Changes to accounting for net periodic pension and postretirement costs Considerations for Energy & Utility companies

Transcription

1 Changes to accounting for net periodic pension and postretirement costs Considerations for Energy & Utility companies No. US September 2, 2017 What s inside: Background... 1 Key provisions... 1 Why is this important for Energy & Utility companies?... 2 Multi-employer vs. multiple-employer accounting... 6 What s next... 7 At a glance In March 2017, the FASB issued final guidance on the presentation of net periodic pension and postretirement benefit cost (net benefit cost) 1. While intended to improve how such costs are reflected in the financial statements, the new guidance has implications to Energy & Utilities companies beyond just the change in presentation. The new guidance is effective in 2018 for public business entities. Other entities have an additional year. Background Net benefit cost comprises several components that reflect different aspects of an employer s financial arrangements, as well as the cost of benefits provided to employees. Under current US GAAP, those components must be aggregated and presented as a single net employee compensation cost in the financial statements. ASC 715, Compensation Retirement Benefits, does not prescribe where the amount of net benefit cost should be presented in an employer s income statement and does not require entities to disclose the amount of net benefit cost presented in the income statement or capitalized in assets by line item. Stakeholders provided feedback to the FASB that the presentation of defined benefit cost on a net basis combines elements that are distinctly different in their predictive value. As such, these stakeholders believe that the current presentation requirements have less value and require users to incur greater costs to analyze financial statements. In response to these concerns, the FASB issued the new guidance, which changes the presentation of net benefit cost in the income statement and limits the components eligible for capitalization. Key provisions Under the new guidance, an employer is required to report the service cost component of net benefit cost in the same line item as other compensation costs arising from services rendered by the relevant employees during the period. The other components of net benefit cost (e.g., interest cost, expected return on plan assets, amortization of prior service costs, amortization of actuarial gains/losses), as defined in ASC , will be presented in the income statement separate from the service cost component and outside of the subtotal of income from operations, if one is presented. 1 Accounting Standards Update , Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Cost National Professional Services Group In depth 1

2 Only the service cost component will be eligible for capitalization (for example, as a cost of a self-constructed asset). Why is this important to Energy & Utility companies? The new requirements for the presentation of net periodic pension and postretirement benefit costs will potentially have a significant impact on Energy & Utility companies that maintain pension and/or postretirement plans. FERC/State vs. US GAAP differences Only service cost will be eligible for inclusion in overhead pools for purposes of capitalization under US GAAP. The FERC has recently indicated that it will allow entities to change their capitalization policy for regulatory accounting and reporting purposes to be consistent with the new US GAAP requirements. This change will be allowed as a one-time policy election upon adoption of the guidance. Companies that wish to make this election will not be required to obtain approval from the FERC Accounting or Rate Staff provided two conditions are met: (1) the change is a onetime election that is only made upon adoption of the guidance, and (2) changes to the capitalization policy must be disclosed in the entity s Form No. 1 or 2 and in any formula rate filings with the FERC. Alternatively, entities may elect to continue to capitalize all components of net benefit cost for regulatory purposes, which would give rise to an additional FERC vs. US GAAP reporting difference. PwC observation: The election allowed by the FERC may not be allowed by individual State Regulators due to the possible negative rate consequences in the near-term, potentially creating a different accounting treatment at the state vs. FERC reporting levels. In deciding whether to make the FERC election, companies should consider the implications of a State Regulator that does not allow for the FERC policy election. Entities will need to consider the structure of their organization and their benefit plans (i.e., which entity is the plan sponsor) in order to assess the impact of the new guidance and to verify if they are eligible to make the election. Refer to the Stand alone vs. consolidated reporting considerations section below for further discussion of benefit plan structures. Accounting entries Examples The accounting applied by a rate-regulated entity will depend on whether the total net benefit cost is greater or less than the service cost component. Below is a simplified list of potential journal entries for each scenario. Example 1 - Service cost is less than net benefit cost Assume: The full amount of net benefit cost is capitalized. The entity does not elect to change its capitalization policy for FERC reporting. The regulated utility is the sponsor of the plan. Service cost is $1,000. Net benefit cost is $1,500. National Professional Services Group In depth 2

3 For FERC / State reporting: Dr. Net benefit cost $1,500 Dr. Plant $1,500 Cr. Net benefit cost $1,500 For US GAAP reporting: Dr. Net benefit cost $1,000 Dr. Other cost* 500 Dr. Plant $1,000 Cr. Net benefit cost $1,000 Entry #3 Dr. Regulatory asset* $500 Cr. Other cost* $500 * Other cost would be presented below the sub-total for operating income, if presented. Regulatory assets would be amortized to the same line item. Example 2 - Service cost is less than net benefit cost Assume: Only 50% of net benefit cost is capitalized. The entity does not elect to change its capitalization policy for FERC reporting. The regulated utility is the sponsor of the plan. Service cost is $1,000. Net benefit cost is $1,500. For FERC / State reporting: Dr. Net benefit cost $1,500 Dr. Plant $750 Cr. Net benefit cost $750 For US GAAP reporting: Dr. Net benefit cost $1,000 Dr. Other cost* $500 Dr. Plant $500 Cr. Net benefit cost $500 Entry #3 Dr. Regulatory asset* $250 Cr. Other cost* $250 * Other cost would be presented below the sub-total for operating income, if presented. Regulatory assets would be amortized to the same line item. National Professional Services Group In depth 3

4 As is shown in the above examples, assuming the costs are probable of recovery from ratepayers, the incremental cost capitalized for regulatory reporting purposes in excess of service cost is recognized as a regulatory asset. The recovery period for the regulatory asset will likely be the average life of the plant assets (assuming no changes in recovery of depreciation expense). In addition, although the above examples are presented on a pre-tax basis, deferred tax balances will be impacted for the balance sheet differences shown above. Consequently, in future periods, both depreciation and regulatory asset amortization amounts will be impacted by the new guidance. Pursuant to the requirements of an entity s regulator, costs of financing construction (including both debt and equity components) may be capitalized through AFUDC as part of the acquisition cost of the plant and equipment in accordance with ASC if inclusion of these costs into future customer rates is probable. The new guidance does not change the current accounting for AFUDC. When service cost is greater than net benefit cost, there are two approaches that can be used to record the changes under the new guidance for US GAAP reporting purposes. As shown in Example 3, in Option A, one method is to record the non-service cost gains as a regulatory liability, assuming it is probable that these gains will ultimately be returned to ratepayers through future reductions in rates, similar to the accounting for refunds of gains in accordance with ASC (c). Alternatively, under Option B, plant is effectively reduced to the allowable FERC/State levels via analogy to disallowance of recently completed plant accounting under ASC Under this methodology, the net amount capitalized in plant under FERC and US GAAP is equal. Example 3 - Service cost is greater than net benefit cost Assume: The full amount of net benefit cost is capitalized. The entity does not elect to change its capitalization policy for FERC reporting. The regulated utility is the sponsor of the plan. Service cost is $2,000. Net benefit cost is $1,500. For FERC / State reporting: Dr. Net benefit cost $1,500 Dr. Plant $1,500 Cr. Net benefit cost $1,500 Option A: For US GAAP reporting: Dr. Net benefit cost $2,000 Cr. Other income* $500 Cr. Benefit obligation 1,500 Dr. Plant $2,000 Cr. Net benefit cost $2,000 National Professional Services Group In depth 4

5 Entry #3 Dr. Other income* $500 Cr. Regulatory liability $500 Option B: For US GAAP reporting: Dr. Net benefit cost $2,000 Cr. Other income* $500 Cr. Benefit obligation 1,500 Dr. Plant $2,000 Cr. Net benefit cost $2,000 Entry #3 Dr. Net benefit cost $500 Cr. Plant $500 * Other cost/income would be presented below the sub-total for operating income, if presented. Under either option, the expense recognition will also be impacted as a result of any pension or postretirement cost trackers that a utility may have as part of its cost recovery structure. In addition, the new guidance creates a mismatch between what is included in operating revenue (rates charged to customers will reflect recovery of the total net benefit cost) as compared to what is included in operating expenses (service cost only). Systems, process, and control considerations Amounts reported under the FERC/State and US GAAP may differ as a result of the new guidance. Over time, these differences will likely grow and the associated asset values will diverge. A key question companies will need to consider is whether such financial statement adjustments can be maintained off-line and recorded as top side adjustments (outside the general ledger), or if a more permanent systems solution is warranted. The cost of a system modification will likely be a key consideration. Regardless, processes and controls will need to be updated to ensure the accuracy and completeness of the information reported under either framework. Companies need to move quickly to assess the potential impact on the systems, processes and controls given that the new guidance will be effective in 2018 for public business entities. Tax considerations Certain companies follow their book overhead capitalization methodology for tax purposes. So the impact of the changes in overhead capitalization will need to be reflected in the tax basis as well. In addition, we believe the income statement classification of taxes related to pension and postretirement costs should follow the book presentation (i.e., presentation above and below the line should be consistent for book and tax). Stand-alone vs. consolidated reporting considerations The impact of adopting the new guidance will largely depend on the structure of the reporting entity and the nature of its benefit plan. If the reporting entity participates in its parent s plan, the impact in its stand-alone financial statements will differ depending on whether the plan is accounted for as a multi-employer or multiple-employer plan under ASC 715. National Professional Services Group In depth 5

6 An entity should first identify the sponsor of the benefit plan. The parent company (Holdco) may sponsor plans on behalf of all subsidiaries. Alternatively, individual subsidiary entities may be the plan sponsors of their own plans. In scenario 1, the subsidiary is the plan sponsor. As a result, the benefit plan would be subject to the accounting guidance in ASC 715, and the impact of the new guidance would be reflected in both the stand-alone reporting of the subsidiary and in the reporting for the consolidated entity. In scenario 2, the parent is the plan sponsor. The impact of the guidance will depend on whether the benefit plan is accounted for as a multi-employer or multiple-employer plan. The following table summarizes the key characteristics of multi-employer and multipleemployer plans as outlined in ASC and , respectively. Multi-employer vs. Multiple-employer accounting Multi-employer (ASC ) Multiple-employer (ASC ) Two or more unrelated employers contribute OR A parent and subsidiary contribute (if the subsidiary issues separate financial statements) Assets are commingled and can be used to provide benefits to employees of other participating employers Participating employers do not select different benefit formulas Employer accounts for the plan as if it were a defined contribution plan and Aggregation of single-employer plans The main purpose is to reduce the cost of plan administration by pooling together the plans of multiple employers Assets are not commingled Participating employers can select different benefit formulas Each employer accounts for its respective interest in the pooled plan and records National Professional Services Group In depth 6

7 Multi-employer (ASC ) Multiple-employer (ASC ) contributions are recorded as net benefit cost Any required contributions that are due and unpaid, as well as any probable withdrawal obligations are recognized as a liability No separate accounting for assets contributed by the participating employers pension costs in accordance with ASC (e.g., defined benefit plan) In the stand-alone financial statements of a subsidiary, participation in a commingled parent-sponsored plan is accounted for in the same manner as if it was a multi-employer plan. For multi-employer plans, the new guidance will only be reflected in the financial statements of the consolidated entity. PwC observation: Under a multi-employer plan, the regulated subsidiary will often make contributions to the parent in accordance with a legal agreement. These contributions determine the benefit cost recorded by the subsidiary. While the parent will be limited to capitalizing only the service component of net benefit cost under the new guidance, the total amount paid by the subsidiary will be reflected as compensation cost and thus, eligible for capitalization. As a result, higher costs could be capitalized at the subsidiary compared to the parent. When the parent is the plan sponsor and the benefit plan is accounted for as a multipleemployer plan under ASC , the impact of the new guidance will be reflected in the financial statements of both the subsidiary and the parent. In multiple-employer plans, multiple single-employer plans are aggregated together to reduce the costs of administering the plans, and the assets are not commingled. Each employer accounts for its respective interest in the assets and records its share of pension costs in accordance with the guidance in ASC , as if it had its own defined benefit plan. As a result, for multiple-employer plans, the new guidance will impact the presentation of benefit costs (i.e., the separate presentation of service and other costs) in both the regulated subsidiary and the consolidated financial statements. What s next The guidance is effective for public business entities for annual reporting periods beginning after December 15, 2017, and interim periods within those reporting periods. For other entities, the guidance is effective for annual periods beginning after December 15, 2018, and interim periods within annual periods beginning after December 15, Early adoption is permitted as of the beginning of an annual period for which financial statements have not been issued or made available for issuance. However, early adoption is only allowed in the first interim period presented in a fiscal year; therefore, early adoption was only permitted in the first quarter of 2017 for calendar year-end public companies. The new guidance is required to be applied on a retrospective basis for the presentation of the service cost component and the other components of net benefit cost (including gains and losses on curtailments and settlements, and termination benefits paid through retirement plans), and on a prospective basis for the capitalization of only the service cost component of net benefit cost. Amounts capitalized prior to the date of adoption should not be adjusted through a cumulative effect adjustment, but should continue to be recognized in the normal course as plant assets are depreciated. National Professional Services Group In depth 7

8 There is a practical expedient for the retrospective application that permits the use of the amounts disclosed for the various components of net benefit cost in the pension and other postretirement benefit plans footnote as the basis for the retrospective application. This would be in lieu of determining how much of the various components of the net benefit cost were actually reflected in the income statement each period as a result of the capitalization of certain costs and their subsequent amortization. Entities should disclose if they elect to use the practical expedient. Impacted companies should consider taking the following actions: Assess benefit plan structures (to determine if a company is eligible for aligning FERC and US GAAP accounting policies). Evaluate the impact to rate-payers and the company s financial statements. If a policy alignment is warranted, consider the need to discuss the policy change with the State Regulator. Consider system, process and control implications. Additional changes may be necessary if policy alignment is not expected. Consider outreach to stakeholders within the organization (e.g., Investor Relations, Budget & Planning, Tax) to ensure awareness of the impact of the new guidance. To have a deeper discussion, contact: Sean Riley Partner sean.p.riley@pwc.com Jillian Pearce Senior Manager jillian.m.pearce@pwc.com on Twitter. Casey Herman Partner michael.a.herman@pwc.com Robert Keehan Partner robert.r.keehan@pwc.com Al Felsenthal Managing Director alan.d.felsenthal@pwc.com 2017 PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors