|
August 1, 2012
Standard Setting Update: FASB and IASB Decisions from the July 2012 Joint Meetings
On July 16-19, NAREIT attended the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) (collectively, the Boards) joint meetings in Norwalk, CT. Projects discussed that are of particular interest to NAREIT members include:
The agenda papers are available on the IASB website. NAREIT reminds its members that all decisions reached during the Board meetings are tentative and are subject to change until final standards are issued.
Leases
On July 17, the FASB and IASB concluded their redeliberations on the joint Leases Project, and directed their staffs to commence drafting the revised exposure draft. As previously reported in an SFO Alert on June 14, the Boards reaffirmed their decision that lessees should recognize lease obligations on their balance sheets. Additionally, the Boards agreed upon a revised expense and income recognition pattern on the income statement for both lessees and lessors depending on the nature of the underlying asset. Based on the Boards' tentative decisions, NAREIT believes that, for most property leases, lessors would recognize lease revenue on a straight-line basis. However, based on the alternate views discussed at the meeting and subsequent challenges by the Boards' outside technical advisory groups, it is not at all clear whether these tentative conclusions will be adopted in the final standard.
At the conclusion of the meeting, the staffs asked if any board members planned to present an alternate view to the revised exposure draft. Three out of the seven FASB members indicated that they were considering this option. Specific issues with the revised exposure draft included:
-
Whether the costs of implementing the new standard outweigh the benefits;
-
Whether the objective of the Leases project was met;
-
Whether disclosures would meet the needs of financial statement users;
-
That variable lease payments are not included in the lease liability; and
-
That the proposed lessor accounting models may not be consistent with the proposed Revenue Recognition model.
A few members of the IASB also indicated that they planned to present an alternate view to the revised exposure draft. The primary area of their concern centered on their preference for a single lease accounting model for all leases over the dual model that will be included in the revised exposure draft. Outlook
The Boards plan to issue the revised exposure draft by the end of November 2012 with a 120 day comment period. The Boards have not yet established an effective date for the revised exposure draft.
Investment Companies/Entities
On July 16, the FASB and IASB clarified the definition of an investment company/entity (see discussion below). In addition to clarifying the definition, the Boards tentatively decided that a company should have all of the following typical characteristics to be considered as an investment company/entity:
-
Multiple investments;
-
Multiple investors;
-
Investors that are not related to the parent entity or the investment manager; and
-
Ownership interests in the form of equity or partnership interests.
While these characteristics would appear to apply to almost all companies listed on stock exchanges, the FASB would exclude companies that obtain returns from other than capital appreciation or investment income from the scope of the proposed standard. Previously, the FASB concluded that fair value management of investments would also be a typical characteristic of an investment company. Meanwhile, the IASB included fair value management of investments within its definition of an investment entity.
If a company does not meet one or more of the typical characteristics, a company would not be precluded from being considered as an investment company/entity. Rather, the Boards would require companies to provide a justification for why the company should be considered an investment company/entity when one or more of the typical characteristics are not met.
As previously reported in an SFO Report on June 25, the FASB and IASB revised their respective definitions. In order to qualify as an investment company or an investment entity, a company would be required to meet a definition and also consider additional factors to determine whether it would qualify as an investment company or an investment entity. In making this determination, the Boards agreed that companies would need to consider the purpose and design of the company. At that meeting, it was unclear to some board members how the definition and factors to consider related to one another. Outlook
While the IASB concluded its redeliberations on its Investment Entities Proposal, the FASB plans to continue redeliberations during the coming months. Both Boards plan to issue final standards by the end of 2012. The Boards have not established effective dates for the proposals.
Financial Instruments: Impairment
On July 20, the Boards discussed the scope of the proposed impairment model. The Boards tentatively agreed that the impairment model under development for financial assets should also be applied to loan commitments and financial guarantee contracts that are not accounted for at fair value with changes recognized in net income. Further, the Boards agreed that the proposed impairment model should apply to all financial instruments that create a present legal obligation to extend credit. In estimating expected credit losses, the maximum contractual period over which the entity is exposed to credit risk would be considered. Additionally, the borrowers' historical behavior with respect to utilizing similar loans would be considered when creditors estimate expected lifetime losses. The Boards concluded that the final standard would explicitly state that expected credit losses of undrawn loan commitments or financial guarantee contracts would be reported separately as a liability on the balance sheet.
Outlook
The FASB plans to conduct further outreach with its constituents in August to address areas that are perceived as unclear. The IASB plans to hold an additional meeting where the comment period and decision to draft the final standard are discussed. The Boards intend to issue an exposure draft by the fourth quarter of 2012.
Financial Instruments: Classification and Measurement
On July 18, the Boards tentatively agreed on the mechanics of reclassifications of financial assets that result from a change in business model. Financial assets are classified as:
-
Assets that are reported at fair value with the changes in value reported in other comprehensive income (OCI) (FVOCI);
-
Assets that are reported at fair value with changes in value reported in profit and loss (FVPL); and
-
Assets that are reported at amortized cost.
Reclassifications of assets between these categories would be reported as follows:
-
When financial assets are reclassified from FVOCI to FVPL, the financial assets would continue to be measured at fair value and any related balances accumulated in OCI would be reclassified from OCI to the income statement on the date of reclassification;
-
When financial assets are reclassified from FVPL to FVOCI, the financial assets would continue to be measured at fair value. Subsequent changes in fair value after the reclassification date would be recognized in OCI;
-
When financial assets are reclassified from amortized cost to FVOCI, the financial assets would continue to be measured at fair value on the reclassification date. Any difference between the carrying amount and the fair value on the reclassification date would be recognized in OCI;
-
When financial assets are reclassified from FVOCI to amortized cost, the financial assets would be measured at fair value on the reclassification date. The accumulated OCI balance at the reclassification date would be derecognized through OCI, with an offsetting entry against the financial asset balance. In so doing, the financial assets would be measured at the reclassification date at amortized cost;
-
When financial assets are reclassified from FVPL to amortized cost, the fair value of the financial assets at the reclassification date would be considered the new carrying amount for amortized cost classification; and
-
When financial assets are reclassified from amortized cost to FVPL, the financial assets would be measured at fair value. To the extent that there are differences between amortized cost and fair value, companies would recognize the differences in the income statement.
The FASB tentatively converged with existing International Financial Reporting Standards (IFRS) that defines the reclassification date as the last day of the reporting period in which there is a change in business model. Outlook
The Boards plan on finalizing re-deliberations in the near term and issuing exposure drafts in the fourth quarter of 2012. While the IASB has established an effective date for periods beginning after January 1, 2015, the FASB has not established an effective date.
Revenue Recognition
Given the interaction of the proposed Leases standard with the Revenue from Contracts with Customers (Revenue Recognition) proposal, NAREIT member companies operating as equity REITs will be interested in the Boards' recent deliberations on the Revenue Recognition proposal. Currently, the Leases proposal would require companies to separate distinct non-lease components from the lease component of a lease agreement. Companies would follow the Leases proposal to account for the lease, while companies would follow the Revenue Recognition proposal to account for the non-lease components of the lease agreement. This represents a potential issue when a lease agreement contains embedded services (e.g., common area maintenance, security, landscaping, taxes and insurance). In its March 13 comment letter to the Boards, NAREIT and its partners in the Real Estate Equity Securitization Alliance (REESA) observed that the services are performed by the lessor to protect its own interests, instead of for the benefit of the lessee. The lessor performs these services in large part to maintain the quality, ongoing appeal, and value of the lessor's underlying asset. Therefore, REESA does not believe that these services should be separated from the rental revenue stream.
On July 19, the FASB and the IASB commenced their redeliberations on the joint Revenue Recognition project. The Boards reached converged tentative conclusions on identifying separate performance obligations, performance obligations that are satisfied over time, and onerous performance obligations.
Identifying Separate Performance Obligations
The Boards agreed to retain and improve the concept of a distinct good or service. Determining whether a good or service is distinct will drive the number of separate performance obligations. Companies would account for a promised good or service (or a bundle of goods or services) as separate performance obligations if:
-
The promised good or service is capable of being distinct because the customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer; and
-
The promised good or service is distinct within the context of the contract because the good or service is not highly dependent on or interrelated with other promised goods or services in the contract.
The Boards agreed upon the following indicators that would assist companies in determining whether a good or service is distinct within the context of the contract: -
The entity does not provide a significant service of integrating the good or service (or the bundle of goods or services) into the bundle of goods or services that the customer has contracted;
-
Whether or not the customer purchases the good or service does not affect the other promised goods or services in the contract;
-
The good or service does not significantly modify or customize another good or service promised in the contract;
-
The good or service is not part of a series of consecutively delivered goods or services promised in a contract that meet the following conditions:
-
The promises to transfer those goods or services to the customer are performance obligations that are satisfied over time; and
-
The entity uses the same method for measuring progress to depict the transfer of those goods or services to the customer.
Performance Obligations Satisfied over Time
The Boards agreed to provide clarifying criteria that would assist companies in determining whether a performance obligation is satisfied over time. This determination dictates whether revenue is recorded upfront or over time. The Boards agreed that a company would satisfy a performance obligation over time if:
-
The customer is receiving and consuming the benefits of the entity's performance as the entity performs;
-
The entity's performance creates or enhances an asset that the customer controls as the asset is created or enhanced; or
-
The entity's performance does not create an asset with an alternative use to the entity and the entity has a right to payment for performance completed to date and it expects to fulfill the contract as promised.
The Boards elaborated that the "alternative use" assessment would be made at the inception of the contract and would consider whether the entity would have the ability throughout the production process to readily redirect the partially completed asset to another customer. Additionally, the Boards clarified that the "right to payment" should be legally enforceable. In analyzing the enforceability of the right, the company would need to consider the terms of the agreement as well as the potential that the terms of the agreement could be overturned legally.
Onerous Performance Obligations
The Boards agreed to exclude accounting for onerous performance obligations from the scope of the Revenue Recognition proposal. The Boards opted to retain current guidance in U.S. GAAP and IFRS for these transactions.
Outlook
The Boards plan on finalizing re-deliberations in 2012, and issuing a final standard in the first half of 2013. The Boards have not determined the effective date of the proposed revenue recognition standard. However, the Boards have stated in public meetings that the effective date would be no sooner than annual periods beginning on or after January 1, 2015.
|
