SEC Reporting & Disclosures & Hot Topics in Accounting

Life Sciences Accounting & Reporting Congress

March 22, 2016

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Learning Objectives

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To provide an overview of current SEC comment letter and hot topics

To provide highlights of new accounting topics affecting life sciences companies

To highlight the ongoing disclosure effectiveness initiative

SEC Comment Letter Trends and Hot Topics

New Accounting Guidance

Disclosure Effectiveness

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SEC Comment Letter Trends

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Comments in 2015

• 15% - MD&A / Results of Operations

• 13% - Fair value

• 10% - Non-GAAP measures

• 9% - Revenue recognition

• 8% - Taxes

• 7% - Segment reporting

*Source – www.auditanalytics.com

MD&A

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• Leading source of SEC comments

• More than half of registrants receiving comments are given comments on MD&A

• SEC expecting MD&A that is easier to follow and understand

• Efficient and less redundant disclosures

• Focus on objectives of MD&A included in Item 303 of Regulation S-K

• Additional discussion is useful and encouraged by SEC staff

MD&A

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Critical accounting policies/estimates

• No copying accounting policies footnote

• How they were derived

• Accuracy in the past and potential future changes

Results of operations

• Quantification of factors contributing to changes in revenue / income

• Changes in reserve accounts

• Key financial metrics

MD&A

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Disclosure requirements

• Clear definition and description of calculation

• Material limitations

• How it relates to performance

Metrics/KPI’s – Does anyone disclose KPIs in MD&A or elsewhere?

MD&A

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Non-GAAP Financial Measures Disclosure Requirements

• Clear labeling / description / context / terminology

• GAAP measure should be more prominent

• Disclose why the non-GAAP measure is useful to investors

• Disclose how management uses non-GAAP measures

• Reconciliation of non-GAAP measures to nearest GAAP measure

• Misleading disclosures are not allowed anywhere

MD&A

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R&D expenses

• Project-level data • Both current and future expenses

Patents

• Type of protection • Expiration dates • Jurisdictions

Liquidity

• Business trends – sources and uses of cash • Don’t state the obvious

Revenue Recognition

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Adjustments to revenue

• Focus on all reductions of revenue (rebates, returns, chargebacks, etc.) and the qualitative factors used in estimates

• Request for expanded disclosures include:

– Differentiate between activity related to current year and prior year sales activities – both for provisions and actuals

– Explain business reason for fluctuations in each type of adjustment to revenue and how fluctuations impact future estimates

Revenue Recognition

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Multiple-element arrangements

• Focus on disclosures required by ASC 605-25-50 – Nature of the arrangement – Significant deliverables – Timing of delivery or performance

• The SEC has requested additional details regarding:

– Better description of obligations / rights – Whether deliverables represent a separate unit of

accounting – Total consideration and how the consideration is

allocated among units

Revenue Recognition

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Milestones payments

• Disclosures should be at the individual milestone level (ASC 605-28-50)

• Enhanced disclosures requested on when revenue is recognized and the accounting policies applied

Revenue Recognition

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Collaboration Agreements SEC focus • Adequate disclosure - allow reader to fully understand

collaboration arrangements • Particular focus on revenue recognition. • Contingent payment obligations should be included in

Contractual Obligations table Example Comment Letter Please tell us how you account for revenue from your collaboration agreements, including any upfront or milestone payments received, and cite the appropriate accounting guidance that you apply.

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Segment Reporting

Areas of focus

• Providing useful information to investors in the most clear efficient manner

• Identification of the Chief Operating Decision Maker (CODM)

• Emphasis on the need for effective controls specific to segment reporting

• Careful consideration if aggregation is acceptable • Benchmark cautiously • Data availability

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Segment Reporting

SEC expects companies to clearly explain:

• Overall management/organization structure

• How budgets and forecasts are approved and monitored

• How executive comp and employment decisions made

• Specific financial information provided to CODM for allocating resources / assessing performance

– Other information and consistency with above

– Changes in business (acquisitions, economics)

Consider the investor perspective

Segment Reporting

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Benchmarking

• Big Pharma – average number of segments is ~2 based on review of 20 large Pharma companies

• Consider the uniqueness of your organization structure and specific company circumstances

Company # of

Segments Astra Zeneca 1

Gilead Sciences 1

AbbVie 1

Amgen 1

Briston-Myers Squibb 1

Astellas 1

Biogen 1

Celgene 1

Roche 2

Teva 2

Eli Lilly & Co 2

Novo Nordisk 2

Baxter International 2

7 Other 3-5

Income Taxes

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• Reinforced during December 2015 AICPA conference

• Rate reconciliation

– Unclear labeling

– Inappropriate aggregation

– Inconsistencies with other disclosures

– Corrections of errors labeled as changes in estimates

– Effect of foreign jurisdictions

• Uncertainty in sustainability of historical income tax rates

• Realizability of deferred tax assets

– Weighting of positive and negative evidence

• Foreign taxes

#2 on list of reasons for

restatements (derivatives is #1);

one of leading reasons for MWs

Statement of Cash Flows

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• Gross/net presentation of borrowing

• Restricted cash

• Accounts payable related to capital expenditures

• Contingent consideration liabilities

• Noncontrolling interests

#3 on list of reasons for restatements

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SEC Chair Mary Jo White stated at the December 2015 AICPA National Conference:

It is hard to think of an area more important than ICFR to our shared mission of providing high-quality financial information that investors can rely on.

The SEC continues to: • Challenge disclosures addressing only accounting error

rather than control implications

• Request additional detail on material weaknesses identified

Internal Controls over Financial Reporting

SEC Comment Letter Trends and Hot Topics

New Accounting Guidance

Disclosure Effectiveness

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Revenue Recognition

• At the December AICPA Conference, FASB noted another one-year deferral appears unlikely (even though 75% of companies have not started yet)

• Consistency of application of the standard will be problematic across the same industry and even within the same company since different indicators can be emphasized (e.g., for transfer of control)

• SEC expecting updates to recent accounting

pronouncements disclosures – Only 2 of 20 “big Pharma” companies reviewed have

disclosed an update in their 2015 10-K filing – completed initial assessment and expectations

Revenue Recognition

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Practical advice from December AIPCA conference:

• Buy-in from top management

• Understand structure

• Identify a strong project manager

• Representation from all corporate functions and business units

• Assess outside vs. internal resources

• Assess impact, impact workstream (use existing processes/controls), integrate/implement

• Lessons learned: communicate x3, assume nothing, rework, long process

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• Final standard released in Feb 2016

– Effective 2019 for public companies

– Significant changes since exposure draft

• All leases will be on lessee’s balance sheet

– Exception: leases with term of 12 months or less (no low-value exemption in GAAP)

• Definition changed, but most leases today will be leases tomorrow

• Additional disclosures for both lessees and lessors (incl. residual value)

• Transition requires modified retrospective approach and includes optional practical expedients

New Leasing Standard

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• Multi-step process: – understand your lease populations (incl. service

contracts) and systems – analyze the standard – determine your end state – plan, resource and communicate

• Maintain alignment with other departments: Tax, Treasury, Corporate Real Estate, Legal, IT, etc.

• Quite a few differences between FASB and IASB which will be a problem especially for multi-nationals

• Impairment considerations

• Structure of new leases

New Leasing Standard

Effective Standards for Q1 2016 Calendar year public companies

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ASU Title

2015-02 Consolidation (Topic 810): Amendments to the Consolidation Analysis

2014-16 Determining Whether the Host Contract in a Hybrid Financial Instrument Issued in the Form of a Share Is More Akin to Debt or to Equity

2014-12 Compensation-Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance target Could Be Achieved after the requisite Service Period

2014-13 Consolidation (Topic 810): Measuring the Financial Assets and the Financial Liabilities of a Consolidated Collateralized Financing Entity

2015-01 Income Statement – Extraordinary and Unusual Items (Subtopic 225-20): Simplifying Income Statement Presentation by Eliminating the Concept of Extraordinary Items

2015-03 Simplifying the Presentation of Debt Issuance Costs

2015-04 Practical Expedient for the Measurement Date of an Employer’s Defined Benefit Obligation and Plan Assets

2015-05 Customer’s Accounting for Fees Paid in a Cloud Computing Arrangement

2015-06 Earnings Per Share (Topic 260): Effects on Historical Earnings per Unit of Master Limited Partnership Drawdown Transactions

2015-07 Fair Value Measurement (Topic 820): Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share

2015-09 Insurance: Disclosures about Short-Duration Contracts

2015-12 Plan Accounting: Defined Benefit Pension Plans

2015-16 Business Combinations (Topic 805): Simplifying the Accounting for Measurement-Period Adjustments

Effective Standards for Q1 2016 Calendar year public companies

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2015-02 – Consolidation (Topic 810)

• Reassessment for consolidation as a VIE for all legal entities

2015-03 & 2015-15 – Debt Issuance Costs

• Retrospective application – analysis to be performed on all debt outstanding at BS periods presented

SEC Comment Letter Trends and Hot Topics

New Accounting Guidance

Disclosure Effectiveness

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• SEC/FASB engaged in studies of disclosure effectiveness • To improve effectiveness of disclosures by clearly

communicating information most important to f/s users

• SEC is looking to eliminate duplicative disclosure and expand disclosure in areas that warrant additional information to meet investor needs

• SEC commented favorably on expanded use of tabular and visual disclosures as a common effective way to communicate financial information to investors

• September 2015 request for comment

Disclosure Effectiveness

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• Start now, if you haven’t already!

• Focus on material information and eliminate outdated or immaterial information

• Identify and eliminate duplicative information

• Focus on items important to investors

• Involve all relevant parties

Disclosure Effectiveness

Thank You

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Questions?

Lindsi Scanlan, Senior Manager

E: lscanlan@cfgi.com

T: (610) 613-7783

Contact Information

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Ryan Dolan, Managing Director

E: rdolan@cfgi.com

T: (978) 317-9398