chattanooga accounting seminar gaap update

Chattanooga Accounting Seminar GAAP Update

Russ Madray Scholar-in-Residence May 12, 2015

© Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC

This material was used by Elliott Davis Decosimo during an oral presentation; it is not a complete record of the discussion. This presentation is for informational purposes and does not contain or convey specific advice. It should not be used or relied upon in regard to any particular situation or circumstances without first consulting the appropriate advisor. No part of the presentation may be circulated, quoted, or reproduced for distribution without prior written approval from Elliott Davis Decosimo.

© Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC 2

GAAP Update

• Private company accounting alternatives • New revenue recognition standard • Other FASB standards • On the horizon


Private Company Accounting Alternatives


Private Company Accounting Alternatives

• ASU 2014-02, Accounting for Goodwill • ASU 2014-03, Accounting for Certain Receive-

Variable, Pay-Fixed Interest Rate Swaps—Simplified Hedge Accounting Approach

• ASU 2014-07, Applying Variable Interest Entities Guidance to Common Control Leasing Arrangements

• ASU 2014-18, Accounting for Identifiable Intangible Assets in a Business Combination


Who Can Elect the Alternatives?

• Following types of entities cannot apply any private-company accounting alternatives:

• ASU 2014-03 not available for financial institutions

Public Business Entities

Not-for-Profit Entities

Employee Benefit Plans


Is the Reporting Entity a Public Business Entity?

• Is it required by the SEC to file or furnish financial statements, or does it file or furnish financial statements with the SEC?

- Includes voluntary filers - Includes other entities where financial statements or

financial information are required to be or are included in a filing

- Would not apply to stand-alone financial statements of subsidiary/investee



• Is it required to file or furnish financial statements with a regulatory agency by the Securities Exchange Act of 1934, as amended, or rules or regulations promulgated under the Act?

- Broker-dealers are considered PBEs



• Is it required to file or furnish financial statements with a regulatory agency in preparation for the sale of securities or for the purposes of issuing securities

• Has it issued (or is it a conduit bond obligor for) unrestricted securities that are traded or can be traded on an exchange or an OTC market?

- Includes an interdealer quotation or trading system for securities that are not listed on an exchange

- OTC Pink Markets - OTC Bulletin Board



• Does it (1) have one or more securities that are not subject to contractual restrictions on transfer, and (2) is it is required by law, contract, or regulation to prepare U.S. GAAP financial statements and make them publicly available on a periodic basis?

- Must meet both criteria - Must be full set of U.S. GAAP financial statements

(including footnotes) - Call reports are not financial statements - Restrictions may be contained in buy-sell, shareholder, or

other agreements


Accounting for Goodwill


• Current U.S. GAAP - No amortization - 2-step impairment test applied at least annually at

the reporting unit level • Alternative

- Amortize over 10 years (or less) - Impairment testing only if triggering event - Policy choice for impairment – entity or reporting unit

ASU 2014-02, Accounting for Goodwill


• Impairment - When a triggering event indicates that fair value of an

entity (or a reporting unit) may be below its carrying amount

- One-step impairment test would be performed - Amount of the impairment would be measured by

calculating the difference between the carrying amount of the entity (or reporting unit, as applicable) and its fair value

- Hypothetical purchase price allocation to isolate the change in goodwill (i.e., step two) would no longer be required




General economic conditions

Industry and market

considerations

Increases in costs that have a negative

effect on earnings and cash flows

Negative or declining cash

flows or revenue

Entity-specific events

Triggering events



• Transition - Existing goodwill - New goodwill

• Amortization period


FAQ: Amortization Requirement

• Are private companies required to amortize goodwill going forward or does it have the option to do so?


FAQ: Level of Impairment Assessment

• Does the new guidance allow assessment at the entity level, even if we know this yields a different accounting result – perhaps materially different – in the year of adoption?


FAQ: Amortization of Less Than 10 Years

• What kind of justification/documentation is needed to amortize goodwill over a period of less than 10 years?

- ASC 350-20-35-63 states “…or less than 10 years if the entity demonstrates that another useful life is more appropriate.”

- In the Basis for Conclusions, “That provides an opportunity for a reporting entity to identify a shorter useful life than 10 years, if it chooses to do so, when a shorter useful life is more appropriate based on its own specific facts and circumstances.”

- The only thing that’s made clear in multiple places is that 10 years is the maximum

- In other words, their primary concern appears to be the upper limit and not the ability to use a shorter life


FAQ: Implementation Question

• Facts: 2 years ago the company had an acquisition—didn’t really allocate the purchase price – dumped all into goodwill.

• They can go back and fix to properly allocate the purchase price. • Will the goodwill alternative be allowed? • Here’s what they would need to do:

1. Properly allocate the purchase price and determine the proper starting point for goodwill.

2. Determine if any impairment existed in each year subsequent to the acquisition and record accordingly (this will require application of the existing 2-step impairment test each year subsequent to the acquisition).

3. Once the goodwill balance is correct and up to date, the PCC alternative could be elected.


Note Disclosure for Adoption

Change in Accounting Principle In January 2014, the FASB amended the Intangibles –Goodwill and Other topic of the Accounting Standards Codification. Under the amended guidance, a nonpublic entity may elect to amortize goodwill on a straight-line basis over a period of ten years or over a shorter period if the company demonstrates that another useful life is more appropriate. Goodwill would be subject to impairment testing only upon the occurrence of a triggering event. The Company adopted the amended guidance and elected to amortize existing goodwill at the beginning of the period of adoption, [January 1, 2014]. The Company will assess goodwill for impairment at an [entity] [reporting unit] level. There was no material impact on the Company’s results of operations or financial condition upon adoption of the new guidance.


Plain Vanilla Interest Rate Swaps


ASU 2014-03, Accounting for Certain Receive Variable, Pay Fixed Interest Rate Swaps– Simplified Hedge Accounting Approach

• Current U.S. GAAP – derivative = hedge accounting - Changes in FV of swap go to OCI - Must evaluate/document effectiveness of hedge

• Alternative - Simplified short cut approach for plain vanilla swaps - Not available for financial institutions


Variable rate on the swap and borrowing based on same index

and reset period

Terms of swap are typical and there is no

floor or cap on variable interest rate

of swap unless borrowing has a

comparable floor or cap

Re-pricing and settlement dates for swap and borrowing match or differ by no more than a few days

Swap’s fair value at inception is at or near

zero

Notional amount of swap matches

principal amount of borrowing being

hedged (may be less than total principal

amount of borrowing)

All interest payments designated as hedged

in total or in proportion to

principal amount of borrowing being

hedged


• Conditions:


• Can wait until financial statements are issued to have documentation in place and elect to apply simplified hedge accounting approach

• Allows swap to be measured at settlement value instead of fair value

• Settlement value may be estimated by applying a present value calculation of swap’s remaining estimated cash flows using a valuation technique that is not adjusted for nonperformance risk



• Must continue to account for the interest rate swap and the variable-rate debt separately on the face of the balance sheet

• However, able to assume no ineffectiveness in the hedging relationship

• Essentially the same income statement effects as if it had issued fixed-rate debt



FAQ: Definition of Financial Institution

• Would the alternative for interest rate swaps apply to a consumer finance company (private and generally unregulated obviously)?

• More specifically, is the term financial institution defined in the literature?

• ASU 2014-03refers the definition of financial institutions included in FASB ASC 942-320-50-1:

- …the term financial institutions includes banks, savings and loan associations, savings banks, credit unions, finance companies, and insurance entities



Change in Accounting Principle In January 2014, the FASB amended the Derivatives and Hedging topic of the Accounting Standards Codification. Under the amended guidance, a nonpublic entity may elect to use a simplified hedge accounting approach for its receive-variable, pay-fixed interest rate swaps. Under this approach, the income statement charge for interest expense will be similar to the amount that would result if the company had directly entered into a fixed-rate borrowing instead of a variable-rate borrowing and an interest rate swap. Furthermore, the simplified hedge accounting approach allows the swap to be measured at its settlement value, which measures the swap without non-performance risk, instead of fair value. The Company adopted the amended guidance and elected to apply the simplified hedge accounting approach [retrospectively] [using a modified retrospective approach] in [2014]. There was no material impact on the Company’s results of operations or financial condition upon adoption of the new guidance.


Common Control Leasing Arrangements


ASU 2014-07, Applying Variable Interest Entity Guidance to Common Control Leasing Arrangements

• Current U.S. GAAP – consolidate a VIE when the reporting entity is considered the primary beneficiary

Is the reporting entity the primary beneficiary of the VIE?

Power to direct activities of the VIE Absorb losses or receive benefits significant to VIE

Does the reporting entity have a variable interest (explicit or implicit) in the VIE (loans, leases, guarantees, etc.)?

Is the legal entity a VIE?

Total equity at risk not sufficient Total equity at risk doesn’t possess “normal” characteristics

Voting rights are not proportionate


• Example – current U.S. GAAP - Owner of a construction company decides to buy a

building - Through his LLC, securing a loan from a local bank, he

purchases a building - His LLC leases the building to his company

• Is the LLC a VIE? • Does the construction company have a variable interest

in the VIE? • Is the construction company the primary beneficiary of

the VIE?



Conditions for electing alternative:

• Still apply other guidance (e.g., ASC 840, Leases; ASC 460, Guarantees; etc.)

• Additional disclosures about the leasing arrangement • Applicable to all similar leasing arrangements


(a) Lessor entity and private company lessee under common

control

(b) Private company lessee has a leasing arrangement with lessor

(c) Substantially all activity between the two entities is

related to the leasing activity of lessor entity

(d) If private company lessee explicitly guarantees or provides

collateral for any obligation of lessor related to the leased

asset, principal amount of the obligation at inception does not

exceed value of leased asset



A guarantee or collateral provided by the private company lessee to the lender of the lessor for debt

that is secured by the asset(s) leased by the private company

lessee

A joint and several liability arrangement for debt of the lessor,

for which the private company lessee is one of the obligors, that is secured by the asset(s) leased by

the private company lessee

Paying property taxes, negotiating the financing, and maintaining the

asset(s) leased by the private company lessee

Paying income taxes of the lessor when the only asset owned by the lessor is being leased either by only the private company or by both the

private company lessee and an unrelated party

Examples of Leasing Activities


Example 1

Assume the following:

• Private manufacturing company

• Pledged assets as collateral for LESS’s mortgage

• Leases its manufacturing facility from LESS

• Pays prop taxes and maintenance on facility

MFG, Inc. (Lessee)

• Owns manufacturing facility; value: $1 million

• Mortgage on facility: $800,000

• Leases entire facility to MFG • No other assets

Less, Inc. (Lessor)

I own MFG, Inc. and LESS, Inc.

I personally guaranteed

LESS’ mortgage.

Can MFG elect the

PCC alternative? © Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC 33

Can MFG elect the PCC alternative?

(a) MFG and LESS are under

common control

(b) MFG has a lease

arrangement with LESS

(c) Substantially all the activities between MFG and LESS are related to the lease of the manufacturing facility •Providing collateral, paying

property taxes, and maintaining the facility considered to be leasing activities

(d) Value of the

manufacturing facility leased by MFG exceeds

principal amount of LESS’s mortgage at

inception of the mortgage

Yes!


2 years later….

• Private manufacturing company

• Pledged assets as collateral for LESS’s mortgage

• Leases its manufacturing facility from LESS

• Pays prop taxes and maintenance on facility

MFG, Inc. (Lessee)

• Owns manufacturing facility; value: $700,000

• Mortgage on facility: $790,000

• Leases entire facility to MFG • No other assets

Less, Inc. (Lessor)

Oh my!

The value of the facility has declined!

Can MFG continue to apply the

PCC alternative?

Yes—assuming no other changes.

If LESS refinances or enters into new obligation that requires collateralization or guarantee by MFG, reassess whether criterion (d) met at the inception of the new obligation


Example 2

Assume the following:

•Private manufacturing company

•Pledged assets as collateral for LESS’s entire mortgage

• Leases 3 floors of facility from LESS

MFG, Inc. (Lessee)

•Owns manufacturing facility; value: $1 million

•Mortgage on plant: $800,000

• Leases remaining 7 floors to unrelated party

•No other assets

Less, Inc. (Lessor)


I personally guaranteed LESS’ entire mortgage.

Can MFG elect the

PCC alternative? © Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC 36

Can MFG elect the PCC alternative?

(a) MFG and LESS are under

common control

(b) MFG has a lease

arrangement with LESS

(c) Substantially all the activities between MFG and LESS are related to the lease of the manufacturing facility •Even though part of the

manufacturing facility is also leased to unrelated parties

(d) Value of the

manufacturing facility leased by MFG exceeds

principal amount of LESS’s mortgage at

inception of the mortgage

Yes!


2 years later…

•Private manufacturing company •Pledged assets as collateral for

both of LESS’s mortgages •Leases Facility 1 from LESS

MFG, Inc. (Lessee)

•Owns 2 manufacturing facilities •Facility 1 •Value: $1 million •Mortgage: $800,000 •Facility 2 •Value: $1 million •Mortgage: $500,000

Less, Inc. (Lessor)

•Leases Facility 2 from LESS

UNRELATED, Inc.

I own MFG, Inc. and LESS, Inc. LESS purchased another facility.

I personally guaranteed both

of LESS’ mortgages.

Can MFG continue to apply the

PCC alternative?

No. MFG is engaging in substantial activity outside its leasing activity with LESS by providing a guarantee on a mortgage secured by an asset that is not being leased by MFG


Case Study 1 – Common Control Leasing Activity

•Private manufacturing company •Pledged assets as collateral for LESS’s mortgage on Facility 1 •Leases manufacturing Facility 1 from LESS

MFG, Inc. (Lessee)

•Owns 2 manufacturing facilities •Facility 1 •Value: $1 million •Mortgage: $800,000 •Facility 2 •Used to manufacture chemicals •Value: $1 million •Mortgage: $0

Less, Inc. (Lessor)

Can MFG elect the

PCC alternative?


I personally guaranteed

LESS’ mortgage on Facility 1


FAQ: Selective Consolidation

• If a company has 2 VIEs that qualify for the exception but they just wanted to consolidate the one and not consolidate the other one, can they do that?



Change in Accounting Principle In March 2014, the FASB amended the Consolidation topic of the Accounting Standards Codification. Under the amended guidance, a nonpublic entity has the option to exempt itself from applying the VIE consolidation model to a qualifying common control leasing arrangement. The Company adopted the amended guidance and elected to exempt itself from applying the VIE consolidation model to qualifying common control leasing arrangements in [2014]. The Company applied a full retrospective approach in which the financial statements for the year ended [December 31, 2013] have been adjusted to reflect the period-specific effects of applying the amendments.


ASU 2014-18, Accounting for Identifiable Intangible Assets in a Business Combination



• Current U.S. GAAP: - Recognize and measure at fair value intangible assets

that are identifiable: • Arises from contractual or other legal rights • Separable – capable of being separated or divided from the

entity and sold, transferred, licensed, rented, or exchanged, either individually or together with a related contract, identifiable asset, or liability, regardless of whether the entity intends to do so


• A private company would no longer recognize the following intangible assets separately from goodwill:

- Customer-related intangible assets that are not capable of being sold or licensed independently from the other assets of the business

- Non-compete agreements • Result = recognize fewer intangible assets and,

correspondingly, recognize more goodwill



FAQ: Selective Application

• Can a company elect not to breakout from goodwill certain intangibles (e.g. breakout non-compete contracts as separately identified intangible assets, but include customer related intangibles within goodwill)?

• In other words, is this an “all or nothing” election with respect the intangibles covered by this private company option?


Note Disclosure for Adoption Change in Accounting Principle In December 2014, the FASB amended the Business Combinations topic of the Accounting Standards Codification. Under the amended guidance, a nonpublic entity may elect to not recognize separately from goodwill (1) customer-related intangible assets that are not capable of being sold or licensed independently from the other assets of the business and (2) noncompetition agreements. This alternative generally will result in recognizing fewer intangible assets in a business combination and, correspondingly, more goodwill. The Company elected this accounting alternative in [2014] and will apply it to all eligible transactions thereafter. The alternative is applied on a prospective basis. In addition, when this alternative is elected, the Company also is required to adopt the alternative accounting related to goodwill which requires that goodwill be amortized on a straight-line basis over a period of ten years or over a shorter period if the Company demonstrates that another useful life is more appropriate. Goodwill would be subject to impairment testing only upon the occurrence of a triggering event. The alternative is applied on a prospective basis, with amortization of existing goodwill commencing at the beginning of the period of adoption [January 1, 2014]. The Company will assess goodwill for impairment at the [entity] [reporting unit] level. There was no material impact on the Company’s results of operations or financial condition upon adoption of the new guidance.


Other FAQs about PCC Alternatives


FAQ: Entity Ownership

• If the entity is foreign or private equity owned, does that have an impact on electing any of the PCC alternatives?


FAQ: Adoption Questions

• Is a private company required to adopt these alternatives?

• If a private company adopts one alternative does it have to adopt all of them?


New Revenue Recognition Standard


Background

• ASU 2014-09, Revenue from Contracts with Customers

• Issued on May 28 • Replaces virtually all existing US GAAP guidance on

revenue recognition • Virtually every industry is affected • Includes 63 application examples • Requires companies to make more estimates and use

more judgment than under current guidance


Scope

• In scope - Contracts with customers - Sale of some nonfinancial assets that are not an output of the

company’s ordinary activities (e.g., property, plant and equipment, intangibles)

• Not in scope - Leasing contracts - Insurance contracts - Financial instruments contracts - Certain nonmonetary exchanges - Certain put options on sale and repurchase agreements - Guarantees within the scope of ASC 460


Effective Date

• Public entities - Annual reporting periods beginning after December

15, 2016, including interim periods within that reporting period

• Nonpublic entities - Annual reporting periods beginning after December

15, 2017, and interim periods within annual periods beginning after December 15, 2018


Deferral of the Effective Date

• Effective date deferred until 2018 for public companies

• Effective date deferred until 2019 for all other entities

• Early adoption allowed as of original effective date for public entities (2017 for calendar-year entities)

• Early adoption prior to that date would not be permitted


Current U.S. GAAP


Current U.S. GAAP

• Recognition based on two concepts: - Earned - Realized

• Focus is on transfer of risks and rewards of ownership

• Over 180 different pieces of authoritative guidance issued

- Complex - Detailed - Differs by industry and type of transaction


Current U.S. GAAP

• SEC issued SAB 101 in 1999 to provide interpretive guidance

- Persuasive evidence of an arrangement exists - Delivery has occurred or services have been rendered - Seller’s price to the buyer is fixed or determinable - Collectibility is reasonably assured


The Five-Step Model


Overview

• Core principle - Recognize revenue to depict the transfer of promised

goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services

Identify the contract with a customer

Identify the performance obligations

in the contract

Determine the

transaction price

Allocate the transaction price to the

performance obligations

in the contract

Recognize revenue

when (or as) a

performance obligation is

satisfied


Step 1: Identifying the Contract with the Customer

• Contract defined as an agreement between two or more parties that creates enforceable rights and obligations

- Can be written, oral or implied - Does not exist if both parties can cancel without penalty

Collection of consideration is

probable

Rights to goods or services and payment

terms can be identified

It has commercial substance

It is approved and the parties are committed

to their obligations

A contract exists if…


Combining Contracts

• Must combine contracts entered into at or near the same time with the same customer (or related parties of the customer) if one or more of the following criteria are met:

Contracts are negotiated as a package with a single commercial objective

Amount of consideration to be paid in one contract depends on the price or

performance of the other contract

Goods or services promised in the contracts (or some

goods or services promised in each of the contracts) are

a single performance obligation


Contract Modifications

• Approval of a contract modification can be in writing, by oral agreement, or implied by customary business practices

• Contract modification is considered approved when it creates new or changes existing enforceable rights or obligations

• May result in - Separate (additional) contract - Termination of old contract and creation of new contract - Cumulative catch-up adjustment to existing contract


Contract Modifications

Additional goods/services

distinct?

Consideration reflects standalone selling

price?

Separate contract.

Termination of old contract and creation

of new contract.

Treat as part of original contract.

Cumulative catch-up adjustment.

YES

YES

NO

NO


Example 1—Change Order

• Single performance obligation to build an office building

• Change order for goods that are necessary part of contractor’s service to construct the building

• Parties agree on price before work begins

• How would you account for this change order?


Example 1—Change Order

• Goods/services associated with change order are not distinct

• Treat as part of the original contract • Account for change order using a cumulative catch-

up adjustment • That is, “catch up” the amount of revenue recognized

as if this change order were part of the original contract


Step 2: Identifying Performance Obligations

• A performance obligation is each promise to transfer either of the following to a customer:

- A good or service (or a bundle of goods or services) that is distinct

- A series of distinct goods or services that are substantially the same and that have the same pattern of transfer to the customer


Identifying Performance Obligations

• A promised good or service is distinct (and therefore a performance obligation) if both of the following criteria are met:

Criterion 1: The customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer.

Criterion 2: The entity’s promise to transfer the good or service to the customer is separately identifiable from other promises in the contract.


Performance Obligation Distinct?


Step 3: Determining the Transaction Price

• Transaction price is the amount of consideration a company expects to be entitled to in exchange for transferring a good or service

• Transaction price reflects the effects of the following:

Variable Consideration

Consideration Payable to the

Customer

Noncash Consideration

Significant Financing Component

Transaction Price



• Transaction price may vary because of items such as bonuses, discounts, rebates, refunds, credits, price concessions or incentives

• The transaction price is estimated using the technique that better predicts the amount the company will receive



• Expected value - Sum of the probability-weighted amounts in a range of

possible outcomes - Most predictive when the transaction has a large number

of possible outcomes - Can be based on a limited number of discrete outcomes

and probabilities

• Most likely amount - The single most likely amount in a range of possible

outcomes - Most predictive when the transaction will produce few

outcomes


Example 2: Variable Consideration

RussCo enters into a contract and will receive a $100,000 performance bonus if specified performance targets are met. RussCo estimates an 80% likelihood it will receive entire performance bonus and a 20% likelihood it will receive none of the bonus. Requirements: 1. Which estimation technique would be most appropriate? 2. How much of the performance bonus should be included in

the transaction price?


Example 3: Variable Consideration

• Company enters into a contract and will receive a performance bonus up to $100,000 if it meets specified performance targets. It estimates the likelihood of achieving the targets as follows:

• Expected value approach is determined to be the best method – $59,000 is calculated amount under this method

• However, Company must consider whether any of the $59,000 should be constrained © Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC 73

Constraining Estimates of Variable Consideration

• Required to evaluate whether to “constrain” amounts of variable consideration included in transaction price

• Objective of the constraint – include variable consideration in the transaction price only to the extent it is “probable” it will not result in a significant revenue reversal

The risk of a reversal arising from an uncertain future event

The magnitude of the reversal if the uncertain event occurs

Qualitative Assessment


Other Issues Related to Transaction Price

• Significant financing component - The time value of money is considered when significant, and the

primary purpose of the payment terms is to provide financing to counterparty

- Evaluation not required if customer is expected to pay within one year of when control of the goods or services is transferred

• Noncash consideration - Measured at the fair value of the consideration received or promised

• Consideration payable to a customer - Determine whether such amounts are:

• A reduction of the transaction price and revenue • A payment for distinct goods and services • A combination of the two


Step 4: Allocating the Transaction Price to the Performance Obligations

• Transaction price allocated to each separate performance obligation in proportion to standalone selling prices

• When a standalone selling price is not observable, an entity is required to estimate it

• Maximize the use of observable inputs • Apply estimation methods consistently in similar

circumstances • Use of a residual technique is allowed in limited

situations


Step 5: Recognize Revenue when (or as) the Performance Obligations are Met

• Revenue recognized upon satisfaction of a performance obligation by transferring a good or service to a customer

• A good or service is generally considered to be transferred when (or as) the customer obtains control

• Control may be transferred either at a point in time or over time


Transfer of Control

First, assess whether control is transferred over time, using the following criteria:

The customer simultaneously

receives and consumes the benefits provided by the entity’s

performance as the entity performs.

Routine or recurring services.

The entity’s performance creates or enhances an asset that the

customer controls as the asset is created or enhanced.

Building an asset on a customer’s site.

The entity’s performance does not create an asset with an

alternative use to the entity and the entity has an enforceable

right to payment for performance completed to date.

Building a specialized asset that only the

customer can use, or building an asset to a

customer order.


Transfer of Control

• If none of the three criteria are met, recognize revenue at the point in time at which control of the good or service is transferred to the customer

Indicators that control has transferred

include a customer having…

…a present obligation to pay.

…physical possession.

…legal title.

…risks and rewards of ownership.

…accepted the asset.


Example 4: Point in Time vs. Over Time

• Contractor is developing a multi-unit residential complex

• Customer enters into a binding sales contract with contractor for a specified unit that is under construction

• Each unit has a similar floor plan and is of a similar size, but other attributes of the units are different (for example, the location of the unit within the complex)


Scenario A

• Customer pays a deposit upon entering into the contract

• Deposit is refundable only if contractor fails to complete construction of the unit

• Remainder of contract price payable on completion when customer obtains physical possession

• If customer defaults before completion of the unit, contractor only has the right to retain the deposit


Scenario A

• How should the contractor account for the sale? - Because the contractor does not have a right to

payment for work completed to date, the contractor’s performance obligation is not satisfied over time

- Contractor accounts for the sale of the unit as a performance obligation satisfied at a point in time


Scenario B

• Customer pays nonrefundable deposit upon entering into the contract and will make progress payments during construction of the unit

• Contract has substantive terms that preclude the contractor from being able to direct the unit to another customer

• Customer does not have the right to terminate the contract unless the contractor fails to perform as promised

• If customer defaults by failing to make progress payments as and when they are due, contractor would have a right to all of the consideration promised in the contract if it completes the construction of the unit


Scenario B

• How should the contractor account for this sale? - The asset (unit) does not have an alternative use because

the contract precludes the contractor from transferring the specified unit to another customer

- The terms of the contract and the practices in the legal jurisdiction indicate that there is a right to payment for performance completed to date

- Consequently, the contractor has a performance obligation that it satisfies over time

- To recognize revenue for that performance obligation satisfied over time, the contractor measures its progress toward complete satisfaction of its performance obligation


Measuring Progress Toward Completion

• Objective is to faithfully depict company’s performance • Select a single method for a particular performance obligation

- Output methods - Input methods

• Apply consistent method for similar performance obligations in similar circumstances

• If unable to reasonably estimate progress, revenue should not be recognized until progress can be estimated

• If company can determine no loss will be incurred, can recognize revenue up to costs incurred


Disclosures


Disclosures

• Key principle – to help users of financial statements understand the amount, timing and uncertainty of revenue and cash flows arising from contracts with customers

• Present both qualitative and quantitative information about: - Contracts with customers - Significant judgments and changes in judgments made in

applying the guidance to those contracts - Assets recognized from costs to obtain or fulfill a contract - Fewer disclosure requirements for nonpublic companies


Disclosure Relief for Nonpublic Entities

Disclosure Requirement Practical Expedient for Nonpublic Entities

Present or disclose revenue and any impairment losses recognized separately from other sources of revenue or impairment losses from other contracts.

None.

A disaggregation of revenue to “depict how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors” (the ASU also provides implementation guidance).

An entity may elect not to provide the quantitative disclosure but should, at a minimum, provide revenue disaggregated according to the timing of transfer of good or services (for example, goods transferred at a point in time and services transferred over time).

Information about contract assets and liabilities (including changes in those balances) and the amount of revenue recognized in the current period that was previously recognized as a contract liability and the amount of revenue recognized that is related to performance obligations satisfied in prior periods.

An entity may elect not to provide the disclosures but should disclose the opening and closing balances of receivables, contract assets, and contract liabilities (if not separately presented or disclosed).

Information about performance obligations (e.g., types of goods or services, significant payment terms, typical timing of satisfying obligations, and other provisions).

None.


Disclosure Relief for Nonpublic Entities Disclosure Requirement Practical Expedient for Nonpublic Entities

Information about an entity’s transaction price allocated to the remaining performance obligations, including (in certain circumstances) the “aggregate amount of the transaction price allocated to the remaining performance obligation” and when the entity expects to recognize that amount as revenue.

An entity may elect not to provide these disclosures.

A description of the significant judgments, and changes in those judgments, that affect the amount and timing of revenue recognition (including information about the timing of satisfaction of performance obligations, the determination of the transaction price, and the allocation of the transaction price to performance obligations).

An entity generally must provide these disclosures but may elect not to provide any or all of the following disclosures:

• An explanation of why the methods used to recognize revenue provide a faithful depiction of the transfer of goods or services to the customer.

• For performance obligations satisfied at a point in time, the significant judgments used in evaluating when a customer obtains control.

• The methods, inputs, and assumptions used to determine the transaction price, except that an entity must disclose the methods, inputs, and assumptions used to assess whether an estimate of variable consideration is constrained.

Information about an entity’s accounting for costs to obtain or fulfill a contract (including account balances and amortization methods).


Information about the entity’s policy decisions (i.e., whether the entity used the practical expedients allowed by the ASU).



Proposed Amendments


Summary of Proposed Amendments

FASB IASB

Two proposed Accounting Standards Updates (ASUs)

One package of proposed amendments

1. Proposed ASU: • Amend licenses guidance • Amend guidance for identifying

performance obligations and add examples

• Amend licenses guidance • Provide additional examples for

identifying performance obligations • Provide two new practical expedients

for application of new standard upon adoption

2. Proposed ASU: • Provide new practical expedients

for contract modifications upon transition and sales tax presentation

• Amend guidance on noncash consideration

• Amend guidance on collectibility © Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC 91

Other FASB Standards


Discontinued Operations


ASU 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity

• Current U.S. GAAP:

Component is disposed of or has been classified as held for sale

Elimination of component’s operations and cash flows from the entity’s ongoing operations has occurred (or will occur)

Significant continuing involvement by the entity in the component’s operations does not exist after the disposal transaction



• New guidance:

Component is disposed of or has been classified as held for sale

Disposal represents a strategic shift in operations


•Strategic shifts should have a major effect on the organization’s operations and financial results



• Other differences from current U.S. GAAP include the following:

- Business or nonprofit activity that, on acquisition, meets the criteria to be classified as held for sale is reported in discontinued operations

• Currently, U.S. GAAP does not include a business or nonprofit activity in the definition of discontinued operation

- Disposal of an equity method investment that meets the definition of discontinued operation is reported in discontinued operations

• Currently, disposals of equity method investments are not in the scope of the discontinued operations guidance



• Effective date - Public business entities (and not-for-profit entities

that issue securities or are conduit bond obligors) • Annual periods beginning on or after December 15, 2014,

and interim periods within those annual periods

- All other entities • Annual periods beginning on or after December 15, 2014,

and interim periods beginning on or after December 15, 2015

- Early implementation permitted for new disposals



Going Concern Disclosures


• Going Concern Continuum

Going Concern Basis

Uncertainty =

Disclosures about risks, uncertainties,

or contingencies

Substantial Doubt

???

Liquidation Basis

Liquidation is Imminent

ASU 2014-15, Disclosure of Uncertainties About and an Entity’s Ability to Continue as a Going Concern

Smoo

th

Saili

ng!

Cease to Exist

???


• Management evaluation • Conditions or events, considered in the aggregate,

that raise substantial doubt about the entity’s ability to continue as a going concern

• One year after the date that the financial statements are issued



• Substantial doubt - When relevant conditions and events, considered in

the aggregate - Indicate that it is probable that the entity will be

unable to meet its obligations as they become due - Within one year after the date that the financial

statements are issued (or available to be issued)




• Mitigating effect of management’s plans should be considered only to the extent that:

- Probable that the plans will be effectively implemented and, if so,

- Probable that the plans will mitigate the conditions or events that raise substantial doubt


• Disclosure requirements if management’s plans effectively alleviate substantial doubt

• Disclosure requirements if management’s plans do not alleviate substantial doubt



Going Concern Basis

Uncertainty =

Disclosures about risks, uncertainties,

or contingencies

Substantial Doubt

= probable that the

entity will be unable to meet its

obligations as they become due within one year after the

date that the financial statements

are issued

Liquidation Basis

Liquidation is Imminent

Going Concern Continuum


Difference in ASU and Auditing Standards

Financial Statement Date

12/31/2014

Financial Statement

Issuance Date 3/15/2015

Current audit standard

requirement: one year from

financial statement date

12/31/2015

ASU’s requirement: one year from

financial statement

issuance date

3/15/2016 © Elliott Davis Decosimo, LLC © Elliott Davis Decosimo, PLLC 106


• Effective date and transition - Annual period ending after December 15, 2016, and

for annual periods and interim periods thereafter - Early application is permitted

• Auditing Standards Board and PCAOB will need to make changes


Pushdown Accounting


ASU 2014-17, Pushdown Accounting

• Pushdown accounting - An acquired entity’s separate financial statements

reflect the acquirer’s new basis of accounting for the acquiree’s assets and liabilities

• Acquired entity has option to apply pushdown accounting upon occurrence of an event in which an acquirer obtains control of the acquired entity

• Acquirer may be another entity or an individual


ASU 2014-17, Pushdown Accounting

• Effective date and transition - Effective immediately - Acquired entities may elect to apply it to any future

transaction or to their most recent event in which an acquirer obtains or obtained control of them

- If the financial statements have already been issued, application of pushdown accounting will be accounted for retrospectively as a change in accounting principle


Debt Issuance Costs


ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs

• Under current guidance, an entity reports debt issuance costs in the balance sheet as deferred charges (i.e., as an asset)

• ASU specifies - Debt issuance costs related to a note should be

reported in the balance sheet as a direct deduction from the face amount of that note

- Amortization of debt issuance costs should be reported as interest expense


ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs

• Amendments do not affect the current guidance on the recognition and measurement of debt issuance costs


• On January 1, 2015, an entity issues a debt security with a face amount of $10,000,000 to an investor

• On the same date, the entity incurs and pays incremental, direct issuance costs of $50,000 to parties other than the investor

• The debt security matures in five years (on December 31, 2020) • Journal Entry 1

Cash $ 10,000,000 Debt — long term $ 10,000,000 To record $10,000,000 note payable on January 1, 2015.

• Journal Entry 2 Deferred issuance cost (asset) $ 50,000 Cash $ 50,000 To record $50,000 debt issuance cost on January 1, 2015

Example – Previous Guidance


• After adopting the guidance in the ASU, the entity would record the $50,000 in debt issuance costs on January 1, 2015, as follows:

• Journal Entry Cash $ 9,950,000 Debt — long term $ 9,950,000 To record $9,950,000 note payable on January 1, 2015.

Example – New Guidance


• Public business entities - Effective for fiscal years, and interim periods within those

fiscal years, beginning after December 15, 2015 • All other entities

- Effective for fiscal years beginning after December 15, 2015, and interim periods beginning after December 15, 2016

• Early adoption allowed for financial statements that have not been previously issued

• Apply the new guidance retrospectively to all prior periods

Effective Date and Transition


• Disclose in the first fiscal year after adoption date: - Nature of and reason for the change in accounting

principle - Transition method - Description of the prior-period information that has

been retrospectively adjusted - Effect of the change on the financial statement line

item (debt issuance cost asset and debt liability)

Disclosures


On the Horizon


Leases

• May 2013 – FASB issued a proposed ASU, Leases, which was a revision of the 2010 proposed ASU

• Core principle is that an entity should recognize assets and liabilities arising from a lease.

• Lessee would recognize assets and liabilities for leases with a maximum possible term of more than 12 months

• Lessee would recognize a liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the leased asset (the underlying asset) for the lease term


Leases

• Recognition, measurement, and presentation of expenses and cash flows would depend on whether the lessee is expected to consume more than an insignificant portion of the economic benefits embedded in the underlying asset

• For practical purposes, this assessment would often depend on whether the underlying asset is property or assets other than property


Leases

• 2014 meetings, FASB and the IASB have begun to back away from the May 2013 proposal

• IASB supports a single on-balance sheet model (similar to 2010 proposal)

• FASB supports a dual on-balance sheet model that would use the IAS 17, Leases, classification principles

• Final standard expected by the end of 2015


Financial Statements of Not-for-Profits

• Proposed ASU, Presentation of Financial Statements of Not-for-Profit Entities, issued in April

• Affects substantially all NFPs - Charities - Foundations - Private colleges and universities - Nongovernmental health care providers - Cultural institutions - Religious organizations - Trade associations


Financial Statements of Not-for-Profits


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Russ Madray Email: [email protected] Phone: 864.370.5640 Website: www.elliottdavis.com

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