Your Next Activist Shareholder May Not Want More Money

Shareholders are driving changes in corporate policies and disclosures unthinkable a decade ago, on issues ranging from protecting rain forests to human rights. Even the threat of a proxy vote can be enough to bring company executives to the negotiating table.

So far this year, environmental and social issues have accounted for 56% of shareholder proposals, representing a majority for the first time, according to accounting firm Ernst & Young LLP. That is up from about 40% in the previous two years, and means shareholders are increasingly voting on things like greenhouse-gas emissions, political spending and labor rights.

While such proposals usually don’t grab the same headlines as changes sought by activist investors, their proponents often are effective at persuading companies to meet them halfway.

The proposals are “really meant to get the attention of the corporate leadership,” said Thomas DiNapoli, the New York comptroller who oversees the $160.7 billion New York State Common Retirement Fund. “Profitability that is at a sustainable and responsible level is very, very important to us.”

Mr. DiNapoli filed about 65 resolutions this past year, and he often succeeds in getting companies to agree to his requests before they come to a vote.

Last week, he persuaded grocer Safeway Inc. to make products with palm oil produced in ways that don’t hurt rain forests. In February, in response to proposals from Mr. DiNapoli and others, AT&T Inc. published its first “transparency report” on requests from the National Security Agency and law-enforcement agencies for customer data and phone records.

In both cases, he withdrew his proposal after the companies agreed to make changes.

Resolutions calling on companies to report their political spending and lobbying efforts are the top two shareholder proposals this year, according to EY’s review of some 700 proposals. By contrast, last year’s proposals were dominated by traditional corporate-governance topics, such as eliminating staggered terms for directors and appointing independent board chairmen.

More surprising still are the results. Nearly 80% of companies in the S&P 500 index now disclose at least some information about their political-spending policies, according to the Center for Political Accountability, a practice virtually unheard of a decade ago. Some 53% now publish sustainability reports, according to the Governance and Accountability Institute, addressing such matters as their energy efficiency and labor standards.

And, about 22% have human-rights policies, according to the Conference Board, a private research group.

Among the reasons for this year’s surge in social and environmental proposals is the strong stock market, which has left shareholders little room for complaints about performance.

“You’re not seeing the same sort of push-back on executive compensation this year,” said Wendy Hambleton, national director of the Securities and Exchange Commission practice at accounting firm BDO USA LLP.

The shareholders who push for these proposals aren’t agitating for higher returns like activists Dan Loeb and Carl Icahn but rather are long-term investors at pension funds, unions and coalitions of socially conscious shareholders.

For example, the American Federation of State, County and Municipal Employees, a labor union for public employees, has been pressuring dozens of companies to disclose their lobbying activity this year. Ceres, a nonprofit group that advocates sustainable business practices, is helping investors at many companies write environmental resolutions.

As investors win battles at some companies, they hope peer pressure will convince others to follow suit.

On Monday, Exxon Mobil Corp. issued its first carbon risk report, explaining whether changing emissions regulations might move it to abandon high-cost oil and gas reserves. Sustainability-focused investment firm Arjuna Capital had submitted a shareholder resolution seeking that information.

Exxon said it was “confident” that none of its hydrocarbon reserves would become “stranded.”

“This is helping set the standard for what companies should be disclosing,” said Danielle Fugere, president of As You Sow, a nonprofit group that worked with Arjuna on the resolution. The group is circulating the agreement as an example for other oil companies where it has similar proposals pending, including Consol Energy Inc.,  Hess Corp., Chevron Corp. and Anadarko Petroleum Corp.

Of course, environmental and social resolutions generally aren’t binding and many never make it to a vote. Companies often can exclude them on technicalities, and about 30% are withdrawn after their backers negotiate or reach deals with companies.

Typically, the environmental and social proposals that make it onto the ballot receive about 21% of shareholder votes, compared with 33% for shareholder proposals overall, according to EY.

But even failures can have an impact, especially if investors target an issue that resonates with a company’s customers. Activists often cite a 1999 vote to halt sales of wood from old-growth forests at Home Depot Inc. Around 12% of the home-improvement chain’s shareholders supported the proposal, but the retailer stopped selling that lumber.

A handful of these resolutions have garnered a majority of votes. Last year, at fertilizer maker CF Industries Inc., shareholder proposals calling on the company to disclose political contributions and publish a sustainability report each received more than 65% support.

CF Industries initially objected, saying the reports would be costly to produce and “an imprudent consumption of our resources.” But it began producing them after the shareholder votes.

CF spokesman Daniel Swenson said the engagement with shareholders has “resulted in valuable feedback” and contributed to the company’s decision making. He wouldn’t say how much the reports cost to produce.

Shareholder proposals on these issues are expected to gather steam as more companies agree to disclosures. Boston-based Walden Asset Management has submitted several political-spending disclosure proposals to companies this year on behalf of clients. According to Timothy Smith, a director at Walden:

“We’re getting to the point where companies are not just listening to a squeaky shareholder, but doing this because they believe it is a good thing to do for the company,” 

By Emily Chasan at the Wall Street Journal 

Experts Say Use Non-GAAP Measures Carefully

Normalized adjusted EBITDA less capex. Adjusted consolidated segment operating income. Adjusted EBITDA (as adjusted). Even enthusiasts of non-GAAP metrics have to admit that such measures often sound just a wee bit ridiculous.

Non-GAAP metrics, those not addressed in U.S. generally accepted accounting principles, are as controversial as ever. A small number of such measures, like EBITDA and free cash flow, have gained widespread acceptance in the investor community. But regulators often give companies flak for the way they use non-GAAP measures in public filings, press releases and other communications consumed by investors and analysts.

Groupon, the perpetrator of “adjusted consolidated segment operating income” (ASCOI), took heat from the Securities & Exchange Commission in 2012 because the metric excluded online marketing expenses, a critical part of the firm’s business model, from company performance. Groupon eventually dropped the metric from its initial public offering filing, but it absorbed further criticism for its post-IPO use of other non-GAAP measures.

Black Box, a telecommunications company, got some bad press in January 2013, when it included the metric “adjusted EBITDA (as adjusted)” in its quarterly earnings release. The metric subtracted from net income ordinary expenses such as a $2.7 million loss on a joint venture, creating EBITDA (as adjusted), then further excluded stock-based compensation expenses to create the final, rather silly-sounding redundancy. Black Box said the measure demonstrated its ability to service its debt. Others thought it made the company look like well, a black box.

A common opinion is simply that non-GAAP metrics are misleading to shareholders. “They may be perfectly understandable to accountants who know what that company is doing but confusing to others,” says Michele Amato, partner at accounting firm Friedman LLP. Indeed, the SEC has long subjected companies that use non-GAAP metrics to heightened scrutiny, and the chairman of the commission’s new accounting-fraud task force has vowed to keep up the pressure.

But companies that use these black-sheep metrics argue that they often depict financial performance more accurately than GAAP measures and afford investors a window to how management sees things.

Public companies are allowed to disclose non-GAAP metrics in their SEC filings, press releases and earnings calls, subject to certain rules. Under Regulation G, mandated by the Sarbanes-Oxley Act, use of a non-GAAP financial measure must be accompanied by the most directly comparable GAAP measure and a reconciliation of the two metrics.

Everything in Moderation

For her part, Amato says there’s a place for non-GAAP metrics:

 “A very significant variance between GAAP and non-GAAP metrics that management uses as a baseline for internal financial analysis might be of some use,” 

There is nothing wrong with using a non-GAAP metric to provide an additional perspective about something very germane to the company’s performance, like its valuation, credit standing or working-capital management, that can’t be communicated well through GAAP metrics alone, says Robert Rostan, CFO and principal at financial training firm Training the Street.

Original article by Marielle Segarra ad CFO.com

Is the Smartest MD&A the One With the Most Jargon?

“Plain English Works” in MD&A Statements

Those who prepare MDAs don’t have to prove how smart they are by using financial jargon, suggests the SEC’s ex-corporate finance director.

Excessive financial jargon in documents filed with the Securities and Exchange Commission often clouds intended messages, said speakers at an American Institute of Certified Public Accountants conference this week.

The sentiment particularly applies to the Management’s Discussion and Analysis (MD&A) section of quarterly and annual reports and other registration statements, where companies generally discuss their business, uncertainties, and market trends.

“Everyone likes to prove they’re the smartest person in the room because they understand the jargon,” said Brian Lane, partner in the Washington, D.C., office of Gibson Dunn & Crutcher and former SEC director of the division of corporate finance. “Plain English works.”

The best MD&As have “more tables and less jargon,” Lane opined. Tables, he noted, are easier to understand than mounds of text. In the text, companies often include too many comparisons going back several years, which is often unnecessary and even confusing, he said. It’s better to show simple comparisons between this year and last year in both the text and tables, and include information on other years just in tables.

Making sure MD&As are as readable and informative as possible may ward off or lessen the impact of SEC inquiries, Lane added. One key to doing that: in all areas of focus within the section, answer the question “why?” he said.

Actually, having more tables in financial reports is a widening theme. The Financial Accounting Standards Board made a push in that direction this past summer, requesting comments on a proposal calling for nonfinancial companies to disclose expected cash-flow obligations in a table segregated by time of expected maturity.

For one, Katherine Gill-Charest, controller and chief accounting officer at Viacom, should be prepared if the proposal is approved. She already is including more than the usual amount of detailed information in the company’s MD&A statements. To facilitate that, she holds “working meetings” with members of Viacom’s disclosure committee a couple of times a year, instead of having just one formal meeting at reporting time to head off any questions that might arise from the SEC. She also meets with the CFOs of Viacom’s divisions to be aware of pertinent issues in preparing MD&As.

For example, the SEC repeatedly has asked for information on how Viacom plans to fund its $10 billion share-repurchase program. Other questions come when an SEC official hears of a trend during an earnings call that is not included in the MD&A.

Lane supported that use of a firm’s disclosure committee. A good item to discuss with that committee, for example, is “cash runway,” a measure of how long a company’s cash on hand will last, he said. A hoard of $300 million in cash is not actually that much if the company is burning through it at $90 million a quarter.
Knowing what questions the SEC may have raised with competitors is important, too.

 “If I know a peer of mine has gotten reviewed, we will always take a look at the SEC’s comments,” said Gill-Charest, noting that she treats any correspondence between a competitor and the SEC as if it were her own document.

That made sense to Lane:

“You do need to see what competitors and peers are disclosing, because the SEC is going to look at you in that same lens,” he said.

One area where some companies could ease up is their heavy use of forward-looking disclosure statements.

“Projections are not required in [the] MD&A,” said Lane. “You [just] have to talk about known uncertainties and how they could impact the future.”

By Kathy Hoffelder  at CFO.com

11 Issues to be Aware of for Your Next Shareholder Meeting

U.S. public companies are operating in an environment full of both risk and opportunity as they prepare for their annual shareholder meetings.

Cyberthreats, disaster planning, and political and economic unrest are among many factors that make the current climate hazardous for many companies.

Although high values in the stock market indicate an environment that has improved significantly—if slowly—since the lowest depths of the global financial crisis, recent dips in the market indicate that volatility still exists.

Shareholders are likely to be focused on both the risks and the opportunities in upcoming shareholder meetings, according to Wendy Hambleton, CPA, a partner in the corporate governance practice who also heads up the SEC practice at BDO.

“There is still that overriding sense of still coming out of that economic downturn, whatever you want to call the period from 2007 to 2009,” Hambleton said. “I think people are cautious, so they want companies to be cautious and prudent with their funds. I don’t think people are pushing as much for huge growth as they are for measured growth and maybe a little more secure growth.”

Against this backdrop of risks and a desire for secure growth, BDO has compiled a list of issues in a news release that corporate management and boards of directors should be prepared to discuss with shareholders in connection with annual meetings this spring:

- M&A opportunities and takeover defenses. Is management seeking M&A opportunities? Are potential targets properly vetted to prevent buyer’s remorse? And are boards poised to fend off unwanted takeovers and maximize shareholder value if a transaction is accepted?

“We are seeing more M&A activity,” Hambleton said. “A lot of companies have some cash on hand, but I think everyone wants to be cautious to make sure plenty of due diligence is done, that it’s the right transaction, that it makes sense, no one is rushing into deals”

- Spinoff advocacy. Management and the board need to be prepared to respond to well-funded, activist shareholders who have the potential to try to break up companies, according to BDO. This can be a costly exercise, Hambleton said.

“If you’ve got activist shareholders making suggestions and urging the company to take certain actions, that takes a lot of time and in some cases dollars that the company might have wanted to use in an alternative way,” she said.

- Global economic concerns. Investors are concerned about how the crisis in Ukraine and slowing growth in China, Brazil, Japan, and other markets will affect the global economic recovery, according to the news release. Shareholders may ask about how prepared the company is to deal with a serious economic collapse in a certain country or region.

The crisis in Ukraine demonstrates that problems can occur in unexpected places, Hambleton said. And emerging markets pose different political and economic concerns than more mature markets such as the United States, Canada, and Western Europe, according to Hambleton.

“That’s not a reason not to go into those markets,” she said. “It’s just a reason to go in from a measured perspective. And from a shareholder perspective, that’s what people want to see is a measured perspective, that people are thinking about the risks, thinking about the concerns, and then taking a measured response to that.”

- Cybersecurity. Headlines about numerous high-profile breaches are certain to have shareholders’ attention, and companies should be prepared to explain their approach and their defenses. Hambleton notes:

“Companies need to be able to explain to shareholders—without getting into the minutiae of the details and what they do—how they monitor, what kind of controls they have in place,”  

“Have they looked at refreshing their risk management approaches in this area? How often do they do certain types of monitoring activities?”

- Executive compensation. Performance-focused compensation models at public companies have gained favor in the wake of new avenues for shareholder feedback, according to the news release.

Since regulations do not require disclosure of the relationship between pay and company performance, it appears that an emerging consensus is that disclosures should report how the company’s total shareholder returns relate to the CEO’s realizable pay, BDO said. Shareholders will ask more questions when the executives are compensated handsomely while the company struggles, Hambleton said.

- Succession planning. An improving economy may create more opportunities for executives to change jobs. This could cause shareholders to ask whether the board has a succession plan and has identified candidates for CEO and other key positions. Surveys have shown that board members are interested in this issue, Hambleton said.

“If it’s something board members would want to spend time on, you’d think it’s something shareholders care about, too,” she said.

- Accessing public equity markets. In 2013, total U.S. initial public offerings and proceeds raised reached their highest levels since 2000, according to BDO. This may lead shareholders to wonder whether management is considering new securities offerings.

“Certainly, a good IPO market is an opportunity for companies that may be looking at spinning off either their noncore businesses or businesses that maybe would perform better in a separate company rather than as part of the overall conglomeration,” Hambleton said.

- Disaster planning. Events such as Hurricane Sandy in the United States and Typhoon Haiyan in the Philippines have caused tragic losses of human life and disrupted supply chains and operations. Shareholders may want to know if businesses have backup plans that will minimize the effects of such events.

For example, Hurricane Sandy showed that backup servers located far apart on the same coast may be vulnerable to the same storm.

“No one probably envisioned a storm that would start where it did and go all the way and cause so many blackouts that we need to have [servers] on opposite coasts or in the middle of the country or something like that,” Hambleton said.

- New COSO framework. Shareholders may want to know if a company has updated its system of internal control to reflect the guidance in the updated 2013 framework of the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

“I wouldn’t expect there to be significant changes to companies’ assessments,” Hambleton said. “But the new framework does have more particular guidance built into it, so I think some of the controls and the mapping will need to change. There will be some work to do. Hopefully, some enhancement of controls will come out of it.”

- Conflict minerals. New SEC rules require public companies to report to the SEC whether their products contain certain minerals produced in mines in the Democratic Republic of Congo. In some cases, those mines are run by warlords who oppress residents of the region. Although some companies may be behind in gathering information needed to report on these minerals by the May 31 deadline for the 2013 calendar year, Hambleton said shareholders will have a wider perspective.

“They’re going to want to know if [the company is] going to have to report that they use conflict minerals,” she said. “And that gets into the whole question of sustainability and corporate social responsibility with companies.”

- Auditor tenure. Mandatory audit firm rotation no longer is part of the PCAOB’s agenda afterlegislative pushback on the issue, but BDO said management and audit committees should be prepared for shareholders to ask about the length of their auditor’s tenure and their process for hiring their auditors.

“If you’re an audit committee member, you will have heard the discussion, and you need to be prepared to answer the question, what consideration did they give,” Hambleton said. “Not that they should be making a change, but what consideration did they give to it?”

By Ken Tysiac Journal of Accountancy.

 

Can Companies Smooth-Talk Investors?

Investors Prove Wise at Judging Self-Serving Earnings Explanations

Investors have proven to be sophisticated enough to dismiss implausible explanations from companies of their quarterly earnings results, according to a new study.

For example, a utility company might attribute their lower earnings to “warm weather and higher propane products costs,” while an insurance company might explain a good quarter by touting its “continued efforts on cost containment and operational efficiencies.” Self-serving attributions such as these, which typically blame outside factors for negative developments and claim that their own internal initiatives led to positive results, are a traditional part of corporate earnings reports and press releases. But that doesn’t mean investors generally believe them.

According to a new study in The Accounting Review, a journal of the American Accounting Association, market response to self-serving attributions depends in large part on two key tests of plausibility—how badly the company’s industry peers are doing and what the study calls “commonality,” the extent to which market or industry forces drive a company’s earnings.

The difference proved to be dramatic when those two key tests were applied to the 94 companies in the study, which was conducted by Michael D. Kimbrough of the University of Maryland and Isabel Yanyan Wang of Michigan State University. Firms with average positive earnings surprises who made the highest-plausibility attributions had three-day above-market returns of 4.77 percent on average, whereas those that offered the lowest-plausibility reasons actually averaged a slight decline of 0.79 percent. Meanwhile, among firms with average negative surprises, those with the lowest-plausibility attributions sustained average declines of 5.11 percent, while those with the highest-probability excuses had declines of only 1.42 percent.

“Firms which provide defensive attributions to explain earnings disappointments experience less severe market penalties when 1) more of the their industry peers also release bad news, and 2) their earnings share higher commonality with industry- and market-level earnings,” said the paper. “On the other hand, firms that provide enhancing attributions to explain good earnings news reap greater market rewards when 1) more of their industry peers release bad news, and 2) their earnings shares lower commonality with industry- and market-level earnings.”

 “Collectively, our results suggest that investors neither completely ignore seemingly self-serving attributions nor accept them at face value, but use industry- and firm-specific information to assess their plausibility,” the professors added. “Further analyses reveal that investors’ use of industry peer performance and earnings commonality information appears justified because investors’ perceptions are consistent with the association between the plausibility measures and the ex post actual persistence of earnings surprises.”

In sum, “investors are somewhat sophisticated when interpreting these narrative disclosures,” Kimbrough and Wang wrote:

“Our findings ought to be of value to both investors and corporate leaders,” said Wang in a statement. “Hopefully it will disabuse those executives who are counting on the naiveté of investors to let them get away with empty words or phony excuses in their public communications. For investors, it provides standards they will need to meet to keep up with the investment community at large.”

“The tools needed to apply those standards are certainly available to institutional investors, even though determining commonality is probably beyond the reach of individual stock-pickers,” said Kimbrough. “Still, even they should have the means to stack up the claims of a given company against its industry peers, which can go a long way in assessing the plausibility of the firm's performance narrative.”

The study's findings are based on an analysis of press releases and earnings reports of 94 randomly chosen firms, a roughly equal mix of small, medium and large, over a seven-year period. Sufficient data was obtained for a total of 1,790 firm quarters, 1,023 of which featured self-serving attributions and 767 of which did not. The self-serving classification was assigned to quarters when companies attributed their success in meeting or beating consensus forecasts to internal factors, such as management strategies or introduction of new products, or blamed a negative earnings surprise on external factors, such as bad weather or rising costs or regulatory actions. Firm-years in the self-serving category featured at least one such attribution and an average of three to four in a given earnings press release.

The authors found a significant relationship between the plausibility of self-serving attributions, as determined by industry performance and commonality, and the market-adjusted cumulative return of firms' stocks in the three days centered on earnings announcements. In reaching that conclusion, they controlled for an array of factors likely to affect the market’s response to earnings announcements, including the size of companies, the volatility of their stock, and their book-to-market ratio.

What kind of companies are likely to issue suspect attributions? Preliminary evidence suggests, in the words of the study, “Firms which provide less plausible attributions are larger and have higher likelihood of insider trading around earnings announcements, higher analyst following, higher institutional ownership, higher return volatility, and lower book-to-market ratio. These findings imply that managers with insider trading incentives and those facing greater capital market scrutiny are more likely to offer seemingly self-serving attributions even if they lack plausibility, consistent with the ‘opportunistic behavior’ view of capital markets.”

This view, according to the paper, finds “that capital-market scrutiny combined with the linking of manager compensation with stock prices creates pressure for managers to prop up prices by biasing financial reporting. To the extent capital-market pressure is greater for firms with higher analyst following and/or institutional ownership, the ‘opportunistic behavior’ argument suggests that greater analyst following and/or institutional ownership may increase managers’ tendency to provide implausible attributions to either mitigate market reactions to negative earnings surprises or to increase market rewards to positive surprises.”

Still, given the hazards of implausible attributions, as revealed by the new study, why would managers make them? It’s a matter of what they believe, Wang and Kimbrough wrote. “If managers believe there is a chance that investors might be persuaded by their implausible seemingly self-serving attributions, they are more likely to offer them even if ex post it turns out that investors can see through them.”

This article is by Michael Cohn in Accounting Today. The study, “Are Seemingly Self-Serving Attributions in Earnings Press Releases Plausible? Empirical Evidence,” appears in the March/April issue of The Accounting Review, published six times a year by the American Accounting Association.

2012 AICPA National Conference on Current SEC and PCAOB Developments

The AICPA Conference summaries are always a source of information that will keep companies out of trouble in financial reporting.

Following is Ernst & Young's brief summary of their longer documnet.

 

Representatives of the SEC, the Public Company Accounting Oversight Board (PCAOB), the FASB and the IASB shared their views on various accounting, auditing, and reporting issues at the three-day AICPA National Conference on Current SEC and PCAOB Developments (Conference) in December 2012 in Washington D.C.

 

Highlights of their comments included: 

• The SEC is continuing to evaluate whether further analysis relative to whether and, if so, when and how to incorporate IFRS into the US financial reporting system is necessary. SEC officials advised stakeholders to “stay tuned.” Various SEC and FASB speakers discussed the importance of the US setting its own accounting standards while continuing to work with the IASB to improve comparability and narrow differences in the standards.
• Various speakers commended the outreach performed by the FASB and IASB and their progress on the convergence projects. Several speakers focused on the need for coordination when developing implementation guidance (e.g., on revenue recognition). Speakers from the FASB stressed the need for timely interpretive guidance to help during implementation and post-implementation.
• SEC and PCAOB officials stressed the importance of audit quality to the capital markets and the relevance of inspection findings, particularly findings pertaining to internal control over financial reporting (ICFR). Some inspection findings could have implications for preparers in their own evaluations of ICFR. PCAOB officials also said they are considering feedback on mandatory audit firm rotation while taking other steps to improve auditor independence, objectivity and professional skepticism.
• The SEC staff discussed year-end financial statement considerations and the staff’s areas of focus in its reviews of filings, including revenue recognition disclosures, the valuation of deferred tax assets and observations related to the new fair value disclosures.
• Various panelists commented on the need to evaluate disclosure requirements, particularly the dividing line between the footnotes to the financial statements and the rest of the financial reporting package (e.g., MD&A). SEC Acting Chief Accountant Paul Beswick said he plans to host a roundtable in 2013 to better understand these concerns.

EY's publication, 2012 AICPA National Conference on Current SEC and PCAOB Developments, discusses the Conference in detail.

Disclosure Overload: FASB Project Comments

A lot of recent commentary exists on the subject of disclosure overload.

 

Recently the FASB has begun to focus on this topic. "Streamlining Disclosures" has become subject of various initiatives, including a recent round-table discussions this conducted by FASB and the Center for Audit Quality.

 

FASB has also initiated a Disclosure Framework project "to improve the effectiveness of disclosures in notes to financial statements by clearly communicating the information that is most important to users of each entity’s financial statements. Although reducing the volume of notes to financial statements is not the primary focus, the Board hopes that a sharper focus on important information will result in reduced volume in most cases."

 

"Boilerplate" and non-material disclosure have been said to be "noise" that obscures the real information that readers of financial information really need.

 

FASB published an Invitation to Comment (ITC) on this topic last July 12. They asked stakeholders to comment on whether and how disclosures in the footnotes to financial statements can be made more effective. The comment period ended Nov. 16.

Some of the questions:

• Do the decision questions in this chapter and the related indicated disclosures encompass all of the information appropriate for notes to financial statements that is necessary to assess entities’ prospects for future cash flows?
• Do any of the decision questions or the related indicated disclosures identify information that is not appropriate for notes to financial statements or not necessary to assess entities’ prospects for future cash flows?

Commentors said unnecessary disclosures can prevent users from finding the information they need, obscure the real information and waste prepares' time, money, and create undesirable environmental outcomes, i.e. too much paper.  

The FASB received 83 comment letters. Some comments: 

 

• Issuers should only provide relevant disclosures
• Disclosures should have a narrower focus that "could be useful to investors"
• Concern over the risk of litigation or regulatory action because preparers omit information previously provided. 
• Avoid using the term "relevance" 
• Watch the SEC's requirements, i.e. no point to reducing GAAP disclosures if the SEC imposes more specific requirements
• "The uses of boiler plate disclosures and reliance on checklists have inundated both the public and private sector as the volume and complexity of reporting requirements have increased significantly over the years. We believe having the flexibility to apply professional judgment will substantially reduce unnecessary disclosures."
• "We believe that preparers' judgment should instead be focused on what is material to the company based on a set of flexible disclosure requirements. Enabling flexibility, based upon materiality, would result in the right balance of providing relevant information while maintaining comparability."


• "Disclosure overload and complexity are the two aspects of financial reporting that financial statement users and preparers, large or small, agree on: There is too much of both."

This will be interesting to watch over the next few years. Don't expect a quick reduction in disclosures for this year's 10-Ks!

 

 

Significant vs Material

Often the terms “significant” and “material” are used interchangeably. This can course a lot of confusion. The SEC once took a company to task asking why they used this explanation of a contingency:

“You disclose...that you do not expect the ultimate conclusion of any of the proceedings to which you are a party to have a “significant adverse effect” on your financial statements and you have not disclosed the contingent liabilities associated with these claims either because they cannot be “reasonably” estimated or because such disclosure could be prejudicial to the conduct of the claims. Please revise your future filings...to more clearly confirm that you believe the ultimate conclusion of any of the proceedings to which you are a party will not have a “material” adverse effect to your results of operations, cash flows, or financial position.


Why the distinction between "material" and "significant"? To help with understanding the difference between "significnant" and "material" , the following comes from a paper on the IASB 2008 Annual Improvements Process, Comment Letter Analysis:

Significant vs Material

As mentioned above...some respondents asked for further clarification of the Board’s intentions in changing material to significant.

According to paragraph 30 of the Framework:

“Information is material if its omission or misstatement could influence the economic decisions of users taken on the basis of the financial statements. Materiality depends on the size of the item or error judged in the particular circumstances of its omission or misstatement. Thus, materiality provides a threshold or cut-off point rather than being a primary qualitative characteristic which information must have if it is to be useful.”

“Significant, on the other hand, is not a defined term in IFRSs but is used throughout IFRSs to denote the degree of importance or relevance, eg significant costs (IAS 16) significant increase in turnover rates (IAS 19), significant period of time (IFRS 2).”

“Some respondents questioned whether it is possible to have a material change in the number of employees that is not significant. The staff notes that it is not meaningful to say there is a ‘material’ change in the number of employees in IAS 19 since the standard does not require that number to be disclosed in the financial statements.”

Clear as mud?

A U.S. Viewpoint on Lease Accounting

Following is a summary of a comment letter submitted on lease acconting, as previously published in the Journal of Accountancy.

The AICPA’s Financial Reporting Executive Committee (FinREC) commented on FASB’s Proposed Accounting Standards Update, Leases. The exposure draft was developed jointly with the International Accounting Standards Board (IASB). FinREC said it supports the boards’ overall objective to develop a single approach to lease accounting and to require assets and liabilities arising under leases to be recognized in lessees’ statements of financial position. However, FinREC believes there are fundamental application issues not addressed by the ED, and revisions that need to be made to various aspects of the boards’ proposal, including those related to the right-of-use approach to lessee accounting.

The FASB proposal would result in a single “right-of-use” approach applied consistently to lease accounting for lessees and lessors. Among other changes, the approach would result in the liability for payments under all lease contracts within the scope of the standard and the right to use the underlying asset being included on the lessee’s balance sheet. The standard setters say the changes would improve the information available to investors and other financial statement users about the economics surrounding lease contracts.

Unlike FASB’s discussion paper, Leases: Preliminary Views, published in March 2009, which focused primarily on lessee accounting, the ED, Leases, would result in changes on both sides of a lease transaction. A lessor would apply either a performance obligation approach or a derecognition approach. “The majority of FinREC members do not support the boards’ hybrid (lease classification) approach to lessor accounting—instead they support the derecognition approach as the single lessor accounting model,” FinREC said in its comment letter.

The proposal includes simplified accounting for short-term leases—leases having a maximum term of 12 months or less. The simplified accounting would allow lessees to ignore the effects of interest on the recorded assets and liabilities and allow the lessee to record the liability for lease payments at the undiscounted amount for lease payments. The simplified accounting would allow the lessor not to recognize assets or liabilities arising from a short-term lease, nor derecognize any portion of the underlying asset.

In its comment letter, FinREC said, “We do not support the boards’ approach to accounting for lease renewal options and contingent rents. We believe that the lease term should be defined as the lessee’s (lessor’s) best estimate of the lease term. We believe contingent rents and expected payments under residual value guarantees should be included in the measurement of assets and liabilities based on management’s best estimate of payments to be made (received) under the lease.”

Seven Accounting Changes That Will Affect Your 2010 Annual Report

The following is by Jim Brendel and was originally published in SmartPros.

There are a number of new rules that will have accounting and reporting implications for 2010 year end annual reports. They vary from changing the timing of financial results to adding to overall reporting expense.

Two new Financial Accounting Standards Board updates will have major impacts on accounting for sales contracts that contain multiple deliverables. What’s a multiple deliverable? Say your company sells dishwashers and also provides the installation. Under the old rules, you had to demonstrate objective evidence of “fair value” for each undelivered item in order to recognize revenue for the delivered item. If you could not establish the fair value of the installation, revenue recognition for the dishwasher could be delayed, even though the customer had paid for it.

Under the new revenue recognition rule – ASU 2009-13 – companies don’t need the “objective” proof of each service or good, they can estimate the selling price of the installation and warranty. So in our example, the vendor - say it’s Sears or Appliance Factory - can recognize the revenue of the dishwasher – alone - at the point of sale without waiting a few weeks for the installation guys to do their thing. Then they can recognize the estimated value of the installation after it is complete.

The second major revenue recognition change for 2010 reporting , ASU 2009-14, covers software enabled devices. This has also been referred to as the iPhone rule because of the large effect that it has on Apple Computers’ revenues. Although the iPhone is a piece of hardware, it depends on embedded software for its intended use. Under the old rules, this embedded software caused iPhone sales to be governed by the software revenue recognition rules, which are much more stringent than the rules related to other goods and services. As a result, Apple had to recognize all of the revenue from the sale of an iPhone over two years because it provides software updates over that period. ASU 2009-14 says that the software revenue recognition rules no longer apply to these types of software enabled devices, so they are now governed by ASU 2009-13, like other goods and services. The result of the change? Apple reported a record quarter when it elected to adopt this rule early for its first fiscal quarter 2010. Both of these new standards are effective for fiscal years beginning after June 15, 2010, but can be adopted earlier.

Five Other Changes for 2010 Reporting

Fair value disclosures. Companies will be required to provide additional disclosures about items measured at fair value in the financial statements for their 2010 financial statements. In particular, significant transfers in and out of Level 1 (quoted market price) and Level 2 (valuation based on observable markets) must be disclosed separately, along with the reasons for the changes.

Fair value items classified as Level 3 (valuations based on internal information) will require additional disclosure of purchases and sales during the year. The FASB recently decided not to exempt private companies from these requirements. Investors have said that these new disclosures will give them better insight into the quality of reported earnings, but companies can expect to spend additional time gathering and summarizing all of this information.

Consolidation of variable interest entities. Several changes to the consolidation rules for variable interest entities, also known as special purpose entities, came into effect in 2010. The new rules require a qualitative, rather than a quantitative, analysis to determine the primary beneficiary of a variable interest entity, such as a corporation formed to hold real estate and lease it to an operating company. The primary beneficiary is the company that has the power to direct the activities and obligation to absorb the losses of the variable interest entity, which it will consolidate even though it may own less than a majority of the voting interests.

XBRL. eXtensible Business Reporting Language is a data-tagging technology that standardizes the way that financial statement items are identified, and has been frequently referred to as the next generation of EDGAR. The SEC has required the largest public companies (over $5 billion in market cap) to file financial statements with XBRL tagging since June 2009.

In June 2010, the remaining large public companies (over $700 million in market cap) were first required to provide XBRL tagging in their financial statements. Starting in June 2011, all of the remaining U.S. public companies must file financial information using XBRL.

Companies will likely require outside assistance to match their accounting records with the standard XBRL classifications, and should consider an early start on this project. It can easily cost a small public company from $30,000 to $50,000 to implement.

Non-GAAP financial disclosures. Recent SEC staff interpretations allow more latitude for companies who provide non-GAAP financial disclosures, such as EBITDA, in SEC filings, as well as additional guidance in making those disclosures. These interpretations reduced the constraints on the exclusion of recurring items from the non-GAAP measure, and let companies know that management does not have to use the measure in operating the business in order to disclose it. The new interpretations can be found here. The effect of this change is mainly to provide more flexibility to companies in how they report non-GAAP measures of performance and won’t necessarily add or subtract from earnings statements.

Loss contingencies disclosures. A FASB proposal that would require more disclosures about loss contingencies, such as litigation, has been sent back for more deliberation after concerns were raised that the level of disclosure would put public companies at a disadvantage in the courtroom. However, the SEC is questioning whether companies are adequately complying with the current rule, which requires disclosure of an estimate of the possible loss or range of loss. The SEC believes that in too many cases, no disclosure is made until the case is settled because companies assert that they are not able to make accurate estimates of the potential loss. Companies should expect additional scrutiny of their disclosures in 2010 annual reports.

Developments to Watch in 2011

Short-term borrowing disclosures. In response to concerns about companies window-dressing their balance sheets by paying down lines of credit before year- end, the SEC has proposed rules that would require additional disclosures, such as fluctuating borrowing during the year and a qualitative discussion of the business reasons for the debt. These rules are expected to be finalized in the first quarter of 2011. However, the SEC has reminded companies that they expect to see a thorough discussion of liquidity and capital resources in the management’s discussion and analysis under the existing requirements.

Dodd-Frank Act. The Dodd-Frank Act is considered to be the most extensive overhaul of the U.S. financial system since the 1930s and will require the SEC to write over 100 rules and conduct numerous studies. You can follow the progress of these rules on the SEC's website.

Of particular interest to public companies are the requirements for companies to establish policies to claw back incentive compensation paid to executives in the event of a financial statement restatement and to provide disclosures regarding the ratio of CEO compensation to median employee compensation.

Convergence. While the SEC continues its consideration of whether to adopt international accounting standards (IFRS), the FASB and its international counterpart, the IASB, have their own work plan to complete 11 major projects in 2011 to converge US GAAP and IFRS. Although the effective dates of these standards have not been determined, this level of standard setting activity in such a short time is unprecedented. The two projects that are getting most of the attention are a proposal to replace all industry-specific revenue recognition guidance with one comprehensive standard, and a proposal that would require all lease obligations to be recorded on the balance sheet.

Best of 2010: Accounting

After creating an ambitious agenda for the year, the standard-setters had to play hurry up and wait.

Article by Marie Leone and David M. Katz, CFO.com US

In the realm of accounting, no one moved more rapidly this year than the Financial Accounting Standards Board and the International Accounting Standards Board. The two standard-setting bodies set forth an aggressive agenda that called for a dozen or so new rules to be issued by 2011.

Their aim was to complete their now eight-year-old convergence project and emerge with a single set of global accounting standards. But the effort was ambushed by reality — the global financial crisis and subsequent global recession; heated debates over controversial rulemaking decisions; the early retirement of FASB chairman Robert Herz; and the announced departure of IASB chairman Sir David Tweedie, slated for June 2011. (On December 23, the trustees of the Financial Accounting Foundation announced that Leslie F. Seidman, acting FASB chairman since Herz's retirement, had been named chairman of FASB, effectively immediately.)

Accordingly, the rulemakers slowed down the convergence process in the latter part of 2010, vowing to issue only four newly melded standards at any one time. Still, they hope to finish a number of convergence projects by the end of 2011. That will be a prickly task, since those projects have shaken some fundamental tenets of business. They will, for instance, eliminate the concept of operating leases, rework revenue-recognition rules, do away with last-in-first-out inventory accounting, and expand the reach of fair-value accounting.

Meanwhile, the process of adopting private-company accounting standards ("little GAAP") in the United States began in 2010, and could eventually become the purview of a second standard-setting board. The debate concerning final decisions about little GAAP should come to a head in 2011 — just in time for the Securities and Exchange Commission's decision on whether or not U.S. publicly traded companies should abandon U.S. generally accepted accounting principles in favor of international standards.

"Taking the 'Ease' Out of 'Lease'?"
By doing away with operating leases, new accounting rules could bring billions of dollars back onto balance sheets.
"Shorter Agenda for Convergence"
FASB and the IASB have selected five priority projects to focus on – and hopefully push out by next year.
"One Step Closer to Little GAAP"
A blue-ribbon panel on private-company accounting standards recommends a separate GAAP for private companies.
"Technical Difficulties"
As the pace of accounting-rule changes intensifies, can IT systems keep up?
"A Relentless Pursuit of Global Rules"
Tom Jones, director of Pace University's international accounting center, looks forward to a world without local GAAPs.
"Debunking IFRS Myths"
Experts expose seven misconceptions about international financial reporting standards.
"After Eight Years at FASB, Herz Looks Back"
In an exclusive interview, Robert Herz talks about his legacy as chairman of the Financial Accounting Standards Board.
"One Size Gives Fits to All"
Financial executives say that proposed changes to revenue-recognition rules ignore real-world realities.
"Revenue Rules Could Cause Software Snags"
How much will ERP systems have to be tweaked to comply with FASB's new revenue-recognition rules?
"Without Hoopla, Fair-Value Rule Is Readied"
Among the ripple effects of the global credit crisis is the rewrite of the controversial fair-value accounting rule once known as FAS 157. The revised standard could be in place by the end of the year.

SEC and Goodwill Impairment

In the current economic environment, the SEC continues to ask issuers to support their assertions around goodwill impairment. SEC staff comments often arise when a company’s revenues significantly decline or when market capitalization significantly declines below book value, since such declines may indicate impairments in intangible assets and goodwill.

SEC staff also request additional disclosures about goodwill impairments. SEC staff have indicated that in future they will request even more disclosures about how the conditions that caused impairment will affect a company’s business in the future.

Documentation of support for impairment test results is important as SEC staff includes valuation experts who may request and review a company’s goodwill valuation reports.

The staff has also been asking for more robust and comprehensive disclosures about goodwill impairments, including the following:

• Policies for impairment testing
• Organization of reporting units
• Goodwill allocated to the reporting units
• Description of the steps performed to review goodwill for recoverability
• Nature of the valuation techniques used, including descriptions of the significant estimates and assumptions used to determine the fair value of the reporting units
• Results of the most recently completed impairment tests.

Examples of SEC Comments
Goodwill Impairment Testing — We see that goodwill comprises approximately [XX%] of your assets at [year-end]. We also note that revenues and net income continued to decline in the first quarter of 2009 due to decreases in volume, a slowdown in the economy, declining demand from the [XXX] and [YYY] markets and increased competition from imports. Please tell us how you considered these factors in determining whether goodwill was impaired at [year-end]. In addition, tell us whether these items are indicators of potential impairment that would require you to perform a goodwill impairment analysis subsequent to [year-end].

Goodwill Impairment Testing — We note that you recognized a goodwill impairment charge during the year. . . . In the interest of providing investors with a better insight into management’s judgments in accounting for goodwill impairments, please revise future filings to provide the following disclosures as part of your critical accounting policy:

• The reporting unit level at which you test goodwill for impairment and your basis for that determination;
• Sufficient information to enable an investor to understand how you estimate the fair value of your reporting units and why management selected that method as being the most meaningful in preparing your goodwill impairment analyses;
• A . . . description of the material assumptions used;
• If applicable, how the assumptions and methodologies used for valuing goodwill in the current year have changed since the prior year, highlighting the impact of any changes; and
• If or how you consider your market capitalization relative to your net book value in evaluating goodwill for impairment.

Goodwill Impairment Testing — We note there was a significant decline in your market capitalization during the third quarter. . . . It appears this is a triggering event that could require you to reassess your goodwill for impairment. Please tell us what consideration you gave to reassessing the recoverability of your goodwill in the third quarter. If you did not perform impairment tests, please explain why. To the extent that impairment tests were performed tell us how you determined that no impairment existed including in your response what impact the current economic environment had on your cash flow assumptions.

Long-Lived-Asset Impairment Testing — Please revise to describe the impaired long-lived assets or asset groups, the facts and circumstances leading to the impairments and the segment in which impaired long-lived assets or asset groups are reported.

Wayne Carnall, chief accountant in the SEC’s Division of Corporation Finance, recently observed that even though “registrants have provided voluminous disclosures regarding goodwill impairments within the critical accounting policy section of [MD&A], it is not always clear how the information is meaningful to investors.” The disclosures have often focused on the noncash nature of the goodwill impairment but have not addressed the business and economic conditions that gave rise to the charge. We understand that the SEC staff will be asking for more disclosures in MD&A about what the conditions that resulted in impairments mean to the registrant’s business as well as for more forward-looking information about the risk of future impairments, such as:

• Percentage by which the fair value of the reporting unit exceeds its carrying value as of the most recent step 1 test
• Goodwill allocated to the reporting unit
• Assumptions that drive the estimated fair value and a discussion of the uncertainty associated with the key assumptions
• Discussion of any potential events, circumstances, or both, that could have a negative effect on the estimated fair value
• Carnall also stated that the SEC staff “is considering providing . . . guidance in the near-term to provide registrants with a better understanding of its expectations in this area.”

Control Premium and Goodwill Impairment

Robert Fox, a professional accounting fellow in the SEC’s Office of the Chief Accountant, recently raised several points about goodwill impairment. For example, he remarked that the market capitalization of a registrant may not fully reflect the aggregate fair values of all the registrant’s reporting units. Mr. Fox pointed to ASC 350-20-35-22 and 35-23 (formerly paragraph 23 of Statement 142), noting that “an entity might derive ‘substantial value’ from the ability to obtain control.” Accordingly, this control premium may cause the fair value of all the registrant’s reporting units to exceed the registrant’s market capitalization. He also indicated that while it would be “prudent” for an entity to reconcile the aggregate fair value of its reporting units to its market capitalization, the entity should also consider other factors when assessing goodwill for impairment.

SEC Calls for Less Words, More Substance in Financial Reporting

The SEC has called for corporations to stop providing thousands of pages of mind numbing needless boiler plate information in financial reports.

In recent speeches the SEC seemed to admit to some culpability in the excessive disclosures by stating that it is looking at its rules to determine whether companies are being asked to provide the right information.

The SEC complained about companies that provide laundry lists of risks they may face in dense lengthy reports containing impenetrable legalistic language.

One staffer said that quality of analysis is not measured by the length.

The SEC has pushed for plain language reporting for years. Litigation-shy companies have not been able to simplify reporting in the way the SEC desires.

In 2008, the SEC adopted rules for mutual funds to make their prospectuses easier for investors to read, understand and access.

The agency has also convened panels to make MD&A more accessible to unsophisticated investors.

More on GE Accounting Fraud Allegations--Smooth Flying on Jet Engines

The SEC recently settled allegations of fraudulent accounting with GE. More details:

GE was worried that volatility in its revenues would wreck its plans to meet earnings expectations. The SEC alleged that GE engaged in complex hedge accounting manipulations to smooth earnings, and in a scheme to further smooth profits in its aircraft engine business.

The earnings smoothing was done by hiding losses from interest-rate derivatives, improper accounting for hedging transactions, and a messy scheme to smooth profits in its aircraft engine business.

The SEC did not charge GE with deliberately breaking rules on the hedging and aircraft engine transactions.

The SEC’s lawsuit referred to internal e-mails in which a GE accountant said "we've got to fix this" about the "extraordinarily big deal" of possibly losing the right to use legitimate accounting to allows companies to ignore losses in the fair value of derivative assets.

GE had bet on interest rates by writing more derivatives contracts than it needed to hedge its floating rate debt exposure. The SEC claims that GE retroactively changed how it accounted for derivatives, but the plan was rejected by KPMG, its external auditors. The Sec claims that GE then altered the plan and then went ahead with the retroactive change anyway. This allowed GE to avoid reporting a $200 million loss.

FASB, IASB Support Moving to Direct Method For Cash Flow

As the FASB and IASB consider their proposed overhaul of financial statement presentation, one of the
significant changes would be the utilization of the direct method
rather than the indirect method for calculating cash flows.

The requirement to use the direct method is part of the proposed
changes that the two boards introduced in Discussion Paper (DP) No.
1630-100, Preliminary Views on Financial Statement Presentation.

The boards are planning to discuss the proposal in the near future, as
part of a broader discussion on financial statement presentation. In
this paper, the boards are advocating greater use of the direct method
of calculating operating cash flows.

Under the direct method, companies would present separately the main
categories of their operating cash receipts, such as cash collected
from customers, and operating cash payments, such as cash paid to
suppliers to acquire inventory. This approach is also known as the
income statement method because it requires companies to compute the
net cash provided by operating activities by adjusting each item in
the income statement.

Currently, most companies use what is known as the indirect method, by
reconciling profit or loss or net income to net operating cash flows.

Both U.S. GAAP and IFRS permit both the direct and indirect methods of
presenting operating cash flows. However, in DP No. 1630–100, the
boards said a major deficiency of the indirect method is that it
derives the net cash flow from operating activities without separately
presenting any of the operating cash receipts and payments.

SEC Comment Letters--In Your Mailbox Soon?

The accounting firm Crowe Horwath has published an article Recent Trends in SEC Comment Letters--Reproduced in its entirety below.

In December 2008, the Securities and Exchange Commission (SEC) staff indicated at the American Institute of Certified Public Accountants’ (AICPA) National Conference on Current SEC and PCAOB Developments that they would be conducting targeted reviews of fair value, other-than-temporary impairment (OTTI) of securities, and other asset impairments. As a result, several recent examples of SEC staff comment letters on periodic filings (Form 10-Qs and 10-Ks) have a clear focus on these issues.

Following are some general themes present in comment letters from the SEC staff on recent filings that might be helpful for registrants to consider as they prepare periodic filings. Management should carefully review their company's accounting policies as well as related financial statement and management’s discussion and analysis (MD&A) disclosures related to these issues.

Accounting
OTTI of Securities
The SEC has:

• Asked registrants to justify why securities with fair values significantly below cost are not considered to be OTTI.
• For securities with ratings of "default" or "speculative," the SEC has asked how management determined that an adverse change in cash flows had not occurred.
• Challenged registrants on whether the losses for sales of securities after a period end should have been recognized in the prior period.
• Asked registrants to provide specific information about securities with significant unrealized losses.
• Requested information includes the specific issuer and name of each security; type of underlying collateral, credit rating, severity, and duration of the unrealized loss; and how the financial condition and near-term prospects of the issuer were considered when determining that no OTTI was present.

Securities/Other
The SEC has asked registrants to:

• Provide implied discount rates used in determining fair value of securities when using Level 3 inputs (in accordance with the guidance in Financial Accounting Standards Board Staff Position 157-3 (FSP FAS 157-3), “Determining the Fair Value of a Financial Asset When the Market for That Asset Is Not Active,” and FSP FAS 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly”).
• Reconcile the cash flows used to determine fair value with the cash flows used to assess OTTI.
  Indicate the systems and controls used to validate prices received from third parties when valuing securities.

Goodwill and Other Intangible Assets
The SEC has commented on:

• Implied control premiums used to determine fair value of reporting units for purposes of step one of goodwill impairment tests. Assumptions used to determine fair value must be supportable and should not contradict observable data about recent transactions.
• The lack of support for a reasonable period in the context of determining market capitalization of a reporting unit.
• The lack of support for assumptions used when determining the fair value of an intangible asset – for example, when a multiperiod earnings approach has been used.

Presentation and Disclosure

Loans and the Allowance for Loan Losses
The SEC has:

• Asked registrants to consider more disaggregated disclosure about loan portfolios – for example, providing disclosures by exposure to subprime, alt A-paper, or other relatively high-risk loans.
• Commented on disclosing reasons for changes (or lack thereof) in general loan reserves considering changes in credit risk.
• Commented on presenting the basis for each risk category and the method for determining the loss factor applied to each category. It has asked companies to specifically identify how historical loss trends were adjusted based on current factors.
• Asked registrants to explain reasons for directional inconsistencies in loan-loss allowances – for example, when impaired loans increased but specifically identified reserves decreased.

Securities
The SEC has requested:

• More disclosure of reasons for transfers into and out of the Level 3 category and more robust discussion of how fair value was determined when classified as Level 3.
• Support for securities being presented as Level 2 that appear to require Level 3 classification based on other disclosures.

www.crowehorwath.com

Good Corporate Reporting Practice Examples

PWC provides a catalogue of examples of good practice in corporate reporting. The examples are accompanied by an introduction explaining why this example has been chosen as well as a detailed commentary from PWC's experts based on their corporate reporting framework.

The information is provided free of charge, but requires registration before accessing the full catalogue. Once registered, you can login each time you wish to use the good practice examples.

You can search for examples by industry, company name, country, and category or element of the corporate reporting framework. You can download and print examples in PDF format.
Access to the catalogue of good practices examples can be found in the bottom right hand corner of the page found at this link.

Can We Simplify Financial Reporting?

Last Friday, the Global Accounting Alliance (GAA) and the AICPA held the third of three roundtable discussions about simplifying financial statement disclosures. The roundtables were held in New York, London and Beijing and had the goal of determining whether financial reporting can be made simpler and more useful.

One suggestion was to design financial statements with different levels of disclosure so that users would only get what they want. For example, the first level could be general accounting policies, followed by a level around movement within accounts, then changes in estimates and assumptions and finally forward-looking statements.

If you don’t want the full report you could just have Level 1 with collapsible sections, It was suggested that XBRL can help make that possible.

Quotable quotes:

• It seems (in the U.S.) we’re constantly making changes. If we could step back and look at issues on a longer-term basis, it would help.
• The profession needs to look not only at the disclosure of information, but how information is presented, because people have their own biases around how to develop financial reports
• Companies will put additional information on their own Web sites, but not in their financial statements because of legal liability concerns. There are different liability concerns for each approach.
• Even when companies include more information, it’s not always useful.
• It’s not just more information, but starting a better communication document. More does not equal better.
• Add a brief summary at the front of the financial statement to provide an overview of the bigger picture. An additional summary must be concise, candid and insightful.
• Can we change the equation from being a compliance vs. communication exercise?
• (Financial reporting) comes with a label. ‘Buyer beware,’...for the SME or small, small companies, it’s not something people will feel uncomfortable with given that they understand what’s in the package.
• Companies should be allowed to focus on what’s best for them but the fundamental building blocks should be the same.
• People confuse uniformity with consistency.
• There may be some incremental differences from day one, but eventually a system will converge.

www.globalaccountingalliance.com

Seven Key Differences in Adopting IFRS

A recent article in CA magazine (Canada) discussses the Seven Key Differences that public companies will need to deal in their changeover to IFRS: Given that U.S. GAAP and Canadian GAAP are virtually identical in these areas, they will be the key areas for U.S. issuers as well.


· property, plant and equipment
· revenues
· impairment of assets
· provisions

The article also identified three other topics where practice might differ fundamentally from that mandated by IFRS and that would likely affect most public entities:


· presentation of financial statements
· related parties
· leases

Check this article out—it is a high level overview tied to examples from an actual set of IFRS financials.

SEC Comment Letters: Goodwill Impairment

In a webcast last week, the Controllers’ Leadership Roundtable discussed SEC Comment letter activity surrounding goodwill impairment charges. Below is their summary of recent activity in this area.
SEC is hitting on three main areas.

• Clear Identification of Impairment Recoverability Risks: If they are not doing so already, companies are going to need to ensure that they quantitatively disclose information about potential risks to revenue, operating results, and asset recoverability, so that investors have the ‘raw material’ required to judge the likelihood of future impairments. This includes explicitly addressing the economy, and the range of assumptions they used in evaluating its potential impact (and what changes in those assumptions would do to potential impairments).
  


• Requiring Detailed Sensitivity Analysis: Along with identifying the range of assumptions used in their calculations, companies need to also disclose the sensitivity analyses used, so that investors and users can get a better sense of how impairment might change if certain conditions (e.g. 1% decline in revenue, 50 basis point increase in the interest rate) came to pass. This provides a check both on the validity of the impairment charges, and on the validity of management’s thought processes.
  


• Managerial Judgment Process: In general, the SEC is also requiring companies to detail their impairment ‘thought process,’ including what inputs they used, and how they came to those input values. One comment letter called on firms to:
  
  In the interest of providing readers with a better insight into management’s judgments in accounting for goodwill and intangible assets, please consider disclosing the following:


• The reporting unit level at which you test goodwill for impairment and your basis for that determination;


• Sufficient information to enable a reader to understand how you apply the discounted cash flow valuation model in estimating the fair value of your reporting units and why management selected this method as being the most meaningful in preparing your goodwill impairment analyses;


• How you determine the appropriate discount rates and attrition rates to apply in your intangible asset impairment and analysis;


• A qualitative and quantitative description of the material assumptions used and a sensitivity analysis of those assumptions based upon reasonably likely changes; and


• If applicable, how the assumptions and methodologies used for valuing goodwill and intangible assets in the current year have changed since the prior year, highlighting the impact of any changes.