FASB/IASB Joint Projects - presented by McGladrey at 2011 NYSSCPA Private Company Accounting & Auditing Conference

0©2011 McGladrey & Pullen, LLP. All Rights Reserved.

Brian H. Marshall, Partner, McGladrey & Pullen, LLPRichard K. Stuart, Partner, McGladrey & Pullen, LLPJune 16, 2011

FASB/IASB Joint Projects

1 ©2011 McGladrey & Pullen, LLP. All Rights Reserved.

Agenda

FASB/IASB Progress Report – April ‘11 Joint Revenue Recognition Project Joint Financial Instruments Project Joint Leases Project Status of Other Joint Projects


FASB/IASB Progress Report – April ‘11



Joint standards on Statement of Comprehensive Income & Fair Value Measurement expected (& subsequently issued) in Q2 Priority projects

- Revenue Recognition- Leases- Financial Instruments

Timetable extended for priority projects from 2Q to 2H 2011 Effective dates will allow sufficient time for changes



Revenue Recognition and Leases Projects- Boards’ timetables are in sync for both projects- Final redeliberations are in progress- Consider whether re-exposure is necessary- Even without re-exposure, draft standards will be

made available for review- Boards will then determine whether to proceed to

finalize the standards



Financial Instruments Project- Various Board sub-projects

1. Balance Sheet – Offsetting Boards’ timetables are in sync

2. Classification and Measurement FASB expects to complete in 2H 2011 and

consider whether re-exposure is necessary IASB completed in 2010



Financial Instruments Project- Various Board sub-projects

3. Impairment Boards’ timetables are in sync Basic impairment approach to be determined

by end of 2H 2011 Consider whether re-exposure is necessary

4. Hedge Accounting IASB plans to finalize in 2H 2011 FASB timing unclear



Insurance Project- Different Board timetables:

• IASB expects to issue final document by end of 2011

• FASB expects to issue an ED in 2H 2011 and final standard in 2012


Timetable for Selected Joint Projects

Joint Project 2Q 2011 2H 2011 2012 & BeyondRevenue Recognition FLeases FFinancial Instruments FInsurance ED FFair Value Measurements IssuedStatement of Comprehensive Income FConsolidation ED FReporting Discontinued Operations ED FEmissions Trading Schemes ED, FFinancial Instruments with Characteristics of Equity

ED, F

Financial Statement Presentation ED, F


Joint Revenue Recognition Project



Exposure Draft issued in June 2010 Redeliberations began in January 2011



Scope Steps in applying the model

1. Identify the contract with a customer2. Identify the separate performance obligations in the

contract3. Determine the transaction price4. Allocate the transaction price to the separate

performance obligations5. Recognize revenue when each separate

performance obligation is satisfied


1. Identify the Contract with a Customer

Contract is an enforceable agreement between parties Can be written, verbal or implied Contract combination

- Required for contracts entered into at or near the same time if certain other criteria are met


2. Identify the Performance Obligations

Promise in a contract with a customer to transfer a good or service to that customer

Account for performance obligations separately if both of the following criteria are met- The good or service has a distinct function- The good or service is transferred at a different time from

other promised goods or services in the contract

However, a bundle of promised goods or services is accounted for as one performance obligation if the entity provides a service of integrating those goods or services into a single item


3. Determine the Transaction Price

Estimated amount of consideration to which the entity will be entitled- If price is variable (e.g.; contingencies, rebates,

royalties), estimate based on probability-weighted or most-likely amount

- Time value of money - Fair value of noncash consideration Collectibility is not considered


4. Allocate the Transaction Price

Based on relative standalone selling price of goods or services Standalone selling price:

- Observable price when sold separately (best)- Cost plus margin- Adjusted market assessment - Residual technique allowed if highly variable Subsequent changes to transaction price

generally allocated to all performance obligations unless certain criteria are met


5. Recognize Revenue

Recognition limited to cumulative revenue the entity is reasonably assured of being entitled to receive

Recognize revenue as goods or services are transferred Determine whether separate performance obligations

are goods or services Goods – recognize revenue when customer obtains

control based on following indicators:- Customer has an unconditional obligation to pay- Customer has physical possession- Customer has risks and rewards of ownership- Customer has legal title


5. Recognize Revenue

Services – recognize revenue as the entity provides service if performance obligation is satisfied continuously based on either of following criteria:- Entity’s performance creates or enhances an asset the

customer controls as it is created or enhanced, or- Entity’s performance does not create an asset with an

alternative use and one of several other criteria are met

Select a method for service revenue recognition that faithfully depicts the entity’s performance- Input methods- Output methods


Other Issues

Return rights Product warranties Licensing Onerous contracts Costs of obtaining and fulfilling a contract


Joint Financial Instruments Project


Balance Sheet Offsetting

Exposure Draft issued in January 2011 An entity would be required to offset an eligible asset

and an eligible liability when both of the following exist:- It has an unconditional and legally enforceable right of setoff- It intends either to settle the asset and liability on a net basis or

to realize the asset and settle the liability simultaneously

Would apply whether the right of setoff arises from a bilateral or multilateral arrangement

Would eliminate the current exception that permits net presentation of derivatives when the right of setoff or intention of setoff is conditional


Classification and Measurement

Exposure Draft issued in May 2010 (on impairment and hedging as well) Equity securities other than equity method

investments – measure at fair value through net income- Practicability exception for nonpublic entities for

nonmarketable equity securities• Measure at amortized cost less OTTI • Recognize upward adjustments to fair value when change in

price is observable



Debt securities- Measure at fair value through net income if held for

sale/transfer and/or doesn’t meet other criteria - Measure at fair value through OCI if business

strategy is to invest cash to either maximize total return or manage interest rate/liquidity risk by collecting contractual cash flows or selling the instrument



Debt securities- Measure at amortized cost if following criteria are

met• Business strategy is to manage through customer financing

activities (lending or borrowing)• Holder can manage credit risk by negotiating potential

adjustments with counterparty in the event of potential credit loss Sales/settlements would be limited to circumstances to

minimize losses due to deteriorating credit• Instrument is not held for sale/transfer at

acquisition/issuance



Derivatives measured at fair value through net income unless designated as certain type of hedging instrument Hybrid financial instruments

- Retain requirements for bifurcation/fair value recognition for embedded derivatives

- Apply classification/measurement model separately to host contract


Impairment

Impairment model for financial assets not carried at fair value through net income:- Separate models originally proposed by FASB and

IASB

- Published supplementary document on proposed common solution/model for open loan pools in January with comments due in April

- Based on feedback on supplementary document, plan to develop a new model


Impairment

Expected losses should be estimated with objective of expected value- Identify possible outcomes, estimate likelihood of each

and calculate probability-weighted average

Expected losses measured as all shortfalls in cash flows on a discounted basis- Unwinding of discount should be reflected in credit losses

Recognize interest income based on effective rate applied to amortized cost balance that is not reduced for impairment


Next Steps

Develop updated model / objectives on impairment Redeliberate balance sheet offsetting and

hedge accounting Develop risk disclosures over involvement in

financial instruments Disseminate additional exposure drafts as

considered necessary Determine effective dates/transition


Joint Leases Project


Joint Leases Project

Exposure Draft issued in August 2010 Redeliberations began in February 2011 Objective of the project is to propose a new

approach to lease accounting to address perceived shortcomings of current model Would apply to all leases with certain limited

exceptions


Perceived Problems with Current Model

Current model is “broken”- Similar transactions can have different accounting- Structuring opportunities- Complex, rules-based- Assets and liabilities not recognized on balance

sheets


Proposed Model: Scope

Would not mention in substance purchases/sales Intangibles not required to be accounted for

under this standard


Lease Definition

Right to use a specified asset for a period of time in exchange for consideration- Fulfillment of contract depends on use of specified

asset(s)- Contract conveys right to control use for a period of

time- Would not include right to use incidental assets


General

Short-term leases- Elect (by class of asset) not to apply right-of-use

model- Subject to reconsideration based on May meeting All initial measurements based on information at

lease commencement


Lease Term

Noncancelable period plus optional periods with “significant economic incentive” Consider only economic factors Reassess if economic factors impacting option

exercise change significantly


Arrangements with Lease and Non-Lease Components

Lessees: separate unless there are no observable prices- Allocate based on relative stand-alone purchase

price (if observable); - Otherwise, residual method Lessors: always separate Open issue: should private company lessees be

given an option not to separate?


Lease Payments

Variable Lease Payments- Based on index or rate—include using prevailing

rates/indices at commencement- If payments represent in substance minimum lease

payments, include in measurements Other Lease Payments

- RVG: difference between expected RV and guaranteed RV

- Term penalty: consistent with lease term- Exercise of purchase options: included in

measurement if there is a significant economic incentive to exercise


Classification

Finance or other-than-finance- Decision reversed at May meeting- Conclusion: all leases have a financing element Reversal means leases will be accounted for in

manner in ED- Expense will be front loaded


Proposed Lessee Model

Discount Rate- Rate charged by lessor (if a finance lease and the

rate is readily determinable- Otherwise, incremental borrowing rate Sale-Leaseback

- Are requirements for sale recognition met?• Yes: sale-leaseback accounting applies• No: financing transaction


Status of Other Joint Projects


Fair Value Measurements – ASU 2011-04

Converged guidance issued in May 2011 Blockage discounts prohibited for all fair value

measurements Other discounts or premiums (for non-Level 1

measurements) may be applied if consistent with unit of account and would be considered by a market participant Concepts of “highest and best use” and

“valuation premise” apply only to nonfinancial assets Exception to fair value requirements provided for

financial instruments managed in a portfolio


Fair Value Measurements – ASU 2011-04

Principal market – determined based on market with greatest volume and level of activity the Company can access Fair value of instrument classified in equity

measured from perspective of market participant that holds instrument as an asset Additional disclosures required Effective for nonpublic entities for annual

periods beginning after December 15, 2011, with early application permitted


Other Joint Projects

Statement of Comprehensive Income Consolidation Reporting Discontinued Operations Insurance Following projects are lower priority with no

further discussion expected until 2012- Emissions Trading Schemes- Financial Instruments with Characteristics of Equity- Financial Statement Presentation


McGladrey Thought Leadership

More Accounting Changes Coming FASB Tentatively Decides to Significantly

Revise Proposed Revenue Recognition Standard http://mcgladrey.com/Assurance/Accounting-

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