FASB: Simplification Initiative

Transcription

1 FASB: Simplification Initiative December 8, 2017 Karen Oxner FROM THE CHAIRMAN'S DESK: BY RUSSELL G. GOLDEN, FASB CHAIRMAN REDUCING UNNECESSARY COMPLEXITY IN FINANCIAL REPORTING Reducing unnecessary complexity in financial reporting benefits all our stakeholders. While some have said that our initiative to reduce unnecessary complexity degrades financial reporting and simple GAAP allows companies to omit important information, I have found quite the contrary to be true. Everyone who participates in the system of financial reporting benefits when unnecessary complexity is reduced. (FASB Outlook E-Newsletter 5/1/17) 2 What is the Simplification Initiative? 2015: The FASB launched a tightly-focused initiative to make narrow-scope simplifications and improvements to accounting standards through a series of short-term projects. Simplification Initiative standards went through the same standard-setting process as more comprehensive Updates Goals of the Simplification Initiative: improve or maintain the usefulness of the information reported to investors reduce cost and complexity in financial reporting 3 4 Three Primary Benefits of the Simplification Initiative FS users: more easily identify and understand financial information about an organization, and make comparisons across organizations more effective and efficient Preparers: lower ongoing implementation costs, and makes transactions in the financial statements more consistent and straightforward Auditors: reduces the attestation effort and cost, which in turn, reduces costs for preparers Halo Effect: The FASB has moved away from specifying that an ASU is part of the Simplification Initiative Instead, simplification without loss of useful information is now considered a desirable mindset potentially applicable to many accounting issues New ASU s use key wording such as reducing unnecessary complexity to indicate the standard was issued with simplification in mind 15 new ASU s to date have simplification as a stated goal Additional projects are in progress 5 6 1

2 ASU : Income Statement: Extraordinary Items Eliminated Benefits of Eliminating Extraordinary Item Treatment on Income Statement Before ASU Net Sales $1,000 Cost of Good Sold 600 Gross Profit 400 Selling Expenses 100 Administrative Expenses 80 Operating Income 220 Income Tax 66 Net Income before extraordinary item 154 Extraordinary Loss, net of $15 tax 35 Net Income $119 After ASU Net Sales $1,000 Cost of Good Sold 600 Gross Profit 400 Selling Expenses 100 Administrative Expenses 80 Income before unusual items 220 Unusual Loss 50 Operating Income 170 Income Tax 51 Net Income $119 Preparers no longer have to evaluate and document whether or not an item should be extraordinary Related intra-period income tax allocation is also eliminated Investors have no loss of information, since the item is just listed earlier on the Income Statement under Other Revenues/Gains or Other Expenses/Losses Convergence with IFRS Note: Per 2010 Accounting Trends and Techniques, of 2200 companies surveyed from , only 13 reported extraordinary items (0.6%) 7 8 ASU : Interest: Imputation of Interest To simplify the presentation of debt issuance costs, those costs are required to be presented on the balance sheet as a direct deduction from the carrying amount of the debt liability. Thus, the new approach prohibits debt issue costs from being presented on the balance sheet as an asset or deferred charge. Simplification = Recalculation! Because the debt issue costs will now be deducted to obtain the net proceeds of the debt, the effective rate of interest must be recalculated. Example: assume we issued $2,000,000 of 6%, 10 year bonds when the market interest rate was 6.5%. Interest is paid semiannually. The bonds would sell for $1,927,303, resulting in a discount on the bond issue. If there are $39,963 of bond issue costs incurred, the net proceeds would be further reduced to $1,887,340. The effective interest rate for the bond issue would now be 6.785%. This rate would be used for all calculations/je s. The result on the income statement will be that the bond issue costs are amortized using the effective interest method Benefits of Netting Debt Issuance Costs from Bond Proceeds ASU Compensation - Retirement Benefits Treatment aligns with Concepts Statement 6, which states that debt issuance costs are similar to a debt discount and in effect reduce the proceeds of borrowing, thereby increasing the effective interest rate. Concepts Statement 6 further states that debt issuance costs are not assets because they provide no future economic benefit. Convergence with IFRS. Problem: An entity with a fiscal year-end that does not coincide with a month-end may incur more costs when measuring the fair value of plan assets of a defined benefit pension or other postretirement plan. These costs arise because third-party reporting about plan assets is typically done at month-end. That information must then be adjusted to reflect the fair value of plan assets as of the fiscal year-end

3 Practical Expedient to the Rescue! Benefits, Limitation, and Disclosure For entities whose fiscal year end does not coincide with a month end: The entity is permitted to measure defined benefit plan assets and obligations using the month-end that is closest to the entity s fiscal year-end This practical expedient should be applied consistently from year to year, and for all plans if the entity has more than one plan. The same expedient can be applied in the event of an entity-caused significant event that does not coincide with a month end (such as an amendment or settlement, that calls for remeasurement.) Benefits: Preparers no longer have to make roll-forward or roll-back adjustments of plan assets and obligations to match their fiscal year end, saving time Auditors can easily tie all ending values to third party documentation of plan assets and obligations Limitation: Employee benefit plans are not within the scope of the amendments in this Update Disclosure: An entity must disclose this accounting policy election and measurement date used. Note: Unlike most Simplification Initiative Updates, this standard does not converge with IFRS ASU Intangibles: Fees Paid for Cloud Computing Examples of cloud computing arrangements: software as a service, platform as a service, infrastructure as a service, or other similar hosting arrangements. Existing GAAP did not include specific guidance about a customer s accounting for fees paid in a cloud computing arrangement. Key issue to determine accounting for fees: Does the cloud computing arrangement include a software license? Not a new rule: just consistent application If the cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. All software licenses will be accounted for consistent with other licenses of intangible assets. If the arrangement does not include a software license, the customer should account for the arrangement as a service contract. Accounting for service contracts is not changed as a result of this update No new accounting treatment: why did we need this ASU? Stakeholders indicated to the FASB that a diversity in accounting practices existed due to the lack of specific guidance Stakeholders felt they were bearing unnecessary costs and complexities to self-evaluate the accounting for fees for cloud based computing arrangements So, the FASB clarified the appropriate accounting treatment to use ASU Inventory: Simplifying the Measurement of Inventory A long-standing accounting requirement is that inventories be valued at the lower of cost or market as of balance sheet date. In the recent past, market was defined as the median value among 3 market values: replacement cost, net realizable value (ceiling), or net realizable value less a normal profit margin (floor). This median value was then compared to cost to determine whether inventory should be revalued downward

4 Will the real market value please stand up?! *Net Realizable Value* FASB simplified the lower of cost or market analysis by requiring that inventory should be measured at the lower of cost or net realizable value. End of story! Thus, reporting entities no longer consider replacement cost or net realizable value less an approximately normal profit margin when applying the lower of cost or market rule. Note: Inventory measured using the LIFO and retail inventory methods would be exempt from this requirement. Benefits: Less is More Did we really ever NEED 3 measures of market? Selection of NRV is appealing: if the cost of the product can t be recovered through selling it, impairment seems to be an obvious conclusion. Using one measure of market is a time saver for preparers and their auditors. Convergence with IFRS for measurement of inventory ASU Business Combinations: Measurement-period Adjustments The underlying problem: Sometimes in a business combination, accounting for certain items may be incomplete as of the reporting date. For these items, the organization is required to record provisional amounts (estimates) The Accounting problem: Once these incomplete items were fully known, the organization was required to retrospectively apply any adjustments to these provisional amounts, i.e., restate prior financial statements Ex: asset fair values and depreciation expense, goodwill, etc. Let s Treat a Change in Estimate Like a Change in Estimate The new rule: The acquirer should recognize adjustments to provisional amounts in the reporting period in which the adjustment amounts are determined. Similar to current and prospective treatment for changes in accounting estimates. What to record: The acquirer must record the effect on earnings, if any, calculated as if the accounting had been completed at the acquisition date. How to disclose: The entity must present separately on the face of the income statement or disclose in the notes: the portion of the amount recorded in current-period earnings by line item that would have been recorded in previous periods if accounting had been complete as of the acquisition date. Benefits: Preparers cost reduction with no loss of information for financial statement users; no more restating prior period FS ASU Income Taxes: Balance Sheet Classification of Deferred Taxes GAAP previously required that firms classify deferred tax assets and liabilities as current or noncurrent based on how the related assets or liabilities are classified. if a deferred tax item is not related to an asset or liability, based on the expected reversal date of the associated temporary difference Stakeholders indicated that since this classification does not generally align with the time period in which the recognized deferred tax amounts are expected to be recovered or settled, little benefit exists. If there is any cost involved, the classification requirement did not meet the cost-benefit test. Natural Conclusion: Streamline Classification of Deferred Tax Items The New Rule: all deferred tax assets and liabilities are now classified as noncurrent on the balance sheet In addition, any valuation allowances would likewise be classified as noncurrent. No need to allocate the valuation allowances between current and noncurrent portions! Benefits: Lower cost to preparers with no loss of information; convergence with IFRS classification (all noncurrent)

5 ASU Investments: Simplifying the Transition to the Equity Method of Accounting Changing the Past is not helpful reporting or easy to do Background: Accounting for an investment depends on the level of ownership and ability to influence the investee. When the level of ownership or influence increases, the accounting treatment for the investment may also need to change. Previous GAAP: the transition to the equity method required retroactive application of the equity method. Thus, the equity method was applied on a step-by-step basis as if it had been in effect for all previous periods in which the investment was held. Assimilating the information to apply the equity method retroactively is both costly and time-consuming Retroactive treatment provides little benefit to the financial statement user Often the investor does not have ready access to data for prior periods and the resulting information on the financial statement may be inaccurate. FASB agreed that retroactive application did not pass the cost-benefit test Eliminate Retroactive Treatment! It doesn t matter! It s in the past! Eliminated retroactive application of the equity method Instead, the equity method investor adds the cost of acquiring the additional interest to the current basis of the investment. The equity method is then adopted as of the date the investment qualified for equity method accounting. For investments previously accounted for as available for sale, the unrealized holding gains or losses in accumulated other comprehensive income will be recognized in earnings at the date the investment qualifies for the use of the equity method. Convergence with IFRS. ASU Stock Compensation: Improvements to Employee Share- Based Payment Accounting This Simplification Initiative-related ASU contains 8 updates to accounting for share-based payments. Here are the new provisions: 1.Excess tax benefits/costs will be recognized on the income statement as income tax benefit/expense (could formerly be on balance sheet or income statement) 2. Excess tax benefits will be classified on the statement of cash flows as Operating Activity (formerly Financing Activity) 3. Regarding forfeitures, companies can either estimate the number of awards that will vest or account for forfeitures when they occur (formerly only estimate vesting) (continued) Stock Compensation: Improvements to Employee Share- Based Payment Accounting 4. Partial cash awards may be made up to the maximum statutory tax rate (formerly minimum) and still qualify for equity classification 5. Statement of Cash Flows classification of cash paid by an employer when directly withholding shares for tax-withholding purposes will be a Financing Activity (formerly no guidance) 6. Nonpublic entity only: practical expedient to estimate the expected term for all awards (formerly estimate the period of time that an option would be outstanding) 7. Nonpublic entity only: can make a one-time election to switch from fair value accounting to intrinsic value (no change, but many entities were unaware of this election) 8. Eliminate certain guidance from FASB 123 that had been deferred since No change in practice, since guidance was never in effect. Stock Compensation: Improvements to Employee Share-Based Payment Accounting Benefits: Income tax-related items are now reported on the Income Statement, and classified as Operating Cash Flows, consistent with other tax payments Flexibility given in accounting for forfeitures Additional flexibility offered to nonpublic entities for term of awards and valuation using intrinsic/fair value method Sale of shares for cash is classified as Financing cash flow, consistent with other issuances of stock Clean up of guidance never brought into effect

6 ASU Income Taxes: Intra- Entity Transfers of Assets Other Than Inventory GAAP requires comprehensive recognition of current and deferred income taxes. However, there are some exceptions! One such exception: recognition of taxes on intra-entity transfers was not allowed until the asset was transferred to an external entity Stakeholders indicated that inconsistent interpretations of this exception have developed in practice over the years Also, the exception led to unfaithful representation of the economics of an intra-entity transfer, since it required postponement even though taxes may have been paid/payable These problems were noted primarily for transfers of intellectual property and PPE Change: Recognize Tax Effects at Time of Transfer What to do: For intra-entity transfers of assets other than inventory, tax effects will now be recognized when the transfer occurs Tax effects of intra-entity transfers of inventory was not changed based on stakeholders feedback about benefits and costs. Benefits: More consistent practice = simplification, especially for FS users Better reporting of true tax consequences Convergence with IFRS ASU Simplifying the Test for Goodwill Impairment Goodwill: More to Come, So Stay Tuned! 2014: FASB simplified goodwill impairment testing for private companies 2017: extending the new accounting treatment to public and NFP entities Step 2 of goodwill impairment testing is eliminated (compute the implied fair value of goodwill to compare to goodwill s carrying value) Instead, goodwill impairment is measured as the excess of the carrying value of the reporting unit over its fair value. Limitation: goodwill impairment loss cannot exceed the carrying amount of goodwill This same treatment is also applied to reporting units with a zero or negative carrying value (formerly tested differently) New treatment eliminates work for preparers and auditors. Computing the implied fair value of goodwill was complex, and did not provide superior information. FASB considers this change Phase 1 of the goodwill project. In Phase 2, the board is conducting research on additional changes to subsequent accounting for goodwill, including consideration of: Permitting or requiring amortization of goodwill Testing goodwill for impairment upon a triggering event Testing goodwill for impairment at a reporting unit level or at the entity level ASU Stock Compensation: Modification Accounting Exceptions to Using the Modification Accounting Rules Current definition of what constitutes a modification to a stock-based compensation plan is too broad, resulting in a diversity of practice in applying modification accounting rules This ASU provides guidance about which changes to the terms or condition of a share-based payment award require an entity to apply modification accounting in ASC Topic 718 An entity should account for the effects of a modification unless all of the following are met: The modification does not change the: Fair value of the award Vesting conditions of the award Classification of the award as an equity instrument or a liability instrument Effective for periods beginning after December 15, Early adoption permitted; use prospective application

7 ASU Financial Instruments with Down Round Features Part I: Current accounting requirements for instruments with down round features: Does not reflect economic reality (gains and losses are being recognized which the down round feature prevents) Creates a significant reporting burden Causes unnecessary income volatility Part II: Related sections of the Codification are difficult to navigate because of extensive pending content, indefinitely deferred Revised Accounting for Down Round Features Part I: Instruments with round down features are no longer accounted for as a derivative using fair value which resulted in gains/losses at each balance sheet date Instead, recognize the effect of the round down feature when it is triggered Part II: Pending content is now presented as a scope exception, and it does not have an accounting effect ASU Targeted Improvements to Accounting for Hedging Hedges are used to manage risks, and current accounting rules for hedging do not always reflect true economic results In addition, reported results are often difficult for F/S users to understand and interpret ASU was issued to more faithfully represent the underlying economic activity and consists of multiple parts, such as: Aligning reported F/S results with risk management activities of the entity Removing certain limitations on cash flow hedges Adding flexibility to measurement of changes in fair values of interest rate hedges Disclosing in a table the income statement effects of certain hedges, as well as cumulative basis adjustments 39 Current Project 1: Debt Classification Stakeholders indicated that guidance on balance sheet classification of debt is unnecessarily complex (current vs. non-current) Proposal classifies a debt as noncurrent if one or both of the following criteria are met as of the balance sheet date: The liability is contractually due to be settled more than 12 months (or operating cycle, if longer) after the balance sheet date The entity has a contractual right to defer settlement of the liability for at least 12 months (or operating cycle, if longer) after the BS date. Proposal would eliminate the reclassification from current to noncurrent of current liabilities expected to be refinanced in the upcoming accounting period, unless a binding contact with a third party has been signed before the BS date that avoids the payoff in the upcoming 12 months Uses facts and circumstances in existence at Balance Sheet date Converges with IFRS FASB is drafting final standard; expected Quarter Current Project 2: Improvements to Nonemployee Share-Based Payment Accounting Proposal covers share-based payment for goods and services to nonemployees Payment must be for goods and services to be used or consumed in operations (i.e., not to raise capital) Currently, significant differences exist in accounting for share-based compensation to employees and to nonemployees Exposure Draft currently in redeliberations Main provisions of the proposal relate to: Overall measurement objective Measurement date Awards with performance conditions Applicability of share-based compensation rules vs. derivatives rules Use of calculated values vs. expected volatilities Use of intrinsic value vs. fair value Current Project 3: Consolidation Improvements: Part I Related Party Guidance for Variable Interest Entities (VIEs) Includes targeted improvements for the following 3 items: Applying the VIE guidance to private companies under common control Considering indirect interests held through related parties when determining if fees paid are variable interests Applying certain requirements when power is shared among related parties for concluding whether a party has a controlling financial interest Current status: Exposure Draft redeliberations

8 Current Project 3: Consolidation Improvements: Part II Consolidation Reorganization and Targeted Improvements Purpose is to reorganize Topic 810 Consolidation to make it easier to use Topic 810 will likely be reorganized into a new Topic 812, which will supersede Topic 810 in its entirety Ongoing work continues The comment period for the Exposure Draft closed on December 4 43 Current Project 4: Collaborative Arrangements Current accounting practices for transactions related to collaborative agreements are accounted for inconsistently, due in part to lack of guidance on applying rules for revenue recognition and measurement to these transactions. Project goals include: Clarifying when transactions between partners in a collaborative arrangement are within the scope of the revenue guidance. Researching a potential non-revenue model to improve and align the reporting of transactions that are not within the scope of the revenue guidance Current status: initial deliberations 44 Current Project 5: Customer's Accounting in Cloud Computing Service Contract Project relates to upfront costs incurred to get the service arrangement ready for use Costs could include training, creating/installing an interface, reconfiguring existing systems, etc. prior to use Stakeholders indicate there is diversity in practice and lack of guidance in the Codification regarding these costs Current status: Initial deliberations 45 Conclusions from the FASB Reducing unnecessary complexity (and costs) is a concept that we can apply to all our projects; simplification mindset Even simplification means change, and change can be hard for stakeholder organizations. Process requires ongoing dialogue among the FASB, investors, preparers, auditors, and others Looking for the sweet spot : provide highquality financial information to investors and other users, while doing our utmost to meaningfully reduce unnecessary cost and complexity. (FASB Outlook E-Newsletter 5/1/17) FASB Video 46 Want to Stay Connected? To sign up for communications from the FASB: go to Click on Contact Us go to Stay Connected There will be several options for receiving information from the FASB Effective Transition Requirements 1 Topic ASU Date* Prospective or Retrospective 2 Extraordinary Items /15/ Debt Issue Costs /15/2015 Retrospective 4 Use of Month-end Pension Reports /15/2015 Prospective 5 Cloud Computing Fees /15/2015 Prospective or Retrospective 6 Inventory Valuation /15/2016 Prospective 7 Estimates in Business Combinations /15/2015 Prospective 8 Deferred Income Tax Classification /15/2016 Modified Retrospective 9 Transition to Equity Method /15/2016 Prospective 10 Employee Share-based Compensation /15/2016 Depends on specific provision 11 Intra-Entity Asset Transfers /15/2016 Retrospective 12 Goodwill Impairment /15/2019 Prospective 13 Modifications to Share-based Comp /15/2017 Prospective 14 Instruments w/round Down Features /15/2019 Retrospective Hedge Accounting: Targeted Depends on 15 Improvements /15/2018 specific provision * Effective for public business entities for financial statements issued for fiscal years beginning after the date shown

9 Current Projects in Process: 1 Debt Classification Final ASU expected Q Non-Employee Share-based Comp ED 3 Consolidation Improvement Part I ED 4 Consolidation Improvement Part II ED 5 Collaborative Arrangements Initial Deliberations 6 Cloud Computing Up Front Costs Initial Deliberations References: All Accounting Standards Update included here can be found at the FASB website; go to Accounting Standards Update Issued. ( AICPA, Accounting Trends and Techniques 2010, New York, New York. Thank you for the opportunity to speak today!