Accounting and Auditing Update. Paul Lundy

Transcription

1 Accounting and Auditing Update Paul Lundy

2 Leases: Not Just for the Footnotes Anymore

3 Significant Financial Statement Impact New lease standard generally requires all leases to be capitalized and recognized on the balance sheet + Exception for short term leases Implementing the new leasing standard may: + Change key ratios used for debt covenants + Affect bonus and share-based payment calculations + Alter dividend information

4 Key Questions in Accounting for Leases Do I have a lease? WHY ASK If not within scope of lease standard, must look to different ASC What is the term? Required for initial accounting What is the discount rate? Required for subsequent accounting Any non-lease components? Account for non-lease components differently

5 Key Questions in Accounting for Leases Do I have a lease? What is the term? What is the discount rate? Any non-lease components? GUIDANCE Lease defined as the right to control the use of an identified asset for a period of time in exchange for consideration. Control: - Right to economic benefits - Right to direct use of asset Determining right to direct use may require judgment If supplier has substantive substitution rights, customer does not have control; therefore no lease.

6 Key Questions in Accounting for Leases Do I have a lease? What is the term? What is the discount rate? Any non-lease components? GUIDANCE Term: Noncancelable period for which lessee has right to use asset plus periods covered by - Option to extend if lessees is reasonably certain to exercise the option - Option to terminate if lessee is reasonably certain not to exercise option - Renewals or extensions of lease at option of lessor Exception to the general rule to recognize all leases on the balance sheet for leases with terms of 12 months or less.

7 Key Questions in Accounting for Leases GUIDANCE Do I have a lease? What is the term? What is the discount rate? Any non-lease components? Rate implicit in the lease is rate that causes the PV of the net investment in the lease to equal sum of: - Fair value of asset minus related investment tax credit - Capitalized initial direct costs incurred by lessor If rate can not be determined, use incremental borrowing rate Private companies may use risk-free rate

8 Key Questions in Accounting for Leases GUIDANCE Do I have a lease? What is the term? What is the discount rate? Any non-lease components? Non-lease components accounted for separately Example: equipment lease contract also includes maintenance services Allocate contract consideration and initial direct costs to components based on relative standalone price of separate components

9 Finance vs. Operating Lease FINANCE LEASE OPERATING LEASE Substantially the same as a capital lease plus Lease of specialized asset for which no alternative use at end of lease term All leases that do not meet criteria for finance lease

10 Finance Lease: Initial Accounting Assets aaaa ROU asset aaaa $ xxx,xxxx Liabilities bbbb Lease liability ROU Asset: - Represents the lessee s right to the use of the leased asset over the lease term bbbb cccc $ xxx,xxxx Equity $ xxx,xxxx Lease Liability: - Represents the lessee s contractual obligation to make lease payments over the lease term

11 Finance Lease: Initial Measurement

12 Finance Lease: Subsequent Accounting Sales Cost of Sales Expenses aaaa Depreciation Interest aaaa Net Income $ xxx,xxxx $ x,xxxx $ x,xxxx $ x,xxxx $ x,xxxx $ xxx,xxxx Income Statement Depreciate ROU asset, straight line over useful life or lease term Recognize interest expense related to lease liability

13 Finance Lease: Subsequent Accounting aaaa aaaa Interest expense Cash from operating activities bbbb bbbb bbbb Cash from investing activities Principal payments cccc Cash from financing activities Change in cash Beginning cash Ending cash $ xxx,xxxx $ xxx,xxxx $ xxx,xxxx Cash Flow Statement Interest expense reported as operating activity Lease principal payments reported as financing activity

14 Operating Lease: Initial Accounting aaaa ROU asset aaaa bbbb Lease liability bbbb cccc Assets $ xxx,xxxx Liabilities $ xxx,xxxx Equity $ xxx,xxxx ROU Asset: - Represents the lessee s right to the use of the leased asset over the lease term Lease Liability: - Represents the lessee s contractual obligation to make lease payments over the lease term

15 Operating Lease: Subsequent Accounting Assets aaaa ROU asset aaaa $ xxx,xxxx Liabilities bbbb Lease liability bbbb $ xxx,xxxx Remeasure asset Asset equal to lease liability adjusted for - Prepaid or accrued lease payments - Remaining lease incentives - Unamortized initial direct costs - Asset impairment cccc Equity $ xxx,xxxx Remeasure liability Liability equal to PV of remaining lease payments at discount rate determined at inception

16 Operating Lease: Subsequent Accounting Sales Cost of Sales $ xxx,xxxx Expenses aaaa aaaa Lease expense aaaa Net Income $ x,xxxx $ x,xxxx $ x,xxxx $ x,xxxx $ xxx,xxxx Income Statement Single lease expense, same as current GAAP

17 Operating Lease: Subsequent Accounting aaaa aaaa Lease expense Cash from operating activities bbbb bbbb bbbb Cash from investing activities $ xxx,xxxx $ xxx,xxxx Cash Flow Statement Lease expense reported as an operating activity cccc cccc Cash from financing activities Change in cash Beginning cash Ending cash $ xxx,xxxx

18 Finance Lease: Walkthrough Company leases equipment. Facts: Lease term: 60 months with option to extend for 24 Lease payments: $2,500 per month during initial term; $2,750 during extension 10% increase during extension NOT considered significant financial incentive; therefore lease term is 60 months Initial direct costs: $7,000 Discount rate: can not determine rate implicit in lease. Incremental borrowing rate 5.25 % At inception: Company makes first month s payment of $2,500 and incurs the $7,000 initial direct costs Lease liability measured as PV of remaining 59 payments at 5.25%. Equals $130,320 ROU Asset Lease Liability Cash $ 139,820 $ 130,320 $ 2,500 $ 7,000

19 Finance Lease: Walkthrough Subsequent accounting in year one (excluding lease payments) ROU asset depreciated straight line over 5 year lease term. $139,820 5 = $27,964 Interest expense using interest method and 5.25% discount rate: $6,248 ROU Asset Lease Liability Depreciation Expense Interest Expense $ 27,964 $ 27,964 $ 139,820 $ 130,320 $ 6,248 $ 6,248

20 Operating Lease: Walkthrough Company leases equipment. Facts: Lease term: 60 months with option to extend for 24 Lease payments: $2,500 per month during initial term; $2,750 during extension 10% increase during extension NOT considered significant financial incentive; therefore lease term is 60 months Initial direct costs: $7,000 Discount rate: can not determine rate implicit in lease. Incremental borrowing rate 5.25 % At inception: Company makes first month s payment of $2,500 and incurs the $7,000 initial direct costs Lease liability measured as PV of remaining 59 payments at 5.25%. Equals $130,320 ROU Asset Lease Liability Cash $ 139,820 $ 130,320 $ 2,500 $ 7,000

21 Operating Lease: Walkthrough Subsequent accounting in year one Lease expense: 1/5 of cash payments to be made during the lease term ($30,000) plus 1/5 of initial direct costs ($1,400) Total = $31,400 Interest expense is same as finance lease: $6,248 Remaining expense amount is credited against the ROU asset. $31,400 - $6,248 = $25,152 ROU Asset Lease Liability Lease Expense $ 139,252 $ 25,152 $ 130,320 $ 31,400 $ 6,248

22 Transition: Effective Dates Effective dates for public companies Fiscal years beginning after December 15, 2018, including interim periods i.e., calendar 2019 Effective dates for private companies Fiscal years beginning after December 15, 2019 i.e., calendar 2020 Modified retrospective application Must apply new standard as of beginning of earliest comparable period

23 Transition: Practical Expedients You may be able to elect practical expedients to ease burden of adoption No need to reassess whether expired or existing contracts are or contain leases No need to reassess lease classification for any expired or existing leases No need to reassess initial direct costs for existing leases May use hindsight in determining lease term

24 Possible Implementation Challenges POSSIBLE CHALLENGES Systems Operations Financial Reporting Lessees with significant lease portfolio may need to evaluate current system and evaluate whether it can capture relevant data for new standard Compliance with debt covenants and other contracts May affect lease vs. buy decisions System change may require change to internal controls Increased use of management judgment Deferred taxes may be affected New disclosure requirements

25 Implementation Next Steps 1 Inventory all existing lease contracts - Aggregate similar leases to avoid redundant analyses - Identify short term leases that will not be capitalized 2 Assess implementation challenges and options - Existence of substantive substitution rights - Choice of discount rate - Determination of lease term - Practical expedients 3 Estimate impact implementation will have on financial statements, key ratios and metrics - Evaluate impact changes will have on other contracts, e.g., loan agreements, management compensation - If necessary develop plan to mitigate impact on other contracts

26 OTHER ACTIVITES OF THE FASB

27 ASU Reminder! Imputation of Interest Simplifying the Presentation of Debt Issuance Costs Debt issuance costs presented as a direct deduction from the related debt liability rather than as an asset. Amortization of debt issuance costs reported as adjustment to interest expense. Effective for fiscal years beginning after December 15, Early adoption permitted.

28 ASU Imputation of Interest Debt Issuance Costs Associated with LOC Arrangements Adds SEC paragraphs pursuant to SEC Staff Announcement at 6/18/15 EITF meeting Addresses absence of guidance in ASU for presentation of debt issuance costs associated with LOC arrangements SEC does not object to presentation of debt issuance costs as an asset Regardless of whether any outstanding borrowings on LOC Amortized ratably over term of the LOC arrangement

29 ASU Business Combinations Simplifying the Accounting for Measurement-Period Adjustments Requires an acquirer to recognize adjustments to provisional amounts as identified during the measurement period Eliminates retrospective accounting for measurement period adjustments Calculate adjustments as if accounting had been completed at acquisition date Effective date Public business entities - fiscal years beginning after 12/15/15 Including interim periods with those years All other entities - fiscal years beginning after 12/15/16 And interim periods within fiscal years beginning after 12/15/17

30 ASU Income Taxes Balance Sheet Classification of Deferred Taxes Requires deferred income tax assets and liabilities be classified as noncurrent in classified balance sheet, net No change to recognition, measurement, or disclosure requirements Report only one single net noncurrent deferred tax asset or liability Effective dates Public business entities fiscal years beginning after 12/15/16 Including interim periods within those fiscal years Other entities fiscal years beginning after 12/15/17 And interim periods within fiscal years beginning after 12/15/18 See DHG A&A Update Classification of Deferred Taxes

31 ASU Goodwill and Other, Business Combinations, Consolidation, Derivatives & Hedging Effective Date and Transition Guidance Makes PCC alternatives effective immediately by removing effective dates Allows private companies to avoid the preferability assessment when first electing a PCC alternative Any subsequent change requires justification that the change is preferable

32 ASU Derivatives & Hedging Contingent Put and Call Options in Debt Instruments Clarifies the steps required to assess whether call (put) options economic characteristics and risks are clearly and closely related to those of their debt hosts Not required to assess whether event that triggers ability to exercise contingent call (put) option is related to interest rates or credit risks Effective dates Public business entities fiscal years beginning after 12/15/16 Including interim periods within those fiscal years Other entities fiscal years beginning after 12/15/17 And interim periods within fiscal years beginning after 12/15/18 Early adoption permitted

33 ASU Investments Equity Method and Joint Ventures Simplifying the Transition to the Equity Method of Accounting Changes how to account for an investment in the period it qualifies for equity method accounting due to an increase in level of ownership or degree of influence Eliminates requirement to account for the investment as if the equity method had been in effect during all previous periods No retroactive step-by-step adjustment required Requires cost to acquire additional equity interest be added to current basis Adopt equity method of accounting as of the date the investment becomes qualified Recognize through earnings unrealized gains/losses on AFS securities that become qualified for equity method Effective for fiscal years beginning after 12/15/16 Including interim periods within those fiscal years Early application permitted Prospective application

34 ASU Stock Compensation Improvements to Employee Share-Based Payment Accounting Simplifies accounting for share-based payments Income tax consequences Classification of awards equity vs. liability Cash flow statement classification Allows private companies to make following elections: Apply practical expedient to estimate expected term Only if there are performance and service conditions Measure awards classified as liabilities at intrinsic value, rather than fair value One-time election Effective dates Public business entities - annual periods beginning after 12/15/16 Including interim periods with those years Other entities annual periods beginning after 12/15/17 Interim periods within annual periods ending after 12/15/18 Early adoption is permitted all amendments must be adopted in same period

35 NFP Financial Statements Project Presentation of Financial Statements of Not-for-Profit Entities Key objectives Update, not overhaul, the current model Improve net asset classification scheme Improve information in financial statements and notes about: Financial performance Cash flows Liquidity Better enable NFPs to tell their financial story Split into two phases Phase I complete! ASU

36 ASU Presentation of Financial Statements of Not-for-Profit Entities Changes net asset classifications to 2 categories Net Assets With Donor Restrictions and Net Assets Without Donor Restrictions New disclosures for board-designated net assets (without donor restrictions) Eliminates Temporarily Restricted NA and Permanently Restricted NA Existing GAAP Unrestricted Temp. Restricted Perm. Restricted New GAAP + Disclosures Without Donor Restrictions Amount, purpose, and type of board designations * With Donor Restrictions Nature and amount of donor restrictions * New disclosure requirement

37 ASU Presentation of Financial Statements of Not-for-Profit Entities Underwater endowments presented within Net Assets with Donor Restrictions Expanded disclosures - disclose aggregate original gift amounts, fair value, and governing board policies / decisions to reduce or not expend such funds Requires additional disclosures regarding liquidity and availability of resources Qualitative information on liquidity risk and how liquid available resources are managed Quantitative information on availability of current financial assets to meet cash needs for general expenditures Allows operating cash flows to be presented using direct or indirect method Eliminates requirement to reconcile direct method operating cash flows to changes in net assets

38 ASU Presentation of Financial Statements of Not-for-Profit Entities Requires expenses be reported / disclosed by function and natural classification, with analysis Can be reported on face of financial statements or disclosed in the notes Analysis = disaggregate function by nature Required to disclose qualitative information about methods used to allocate costs among program and support functions Board to explore possible Segment Reporting alternative for Healthcare entities in Phase II Requires investment return be presented net of investment expense External and direct internal investment expense only Not required to disclose amount of investment expenses netted against return Eliminates requirement to disclose components of investment income Requires improved presentation / disclosure for operating measure Must report or disclose internal transfers (board designations, appropriations, etc.) that are included in operating measure disaggregated and described by type

39 ASU Effective for fiscal years beginning after 12/15/17 And interim periods for fiscal years beg Early adoption permitted Must apply regular transition provisions Transition For year of adoption: apply all provisions. For comparative years presented: apply all provisions, except can choose not to present: Analysis of expenses by nature and function, and/or Disclosures around liquidity and availability of resources

40 ASU ASU Statement of Cash Flows Classification of Certain Cash Receipts and Cash Payments

41 ASU ASU Statement of Cash Flows Classification of Certain Cash Receipts and Cash Payments

42 For questions or assistance