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FASB Flash Report - November 2015

Mon, 11/02/2015 - 12:00am
FASB Makes Tentative Decisions about Income Tax Disclosures
Download PDF Version

The Financial Accounting Standards Board (“FASB” or “Board”) made tentative decisions at its October 21, 2015 meeting on the income tax disclosure requirements in ASC 740 Income Taxes. The October 21 meeting follows two prior Board meetings on income tax disclosures. These decisions are made pursuant to the FASB’s on-going Disclosure Framework project. The objective is to improve the effectiveness of financials statement footnote by clearly communicating important and relevant information.    

The Board’s tentative decisions on income tax disclosure include:
  1. Disclosing the fact that a tax law is enacted in the current period and that it is probable the enacted law would affect the reporting entity in future periods. 
  2. Disaggregating income taxes paid between domestic taxes paid and foreign taxes paid. 
  3. Disclosing the change in the valuation allowance and explaining the nature and amounts recorded and released during the reporting period.1
  4. Requiring non-public entities (in addition to public entities) to disclose a tax rate reconciliation using percentage or dollar amounts of the reported income tax expense from continuing operations to the amount of income tax expense that would result from applying domestic statutory rates to pretax income from continuing operations. The revisions would require that (1) a reconciling item which totals at least 5% of the tax computed at the statutory rate would be separately disclosed in the rate reconciliation and (2) a qualitative description of items that cause significant movement in the tax rate year over year.2
  5. Disclosing the balance sheet line item in which deferred income taxes are presented if they are not presented as a separate line item on the face of the balance sheet. 
  6. Disclosing gross operating loss and tax credits carryforwards and their expiration dates as shown on the income tax returns, the amounts and expiration dates of the carryforwards giving rise to deferred tax asset(s) (the tax-affected amount of operating losses), and the total amount of unrecognized tax benefit (UTB) liabilities that offset the tax-effected carryforwards.3

An exposure draft is not expected until the FASB obtains and considers additional input from stakeholders on all tentative decisions related to income tax disclosures. The FASB will conduct additional outreach with stakeholders to discuss the tentative decisions and determine whether changes are necessary before the Board votes to expose these proposals for comment. As such, an exposure draft could be released in mid-to-late 2016.
Details Disclosure Framework Project
This FASB project seeks to improve the effectiveness of disclosures in the notes to financial statements by requiring disclosure of information that is the most important or relevant to an entity’s financial statement users. Such disclosure would presumably inform a user’s understanding of the amount and timing of expected cash flows related to a particular line item in the financial statements (e.g., income taxes). The FASB’s disclosure framework is also intended to promote consistent decisions by the FASB about disclosure requirements and to serve as a “guide” to disclosure decisions undertaken by reporting entities. The FASB intends to facilitate the use of judgment by preparers in providing disclosures. To achieve these objectives, the Board is evaluating disclosure requirements of significant topics against its proposed Concepts Statement, Conceptual Framework for Financial Reporting – Chapter 8: Notes to Financial Statements.
  BDO Insights BDO supports the FASB’s efforts to improve the effectiveness of financial statement footnotes by developing a framework to promote judgments that result in relevant disclosure.
In this context, public entities generally disclose the enactments of significant tax law(s) or changes in tax laws in the Management Discussion & Analysis (“MD&A”) section of a registrant’s financial statements. Requiring all entities to include a footnote disclosure of enacted tax law changes and to state when it is probable that such tax law changes would affect future periods would reflect important tax information in the financial statements.4
Similarly, the valuation allowance for deferred tax assets is a critical accounting estimate for many entities and the tentative decision to require disclosing the details  of the change during the period (i.e., the nature and amounts) would provide additional transparency of the accounting for the valuation allowance (i.e., management’s judgment) in the footnotes.
The tentative decision to require non-public entities to provide the reconciliation of the income tax expense to the income tax at the statutory tax rate would provide useful information to their financial statement users. The decisions would effectively codify SEC-specific disclosure requirements within US GAAP. Requiring a disaggregation of tax effects which increase or decrease the effective rate by at least 5% of the statutory rate would codify Rule 4-08(h)(2) in Regulation S-X. Disclosing items that cause significant changes in the tax rate year over year similarly codify MD&A disclosure requirements.       
The disclosure of income tax carryforwards (as shown on the tax returns), the related deferred tax assets and the UTB liabilities that might offset the carryforwards would provide additional transparency over important income tax information. ASU 2013-11 revised the balance sheet presentation of UTB liabilities and income tax carryforwards to require, with limited exception, a net presentation on the face of the balance sheet.5 When a net presentation is required, the footnote disclosure of the components of deferred income taxes (ASC 740-10-50-2) would not show income tax carryforwards that are presented net of UTB liabilities.6
The Board also decided to provide additional transparency about the amount of income taxes paid, disaggregated between foreign and domestic jurisdictions. Some financial statement users have requested additional information about cash tax payments and how they reconcile with income tax expense. Cash payments to governments for taxes are required to be presented as cash outflows from operating activities in the statement of cash flows.7 If the indirect method is used, the amount of income taxes paid is required to be disclosed as supplemental cash flow information.8 The Board’s decision to also include this information in the tax footnote and to further disaggregate income tax paid between foreign and domestic cash tax payments would provide additional relevant information as to the magnitude of income tax payments to foreign governments relative to payments to the U.S. federal, state, and local jurisdictions.    

BDO will continue to monitor this project and provide input to the FASB.

For more information, please contact one of the following regional practice leaders:

National Assurance Group

Adam Brown
National Director of Accounting
    Patricia Bottomly
National Assurance Partner

National Tax Services -  Topic 740 Group

Yosef Barbut
Tax Partner

1 Amending ASC 740-10-50-2
2 Amending ASC 740-10-50-12 through 50-14
3 Amending ASC 740-10-50-3(a)
4 The SEC requires disclosure of the effects of “tax holidays” granted to a reporting entity. Staff Accounting Bulletin (SAB) Topic 11C Miscellaneous Disclosures requires disclosure of the aggregate tax benefit and earnings per share effects of “tax holiday(s)” and any factual circumstances such as the expiration date(s).   
5 For additional information on ASU 2013-11, refer to BDO Knows ASC 740 Income Tax Accounting Question & Answer Series #2 – Balance Sheet Presentation of Uncertain Tax Benefits Pursuant to Accounting Standard Update 2013-11 (October 2014)
6 A tax attribute DTA would be presented in the component of deferred taxes table net of the UTBs that are required to reduce the DTA. The sum of all deferred taxes presented in the component of deferred taxes table should be the same as the total of all deferred taxes presented on the balance sheet.
7 ASC 230-10-45-17(c)
8 ASC 230-10-50-2 

PCAOB Re-Opens Comment Period on Audit Quality Indicators Concept Release

Mon, 11/02/2015 - 12:00am
Download PDF Version

In July 2015, the PCAOB issued a Concept Release on Audit Quality Indicators (AQIs) identifying 28 potential quantitative audit quality indicators (AQIs) at both the firm and engagement level that are intended to provide additional information about whether audit work being performed is being conducted by the appropriate individuals with the requisite experience, skills, resources, and tools. Refer to BDO’s previous Alert for further details. The original comment period ended September 28, 2015. The PCAOB recently announced its agenda for the November 12-13, 2015 meeting of its Standing Advisory Group (SAG), which will focus discussion on AQIs, among other emerging areas. Consistent with its standard practice, the Board has decided to reopen until November 30, 2015, the comment period on the AQI Concept Release to provide an opportunity for members of the public to offer their views, including on any new information that becomes available as a result of the SAG meeting.
  Next Steps We encourage audit committees, financial executives, and auditors to explore the resources cited in this Alert and determine how such proposed guidance may benefit your organization or whether there are further considerations to be incorporated to achieve stated goals. For additional audit committee tools and resources, visit BDO’s Board Governance page.

For questions related to matters discussed above, please contact Amy Rojik.

BDO Comment Letter - Principal versus Agent Considerations

Wed, 10/21/2015 - 12:00am
Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations
(File Reference No. 2015-290) (“the ED”)

BDO supports the proposed changes to the principal vs. agent guidance, but recommends refining them in key areas.

Special Edition of EBP Commentator – 2016 COLA UPDATE

Mon, 10/19/2015 - 12:00am
The Internal Revenue Service (IRS) recently announced that, in general, there would be no cost-of-living adjustment (COLA) for tax year 2016 affecting dollar limitations for pension plans and other retirement-related items. For more details and the current dollar limits for pension plans and other figures, see the following special edition.

2015 Board Survey

Fri, 10/16/2015 - 12:00am

Download the PDF Version

Each year, the agenda for corporate board meetings at publicly traded companies seems to grow longer, as directors are challenged to stay abreast of the latest regulatory changes, financial reporting requirements and risk management concerns. In 2015, these changes are substantial in nature and in some cases – according to the directors – change is not always for the best.

The BDO Board Survey, conducted annually by the Corporate Governance Practice of BDO USA, was created to act as a barometer to measure the opinions of public company board members on a variety of important corporate governance issues. The 2015 BDO Board Survey, conducted in September of 2015, examines the opinions of 150 corporate directors of public company boards.

This year’s study reveals that public company directors are becoming increasingly involved in their companies' cybersecurity efforts and how best to protect their digital assets from cyber attack. They also are spending a good deal of time preparing for the implementation of the “Cadillac Tax,” as well as new financial reporting requirements and proposed disclosure rules that impact areas ranging from executive compensation to the audit committee to political contributions.
  Managing Cyber Risk More than one-fifth (22%) of board members say their company experienced a cyber breach during the past two years, double the percentage of 2013 (11%). This increase has clearly spurred action in corporate boardrooms.

More than two-thirds (69%) of corporate directors report that their board is more involved with cybersecurity than it was 12 months ago, a noticeable jump from 2014 when 59 percent of directors cited an increase in time spent on digital security.

The vast majority of directors (87%) indicate that they are briefed on cybersecurity at least once a year - this includes one-third (33%) who are briefed at least quarterly. This represents a substantial increase from 2014 when 71 percent reported at least an annual briefing and only one quarter (25%) were briefed at least quarterly. Equally revealing, just 13 percent of board members say they are not briefed on cybersecurity at all, compared to 29 percent last year.

More than two-thirds (70%) of board members say they have increased company investments in cybersecurity during the past year, with an average budget expansion of 22 percent. Last year, just over half (55%) reported an increase in cyber-security investments.

At least one-quarter (28%) of board members say their company has purchased cyber insurance. This is almost triple the percentage (10%) that reported purchasing this coverage in 2014.

“This year’s BDO Board Survey clearly shows that cybersecurity is moving up on the boardroom agenda. Corporate directors report that they are being briefed more often and they are responding with increased budgets to address this critical area,” said Shahryar Shaghaghi, National Leader of Technology Services for BDO Consulting. “Nevertheless, the survey also reveals that there is much work to be done in terms of implementation of cybersecurity mitigation strategies, as only one-third of board members indicate they have both identified and developed solutions to protect their critical digital assets. It is especially troubling that less than half of the directors believe their company has a cyber incident response plan in place and only one-third have cyber risk requirements for third-party vendors – a major source of cyber attacks.”
Proactive Protection
Although corporate directors’ engagement on cyber risk is clearly trending in a positive direction, there is still much work to be done in terms of putting formal strategies in place to combat cyber attacks and mitigate damage to digital assets.

When asked about formal risk assessments of their critical digital assets, just over one-third (34%) of directors report that they have completed documentation of their business’s critical digital assets and developed solutions to protect them, while a similar percentage (32%) say they’ve identified their critical digital assets, but a solution strategy is still in process. Approximately one fifth (19%) of board members say they are still working to identify critical digital assets, while 15 percent indicate their company has done no work to identify and protect their digital assets.

Less than half (45%) of corporate directors say their company has a cyber breach/incident response plan in place, compared to one-third (34%) who do not have a plan. More than a fifth (21%) of board members weren’t sure whether they had such a plan.

Just over one-third (35%) of directors say their company has developed cyber risk requirements that their third-party vendors must meet and only 5 percent of directors are aware of their company having to change a vendor due to cyber risk concerns. Since third-party vendors are one of the main sources of cyber attacks, these findings reveal a significant cybersecurity blind spot at the board level that needs to be addressed.

A majority of directors (59%) say they use in-house resources to assess and mitigate cyber risks, compared to 41 percent that utilize an external provider.

“Given proposals from shareholder activists for more transparency with regard to campaign contributions and a growing trend of companies self-reporting such information, board members appear to be getting more comfortable with the idea of mandatory disclosure of political contributions,” said Amy Rojik, Partner in the Corporate Governance Practice at BDO USA. “In contrast, directors are clearly not in favor of mandated disclosure of audit committee communications with the external auditor. This is consistent with the comment letters the SEC has received on this proposal, as boards are sensitive to how such disclosures may have the unintended consequence of chilling communications between their audit committees and the external auditors.”
  New/Propsed Disclosures Board members were queried on their attitude toward several new or proposed accounting and reporting disclosure rules and standards:

Political Contributions
Since a 2010 U.S. Supreme Court ruling removed restrictions on political contributions, many shareholder groups have argued that businesses should disclose these contributions. Although some companies voluntarily disclose corporate political spending voluntarily, a majority (53%) of public company board members believe that the SEC needs to develop mandatory disclosure rules for corporate political contributions.

Audit Committee – Auditor Communications
When asked about the SEC concept release that would require disclosure of communications between the audit committee and the external auditor, an overwhelming majority (87%) of corporate directors believe such disclosures would have a negative impact on the audit committee-auditor relationship.

CEO-Median Employee Pay Ratio
Beginning in 2018, public companies will be required to report the ratio of median employee pay to CEO compensation. This 2018 requirement will report on 2017 compensation. When asked if their boards had begun to take steps to comply with this new requirement, directors were split. A large minority (43%) are familiar with the new requirement but have taken no actions, while a similar percentage (39%) are already preparing pay ratio calculations for internal planning purposes – though they will not disclose the ratio prior to the required disclosure date. Relatively few (8%) say they are planning to disclose the pay ratio calculation prior to the mandatory disclosure date. Surprisingly, 10 percent of the directors say they are still unfamiliar with the requirement.

When asked about their greatest concern with the CEO-median employee pay ratio disclosure, approximately three-quarters (74%) of corporate directors say they simply do not believe it is a meaningful or helpful measure. Other concerns cited by smaller proportions of directors are internal and external reaction to perceived high ratios (10%), unfair comparisons to other companies (8%), difficulty in identifying median employee pay (5%) and the inability to fully exclude non-U.S. employees that inflate the ratio (3%).

Reflecting a possible unintended consequence of this new disclosure, a majority of board members (58%) believe the CEO-median employee pay ratio could lead to companies outsourcing low-wage functions to third-party contractors.

There has been debate about the costs for companies to comply with the new pay ratio disclosure. According to a Wall Street Journal article, the SEC expects the 3,800 public companies affected to spend a combined $72.8 million to comply with the new CEO/median employee ratio disclosure. That translates into approximately $19,000 per company. When asked if they anticipate it will cost their company more or less than that figure to comply with the requirement, a majority (52%) of board members believe it will cost less, while just over one-quarter (27%) fear it will cost more. Approximately one-fifth of the directors (21%) were unsure of the costs.

“We are clearly seeing a greater awareness and dialogue among directors with respect to both pending requirements and proposed new rules related to executive compensation,” said Jim Willis, a Senior Director in the Compensation and Benefits Consulting Practice of BDO USA. “While board members are generally supportive of some regulations, such as the SEC’s proposed new rule requiring companies to claw back incentive pay when material errors necessitate a financial restatement, directors question the value of others, such as the CEO-median employee pay ratio.”
Under the SEC’s proposed pay-for-performance disclosure rules most public companies will need to report the compensation for their CEO and other senior executives during the past five years compared to the company’s total shareholder return (TSR) during that same timeframe. Yet, half (51%) of corporate directors do not consider TSR to be an appropriate measure for company performance.

When asked if they intend to change their company’s incentive plan measures to include TSR, a majority of board members (52%) indicated they have no plans to add TSR as a measure. In contrast, close to one-third (31%) indicate TSR is already a measure in their business’s plans and an additional 7 percent of directors are planning to add TSR. A small minority (10%) claim their companies have no incentive plan measures.

Claw Backs
Close to three-quarters (72%) of board members are in favor of the SEC’s proposed new rules requiring public companies to “claw back,” or recoup, top executives’ incentive pay if that pay was based upon financial statements later found to contain material errors. However, an even greater percentage (78%) of directors believe boards should be able to use their own discretion on whether to pursue claw backs from an executive.

Related Parties & Significant Unusual Transactions
Surprisingly, almost two-thirds (64%) of directors say their board or compensation committee has not been briefed by management on a new Public Company Accounting Oversight Board (PCAOB) standard (AS 18) effective for 2015 that requires auditors to more closely scrutinize executive pay and identify inherent risks, such as incentives that could reward management for decisions detrimental to shareholders.

“By the time Congress generally passes an extender package allowing bonus depreciation for the year, it is typically too late in the year to actually plan any additional capital expenditures. Thus businesses must make a decision on capital expenditures without knowing what incentives will actually be available. Similarly, it is difficult to enter into strategic research and development programs without knowing if you can count on the R&D tax credit each year,” said Doug Bekker, a Partner in the Tax Practice of BDO USA. “A permanent extension of these benefits would allow for a much greater degree of certainty in planning.”
  Tax Planning Tax Extenders
For several years, Congress has waited until the final weeks of the year to vote on more than 50 “tax extenders,” such as the research and development credit, Section 179 expensing and bonus depreciation. Better than three-quarters (77%) of board members believe the precarious nature of these credits, needing to be renewed each year, makes it difficult for their businesses to make long-term planning decisions and an identical proportion (77%) are in favor of making these credits permanent.

Cadillac Tax
The Cadillac tax, a provision of the 2010 Affordable Care Act that goes into effect in 2018, will place a 40% tax on health benefit costs paid by employers that exceed government-set thresholds of $10,200 for individuals and $27,500 for families. Forty percent of public company board members believe their company will be impacted by the “Cadillac tax” and approximately two-thirds (65%) of those affected are planning on making changes to their health benefits to avoid the tax.

When asked about specific changes they were considering, strong majorities cite a shift to higher deductible plans so that employees pay more medical expenses out-of-pocket (95%), dropping high-cost plan options (86%), adopting wellness and preventative initiatives to drive down costs (83%) and reducing the overall level of benefits offered (78%).

Consumption Tax?
Approximately half (49%) of corporate directors say they are in favor of replacing the corporate and personal income tax with a tax on consumption. Last year, just 40 percent were in favor of switching to a consumption tax.

“The increased interest in a consumption tax comes from frustration with the inherent complexity of other tax systems. The benefits of a consumption tax is that it is easy to administer and captures all segments of the economy. It also shifts the current compliance burden from the taxpayer to a fiduciary responsibility of the seller or service provider,” said Scott Hendon, a Partner in the Tax Practice of BDO USA. “However, critics point out that a consumption tax is regressive since consumption consists of a lower percentage of your earnings at higher income levels.  If special provisions are required to prevent the tax from being regressive, it could become as complex as our current system – thereby eliminating one of the primary benefits.”
About the Survey These are the findings of The 2015 BDO Board Survey, conducted by the Corporate Governance Practice of BDO USA, which examined the opinions of 150 corporate directors of public company boards regarding financial reporting and corporate governance issues. The survey was conducted in September of 2015 by Market Measurement, an independent market research firm, on behalf of BDO.
For more information on BDO's Corporate Governance Practice, please contact one of the leaders below:

Amy Rojik
Assurance Partner


Stephanie Giammarco
BDO Consulting Partner

  Ted Vaughan
Assurance Partner  

Paul Heiselmann
National Managing Partner - Specialized Tax Services


Chris Smith
Assurance Partner


Carl Pergola
BDO Consulting Partner & Executive Director

  Matthew Becker
Tax Partner   Glenn Pomerantz
BDO Consulting Partner, Global Forensics Practice   Jay Duke
Managing Partner, Advisory Services   Tom Ziemba
Global Employer Services Senior Director

Significant Accounting & Reporting Matters Q3 2015

Mon, 10/12/2015 - 12:00am
Issued on a quarterly basis, the Significant Accounting and Reporting Matters Guide provides a brief digest of final and proposed financial accounting standards. This guide is designed to help audit committees, boards and financial executives keep up to date on the latest corporate governance and financial reporting developments.

Highlights include:
  • Final FASB Guidance
  • Final and Proposed PCAOB Guidance
  • IASB Guidance
  • SEC Guidance
  • And more


FASB Flash Report - October 2015

Fri, 10/09/2015 - 12:00am
FASB Voted to Affirm the Proposal to Require Classification of All Deferred Income Taxes as Noncurrent Download PDF Version
Summary On October 5, 2015 the Financial Accounting Standards Board (“FASB” or “Board”) voted to ratify a proposed Accounting Standards Update (“ASU”) requiring presentation of deferred tax assets and liabilities as noncurrent in a classified balance sheet. This accounting principle change will be effective in calendar year 2017 for public entities and calendar year 2018 for non-public entities with calendar year reporting periods. However, early adoption is permitted to any interim or annual period.
The Board has also planned additional research on issues raised by stakeholders concerning a proposed ASU to eliminate the intra-entity asset transfer recognition exception.
  Details Background
Under current accounting, deferred income taxes are presented in a classified balance sheet as “current” and “noncurrent” assets and liabilities, depending on the classification of the underlying asset or liability for which deferred taxes are recognized. Deferred tax assets that are not related to specific assets or liabilities, such as net operating losses, income tax credits and the Alternative Minimum Tax credit carryforwards, are classified based on their expected tax return utilization period.
On January 22, 2015, the Board issued an Exposure Draft (“ED”) of a proposed ASU on income taxes (Topic 740) to require “noncurrent” presentation of all deferred income taxes. The ED was issued as part of the Board’s Simplification Initiative. The majority of the comment letters supported the balance sheet classification proposal. 
Stakeholders argued that current classification of deferred taxes provides little or no benefit to financial statement users to justify the complexity and cost of complying with the current classification rules. This is because current classification is not always an accurate estimate of the timing of expected cash tax flows from deferred taxes expected to reverse within the next accounting period. Additionally, the FASB’s decision would result in convergence with IFRS since International Accounting Standard (IAS) 12 on income taxes also requires noncurrent presentation of all deferred income taxes.
Effective Date, Transition Method and Transition Disclosure
Public entities are required to apply the new guidance in the annual reporting period beginning after December 15, 2016, including interim reporting periods within those annual reporting periods. Private entities will have an additional year to apply the change, starting with annual periods beginning after December 15, 2017, and interim reporting periods within annual reporting periods beginning after December 15, 2018.
Early adoption is allowed for all entities as of the beginning of any interim or annual reporting period.
Reporting entities have the choice between applying the amendments prospectively or retrospectively to all periods presented. In case of a prospective application, reporting entities will disclose in the first interim and annual period of change (i) the nature of and reason for the change in accounting principle, and (ii) a statement that prior periods were not adjusted. If the amendments are applied retrospectively, reporting entities have to disclose in the first interim and annual period of change (i) the nature of and reason for the change in accounting principle, and (ii) quantitative information about the effects of the accounting change on prior periods.
Status of the ED Proposed ASU to Eliminate the Recognition Exception for Intra-Entity Asset Transfers
Under current accounting, all current and deferred income tax effects from an intra-entity transfer of assets are deferred in consolidated financial statements until the related asset’s income is recognized. The ED called for eliminating this recognition exception. The majority of comment letters were not in favor of this proposal, arguing the elimination would increase cost and complexity.  However, one alternative is to create a scope exception for inventory and remove the recognition exception for all other assets. The Board directed the staff to perform additional research on several issues raised in comment letters (e.g., interim period tax accounting implications from removing the recognition exception) and to research the cost and benefit of creating an inventory scope exception while eliminating the current exception for all other assets.
  BDO Comment Entities may consider whether early adopting noncurrent presentation of all deferred income taxes would benefit users of their financial statements and plan their adoption work accordingly. Entities may also consider whether the change in balance sheet presentation would impact certain financial statement measures and ratios used for various purposes and plan appropriate communication. 
Stakeholders are also encouraged to participate in any FASB’s staff outreach on issues raised in comment letters and the options considered by the Board concerning the proposal to eliminate the intra-entity transfer recognition exception.  

For more information, please contact one of the following regional practice leaders:

National Tax Services -  Topic 740 Group

Yosef Barbut
Tax Partner   Ingo Harre
Tax Manager
National Assurance Group
  Adam Brown
National Director of Accounting
    Patricia Bottomly
National Assurance Partner

FASB Flash Report - October 2015

Mon, 10/05/2015 - 12:00am
FASB Issues ASU to Simplify the Accounting for Measurement-Period Adjustments  
Download the PDF Version
Summary The FASB recently issued ASU 2015-16 as part of its Simplification Initiative. The amendments require adjustments to provisional amounts that are identified during the measurement period, including the cumulative effect of changes in depreciation, amortization, or other income effects to be recognized in the current-period financial statements.  Prior periods should no longer be adjusted.  The new standard takes effect in 2016 for public companies and is available here. Early adoption is permitted.    
Details Background

If the initial accounting for a business combination is incomplete by the end of the reporting period in which the acquisition occurs, an acquirer should report provisional amounts related to items for which the accounting is incomplete.  During the measurement period, the provisional amounts are then adjusted to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date. The measurement period ends as soon as the acquirer receives the information it was seeking or learns that more information is not obtainable.  However, the measurement period cannot exceed one year from the acquisition date.

Prior U.S. GAAP required that measurement-period adjustments be retrospectively applied as if the accounting had been completed at the acquisition date.  This required adjusting comparative information for prior periods, including any changes in depreciation, amortization, or other income effects.  For example, in the 20X4 financial statements, the initial accounting for a business combination was incomplete because the appraisal of fixed assets had not been received.  In the March 31, 20X5 financial statements, a measurement period adjustment would be recognized by disclosing that the 20X4 comparative information was retrospectively adjusted to increase the carrying amount of fixed assets by $9,500, offset by a corresponding decrease to goodwill of $10,000 and an increase in depreciation expense of $500. That retrospective adjustment reflects the increased fair value of the fixed assets by $10,000 at the acquisition date, less the additional depreciation recognized
from that date.1
Main Provisions

Under ASU 2015-16,2 adjustments to provisional amounts that are identified during the measurement period should be recognized in the reporting period in which the adjustment amounts are determined.  This includes any related impact on earnings of changes in depreciation, amortization, or other income effects, calculated as if the accounting had been completed at the acquisition date.  Continuing with the example above, the March 31, 20X5 financial statements would reflect the measurement period adjustment in the current period by increasing the carrying amount of the fixed assets by $9,000. Depreciation expense would also be increased by $1,000, including $500 related to the prior period.3 That is, depreciation should reflect the cumulative effect of the measurement period adjustment, including amounts relating to the current period.

In addition, the amendments require an entity to disclose (either on the face of the income statement or in the notes) the nature and amount of measurement-period adjustments recognized in the current period by income statement line items that would have been recorded in previous reporting periods if the adjustment to the provisional amounts had been recognized as of the acquisition date.  To illustrate, the March 31, 20X5 financial statements would separately disclose (or present) the $500 of depreciation related to the 20X4 period in the prior example.
Effective Date and Transition

The amendments are effective for public business entities for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2015. For all other entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2016, and for interim periods within fiscal years beginning after December 15, 2017.  Early adoption is permitted.

The amendments in this Update should be applied prospectively to measurement-period adjustments that occur after the effective date of this Update. 

Only the nature and reason for the change in accounting principle is required to be disclosed in the first interim and annual period of adoption.
  BDO Comment Reporting entities that have recently completed a business combination but for which the measurement period is still open may wish to consider early adopting the new standard to take advantage of its intended cost-savings.

For questions related to matters discussed above, please contact Adam Brown, Gautam Goswami or Chris Smith.

1 Adapted from paragraphs 805-10-55-27 through 55-29 prior to the amendments in ASU 2015-16.
Business Combination (Topic 805): Simplifying the Accounting for Measurement-Period Adjustments
3 Adapted from paragraphs 805-10-55-27 through 55-29 after the amendments in ASU 2015-16.

BDO Comment Letter - Derivatives and Hedging

Mon, 10/05/2015 - 12:00am
Derivatives and Hedging (Topic 815): Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships (File Reference No. EITF-15D) (“the ED”)

BDO agrees that a derivative novation should not, in itself, preclude hedge accounting.

BDO Comment Letter - Derivatives and Hedging Put and Call Options in Debt Instruments

Mon, 10/05/2015 - 12:00am
Proposed Accounting Standards Update (ASU), Derivatives and Hedging – Contingent Put and Call Options in Debt Instruments (Topic 815) (File Reference No. EITF-15E)

BDO agrees with the clarification that only four steps are needed to determine if a put or call option should be bifurcated.  We also recommend clarifying how to identify puts or calls for that purpose.

SEC Flash Report - October 2015

Fri, 10/02/2015 - 12:00am
SEC Publishes Request for Comment on Regulation S-X
Download the PDF Version

On September 25th, the Securities and Exchange Commission published a request for comment on the effectiveness of certain financial disclosure requirements of Regulation S-X.  The request is part of the Disclosure Effectiveness Initiative, a broad-based staff review of the SEC’s disclosure rules designed to improve the disclosure regime for both companies and investors. 
The request for comment focuses on the disclosure requirements for entities other than a registrant, including those of acquired businesses (under Rule 3-05), subsidiaries not consolidated and 50 percent or less owned persons (under Rules 3-09 and 4-08(g)), guarantors and issuers of guaranteed securities (under Rule 3-10), and affiliates whose securities collateralize registered securities (under Rule 3-16).  The request contains questions directed to investors and registrants about:
  • How the required financial information is utilized
  • What changes could be made to improve its usefulness
  • What challenges registrants face in preparing such information
  • Whether the bright-line tests required by some of the rules should be revised
  • Whether judgment should enter into the determination to provide some of the financial information, etc.
The request for comment can be found here on the SEC’s website.  Comments should be provided within 60 days following publication of the request for comment in the Federal Register.

For questions related to matters discussed above, please contact Jeff Lenz or Paula Hamric.

BDO Comment Letter - Concept Release on Audit Quality Indicators

Tue, 09/29/2015 - 12:00am
Request for Public Comment: PCAOB Release No. 2015-005, Concept Release on Audit Quality Indicators

BDO supports the PCAOB's exploration into the use of audit quality indicators (AQIs) in voluntary discussions with those concerned with the financial reporting and auditing process, particularly the audit committee, that may provide insights about how to evaluate the quality of audits and how high quality audits are achieved.
We encourage additional research regarding the relevance and usefulness of the PCAOB's proposed quantitative AQIs as well as further consideration of the significance and complexity of additional qualitative context that such AQIs require in order to be understood by investors or other users who would not otherwise have access to other relevant information related to the conduct of any one audit.

FASB Flash Report - September 2015

Mon, 09/28/2015 - 12:00am
FASB Makes Tentative Decisions With Respect to Disclosure of Unrecognized Tax Benefits Download the PDF Version
Summary The Financial Accounting Standards Board (“FASB” or “Board”) made tentative decisions at its August 26, 2015 meeting on income tax disclosure requirements in ASC 740 specific to uncertain tax benefits (“UTB”). These decisions are made pursuant to the FASB’s on-going Disclosure Framework Project (“disclosure project”). The objective is to improve the effectiveness of disclosures in the notes to financial statements by providing important and relevant information. The magnitude and nature of uncertain tax positions - tax return positions for which a full or partial accounting reserve is required - is an important indicator of a reporting entity’s income tax risk tolerance and exposure. Hence, the accounting and disclosure of UTBs remain a significant topic to investors and regulators.  
The Board’s tentative disclosure decisions specific to UTBs include:
  • Amending the current requirement in ASC 740-10-50-15A(a)(3) regarding settlements with taxing authorities to require disaggregation of cash settlements and non-cash settlements (Note: a tabular reconciliation disclosure of beginning and ending gross UTBs is only required of public entities).
  • Requiring the balance sheet accounts which are affected by UTBs to be disclosed.
  • Eliminating the current requirement in ASC 740-10-50-15(d) to disclose significant changes in UTBs that are anticipated to occur within 12 months of the reporting date (Note: this requirement is applicable to public and non-public entities).
The Board decided not to require the disclosure of:
  • Disaggregation of gross UTBs by jurisdiction, the uncertain tax position, or by scheduled expiration of the relevant statute of limitation.
  • Disaggregation of gross UTBs on the basis of uncertain tax positions for which recognition is not met (full benefit is reserved) and uncertain tax positions for which recognition is met but a partial reserve is required.

The August 26 meeting follows the February 11 meeting in which the Board made tentative decisions related to income tax disclosure requirements specific to foreign earnings (see a BDO Knows ASC 740, March 2015 alert for a detailed discussion of those decisions).  An exposure draft is not expected until the FASB has considered other income tax disclosure changes, such as the tax rate reconciliation, the valuation allowance, and miscellaneous income tax items, as well as input from stakeholders on these and previous tentative decisions. The FASB is expected to meet and discuss such items later in the year.  
  Details Disclosure Framework Project
This FASB project seeks to improve the effectiveness of disclosures in notes to financial statements by requiring disclosure of information that is most important or relevant to an entity’s financial statement users. Information qualifying for disclosure would presumably have the capacity to impact the amount and timing of expected cash flows related to a particular line item in the financial statements (e.g., income taxes). The FASB’s disclosure framework is also intended to promote consistent decisions by the FASB about disclosure requirements and to serve as a “guide” to disclosure decisions undertaken by reporting entities. The FASB wants to provide flexibility and discretion in applying disclosures requirements. To achieve these objectives, the Board is evaluating disclosure requirements of significant topics against its proposed FASB Concepts Statement, Conceptual Framework for Financial Reporting – Chapter 8: Notes to Financial Statements (“Concepts Statement”).
Unrecognized Tax Benefits – Current GAAP and Recent Issues
The income tax footnote disclosure requirements specific to UTBs are more expansive with regard to public entities than non-public entities. A key difference is that public entities are required to include a tabular reconciliation of gross UTBs in annual financial statements, which non-public entities are not required to disclose. The tabular reconciliation of gross UTBs at the beginning and end of the period is on a world-wide basis and it should include the following details at a minimum:1
  •  Increase or decrease related to prior periods’ tax return positions,
  • Increase or decrease related to current periods’ tax return positions,
  • Decrease due to settlements with taxing authorities,
  • Decrease due to expiration of relevant statute of limitations.
Public entities are also required to disclose the gross UTBs in annual financial statements that, if recognized, would affect the effective tax rate.2
All entities (public and private) are required to disclose in annual financial statements:
  • Interest and penalties recognized in the income statement and in the balance sheet.3
  • Significant changes in UTBs expected within 12 months, the nature of the event(s), and an estimate of a range of the anticipated change(s) or a statement that an estimate of a range cannot be made. This disclosure is required of position(s) for which it is reasonably possible (generally a probability likelihood of less than 50%) that a significant change could occur within 12 months, and is often referred to as an “early warning” disclosure.4
  • The tax years that remain subject to examination by major tax jurisdictions.5
  BDO Insights BDO supports the FASB’s efforts to improve the effectiveness of financial statement disclosures through development of a disclosure framework to ensure consistency and provide flexibility.
We believe the current disclosure requirements in ASC 740 specific to UTBs provide a good framework from which reporting entities can expand disclosures to accommodate specific facts and circumstances. Reporting entities, their advisors, and auditors have generally become familiar with applying these requirements.
The evaluation of the technical strength of a tax return position and the determination of the maximum benefit that can be recognized and measured in the financial statements are fluid and continuous. In most jurisdictions, income tax law and administration (i.e., income tax compliance, examination, appeals, and settlements) are not static and periodically change due to significant complexity in the relevant income tax laws or regulations. The accounting model recognizes this uniqueness by stipulating that “all available” information, including information obtained during the examination process, shall be used to determine the maximum amount of benefit that can be recognized in the financial statements and by allowing consideration of “administrative practices” and “effective settlements” to determine recognition.6
Therefore, we believe that the disclosure requirement in ASC 740-10-50-15(d) regarding significant changes in UTBs should be retained in its current version since it serves as an “early warning” disclosure when it is reasonably possible that significant changes could occur within a short period. The current requirement provides adequate flexibility by only requiring an estimate of a range of anticipated changes, or a statement that such an estimate cannot be made. We believe practice has evolved around this specific disclosure requirement without significant implementation issues.           
Additionally, in practice, many reporting entities disclose cash-settlements as a reduction in gross UTBs due to settlements with taxing authorities and disclose the reduction in gross UTB liability for which cash settlement is not required with other changes (increase/decrease) related to prior periods’ tax positions (i.e., the disclosure requirement in ASC 740-10-50-15A(a)(1)). As such, we would be in favor of clarifying ASC 740-10-50-15A(a)(3) to indicate that it is intended to present cash settlements including the utilization of a deferred tax asset for a net operating loss or tax credits carryforwards to settle a UTB liability.
The Board also voted in favor of a tentative decision to require disclosure of the balance sheet line items affected by UTBs. Most UTB liabilities are presented in other liabilities unless they meet the balance sheet threshold for a separate presentation. The standard also requires balance sheet netting of a UTB liability and a deferred tax asset for a net operating loss, similar loss, and tax credits carryforwards if the deferred tax asset is available to offset the UTB liability and the entity expects to utilize it to settle a UTB liability.7 Additionally, deferred tax liabilities could be considered UTBs (said differently, some UTBs would be classified as deferred tax liabilities).8 Given that the tabular reconciliation disclosure is an aggregation of world-wide gross UTBs it could take significant incremental work to map the tabular reconciliation disclosure to specific line items on the balance sheet.    
BDO will continue to monitor this project and provide input to the FASB.
For questions related to matters discussed above, please contact:

National Assurance Group: Adam Brown or Patricia Bottomly
National Tax ASC 740 Group: Yosef Barbut or Ingo Harre

1 ASC 740-10-50-15A(a)(1) through (4)
2 ASC 740-10-50-15A(b)
3 ASC 740-10-50-15(c )
4 ASC 740-10-50-15(d)(1) through (3)
5 ASC 740-10-50-15(e)
6 ASC 740-10-25-6 through 25-12
7 ASC 740-10-45-10A through 45-10B
8 ASC 740-10-45-12

BDO Comment Letter - Possible Revisions to Audit Committee Disclosures

Tue, 09/08/2015 - 12:00am
SEC Concept Release No. 33-9862; 34-75344: Possible Revisions to Audit Committee Disclosures; File No. S7-13-15

BDO supports the SEC's outreach to stakeholders to explore ways to enhance an audit committee's disclosures about how an audit committee discharges its responsibilities with respect to its oversight of the auditor, the process for selecting the auditor, and consideration of the qualifications the firm and its engagement team members when selecting the audit firm. We provide considerations about the fuller scope of audit committee responsibilities as well as what we see as challenges in providing sufficient useful information to the marketplace.

Continuous Monitoring

Thu, 09/03/2015 - 12:00am

A Forensic Protocol for Mitigating Risk, Reducing Regulatory Exposure and Measuring the Efficacy of Compliance Programs A Briefing for Board Members, General Counsel, Compliance Professionals and Outside Counsel  
Download the PDF Version

The responsibilities of corporate governance and risk management are becoming increasingly inseparable, with the former being the rule maker and the latter, the protector. Oversight of risks stemming from exposure to corruption and fraud is top-of-mind for executives and their advisors – and with good reason. Today’s heightened regulatory environment is producing an unprecedented growth in the value of fines and the wide spectrum of costs associated with reputational damage.  These risks are further exacerbated by the double edged sword of increasing compliance obligations in the face of limited internal resources being stretched to the breaking point.  So what are a company’s options when it comes to implementing and monitoring an effective and integrated suite of compliance programs designed to mitigate risk?

One approach, as explored in this paper, is to identify the appropriate information/data and recognize how to design and implement the proper analytics to aid management and boards in their decision-making. Organizations generate and maintain tremendous amounts of data. The power to harness such data and apply analytical tools and procedures to identify problematic trends, uncover high risk relationships and identify non-economic transactions using entire data populations in real-time can significantly impact both operational and risk management decision-making, and can lead to the early identification and termination of fraud schemes.

The remainder of this paper outlines a suggested protocol for applying data analytics to assist boards, general counsel, compliance professionals and external counsel in mitigating risk, reducing exposure, and measuring the efficacy of an organization’s compliance programs.
  I. What is Continuous Monitoring? Continuous Monitoring involves the integration of sound forensic practices with technology based tools to detect high risk behaviors and transactions, as well as evaluate policy compliance within an organization’s financial and operational environment. Continuous Monitoring systems can identify, quantify and report in real time instances of non-compliance with company policy, high-risk behaviors and transactions, as well as failures in the internal controls. Unlike traditional sampling techniques that result in analyzing only a fraction of the available records in a data set, Continuous Monitoring examines 100 percent of the population of records, leading to much greater coverage and reduced risk.

Continuous Monitoring systems can also identify high-risk operations within a company’s global business by testing for suspicious trends, data inconsistencies, duplications, policy violations, missing data, and a host of other high risk attributes. These tests can be performed remotely, and based upon the reported results, the appropriate compliance and forensic experts can be routed to those geographic areas posing the greatest risk of loss and exposure. This produces increased efficiency, reduces travel costs and allows companies to focus finite resources on their highest and best use.  
II. Conditions Driving the Need for Continuous Monitoring Devising, implementing and testing a system of sound internal controls are all critical to the process of promoting and monitoring sound financial management practices, mitigating the risk of fraud, and defending against derivative suits alleging a defendant’s failure to establish and maintain sufficient anti-corruption compliance controls. A review of the interrelated forces converging within the corporate sector is vital to understanding the mounting risks associated with fraudulent behaviors. Combating these forces requires the implementation of innovative applications to mitigate an organization’s overall fraud and corruption risk. The range of forces includes:
  • Global Corporate Focus: Significant profit opportunities abound within emerging markets in South America, Asia, the Middle East and Africa. However, these economies pose extremely high fraud and corruption risks due to the existing business and cultural practices which often run afoul of western anti-corruption statutes and operating norms.
  • Emerging International Anti-Corruption Standards: Many countries, including Canada, Germany, China – have recently announced measures to strengthen their anti-corruption statutes and expand the associated fines for offenders (Russia’s Federal Anti-Corruption Law No 273 effective 1/1/13 and the Brazilian Clean Companies Act effective 1/29/14). These measures, which are in addition to the UK Bribery Act (effective as of July 1, 2011) and the long-standing Foreign Corrupt Practices Act, will increase the corruption related risks for companies conducting business in these markets.
  • Continued Focus of US Regulators: The DOJ and SEC continue to initiate enforcement actions and prosecute corporate insiders involved in alleged bribery schemes. In 2013 and 2014 the SEC initiated 17 actions while the DOJ initiated 26.
  • Penalties Assessed: Over the past 10 years there has been a steady uptick in the cost of resolving enforcement actions with the SEC and DOJ. For 2013 and 2014 the average total value of FCPA enforcement actions approximated $80 million and $156 million,  respectively. It is clear that the cost of non-compliance with anti-corruption statutes continues to pose significant financial risk.
  • Dodd-Frank’s Whistleblower Provision: The Dodd-Frank Act of 2010 provides whistleblowers a 10 to 30 percent bounty of recoveries in excess of $1 million. Given the substantial average settlement with US regulatory bodies over the last two years and the associated reward this would produce, the likelihood that an employee uncovering behavior that violates anti-corruption statutes will go directly to the US Government and bypass a company’s internal reporting channels increases exponentially.
  • Shareholder Derivative Suits: Entities that disclose instances of suspected or actual violations of anti-corruption statutes may find themselves embroiled in costly class action civil litigation. A number of companies, including Key Energy, Alcoa, and Cobalt International Energy defended allegations including breaches of fiduciary duty and claims that they failed to establish and maintain sufficient anti-corruption compliance controls.
  • Length of Time to Detection: According to the 2014 Report to the Nations on Occupational Fraud and Abuse published by the Association of Certified Fraud Examiners, the average fraud scheme continues undetected for approximately 18 months. Based upon this finding, not only will the losses flowing out of a company compound over such an extended period of time, but from an anti-corruption perspective, a company’s Books and Records and disgorgement exposure will escalate substantially as infractions mount and tainted sales occur.
  • Finite Resources: Budgets for compliance professionals and internal auditors are continually under pressure as companies seek to improve reported results by streamlining operations and reducing non-revenue generating expenditures. However, placing constraints upon the internal watch-dog function at a time of escalating risk only serves to increase the likelihood of prohibited behaviors, violations of applicable laws, non-economic transactions, contravention of company policies, and questionable relationships going undetected.

When the operational pressures associated with each of these factors are considered in their totality, there is a clear need for a technology driven approach that mitigates the risks stemming from these conditions in a cost effective and efficient manner. Continuous Monitoring is a responsive solution.
  III. Continuous Monitoring Provides a Risk Mitigation Solution

Conducting forensic investigations into potentially fraudulent practices can be labor intensive and inefficient in the absence of a properly focused engagement team, and the thoughtful application of forensic tools by qualified experts. As a result of the complex interrelationships that exist between a company’s operations and its control environment, the investigative process needs to be iterative. The systematic approach depicted in Figure 1 involves procedures being conducted in successive phases that build on the results of previous analyses and the results obtained. Consider applying this protocol in the context of conducting a proactive risk and compliance review of an operating entity located abroad. With limited exception (i.e., conducting in-person interviews), each of the analytical procedures highlighted in Figure 1 could be conducted, in whole or in part, using Continuous Monitoring. For example, consider the process of performing an entity-level risk assessment across a global organization in order to optimally focus finite company resources. Putting aside the more elementary anti-corruption risk factors, such as conducting operations in countries with a known culture of corruption, and the use of agents and other third party intermediaries, a Continuous Monitoring solution can identify the frequency of a number of other attributes possessing high indicia of fraud. These would include transactions that:
  • Fall outside an expected “norm” based upon historical patterns;
  • Possess high-risk characteristics typically associated with fraudulent activity;
  • Appear to be in contravention of company policy;
  • Are being accounted for in a manner that is potentially in violation of the Books and Records provision of the FCPA;
  • Have a higher rate of occurrence in one or more locations when benchmarked across the company or a discrete region, and
  • Appear to be consummated at less than fair value or for no value at all.

Applying these analytical procedures is not limited to behaviors and transactions focused solely on anti-corruption matters, but can be successfully employed to detect embezzlements, kick-backs, accounting irregularities, and a host of other compliance failures and operational risks.
  IV. Continuous Monitoring vs. Traditional Internal Audit Approach As mentioned previously, the average fraud scheme goes undetected for approximately 18 months. When compared to the traditional intermittent, sampling-based approach utilized by most internal audit departments, this is not at all surprising. With the continually increasing risks associated with anti-corruption exposure, companies cannot afford to wait 18 months before their systems identify potentially anomalous transactions and high-risk relationships. Within this period of time, the number of Books & Records violations can multiply significantly, and substantial amounts of funds can be funneled out of the company in non-economic transactions.

As further outlined in Table 1 below, when comparing the two approaches, Continuous Monitoring is a far superior protocol for the early identification and mitigation of suspect behaviors. The differences between the two approaches are as follows:

It is clear that the longer fraudulent behaviors are allowed to continue undetected, the degree of liabilities companies accumulate will balloon along with the outflow of critical cash flows. In the following section, we will explore the application of Continuous Monitoring.
  V. Applying Forensic Data Analytics to Anti-Corruption The detection of prohibited payments, dubious relationships and high risk activities represents a few of the central elements in both proactive and reactive anti-corruption engagements. When designing a forensic data analytics plan, it is important to consider that violations of company policy and/or various statutes can be effected by manipulating accounts payable, accounts receivable, payroll, expense reimbursements, purchasing cards, expense classifications and journal entries. The balance of this section provides a brief discussion of some target areas for review, and a few examples of the numerous forensic procedures that can be deployed to test both the propriety of a transaction and its compliance with applicable Books & Records provisions.

Accounts Payable
The “procure-to-pay” cycle continues to be an area where fraud, waste and abuse regularly occur. Data testing should look to uncover potential anomalies including identifying transactions with third parties that may be consummated at less than fair value or for no value at all. These tests may include:
  • Supplier Validation: Suppliers with missing, incomplete or unexpected information reflected in the vendor master file or not listed with the vendor master file.
  • Duplicate Suppliers: Payments made to vendors with name variations or other anomalies in their identifying information.
  • Unexpected Relationships: Common identifying characteristics across the spectrum of the employee/vendor/customer relationships.
  • Detailed Transaction Testing: Supplier payments without invoices, payments to/invoices from excluded suppliers, and payments with characteristics that fall outside of company “norms” and expected attributes.

Accounts Receivable
Manipulative activity in accounts receivable provides a conduit for employees seeking to direct value to government officials in forms other than direct cash payments. The data tests are comparable to those described above with the difference being the focus on customer relationships, and may include:
  • Customer Validation: Customers with unusual addresses, missing physical address elements or unexpected information in their customer profile.
  • Duplicate Customer: Customers with name variations or other anomalies in their identifying information.
  • Unexpected Relationships: Common identifying characteristics across the spectrum of the employee/vendor/customer relationships.
  • Detailed Transaction Testing: Consists of a number of tests including sales to customers with unexpected rebates, excessive credit memos or other unusual characteristics that fall outside of company “norms”.

Human Resource and Payroll
The payroll function provides individuals with the opportunity to funnel funds outside of the company for use in prohibited activities, including the payment of bribes. Analytical tests to apply might include:
  • Employee Validation/Fictitious Employees: Employees with incomplete data or missing key information.
  • Duplicate Employees: Employees with multiple addresses, telephone numbers, bank accounts and/or SSNs.
  • Unexpected Relationships: Common identifying characteristics across the spectrum of the employee/vendor/customer relationships.
  • High Risk Transactions: Advances or loans that are later written-off or employees with missing deductions.
  • Unauthorized Transactions: Employees receiving inflated overtime hours and payments, or other forms of compensation post separation.

Employee Expenses
The ability to perform analytical testing on employee expenses is dependent in part on the robustness of the company’s system for capturing employee expenses and the amount of detail provided in the electronic record. The principal analytical focus in this area may include identifying reimbursements:
  • Made to bypass the procure-to-pay control environment,
  • That fail key word tests typically surrounding anti-corruption violations,
  • For cash advances to pay for travel, entertainment and other high risk expenditures, and
  • That continually approach authority levels.

Petty Cash
Analytical testing of petty cash is done on a case by case basis and is primarily dependent on the particular location’s and/or geography’s propensity to use petty cash (i.e., China). The principal focus is on whether petty cash transactions are being used to bypass the procure-to-pay and expense reimbursement controls.
General Ledger/Journal Entries
While journal entries are typically not a primary area of focus in an anti-corruption investigation, depending on client feedback and other pertinent discussions with the company’s Internal Audit and Compliance professionals, some testing may be performed on:
  • Entries posted outside normal business hours,
  • Re-classification of expenses to capital assets, and
  • Entries that write-off receivables.

Lastly, it is important to consider that any negative result coming from one of the tests discussed above does not constitute proof of the existence of prohibited behaviors or fraudulent transactions. In addition, careful consideration must be given to qualitative issues with the company’s data and how these issues might impact the results of the tests being applied.
  VI. Case Study To illustrate the benefits of a Continuous Monitoring program, a case study based upon an actual investigation is presented below2.

Assumed Facts
  • A NYSE listed company has a subsidiary in South America that provides high-end engineering and project management services for large-scale infrastructure projects.
  • To mitigate the risk of fraud and corruption, sub-contractors and/or vendors seeking to work on Company projects need to submit to a rigorous approval process.
  • Once approval is granted, invoices and/or draw requests will be processed by the Company, and paid within 50 days pursuant to its standard accounts payable policy.
  • A payable cannot be established to a sub-contractor or vendor who is not in the vendor master file, and as a result, no payments can be made to unauthorized entities.
  • Tight controls exist over access to the vendor master file.

An internal investigation conducted towards one project’s completion determined that Company insiders had funneled in excess of $1 million out of the project over a 34 month period using multiple schemes. Additionally, the investigation revealed that by virtue of the positions the perpetrators held in the Accounting and Procurement functions, they clearly understood:
  • The control environment and how collusive behavior could bypass existing controls;
  • Nuances within the cost accounting system that could be exploited to their advantage, and
  • How project variances would be identified and evaluated by those tasked with reviewing the project’s metrics against budgets.

As a result, the insiders were able to subvert internal controls, bypass the internal monitoring functions, and exploit their understanding of project variances to insert scores of bogus invoices into the system and receive a continuing stream of payments. The following section will discuss the schemes - and their detection - in greater detail.
  Detecting the Fraud This section addresses two of the primary schemes employed by the perpetrators to funnel money out of the company for unauthorized use, and how the analytics employed by a continuous monitoring system would have detected these schemes and shut them down in their initial stages.

Scheme #1: At the outset of the project, numerous vendors submitted proposals to provide security services to protect machinery/equipment, inventory, supplies, and personnel. During the due diligence phase, it was determined that one such company seeking approval - Vendor A - was partially owned by a government official, and as a result, was not selected. However, shortly after the project commenced, monthly invoices were submitted by Vendor A and were subsequently paid. Each payment was recorded in the company’s general ledger under the expense classification “Security Services”. The payments were made via wire transfer.

Services present a unique forensic challenge when it comes to analyzing them after the fact, as unlike the purchase of hard assets, you are often unable to verify their delivery. However, in this instance, the analysis revealed that the outgoing wires to pay Vendor A had not been cleared through the Accounts Payable system, but were directly impacting an expense account - a clear indication that company policy was being circumvented. A continuous monitoring program tracking policy compliance would have identified this scheme very early on, saving the company substantial amounts of money and preventing in excess of 30 Books and Records violations.

Scheme #2: Due to the magnitude of the project, internal headcounts were insufficient to staff various technical aspects of the project. As a result, a portion of the technical work was performed by sub-contractors, a common practice that would not have raised suspicion. However, a little over twelve months into the project, Vendor B was added to provide additional sub-contractors to the existing pool of vendors that had been approved at the project’s outset. The problem is that Vendor B was a sham which provided no discernable benefits to the project.

Figure 2 presents the results of a forensic test that compared the elapsed time between the date of an invoice and the payment associated with that invoice for a specific sub-classification of vendor expense data. Several conclusions are evident from the data presented in Figure 2. First, a regression plotted through
this data will generate a downward sloping trend line that approaches zero. This attribute is highly suspicious and would warrant further analysis.

Second, and more importantly, by segregating the data presented in Figure 2 into two subsets with similar attributes, you arrive at what is depicted in Figure 3 below. The first box outlined in red on the left side covers all of the recorded transactions in Year 1, each of which occurred prior to the addition of Vendor B. This data presents a pattern that one would expect to observe based upon the expected frequency and payment policies for the particular services rendered. However, beginning in Year 2 and continuing into Year 3, the data outlined in the 2nd red box on the right side of Figure 3, displays data with both a different frequency profile and a steadily declining gap between payment dates and invoice dates. Both of these payment attributes are problematic when considered on their own. However, when occurring together you have a clear sign of serious problems warranting immediate investigation. A continuous monitoring program analyzing transactional relationships would have identified these anomalies early on in Year 2, saving the organization more than $1 million in losses, as well avoiding the occurrence of approximately 40 Books and Records violations.

While the investigative procedures discussed above are illustrative of the broad spectrum of tests available to forensic professionals, the total pool of analytical tests is as varied as the nature of issues one is looking to uncover.

Program Implementation and Exception Management
A continuous monitoring system produces the most significant benefits in organizations that approach the process in a structured manner. First, there has to be a clear vision of the program’s goals. Is the organization solely looking to test for compliance with company policy, or is there a broader ambition of improving management oversight by detecting and eliminating accounting irregularities, as well as potentially fraudulent behaviors and transactions?  These decisions will dictate the types of analytical tests to perform. Second, there must be consensus on which data sources will be monitored, including the Enterprise Resource Planning (ERP) system, legacy systems and system logs. Third, it requires a keen insight into the underlying data that will be mined - which is not always as clear as it may seem. For example, do the recorded cash disbursements represent transactions initiated through the ERP system, or are they being recorded post issuance - producing underlying data that may lack integrity. Fourth, there needs to be a work-flow process in place covering the full range of actions and responsibilities, including the assignment and management of exceptions. In the absence of timely follow-up, the benefits of a continuous monitoring system will be substantially diluted. Lastly, there must be experienced forensic professionals involved in both designing the front-end analytical tests that drive the system, and monitoring the output generated in order to separate instances of real concern from the range of false positives that are inherent in this type of early warning system.

Once the continuous monitoring system is generating exceptions, a process of managing and risk ranking the exceptions on an enterprise-wide basis needs to be in place. Without the ability to effectively triage results, the team responsible for following up on perceived high risk matters will find itself focusing its time on an abundant number of false positives and other issues that are without merit, leading to a waste of time and valuable resources. One method for prioritizing exceptions requiring further review and analysis is depicted in Figure 4. Utilizing this approach, transactions that fail the greatest number of analytics (and therefore possess the highest number of discrete risk attributes) represent those that rate the utmost priority for follow-up and should be the first to be assigned to a compliance and/or investigative professional for in-depth analysis and resolution.

  VII. Concluding Thoughts The foundation of any meaningful risk management practices begins with a solid system of internal controls. Section 14(b)(2)(B) of the Securities Exchange Act of 1934 states that a system of internal controls should be sufficient to provide reasonable assurances that (1) transactions are executed in accordance with management’s authorization; (2) transactions and assets are recorded as necessary to permit the preparation of financial statements and maintain accountability for assets; (3) access to assets is permitted subject to management’s authorization; and (4) recorded assets are compared to existing assets at suitable intervals and appropriate actions are taken with respect to any differences noted.

In addition to achieving the broad goals of an effective control environment that are discussed above, continuous monitoring is a cost effective solution that companies should consider incorporating as they continually refine their processes associated with devising, implementing and testing their system of internal controls. Other value-added benefits include:
  • Early detection of behaviors and transactions that violate anti-corruption statutes translates into reduced losses as well as significant reductions in both the number of Books and Records violations, and the amount of potential disgorgement of tainted gross profits;
  • Finite internal resources are focused across company operations that pose a heightened risk of theft of assets by insiders, accounting irregularities and exposure stemming from corruption risk. This allows the internal watch-dog functions to operate effectively without expanding headcounts;
  • Timely detection of control weakness and non-compliance with policies provides the company with the option of implementing the required remediation on a schedule set internally rather than at the behest of regulators;
  • Newly enhanced controls instituted to mitigate identified control weaknesses stemming from previously conducted analyses can be monitored timely to determine their effectiveness;
  • Compliance with the Books and Records provision of the FCPA can be evaluated on a periodic basis allowing the Company to take timely, remedial actions when necessary;
  • Recent acquisitions can be monitored to determine the level of compliance with policies and controls instituted by the acquiring company in order to minimize fraud risks and exposure resulting from non-compliance;
  • Findings of policy violations, high risk transactions and control weakness by location  can be benchmarked across the company or a particular region, and
  • The qualitative nature of the data being captured by location can be analyzed and augmented to insure that the data necessary to monitor conditions and perform necessary forensic tests is being effectively captured.

Clearly, the costs associated with delayed detection, and in some cases a complete lack of detection, are high and are escalating at an ever increasing rate. In addition, the observed trends in the sphere of forensic investigations are quite troubling. There is a growing sophistication and aggressiveness of the schemes being perpetrated, a rise in the prevalence of conspiratorial relationships inside companies, and a mounting awareness among those perpetrating frauds of the investigatory protocols being employed by forensic experts. Each of these conditions poses unique challenges that require thoughtful and reasoned responses that must continue to evolve. The unfortunate truth is that you cannot stop fraud from occurring; however, you can implement solutions to detect prohibited behaviors and fraudulent transactions quickly, shut them down in their infancy, and implement additional controls to further enhance existing systems.

For more on data analytics and mitigating risks, refer to BDO’s archived webinar and self-study course: 2015 Board Matters – Data Analytics and Risk Management: A Board Primer.

For questions related to matters discussed above, please contact Jeff Harfenist.

1 PEP – Politically exposed person (PEP) is a term describing an individual entrusted with a prominent public function, or a relative or known associate of that person. A PEP generally presents a higher risk for potential involvement in bribery and corruption based on the nature of their position and potential influence.
2 Significant facts, such as the location of operations and business types have been altered to protect client confidentiality.

BDO Comment Letter - PCAOB Supplemental Request for Comment

Wed, 09/02/2015 - 12:00am
PCAOB Rulemaking Docket Matter No. 029: Supplemental Request for Comment: Rules to Require Disclosure of Certain Audit Participants on a New PCAOB Form

BDO recognizes the need to increase transparency about the audit process and, accordingly, believes identification of the audit partner in Form AP, rather than the auditor's report, is appropriate.

FASB Flash Report - September 2015

Tue, 09/01/2015 - 12:00am
FASB Issues ASU to Add SEC Staff Announcement About Loan Costs to the Codification

Download the PDF Version


The FASB recently issued ASU 2015-15 to codify an SEC staff announcement that entities are permitted to defer and present debt issuance costs related to line-of-credit arrangements as assets. The ASU is effective immediately and is available here


In April 2015, the FASB issued ASU 2015-031 which requires entities to present debt issuance costs as a direct deduction from the carrying amount of the related debt liability, as discussed in a recent flash report. That guidance does not address how debt issuance costs related to line-of-credit arrangements should be presented on the balance sheet or amortized.

As defined in the ASC Master Glossary, a line-of-credit or revolving-debt arrangement is an agreement that provides the borrower with the option to make multiple borrowings up to a specified maximum amount, to repay portions of previous borrowings, and to then reborrow under the same contract. Line-of-credit and revolving-debt arrangements may include both amounts drawn by the debtor (a debt instrument) and a commitment by the creditor to make additional amounts available to the debtor under predefined terms (a loan commitment).
Main Provisions:
Given the absence of authoritative guidance within Update 2015-03 for debt issuance costs related to line-of-credit arrangements, ASU 2015-15 clarifies that the SEC staff would not object to an entity deferring and presenting debt issuance costs as an asset and subsequently amortizing the deferred debt issuance costs ratably over the term of the line-of-credit arrangement, regardless of whether there are any outstanding borrowings on the line-of-credit arrangement.

The SEC staff announcement is effective immediately.  

We believe private companies may apply this same guidance.

For questions related to matters discussed above, please contact Gautam Goswami, Adam Brown, or Chris Smith.

1 Simplifying the Presentation of Debt Issuance Costs

FASB Flash Report - September 2015

Tue, 09/01/2015 - 12:00am
FASB Issues ASU to Provide Guidance on Application of the Normal Purchases and Normal Sales Scope Exception to Certain Electricity Contracts Within Nodal Energy Markets
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  Summary The FASB recently issued ASU 2015-13 which specifies that the use of locational marginal pricing for certain contracts for the purchase or sale of electricity on a forward basis utilizing a nodal energy market does not, by itself, cause the contract to fail the physical delivery criterion of the normal purchases and normal sales elective scope exception in Topic 815. The ASU is effective upon issuance and is available here.  
  Background Certain forward contracts for the purchase or sale of electricity in nodal energy markets1 whereby parties incur locational marginal pricing charges or credits (“LMP”) for the transmission of that electricity often meet the definition of a derivative.  Topic 815, Derivatives and Hedging, requires that a derivative contract be recognized at fair value unless the contract qualifies for a scope exception. On this point, the normal purchases and normal sales (“NPNS”) scope exception, which includes a physical delivery criterion, can be elected.  Prior to the ASU, U.S. GAAP did not contain specific guidance about whether the use of LMP by an independent system operator results in net settlement (i.e. contract fails the physical delivery criterion of the NPNS scope exception), causing diversity in practice.
  Main Provisions The ASU specifies that the use of LMP by an independent system operator does not constitute net settlement of a contract for the purchase or sale of electricity on a forward basis that necessitates transmission through, or delivery to a location within, a nodal energy market, even in scenarios in which legal title to the associated electricity is conveyed to the independent service operator during transmission.  Therefore, if all of the other criteria of the NPNS scope exception are met, an entity may elect to designate the contract as a normal purchase or normal sale.
  Effective Date and Transition The amendments became effective upon issuance and should be applied prospectively. An entity will have the ability to designate qualifying contracts that are entered into on or after the effective date of the ASU as NPNS. Because an entity may elect the NPNS scope exception at contract inception or at a later date, it also will be able to designate qualifying contracts entered into before the effective date as NPNS, but only prospectively.   
For questions related to matters discussed above, please contact Gautam Goswami, Adam Brown or Chris Smith.

1 A nodal energy market is an interconnected electricity grid operated by an independent system operator with established price points at each node or hub location. 

BDO Comment Letter - Not-for-Profit Entities and Health Care Entities

Mon, 08/24/2015 - 12:00am
Proposed Accounting Standards Update, Not-for-Profit Entities (Topic 958) and Health Care Entities (Topic 954)Presentation of Financial Statements of Not-for-Profit Entities (File Reference No. 2015-230) (“the ED”)

BDO supports the objective of the NFP financial statement project, but believes more implementation guidance is needed.

SEC Flash Report - August 2015

Tue, 08/18/2015 - 12:00am
SEC Adopts Rule Requiring Pay Ratio Disclosures
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On August 5, 2015, the SEC adopted, by a 3-2 vote, a rule mandated by Section 953(b) of the Dodd-Frank Wall Street Reform and Consumer Protection Act.  The rule amends Item 402 of Regulation S-K and requires issuers to disclose the following: 
  • The median annual total compensation of all employees except the chief executive officer;
  • The annual total compensation of the CEO; and
  • The ratio of the median annual total compensation of all employees to the annual total compensation of the CEO.

These disclosures are collectively referred to as the “pay ratio” disclosures and are intended to help inform shareholders when evaluating a CEO’s compensation.  The rule is generally consistent with the one the SEC proposed in 2013.  The adopting release is available here on the SEC’s website.
The pay ratio disclosures are required in any annual report, proxy, or registration statement that requires disclosure of executive compensation pursuant to Item 402 of Regulation S-K.  However, emerging growth companies, smaller reporting companies, foreign private issuers, Multijurisdictional Disclosure System filers, and registered investment companies are exempt from the requirements.  In addition, companies filing initial registration statements (whether in an initial public offering or on Form 10) are not required to provide the pay ratio disclosures.  Certain transition relief is available for newly public companies, companies with business combination activity, and those exiting smaller reporting company or emerging growth company status.
Companies are required to provide the pay ratio disclosures for their first fiscal year beginning on or after January 1, 2017.  For example, a registrant with a fiscal year ending on December 31 would be first required to include the pay ratio information relating to compensation for fiscal year 2017 in its proxy or information statement for its 2018 annual meeting of shareholders and to include or incorporate by reference this information in its 2017 Form 10-K.
The rule requires a registrant to (1) identify the employee whose annual total compensation level is the median of all of its employees except its CEO, (2) compute the median employee’s total compensation, and (3) compute a ratio in which the median employee’s total compensation is equal to 1 and the CEO’s total compensation is a calculated number.  For example, if the of the median employee’s total compensation is $45,790 and the CEO’s total compensation is $12,260,000, then the pay ratio disclosed would be “1 to 268”. The ratio could also be expressed narratively, such as “the CEO’s annual total compensation is 268 times that of the median of the annual total compensation of all employees”.
Subject to certain exceptions described below, the median employee is identified by an analysis of the annual compensation of all persons, including all U.S. and non-U.S. full-time, part-time, seasonal, and temporary workers, employed by the registrant and its consolidated subsidiaries as of any date within the last three months of its fiscal year.1  The individual compensation amounts used to identify the median employee may be annualized for permanent employees who were employed for less than the full fiscal year.  Such amounts for seasonal and temporary workers may not be annualized.  Similarly, such amounts for part-time workers may not be adjusted to the full time equivalent amount.  The rule permits registrants to identify the median employee in a variety of ways.  For example, a registrant is permitted to analyze its entire employee population, use a statistical sampling methodology, or any other reasonable method.  Moreover, the median employee can be determined using a consistently applied compensation measure (e.g., amounts derived from the registrant’s payroll or tax records), rather than each employee’s total compensation.  Once the median employee is identified, that person’s annual total compensation pursuant to Item 402(c)(2)(x)2 must be calculated and disclosed.  The rule permits companies to make estimates when calculating the elements of annual total compensation in accordance with Item 402.  Disclosure of the methodology and material assumptions and estimates used to identify the median employee and/or determine the compensation amounts is required.  Registrants are permitted to supplement the disclosure with additional narrative discussion or other ratios as long as the information is clearly identified and is not given greater prominence than the pay ratio disclosures.
The final rule contains changes from the proposal that are intended to provide companies with flexibility to meet the rule’s requirements in a number of other ways, including the ability to:
  • Identify the median employee only once every three years.  However, if there has been any change in the employee population or employee compensation arrangements which may result in a significant change to the pay ratio, the median employee should be re-identified.  If the median employee’s compensation significantly changes during the three year period, the company may use another employee with substantially similar compensation as the median employee.
  • Exclude non-U.S. employees from countries in which obtaining the required information to calculate the pay ratio would violate the particular jurisdiction’s data privacy laws or regulations (i.e., the data privacy exception).  This exception can only be applied if the Company obtains a legal opinion supporting the assertion that obtaining the necessary information violates the local laws.
  • Exclude up to 5% of its total employees who are non-U.S. employees (i.e., the de minimis exception), which includes any non-U.S. employees excluded under the data privacy exception.  This exception can only be applied on a jurisdiction by jurisdiction basis, so that if one employee in a jurisdiction is excluded all must be excluded.
  • Apply an adjustment to account for differences between the cost-of-living in the CEO’s jurisdiction and the cost-of-living in other jurisdictions when identifying the median employee.  If applied, the same adjustment would be made to the median employee’s annual total compensation used to calculate the pay ratio.  However, disclosure of the compensation amount and pay ratio without the cost-of-living adjustment is still required.

For questions related to matters discussed above, please contact Jeff Lenz or Paula Hamric.

1 Independent contractors and leased employees are excluded from this population.
2 Total compensation per Item 402(c)(2)(x) includes salary, bonus, the aggregate grant date fair value of options or stock awarded during the period, earnings for services performed under non-equity incentive plans and all earnings on any outstanding awards, certain amounts related to defined benefit and actuarial pension plans, and any other compensation not included in the aforementioned categories.