SEC Accounting Staff Advice on Recent Issues

By Cydney Posner

Following is a link to a Compliance Week article discussing a recent AICPA conference at which SEC accounting staff members advised the audience about common issues identified in reviews of recent filings.  According to the article, one of the most significant concerns is the impact on companies of the European debt crisis, including companies' exposure to foreign debt and foreign currency exchange rates, especially in Greece, Ireland, Portugal, Italy and Spain:

"Where companies have exposure to debt in those countries, even if it doesn't exceed the usual threshold of 1 percent of total assets, investors deserve to hear all the ugly details…. Companies should assure their next 10-K provides transparent disclosure by country about gross and net exposures, directly or indirectly, to sovereign debt. ‘To merely provide disclosures on a net basis, even if offset by credit protection, is not sufficient for investors to understand registrants' exposures,' " explained one staff member. The disclosures should also "help investors understand the impact of foreign currency exchange rates, considering not just issues that affect profit and loss, but other key measures that are important to the company as well." In addition, the disclosure should address "the nature of currency risk… as well as any measures the company is taking to manage currency risks, any changes in exposures and how those exposures are managed, and any known trends in currency prices or anticipated exchange rates in future reporting periods." Any discussion of positive impact would have the same prominence as negative impact.

Another significant issue relates to pensions and other post-employment benefits, particularly in light of recent low interest rates together with a decline in the value of plan assets, both of which can result in increasing pension and other post-employment benefit obligations on the balance sheet. The staff is concerned that "minimum statutory funding requirements will spike for companies carrying pension and OPEB liabilities, and they expect companies to give their investors some forewarning." Companies should consider the impact of those obligations on liquidity and capital resource disclosures in MD&A: "The staff will be looking for companies to disclose any funding obligations they expect to face," even if they are uncertain of amounts; companies must instead "develop estimates based on assumptions used to measure pension and other post-employment benefit obligations at the balance sheet date." Companies that are considering a change to their pension accounting policy to accelerate the recognition of changes in pension obligations to avoid a drag on future earnings, as a few companies have recently done, will need to obtain a letter from their auditors agreeing that the change in accounting policy is preferable to the existing policy. They will also need to provide explicit disclosure "about whether they are moving to recognize all gains and losses through earnings or only some. They also may face a significant fourth-quarter adjustment to elect such a change,… and that needs to be explained to investors as well." In addition, companies that capitalize some of their employee costs through inventory or plant, property and equipment will need to consider and disclose how those gains or losses will be recognized.

Testing for goodwill impairment will also be closely reviewed in light of new FASB guidance that allows companies to perform, as a first step, a simplified, qualitative assessment of whether goodwill is likely to be impaired and then avoid a full-blown, two-step impairment test if the results on the first step are favorable. The SEC "may have a comment if the [first step] screen is used to avoid impairment testing on reporting units that are identified as at risk for failing step one."

The staff also discussed the difference between a reclassification that can be corrected through an amendment and an error that must be corrected through a restatement: a reclassification represents a change from one presentation that complies with GAAP to another that also complies with GAAP, while an error is just a "flat-out mistake in the accounting." For example, where a company incorrectly recognizes revenue as if it were the principal provider when it is really an agent, that would require a restatement, not a reclassification.

Following is additional advice offered by the staff cited in the article:

• Check the Financial Reporting Manual for changes in how to assess whether a subsidiary is subject to separate reporting based on terms of high-yield debt offerings.
• Take care to study the criteria for when pro forma reporting would be required under Regulation S-X.
• In the current economy, pay some special attention to disclosures about liquidity and capital resources, and button down the accounting around deferred tax assets and deferred tax liabilities.
• Keep working on segment reporting and reporting of loss contingencies.

The article also included the list below of "Considerations in the Current Economic Environment" from the AICPA Conference:

Liquidity

Companies should consider the guidance in:

• FR-83 – MD&A Release focused on Liquidity and Capital Resources (companion release to Short- Term Borrowings Proposal)
• 2003 Interpretive Release on MD&A (Release No. 33-8350)
• Section 501.3 of the FRC

Income Taxes — DTAs/DTLs

"Forming a conclusion that a valuation allowance is not needed is difficult when there is negative evidence such as cumulative losses in recent years."

ASC 740-10-30-21

Testing Goodwill for Impairment – ASU 2011-08

Changes to Goodwill Impairment Test

Qualitative assessment was added

• Assess qualitative factors to determine likelihood (more than 50%) that FV of a reporting unit is less than its CV, including goodwill.
• Option to proceed directly to Step 1 without performing qualitative assessment.

Corp Fin staff does not expect material changes in the outcome of impairment testing/charges.

Goodwill Disclosures

• MD&A Release 33-8350 for critical accounting estimates.
• FRM 9510 - "at risk" reporting units disclosures:
  • The percentage by which fair value exceeded carrying value as of the date of the most recent test;
  • The amount of goodwill allocated to the reporting unit;
  • A description of the methods and key assumptions used and how the key assumptions were determined;
  • A discussion of the degree of uncertainty associated with the key assumptions; and
  • A description of potential events and/or changes in circumstances that could reasonably be expected to negatively affect the key assumptions.

Pension and OPEB Plans

• Double whammy
  • Low interest rates
  • Low asset returns
• Impact on minimum statutory funding requirements
• Pension plan asset investment strategies
• Changing accounting policy to accelerate recognition of actuarial gains and losses
• Other areas of staff comment

Source: AICPA.