Financial Accounting Standards Board FASB/IASB/SEC Update 2012 AAA National Meetings Thomas J. Linsmeier, FASB Member August 5, 2012 The views expressed in this presentation are those of the presenter. Official positions of the FASB and IASB are reached only after extensive due process & deliberations.
Topics Financial Instruments Classification and Measurement Impairment Leases Consolidations Disclosure Framework Private Company Decision-Making Framework 2
Financial Accounting Standards Board Accounting for Financial Instruments: Classification & Measurement 3
Subsequent Measurement Subsequent measurement of financial assets based on characteristics & business model for managing them Financial assets that do not pass contractual cash flow characteristics assessment measured at FV-NI Business model assessment leads to three categories - FV-NI - FV-OCI - Amortized cost 4
Subsequent Measurement Characteristics Assessment Financial Assets are eligible for measurement category other than FV-NI if contractual terms give rise on specified dates to cash flows that are solely payments of principal & interest - Principal: amount transferred by holder on initial recognition - Interest: consideration for time-value of money & credit risk associated with principal amount outstanding during period 5
Characteristics Assessment Must be measured at FV-NI Asset that contains component other than principal or interest Asset that only contains principal and interest components - However, those components are modified (e.g., interest rates are reset) and - The modifications create cash flows that are more than insignificantly different from those associated with solely principal and interest components 6
Characteristics Assessment Financial assets with elements of - Contingent cash flows - Prepayment or extension options Can pass contractual cash flow characteristics as long as these characteristics do not create more than insignificant differences with components that are solely principal and interest 7
Business Model Assessment Only applies to financial assets that pass contractual cash flow characteristics assessment Based on business activities for managing financial assets rather than intent or ability Assessment not at individual asset level; at higher level of aggregation associated with business model Not prevented from managing same/similar assets through different business activities 8
Business Model Assessment Amortized cost - Assets held within business model whose objective is to hold assets in order to collect contractual cash flows FV-OCI - Assets managed within a business model whose objective is to both: Hold assets to collect contractual cash flows Sell assets FV-NI (residual category) - Assets that fail the business model assessment to qualify for amortized cost or FV-OCI 9
Subsequent Measurement Financial liabilities generally recognized at amortized cost FV-NI required for - Short sales - Derivative liabilities - Financial liabilities that company has ability & means to transact at fair value at inception 10
Financial Accounting Standards Board Accounting for Financial Instruments: Impairment 11
General Issues with Current U.S. GAAP Complexity in current U.S. GAAP - Five impairment models for financial instruments Too little, too late Need a model that incorporates forward looking information in the impairment assessment 12
Three-Bucket Approach Bucket 1 Bucket 2 Bucket 3 Financial assets begin in Bucket 1, except PCI assets 12 months worth of expected credit losses: Not just the cash shortfalls over the next 12 months Instead, lifetime expected losses on which a loss event is expected in the next 12 months Financial assets transfer to Bucket 2 or 3 when transfer principle is met Full lifetime expected credit losses Evaluated on a group basis Evaluated on an individual basis Transfer Principle 1. More than insignificant deterioration in credit quality, and 2. At least reasonably possible that some or all of the contractual cash flows may not be collected. 13
Impairment Future FASB to-do list Consider feedback/questions raised during outreach - Applying Bucket 1 measurement objective - Determining when to transfer to Buckets 2 or 3 - Resulting LLR may not properly reflect risk - Failing to improve comparability & decision usefulness 14
Financial Accounting Standards Board Leases 15
Why a Leases Project? Existing Lease Accounting Does Not Meet Users Needs Accounting depends on classification Contractual rights & obligations (assets & liabilities) are off balance sheet Many users adjust financial statements Structuring Opportunities Lease classification often based on bright lines Significant difference in accounting on either side of operating/finance lease line 16
Proposed Right-of-use Model A lease contract is one in which the right to control the use of an asset (for a period of time) is transferred to the lessee. Lessor Right of Use Lessee 17
Redeliberations Lessee Model Balance Sheet Income Statement DR ROU asset 2 CR Lease liability 1 Lessee consumes more than insignificant portion of leased asset Lessee does not consume more than insignificant portion of leased asset Amortization expense Interest expense Lease expense 1 Measured at present value of lease payments 2 Initially measured at same amount as liability, plus initial direct costs 18
Redeliberations Lessor Model Lessee consumes more than insignificant portion of leased asset Receivable and residual approach Asset subject to lease Lessee does not consume more than insignificant portion of leased asset Approach similar to current operating lease accounting 19
Receivable and Residual Approach Balance Sheet Income Statement Right to receive lease payments 1 X Profit on transfer of right-of-use (gross or net based on business model) X Residual asset 2 X Interest income on receivable and residual 3 X 1 Present value of lease payments, plus initial direct costs 2 Measured at an allocation of carrying amount of leased asset 3 Interest on residual based on estimated residual value any profit on the residual asset is not recognized until asset sold or re-leased at end of lease term 20
Financial Accounting Standards Board Consolidations 21
Principal vs. Agent Analysis Determine whether decision maker (DM) using power as principal or agent - Affects determination of Whether entity is VIE Whether entity is primary beneficiary of VIE Whether general partner controls partnership/similar entity 22
Consider Three Factors Rights held by other parties (not the DM) Decision maker s exposure to variability from other interests Decision maker s compensation 23
Variable Interest Entities VIE Evaluation Use P/A analysis to determine whether equity holders, as a group, have the power to direct the activities that most significantly affect the VIE s economic performance Lack of this power indicates entity is a VIE Primary beneficiary determination Focuses on whether decision maker has power and economics Decision maker that uses power as agent typically not a primary beneficiary and would not consolidate - unless ID d as primary beneficiary through related party tiebreaker test 24
Voting Interest Entities Changes presumption that a general partner (GP) controls a limited partnership. GP presumably has power (rather than control) - If determined to be principal, GP controls and consolidates - If determined to be agent, GP does not control 25
Financial Accounting Standards Board Disclosure Framework 26
Objective Improve the effectiveness of disclosures in notes to financial statements by clearly communicating the information that is most important to users of an organization s financial statements. 27
Invitation to Comment Major components A decision process for the Board A decision process for reporting entities Organization & formatting of notes to financial statements Other items Interim disclosures 28
Decision Process For Board - Purpose: Help the Board identify disclosures with broad relevance Help the Board in setting variable (flexible) disclosure requirements For Entity - Provide judgment guidance to help entities Identify disclosures that are and are not relevant in their financial statements Facilitate improvements in organization & formatting of notes 29
Financial Accounting Standards Board Private Company Decision-Making Framework 30
Background DP represents staff views & incorporates input from Board members, Board has not yet deliberated content Under FAF s final plan, new Private Company Council (PCC) will jointly develop & approve framework with FASB Once stakeholder input received & PCC seated, Board and PCC will jointly deliberate 31
Purpose and Approach Not intended to be entirely new conceptual framework Intended to help facilitate decisions & drive consistency Fundamental approach retains & improves information relevant to typical users Seeks to reduce cost & complexity where appropriate, but not in a way that adversely affects reporting of relevant information 32
Basis for Staff Recommendations Establish considerations for determining relevant info given limited number & type of users How users typically use private company financial statements Impact of delayed issuance of private company statements No modifications/ exceptions if information is relevant to typical users 33
Basis for Staff Recommendations Reduce preparer & users costs by modifying/making exceptions to some requirements to provide relevant information Management access considered only as mitigating factor affecting types of exceptions/modifications to consider when reporting does not provide information most relevant to typical users 34
Differential Factors Six significant factors that most differentiate private / public company reporting considerations Types & number of financial statement users Access to management Investment strategies Ownership & capital structures Accounting resources Learning about new financial reporting guidance 35
Framework Structure Five modules Recognition and Measurement (R&M) Display (Presentation) Disclosures Effective Date Transition Method 2-5 pages per module, flowcharts where appropriate Modules include background, summary & basis for recommendations 36
Financial Accounting Standards Board Questions & Answers 37
Questions & Answers This slide presentation will be available for download on Monday, August 6 at www.fasb.org the link will be located on the home page, under the Recent Activities and News section 38