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BDO Comment Letter - Technical Corrections and Improvements to Update No. 2014-09

Tue, 07/05/2016 - 12:00am
Technical Corrections and Improvements to Update No. 2014-09, Revenue from Contracts with Customers (Topic 606) (File Reference No. 2016-240)   BDO supports the proposed clarifications to the new revenue standard, but believes certain enhancements are necessary in the final amendments.
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CAQ Questions on Non-GAAP Measures – A Tool for Audit Committees

Thu, 06/30/2016 - 12:00am
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In June 2016, the Center for Audit Quality (CAQ) released “Questions on Non-GAAP Measures, A Tool for Audit Committees”. This tool is aimed at assisting audit committees in assessing the appropriateness and reliability of company management’s presentation, outside of the audited financial statements, of performance metrics that do not conform to Generally Accepted Accounting Principles (GAAP). This tool is, in part, responsive to the SEC’s May 2016 update to its compliance and disclosure interpretations, together with existing rules and regulations, and overall heightened scrutiny by the SEC and others in this area.   

The use of non-GAAP measures continues to increase as a means for companies to supplement GAAP financial information and provide analysts and investors with additional company and industry specific information to better understand the company and its performance. Regulators continue to express concerns and have cautioned companies against providing misleading presentations of non-GAAP measures and ensuring that such measures are properly reconciled to the appropriate GAAP measure.

The CAQ tool aims to complement the existing regulations and guidance to help the audit committee determine the meaningfulness of such information and whether:
  1. management is complying with the SEC rules and related interpretations to non-GAAP measures and
  2. non-GAAP measures are aiding analysts and investors in understanding the business and its performance.

The Questions on Non-GAAP Measures tool provides a brief background regarding the increased use of non-GAAP financial measures and information with associated guidance surrounding non-GAAP measures. It also summarizes the auditor’s responsibilities for other information included in documents which contain audited financial statements. Currently, the PCAOB requires the auditor to read the other information for material inconsistency with the financial statements, but he/she is not required to perform any other procedures over this information in situations where no inconsistencies are identified.

The remainder of the tool comprises sample questions audit committees may consider posing to management and the auditors separated into three main areas of focus:
  • Transparency: consideration of the purpose, prominence, and labeling of non-GAAP information, specifically in relation to traditional GAAP measurements (e.g., Has the non-GAAP measure been given more prominence than the most directly comparable GAAP measure?)
  • Consistency: determination of whether non-GAAP measures are consistent and balanced (e.g., Are the non-GAAP measures presented by the company balanced? Do the measures eliminate similar items that affect both revenue and expense, or do they only eliminate one or the other?)
  • Comparability: promotion of the comparability of non-GAAP measures presented (e.g., Do other companies present this measure or similar measures? If not, why is this measure important for this company but not its peers?)

Through use of this tool, the CAQ believes that the questions provided will “spark a dialogue among audit committees, management, and auditors on the non-GAAP measures presented by companies.” 

The important role of the audit committee in overseeing the integrity of an organization’s financial statement reporting process continues to evolve. We encourage you to explore the CAQ’s tool as you fulfill your duties on behalf of the boards and companies that you serve. For additional audit committee along with financial accounting and reporting tools and resources, visit BDO’s Board Governance page.

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

BDO Comment Letter - Statement of Cash Flows

Tue, 06/28/2016 - 12:00am
Statement of Cash Flows (Topic 230): Restricted Cash (File Reference No. EITF-16A)

BDO supports the proposed treatment of restricted cash and recommends certain clarifications in the final standard.
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SEC Flash Report - June 2016

Mon, 06/27/2016 - 12:00am
SEC Proposes to Modernize Disclosures for Mining Registrants
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Details On June 16, the SEC proposed rules to modernize property disclosures for mining registrants.  The proposal is part of the SEC’s broader disclosure effectiveness initiative.  The revisions would amend Item 102 of Regulation S-K, rescind Industry Guide 7 and include mining property disclosure requirements in a new subpart of Regulation S-K. 

The proposed rules would:
  • Provide one standard requiring registrants to disclose mining operations that are material to the company’s business or financial condition
  • Require a registrant to disclose mineral resources and material exploration results in addition to its mineral reserves
  • Permit disclosure of mineral reserves to be based on a preliminary feasibility study or a final feasibility study
  • Provide updated definitions of mineral reserves and mineral resources
  • Require, in tabular format, summary disclosure for a registrant’s mining operations as a whole as well as more detailed disclosure for material individual properties
  • Require that every disclosure of mineral resources, mineral reserves and material exploration results reported in a registrant’s filed registration statements and reports be based on, and accurately reflect information and supporting documentation prepared by, a “qualified person”
  • Require a registrant to obtain a technical report summary from the qualified person, which identifies and summarizes for each material property the information reviewed and conclusions reached by the qualified person about the registrant’s exploration results, mineral resources or mineral reservesThe proposal can be found here on the SEC’s website. Comments should be provided within 60 days following publication of the release in the Federal Register.  

For questions related to matters discussed above, please contact Jeffrey Lenz or Wendy Hambleton

FASB Flash Report - June 2016

Fri, 06/24/2016 - 12:00am
FASB Issues ASU on Credit Losses on Financial Instruments Download PDF Version
Summary

The FASB recently issued ASU 2016-131 (the “Update”), which (i) significantly changes the impairment model for most financial assets that are measured at amortized cost and certain other instruments from an incurred loss model to an expected loss model; and (ii) provides for recording credit losses on available-for-sale (AFS) debt securities through an allowance account.  The Update also requires certain incremental disclosures. The Update takes effect in 2020 for SEC filers and in 2021 for all other entities including public business entities other than SEC filers.  Early adoption is permitted for all entities beginning after December 15, 2018, including interim periods within those fiscal years.  The ASU is available here.


Main Provisions

Expected Credit Loss Model
The Update requires credit losses on most financial assets measured at amortized cost and certain other instruments to be measured using an expected credit loss model (referred to as the current expected credit loss (CECL) model).  Under this model, entities will estimate credit losses over the entire contractual term of the instrument (considering estimated prepayments, but not expected extensions or modifications unless reasonable expectation of a troubled debt restructuring exists) from the date of initial recognition of that instrument.  In contrast, current US GAAP is based on an incurred loss model that delays recognition of credit losses until it is probable the loss has been incurred.  Accordingly, it is anticipated that credit losses will be recognized earlier under the CECL model than under the incurred loss model.
 
The following are within the scope of the CECL methodology:  

  • financial assets measured at amortized cost basis (such as loan receivables, held-to-maturity debt securities, reinsurance receivables, trade and certain other receivables)
  • net investment in leases that are not accounted for at fair value through net income
  • certain off-balance sheet credit exposures (such as loan commitments, standby letters of credit, financial guarantees not accounted for as insurance, and other similar instruments, except for instruments within the scope of Topic 815 on derivatives and hedging) 
The CECL model does not apply to financial assets measured at fair value through net income, available-for-sale debt securities, loans made to participants by defined contribution employee benefit plans, policy loan receivables of an insurance entity, promises to give (pledges receivable) of a not-for-profit entity and loans and receivables between entities under common control.
    BDO Observation: As noted, the CECL model  applies to trade receivables from revenue transactions in the ordinary course of operations. ASC 326-20-55-38 through 55-40 (Example 5) illustrates that application of the CECL model may result in an entity recognizing expected credit losses even for trade receivables that are not past due.
 
The expected credit loss is recorded as an allowance for credit losses, adjusted for management’s current estimate as updated at each reporting date.  The initial measurement of expected credit losses, as well as subsequent changes in the estimate of expected credit losses is recorded as a credit loss expense (or reversal) in the current period income statement. 
 
When measuring credit losses, financial assets that share similar risk characteristics (e.g. risk rating, effective interest rate, type, size, term, etc.) should be evaluated on a collective (pool) basis, while financial assets that do not have similar risk characteristics must be evaluated individually.  The Update does not prescribe the methodology for measuring the allowance for expected credit losses. For example, an entity may use discounted cash flow methods, loss-rate methods, roll-rate methods, probability-of-default methods, or other methods. However, the Update does require that an entity base its estimate on available and relevant internal and/or external information about past events (e.g., historical loss experience with similar assets), current conditions, and reasonable and supportable forecasts that affect the expected collectability of the reported amount of financial assets.  For periods beyond which the entity is able to make or obtain reasonable and supportable forecasts of expected credit losses, an entity should revert to historical loss information that is reflective of the contractual term (considering prepayments) of the financial asset, with straight-line or immediate reversion both being acceptable methods. Further, life of loan losses must be considered even if the risk of loss is remote; however if a pool of assets has never historically incurred losses and current conditions and supportable forecasts show zero risk of nonpayment, then no allowance is required.
 
BDO Observation: Entities will likely need to obtain and maintain loss information for the life of financial assets on a disaggregated basis, not just annual loss data.  This information will not only aid in developing loss estimates but also the credit quality disclosures.  Entities should anticipate updating their systems and data collection procedures to (i) obtain disaggregated historical loss and credit quality data (risk rating changes, credit scores, etc.) and ensure appropriate future collection and retention of this data and (ii) adjust historical loss and credit quality data for current conditions and reasonable and supportable forward-looking information.
 
The Update also replaces the current accounting model for purchased credit impaired loans  and debt securities (“PCI”). The Update provides that allowance for credit losses for purchased financial assets with a more-than insignificant amount of credit deterioration since origination (“PCD assets”), as newly defined,2 should be determined in a similar manner to other financial assets measured at amortized cost basis. However, upon initial recognition, the allowance for credit losses is added to the purchase price (“gross up approach”) to determine the initial amortized cost basis.  That is, the initial allowance for credit losses is added to the purchase price rather than being reported as a credit loss expense. The subsequent accounting for PCD financial assets is the same expected loss model described above. Interest income for PCD assets would be recognized based on the effective interest rate, excluding the discount embedded in the purchase price that is attributable to the acquirer’s assessment of credit losses at acquisition. The new PCD model is expected to be easier to implement than the previous PCI model which has been criticized as being overly complex.   
 
The Update retains most of the currently required disclosures, updated to reflect the change to the CECL model.  However, incremental disclosures are required on how the entity developed its estimates, including changes in the factors that influenced management’s estimate and the reason for those changes including a discussion on the reversion method applied for periods beyond the reasonable and supportable forecast period.  Also, disclosures of credit quality indicators must be further disaggregated by year of origination (optional for entities that are not public business entities). 
 
AFS Debt Security Credit Loss (Impairment) Model
The Update made certain targeted amendments to the existing impairment model for AFS debt securities. For an AFS debt security for which  there is neither an intent nor a more-likely-than-not requirement to sell, an entity will record credit losses as an allowance rather than a write-down of the amortized cost basis.  As a result, entities will be able to record reversals of credit losses in current period income as they occur, which is prohibited under current GAAP.  Additionally, the allowance is limited by the amount that the fair value is less than the amortized cost basis, considering that an entity can sell its investment at fair value to avoid realization of credit losses. An entity should not consider the length of time that the security has been in an unrealized loss position to avoid recording a credit loss. Further, in determining whether a credit loss exists, the historical and implied volatility and recoveries or additional declines in the fair value after the balance sheet date should no longer be considered.  Changes in the allowance will be recorded in the period of the change as credit loss expense (or reversal of credit loss expense).  The Update requires new disclosures, including a rollforward of the allowance for credit losses by major security type.
 
Effective Date and Transition 
The Update has tiered effective dates as follows:
  • For public business entities that are SEC filers, the amendments in this Update are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years.
  • For all other public business entities, the amendments in this Update are effective for fiscal years beginning after December 15, 2020, including interim periods within those fiscal years.
  • For all other entities, including not-for-profit entities and employee benefit plans within the scope of Topics 960 through 965 on plan accounting, the amendments in this Update are effective for fiscal years beginning after December 15, 2020, and interim periods within fiscal years beginning after December 15, 2021.
All entities may elect to early adopt the amendments in this Update as of the fiscal year beginning after December 15, 2018, including interim periods within the fiscal year.
 
An entity must apply the amendments in this Update through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective (that is, a modified-retrospective approach), except as noted below.
 
A prospective transition approach is required for debt securities for which an other-than-temporary impairment had been recognized before the effective date.  Amounts previously recognized in accumulated other comprehensive income as of the date of adoption that relate to improvements in cash flows expected to be collected should continue to be accreted into income over the remaining life of the asset. Any improvements in cash flows because of improvements in credit after the adoption date are recorded in the income statement in the period they are received. If cash flows are expected to decrease because of deterioration in credit expectations, an allowance should be recorded based on the amendments in this Update.
 
A prospective transition approach is required for PCD assets previously accounted for as PCI. Upon adoption, the amortized cost basis should be adjusted to reflect the addition of the allowance for credit losses on the transition date.  The remaining noncredit discount or premium will continue to accrete or amortize at the effective interest rate at the date of adoption. The same transition requirements should be applied to beneficial interests that previously applied the PCI model or have a significant difference between contractual cash flows and expected cash flows.
 
International Convergence
The credit losses project began as a joint project with the IASB, but the Boards determined in 2012 that convergence was not possible. The IASB issued IFRS 9, Financial Instruments, in July 2014. While both the Update and IFRS 9 are considered to be expected credit loss models, the primary difference relates to the timing of recognition of expected losses. The Update requires that the full amount of expected credit losses be recorded for all financial assets measured at amortized cost, whereas IFRS 9 requires an allowance for credit losses equal to 12 months of expected credit losses until there is a significant increase in credit risk, at which point lifetime expected losses are recorded.
 
On The Horizon
The FASB has established a transition resource group that is designed to inform the Board about interpretive issues that have or are likely to arise as implementation efforts commence. Interested parties are encouraged to monitor the resource group’s deliberations.
 
For questions related to matters discussed above, please contact Gautam Goswami, Adam Brown, or Chris Smith
 
[1] Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.

[2] Purchased Financial Assets with Credit Deterioration - Acquired individual financial assets (or acquired groups of financial assets with similar risk characteristics) that, as of the date of acquisition, have experienced a more-than-insignificant deterioration in credit quality since origination, as determined by an acquirer’s assessment.

EBP Commentator - Summer 2016

Tue, 06/21/2016 - 12:00am


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Cybersecurity Concerns for Employee Benefit Plans In recent months, the Department of Labor (DOL) has raised concerns about cybersecurity and employee benefit plans. Employee benefit plans may be vulnerable to cyber-attacks and thus exposed to risks relating to privacy, security, and fraud. Plan administrators, or those charged with governance, have an ERISA fiduciary duty with respect to the management of the plan, which encompasses the duty to care for personally identifiable information (PII) and protected health information (PHI).

Most plan sponsors and service organizations now use electronic means to conduct financial transactions for the plan (such as the remittance of participant and/or sponsor contributions) and to interface with participants (for instance, permitting participants to electronically initiate a new loan or request a plan distribution). It is these electronic records, and the related investment transactions, that may be at risk to a cyber-attack. Potential at-risk PII data includes information such as social security number, date of birth, email address, etc.  While PII might seem to be an unlikely target, it has significant value to cybercriminals since it is permanently associated with an individual (unlike a credit card account number, PII cannot be easily “cancelled”) and therefore can be exploited over a longer period of time.

For plans that utilize service organizations for most (or all) of their electronic records and investment transactions, a common misconception may be that those plans have relatively little risk if the service organization’s SOC 1 report on controls has no issues. It is important to note that a SOC 1 report addresses a plan’s internal control over financial reporting, but does not address the broader entity (or plan)-related cybersecurity controls and risk. 
Where to Start? Plan management and those charged with governance of a plan should evaluate their plan’s cybersecurity governance as part of the overall risk assessment and start the discussion in the Audit, Administrative or Benefit Committee meetings. Some initial questions to help start the conversation include the following:
  • Who is in charge of cyber security for the plan sponsor? 
  • Has this individual or department considered the potential cyber risks for the employee benefit plan?
  • What would be plan management’s response if notified of a data breach by one of their service providers or an employee?  In such a situation, what would be the sponsor’s obligation to the plan and to the participants?
  • Has plan management identified the key individuals/providers involved in processes for the plan (e.g., who does what, when and how)?
  • Does the sponsor require mandatory training on cybersecurity for all employees?
  • What are the current legal and regulatory concerns?
  • What is the applicable state law should there be a data breach?

A potential next step would be to then start cybersecurity discussions with the plan’s third-party service providers and to review current policies or procedures relating to data security, including passwords, social media, document retention, internet privacy, etc. Even seemingly mundane employee-related policies may need to be considered since, according to a 2016 Association of Corporate Counsel Foundation report, employee error is the number one reason cited for cause of breach. 
What about Cybersecurity Insurance? Cybersecurity insurance is a growing market. Most organizations are familiar with their commercial insurance policies, which provide general liability coverage to protect the business from injury or property damage. However, standard commercial insurance policies may not cover cyber risks. Since the specific cyber risks vary based on industry, policies for cyber risk are more customized than other types of insurance policies and can be based on a variety of factors.  Such factors include the type of data collected and stored by the entity, the entity’s presence on the internet, how employees and others are able to access data systems along with any IT updates and disaster response plans. Coverage may also include liability for security of privacy breaches, costs associated with a privacy breach or business interruption.

In summary, cybersecurity is a growing concern for all entities, including employee benefit plans.  This issue is expected to become more pressing with each new announcement of a system failure or data breach. Plan management and those charged with governance need to assess their plan’s risks and develop a specific strategy to address those risks as unfortunately, there is no “one-size-fits-all” approach related to cybersecurity.  
 
AICPA Employee Benefit Plans (EBP) Conference The recent AICPA EBP Conference (held May 2016) covered a wide variety of topics related to employee benefit plans, including updates from the federal regulators, key upcoming accounting and auditing changes impacting EBPs, etc. Below are some of the topics discussed:
  • Accounting Standards Update (ASU) 2015-07, Fair Value Measurement (Topic 820): Disclosures for Investment in Certain Entities That Calculate Net Asset Value per Share (or its Equivalent) - removes the requirement to categorize investments for which fair values are measured using NAV as a practical expedient in the fair value hierarchy. However, it is required to disclose the amount measured using NAV as a practical expedient so that financial statement users can reconcile the fair value of investments included in the fair value hierarchy to total investments measured at fair value on the statement of net assets available for benefits.
  • ASU 2015-10, Technical Corrections and Improvements – a change to the definition of “readily determinable fair value” (RDFV) has the potential to change previously reported fair value hierarchy levels for many investments that previously used the NAV as a practical expedient in both retirement accounts in plan sponsor financials as well as investments reported in EBP financial statements. Based on the revised definition of RDFV, investments such as pooled separate accounts (PSAs) and common/collective trusts (CCTs) may no longer qualify to use NAV as the practical expedient.
  • ASU 2015-12, Plan Accounting: Defined Benefit Pension Plans (Topic 960), Defined Contribution Pension Plans (Topic 962), Health and Welfare Benefit Plans (Topic 965): (Part I) Fully Benefit-Responsive Investment Contracts, (Part II) Plan Investment Disclosures, (Part III) Measurement Date Practical Expedient (ASU) – reduces the complexity in EBP plan accounting; refer to our Winter 2016 edition  for more details on the plan financial reporting simplification. 
  • Public Company Accounting Oversight Board (PCAOB) Auditing Standard No. 18, Related Parties – establishes requirements regarding the auditor’s evaluation of a company’s identification of, accounting for, and disclosure of relationships and transactions between the plan and its related parties for plans that are subject to filing Form 11-K with the Securities and Exchange Commission (SEC).
  • Cybersecurity – cyber risks to EBPs is a current focus for the Department of Labor (DOL), who discussed its concerns as to how both plan sponsors and service providers are addressing plans’ cyber risks. See also the article in this edition.  
  • DOL’s Employee Benefits Security Administration (EBSA) - it was announced at the conference that the first and long-time Chief Accountant of the EBSA, Ian Dingwall, will be retiring effective January 2017.
 
Form 5500 Update
2015 Compliance Questions The Internal Revenue Service (IRS) instructed that plan sponsors should not answer the newly added compliance questions on the 2015 Form 5500 and Form 5500-SF (discussed in detail in our Winter 2016 edition) since the new questions had not yet been approved by the Office of Management and Budget (OMB).
2016 Compliance Questions In March 2016, the IRS announced proposed changes to the 2016 Form 5500 Series returns (including Form 5500, Form 5500-SF and 5500-SUP).  These changes incorporate updated/more consolidated versions of the 2015 compliance questions. Proposed questions include the following:
  • The trustee, custodian and Form 5500 preparer’s name and contact information
  • Basic information regarding methods used by qualified plans to satisfy nondiscrimination requirements, including ADP/ACP testing methods and minimum coverage
  • Timing of in-service distributions for plans subject to minimum funding including defined benefit and money purchase plans
  • Whether a plan received a favorable advisory, opinion or determination letter with related information
  • If required minimum distributions were made to more than 5% owners

The IRS also will provide a 2016 Form 5500-SUP that will be used to report these compliance questions to the IRS if these questions are not answered electronically on Form 5500 or Form 5500-SF. Form 5500-SUP will be a paper-only filing.
Form 5500 Extension Reminders Form 5558, Application for Extension of Time to File Certain Employee Plan Returns, is used to file for an extension of Form 5500, Form 5500-SF, Form 5500-EZ, Form 8955-SSA, and Form 5330. It permits an extension of two and a half months past the required due date (with a six-month extension for Form 5330). 

A few reminders:
  • For first-time filers of the Form 5500 series, Part II, Question 1 must be checked.
  • Plan sponsors must use a separate Form 5558 for each return (it is not permissible to provide a listing of returns on one filing). However, a single Form 5558 may be used to extend both Form 5500 (or Form 5500-SF) and Form 8955-SSA for the same plan.
  • A signature (generally the plan sponsor’s) is required if extending the Form 5330, but not for extensions for the Form 5500 series or the Form 8955-SSA.
  • Form 5558 is still a paper-only filing with the IRS (electronic filings are not available at this time).
 
DOL “Conflict-of-Interest” Fiduciary Rule Released In April 2016, the DOL released the final ruling regarding the definition of who is a fiduciary and its role with respect to providing investment advice. The new regulation (also referred to as the “conflict-of-interest” rule) is designed to close legal loopholes permitting retirement advisers to recommend investment products that are more profitable to the adviser and not necessarily in the best interests of their clients. This is the first significant regulation addressing investment advice since 1975 and reflects the greater role played by participants in investment decisions, through participant-directed 401(k) plans, individual retirement accounts (IRA), etc.

Prior regulations required an adviser to satisfy each part of a five-part test before the provider would be treated as a fiduciary adviser. If an adviser did not satisfy one of the tests, the adviser was permitted to operate with conflicts of interest that were not required to be disclosed to the client and was granted limited liability under the federal pension law. The conflict-of-interest rule replaces the five-part test and instead provides new broader set of principle-based rules along with exemptions to allow certain broker-dealers, insurance agents and others to act as fiduciaries while receiving compensation as long as they ensure that the advice provided is impartial and in the best interest of their clients.

Under the new regulation, a service provider is considered to be rendering investment advice if they receive fee-based or other compensation (whether directly or indirectly) that relates to providing guidance or assistance with the purchase or sale of securities or other investment property or the management of such investment property. The regulation stipulates what constitutes a “recommendation” and indicates that classification as a recommendation is based on the content, context, and presentation of the information and whether the information would be perceived as advising the recipient to partake in or refrain from taking a certain investment strategy.

A broad exemption under the regulation permits providers to receive compensation from selling certain products that might otherwise constitute a prohibited transaction. The Best Interests Contract (BIC) exemption is available if the provider offers only non-discretionary advice and meets certain other stipulations.
The final regulation also specifies that certain communications and activities are not considered to be recommendations, which addresses concerns noted during the proposal public comment period that recipients may come across information that should not be treated as fiduciary investment advice. Communications and activities excluded from the rule include the following:
  • Participant education, such as certain interactive investment materials, which seek to provide participants/beneficiaries with investment options available under the plan
  • General communications, such as newsletters or other broadly-focused communication not tailored to any one specific plan or participant.

Although compliance with the new regulations begins in April 2017, the DOL has adopted a phased implementation that includes a transition period from April 2017 to January 2018 for the various exemptions covered under the new regulations. This implementation period is expected to allow service providers to prepare for the compliance requirements and to adjust their status, if needed, from non-fiduciary to fiduciary status. For further details see webapps.dol.gov/FederalRegister/PdfDisplay.aspx?DocId=28806.
 
The Plan Sponsor’s Fiduciary Role When discussing the role of the plan sponsor as the fiduciary to a plan, it is important to note that the role of fiduciary extends to specific individuals within the plan sponsor organization. Identifying those individuals depends on job functions performed on behalf of the plan and is not based solely on a particular job title. Within the plan sponsor organization, plan fiduciaries will often consist of a named plan fiduciary, any committees charged with the governance/ administration of the plan (which can include the audit committee, plan committee and/or a plan investment committee, etc.) as well an anyone else involved in decision making for the plan. 

Once fiduciaries within the plan sponsor are identified, it is important that these individuals understand their role and responsibilities as set forth under the Employee Retirement Income Security Act of 1974 (ERISA). In brief, plan fiduciaries are to act solely in the interest of the plan participants with the overall goal of providing the participants with benefits. Fiduciaries are required to diversify the plan (per ERISA stipulations), ensure the plan is being administered in accordance with the plan document, monitor the plan’s service providers, and ensure that the plan is only paying reasonable fees.

The plan sponsor’s fiduciary duties and responsibilities encompass both the day-to-day plan administration and larger tasks such as timely filings with regulatory agencies and plan audits (if required). Since a fiduciary may not fully “delegate away” its responsibilities, the plan sponsor should ensure that third parties hired have the appropriate experience, qualifications and credentials, and performance record. Pod-casts of our four-part Fiduciary Gridiron series that discusses fiduciary considerations for plan sponsors may be accessed:  
Did You Know? Under the Health Insurance Portability and Accountability Act (HIPAA) Privacy Rule, individually identifiable health information for deceased individuals is protected for 50 years after the individual’s death.

For more details, see www.hhs.gov/hipaa/for-professionals/privacy/guidance/health-information-of-deceased-individuals/index.html
 
Considering a Defined Benefit Plan Termination? We invite plan sponsors who are considering possible termination of their defined benefit (DB) plans to listen to a podcast of a recent BDO webinar held jointly with Markley Actuarial Services Inc. and The Principal Financial Group.  The Guide Your Plan to Termination podcast discusses current issues facing DB plans and potential options for sponsors and can be accessed at: www.bdo.com/events/defined-benefit-plan-webinar.
 
Critical Dates for Plans with December 31st (Calendar) Year Ends First Form 5500 deadline - Sunday, July 31 (which automatically becomes Monday, August 1st)

Final Form 5500 deadline - Saturday, October 15th (which automatically becomes Monday, October 17th).  To be eligible for this extended deadline, Form 5558 must be filed on behalf of the plan on or before the first deadline.
 
Upcoming Society for Human Resource Management (SHRM) Conference BDO is looking forward to celebrating HR’s everyday heroes at this year’s SHRM Annual Conference & Exposition that is being held June 19-22 in Washington, D.C. If you’re attending the conference, stop by Booth 623 to chat with our professionals about all things HR.  Even if you’re not able to participate in person, follow the conference through #SHRMHERO on Twitter .
 
Contact Bob Lavenberg
Assurance Partner
National Partner in Charge of Employee Benefit Plan Audit Quality
(215) 636-5576 / rlavenberg@bdo.com
 

SEC Flash Report - June 2016

Mon, 06/20/2016 - 12:00am
SEC Proposes to Modernize Disclosures for Mining Registrants Download PDF Version

On June 16, the SEC proposed rules to modernize property disclosures for mining registrants.  The proposal is part of the SEC’s broader disclosure effectiveness initiative.  The revisions would amend Item 102 of Regulation S-K, rescind Industry Guide 7 and include mining property disclosure requirements in a new subpart of Regulation S-K. 
 
The proposed rules would:
  • Provide one standard requiring registrants to disclose mining operations that are material to the company’s business or financial condition
  • Require a registrant to disclose mineral resources and material exploration results in addition to its mineral reserves
  • Permit disclosure of mineral reserves to be based on a preliminary feasibility study or a final feasibility study
  • Provide updated definitions of mineral reserves and mineral resources
  • Require, in tabular format, summary disclosure for a registrant’s mining operations as a whole as well as more detailed disclosure for material individual properties
  • Require that every disclosure of mineral resources, mineral reserves and material exploration results reported in a registrant’s filed registration statements and reports be based on, and accurately reflect information and supporting documentation prepared by, a “qualified person”
  • Require a registrant to obtain a technical report summary from the qualified person, which identifies and summarizes for each material property the information reviewed and conclusions reached by the qualified person about the registrant’s exploration results, mineral resources or mineral reserves
 
The proposal can be found here on the SEC’s website.  Comments should be provided within 60 days following publication of the release in the Federal Register. 
 
 
 For questions related to matters discussed above, please contact Jeff Lenz or Wendy Hambleton.

SEC Flash Report - June 2016

Mon, 06/20/2016 - 12:00am
SEC Permits the Use of Inline XBRL Download PDF Version

On June 13, the SEC issued an order permitting issuers to voluntarily embed XBRL data directly in their financial statements using a format known as Inline XBRL in lieu of providing tagged data in a separate exhibit.  The order is available here on the SEC’s website. 
 
Issuers have been required to provide XBRL data in an exhibit to their filings.  Consequently, issuers copy their financial statement information into a separate document and tag it in XBRL.  By allowing issuers to instead embed tags directly into the financial statements, this voluntary program is intended to reduce preparation costs and increase the quality of the data, thereby increasing its use by investors and other market participants. 
 
The order permits issuers to voluntarily use Inline XBRL in their periodic and current reports through March 2020.  

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

Data Analytics & Enhancing Audit Quality

Fri, 06/10/2016 - 12:00am


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Data analytics is about enhancing audit quality.  While there are differing philosophies as to what evolving technologies mean to the auditing profession, audit quality remains a fundamental objective. High quality, focused, and effective audits should closely align with the way companies manage their data and their operations. Data analytics offer a practical way to manage important aspects of audits where data is both available and reliable.  Audit procedures performed to discover and analyze patterns, identify anomalies, and obtain information from our clients’ data populations can assist in achieving greater insights in designing the nature, timing, and extent of the audit approach, as well as in communicating the results obtained to management and those charged with governance.


Emracing Change In a complex and dynamic world, companies need to be forward-thinking and insightful about their businesses. As technologies continue to evolve, the ever expanding use of data analytics demonstrates a particular willingness to embrace such change.  
 
Reimagining Analytics

Traditional audit analytics provide many benefits to the efficiency and effectiveness of an audit and have been part of the audit toolbox for many years.  However, traditional techniques can be limited by being too prescriptive and unfocused, reducing insights delivered to auditors and their clients.  

Modern technology enabled data analytics improve the risk assessment process, the depth of substantive procedures, and the focus of tests of controls. 

Such data analytics are often described as either being ‘exploratory’ or ‘confirmatory’.  Exploratory data analytics are used to identify attributes within a particular data set that are of potential interest because they may represent a potential risk of material of material misstatement or have other implications for the audit, such as vendor pricing concessions or discounts outside of accepted ranges. The results of exploratory data analytics may then be used, for example, in designing and performing further confirmatory audit data analytics, or provide the basis for other types of audit procedures. Confirmatory audit data analytics are ordinarily designed to obtain evidence that will either refute or confirm certain assumptions within the data sets; an example being the comparison of gross margin variances at the individual item level to standards.
 
In both cases, modern data analytics make it viable for the auditor to use more detailed analysis models than were previously practical, which introduces added rigor to the audit procedures. 
 
The BDO Advantage

BDO has been investing in and developing a suite of data analytics tools we refer to as ‘BDO Advantage’.  BDO Advantage combines the benefits of modern technology with our knowledge and understanding of our clients’ businesses.  BDO Advantage is transforming our audit approach by functioning as the engine that summarizes and presents complete data set outliers and anomalies. This information is then incorporated into the subjective assessments within our audit strategy. Consider inventory reserves as an example; it is now possible to identify patterns between purchases activity and sales activity at the individual inventory item number when evaluating inventory obsolescence estimates. BDO Advantage includes analytical tools that create data visualizations that enhance our understanding of our clients’ revenue streams, purchases activities, control activities, and inventory movements to more dynamically explore and focus our efforts on patterns, trends and outliers. Such risk-based tools and applications allow flexibility in developing customized solutions that can easily be applied across any business, component or data set. The advanced data analytics solutions available to auditors include benchmarking (e.g., against historical data, industry and peer group information, etc.) and dashboards that not only highlight matters of relevance for consideration in addressing audit risks, but have the added potential benefit of complimenting conversations with financial executives and board of directors with succinct visualizations highlighting specific business issues and risks.
Graphs, charts and tables and other forms of visualization more effectively identify potential problem areas.  Quite simply, a picture paints a thousand words. Through tools like Advantage, entire data populations can be reduced quickly to identify those things that matter most, more quickly.
  Potential Barriers Further expansion of technology enabled data analytics is the first step in helping auditors keep pace with the changes in the environment in which audits are being performed. In time, audits will become increasingly automated, although personal involvement of the auditor will continue to be necessary, particularly as it relates to understanding inputs and assumptions and evaluating trends, patterns, and outliers.  The profession is currently assessing several potential barriers to expanded use of technology enabled data analytics.
 
Experience in Using Data Analytics

Data visualization is only half of the battle.  There are certain skills necessary to appropriately assess what data to target, what types of information within data sets are important, and what represents an outlier versus an exception. BDO is already dedicating significant training and development efforts of staff and partners to help enhance and refine these skills sets. Auditors have recognized that data analytics are not effective if they are performed in isolation – they need to be effectively integrated into all phases of the audit and with other procedures.
 
We believe this hurdle is being lowered every day.  Current tools are becoming increasingly user-friendly and our professionals’ current toolbox contains several effective data analytic tools that will continue to evolve with technological advances. 
 
Access Resistence

Companies are increasingly expecting auditors to make greater use of technology enabled data analytics.  However, there can be resistance from those responsible for maintaining the integrity and security of the data.  Concerns over data access typically include unintentionally corrupting or changing of data sets or security concerns when providing access to sensitive data.

Audit firms are overcoming this barrier by providing clear and persuasive information to companies regarding how data integrity and security will be maintained to preserve the confidential and sensitive nature of company information.

Data Integrity

Companies may have a patchwork of systems, including older legacy systems or combinations of smaller applications. As a result, there can be a cost involved in converting data sets into usable formats.  Similarly, the reliability of data can vary.  Data sets may have a higher level of reliability if they come from a system for which internal controls are operating effectively.
 
Audit analytics methodology should include establishing expectations, applying a degree of precision that would identify a material misstatement of the financial statements, performing an analysis based on reliable data, and investigating and obtaining corroborated explanations for all variations from expectations above a specified investigation threshold.  Qualitative as well as quantitative factors such as the precision of expectations and the investigation thresholds should be considered when determining the extent of reliance placed on data analytics for audit purposes.  Consideration of the internal controls environment and any system deficiencies, including program change controls and access management controls, is also a critical component of data analytics.
 
A solid understanding of the systems producing the data on which any data analytics would be based is essential to ensure the audit procedures are adequately designed and based on data that has integrity. What is and what is not possible is often largely dictated by this understanding, which is why diligence on the systems must be done very early in the audit process.
 
Outliers and Exceptions

Perhaps the most pressing matter in the audit profession is the notion of ‘outliers’ vs. ‘exceptions’.  Outliers typically have some attributes that deviate from the norm, whereas exceptions are a subset of outliers that vary in nature or size to the extent that they warrant further investigation to assess whether they represent possible risk of material misstatement. 

When the number of outliers is large, it may be inefficient and ineffective to allocate audit resources to investigate all outliers as possible exceptions when the likelihood of material misstatement is low.  The auditing profession is currently wrestling with the concept of outliers, triaging outliers as to their potential significance, and developing a framework that can be used to classify items as outliers or as exceptions. Until such time as there is greater clarity in the professional literature, the potential impact on any one audit engagement is largely facts and circumstances driven.
  Next Steps Investing in the Profession
 
In December 2015, the Rutgers Business School and the American Institute of CPAs American Institute of Certified Public Accountants (AICPA) announced the formation of the Rutgers AICPA Data Analytics Research Initiative (‘RADAR’). RADAR is a research initiative that is comprised of founding members from the Rutgers Business School, the AICPA, CPA Canada, and eight US Audit firms, including BDO. RADAR is a collaborative effort formed in response to the growing recognition of the value of integrating data analytics into the traditional financial statement audit.  RADAR intends to explore the effectiveness of various analytic techniques with the goal of providing further supporting evidence for the potential development of authoritative guidance around the use and applicability of these techniques in practice. The profession is currently wrestling with several issues into which the RADAR group is looking to clarify through research. For example, a common limitation of improved exception and outlier identification techniques is that they can generate large numbers of outliers and exceptions. The participating RADAR professionals are investigating philosophies and evaluating frameworks to better classify what distinguishes an outlier from an exception based on potential risk characteristics.

The theory and methodology being researched under RADAR will inform the development of the AICPA Audit Data Analytics Guide currently being developed by the joint AICPA Assurance Services Executive Committee (ASEC)/ Auditing Standards Board (ASB) working group. The research findings will also serve as the basis for further potential professional standards setting regarding the evolving use of data analytics in the context of the financial statement audit, and implications for the auditing standards set and maintained by these organizations.

More information regarding the RADAR initiative can be found on the RADAR page.

Continuing the Dialogue

BDO encourages both audit committees and financial accounting and reporting management to further consider and speak to your auditors about the benefits of incorporating data analytics tools and methodology into your audit engagements. For additional audit committee and financial reporting tools and resources, visit BDO’s Corporate Governance page.
 

PCAOB Reproposes Standard to Enhance the Auditor’s Report for Critical Audit Matters

Thu, 05/26/2016 - 12:00am
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Summary On May 11, 2016, the PCAOB reproposed for public comment the standard, The Auditor’s Report on an Audit of Financial Statements When the Auditor Expresses an Unqualified Opinion, and related amendments (the “reproposed standard”). The reproposed standard is accessible here and a summary in the form of a PCAOB Fact Sheet here.
Details

The reproposed standard revises the PCAOB’s initial proposal issued in August 2013. Similar to the 2013 proposal, the reproposed standard would retain the existing “pass/fail” model in the auditor’s report, but would provide additional information in the report, such as the communication of critical audit matters and new elements related to auditor independence and auditor tenure.

A “critical audit matter” (CAM), as defined in the reproposed standard, is any matter that is communicated or required to be communicated to the audit committee and that (1) relates to accounts or disclosures that are material to the financial statements, and (2) involves especially challenging, subjective, or complex auditor judgment. The auditor’s report would identify the CAM, describe the considerations that led the auditor to conclude that such matter is a CAM, describe how it was addressed in the audit, and refer to the relevant financial statement accounts and disclosures. The PCAOB’s decision tree below includes a principles-based framework leveraging the work already performed by the auditor under existing PCAOB standards. By using such a framework, the PCAOB anticipates that CAMs would be scalable based on the size, nature, and complexity of the audit engagement:


Source: Adapted from PCAOB Release No. 2016-003


The reproposed standard has been refined in a number of respects from the 2013 proposal, including:

  • Limiting the source of potential CAMs to matters communicated or required to be communicated to the audit committee1
  • Adding a materiality component to the definition of a CAM
  • Narrowing the definition of a CAM to only those matters that involved especially challenging, subjective, or complex auditor judgment
  • Revising the related documentation requirement to be consistent with the definition of a CAM
  • Requiring the auditor to describe in the audit report how the CAM was addressed during the audit 
 


Observations:
Source of CAMs: The filter used to determine the population of possible CAMs recognizes the audit committee’s oversight of the audit, such that the CAMs would be drawn from matters communicated or required to be communicated to the audit committee.  The second filter to be applied considers whether the accounts or disclosures are material to the financial statements or involve especially challenging, subjective or complex auditor judgment.
 
Materiality: Auditors would be required to consider CAMs related to accounting or disclosures that are material to the financial statements. "Relates to" clarifies that the CAM could be an element of an account or disclosure and does not necessarily need to correspond to the entire account or disclosure in the financial statements. For example, the auditor's evaluation of the company's goodwill impairment assessment could be a CAM; it would relate to goodwill because impairment is an element of that account. In addition, a CAM may not necessarily relate to a single account or disclosure but could have a pervasive effect on the financial statements or relate to many accounts or disclosures. For example, the auditor's evaluation of the company's ability to continue as a going concern or the risk of management's override of internal control could also represent CAMs depending on the circumstances of a particular audit. Furthermore, matters arising during the audit not deemed to be CAMs by auditor could nonetheless be included in the description of the principal considerations that the auditor used to determine CAMs.
 
CAM Definition: Matters involving “challenging, subjective, or complex auditor judgment” would likely include matters of most interest to investors:

  • significant management estimates and judgments made in preparing financial statements and the auditor’s assessment of them
  • areas of high financial statement and audit risk
  • unusual transactions, restatements, and other significant changes to the financial statements; and the
  • quality, not just the acceptability, of the company’s accounting practices and policies. 


For example, the auditor may communicate CAMs related to significant management estimates and judgments, highlight areas of high financial statement and audit risk, and discuss significant unusual transactions. However, the auditor would not be required to report on its assessment of management's significant estimates and judgments or on the quality (as opposed to merely the acceptability), of the company's accounting practices and policies or of the financial statements as a whole.
 
While the reproposed standard requires the auditor to communicate CAMs arising for the current audit period, the auditor would not be precluded from including CAMs for prior periods.
 
Disclosure of How CAMs Were Addressed in the Audit: The reproposal does not prescribe an approach for the how an auditor is to describe within the auditor’s report how the CAM was addressed during the audit. It suggests that the auditor may describe: (1) the auditor's response or approach that was most relevant to the matter; (2) a brief overview of procedures performed; (3) an indication of the outcome of the auditor's procedures; and (4) key observations with respect to the matter, or some combination of these elements. With respect to item (3), language used to communicate a CAM should not imply that the auditor is providing a separate opinion on it or on the accounts or disclosures to which it relates. It is also not appropriate for the auditor to use language that could call into question the auditor's opinion on the financial statements, taken as a whole. The reproposal contains illustrative communication examples for consideration.
 


The reproposed standard would also include the following changes to the existing auditor’s report:

  • The auditor’s report would include a statement about the requirement for the auditor to be independent.
  • The phrase "whether due to error or fraud," would be added to the auditor’s report when describing the auditor's responsibilities under PCAOB standards to obtain reasonable assurance about whether the financial statements are free of material misstatements.
  • A statement would be included in the auditor’s report regarding how many years the auditor has served as the company’s auditor
  • The opinion would be required to be the first section of the auditor’s report
  • Section titles would be required in the auditor’s report, to help guide the reader 
 


Observations:
Auditor Tenure: The PCAOB is proposing that rather than including auditor tenure in the new Form AP2,it would  be disclosed in the auditor’s report as the primary vehicle by which the auditor communicates with investors.
 


The 2013 proposal also included another new auditing standard, The Auditor's Responsibilities Regarding Other Information in Certain Documents Containing Audited Financial Statements and the Related Auditor's Report, regarding the auditor's responsibilities for other information outside the financial statements. The Board is not reproposing this auditing standard at this time but plans to determine next steps at a later date.
 
The reproposed standard would generally apply to audits conducted under PCAOB standards. Unlike the 2013 proposal, however, the requirements regarding CAMs would not apply to audits of brokers and dealers reporting under the Securities Exchange Act of 1934 Rule 17a-5; investment companies other than business development companies; and employee stock purchase, savings, and similar plans.
 
The reproposal contains numerous questions for commenters to consider. Comments on the reproposal are due August 15, 2016.
 
We encourage you to explore the resources cited as you fulfill your duties on behalf of the boards and companies that you serve. For additional audit committee along with financial accounting and reporting tools and resources, visit BDO’s Board Governance page.

For questions related to matters discussed above, please contact Wayne Kolins, Sue Lister or Chris Smith.


1 Refer to BDO’s Communications with Audit Committees – Overview of PCAOB Auditing Standard No. 16 for further information available here and BDO’s Flash Report on the approval of PCAOB Standard No. 18, Related Parties, available here. Shortly, BDO intends to release a comprehensive audit committee practice aid that lists required communications as determined by standard-setters and regulators along with several U.S. listing exchanges which will be made available on www.bdo.com.
 
2 The SEC recently approved the PCAOB’s new rule requiring disclosure of the engagement partner and other audit firms participating in the audit within a new PCAOB Form AP, Auditor Reporting of Certain Audit Participants. Audit firms are required to file the name of the engagement partner for all public company audits issued on or after January 31, 2017. Information about other audit firms participating in the audit must be filed for all public company audits issued on or after June 30, 2017. Refer here.
 

SEC Flash Report - May 2016

Fri, 05/20/2016 - 12:00am
SEC Updates Compliance and Disclosure Interpretations on Non-GAAP Financial Measures 
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On May 17th, the staff of the Securities and Exchange Commission updated its Compliance and Disclosure Interpretations (C&DIs) on non-GAAP financial measures.  Non-GAAP measures have recently been highlighted as an area of concern by Chair White and the staff, given registrants’ extensive use of them and the potential for confusion they may cause. 
 
The updates primarily address the nature and presentation of adjustments or measures that may be considered misleading and therefore violate Regulation G or Item 10(e) of Regulation S-K.  Specifically, the updates communicate that:
 
  • Certain adjustments to GAAP measures may be misleading even if they are not expressly prohibited by the SEC’s rules.  For example, the exclusion of cash operating expenses that are normal and recurring items could be misleading. 
  • Non-GAAP measures can be misleading if they are presented inconsistently between periods.  While a change between periods is not prohibited, the reason for any change should be clearly described and disclosed.  Additionally, registrants may need to consider recasting historical non-GAAP measures to conform to the current period presentation.     
  • Non-GAAP measures that exclude non-recurring charges but do not exclude non-recurring gains may be misleading.     
  • Revenue measures that are calculated using revenue recognition and measurement methods that are different from those required by GAAP are generally not permitted.  The same concept may apply to financial statement line items other than revenue as well.  
  • While registrants may present non-GAAP performance measures on a per share basis, registrants are prohibited from presenting non-GAAP liquidity measures on a per share basis.  Whether per share data is permitted depends on whether the non-GAAP measure can be used as a liquidity measure, even if management presents it solely as a performance measure.  For this reason, non-GAAP measures such as EBIT and EBITDA may not be presented on a per share basis.  Also, registrants should focus on the substance of the non-GAAP measure and not management’s characterization of the measure to determine whether presenting the measure on a per share basis is permissible.  
  • EBIT and EBITDA should be reconciled to net income (not operating income).  Operating income is not the most directly comparable GAAP financial measure because EBIT and EBITDA make adjustments for items that are not included in operating income. 
  • Registrants are permitted to present a non-GAAP measure such as “free cash flow”[1] though they should clearly describe how the measure was determined as it does not have a uniform definition across companies.  Companies should not imply that the measure represents cash available to fund discretionary expenditures as the definition typically excludes debt-service and other expenditure requirements.  Since it is a liquidity measure, free cash flow should not be presented on a per share basis.  
  • When reconciling between GAAP measures and non-GAAP measures, the income tax effects of non-GAAP measures should be reflected as a separate adjustment and clearly explained.  Reconciling items should not be presented net of tax. 
  • Question 102.10 provides several examples that illustrate placing undue prominence on non-GAAP measures presented (which is prohibited by Item 10(e) of Regulation S-K).  These examples include, among others:
    • Omitting comparable GAAP measures from an earnings release headline that includes non-GAAP measures;  
    • Presenting non-GAAP measures before the directly comparable GAAP measures;
    • Describing a non-GAAP measure as “record performance” without an equally prominent description of the comparable GAAP measure; and
    • Providing a discussion and analysis of the non-GAAP measures without a comparable discussion of the GAAP measures. 


Furthermore, for registrants that present “funds from operations” (FFO), as defined by the National Association of Real Estate Investment Trusts (NAREIT), the staff clarified that it accepts NAREIT’s definition of FFO in effect as of May 17, 2016 as a performance measure and does not object to its presentation on a per share basis.  Additionally, registrants are permitted to present FFO on a basis other than as defined by NAREIT as long as the measure complies with Regulation G or Item 10(e) of Regulation S-K. 
 
The C&DIs are available here on the SEC’s website. 

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

1 Free cash flow is typically calculated as operating cash flows, less capital expenditures.

FASB Flash Report - May 2016

Tue, 05/17/2016 - 12:00am
FASB Issues Narrow Scope Improvements and Practical Expedients for New Revenue Standard Download PDF Version
Summary The FASB recently issued ASU 2016-121 amending the new revenue recognition standard that it issued jointly with the IASB in 2014. The amendments do not change the core principles of the standard, but clarify the guidance on assessing collectibility, presenting sales taxes, measuring noncash consideration, and certain transition matters. The ASU becomes effective concurrently with ASU 2014-09and is available here.
 
Background
In May 2014, the FASB issued ASU 2014-09 (“the standard”), establishing a comprehensive revenue recognition standard for virtually all industries, including those that previously followed industry-specific guidance such as the real estate, construction and software industries.
 
The amendments in ASU 2016-12 resulted from implementation issues discussed by the joint FASB/IASB Transition Resource Group (TRG). After considering the issues, the FASB decided certain clarifications were needed to reduce potential diversity and to simplify the standard.
 
Main Provisions
The amendments in ASU 2016-12 clarify the following key areas: 
  • Assessing collectibility
  • Presenting sales taxes and other similar taxes collected from customers
  • Noncash consideration
  • Contract modifications at transition
  • Completed contracts at transition
  • Disclosing the accounting change in the period of adoption
Assessing collectibility
To determine if a contract with a customer is in the scope of the standard, an entity must assess whether certain criteria are met (step 1, identifying the contract). One of the criteria is that it is probable that the entity will collect consideration for its performance. The amendments add a “substantially all” threshold to this criterion, and also expand the implementation guidance to clarify that the objective of this assessment is to determine whether the contract is valid and represents a substantive transaction based on whether a customer has the ability and intent to pay for the goods or services that will be transferred to the customer, as opposed to all of the goods or services promised in the contract. An entity should consider its exposure to credit risk and its ability to mitigate that credit risk as part of this assessment. The amendments also add examples to illustrate the collectibility assessment.
 
In addition, when a contract does not meet the criteria required to apply the recognition guidance within the standard at inception, but an entity receives consideration from the customer, the ASU clarifies the circumstances under which the entity may later recognize the consideration received as revenue.
 
BDO Observation:  The ASU clarifies that an expectation of collecting all of the consideration promised in the contract is not required, only the consideration related to goods or services that will be transferred to the customer. This distinction takes into consideration an entity’s credit risk management strategies, which may result in ceasing transfer of additional goods and services upon nonpayment by the customer. For example, an entity might discontinue providing service in the third month of a 12 month contract. As a result, fewer contracts are expected to fail the collectibility criterion.

However, for those contracts which do fail the collectibility criterion, any partial consideration received must be accounted for as a liability until one or more of the criterion in paragraph 606-10-25-7 have been met.  Cash basis accounting is no longer appropriate under the new standard.
   
Presenting sales taxes and other similar taxes collected from customers
The amendments provide an accounting policy election whereby an entity may exclude from the measurement of transaction price all taxes assessed by a taxing authority related to the specific transaction and which are collected from the customer. Examples include sales, use, value added, and some excise taxes.  That is, such amounts would be presented “net” under this option.  Otherwise, an entity must analyze each jurisdiction in which it operates to determine whether such amounts should be included or excluded from the transaction price under Topic 606.
 
Noncash consideration
The amendments clarify that the fair value of noncash consideration is measured at contract inception. Subsequent changes in the fair value of noncash consideration based on the form of the consideration (e.g., a change in the quoted market price of a share received as consideration) are not included in the transaction price. In contrast, subsequent changes in the fair value due to reasons other than the form of consideration (e.g., a change in the exercise price of a share option resulting from the entity’s performance) are subject to the guidance on variable consideration within the standard.
 
BDO Observation:  While the standard contemplated noncash consideration, it did not specify the date at which noncash consideration should be measured. The guidance in ASU 2016-12 clarifies that noncash consideration, including any equity instruments received, should be measured at contract inception.
However, other GAAP may result in subsequent stock price fluctuations being recorded in earnings, outside of revenue. In addition, ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, will require most equity instruments to be accounted for at fair value through earnings.  Consequently, entities that accept noncash consideration in the form of equity shares are likely to be exposed to greater income statement volatility.
   
Contract modifications at transition
The amendments provide a new practical expedient whereby an entity electing either the full or modified retrospective method of transition is permitted to reflect the aggregate effect of all prior period modifications (using hindsight) when 1) identifying satisfied and unsatisfied performance obligations, 2) determining the transaction price, and 3) allocating the transaction price to satisfied and unsatisfied obligations. The aggregate approach would be in lieu of separately accounting for individual modifications in each prior period.
 
Completed contracts at transition
The standard provides certain practical expedients in transition related to completed contracts. The amendments also changed the definition of a completed contract to mean one in which all (or substantially all) revenue has been recognized under legacy GAAP, as opposed to assessing whether goods and services have been transferred under legacy GAAP.
 
Disclosing the accounting change in the period of adoption
Topic 2503 requires an entity to disclose the effect on the current period of retrospectively adopting a new accounting standard. ASU 2016-12 provides an exception to this requirement related to the new standard. This was in response to stakeholder feedback indicating the requirement would significantly increase transition costs because an entity would have to account for contracts with customers under previous guidance and the new standard for one additional year. However, entities are still required to disclose the impact on prior years.
 
Effective Date and Transition
The effective date and transition requirements for ASU 2016-12 are the same as the effective date and transition requirements of Topic 606, specifically:
 
Public business entities will adopt the standard for annual reporting periods beginning after December 15, 2017, including interim periods within that year. Early adoption is permitted only as of annual reporting periods beginning after December 15, 2016, including interim periods within that year.4
 
All other entities will adopt the standard for annual reporting periods beginning after December 15, 2018, and interim periods within annual reporting periods beginning after December 15, 2019. Early adoption is permitted as of either:
  • An annual reporting period beginning after December 15, 2016, including interim periods within that year, or
  • An annual reporting period beginning after December 15, 2016 and interim periods within annual reporting periods beginning one year after the annual period in which an entity first applies the new standard.
Although the IASB recently issued amendments5 to the standard, the guidance in ASU 2016-12 is not identical, and in some cases is incremental, to the IASB’s amendments.  The Boards do not expect significant divergence as a result of their respective amendments.
 
For questions related to matters discussed above, please contact one of the following practice leaders:
  Ken Gee
National Assurance Partner
  Angela Newell
National Assurance Partner
  Adam Brown
National Director of Accounting   [1] Narrow-Scope Improvements and Practical Expedients [2] Revenue from Contracts with Customers (Topic 606) is substantially converged with IFRS 15, the IASB’s companion standard. [3] Accounting Changes and Error Corrections [4] A not-for-profit entity that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market, and an employee benefit plan that files or furnishes financial statements with or to the SEC have the same effective date as public business entities. [5] Clarifications to IFRS 15

FASB Flash Report - April 2016

Thu, 04/28/2016 - 12:00am
FASB to Issue Exposure Draft on Income Tax Disclosures (ASC 740) Download PDF Version
Summary Pursuant to its ongoing Disclosure Framework project, the Financial Accounting Standards Board (“FASB” or “Board”) will issue an Exposure Draft this summer (2016) of a proposed Accounting Standards Update (ASU) intended to improve income tax disclosure requirements under ASC 740. The objective of the FASB’s Disclosure Framework project is to improve the effectiveness of disclosures in the notes to financial statements by clearly communicating the information that is most important to users. Income Tax disclosures included in ASC 740-10-50 is one of four topics the FASB is currently evaluating for disclosure improvements.

At a meeting held March 23rd, the FASB reviewed its prior tentative decisions on income tax disclosures reached during four previous meetings on the topic (all four previous meetings held throughout 2015). Following these meetings, the Board directed its staff to perform outreach with users, preparers, and other stakeholders to identify issues with the proposed disclosures including costs, complexity, and expected benefits. BDO issued Tax Alerts on tentative decisions reached at three of the four meetings (the first and second meetings covered disclosure aspects related to foreign earnings). Information on the tentative decisions reached at those meetings can be found through the links below:

The Board made the following decisions at the March 23rd meeting:

The Board decided to reverse its prior decisions and not require all entities to disclose:

  1. The line item on the balance sheet in which deferred taxes are presented, and
  2. The domestic income tax expense/benefit on foreign-sourced earnings.
The Board also decided to reverse its prior decisions and not require private companies to disclose the following:
  1. The rate reconciliation currently required of public companies,
  2. An explanation of the nature and amounts of the valuation allowance recorded or released during the reporting period, and
  3. The amounts and expiration dates of operating loss and tax credit carryforwards recorded on the tax return basis, the amounts and expiration dates of carryforwards that will give rise to a deferred tax asset (tax effected), and the total amount of the unrecognized tax benefit that offsets the tax-effected carryforwards.
Other Board Decisions:
  1. It clarified its prior decision related to disclosure of changes in assertions regarding undistributed foreign earnings and whether they are essentially “permanently” reinvested. The Board decided to require all entities to disclose the amount of and an explanation for a change in assertion about the temporary difference for the cumulative amount of investments associated with undistributed earnings (including both those that are no longer indefinitely reinvested and those that are indefinitely reinvested).
  2. It affirmed a prior decision to require disclosure of tax law changes that are probable to have an effect on future periods.
  3. It affirmed a prior decision to require a disaggregation of pretax income and income taxes paid between domestic and foreign.
The Board additionally decided that all entities would be required to disaggregate:
  1. Income tax expense (benefit) between domestic and foreign, and
  2. Foreign income tax paid to any country which is significant relative to total income taxes paid.
One significant tentative decision the Board previously made was to require disclosure of the cumulative amount of undistributed foreign earnings that are indefinitely reinvested for any country that represents at least 10% of the total amount of indefinitely reinvested foreign earnings. However, based on feedback from preparers, the staff presented an alternative proposal to the Board at the March 23rd meeting. This alternative would require disclosure of the amount of liquid assets from accumulated foreign earnings that are indefinitely reinvested. The Board directed its staff to perform further outreach on the possibility of requiring disclosure of the aggregate of liquid assets (cash, cash equivalents, marketable securities, and loans) related to the temporary difference for the cumulative amount of investments associated with undistributed earnings that are indefinite in duration. The additional outreach is needed to determine whether disclosure of liquid assets associated with indefinitely reinvested foreign earnings would be operational and feasible.    

The FASB also decided to require a prospective transition for all proposed changes to income tax disclosures.
Details Changes in Tax Law
At a previous meeting, the Board tentatively decided that income tax disclosures should include a qualitative disclosure when a tax law has been enacted in the current period that is probable[1] to have an effect on the reporting entity in a future period. The purpose of this disclosure is to assist users in assessing changes in tax laws that would have an effect on future cash flows. During the staff outreach, feedback from stakeholders was mostly positive regarding this new disclosure requirement, however some expressed concern over the potentially large number of disclosures that would be mandated. The FASB resolved this concern saying that only those changes in tax law which are probable to have a material effect on the entity are required to be disclosed. At the March 23rd meeting, the Board decided to retain this disclosure proposal and include it in the Exposure Draft expected this summer. The disclosure is to apply to both private and public companies.
 
BDO Commentary:  This proposal goes beyond the current requirement in ASC 740-10-50-9(g) to disclose, in the financial statements or notes thereto, the significant components of income tax expense related to continuing operations, which might include adjustments to deferred tax liabilities or assets for enacted changes in tax laws. However, this proposed disclosure requirement stops short of requiring quantitative disclosure of the nature and magnitude of the effect on future periods’ income taxes.
 
Deferred Tax Line Items
ASC 740-10-50-2 currently requires entities to disclose the components of total deferred tax liabilities, deferred tax assets and valuation allowances. At a prior meeting, the Board tentatively decided to also require entities to disclose the line item(s) on the balance sheet in which the amount of deferred taxes are presented, if not presented as a separate line item. The Board had decided to require this disclosure based upon feedback that users generally have difficulty understanding the effect of taxes on the financial statements, especially in cases where deferred taxes are presented in multiples lines. The Board decided to reverse this decision at the March 23rd meeting based upon additional feedback from users.  Most users said that this disclosure requirement would not add significant value to their analysis. The staff also noted that this disclosure is expected to be less useful when entities adopt ASU 2015-17[2], which requires all deferred tax assets and liabilities to be classified as noncurrent on the balance sheet.

Domestic Tax Expense on Foreign Sourced Earnings
Feedback received from users indicated that more information is needed about the effect of foreign operations on income taxes which led the Board to tentatively decide at a prior meeting that all entities should be required to disclose domestic tax expense on foreign sourced earnings. However, the latest outreach by the staff concluded that most users place little or no utility in this disclosure. Many users felt it would instead be more beneficial to disaggregate income tax expense between domestic and foreign. Based on this feedback, the Board decided to reverse its prior decision and not require all entities to disclose the domestic income tax expense (benefit) on foreign sourced earnings. Instead, the Board decided to require disclosure of disaggregated income tax expense and income taxes paid between domestic and foreign. 

Assertion Related to Undistributed Foreign Earnings
At a prior meeting, the Board tentatively decided that entities should be required to disclose the amount of, and an explanation for, any change in assertion about the temporary difference for the cumulative amount of investments associated with undistributed foreign earnings that are no longer asserted to be essentially permanent in duration. At that meeting, the Board also decided to further require separate disclosures for any individual country that is significant to the disclosed amount (see following section for more details). These decisions were made based upon feedback from users requesting more information on indefinitely reinvested foreign earnings. They would apply to both public and private companies.

The Board’s prior decisions, however, did not include corresponding disclosure requirements regarding changes in the other direction – i.e., that investments associated with undistributed foreign earnings for which a deferred tax liability is recognized are now asserted to be essentially permanent in duration which leads to the de-recognition of the outside basis deferred tax liability. At the March 23rd meeting, the Board clarified that their prior disclosure decisions include changes in assertion in both directions.  

Disaggregation of the Temporary Difference on Investments Associated with Undistributed Foreign Earnings
ASC 740-30-50-2(c) requires disclosure of the amount of the unrecognized deferred tax liability for temporary differences related to investments in foreign subsidiaries and foreign corporate joint ventures that are essentially permanent in duration if determination of that liability is practicable or a statement that determination is not practicable. Most companies chose to issue a statement under ASC 740-30-50-2(c) that such disclosure is not practicable.

Based upon feedback from users requesting additional information to better understand the sustainability of an entity’s tax rate and the quality of its earnings, the Board decided at a prior meeting to require entities to disaggregate the temporary difference for the cumulative amount of investments associated with undistributed foreign earnings that are essentially permanent in duration for any country that represents at least 10 percent of the disclosed amount.

The Board decided to require this disclosure by country in order to help users assess likely amounts of future cash flows, and to understand the timing and uncertainty of cash flows related to the indefinitely reinvested foreign earnings. However, during outreach, concerns were raised by stakeholders about the benefits of this disclosure, the cost and complexity of requiring companies to disclose such level of detail. The main concern raised was that this disclosure would not be representational of where the earnings originated since the assertion could be made in a different foreign country than where the earnings originated such as in a holding company structure. Certain preparers also felt that this disaggregation could be used by taxing authorities as a “roadmap” in international tax examinations.

Stakeholders instead suggested that disclosing how much of the balance of undistributed foreign earnings that are indefinitely reinvested is considered “liquid assets” would be more beneficial to assessing the timing and availability of foreign earnings and the uncertainty related to future repatriation of those earnings.
The Board deferred a decision on this disclosure and instead directed staff to perform further outreach on whether disclosure of the aggregate of “liquid assets” (i.e. cash, cash equivalents, marketable securities, and loans) associated with the temporary difference for the cumulative amount of investments associated with undistributed foreign earnings that are essentially permanent in duration would be operative.

Disaggregation of Pretax Income, Income Tax Expense, and Income Taxes Payments
Due to feedback from users indicating a desire for more information about foreign earnings and the tax effect of those earnings, at a prior meeting, the Board tentatively decided to require entities to disaggregate pretax income between domestic and foreign and to further disaggregate foreign pretax income for any country that is significant to total pretax income. The Board believed this would give users sufficient information to analyze tax exposures to foreign countries and better understanding of the sustainability of an entity’s tax rate and quality of the entity’s earnings. 

As a result of preparers’ concerns about costs and complexity, the Board reversed its prior decision to require disaggregation of foreign pretax income by significant country and decided to only require income before taxes disaggregated between domestic and foreign earnings.[3] This disclosure will apply to both public and private companies. However, this would not be a new disclosure to public entities which already furnish this disclosure in their public filings as required under SEC rules.

However, to provide further insight to users, the FASB decided to require disaggregation of both income tax expense and income taxes paid by domestic and foreign and to further require disaggregation of income taxes paid by country where taxes paid are significant in relation to total cash taxes paid. This requirement applies to both public and private companies.
 
BDO Commentary: The term “cash taxes” means the amount of cash paid during the period to meet tax obligations. While the term “significant” is not defined, one threshold that has been used and could be applied is 10 percent or greater. Under this proposed disclosure, cash taxes paid in any one country that is significant relative to total cash taxes paid in any given period should be disclosed. This disclosure proposal would be an expansion of income tax paid during the reporting period presented as a separate class of operating cash flow in the statement of cash flows (refer to ASC 230-10-45-25(f)) or disclosed under the “indirect method” (refer to ASC 230-10-50-2).
 
Disaggregation of Income Taxes Paid by Time Period
At a prior Board meeting, the staff recommended the disaggregation of income taxes paid by current tax year, prior tax year, subsequent tax year, other income tax years, and refunds received or applied. The Board had previously decided against this disclosure because it was unsure of the benefit of this information and it determined that proposed disclosures combined with existing disclosures would provide sufficient information for users. The staff recommended this disclosure again at the March 23rd meeting based on additional outreach with users who indicated this information continues to be beneficial. However, the Board decided against it at the March 23rd meeting, arguing this disclosure would be too complex to prepare and would only be useful in a limited number of situations.

Previous Tentative Decisions That Remain in Effect
The Board did not redeliberate previous tentative decisions on income tax disclosure requirements in ASC 740 specific to uncertain tax benefits (“UTB”) and certain other income tax disclosures reached at previous meetings. These decisions therefore remain in effect and will be included in the Exposure Draft of the proposed ASU.

The Board’s tentative disclosure decisions specific to UTBs included:
  • 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).
Other FASB tentative decisions which remain in effect include:  
  • Modifying the current rate reconciliation required for public companies to include disclosure of:
    •  An individual reconciling item that is more than 5 percent of the amount computed by multiplying the income before tax by the applicable statutory federal income tax rate, and
    • A qualitative description of those items that have caused a significant movement in the rate year over year.
  • Requiring public companies to disclose the amounts and expiration dates of the carryforwards recorded on the tax return and the carryforwards that will give rise to a deferred tax asset, and also the total amount of the unrecognized tax benefit that offsets the tax-effected carryforwards.
  • Requiring public companies to disclose an explanation of the nature and amounts of the valuation allowance recorded and released during the reporting period.

BDO Insights BDO supports the Board’s intent to improve the effectiveness of financial statements’ income tax footnote disclosures while minimizing costs and complexities. We will continue to monitor the Board’s activities in this area and will release an alert update when the Board has issued its Exposure Draft on the proposed ASU.
 
For questions related to matters discussed above, please contact the following practice leaders:
  Principal Authors:   Additional National Resources: Yosef Barbut
National Tax Partner, ASC 740           Joe Russo
Tax Partner, Core Tax and ASC 740 Business Leader       Stephen Arber
Senior Director, International Tax   William Connolly
Tax Senior Director, National Tax ASC 740
        Alicia Massi
Associate, International Tax      

[1] The Accounting Standards Codification’s Master Glossary defines the term probable for GAAP purposes as “likely to occur.”  That term is typically taken to mean a likelihood of approximately 75% to 80%. [2] The FASB issued on November 20, 2015 ASU No. 2015-17, “Balance Sheet Classification of Deferred Taxes”. ASU No. 2015-17 is effective for annual periods beginning after December 15, 2016 for public entities and after December 15, 2017 for other entities.  [3] Preparers also expressed concerns about the potential use by taxing authorities of the country-specific disclosure for pretax income.

BDO Comment Letter - Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost

Tue, 04/26/2016 - 12:00am
Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost (File Reference No. 2016-200)

BDO recommends immediate recognition of changes in actuarial assumptions and gains/losses on plan assets instead of revised presentation.

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BDO Comment Letter - Changes to the Disclosure Requirements for Defined Benefit Plans

Tue, 04/26/2016 - 12:00am
Changes to the Disclosure Requirements for Defined Benefit Plans (File Reference No. 2016-210)

BDO supports the proposed changes to pension and other postretirement benefit disclosures, but recommends certain clarifications.

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FASB Flash Report - April 2016

Fri, 04/22/2016 - 12:00am
FASB Clarifies Identifying Performance Obligations and Licenses Guidance in the New Revenue Standard    
Download PDF Version
  Summary The FASB recently issued ASU 2016-10,1 amending the new revenue recognition standard that it issued jointly with the IASB in 2014. The amendments do not change the core principles of the standard, but clarify the accounting for licenses of intellectual property, as well as the identification of distinct performance obligations in a contract. The ASU becomes effective concurrently with ASU 2014-092 and is available here.
Details Background
In May 2014, the FASB issued ASU 2014-09 (“the new revenue standard”), establishing a comprehensive revenue recognition standard for virtually all industries , including those that previously followed industry-specific guidance such as the real estate, construction and software industries.

The amendments in ASU 2016-10 resulted from implementation issues discussed by the joint FASB/IASB Transition Resource Group (TRG). After considering the issues, the FASB decided certain changes are needed to make the new revenue standard more operational.
 
Main Provisions
The amendments in ASU 2016-10 provide more detailed guidance, including additional implementation guidance and examples in the following key areas: 1) identifying performance obligations and 2) licenses of intellectual property.

Identifying Performance Obligations
In order to identify performance obligations, an entity must assess whether goods or services promised in the contract are distinct. The amendments more clearly articulate the guidance for assessing whether promises are separately identifiable in the overall context of the contract—for example, assessing whether a customer has contracted separately for bricks and lumber vs. a completed building in a construction contract. The “separately identifiable” test is one of two criteria for determining whether the promises are distinct.3 The amendments also clarify the factors an entity should consider when assessing whether two or more promises are separately identifiable,4 and provide additional examples within the implementation guidance for assessing these factors.

In addition, ASU 2016-10 clarifies that an entity is not required to identify promised goods or services that are immaterial in the context of the contract, which some stakeholders believed was necessary based on language in the basis for conclusions in ASU 2014-09. However, customer options to purchase additional goods or services which represent a material right should not be designated as immaterial in the context of the contract.5

Further, an entity is now permitted to account for shipping and handling activities as a fulfillment activity rather than as an additional promised service in certain circumstances. This is an accounting policy election to be applied consistently to similar types of transactions, and related accounting policy disclosures apply. If elected, those shipping and handling activities would not be identified as separate performance obligations and no revenue would be allocated to them. Shipping and handling costs must be accrued when the related revenue is recognized, if the shipping and handling activities have not yet occurred.

Licenses of Intellectual Property
The new revenue standard includes implementation guidance on determining whether an entity’s promise to grant a license provides a customer with either a right to use the entity’s intellectual property (IP) (which is satisfied at a point in time) or a right to access the entity’s intellectual property (which is satisfied over time). To this end, the amendments clarify whether a license of IP represents a right of use or a right of access by categorizing the underlying IP as either functional or symbolic.

Functional IP has significant standalone functionality because it can be used as is for performing a specific task, or be aired or played. A license to functional IP represents a right to use the IP as it exists at a point in time; the customer’s ability to derive substantial benefit from the license is not dependent upon the seller supporting or maintaining the IP during the license period (although post-contract support and when-and-if-available updates may be provided as one or more separate performance obligations). A license to functional IP is generally satisfied at the point in time the customer is able to use and benefit from the license. Examples of functional IP include software, biological compounds or drug formulas, and completed media content.

Symbolic IP does not have significant standalone functionality. A license to symbolic IP represents a promise to both (a) grant the customer rights to use and benefit from the IP and (b) support or maintain the IP during the license period (or over the remaining economic life of the IP, if shorter). This type of license is satisfied over time because the customer simultaneously receives and consumes the benefit as the entity performs its obligation to provide access. Examples of symbolic IP include brands, team or trade names, logos, and franchise rights.

The ASU includes a flowchart to assist entities in determining whether a license to IP represents a right to access IP (symbolic) or a right to use IP (functional).

The amendments also clarify that a promise to grant a license that is not a separate performance obligation must be considered in the context above (i.e., functional or symbolic), in order to determine whether the combined performance obligation is satisfied at a point in time or over time, and how to best measure progress toward completion if recognized over time.

Regardless of a license’s nature (i.e., functional or symbolic), an entity may not recognize revenue from a license of IP before 1) it provides or otherwise makes available a copy of the IP to the customer, and 2) the period during which the customer is able to use and benefit from the license has begun (i.e., the beginning of the license period).

Additionally, the new revenue standard includes implementation guidance on when to recognize revenue for a sales-based or usage-based royalty promised in exchange for a license of IP. The amendments clarify two aspects of that guidance:
  1. An entity should not split a sales-based or usage-based royalty into a portion subject to the guidance on sales-based and usage-based royalties and a portion that is not subject to that guidance. In other words, a royalty is either subject to the guidance on sales-based and usage-based royalties, or it is not.
  2. The guidance on sales-based and usage-based royalties applies whenever the predominant item to which the royalty relates is a license of IP.

Lastly, the amendments distinguish contractual provisions requiring the transfer of additional rights to use or access IP that the customer does not already control from provisions that are attributes of a license (for example, restrictions of time, geography, or use). License attributes define the scope of the rights conveyed to the customer; they do not determine when the entity satisfies a performance obligation (point in time vs. over time).
 
Effective Date and Transition
The effective date and transition requirements for ASU 2016-10 are the same as the effective date and transition requirements of Topic 606, specifically:

Public business entities will adopt the standard for annual reporting periods beginning after December 15, 2017, including interim periods within that year. Early adoption is permitted only as of annual reporting periods beginning after December 15, 2016, including interim periods within that year.[6]

All other entities will adopt the standard for annual reporting periods beginning after December 15, 2018, and interim periods within annual reporting periods beginning after December 15, 2019. Early adoption is permitted as of either:
  • An annual reporting period beginning after December 15, 2016, including interim periods within that year, or
  • An annual reporting period beginning after December 15, 2016 and interim periods within annual reporting periods beginning one year after the annual period in which an entity first applies the new standard.
The IASB recently issued similar (but not identical) amendments7 to the standard. The Boards do not expect significant divergence as a result of their respective amendments.

For questions related to matters discussed above, please contact Ken GeeAngela Newell or Adam Brown

1 Identifying Performance Obligations and Licensing
2 Revenue from Contracts with Customers (Topic 606) is substantially converged with IFRS 15,
the IASB’s companion standard.
3 The other criterion is that the customer can benefit from the good or service, either on its own or with other readily available resources.
4 Paragraph 606-10-25-21
5 The entity would apply the guidance in paragraphs 606-10-55-42 through 55-43 to determine whether an option gives rise to a material right.
6 A not-for-profit entity that has issued, or is a conduit bond obligor for, securities that are traded, listed, or quoted on an exchange or an over-the-counter market, and an employee benefit plan that files or furnishes financial statements with or to the SEC have the same effective date as public business entities.
7 Clarifications to IFRS 15
 

SEC Flash Report - April 2016

Thu, 04/21/2016 - 12:00am
SEC Publishes Concept Release on Regulation S-K
Download PDF Version
Details On April 13th, the Securities and Exchange Commission published a concept release on Regulation S-K.  The release is part of the Disclosure Effectiveness Initiative, an ongoing broad-based staff review of the SEC’s disclosure rules to consider ways to improve the requirements for companies and investors.  The release follows the SEC’s request for comment on the effectiveness of certain financial disclosure requirements of Regulation S-X published in September 2015.1

The release focuses on the business and financial disclosures that Regulation S-K requires in companies’ periodic reports, many of which have not changed since they were first adopted over thirty years ago.  The release seeks input from investors and registrants in the following areas:
  • The overall disclosure framework (e.g., the concept of materiality)
  • Information intended for investment and voting decisions, including:
    • Core company business information (e.g., narrative description of business)
    • Company performance, financial information, and future prospects (e.g., selected financial data and management’s discussion and analysis)
    • Risk and risk management (e.g., risk factors)
    • Securities of the registrant (e.g., description of capital stock)
    • Industry guides (e.g., Guide 3 for bank holding companies)
    • Public policy and sustainability matters (e.g., environmental, social and governance concerns) 
    • Exhibits (e.g., material contracts)
    • Scaled requirements for certain registrants (e.g., smaller reporting company and emerging growth company reporting relief)
  • Presentation and delivery of important information (e.g., the use of hyperlinks or cross-referencing)

The concept release can be found here on the SEC’s website. Comments should be provided within 90 days following publication of the release in the Federal Register. 
   
For questions related to matters discussed above, pleae contact Jeffrey Lenz or Paula Hamric.

1 Further information regarding the request for comment can be found here in our Flash Report. Our comment letter can be found here.

Significant Accounting & Reporting Matters Q1 2016

Tue, 04/12/2016 - 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:
  • Financial Accounting Headlines
  • SEC & PCAOB Highlights
  • IASB Projects
  • And more

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FASB Flash Report - April 2016

Mon, 04/11/2016 - 12:00am
FASB Simplifies Aspects of Accounting for Stock Compensation Download PDF Version
Summary The FASB recently issued ASU 2016-091  to simplify the accounting for stock compensation. It focuses on income tax accounting, award classification, estimating forfeitures, and cash flow presentation. The ASU also provides certain accounting policy alternatives to nonpublic entities. The ASU is available here and becomes effective in 2017 for public companies and in 2018 for all other entities. Early adoption is permitted. Certain disclosures and detailed transition provisions apply. 
Main Provisions

ASU 2016-09 simplifies several aspects of the stock compensation guidance in Topic 7182 and other related guidance. The following six amendments apply to all entities:

  • Accounting for income taxes upon vesting or exercise of share-based payments and related EPS effects
  • Classification of excess tax benefits on the statement of cash flows
  • Accounting for forfeitures
  • Liability classification exception for statutory tax withholding requirements
  • Cash flow presentation of employee taxes paid when an employer withholds shares for tax-withholding purposes
  • Elimination of the indefinite deferral in Topic 718. 
The following two amendments apply only to nonpublic entities:
  • Expected term of awards
  • Intrinsic value election for liability-classified awards.
 
BDO Observation:  Accounting teams may wish to communicate with their investor relations departments to ensure they are equipped to explain the impact of these accounting changes to external stakeholders, particularly those changes affecting earnings per share.
 
Accounting for income taxes upon vesting or settlement of share-based payments and related EPS effects

An entity will no longer need to maintain and track an “APIC pool.” Rather, the entity should recognize all excess tax benefits (“windfalls”) and tax deficiencies (“shortfalls”), including tax benefits of dividends on share-based payment awards, as income tax expense or benefit in the income statement. These tax effects, generally determined upon exercise of stock options or vesting of restricted stock awards, should be treated as discrete items in the interim reporting period in which they occur. That is, entities do not need to include the effects of windfalls and shortfalls in the annual effective tax rate estimate from continuing operations used for interim reporting purposes. An entity should recognize excess tax benefits, and assess the need for a valuation allowance, regardless of whether the benefit reduces taxes payable in the current period. As such, off-balance sheet tracking of net operating losses resulting from excess tax benefits will no longer be required. The valuation allowance will be assessed together with all other deferred tax assets. Existing net operating losses that are currently tracked off-balance sheet must be recognized, net of any valuation allowance, through an adjustment to opening retained earnings in the period of adoption. 
 
BDO Observation:  Current recognition of all excess tax benefits and losses may create significant volatility in earnings.  Because of the requirement to recognize the entire amount of the excess tax benefit or loss in the period in which the tax deduction arises, periods with larger amounts of award vestings will be impacted the most.  Companies that have historically granted awards that cliff vest at the end of a multi-year period may experience significant swings in income tax expense and thus net income in the period in which the awards vest. 
 
Impact on earnings per share calculations 

As a result of including income tax effects from windfalls and shortfalls in income tax expense, the calculation of both basic and diluted EPS will be affected. 

Under the treasury stock method used to calculate diluted EPS, windfalls are included in the proceeds assumed to be used to purchase shares. Under the new guidance, windfalls are recognized in net income and thus no longer included in assumed proceeds under the treasury stock method. In effect, fewer shares are assumed to be repurchased. Therefore, this will generally increase the dilutive effect of share options and similar awards.   

Classification of excess tax benefits on the statement of cash flows

The ASU clarifies that an entity should classify excess tax benefits along with other income tax cash flows as an operating activity in the statement of cash flows. This change eliminates the current practice of grossing up the cash flow statement for the effect of windfalls, i.e., reporting windfalls as outflows in operating activities and as inflows in financing activities. Under the new guidance, the effect of windfalls will generally be reflected in net income from continuing operations under the indirect method or income taxes paid/received under the direct method.   

Accounting for forfeitures

The ASU provides an accounting policy election, to be applied on an entity-wide basis, to either estimate the number of awards that are expected to vest (consistent with existing U.S. GAAP) or account for forfeitures when they occur. The accounting policy election applies only to awards with service conditions; awards with performance conditions will still be assessed at each reporting date to determine whether it is probable that the performance conditions will be achieved. An entity that elects an accounting policy to account for forfeitures when they occur would assume that the service condition will be achieved when determining the initial amount of compensation cost to recognize. The entity should reverse compensation cost previously recognized when an award is forfeited before the completion of the requisite service period (the reversal is recognized in the period the award is forfeited). Therefore, regardless of the policy election, compensation cost will be recognized for all awards that ultimately vest. 

The accounting for non-forfeitable dividends (and equivalents) paid to holders of unvested awards depends on whether the awards will ultimately vest (i.e., charge to retained earnings) or be forfeited (i.e., compensation expense). If an entity elects to estimate forfeitures, compensation expense will be recognized at the time dividends are paid based on the entity’s forfeiture estimate, consistent with current guidance. In subsequent periods, dividends will be reclassified between retained earnings and compensation cost when the forfeitures estimate changes or when actual forfeitures differ from previous estimates. If forfeitures are accounted for when they occur, dividends will be reclassified from retained earnings to compensation cost in the period in which the forfeiture occurs.  

Regardless of the policy election, estimating forfeitures is still required when (a) accounting for an award modification and (b) accounting for a replacement award in a business combination. A modification of the terms or conditions of an equity award generally results in incurring additional compensation cost for any incremental value. When measuring the effect of a modification, an entity must assess, on the modification date, whether the performance or service conditions of the original award are expected to be satisfied regardless of its accounting policy. However, the entity would apply its accounting policy to subsequent accounting for the modified award.  Similarly, when measuring the effect of replacement awards on goodwill in a business combination an acquirer must determine expected forfeitures for the portion of a nonvested replacement award included in the consideration transferred (i.e., the purchase price). Post-acquisition changes in estimated forfeitures of replacement awards included in the purchase price should be recognized in compensation cost (not an adjustment to goodwill). If an entity’s policy is to account for forfeitures when they occur, the amount excluded from goodwill because of the forfeiture estimate should be attributed to post-acquisition services and recognized in compensation over the requisite service period and be adjusted only when forfeitures occur.  

Liability classification exception for statutory tax withholding requirements

The ASU increases the allowable statutory tax withholding threshold to qualify for equity classification from the minimum statutory withholding requirements up to the maximum statutory tax rate in the applicable jurisdiction(s). In other words, a partial cash-settlement3 for withholding tax would not by itself require liability-classification provided the amount withheld does not exceed the maximum statutory tax rate for an employee in the applicable jurisdiction(s). An entity should determine the maximum individual statutory tax rates based on the relevant tax authority (or authorities, for example, federal, state, and local), including the employee’s share of payroll or similar taxes, as provided in tax law, regulations, or the authority’s administrative practice. 

This exception to liability classification due to withholding tax is only available when the employer has a statutory obligation to withhold taxes on the employee’s behalf. Further, the amount withheld cannot exceed the maximum statutory rates in applicable jurisdictions. This exception is intended to apply by using a single maximum rate in a jurisdiction as a “ceiling” on withholding tax, i.e., the amount withheld is not limited to the highest tax rate paid by the specific award grantee but instead is limited to the maximum tax rate in the applicable jurisdiction (e.g., federal, state, local), even if that rate exceeds the highest rate that may apply to the specific award grantee. Therefore, an entity would only need to determine one maximum rate in a jurisdiction.   
Cash flow presentation of employee taxes paid when an employer withholds shares for tax- withholding purposes

The ASU clarifies that cash paid to a taxing authority by an employer when directly withholding equivalent shares for tax withholding purposes should be considered similar to a share repurchase, and thus classified as a financing activity. All other employer withholding taxes on compensation transactions and other events that enter into the determination of net income continue to be presented within operating activities.  

Expected term of awards 

A nonpublic entity can make an accounting policy election to prospectively apply a practical expedient to estimate the expected term for all awards with performance or service conditions.4  If elected, it must be applied to all qualifying equity- and liability-classified awards. 

For an award with a service condition, the new guidance allows an entity to establish the expected term as the midpoint between the requisite service period and the contractual term. For an award with a performance condition, an assessment should be made at grant date to determine whether it is probable that the performance condition will be achieved. If it is probable, the expected term is the midpoint between the requisite service period and the contractual term. If it is not probable, the expected term depends on whether a service period is explicitly stated or implied. If explicitly stated, the expected term is the midpoint between the requisite service period and the contractual term; otherwise the expected term is the contractual term. 

The practical expedient is only available for a share option or similar award that has all of the following characteristics:
a)    The share option or similar award is granted at the money
b)    The employee has only a limited time to exercise the award if the employee terminates service after vesting (typically 30-90 days) 
c)    The employee can only exercise the award (cannot sell or hedge the award), and
d)    The practical expedient does not apply to awards with a market condition.

For liability-classified awards, the estimate of the expected term must be updated at each reporting date to reflect the loss of time value and any changes in the assessment of whether a performance condition is probable of being achieved.  

Intrinsic value election for liability classified awards

A nonpublic entity can make a one-time accounting policy election to switch from measuring all liability-classified awards at fair value to intrinsic value. The related transition provisions do not require the entity to evaluate whether the change in accounting policy is preferable under Topic 250.5 

Elimination of the indefinite deferral in Topic 718

The FASB removed the indefinite deferral in paragraph 718-10-65-1 on the need to apply another Topic when the rights conveyed by a freestanding financial instrument are no longer dependent on the holder being an employee. Because this guidance was never implemented, the elimination will not impact current practice. 
Effective Date and Transition  For public business entities, the amendments are effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods.6  For all other entities, the amendments are effective for annual periods beginning after December 15, 2017, and interim periods within annual periods beginning after December 15, 2018. 

Early adoption is permitted for any entity in any interim or annual period for which the financial statements have not been issued or made available to be issued. If an entity early adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. An entity that elects early adoption must adopt all of the amendments in the same period.

Amendments related to the timing of when off-balance sheet net operating losses from excess tax benefits are recognized, the exception to liability-classification for statutory withholding requirements, the forfeitures accounting policy election, and the one-time intrinsic value election should be applied using a modified retrospective transition method by means of a cumulative-effect adjustment to equity as of the beginning of the period in which the guidance is adopted.

Amendments related to the presentation of employee taxes paid on the statement of cash flows when an employer withholds shares to meet the minimum statutory withholding requirement should be applied retrospectively. 

Amendments requiring recognition of excess tax benefits and tax deficiencies in the income statement and the practical expedient for estimating expected term should be applied prospectively.

An entity may elect to apply the amendments related to the presentation of excess tax benefits on the statement of cash flows using either a prospective transition method or a retrospective transition method.
 
For questions related to matters discussed above, please contact Jennifer KimmelYosef Barbut, or Adam Brown.


1 Improvements to Employee Share-Based Payment Accounting
2 Compensation—Stock Compensation
3 Partial cash-settlement or “net settlement” is a feature used in share-based awards requiring the employer to withhold shares to meet an employer’s tax-withholding requirements. 
4 Public entities have an accounting policy choice to estimate the expected terms of certain “plain vanilla” share options under Staff Accounting Bulletin (SAB) Topic 107 & 110 - application of the “simplified method”. 
5 Accounting Changes and Error Corrections
6 While the scope of ASC 718 has not been amended, paragraph BC38 of the Basis for Conclusions of the ASU clarifies that the ASC Master Glossary definition of a “public business entity” included in ASU 2013-12 is to be used for determining the effective date of the amendments.  However, the Topic 718 definitions of “public entity” and “nonpublic entity” are used to determine eligibility for the practical expedients in ASU 2016-09 (i.e., the expected term and intrinsic value elections).  

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