Presented by: Ray G. Stephens Ohio University

Transcription

1 Presented by: Ray G. Stephens Ohio University

2 RAY G. STEPHENS Ray G. Stephens, D.B.A., C.P.A., C.M.A., CGMA, is Professor of Accountancy at Ohio University. He was James E. Daley Professor from 2004 to 2007, Director of the School of Accountancy from 1999 to 2007, and Director of the Ohio Center for Professional Accountancy from 2007 to 2011 at Ohio University. His current teaching and research interests are in corporate financial reporting and attest services. Professor Stephens earned his doctorate from the Graduate School of Business Administration, Harvard University (D.B.A.).. He was KPMG Peat Marwick Professor of Accounting at Kent State University for eight years, a faculty member at The Ohio State University for thirteen years, and has also held instructional positions at Harvard University, East Carolina University, Boston University, and the American College in Paris (France). Professor Stephens is the recipient in 2008 of the Ohio Society of CPAs 100 th Anniversary Most Influential Accountant in First 100 Years award, was the recipient of the Ohio Society of CPA s Gold Medal in 2004 and the 2004 National Beta Alpha Psi Business Information Professional in Education Award, was the 1995 Ohio Outstanding Accounting Educator, and formerly served a term on the Accountancy Board of Ohio ( ; chair ). He is serving as a member of NASBA s Regulatory Response Committee and its International Task Force and on the AICPA s FAR Subcommittee of the CPA Examination Content Committee (member , Chair since 2011) and a member of the CPA Examination Content Committee. Professor Stephens has several years of banking experience, has been involved in consulting projects with public companies and has served extensively as a consultant and expert witness in accounting and auditing. He is a frequent instructor for executive and continuing education programs and was awarded an AICPA Outstanding CPE Instructor in 1991 and the Ohio Society of CPA's Outstanding Discussion Leader in Dr. Stephens serves as a managing member of Virginia Electronic & Lighting LLC and Appalachian Visiting Nurse Association, Hospice and Health Services, Inc. He is a former Academic Accounting Fellow at the Securities & Exchange Commission, a former Senior Academic Fellow in the Office of the Auditor of the State of Ohio, and a former Faculty Resident with Arthur Andersen & Co., and currently serves as the North American Accounting and Auditing Consultant for CPA Associates International, Inc. Professor Stephens has authored numerous books and articles. April 9, 2013\

3 A&A Update for Presented by: Ray Stephens, CPA, CMA, CGMA, DBA Professor of Accountancy Ohio University (740) Standards Setting Issues 2 Standard Setters FASB EITF (after approval by FASB) Private Company Council (after endorsement by the FASB) FINREC (industry standards and technical practice aids to implement standards, formerly AcSEC) 3 1

4 FASB Board Russell Golden, Chairperson (2017) Daryl Buck (2015) James Kroeker, Vice Chairperson (2018) Thomas Linsmeier (2016) Harold Schoeder (2015) Marc Siegal (2018) Lawrence Smith (2017) 4 Private Company Council Now active FASB has issued a document about the issues to be considered when a private company would not have to meet standards of a public company (Private company definition under consideration several definitions of nonpublic) 5 PCC Proposals Simplified accounting for interest rate swaps Recognition of identifiable intangibles only when based on contract or other legal requirements Goodwill to be amortized over life of primary assets, not longer than ten years, and impairment at the entity level 6 2

5 Interest rate swap accounting Two methods available to all but public entities, not-for-profit entities, employee benefit plans, and financial institutions (1) Combined instrument approach (2) Simplified hedge accounting approach Accounting policy choice applicable to all swaps 7 Combined instrument approach Same index Plain vanilla Amount equal to or less than the floating rate borrowing Approximately the same term Repricing, settlement, and effectiveness approximates the terms of borrowing 8 Combined instrument approach Disclosure of the settlement value Disclosure of amount under the swap and the amount not covered for a borrowing Contingent credit features and triggering events Gains and losses if any 9 3

6 Simplified hedge accounting Same criteria as combined instruments approach except: Term could be less than the borrowing Effectiveness not at the same time as the borrowing Accounting policy choice for individual swaps 10 Simplified hedge accounting Measurement would be the settlement value rather than fair value Determination as a hedge could occur within a few weeks rather than concurrently with the initiation of the swap 11 PCC Proposals Applying Variable Interest Entity Guidance to Common Control Leasing Arrangements would replace consolidation with disclosure under certain conditions but entity would apply ASC 840 (Leases) and ASC 460 (guarantees) 12 4

7 Private Company Not a public entity Not a not-for-profit entity Not an employee benefit plan 13 VIE Replacement Criteria Entities under common control Private company has a leasing arrangement Substantially all of the activity between the entities are the leasing arrangement 14 Disclosure Key terms of the leasing arrangement Amount of debt or liabilities of the lessor entity Key terms of the debt arrangements Key terms of any other interest related to the lessor 15 5

8 Removal for all The implicit variable interest entity requirements would be removed for all entities 16 Status of FINREC (AcSEC) Historically, AcSEC issued SOPs (subject to FASB clearance) which were authoritative standards (e.g., SOP 98-1 on internal use software and SOP 97-2 on software revenue recognition) In 2003, FASB announced that after a transition period, AcSEC would no longer be permitted to issue SOPs as authoritative standards Now A&A Guides, TPAs 17 Grandfathered GAAP GAAP in category c or d of prior hierarchy if its effective date was prior to March 15, 1992 EITFs in category c of prior hierarchy if its effective date was prior to March 16, 1993 Superseded standards with continuing impact in financial statements, currently effective from SFAS 168 on next slides 18 6

9 Superseded But Still Effective (not in the ASC) Poolings (APB 16) Business combinations under APB 16 or SFAS No authoritative guidance First consider accounting principles within authoritative guidance unless Prohibited application to transactions Prohibited use of analogy Use of nonauthoritative see next slide 20 Nonauthoritative Industry practices FASB Concepts Statements AICPA Issues papers IASB standards AICPA Technical Practice Aids Accounting textbooks, handbooks and articles 21 7

10 Impact of Commercial Substance Be alert for transactions whose form is different than their substance (commercial substance now defined in ASC ) Accounting should always be based on substance Non-substantive parts of transactions are ignored Indicators Transactions undertaken or substantially revised in effort to obtain particular accounting treatment Transactions that don t appear to make economic sense on their own Often an issue in SEC enforcement cases 22 Accounting Standards Updates Replaces SFAS, FINs, FASB Staff Positions, EITF Abstracts Not authoritative in their own right Used to update the Codification Lists of ASUs issued in 2012 and ASU Clarifies disclosures for off-setting for recognized assets and liabilities for derivatives, repurchase agreements, and securities lending transactions (originally in ASU ) Effective now 8

11 LIST OF 2012 ACCOUNTING STANDARDS UPDATES ASU Continuing Care Retirement Communities Refundable Advance Fees (ASC 954) ASU Testing Indefinite-Lived Intangible Assets for Impairment (ASC 350) ASU Technical Amendments and Corrections to SEC Sections: Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 114, Technical Amendments Pursuant to SEC Release No , and Corrections Related to FASB Accounting Standards Update ASU Technical Corrections and Improvements (multiple topics) ASU Not-for-Profit Entities: Classification of the Sale Proceeds of Donated Financial Assets in the Statement of Cash Flows (ASC 230) ASU Subsequent Accounting for an Indemnification Asset Recognized at the Acquisition Date as a Result of a Government-Assisted Acquisition of a Financial Institution (Topic 805) ASU Accounting for Fair Value Information That Arises after the Measurement Date and Its Inclusion in the Impairment Analysis of Unamortized Film Costs (Topic 926)

12 LIST OF 2013 ACCOUNTING STANDARDS UPDATES 1 ASU Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities (Topic 210) ASU Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income (Topic 220) ASU Clarifying the Scope and Applicability of a Particular Disclosure to Nonpublic Entities (Topic 825) ASU Obligations Resulting from Joint and Several Liability Arrangements for Which the Total Amount of the Obligation Is Fixed at the Reporting Date; a consensus of the FASB Emerging Issues Task Force (Topic 405) ASU Parent s Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity; a consensus of the FASB Emerging Issues Task Force (Topic 830) ASU Services Received from Personnel of an Affiliate; a consensus of the FASB Emerging Issues Task Force (Topic 958) (also has an effect under Topic 954) ASU Presentation of Financial Statements: Liquidation Basis of Accounting (Topic 205) ASU Financial Services Investment Companies (Topic 946) ASU Deferral of the Effective Date of Certain Disclosures for Nonpublic Employee Benefit Plans in Update No (Topic 820) ASU Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes (Topic 815) ASU Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists 1 Updated through November 1, 2013

13 ASU Gross amounts of assets and liabilities Amounts offset to determine net amounts Amounts subject to master netting arrangement or other similar Other amounts from either management decision not to off-set or collateral Net amounts if affected by prior bullet ASU Covers disclosures of reclassifications out of accumulated other comprehensive income If presented in its entirety to net income, examples are in the disclosure If amounts reclassified to assets or indirectly to expenses (for example, periodic pension cost), cross reference to those disclosures ASU Effective for periods beginning after December 15,

14 ASU Clarifies that nonpublic entities of any size do not have to provide level of fair value disclosure when the fair value is only a disclosure, not on the statement of financial position Effective now ASU Specifies that the amount to be recorded when there is joint and several liability is the sum of: Amount it has agreed with its co-obligors to pay Additional amount it would have to pay on behalf of its co-obligors ASU Amount must be fixed as of the reporting date (but may change due to items such as additional borrowing or change in interest rate) Disclosure of the nature and amount of the joint and several liability Effective for fiscal years beginning after December 15,

15 ASU Cumulative translation adjustment goes to net income when controlling interest is lost within a foreign entity (except in substance real estate sale or oil and gas conveyance) only when complete or substantial liquidation For equity method in a foreign entity, changes in ownership means partial amount goes to net income ASU If equity method and within a foreign entity, then reclassification only if complete or substantial liquidation For loss of control of a foreign entity or for an acquisition by stages, cumulative transition adjustment released into net income ASU Public entities: Prospectively in periods beginning after December 15, 2013 Nonpublic entities: Prospectively in periods beginning after December 15,

16 ASU Services received from an affiliate of a notfor-profit organization Applies when the affiliate does not charge personnel costs or fair value for the services Recognize contributions either at the cost to the affiliate or the fair value if different Effective prospectively for fiscal years beginning after June 15, 2014 ASU Requires health care entities to recognize the amount as an equity increase in net assets Usual disclosures for contributed services FASB did not provide guidance on how to capture the amounts to be recognized ASU Liquidation basis of accounting for either voluntary or involuntary liquidation Statement of Changes in Net Assets in Liquidation Statement of Net Assets in Liquidation Required after December 15, 2013; early adoption allowed 12

17 ASU Financial Services Investment Companies: Amendments to the Scope, Measurement, and Disclosure Requirements Effective for investment companies for fiscal periods beginning after December 15, 2013 early implementation is prohibited 37 Investment Company Determination Entities subject to Investment Company Act of 1940 Other entities which both: Provide investment management services for fund suppliers Only substantive activities are providing returns to its investors from investment income and capital appreciation (see additional guidance) 38 Measurement Assets measured at fair value under ASC 820 Fair value practical expedient for net share evaluation included No longer equity method for any investments 39 13

18 Disclosure Investment company status Change in status, if applicable Financial statement impact of change in status, if applicable 40 Transition Cumulative effect adjustment of if changed to investment company Entity not deemed to be an investment company shall discontinue use of investment company accounting prospectively 41 ASU Deferral indefinitely of the disclosures for pension plans concerning the effective date for certain disclosures about investments held by a nonpublic employee benefit plan in the plan sponsor s own equity securities 14

19 ASU Inclusion of the Fed Funds Effective Swap Rate (or Overnight Index Swap Rate) as a Benchmark Interest Rate for Hedge Accounting Purposes 43 ASU Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists Public entities for periods beginning after December 15, 2013 Nonpublic one year later 44 ASU Present as a reduction in deferred tax asset except: Jurisdiction does not allow Jurisdiction does not require and entity does not intend If liability, timing of use is used to present in a classified balance sheet 45 15

20 International Convergence FASB/IASB Memorandum of Understanding (Oct 2002): both the FASB and IASB pledged to use their best efforts to make their existing financial reporting standards fully compatible as soon as is practicable and to coordinate their future work programs to ensure that once achieved, compatibility is maintained. 46 Objective of Convergence To achieve compatibility, the FASB and IASB agree, as a matter of high priority, to: undertake a short-term project aimed at removing a variety of individual differences between U.S. GAAP and IFRSs; remove other differences between IFRSs and U.S. GAAP that will remain at January 1, 2005, through coordination of their future work programs; continue progress on the joint projects that they are currently undertaking; and, encourage their respective interpretative bodies to coordinate their activities. 47 Revised Memorandum of Understanding Most recent version has most convergence projects being completed by

21 Convergence Issues IASB s macro-hedging (IAS 39) IASB election to revalue nonmonetary assets LIFO inventory accounting Insurance issues 49 Convergence Issues Even joint convergence projects may not lead to identical standards Revenue recognition Leases Financial instruments Investment companies 50 Adoption Convergence Condorsement SEC and IFRS SEC Staff report on issues now out, but former SEC Chair Mary Shapiro said SEC is far away from decisions 51 17

22 Revenue Recognition Changes in the forthcoming second Re-Exposure ASU 52 Elements of Recognition (a) identify the contract with a customer, (b) identify the separate performance obligations in the contract, (c) determine the transaction price, (d) allocate the transaction price to the separate performance obligations, (e) recognize revenue when a performance obligation is satisfied. 53 Distinct Performance Obligations (a) it is sold separately by the customer (b) Customer can use either together or separately with other available resources But treated as one if (c) It is highly inter-related and entity bundles (d) No significant modification occurs 54 18

23 Distinct Performance Obligations Offerings in the distribution network at the time of sale would be a separate performance obligation Contract modifications are being changed so that it results in termination of old and creation of new (paragraph 22a) Practical expedient in paragraph 30 (delivery over same time removed) 55 Transaction Price Fixed versus variable If variable from rebates or contingencies, then probability weighted Must be able to identify possible outcomes and reasonably estimate probability of outcomes 56 Transaction Price Adjust for the time value of money if a significant financing component Collectability should not be considered in the recording of revenue May move the applicability of the constraint on revenue recognition to determination of the transaction price 57 19

24 Transaction Price Constraint means not recognizing revenue subject to future reversal 58 Price allocation Allocate on standalone prices If standalone prices are not observable, then estimates of standalone prices Updated with changes over the life of the contract 59 Price allocation Residual method is retained when one or more distinct performance obligations are highly variable Allocation of discount (to multiple performance obligations) and contingent consideration (to a single performance obligation) were retained 60 20

25 Satisfaction of obligation Discrete transfer of good or service customer has right to direct the use and receive the benefit Continuous transfer method best depicts Output methods Input methods Passage of time 61 Satisfaction Conditions The customer has an unconditional obligation to pay for the asset (and the payment is nonrefundable). The customer has legal title to the asset (except in some cases). The customer can sell the asset to (or exchange the asset with) another party. The customer has physical possession of the asset (except in some cases). The customer has the practical ability to take possession of the asset. 62 Contract Costs Costs of obtaining a contract as incurred unless incremental costs expected to be recovered (selling, marketing, direct response advertizing) Direct costs of contract (or anticipated contract) fulfillment as an asset if Generate resources for satisfaction of contract (some may be under other standards such as inventory, PPE, and Software) Are Probable of recovery Consideration of onerous performance 63 21

26 Direct cost recognition If not covered by other standards, then amortize as goods and services are delivered Impairment testing by comparing carrying amount to amount recoverable 64 Methods Output methods Units produced or delivered Contract milestones Surveys of good or services transferred Input methods Percentage of costs incurred 65 Collaborative arrangements Not limited to development and commercialization May result in revenue if a customer 66 22

27 Exceptions Leases ASC 840 Insurance Contracts ASC 844 Financial Instruments See next slide Guarantees (other than product warranties) ASC 460 Nonmonetary exchanges to facilitate sales to customers 67 Financial Instruments (i) Topic 310 on receivables; (ii) Topic 320 on debt and equity securities; (iii) Topic 405 on extinguishments of liabilities; (iv) Topic 470 on debt; (v) Topic 815 on derivatives and hedging; (vi) Topic 825 on financial instruments; and (vii) Topic 860 on transfers and servicing; 68 Disclosures The nature of contracts that it enters into with customers and the related accounting policies The principal judgments used in accounting for contracts with customers A reconciliation of the beginning and ending net contract position(s) public only The total amount of outstanding performance obligations and the expected timing of their satisfaction Information about onerous contracts, including the extent and amount of such contracts and the reasons for them becoming onerous

28 Product Warranties Latent defects retains current guidance Defects arising after transfer separate performance obligation Compensation for harm or damages under law no separate, ASC applies 70 Right of return No revenue recognition initially, refund liability for estimate Update refund liability Recognize asset for right to recover, initially measured as cost of goods Return service is not a separate asset 71 Licensing Contracts Entire and exclusive consider as a sale Not entire, but exclusive treat like a lease and recognize over time Others a license with a single performance obligation Must consider whether contract includes other performance obligations 72 24

29 Licensing Contracts Constraints an important issue for licensing contracts which have the impact of royalty payments based on sales by the licensee 73 Other Issues Accounts receivable (unconditional except for time but not creditworthiness) versus contract asset or liability (only one) Options for further acquisitions by a customer Gross versus net Aggregation and separation of contracts 74 Other Issues Bill and hold sales Repurchase arrangements Consignment arrangements Lots of changes to industry guidance to bring into conformity 75 25

30 CONSOLIDATIONS 76 Business Combinations Acquire a majority of the voting interests in a single transactions Acquire control by contract only Acquire control by stages Acquire control with no consideration 77 Addressing Potential for VIEs Does a company have: Leases Loan guarantees Purchase options on leases Purchase contracts on leases Assignment of rights Implicit arrangements Purchase arrangements for materials, etc

31 VIE CONSOLIDATION Involvement with entity Determination of variable interest entity Determination of primary beneficiary Consolidation by primary beneficiary Book values Fair values 79 Involvement Determination of VIE status termed involvement Involved with an entity in economic way Structuring the VIE by entity, related party, agent or de facto agent Involvement more than insignificant If none of the above, no determination required 80 Determination as VIE A variable interest entity or VIE meets either of the following five conditions: The equity investment is insufficient to allow the entity to finance its activities without additional subordinated financial support Presumptively less than 10% of total assets Must meet GAAP definition of equity OK to have voting and nonvoting classes in some circumstances 81 27

32 Determination as VIE The equity investors as a group lack any of the three characteristics commonly associated with a controlling financial interest Voting or similar rights that control the entity (ASC ; ASC ) Unlimited obligation to absorb the entity s losses Unlimited right to receive the entity s residual returns The control differs significantly from its interests in one of the three categories above 82 When to Assess Scope Conditions Scope conditions assessed upon an entity s initial involvement with another entity due to changes may require annual reassessment from items such as: 1. Changes in governing documents of the entity or contractual arrangements among the parties involved with it 2. Distributions to equity investors that cause other parties to become exposed to expected losses 3. Changes to the activities of the entity or acquisition of additional assets that increase its expected losses 83 Expected Losses ASC Entity s expected losses = A. Expected downside variability in net income or loss B. Expected downside variability in FV of entity s assets 84 28

33 Expected Residual Returns Entity s expected residual returns = A. Expected upside variability in net income or loss B. Expected upside variability in FV of entity s assets C. Fees paid to the decision maker (but see next slide) D. Fees paid to certain guarantors 85 ASU Fees paid to a decision maker for investment companies may not fall into expected residual returns if: Commensurate with efforts No more than insignificant in relation to expected returns Employees exclusion for related parties removed 86 Implicit Variable Interest ASC , This is applicable to both nonpublic and public reporting enterprises. This issue commonly arises in leasing arrangements among related parties, and in other types of arrangements involving related parties and unrelated parties. FASB has proposed to remove this as part of Applying Variable Interest Entity Guidance to Common Control Leasing Arrangements 87 29

34 Implicit Variable Interest An implicit variable interest is an implied pecuniary interest in an entity that changes with changes in the fair value of the entity s net assets exclusive of variable interests. Indirectly receiving, rather than directly receiving, variability from an entity 88 Implicit Variable Interest Agreements to replace impaired assets Other agreements to protect variable interest holders Fair value guarantees (exit price guarantees) Relationship with a related party that would increase a lease payment in the event of increases in loan payments 89 Variability Considerations ASC , Two step process for determining variability and assignment to entities Determine nature of risks (variability) Determine how risks are transferred through liabilities, equities, contracts, subordination, and derivatives, and implicit arrangements 90 30

35 Primary Beneficiary Qualitative Analysis Primary Analysis is a qualitative analysis Power to direct matters significant to the variable interest entity Right to receive benefits or obligation to absorb losses significant to the variable interest entity If cannot determine primary beneficiary under qualitative, then quantitative or implicit 91 Primary Beneficiary Quantitative Analysis Primary Beneficiary (PB) is the entity that Absorbs a majority of the VIE s expected losses AND / OR Receives a majority of the VIE s expected residual returns An enterprise that is considered a VIE s decision maker is very likely to be the PB Decision maker is the entity responsible for the purchase or sale of assets or other operating decisions that significantly affect the VIE s revenues, expenses, gains, or losses PB formula is weighted toward the decision maker when interests that bear expected losses are effectively dispersed 92 Primary Beneficiary, Continued If there is no variable interest holder that has either a majority of the VIE s expected losses or a majority of the VIE s expected residual returns, then the VIE has no PB and is not consolidated 93 31

36 General Partners General partners cannot use control exemptions (kick out rights and substantive participations by limited partners) as a rationale for not being the primary beneficiary 94 Related Parties In addition to ASC xx (SFAS No. 57) related parties, an entity must treat variable interests held by the following other parties as its own in determining if it is the PB Consolidated VIEs Parties that cannot operate without significant support from the entity Agents or de facto agents Parties that received their interests as a contribution from the entity Board members of the entity Employees of the entity 95 Related Parties If there is a related party group which meets which meets the requirements for primary beneficiary, then one member will be the primary beneficiary even though individually no entity meets the requirements 96 32

37 Related Parties, Continued If the primary beneficiary is a related party group, the following hierarchy determines which party in the group consolidates: 1. In an agency relationship, the principal (not the agent) 2. The party with activities most closely associated with the VIE 97 When to Assess Primary Beneficiary PB assessment performed upon an entity s initial involvement with a VIE due to changes may require annual reassessment from items such as: A change in the VIE s governing documents or contractual arrangements among the parties with interests in the VIE The original PB would reassess its status as PB if it sells or reduces its interest in the VIE A party that acquires newly issued interests of the VIE or some or all of the original PB s interest in the VIE would reassess its status to determine if it is now the PB 98 Measurement PB must measure assets, liabilities, and noncontrolling interests of a VIE at fair value upon initial consolidation unless: The PB and the VIE are under common control The PB transferred assets and/or liabilities to the VIE at or shortly before becoming the PB 99 33

38 Measurement, Continued Apply allocation methodology in ASC 805 to the excess fair value of net assets consolidated over consideration given and previous carrying value of interests in the VIE Recognize excess of consideration given and previous carrying value of interests in the VIE over fair value of net assets consolidated immediately as an extraordinary loss 100 Presentation Equity of consolidated variable interest entity not owned by the consolidating entity is shown as noncontrolling interest on the consolidated financial statements whether book consolidation or fair value consolidation. Intercompany transactions are eliminated. 101 Disclosure Requirements All entities with significant variable interests in a VIE must disclose: Nature, purpose, size, and activities of the VIE PB must also disclose: Carrying amount and classification of the assets of the consolidated VIE that collateralize the VIE s obligations Restrictions on recourse from VIE s creditors to the PB Enterprises other than the PB must also disclose: Nature of involvement with the VIE and when that involvement began Maximum exposure to losses due to involvement with the VIE

39 Disclosure Requirements Disclosure to separate: Non-consolidated but entity is sponsor or has a significant variable interest and methodology for making the determination Consolidated entities and changes in consolidation from prior period 103 Disclosure In many related party lease arrangements, the owners of the operating entity are also the owners of the variable interest entity being consolidated. Disclosure is not prohibited of that both the stockholders equity and the noncontrolling interest are the same parties. 104 Combined Financial Statements No requirement to consolidate Entities under common control Always a book combination

40 PROPOSED LEASE ASU FASB re-exposure in Current Lease Standards IAS 17 versus SFAS 13 capital leases Both use title transfer Both use bargain purchase Substantially all versus Present value greater than 90% of fair value Major part versus 75% of life 107 Lease Codification ASC 840 would be replaced by ASC 842 All industry specific guidance with an 840 subtopic would be eliminated No effective date set yet

41 Two Lease Models Interest and amortization model (the model in the original exposure draft) Now Type A Straightline lease expense model (the new alternative adopted on June 12, 2012) Now Type B 109 Separating Types Type A for assets other than buildings or parts of building Type B for leases of building or parts of buildings 110 ASU Exposure Draft Issued originally August 17, 2010 Re-exposed on May 16, 2013 Would replace current ASC 840 Effective date to be determined later

42 Lease A contract in which the right to use a specified asset (the underlying asset) is conveyed for a period of time, in exchange for consideration 112 Right to control requirements Right to use the asset or direct others to use the asset while obtaining more than an insignificant amount of output or utility OR Right or ability to control physical access while obtaining more than an insignificant amount of output or utility OR 113 Right to control requirements Entity obtains all but an insignificant amount of output or utility of the asset BUT does not pay a contractually fixed amount or the current market price per unit of output or utility (this will be treated as payment for product or service not a lease)

43 Leases Applies to all leases, including subleases, of right-of-use assets except those scoped out Right-of- use assets refer to the lessee underlying assets refer to the lessor, which leases part of the asset to the lessee who records the right-of-use asset 115 Scope Exceptions Leases of intangible assets ASC 350 Revenue recognition proposal would put only licenses which are non-exclusive and non-entire term under proposal for leases Leases of biological assets ASC 905 on agriculture 116 Scope Exceptions (continued) Leases to explore for or use minerals, natural gas and similar non-regenerative resources ASC 930 on mining and ASC 932 on oil and gas Not specific in the exposure draft, inventory and precious metals would not be included under leases

44 Scope Exceptions (continued) Contracts which represent a purchase or sale of an underlying asset Transfer of control and all but trivial amount of risks and benefits Lease after the lessee has exercised option to purchase treated as a purchase (lessee) and sale (lessor) at the point 118 Objective Establish principles that lessees and lessors shall apply to report relevant and representationally faithful information to users of financial statements about the amounts, timing and uncertainty of the cash flows arising from leases. 119 Multiple Element Contracts - I Lessee and lessor would have to determine if contract had service elements and lease elements distinct or not distinct ED on revenue recognition for multiple element arrangements would be used to determine if service element is distinct from lease element using concept of stand-alone value

45 Multiple Element Contracts - II Stand-alone value: Sold by vendor separately Sold by others separately Sold by customer If contract did not meet requirements of multiple elements, entire contract would be treated as a lease 121 Multiple Element Contracts - III Multiple element determination would also apply to existing leases at transition and if met, only the lease element would be capitalized 122 Distinct service elements Entity or another entity sells the service separately Distinct function Distinct profit margin

46 LESSEE ACCOUNTING 124 Two Lease Models Interest and amortization model (the model in the exposure draft) Straightline lease expense model (the new alternative adopted on June 12, 2012) See next page for details of separation 125 Recognition Interest and Amortization Model Recognize a right-of-use asset and a liability to make lease payments at the date of commencement of lease Make the same recognition for all existing leases at the effective date

47 Lease Term I The lease term is the noncancellable period for which the lessee has contracted with the lessor to lease the underlying asset, together with any options to extend or terminate the lease when there is a significant economic incentive for an entity to exercise an option to extend the lease, or for an entity not to exercise an option to terminate the lease. Lease term II Extensions and lease terminations shall be considered in determining the more likely than not term contractual terms Non-contractual terms such as alternatives and financial consequences of lease extensions and terminations 128 Lease term III Business factors such as crucial assets for operations, location factors, and specialized assets Lessee factors such as intentions and past practice

48 Initial Measurement of lease liability Present value of lease payments over the lease term would be a liability based on interest rates by lessee for similar terms Would apply to all leases in existence at the time of transition at the date of opening balance sheet of the earliest comparative period as a retrospective application 130 Lease payments Probability weighted cash flows including Contingent rentals payable using forward rates or indices if available, other current rates or indices Residual value guarantees Payments under term option penalties Price of purchase option is not included 131 Residual values Depend on the longest term more likely than not Contractual obligation for residual values if returned to lessor at the end of that term Lessee would estimate the amount to be paid under the residual value guarantee

49 Discount rates Rate the lessor charges the lessee if it can be readily determinable Otherwise, the lessee s incremental borrowing rate -- rate for similar terms and similar security the lessee would have to pay to purchase a similar underlying asset 133 Right-of-use assets Right-of-use asset is An asset that represents the lessee s right to use, or control the use of, a specified asset for the lease term. Once recognized, ASC 840 would not apply to the right-of-use asset except that (1) amortization is required and (2) impairment testing is required (ASC 350) 134 Initial Measurement of right-of-use asset Amount of lease liability Plus the amount of initial direct costs recoverable costs directly attributable to negotiating and arranging a lease that would not have been incurred had the lease transaction not have been made

50 Initial direct costs - I Commissions Legal fees Evaluation of credit worthiness Evaluation and recording of guarantees, collateral and other security arrangements Negotiating lease terms 136 Initial direct costs - II Preparing and processing lease documents Closing the transaction Other direct cost incremental to the specific lease 137 Not initial direct costs General overheads Unsuccessful origination efforts Idle time Lessor costs for advertising, solicitation, servicing existing leases, or other ancillary activities

51 Subsequent measurement of lease liability - I Adjust the lease liability for changes in the lease term this will be a balance sheet change in the lease liability Adjust the lease liability for changes in contingent rentals, residual value guarantee estimates, and term option payment estimates 139 Subsequent measurement of lease liability - II Changes in other than lease term related to prior or current period will be income statement impact in current period Changes in other than the lease term related to future periods will adjust the lease liability a balance sheet change in the lease liability 140 Subsequent measurement of right-of-use asset I Systematic amortization in accordance with ASC 350 over shorter of lease term or useful life significant discussion now going on in joint meetings Impairment in accordance with ASC 350 with impairment test required at each reporting date

52 Subsequent measurement of right-of-use asset II Changes in the lease term Changes in other than the lease term (contingent rental estimates, residual value guarantee estimates, term option payment estimates) that relate to future periods 142 Expensing Lease liability is amortized using the interest amortization method and the expense (cash payment minus lease liability amortization) is termed interest expense The amortization of the lease asset is termed depreciation expense or amortization expense 143 Straightline Lease Expense Model Recognize a right of use asset Recognize a liability for the discounted expected cash payments Total expense is straightlined over the lease term Expense is termed lease expense

53 Straightline Lease Expense Model Lease liability is adjusted based on interest amortization model Leased asset is adjusted for the amortization of the liability plus any amount needed to straightline the expense 145 Statement of cash flows Lease payments are operating activities The right of use asset is treated as supplemental non-cash transaction 146 Less than one year economic term Use of simplified method and amounts for less than one year with option Record asset and liability without discounting Do not record either asset or liability

54 Subleasing by a Lessee Intermediate Lessor is treated both as a lessee and a lessor. Presentation Right-to-use asset Right to receive payments Lease liabilities Reported net 148 TRANSITION - Lessees 149 Date of Transition Recognize the impact of all existing lease on the beginning balance sheet of the earliest year presented and retrospectively adjust comparative periods as if the accounting principle had been in place Simplified retrospective method follows

55 Existing Capital Leases No change required unless there are: Options Contingent rentals Term option penalties Residual value guarantees Required to recalculate if any of the above are in place 151 Existing Short-term Operating Leases Recognize a liability at the amount of future lease payments (undiscounted) Recognize a right-of-use asset at the same amount The election allowed in paragraph is not allowed at transition 152 Existing Other Operating Leases Recognize a liability for each lease measured at the present value of remaining lease payments Recognize a right-of-use asset at the amount of the liability, unless impaired Adjust the right-of-use asset for any prepaid or accrued lease payments

56 Lease Disclosures 154 Nature of lease arrangements - I General description Contingent rentals Existence and contingencies for options, including renewals and termination Description of which options were and were not included as part of the right-of-use asset Terms allowing purchase of the asset 155 Nature of lease arrangements - II Amortization assumptions and judgments and changes Residual value guarantees Initial direct costs during the period and those included in the right-of-use asset Restrictions imposed by lease arrangements Information about leases not yet commenced

57 Other Disclosures Nature and amount of subleases Short-term leases and for lessees, amount recognized (if the option to record is chosen) 157 Lessee Disclosure Sale and leaseback transaction disclosure Reconciliation of right-to-use assets and lease obligations for interest and amortization leases Single maturity analysis for both models 158 Lessee Disclosure Reconciliation of gross obligation and amounts of assets and liabilities in the financial statements for interest and amortization leases (not convergence) Information to aid user in understanding

58 Lessor Accounting 160 Lessor Accounting The two model approach would also be used by lessors In addition, the lessor would have to determine whether to record as a reduction in assets (originally the derecognition approach, now the receivable and residual approach) 161 Lessor Accounting If not the receivable and residual approach, treat like an operating lease Leveraged leases would be treated like any other lease, no special accounting

59 Receivable and residual approach Recognize a receivable at discounted cash flows using interest rate Initially recognize the underlying asset at the gross residual amount which includes deferred gross profit Accrete over the lease term to the gross residual amount 163 Receivable and residual approach Do not recognize the deferred gross profit until the asset is sold 164 FINANCIAL INSTRUMENTS

60 Measuring at Fair Value Issue 1: What constitutes a financial instrument and should all financial instruments be included? What about nonfinancial assets and liabilities? Issue 2: What constitutes fair value and how should it be measured? Issue 3: How should changes in fair value be included in the financial statements? 166 ASC xx (SFAS 157) Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Definition now effective for all fair values in US GAAP 167 ASC 820 (SFAS 157) did not change Did not require any fair values, only defines fair values and disclosures for fair values otherwise required Did not change the applicability of SFAC No. 7 (as originally specified in SFAS 149)

61 Exceptions from ASC 820 Share Based Payments in ASC 718 (SFAS 123R) voted to change wording VSOE Vendor specific objective evidence requirements ASC 330 (ARB 43 inventory pricing) Lease assets and liabilities Practicability exceptions not overridden 169 ASU FAIR VALUES Convergence with IFRS Effective for public entities for interim and annual periods beginning after December 15, 2011, no early adoption Effective for nonpublic for fiscal periods beginning after December 15, 2011 Disclosures covered later 170 ASU FAIR VALUES Convergence standard Measurements in US GAAP Blockage factors (premium or discount) limited for level 2 and level 3 fair values Highest and best use only applies to nonfinancial assets Fair value for equity instruments Portfolio management

62 ASC 820 Levels of Fair Values Three levels in SFAS ASC 820 Level 1 Quoted prices in active markets for identical items Level 2 Observable market inputs other than quoted prices in active markets for identical items Level 3 Measurements based on entity inputs developed by the entity and not derived or corroborated by market inputs 172 ASC 820 Level 2 Fair Values Types of Level 2 Prices for similar items Interest rates Yield curves Volatilities Prepayment speeds Credit risks Foreign exchange rates Published indexes 173 Level 3 Fair Values Traditional approach determining most likely cash flows and adjusting at the riskadjusted rate Adjusting cash flows for risk and discounting at the risk free rate Expected cash flows and discounting at the risk-adjusted rate

63 ASC 820 Restrictions on Determinations Transaction costs are not part of the exit price determination Blockage factors cannot be used in determining the exit price 175 Principal (or Most Advantageous) Market What if there is more than one market for the asset or liability? Which price is fair value? Measurement assumes transaction occurs in the principal (or most advantageous) market: Look for a Principal market i.e., market with most volume or level of activity If there is no principal market, look to the most advantageous market (i.e., highest price, considering transaction costs) Transaction costs only used for market determination, fair value reported 176 Markets Not Active ASC , 65 sections clarifies application in markets not active

64 ASC Provides indicators of markets not active Provides indicators of lack of orderly transactions Requires fair values still Defines major security types Disclosures concerning changes in valuation techniques 178 Fair value of liabilities ASC has added paragraphs 16A to 16G, also amends ASC , , and Fair value of liabilities Fair value hierarchy for valuing Quoted prices of identical liability as a liability Quoted prices identical liability as an asset Quoted prices of similar liability as an asset Income or market valuation technique Required to maximize the use of observable inputs

65 Investments in Mutual Funds - I Estimating the Fair Value of Investments in Investment Companies That Have Calculated Net Asset Value per Share in Accordance with the AICPA Audit and Accounting Guide, Investment Companies Provides that net investment prepared under the Guide could be used without further adjustment 181 Investments in Mutual Funds - II Disclosures to allow investors to understand the fair value measurement used, including: Remaining life Funding commitments Restrictions on redemptions and conditions which could cause restrictions 182 Recurring Examples Trading or available-for-sale securities Derivatives at fair value through earnings Servicing assets & liabilities at fair value through earnings Financial assets and liabilities for which the FVO has been elected Investments carried at fair value in accordance with the AICPA Audit & Accounting Guide, Investment Companies Pension assets (sponsor s books) annual only

66 Non-recurring Examples Impairment of goodwill Impairment of long-lived assets held and used Long-lived assets held for sale accounted for at the lower of cost or fair value (less cost to sell) Impaired HTM securities Impaired equity method or cost investments (APB 18) Impairment of loans using the practical expedients in Statement 114. Mortgage loans held for sale accounted for at the lower of cost or fair value. 184 Presentation Balance Sheet Require presentation of available-for-sale separately from held-to-maturity (fair value versus other measurements) Separate line items Aggregate total with fair value shown separately August 9, 2012 FASB vote to exempt nonpublic 185 ASC Disclosure Fair values in financial statements Level of fair value measurement (nonpublic if disclosure only) Special disclosure for Level 3 Special disclosure for assets measured on the fair value on a nonrecurring basis, such as impairment

67 ASC Disclosure Tabular reconciliation including Gains and losses, realized and unrealized and placement in the income statement Purchases, issuances, sales and settlements (net) Transfers Amount of unrealized gains and losses held at balance sheet date Annual only, valuation techniques 187 ASC and 55 Defines classes of securities requiring separate disclosures 188 Disclosures Transfers between levels 1 and 2 (ASU eliminated this for nonpublic) Requires disclosures of purchases, sales, issuances and settlements in level 3 Defines level of aggregation for disclosures