Accounting Developments (PowerPoint, 2.68 MB)

Accounting Developments

SEC Hot Topics InstituteSeptember 10, 2008

SEC Hot Topics Institute – Accounting Developments

SEC accounting developments

► Josh Forgione, SEC Associate Chief Accountant

► Chris Holmes, E&Y National Director of SEC Matters

► Sue Main, VP & Controller, Teledyne Technologies


SEC accounting developments

► International Financial Reporting Standards (IFRS)

► New business combination accounting standards

► Other topics of interest

International Financial Reporting Standards


SEC Proposed IFRS roadmap

► SEC proposes roadmap for requiring U.S. issuers to use IFRS for financial reporting beginning in 2014► Identifies milestones that the SEC will consider before making a

final decision in 2011 about whether to proceed with mandatory adoption of IFRS

► Further rulemaking will be required by the SEC if it decides to mandate the use of IFRS


IFRS Roadmap Milestones

► Improved accounting standards (i.e., continued convergence)

► Accountability and funding of IASCF► XBRL readiness (i.e., IFRS taxonomy)► Education and training (e.g., preparers, auditors, users)► Timing

► 2009: early adoption by limited number of US public companies► 2011: SEC decision regarding the mandatory use of IFRS► 2014: US issuers might be required to use IFRS instead of US GAAP


IFRS Timetable

► Mandatory IFRS adoption: possible sequence► Large accelerated filers (public float > $700M) – 2014► Accelerated filers (public float > $75M, < $700M) – 2015► Non-accelerated filers (public float < $75M) – 2016

► Early adoption of IFRS in 2009 limited to:► Industries in which IFRS is more prevalent than any other

accounting basis► The 20 largest companies in those industries (based on global

market cap) ► The SEC is soliciting comment on whether early adopters should

provide (a) just the IFRS 1 disclosures (i.e., a one-time audited one year reconciliation to US GAAP in the year of adoption), or (b) more extensive disclosures (i.e., an ongoing unaudited three-year reconciliation to US GAAP)


The IFRS journey – illustrative timeline

2012 and 2013 statements filed under US standards

Run US GAAP and IFRS parallel

IFRS statements are published with comparatives for 2013 and potentially 2012

Fiscal2011

Fiscal2012

Fiscal2013

Fiscal2010

Awareness and knowledge of IFRS

Preparation ofconvergence plan

New IFRS standards

There are significant steps to consider including planning, training, current convergence of US and IFRS standards and resourcing among others.

Change Management, Project Structure and Governance (budget implications, resourcing, etc.)

Impact assessment

Training

Design & implementation of process, control and systems

Modification of business operations, tax, regulatory and HR programs

Drafting new accounting policies

Restate opening

balance sheet

Restate opening

balance sheet

Fiscal2014First

year of IFRS Reporting 2014

First year of IFRS

Reporting 2014

Fiscal2009


IFRS planning considerations

► Information technology► Data capture & conversion /

migration► IT change management

► Tax► Data collection► Tax planning► Existing tax return positions► IRS / tax controversy

► Human resources► Share-based payments► Impact upon existing and new

incentive compensation plans

► Marketing, communications and investor relations► Early education► Underlying business

performance► Volatility of earnings and equity► Re-benchmarking relative to

global peer group

New business combination accounting standards


Business combinations

► Business Combinations - FASB Statement No. 141(Revised)► Noncontrolling Interests in Consolidated Financial Statements - FASB

Statement No. 160► Issued December 2007, effective for annual periods beginning after

December 15, 2008► Prospective adoption ► Early adoption not permitted for US GAAP


Key changes

► Definition of business and business combination► Transaction costs► Contingent consideration► Purchase price allocation

► Preacquisition contingencies► Measurement period adjustments► Income taxes► Intangibles the acquirer does not intend to use► Acquired in-process R&D

► Restructuring costs► Noncontrolling interests

Other topics of interest


Other topics of interest

► Fair Value Measurements► Application of SFAS 157, Fair Value Measurements, to non-financial assets and liabilities in

fiscal years beginning after November 15, 2008

► Proposed statement on disclosures for loss contingencies► Expand the population of loss contingencies required to be disclosed► Require disclosure of specific quantitative and qualitative information about those loss

contingencies► Require a tabular reconciliation of recognized loss contingencies► Provide an exemption from disclosing certain required information if disclosing that information

would be prejudicial to an entity’s position in a dispute► Proposed statement would be effective for financial statements issued for fiscal years ending

after December 15, 2008 and for interim and annual periods in subsequent fiscal years

► Proposed statement on earnings per share► Basic earnings per share would include shares currently issuable for little or no cost to the

holder (e.g. shares issuable on exercise of a warrant with a nominal strike price)► Modify the treasury stock method to require period end stock prices, rather than average stock

price► Require diluted effect for instruments that may be settled in stock to be calculated using the if-

converted method

Questions?

AppendixBusiness combinations – key areas with rule changes


Broadened definition of a business

► Current rules ► Under EITF 98-3, a business is a

self-sustaining integrated set of activities and assets conducted/managed to provide a return to investors

► Consists of (a) inputs, (b) processes applied to inputs and (c) outputs to generate revenue

► Must contain all of the above to conduct normal operations after separation from transferor

►New rules ► Business – An integrated set of

activities that is capable of being conducted and managed for the purpose of providing (a) a return to investors, or (b) lower costs or other economic benefits directly and proportionately to owners, members, or participants

► Consists of (a) inputs and (b) processes applied to those inputs

► Perspective of a market participant

► Development stage company can be a business


Broadened definition of a business combination

► Current rules ► A business combination occurs

when an entity obtains control of a business by acquiring its net assets, or some or all of its equity interests

►New rules ► Business combinations include all

transactions and other events in which control of one or more businesses is obtained.

► Could occur without the transfer of consideration. For example:

► A contractual arrangement ► The lapse of minority veto rights that

previously prevented a majority owner from controlling (and therefore consolidating) a business

► An investee share buy-back that results in an existing investor obtaining control


Transaction costs

► Current rules ► Fees/costs of raising acquisition

debt capitalized separately and amortized

► Fees/costs of raising new equity netted against proceeds received

► But no fees are allocated to equity when shares are used as acquisition consideration

► External transaction related costs (advisory, legal, due diligence, accounting) added to purchase price (and thus generally to goodwill)

► New rules ► No change for debt and equity

raising fees/costs► Transaction-related costs charged

to expense as incurred even if paid by seller


Contingent consideration arrangements

► Current rules ► Recorded when “beyond a

reasonable doubt”► Additional purchase price if based

on earnings or similar factors► No effect on purchase price if

based on security price ► Complicated rules if contingency

is embedded in a security or is a separate security

► EITF 95-8 analysis if payout is linked to continuing employment

► New rules► Recorded at acquisition date fair

value with subsequent accounting based on form

► If classified as equity, no “day 2” remeasurement

► If classified as a liability, “day 2” remeasurements to fair value

► Remeasurement through earnings with possible FAS 133 exception

► Compensation if payout is linked to employment, otherwise analysis is similar to EITF 95-8


Preacquisition contingencies

► Current rules ► Use FV of contingency if

determinable at closing or becomes determinable during the allocation “window”

► If not determinable, apply FAS 5 probable and reasonably estimable criteria

► New Rules ► Requires the use of FV on the

acquisition date for (1) all contractual pre-acquisition contingencies and (2) non-contractual pre-acquisition contingencies that are determined to be “more-likely-than-not” of materializing.


Preacquisition contingencies (cont’d.)

► Subsequent accounting► Adjustments made only when new information about the possible outcome is

obtained► Contingent liabilities measured at higher of (1) acquisition-date fair value or (2)

Statement 5 amount► Contingent assets measured at lower of (1) acquisition-date fair value or (2) best

estimate of future settlement amount► All adjustments (outside the “window” or resulting from changes in circumstances)

to pre-acquisition contingencies should be recorded by charges or credits to the results of operations

► Non-contractual pre-acquisition contingencies that are not determined to be more likely than not of materializing are not recognized on the acquisition date and are recorded by charges or credits to the results of operations when they become probable (FAS 5)


Measurement period adjustments

► Current rules► Acquirer may adjust provisional

amounts in its purchase price allocation to their subsequently determined acquisition-date fair values.

► New rules► General measurement period

concept is extended to all aspects of business combination accounting.

► Adjust provisional amounts recognized as of the acquisition date (or recognize additional assets or liabilities) only if new information is obtained about facts and circumstances existing at the acquisition date that, if known at the time, would have affected those provisional amounts.


Measurement period adjustments (cont’d.)

► Current rules► Adjustments during the purchase

price allocation period are generally reflected prospectively in the financial statements.

► New rules► Adjustments to provisional amounts

during the measurement period should be “pushed back” to the date of acquisition

► Affects comparative information for periods after acquisition

► Includes retroactive changes to depreciation or amortization expense related to acquired assets to the extent those provisional amounts are subsequently adjusted


Income taxes

► Current rules► Reduction in Target’s valuation

allowance after the acquisition date shall be applied to reduce to zero

► Any goodwill related to the acquisition, then

► Other non-current intangible assets related to the acquisition, then

► Income tax expense

► Income tax uncertainties that pre-date or result from the acquisition:

► Reductions applied similarly to reduction in valuation allowance

► Increases recorded to goodwill

► New rules► Reduction in Target’s valuation

allowance after the acquisition date is recorded as a reduction of income tax expense

► All adjustments to income tax uncertainties that pre-date or result from the acquisition are recorded as an element of the income tax provision


Acquirer’s deferred tax valuation allowance

► Current rules► A reduction in the Acquirer’s

valuation allowance for a DTA that results from a change in the Acquirer’s circumstances due to a business combination generally is accounted for as a reduction to goodwill

► For example, an Acquirer buys a profitable Target and determines it is able to utilize the benefit of its own NOL’s it formerly believed would expire

► New rules

► A change in the Acquirer’s valuation allowance for a DTA that results from a change in the Acquirer’s circumstances upon a business combination should be accounted for as an event separate from the business combination (i.e., through the income tax provision)

► This change will apply not only to post FAS 141(R) business combinations, but also to valuation allowances and tax uncertainties established before the adoption of FAS 141(R).


Excess of tax deductible goodwill over financial goodwill

► Current rules► No DTA recorded at the

acquisition date. Any tax benefits are recognized when realized and shall be applied to reduce to zero

► Any goodwill related to the acquisition, then

► Other non-current intangible assets related to the acquisition, then

► Income tax expense

► New rules► Amends FAS 109 to require the

recognition of a DTA in purchase accounting, similar to other temporary differences

► Requires solving an equation due to the iterative nature of the calculation


Intangibles the acquirer does not intend to use

► Current rules ► In practice the Acquirer allocates

little or no value to intangible assets (e.g. a brand name) that it does not intend to support or utilize after the acquisition

► New rules ► All intangible assets and all other

assets (for which there is not a specific exception), are to be measured at fair value, as defined in FAS 157. That is, value based on the highest and best use by a market participant


Acquired in-process R&D

► Current rules► EITF 86-14, FAS 2 and FIN 4► Purchase price should be

allocated to R&D projects in process that have fair value

► If project has “no alternativefuture use” amount allocatedshould be expensed

► New rules► IPR&D assets acquired recorded

as intangible assets► Generally indefinite life intangibles

until completion or abandonment

► Subsequent expenditures expensed

► Upon completion – assign a useful life and amortize


Restructuring costs

► Current rules► Recordable pursuant to EITF

95-3 in purchase accounting if three conditions are met:

► Relates to the Target’s (not the Acquirer’s) people or facilities

► Meet definition of “exit costs” (severance, facility closings, moving of personnel, cancellation of redundant contracts)

► Acquirer formulates a plan and carries it out within a reasonable time period

► New rules ► No purchase accounting

adjustment unless FAS 146 definition of a liability is met at acquisition date.

► Transaction or event occurs that leaves an entity little or no discretion to avoid the future transfer or use of assets to settle the liability

► The liability must exist at the target and not depend on the business combination


Noncontrolling interests

► Current rules► Remaining minority interest is

recorded at historical cost (carryover basis)

► Balance sheet: Minority interest is classified outside of equity

► Income statement: Minority interest is deducted in determining net income

► Purchase of minority interest results in additional step-up

► Subsidiary equity transactions can give rise to gains and losses (SAB 51)

► New rules► Step-up at acquisition date

► US GAAP: Fair Value► Per share purchase price for controlling

interest might not be the best indication of fair value

► IFRS: Proportionate share of net identifiable assets (i.e., no share of goodwill)

► Post-acquisition accounting► Balance sheet: noncontrolling interest is

classified within equity► Income statement: net income allocated

between controlling and noncontrolling interests

► Purchase of noncontrolling interest is an equity transaction (no step accounting)

► Gains or losses should not be recognized on sales of noncontrolling interests in subsidiaries.


Valuing stock issued in acquisition

► Current rules ► Date used to determine the value-

per-share in purchase accounting depends on the terms of the exchange offer

► If fixed exchange ratio, per-share value is computed at announcement of the deal

► If variable exchange ratio (e.g., adjusts for movements in the Acquirer’s stock price), per-share value is computed when the ratio ceases to float (i.e., at closing or perhaps earlier if cap/floor/collar in place)

► New rules► The value-per-share will be

determined at the date the Acquirer gains control (e.g., on closing)


Share-based payment awards

► Current rules► FV of equity granted in excess

of equity relinquished is compensation

► FV of equity issued subject to future service is recorded as compensation expense over the future service period

► Future service period is based on the ratio of the future service period to the total service period

► FV of equity issued related to past service included as purchase price

► New rules► Same as current except:

► Acquirer must be “obligated” to replace the awards

► Future service period is based on the ratio of the past service period to the greater of the total service period or the original service period

► Results in more compensation cost in post-combination financial statements when replacement awards have shorter service period than target awards


Negative goodwill

► Current rules ► First, adjust all Target’s

assets/liabilities to fair values (with any related deferred tax effects)

► If negative goodwill results, first proportionately reduce the carrying value of long-term, non-financial assets unless future contingent purchase price may be paid

► If any negative goodwill remains, record an immediate extraordinary gain

► New rules► First step remains the same—adjust

all assets/liabilities to FV including contingent purchase price

► If negative goodwill results, challenge purchase price allocation

► Any resulting negative goodwill is immediately recorded as a gain (but not extraordinary)


A business combination achieved in stages

► Current rules ► Cost accumulation model

► Each asset/liability adjusted proportionately

► Minority interest recorded at historical cost

► New rules► Revaluation of previously owned

equity interests upon obtaining control

► Gains and losses recognized in income

► Generally, all assets/liabilities/noncontrolling interest are fully adjusted to fair value

Thank you

Accounting Developments (PowerPoint, 2.68 MB)

Documents

Transcript of Accounting Developments (PowerPoint, 2.68 MB)