Distinguishing Liabilities from Equity Invitation to Comment Private Company Council

Transcription

1 Distinguishing Liabilities from Equity Invitation to Comment Private Company Council September 30,

2 Agenda History of liabilities & equity Perceived issues Approaches to improve the guidance - Simple and Complex Instruments Proposed alternative solutions - Respective pros and cons Cross-cutting Issues 2

3 History of Liabilities & Equity 1986 The Liabilities and Equity Project was added to FASB Technical Agenda as part of a broader project on Financial Instruments October 2000 Exposure Draft, Proposed Amendments to FASB Concepts Statement No. 6 to Revise the Definition of Liabilities November 2003 FSP FAS to address concerns related to FAS 150 Notable FSP: nonpublic entity deferral of FAS 150 October 2000 Exposure Draft, Accounting for Financial Instruments with Characteristics of Liabilities, Equity or Both May 2003 FASB Statement No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (limited scope standard) 3

4 History of Liabilities & Equity November 2007 Preliminary Views, Financial Instruments with Characteristics of Equity November 2014 FASB adds project to make targeted improvements to address down round features to the technical agenda November 2010 Joint ED developed on Financial Instruments with Characteristics of Equity, not issued due to concerns identified during external review February 2016 Distinguishing Liabilities from Equity added as a topic for the FASB ITC 4

5 Perceived Liability and Equity Issues GAAP is currently difficult to interpret and apply - Path-dependent set of complex rules-based standards - Internally inconsistent - Conceptually flawed - Subject to financial structuring to achieve a desired result Practice continues to use significant pieces of legacy literature 5

6 Perceived Issues Subtopic Subtopic Subtopic

7 Holistic Approach Proposed by the ITC Simple Instruments Obvious vs. Not So Obvious Alternative A: Equity Classification No Obligations to Transfer Assets or Shares (Questions about Indexation and Settlement Irrelevant) - Classified based on nature of return & lack of present obligation to transfer assets or shares Only perpetual instruments would qualify for equity classification Alternative B: Equity Classification Distinguishes between Obligations to Transfer Assets vs Shares (Questions about Indexation and Settlement Matter) - Classified based on nature of return & what the reporting entity is obligated to transfer Transfer of shares Equity o Perpetual instruments & some equity-linked instruments would qualify for equity classification Transfer of assets Liability NOTE: Instruments within the scope of Topic 718, Compensation Stock Compensation, and Subtopic , Equity Based Payments to Nonemployees, are NOT in the scope of these discussions 7

8 Complex Instruments Alternative A: Bifurcate all conversion options from the host contract - Basis: Recognize the same interest cost as comparable debt instruments without the embedded conversion option Alternative B: Bifurcate conversion options from host contract if the instrument is compound - Basis: The alternative choices within the convertible debt cannot exist independently of one another; they are mutually exclusive options. The alternative selected for simple instruments could have an impact on the alternatives selected for complex instruments 8

9 Simple Instruments Pros and Cons Potential Benefits Alternative A Potentially reduces structuring opportunities Simpler classification rules: focus is on the obligation to transfer assets or shares, therefore no need to develop indexation and settlement guidance Potentially better distinction between the interests of different stakeholders Alternative B More closely aligned with current GAAP Potentially less complexity from a measurement perspective fewer instruments classified as liabilities Potential Challenges Potential increase in complexity due to subsequent measurement of instruments classified as liabilities Presentation of changes in value for liability-classified instruments Implications of inconsistencies with Conceptual Framework s definition of a liability Resolution of redemption features for perpetual instruments Developing indexation and settlement guidance Address concerns related to the issuance of fixed vs. variable shares Implications of inconsistencies with Conceptual Framework s definition of a liability Resolution of redemption features for perpetual instruments 9

10 Complex Instruments Pros and Cons Potential Benefits Potential Challenges Similar to IFRS Alternative A Significant reduction in complexity of current guidance (elimination of much of the path-dependent literature) Questions about bifurcation of other embedded features Increased complexity of requiring more bifurcation Increased complexity regarding extinguishment (more instruments bifurcated) Interest expense and EPS concerns Alternative B Decrease in the number of instruments subject to bifurcation Significant reduction in complexity of current guidance (elimination of much of the path-dependent literature) Questions about bifurcation for other reasons Measurement basis of the instrument (intrinsic value or fair value) does one size fit all? Presentation differentiation for debt with equity-like components vs. straight debt Presentation of changes in value for complex instruments EPS concerns 10

11 Cross cutting Issues Alternatives do not address all potential presentation & measurement issues - For example, the affect of changes in value of what some stakeholders would label non-operating liabilities on what those same stakeholders have defined as operating income Resolution requires close coordination and assessment of: o o o The current Conceptual Framework project The Financial Performance Reporting project The ITC request for feedback on OCI 11

12 Questions? 12