FIN 46, Consolidation of
Variable Interest Entities, for Nonregistered Investment Companies
ƒ Proposed FSP FIN 46-b, Effective Date of FIN 46, Consolidation of
Variable Interest Entities, for Certain Decision Makers
ƒ Proposed FSP FIN 46-c, Impact of Kick-Out Rights Associated with the
Decision Maker on the Computation of Expected Residual Returns
under Paragraph 8(c) of FIN 46
ƒ Proposed FSP FIN 46-d, Treatment of Fees Paid to Decision Makers
and Guarantors as Described in Paragraph 8 in Determining Expected
Losses and Expected Residual Returns of a Variable Interest Entity
under FIN 46
ƒ Proposed FSP FIN 46-e, Effective Date of FIN 46, Consolidation of
Variable Interest Entities, for Certain Interests Held by a Public Entity
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Effective Dates
FIN 46 – Variable Interest Entities
Entities created after January 31, 2003:
• Effective immediately for both public and private enterprises
Entities created before February 1, 2003:
• Public entities:
End of the first interim or annual period ending after December 15, 2003
• Private enterprises:
End of the first interim or annual period ending after December 15, 2004
Non registered Investment Companies (Regulation S-X)
• Deferred for investment companies currently accounting for their
investments in accordance with the AICPA Audit and Accounting Guide,
Audits of Investment Companies
Additional FSPs are pending which may impact effective dates.
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2003 EITF CONSENSUSES
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EITF Update Topics
ƒ Issue 00-21
Accounting for Multiple Element Arrangements
ƒ Issue 01-08
Determining Whether an Arrangement Contains a Lease
Accounting for Changes That Result in a Transferor Regaining
ƒ Issue 02-09
Control of Financial Assets Sold
Accounting by a Reseller for Cash Consideration Received
ƒ Issue 02-16
from a Vendor
Accounting for Subsequent Investments in an Investee after
ƒ Issue 02-18
Suspension of Equity Method Loss Recognition
Accounting for Defined Benefit Plans Established Under the
ƒ Issue 03-02
Japanese Law
ƒ Issue 03-04
Accounting for Cash Balance Pension Plans
Accounting for Claims-Made Insurance and Retroactive
ƒ Issue 03-08
Insurance Contracts by the Insured Entity / Issue 03-03, Applicability of EITF
Abstracts, Topic No. D-79
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Overview
EITF 00-21 – Multiple Element Arrangements
Scope:
à The standard addresses how to determine whether
arrangements involving multiple deliverables contains more
than one unit of accounting
Guiding Principles:
à Revenue arrangements with multiple deliverables should be
divided into separate units of accounting
à Consideration should be allocated among the separate units
based on their relative fair values (with exceptions)
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Units of Accounting & Measurement
EITF 00-21 – Multiple Element Arrangements
In an arrangement with multiple deliverables, the delivered items are
considered separate units of accounting if:
à Delivered items have standalone value (no observable market
required)
à Objective and reliable evidence of fair value of the undelivered items
à If right of return exists – delivery or performance of the undelivered
items is probable and in control of the vendor
Fair value evidence consist of entity specific or vendor specific objective
evidence (VSOE) of fair value. VSOE fair value is:
à The price charged for a deliverable when it is sold separately or
à For a deliverable not yet being sold separately, the price established
by management having the relevant authority
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Disclosures & Effective Date
EITF 00-21 - Multiple Element Arrangements
A vendor should disclose:
à Its accounting policy for recognition of revenue from multipledeliverable arrangements
à The description and nature of such arrangements, including
performance, cancellation, termination or refund-type provisions.
EITF 00-21 is effective:
à For revenue arrangements entered into in fiscal periods beginning
after June 15, 2003
à Alternatively, entities can elect to report a cumulative effect
adjustment (if elected disclosure must be made of impact on prior
periods)
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Overview
EITF 01-8 – Lease Arrangements
ƒ Affects arrangements that involve the use of PP&E, which now
must be analyzed to determine if they contain an embedded
lease
ƒ If the arrangement contains a lease, it must be unbundled and
accounted for under FAS 13.
ƒ Examples include:
à Product supply arrangements
à Service arrangements using dedicated PP&E
à IT outsourcing arrangements
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Criteria to Consider
EITF 01-8 - Lease Arrangements
ƒ Arrangement contains a lease if it depends on the use of specific
items of PP&E and meets any of the following criteria:
à The purchaser has the ability to determine who operates the PP&E or
how it is to be operated
à The purchaser has the ability or right to control physical access to the
PP&E
à It is remote that there will be other substantive purchasers of the output
of the specified PP&E during the term and the pricing of the arrangement
is not
™ contractually fixed per unit of output or
™ equal to current market price per unit at the time of delivery
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Effective Date & Transition
EITF 01-8 – Lease Arrangements
ƒ EITF 01-8 effective for transactions in the first reporting period after
May 28, 2003
ƒ Existing arrangements are grandfathered, but such grandfathering is
lost upon any modification to the prior arrangement (whether formal or
informal, significant or de minimus)
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Overview
EITF 02-09 – Regaining Control of Financial Assets
Consensus:
When a transferor regains control of assets that were previously
accounted for as sold (under par. 55 of SFAS 140), generally,
no gain or loss should be recognized in earnings with respect to
any beneficial interest retained by the transferor.
Transition
The consensus should be applied on a prospective basis.
NOTE: Further discussion is expected on the remaining issues
outstanding in this EITF.
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Overview
EITF 02-16 - Vendor Consideration
ƒ Addresses the accounting for cash consideration received from a
vendor
ƒ Presumption is that any cash received from a vendor should be a
reduction to the customer’s cost of sales unless:
à Payment for selling an asset
à Payment for providing a service
à Reimbursement of expenses
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Overview
EITF 02-16 - Vendor Consideration
For rebates and discounts that are based upon the
achievement of specific targets:
à Recognize as targets achieved, if customer cannot
reasonably estimate
à If reasonably estimable, reduce cost of sales with a
systematic allocation using the pattern of underlying
transactions
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Overview
EITF 02-18 - Equity Method Investment Loss
Recognition
ƒ Addresses the accounting for subsequent investments in an
investee after appropriate suspension of equity method loss
recognition when the interest is not increased from significant
influence to control (which is addressed in SEC Topic D-84).
ƒ Consensus Reached:
à If the additional investment represents, in substance, the funding of prior
losses, the investor should recognize previously suspended losses.
à When it is appropriate to recognize prior losses, such amounts would be
limited to the amount of the additional investment determined to
represent the funding of prior losses.
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Overview
EITF 02-18 - Equity Method Investment Loss Recognition
Factors to be considered when making assessment include:
à Whether the investment is acquired from a third party or directly from
the investee
à Whether the fair value of the consideration received is equal to the
consideration paid
à Whether the investment results in an increased ownership
percentage in the investee
à The seniority of the investment relative to existing equity of the
investee
Effective date: The guidance should be applied to additional investments
in equity-method investments made after February 5, 2003 and previously
suspended cumulative losses existing at the time of that investment.
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EITF 03-02 – Defined Benefit Plans Established
under Japanese Law
This EITF addresses how companies should account for the
separation and transfer of the substitutional portion of their Employees’
Pension Fund (EPF) to the Japanese government.
Background:
ƒ EPF plans are defined benefit plans established under the Japanese
Welfare Pension Insurance Law.)
ƒ EPF plans are composed of a substitutional portion based on a
government-defined arrangement and a corporate portion based on
a contributory defined benefit pension arrangement.
ƒ Recent changes in law have led to the desire of companies to
transfer the substitutional portion of their plan assets and the related
obligations to the government.
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EITF 03-02 – Defined Benefit Plans Established
under Japanese Law
Consensus Reached:
ƒ Employers should account for the entire separation process as a
single settlement event upon completion of the transfer.
ƒ No negative plan amendment would be viewed to have occurred.
ƒ The gain from the government subsidy (difference between the fair
value of the obligation settled and the assets transferred) would be
recognized as a gain at settlement.
Effective Date:
ƒ Apply retroactively to April 1, 2002, the earliest date on which the
separation process could have begun.
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Overview
EITF 03-04 – Cash Balance Pension Plans
Background:
ƒ Significant move from traditional defined benefit plans to allow for employee
election of investments
ƒ For purposes of this EITF, a cash balance plan has the following
characteristics:
à A defined principal-crediting rate as a percentage of salary
à A defined, non-contingent interest-crediting rate that entitles participants to future
interest credits at a stated, fixed rate until retirement.
Consensus Reached:
ƒ Cash balance plans are defined benefit plans for purposes of applying FAS
87.
ƒ The use of a projected unit credit method is not appropriate for measuring
the benefit obligation and annual cost of benefits earned under FAS 87. The
appropriate cost attribution approach is the traditional unit credit method.
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Transition & Effective Date
EITF 03-04 – Cash Balance Pension Plans
ƒ If an enterprise had been accounting for the cash balance pension
plan as a defined contribution plan, the effect of applying the
consensuses should be reported as the effect of adopting a new
accounting principle as of the beginning of the year containing the
next reporting period beginning after May 28, 2003.
ƒ If an enterprise had been accounting for a cash balance pension
plan as a defined benefit plan, the effect of remeasuring the pension
obligation should be calculated as of the plan's next measurement
date after May 28, 2003. Any difference in the measurement of the
obligation as a result of applying the consensus should be reported
as a component of actuarial gains and losses under FAS 87.
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Overview
EITF 03-03/EITF 03-08 - Claims-Made Insurance
ƒ Under claims-made insurance policies, an entity is insured for any
claims reported during the policy term – often times including
those that occurred prior to the policy effective date.
ƒ The insured must evaluate the policy to determine if there is
coverage for past losses, future losses, or both.
ƒ If the contract covers losses which occurred in the past, the EITF
concluded that retroactive insurance accounting should apply with:
à Any gain being deferred over settlement period
à Any premium expensed immediately
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Overview
EITF 03-8 - Claims-Made Insurance
ƒ EITF 03-3, EITF 86-12, and Topic D-79 are to be combined and codified
in EITF 03-8
ƒ EITF 03-8 will clarify FIN 39 – all insurance assets and liabilities should be
grossed-up on the balance sheet
ƒ Not new guidance, insurance asset and liabilities should have always
been grossed-up
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Pending FASB Projects
Πω Χ
Business Combinations:
Purchase Method Procedures
Πω Χ
Background
Purchase Method Procedures
ƒ Project is the second phase of the FASB’s overall project on
business combinations (First phase was FAS 141/142)
ƒ The objectives of this phase are to improve certain purchase
accounting rules and practices to increase:
à the transparency of information to users of financial statements
à their consistency with the Conceptual Framework.
ƒ Project is an example of convergence in accounting standards as it
is a joint project with the International Accounting Standards Board
(IASB)
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Definition of a Business Combination
Purchase Method Procedures
Definition in FAS 141 will be amended to include:
ƒ Control over a business obtained through means other than a
transaction involving an acquisition of the net assets or equity
interests in that business.
à Newly consolidated VIE (Variable Interest Entity) under Interpretation 46
might be within the scope
à Lapsing or removal of participating rights could trigger
business combination accounting (EITF 96-16)
à Would require fair value assessment, purchase price allocation, etc.substantial change in practice
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Measurement
Purchase Method Procedures
Measurement Date
ƒ Measurement date for equity securities issued in a business combination
should be the acquisition date (closing date)
ƒ Would amend EITF No. 99-12, Determination of the Measurement Date for
the Market Price of Acquirer Securities Issued in a Purchase Business
Combination
ƒ Agreement date model: date when substantive agreement is reached that
commits both parties and fixes the number of shares or the exchange ratio.
Acquisition Costs
ƒ Direct costs of the acquisition no longer capitalized (e.g., professional fees,
such as banking, legal and accounting fees) - represent period costs to be
charged to expense as incurred
ƒ FASB believes that such costs are not part of the fair value of the
exchange - they are akin to entry/exit costs
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Measurement
Purchase Method Procedures
Contingent Consideration Arrangements
ƒ Initial Measurement: fair value on acquisition date
à Record the “stand-ready” obligation
à Probability weighted discounted cash flow analysis
ƒ Subsequent remeasurement (after the acquisition date)
à If the contingent consideration is share based, look to FAS 150 to determine whether
the contingent consideration should be classified as a liability or equity
à Contingent consideration classified as a liability should be recorded through the
income statement
à Contingent consideration classified as equity – no subsequent remeasurement
à If contingent consideration arrangements are cash settled, they likely meet the
definition of a derivative and should be accounted for pursuant to FAS 133
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In-Process Research & Development
Purchase Method Procedures
ƒ Initial recognition and measurement - capitalize IPR&D in a business
combination
ƒ Subsequent expenditures would not be capitalized
ƒ IPR&D in an asset purchase would be expensed
à Observation: Many development stage high technology enterprises are not
considered businesses under EITF 98-3. IPR&D would be expensed.
ƒ Non-symmetrical accounting an issue of concern
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Restructuring Liabilities
Purchase Method Procedures
ƒ Nullifies EITF Issue No. 95-3, Recognition of Liabilities in Connection
with a Purchase Business Combination
ƒ Do not record any restructuring activities as assumed liabilities
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Negative Goodwill
Purchase Method Procedures
ƒ If negative goodwill is present in a business combination, the acquiring
entity should 1) review the purchase price allocation and 2) if negative
goodwill remains, the acquiring entity should recognize the amount as
an extraordinary item
ƒ No pro rata allocation to certain acquired assets
ƒ No asset acquired should be measured at an amount that is known to be
less than its fair value, nor should any liability assumed or incurred be
measured at an amount known to be higher than its fair value
ƒ The Board believes that negative goodwill primarily relates to
measurement errors and that bargain purchases are rare
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Pre-Acquisition Contingencies
Purchase Method Procedures
ƒ Initial Recognition - Recognize at fair value, eliminate the FAS 5 alternative
approach (probable & estimable)
à Contingent assets acquired and contingent liabilities that are financial
instruments – follow financial instruments accounting literature
à Contingent liabilities that are not financial instruments - accounted for
on a fair value basis
à Contingent assets that are not financial instruments and meet the
definition of an intangible asset in FAS 142, should be accounted for
pursuant to FAS 142
ƒ Subsequent to Initial Recognition
à Financial instruments – follow applicable literature
à Other contingent liabilities – fair value through the income statement
à Other contingent assets – FAS 142
ƒ FASB to issue more guidance in this area, especially on contingent assets
since these have never been recorded in practice
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Deferred Income Taxes
Purchase Method Procedures
ƒ Amend paragraph .30 of FAS 109 to include a rebuttable presumption that
acquired deferred tax benefits recognized within one year (through a
reduction in a valuation allowance) following the acquisition date be
reported as an adjustment to goodwill
ƒ However – if the recognition of the benefit results from an identifiable event
or circumstance that occurred subsequent to the acquisition, the
presumption would be overcome and the benefit would be reported as a
reduction of income tax expense
à Example: change in tax rates that was not known at acquisition date
ƒ Current practice is reduce goodwill, intangibles before recording a
reduction to income tax expense
ƒ EITF 93-7 (tax contingencies) not yet addressed – stay tuned
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Non-Controlling Interests/Full Goodwill Method
Purchase Method Procedures
ƒ New accounting model for partial business combinations (i.e. less than
100% but greater than 49%)
ƒ Move towards the “economic unit” concept of consolidated financial
statements
ƒ Record the entire fair value of the acquiree and recognize all goodwill
à Record the minority interest as part of equity
à After control is obtained, transactions between parent and subsidiary
would be equity transactions
à When control is lost, gain or loss is recognized
ƒ Step acquisitions may trigger holding gains or losses that are recorded
in income as preacquisition investments are to be measured at fair value
ƒ Significant valuation/measurement issues (i.e. control premium, goodwill
impairment, etc.)
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Disclosures
Purchase Method Procedures
ƒ Several new required disclosures to be included in ED. Some of the
more significant:
à Acquisition costs paid to third parties
à Negative goodwill
à Revenue and net income of acquiree through end of fiscal year
à Aggregate amounts of assets acquired and liabilities assumed of
individually immaterial acquisitions
à Contingent consideration – FIN 45 “maximum amount” type
disclosure
à Realized gains/losses from noncontrolling interest transactions
(obtaining control in a step acquisition or losing control)
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Next Steps
Purchase Method Procedures
ƒ The Board plans to continue to deliberate the following remaining
matters:
à Full Goodwill Method
à Disclosures
à Transition
ƒ Resolution of any differences with IASB Project
ƒ Issue an ED in Q1 2004
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Equity-Based Compensation
Πω Χ
Overview
Equity-Based Compensation
ƒ Project added to Board’s agenda in March 2003
ƒ Exposure draft expected in first quarter of 2004
ƒ Final standard expected in third quarter of 2004
ƒ Anticipated effective date: for fiscal periods beginning after
December 15, 2004 (i.e. fiscal 05 for calendar companies)
ƒ Title has been changed from stock-based compensation to equitybased compensation to encompass all entities (e.g., partnerships)
ƒ Scope includes arrangements such as stock purchase plans, stock
options, restricted stock and stock appreciation rights – Excludes
ESOPs
ƒ FASB and IASB are jointly working on this project
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Key Points
Equity-Based Compensation
ƒ With respect to equity-based compensation transactions with employees:
à Services received in exchange for equity-based compensation result in a cost that
should be recognized in the income statement as an expense when the services
are consumed by the enterprise.
à The measurement attribute for an exchange involving equity-based compensation
is fair value.
à Nonemployees have been deferred to Phase 2 of the project.
à Decisions for employees are no different than existing guidance in FAS 123.
à Scope includes all arrangements by which 1) employees receive shares of
employer OR 2) employer incurs liabilities to employees based on stock price
ƒ Regarding measurement and attribution issues related to equity-based
compensation transactions:
à Compensation cost would be recognized over the service period
à Awards would be accounted for using the “modified grant-date” measurement
approach in FAS 123
à Therefore, compensation cost would be adjusted for forfeitures and outcomes of
performance conditions for unvested awards
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Expense Recognition
Equity-Based Compensation
ƒ Expense would be recognized over the service period at fair value.
ƒ Service period for awards with time-based vesting awards would
generally be the vesting period.
ƒ Expense recognition for options with multiple vesting dates is
segregated by vesting date and recognized only over the graded
vesting schedule. (Consistent with the current model in FASB
Interpretation No. 28, Accounting for Stock Appreciation Rights and
Other Variable Stock Option or Award Plans)
ƒ Forfeitures are estimated at the grant date and adjusted (as
necessary) for changes in the estimated forfeitures. Compensation
expense for vested awards that are forfeited is not reversed.
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Valuation Models
Equity-Based Compensation
ƒ The FASB has concluded that an option-pricing model provides a more
reliable estimate of fair value than estimating the fair value of the services
provided by the employee.
à Under FAS 123, two models are generally used, Black-Scholes and Binomial.
Black-Scholes is the more common model.
à The Board believes that binomial models (1) provide a more reliable estimate of
fair value, (2) offer improved flexibility to use more accurate inputs, (3) consider
early exercise patterns of when options are exercised, and (4) are better estimates
the value of long-term options.
ƒ Incorporate assumptions into the models related to correlation among the
contractual term of the option, time of exercise, and amount the option is “inthe-money” as well as additional refinements of volatility and interest rates.
ƒ Changes in assumptions are expected to require companies to use a
binomial model.
ƒ Companies need to perform extensive data analysis and develop/purchase
appropriate software to perform complex binomial calculations.
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Income Tax Considerations
Equity-Based Compensation
ƒ Realized tax benefits from exercise of stock options in excess of tax benefits
recognized based on compensation expense recognized directly to APIC, or
ƒ Realized tax benefits from exercise of stock options is less than tax benefits
recognized based on compensation expense, first debited to APIC to the
extent of excess benefits recorded and then debited to income tax expense
ƒ Under the proposed standard, the limitation on the amount of tax benefit or
deficiency that can be recorded directly to APIC was removed. In other
words, regardless of whether the income tax true-up is an excess
(deficiency) as compared to the deferred tax assets, the excess (deficiency)
would always be recognized as (against) APIC and never in I/S.
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Transition & Effective Date
Equity-Based Compensation
TRANSITION METHOD: “Modified Prospective” Method
ƒ Record compensation expense for all awards granted, modified, or settled as of
the beginning of the fiscal year in which the proposed standard is adopted.
ƒ Not required to remeasure the fair value from the FAS 123 method to the method
required under the proposed standard for unvested employee awards that are
outstanding as of the beginning of the fiscal year in which the proposed standard
is adopted.
ƒ Nonpublic entities – TBD.
EFFECTIVE DATE:
ƒ Public entities: Effective for fiscal years beginning after December 15, 2004 (i.e.,
the effective date would be January 1, 2005 for calendar year companies).
ƒ Nonpublic companies – TBD.
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Fair Value Measurement
Πω Χ
Overview
Fair Value Measurement
ƒ Preparers, auditors, and others have expressed concerns about the
ability to apply a fair value measurement principle
ƒ Guidance that currently exists has evolved “piece-meal” over time and is
dispersed among the many pronouncements that require fair value
measurements
ƒ Near-term objective is to develop a statement that will establish a
framework for measuring fair value under other pronouncements that
require fair value measurements, codifying the guidance for measuring
fair value in those pronouncements
ƒ Developed in phases to focus on how, not when, to measure fair value
ƒ Longer-term objective is to improve its conceptual framework,
developing conceptual guidance for its use in determining “when” to
measure fair value
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Overview & Key Decisions
Fair Value Measurement
ƒ The guidance for measuring fair value developed in this project should
apply to APB and FASB pronouncements that require fair value
measurements, except for pronouncements related to stock-based
compensation, leases and FAS 114.
ƒ The Board decided to clarify the guidance for using present value
techniques to estimate fair value in CON 7 that will be carried forward in
the fair value statement.
ƒ The Board decided to refer to the expected cash flow approach in CON
7 as an expected present value approach and the traditional approach in
CON 7 as a discount rate adjustment approach.
ƒ An expected present value approach is consistent with the use of
probability-weighted (expected) cash flows that either are (a) explicitly
adjusted for systematic risk and discounted at a risk-free rate or (b)
discounted using a rate that incorporates a risk premium for the
systematic risk inherent in the expected cash flows.
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Decisions
Fair Value Measurement
ƒ Definition - amended to “the amount at which an asset or liability could
be exchanged in a current transaction between knowledgeable
unrelated willing parties when neither is acting under compulsion.”
ƒ Fair Value Measurement Principle - all estimates of fair value should
maximize market inputs (observable market prices and market
assumptions) for the item being measured, based on its unit of account
in the appropriate reference market. In general, the more market inputs
the more reliable the estimate. Reliability encompasses representational
faithfulness, neutrality, and verifiability.
ƒ Unit of Account - the level at which an item (asset or liability) should
be aggregated (or disaggregated) for purposes of measuring its fair
valuation.
ƒ Reference Market - the market to which the entity has reasonable
access and that yields the most advantageous price.
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Decisions
Fair Value Measurement
ƒ Valuation Premise - describes the actual or hypothetical condition and
location of an asset affecting the exchange price at which willing parties
would agree to transact and provides additional guidance for selection of
relevant market inputs.
ƒ Fair Value Hierarchy - fair value hierarchy prioritizes the market inputs
that should be used for all estimates of fair value in three levels.
Level 1 – the estimate of fair value is determined by reference to
observable (quoted) market prices for identical assets or liabilities at or
near the measurement date
Level 2 - the estimate of fair value is determined by reference to
observable (quoted) market prices for similar assets or liabilities at or
near the measurement date
Level 3 - the estimate of fair value is determined based on the results of
multiple other valuation techniques.
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Disclosures About Pension Plans
Πω Χ
Overview
Pension Disclosure Exposure Draft
ƒ Employers’ Disclosures about Pensions and Other
Postretirement Benefits, An Amendment of FASB
Statements 87, 88 and 106 and a Replacement of
FASB Statement 132
ƒ Final standard in mid-December
ƒ Will be effective for calendar year-end 2003 financial
statements
ƒ Does not address pension recognition and
measurement – only disclosures
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Key Differences in Required Disclosures
Pension Disclosure Exposure Draft
ƒ Proposed elimination of reconciliation of obligations and plan
assets
ƒ Allocation of plan assets by major category (including the
percentage of the fair value to total plan assets, the target
allocation percentages and the expected long-term rate of return
assumption by asset ) - Proposed
ƒ Accumulated benefit obligation under FAS 87 - Proposed
ƒ Schedule of estimated benefit payments for each of next 5 years
and total thereafter - Proposed
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Key Differences in Required Disclosures
Pension Disclosure Exposure Draft
ƒ Expected employer contributions during the next year –
Proposed
ƒ Assumptions – Same, but identify those used to measure
obligation and expense and present in tabular format
ƒ Measurement date, if different from fiscal year-end date and a
significant event occurred between the two dates - Proposed
ƒ Quarterly disclosure of components of expense and significant
changes from annual disclosures - Proposed
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Financial Performance
Reporting by
Business Enterprises
Πω Χ
Overview
Financial Performance Reporting
Objectives:
•
to improve the quality of information displayed in financial
statements so that investors, creditors, and others can better
evaluate an enterprise’s financial performance and
•
to ascertain that sufficient information is contained in the
financial statements to permit calculation of key financial
measures used by investors and creditors.
Key focus on form and content, classification and aggregation,
and display of specified items and summarized amounts on the
face of all basic financial statements, interim as well as annual.
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Key Decisions
Financial Performance Reporting
ƒ A business entity should report all items of revenue, expense, gains, and
losses in a single statement of comprehensive income
ƒ The single statement of comprehensive income would display at least
three major categories: business activities, financing, and other gains
and losses
ƒ The financing category should include the following:
a. All expenses related to the passage of time for all types of
liabilities
b. Income related to the passage of time that is earned on cash
and cash equivalents
c. Gains and losses associated with the issuance,
restructuring, and extinguishment of debt.
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Key Decisions
Financial Performance Reporting
ƒ Income taxes generally should be presented as a separate
classification after the categories.
ƒ The effects of discontinued operations should be presented as a
separate classification, net of tax effects, below other categories
and after income taxes.
ƒ The effects of extraordinary events and transactions, before the
effects of income taxes, should be included within each of the
categories to which they relate.
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Liabilities & Equity
Πω Χ
Overview
Liabilities & Equity
ƒ Phase 1 – Issuance of FASB Statement No. 150
ƒ The objectives of Phase 2 are to:
ƒ
Improve accounting and reporting by issuers for financial
instruments that contain characteristics of equity and
liabilities, assets, or both.
ƒ
Amend and improve on the definitions of liability, equity, and
perhaps assets in FASB Concepts Statement No. 6,
Elements of Financial Statements, such that decisions made
in FAS 150 and the Phase 2 are consistent with those
definitions.
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Revenue Recognition
Πω Χ
Background
Revenue Recognition
ƒ Why address?
à No comprehensive standard in revenue recognition
à Gap between concepts statements and current detailed
guidance/reconcile inconsistencies
à Most detailed guidance written for specific transactions
à Most guidance not based on broad concepts
à Develop approach that is comprehensive and flexible
ƒ Timing
à Added to the FASB technical agenda on May 15, 2002
à Exposure draft planned for mid-2004
à Finalize standard mid-2005
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Objectives
Revenue Recognition
ƒ Develop a comprehensive Statement of Financial
Accounting Standards on revenue recognition
ƒ Amend related guidance on revenue recognition and
liabilities in the FASB Concept statements
ƒ Eliminate inconsistencies
à Existing literature
à Current practice
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Current Model & Fair Value
Revenue Recognition
ƒ Asset and Liability Model
à Revenue is the change in assets and liabilities
à Liabilities should be measured at fair value to the reporting
entity
à Inconsistent with current “earnings process” model (CON 5)
ƒ Fair Value is the price the reporting entity would have to pay a
third party to assume the responsibility for performing the
obligations
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Example
Revenue Recognition
ƒ Company sells a one year extended warranty
for a consumer electronics good for $50.
ƒ Company performs the warranty service
internally at a cost of $35.
ƒ The company could subcontract the work to
third-party administrators for $40.
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Example
Revenue Recognition
The following are recorded:
ƒ $50 asset
(cash)
ƒ $40 liability
(fair value of warranty
obligation)
ƒ $10 revenue
(difference between asset
and liability)
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Significant Challenges
Revenue Recognition
ƒUse of fair value
ƒBroad applicability
ƒDetermining remaining rights and
obligations
ƒDetermining the units of accounting
ƒDay 2 accounting
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SEC Update
SEC Update
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Agenda
ƒ New SEC rules
ƒ Areas in need of more attention
ƒ Discussion of SEC compliance
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Accelerated Filers
- Accelerated filing deadlines
Final rule effective November 15, 2002 with phase in:
à 10-K
* 90 days 1st year (2002 10-K)
* 75 days 2nd year (2003 Form 10-Ks)
* 60 days 3rd year (2004 10-K)
à 10-Q
* 45 days 1st year (2003 10-Q’s)
* 40 days 2nd year (2004 10-Q’s)
* 35 days 3rd year (2005 10-Q’s)
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New Rules
ƒ Accelerated filing deadlines
ƒ 8-K Rules for “current reporting” expected out shortly
ƒ MD&A Interpretive Release and Critical Accounting Policies Release
- next year
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SEC Comments of Note
ƒ Revenue recognition
ƒ Segments
ƒ Impairments
à Long-lived assets, equity securities, goodwill and other
intangibles
ƒ Environmental and other loss contingency disclosures
ƒ Restructurings
ƒ Reg G/non-GAAP disclosures
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SEC Compliance Matters
ƒ Follow Rule 3-12 in updating financial statements in the immediate
post year-end, pre-10-K period
à F/S may need to be restated for discontinued operations and/ or new
accounting pronouncements
ƒ Pro forma data on acquired companies may require updating as well
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SEC Compliance Matters
- Continued
ƒ Debt guaranteed by subsidiarie(s) (or issued by subsidiary and guaranteed by
parent) may require incremental reporting under Rule S-X 3-10 such as:
à Presentation of financial statement narrative disclosure
à Financial statement notes containing condensed consolidating financial informatio
or
à Full financial statements of the guarantors or subsidiary issuer
ƒ Disclosure relief is not available under “collateral” arrangements (S-X 3-16)
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SEC Compliance Matters
- Continued
ƒ Separate audited financial statements of equity investees may be
required under Rule 3-09
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