AICPA Financial Reporting Framework for Small- and Medium-Sized Entities Dialing the Clock Back on Financial Reporting B. Andrew Speed, CPA Partner and A&A Director BKD, LLP Overview Background on WHY changes are underway Private Company Council What is it? What is it doing? AICPA s Financial Reporting Framework for Small- to Medium- Sized Entities Where do we go from here? 2 Perceived Weaknesses of U.S. GAAP for Private Companies Complexity Focus on public & larger entities Increased Emphasis on Fair Value Private Companies Ever Changing Rules Cost / Benefit to Users Irrelevant & Confusing 3 1
Recommendations for Future of Private Company Standard Setting AICPA Blue Ribbon Panel on Standard Setting for Private Companies Financial Accounting Foundation (FAF) National Association of State Boards of Accountancy (NASBA) 4 Private Company Council (PCC) Established by FAF in May 2012 Financial Accounting Foundation (FAF) Financial Accounting Standards Board (FASB) Private Company Council (PCC) Advises the FASB on modifications to GAAP for private companies 5 PCC Standard-Setting Process PCC Agenda Decision FASB Final Endorsement FASB Issues Final Standards FASB Endorsement* Exposure Draft PCC Redeliberates *If the FASB does not endorse a PCC recommendation, the FASB must provide written notification and outline changes to the PCC which would result in endorsement. 6 2
Initial Projects Goodwill -ASU 2014-02 Plain vanilla interest rate swaps -Simplified hedge accounting (ASU 2014-03) -Combined instruments approach (pending) Variable interest entities -Common control leasing arrangements (ASU 2014-07) Accounting for intangibles in a business combination -Still in discussions 7 AICPA s Initiative Financial Reporting Framework for Small- & Medium-Sized Entities (FRF for SMEs) Exposure Draft issued in November 2012 Comment period through January 2013 Final framework issued June 2013 Effective upon issuance 8 Framework s Ground Rules Non-authoritative Not U.S. GAAP Special Purpose Framework (SPF) or Other Comprehensive Basis of Accounting (OCBOA) Intended for private company owner-managers and their business partners Intended to be less complex, costly and more relevant Framework is only 206 pages long 9 3
Industry Concerns Non-authoritative nature of Framework Confusion with GAAP Definition of what a SME is Due diligence process for revisions / updates 10 AICPA s Characteristics of Entities That Can Use The Framework Not required to produce GAAP financial statements No intention of going public For-profit May be owner-managed, closely-held company Users have greater interest in cash flows, liquidity, strength of financial position and interest coverage No significant foreign operations Key users have direct access to management 11 AICPA s Characteristics of Entities That Can Use The Framework Not involved in industry or transactions that require highly specialized accounting guidance Financial institutions Governments Employee benefit plans Not-for-profits Complex derivatives Stock options Multiple-element revenue arrangements 12 4
FRF for SMEs 101 Self-contained basis of accounting Available for free download in pdf format Traditional accounting methods Reviewed and amended every 3-4 years AICPA issued guidance: FRF for SMEs with Implementation Resources Understanding the FRF for SMEs Webinars / Group & self study Toolkits with illustrative financial statements, disclosure checklists and comparisons of Framework to U.S. GAAP, tax basis SPF, and IFRS for SMEs 13 No comprehensive income, items of other comprehensive income, or extraordinary gains or losses Numerous differences in disclosure requirements Disclosures and footnotes could look very different Generally less disclosure under Framework No variable interest entities (VIEs) No consolidation of VIEs, unlike GAAP Framework is more principles-based than current US GAAP Framework is just over 200 pages More room for interpretation 14 Key Differences Between Framework and US GAAP Policy choice on accounting for subsidiaries: Consolidate Equity method Subsidiary is an entity controlled by the reporting entity. Control is defined as ownership of more than 50% of residual equity interests, which is generally based on voting interests. All subsidiaries should be accounted for using the same method, i.e. can t consolidate some and use equity method for others. 15 5
Contains guidance on push-down accounting GAAP has minimal guidance on topic for non-public entities Minimal guidance on revenue recognition Entities in industries with complex revenue recognition are not good candidates for the Framework Goodwill amortized over same period as federal income tax or 15 years Amortized annually instead of evaluated for impairment Offers guidance on financial statements for unincorporated businesses and partnerships GAAP has minimal guidance specific to these entities 16 Fair Value vs. Market Value GAAP uses Fair Value ; Framework uses Market Value Market value defined differently than GAAP The amount of consideration that would be agreed upon in an arms-length transaction by knowledgeable, willing parties who are under no compulsion to act. The Framework uses market value measurements only in limited areas: business combinations, certain nonmonetary transactions, and marketable equity and debt securities that are held for sale 17 Income taxes Permits accounting for income taxes using taxes payable or deferred income taxes method Expense recognition and financial position could differ Under the taxes payable method, only current income tax assets and liabilities are recognized Deferred tax method recognizes deferred tax assets and liabilities based on existence of: -Taxable temporary differences -Deductible temporary differences Framework does not require evaluation of uncertain tax positions. 18 6
Investments No concept of trading, available-for-sale or held-to-maturity investments Significant differences in investment valuation Investment valuation is based on cost, except for marketable equity and debt securities held for sale Significant differences in investment valuation No unrealized loss recognized, except for investments held for sale No concept of comprehensive income Held for sale is not the same as trading under current GAAP Securities that management is currently attempting to sell. 19 Inventories Lower of cost of net realizable value Cost includes purchase, conversion and other costs to bring inventory to present condition and location Overhead allocation includes the normal production concept in current US GAAP. LIFO, FIFO or weighted average costs methods NRV based on most reliable evidence available No ceiling or floor calculation for NRV Raw materials not written down if finished goods they are incorporate in can be sold above cost. 20 Long-Lived Assets No assessment for impairment Gain or loss on assets held for sale or disposed of other than through sale are recorded at date of sale or disposal Assets held for sale are recorded at their carrying amount. Assets can be classified as held for sale if certain criteria are met: Generally same criteria as in current GAAP Framework does say depreciation method and useful live should be reviewed on a regular basis Specific events may indicate a need to evaluate Similar to current impairment triggers 21 7
Leases Traditional accounting approach under FAS 13 Lessee classifies as operating or capital Lessor classifies as sales, direct financing or operating Differences here will be more significant when FASB lease proposal is issued GAAP will require all leases recognized on the balance sheet (unless proposal is amended) 22 Goodwill and Intangible Assets All intangibles are assumed to have some finite life Intangibles amortized over estimated useful life Goodwill amortized over same period as for tax purposes No impairment testing 23 Stock-Based Compensation Disclosure only Defined Benefit Plans Policy choice Accrued contribution payable method Accrued benefit obligation method Derivatives and Hedging Disclosure approach Recognized when settled (cash basis) No hedge accounting 24 8
Intangible assets acquired in a business combination can be separately recognized or included in goodwill GAAP requires separate recognition (currently) No interim and segment or earnings-per-share reporting requirements Fewer disclosures anticipated Requires management to assess whether the going concern basis of accounting is appropriate GAAP does not contain this requirement. 25 Sample Accounting Basis Disclosure Basis of Accounting The accompanying financial statement have been prepared in accordance with the Financial Reporting Framework for Small- and Medium-Sized Entities issued by the American Institute of Certified Public Accountants, which is a special purpose framework and not U.S. generally accepted accounting principles ( U.S. GAAP ). The accounting principles comprising the framework are appropriate for the preparation and presentation of small- and medium-sized entity financial statements, based on the needs of the financial statement users and cost and benefit considerations. This special purpose framework, unlike US GAAP, does not require.. 26 Auditor s Opinion Differences for Framework Management's Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these financial statements in accordance with the Financial Reporting Framework for Small- and Medium-Sized Entities issued by the American Institute of Certified Public Accountants, described in Note ; this includes determining that Financial Reporting Framework for Smalland Medium-Sized Entities is an acceptable basis for the preparation of the financial statements in the circumstances. Management is also responsible for the design, implementation and maintenance of internal control relevant to the preparation and fair presentation of financial statements that are free from material misstatement, whether due to fraud or error. 27 9
Auditor s Opinion Differences (continued) Opinion In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of XYZ Company as of December 31, 20XX, and the results of its operations and its cash flows for the year then ended in accordance with the Financial Reporting Framework for Small- and Medium-Sized Entities, described in Note. 28 Auditor s Opinion Differences (continued) Basis of Accounting We draw attention to Note of the financial statements, which describes the basis of accounting. The financial statements are prepared in accordance with the Financial Reporting Framework for Small- and Medium-Sized Entities, which is a basis of accounting other than accounting principles generally accepted in the United States of America. Our opinion is not modified with respect to this matter. 29 Framework Tools Available from AICPA Illustrative Financial Statements Contain wording in audit and review reports. Show sample financials with disclosures under both GAAP and the framework for comparison Comparison of the FRF for SMEs Reporting Framework to Other Bases of Accounting Compares FRF with US GAAP, tax basis and IFRS for SMEs by financial statement caption and major topic 30 10
Transition Opening balance sheet as of transition date Recognize all required assets/liabilities Derecognize nonpermitted assets/liabilities Reclassify previously recognized assets/liabilities Apply framework in measuring all recognized assets/liabilities Disclose the amount of each charge or credit to equity at date of transition and exemptions used 31 Transition Management may choose certain transition exemptions Business combinations Financial instruments containing both debt and equity components Asset retirement obligations 32 Impact on Audits, Reviews and Compilations Framework is considered a new special purpose framework (SPF) U.S. GAAS or SSARS still used depending on assurance level AU-C 800, Special Considerations Audits of Financial Statements Prepared in Accordance with Special Purpose Frameworks AR Section 90, Review of Financial Statements AR Section 80, Compilation of Financial Statements Audit reports similar to reports issued for other SPFs Review & compilation reports also similar to other SPF reports Example reports included within AICPA Toolkit materials 33 11
Questions? 34 12