1 ifrs, convergence, and change richard dinkel controller, koch industries, inc. member of fasac v....

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IFRS, IFRS,

Convergence, and ChangeConvergence, and Change

Richard DinkelController, Koch Industries, Inc.Member of FASAC v. 1.2

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DisclaimerDisclaimer

The views expressed in this presentation are my own and do not represent positions of the Financial Accounting Standards Advisory Council or the Financial Accounting Standards Board.

Positions of the FASB are arrived at only after extensive due process and deliberation.

IFRS TimelineIFRS Timeline

2007- SEC eliminates US GAAP reconciliation for IFRS filers

2007- SEC concept release on use of IFRS for US registrants

2008- SEC issues proposed “Roadmap” for adoption of IFRS in the US. Shortly after the financial crisis hits.

2009- Mary Schapiro stated during confirmation hearings that she would not be prepared to delegate standard setting to the IASB.

2010- SEC reaffirms support for single set of high quality standards. MoU projects are the best path to get there.

Convergence Convergence and Improvementand Improvement

FASB and IASB working since 2002 to improve and converge U.S. GAAP and IFRS.

Memorandum of Understanding (MoU) 2006, 2008 (updated), 2009 (reaffirmed) Identified 9 major accounting areas needing

improvement in both U.S. GAAP and IFRS Completed Business Combinations project in

2007 by issuing FAS 141(R) and 160, and IFRS 3 Remainder of projects are still ongoing

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Overall Goal of ConvergenceOverall Goal of Convergence

Improved, high-quality, converged standards developed through rigorous

due process

Priorities:1. Independence 2. Improvement3. Convergence

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Drivers for Timing of ConvergenceDrivers for Timing of Convergence and Improvement Efforts and Improvement Efforts

Financial Crisis underscored importance of global convergence of standards but has also delayed some efforts

G-20 has called for FASB/ IASB to “redouble their efforts” to complete their MoU projects by June 2011

SEC reaffirmed in February its commitment to the goal of a single set of high-qulity global accounting standards and convergence of IFRS and US GAAP.

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Drivers for Timing of Convergence Drivers for Timing of Convergence and Improvement Effortsand Improvement Efforts

The June 2011 date also is being driven by the IASB because of: Countries, including Brazil, Canada, India,

and Korea, that have announced plans or intentions to adopt IFRS for their listed companies on or around 2011 or 2012. These countries want improved and “steady” standards upon adoption.

Terms ending for IASB chair Sir David Tweedie and two other IASB board members in mid-2011.

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Current Status of Current Status of Deliberations & ImplicationsDeliberations & Implications

Five major projects generally on track toward convergence: Fair Value Measurement Consolidations Revenue Recognition Financial Statement Presentation Financial Instruments with Characteristics

of Equity

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Three major projects not on track toward convergence: Financial Instruments Insurance Leases

Further deliberations required Target timelines for final standards could

be in jeopardy Method of implementation still uncertain

(i.e., big bang or staggered)

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FASB/IASB ProjectFASB/IASB ProjectTarget DatesTarget Dates

Project Exposure Draft Final Statement

Financial Instruments May 2010 March 2011

Fair Value Measurement

May 2010 October 2010

Consolidations May 2010 January 2011

Revenue Recognition May 2010 June 2011

Financial Statement Presentation

May 2010 June 2011

Financial Instruments with Characteristics of Equity

June 2010 June 2011

Insurance June 2010 June 2011

Leases June 2010 June 2011

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This intense level of standard setting is unprecedented

FASB has issued, at most, 4 major standards in one year, and no more than 3 exposure documents proposing significant changes

IASB has only issued 9 major standards in its 9-year history.

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Volume and timing of MOU projects Challenges ability of constituents to provide

quality input to due process Reactions from SEC, CFA Institute, FEI, ITAC and

others: Improvement is primary, speed is secondary.

Challenges preparers’ ability to implement final standards and users’ ability to analyze new financial reports

Joint Invitation to Comment to be issued by both Boards to seek input from constituents regarding effective dates and transition approaches

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Similar but Different Board DynamicsSimilar but Different Board Dynamics

Finan cial Ac coun ting Fou nda tion

FAF [16 Trustees]

Fin anci al A ccou nti ng Sta ndar ds Advi sor y

Co uncil FA SAC

Emerging Issues

Task Force EITF

Fin anci al A ccou nti ng Sta ndar ds Board

FASB [5 Board Members]

Inter nati ona l Ac coun ting St and ards Com mitt ee F oun dati on

IAS CF [22 Trustees]

Sta ndar ds Advi sor y Co unci l SAC

International Fin anci al Repo rtin g Inte rpr etations

Comm ittee

IFRIC

International Accounting Standards Boar d

IASB [14 Board Members]

Key Issues Legislative Funding Political

Convergence: Convergence: One Final Key PointOne Final Key Point

If FASB/IASB achieve convergence on all of these major projects U.S. GAAP and IFRS will not be completely

converged. Point raised in February 2010 SEC statement

Full IFRS adoption still uncertain More urgent priorities Costs of full adoption are high Mixed support from regulators Unresolved reporting issues Political pressures and Independence Blue Ribbon Panel on private company reporting

Even if converged, how will we stay that way?

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MoU ProjectsMoU Projects

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Financial InstrumentsFinancial Instruments

Problems: Complexities and inconsistencies within and

between U.S. GAAP and IFRS, on: Classification and measurement, Impairment Hedge accounting

In U.S., different impairment approaches for debt securities and loans especially problematic

Financial Crisis pointed to untimely recognition of credit impairment of loans held for collection by financial institutions

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Proposed Solution: Fewer/ simpler classification and

measurement approaches Two “buckets”: FVNI (mandatory for derivatives

and trading instruments; default for other items) and FV/OCI (optional, based on business model, for other assets and liabilities, such as many loans and core deposits).

Fair value information on the balance sheet for most financial instruments

Exceptions: short-term trade receivables and payables; in certain circumstances, own debt

Amortized cost information also reported for FV/OCI items

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Proposed Solution (cont’d): Income statement puts non-credit-related FV

changes of FV/OCI assets in OCI, rather than Net Income

Consistent with approach taken in FSP FAS 115-2 and 124-2

Improvements to impairment accounting, to develop single overall approach applicable to debt securities as well as loans

Equity method accounting changes Simplified criterion to qualify for hedge

accounting, leading to more consistent and transparent application

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Companies Affected: All; greater effect on financial institutions

Challenges to Convergence: IASB currently has reached different

conclusions in their proposed model, highlighted in table on following slide. May or may not be able to reconcile these differences

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Area FASB IASBMain Classification Categories

Fair value through net income

Fair value through other comprehensive income (FV-OCI)

Fair value through net income

Amortized cost

Credit Impairment Based on past events and existing conditions and their implications for the collectibility of the financial asset(s)

Recognized in net income

Impairment recognized based on expected credit losses over the life of the financial asset

Recognized in net income

Hedge Accounting Bifurcation by risk allowed for financial items

Qualitative assessments required at inception (quantitative may be necessary)

Reasonably effective threshold

Currently deliberating issues with a plan to issue and exposure draft in the second half of 2010

Fair Value MeasurementFair Value Measurement

Problem: US GAAP and IFRS not yet converged; FASB took

the lead on improving this area a few years ago with Statement 157

Statement 157: how to (not when to) measure fair value

The IASB exposed Statement 157 with some fairly minor suggested modifications

Both FASB and IASB have since issued additional guidance in this area in response to Financial Crisis

Proposed Solution: One global definition of fair value and approach

to measurement and disclosure of fair value

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Fair Value MeasurementFair Value Measurement

Companies Affected: All, with greater effect on financial

institutions; overall, will cause relatively insignificant changes when compared to current U.S. GAAP

Challenges to Convergence: No significant differences regarding how

to measure fair value More significant differences relate to

when to use fair value (see Financial Instruments Project)

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Consolidations Consolidations

Problems: Inconsistent guidance between U.S. GAAP and

IFRS, especially on consolidation of variable interests (securitizations/ structured entities)

Consolidation requirements for voting interests can lead to non-economically-representative consolidation decisions, in certain situations:

Effective control rather than contractual control Options, convertible instruments, agency

relationships

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Consolidations Consolidations

Proposed Solution: Overall consolidation standard for both variable

interest and voting interest entities identifying the party, if any, with power over and benefits from the key economic activities of the entity

Will result in fewer activities off-balance sheet FASB already tightened de-recognition and

consolidation guidance for variable interests (VIEs), through FAS 166 and 167, bringing it closer to IFRS and setting stage for convergence

Companies Affected: All

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ConsolidationsConsolidations

Challenges to Convergence: Potential differences between Boards

about how to evaluate effective control of voting interest entities (IASB: ability to control concept vs. FASB: ability to control with historical evidence view)

Banks fought recent changes to U.S. GAAP (SFAS 166 and 167), but bank regulators eased transition by phasing-in recognition for regulatory capital purposes

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Revenue RecognitionRevenue Recognition

Problems: U.S. GAAP: in 200+ standards (now codified),

inconsistent, developed piecemeal IFRS: very limited guidance, permitting

“anything goes application” or need look to U.S. GAAP to apply IFRS

Proposed Solution: Common principle, based on satisfaction of

performance obligations, that can be applied consistently across various industries and transactions and better reflect the underlying economics of revenue transactions

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Revenue RecognitionRevenue Recognition

Companies Affected: All, but greatest effect on software and

construction companies

Challenges to Convergence: Nothing significant between the Boards

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Financial Statement Financial Statement PresentationPresentation

Problem: The ability of users to predict cash flows

associated with a company would be enhanced greatly if the basic financial statements (balance sheet, income statement, cash flow statement) related to each other more cohesively and presented more disaggregated information

Proposed Solution: A consistent format across statements,

classifying items into business and financing categories, with a further disaggregation of business into operating and investing activities

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Proposed Solution (cont’d): Required use of the direct method for

presentation of operating cash flows Income statement to include full comprehensive

income (possibly a separate ED) Disaggregation of reported items by function

and nature to facilitate prediction of cash flows Every balance sheet line item will require a full

rollforward for cash in, cash out, non cash items, accruals/provisions, and remeasurement of FV.

Potentially the same level of financial statement presentation at the Segment level.

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Statement of Statement of financial financial positionposition

Statement of Statement of comprehensivecomprehensive incomeincome

Statement ofStatement ofcash flowscash flows

DIRECTDIRECT

Business Operating assets and liabilities Investing assets and liabilities

Business Operating income and expenses Investing income and expenses

Business Operating cash flows Investing cash flows

Financing Financing assets Financing liabilities

Financing Financing asset income Financing liability expenses

Financing Financing asset cash flows Financing liability cash flows

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Companies Affected: All business entities (not-for-profit entities

have been scoped out)

Challenges to Convergence: Differences in approaches by Boards for

disaggregating expenses by nature FASB: in segment note (full reporting by segments) IASB: at consolidated level in notes,

Preparers have expressed concerns about implementation costs, especially about direct method for presenting operating cash flows and segment level information

Financial Instruments with Financial Instruments with Characteristics of EquityCharacteristics of Equity

Problem: Inconsistent classification and measurement of

hybrid financial liabilities with similar characteristics; vast rules-based literature (especially in U.S.) leading to structuring opportunities

Proposed Solution: Replace complex inconsistent literature with one

set of coherent classification requirements that define equity based on two principles

Ownership of the entity Settlement with a specified number of ownership

instruments

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Financial Instruments with Financial Instruments with Characteristics of EquityCharacteristics of Equity

Companies Affected: All companies

Challenges to Convergence: Nothing significant between the Boards

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InsuranceInsurance

Problems: Lack of a standard in IFRS for insurance

contracts U.S. guidance is unique and industry-specific Industry practice of excessive deferrals of

contract acquisition costs

Proposed Solution: Common, high-quality standard for recognition,

measurement, presentation, and disclosure of insurance contracts, with contract acquisition costs expensed when occurred (similar to what is done for regulatory purposes)

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InsuranceInsurance

Companies Affected: Insurance companies

Challenges to Convergence: The Boards have tentatively reached different

conclusions on numerous fundamental issues Definition of insurance, measurement of liability,

unbundling of contracts, accounting for acquisition costs and participating contracts

U.S. insurance industry generally has different views about the model than other major global insurers

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LeasesLeases

Problems: Off-balance sheet presentation of leased assets

and related financing A bright-line distinction, especially in U.S.

GAAP (FAS13), between on- and off-balance sheet transactions, leading to structuring opportunities

Proposed Solution: For lessees, lease obligations recognized on

balance sheet as liabilities, along with a corresponding asset (using a “right to use” approach)

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LeasesLeases

Proposed Solution (cont’d): Also looking at lessor accounting, to

achieve consistency with model in Revenue Recognition Project

Companies Affected: All; key industries affected include

retailers, banks, big equipment lessees

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LeasesLeases

Challenges to Convergence: Differences between the Boards on

approach to lessor accounting: FASB: performance obligation approach, which

recognizes revenue over lease term. IASB: de-recognition approach that results in

more up-front revenue

Significant work required for initial assessment and ongoing assessment.

Resistance from leasing industry and industries that engage in significant operating leases.

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ConclusionsConclusions

Proposed changes are unprecedented (accounting change, system costs, resource requirements, training, audit, etc.)

FASB objectives are independence, improvement, and convergence—in that order

Politics will be impactful Although multiple ED’s will hit within a few

months, due process is crucial. Careful assessment and implications to your business

are critical. Provide feedback (roundtables, comment letters, etc.)

Begin planning now

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Questions?

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1 ifrs, convergence, and change richard dinkel controller, koch industries, inc. member of fasac v....

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