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IFRS, IFRS,
Convergence, and ChangeConvergence, and Change
Richard DinkelController, Koch Industries, Inc.Member of FASAC v. 1.2
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DisclaimerDisclaimer
The views expressed in this presentation are my own and do not represent positions of the Financial Accounting Standards Advisory Council or the Financial Accounting Standards Board.
Positions of the FASB are arrived at only after extensive due process and deliberation.
IFRS TimelineIFRS Timeline
2007- SEC eliminates US GAAP reconciliation for IFRS filers
2007- SEC concept release on use of IFRS for US registrants
2008- SEC issues proposed “Roadmap” for adoption of IFRS in the US. Shortly after the financial crisis hits.
2009- Mary Schapiro stated during confirmation hearings that she would not be prepared to delegate standard setting to the IASB.
2010- SEC reaffirms support for single set of high quality standards. MoU projects are the best path to get there.
Convergence Convergence and Improvementand Improvement
FASB and IASB working since 2002 to improve and converge U.S. GAAP and IFRS.
Memorandum of Understanding (MoU) 2006, 2008 (updated), 2009 (reaffirmed) Identified 9 major accounting areas needing
improvement in both U.S. GAAP and IFRS Completed Business Combinations project in
2007 by issuing FAS 141(R) and 160, and IFRS 3 Remainder of projects are still ongoing
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Overall Goal of ConvergenceOverall Goal of Convergence
Improved, high-quality, converged standards developed through rigorous
due process
Priorities:1. Independence 2. Improvement3. Convergence
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Drivers for Timing of ConvergenceDrivers for Timing of Convergence and Improvement Efforts and Improvement Efforts
Financial Crisis underscored importance of global convergence of standards but has also delayed some efforts
G-20 has called for FASB/ IASB to “redouble their efforts” to complete their MoU projects by June 2011
SEC reaffirmed in February its commitment to the goal of a single set of high-qulity global accounting standards and convergence of IFRS and US GAAP.
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Drivers for Timing of Convergence Drivers for Timing of Convergence and Improvement Effortsand Improvement Efforts
The June 2011 date also is being driven by the IASB because of: Countries, including Brazil, Canada, India,
and Korea, that have announced plans or intentions to adopt IFRS for their listed companies on or around 2011 or 2012. These countries want improved and “steady” standards upon adoption.
Terms ending for IASB chair Sir David Tweedie and two other IASB board members in mid-2011.
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Current Status of Current Status of Deliberations & ImplicationsDeliberations & Implications
Five major projects generally on track toward convergence: Fair Value Measurement Consolidations Revenue Recognition Financial Statement Presentation Financial Instruments with Characteristics
of Equity
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Current Status of Current Status of Deliberations & ImplicationsDeliberations & Implications
Three major projects not on track toward convergence: Financial Instruments Insurance Leases
Further deliberations required Target timelines for final standards could
be in jeopardy Method of implementation still uncertain
(i.e., big bang or staggered)
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FASB/IASB ProjectFASB/IASB ProjectTarget DatesTarget Dates
Project Exposure Draft Final Statement
Financial Instruments May 2010 March 2011
Fair Value Measurement
May 2010 October 2010
Consolidations May 2010 January 2011
Revenue Recognition May 2010 June 2011
Financial Statement Presentation
May 2010 June 2011
Financial Instruments with Characteristics of Equity
June 2010 June 2011
Insurance June 2010 June 2011
Leases June 2010 June 2011
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Current Status of Current Status of Deliberations & ImplicationsDeliberations & Implications
This intense level of standard setting is unprecedented
FASB has issued, at most, 4 major standards in one year, and no more than 3 exposure documents proposing significant changes
IASB has only issued 9 major standards in its 9-year history.
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Current Status of Current Status of Deliberations & ImplicationsDeliberations & Implications
Volume and timing of MOU projects Challenges ability of constituents to provide
quality input to due process Reactions from SEC, CFA Institute, FEI, ITAC and
others: Improvement is primary, speed is secondary.
Challenges preparers’ ability to implement final standards and users’ ability to analyze new financial reports
Joint Invitation to Comment to be issued by both Boards to seek input from constituents regarding effective dates and transition approaches
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Similar but Different Board DynamicsSimilar but Different Board Dynamics
Finan cial Ac coun ting Fou nda tion
FAF [16 Trustees]
Fin anci al A ccou nti ng Sta ndar ds Advi sor y
Co uncil FA SAC
Emerging Issues
Task Force EITF
Fin anci al A ccou nti ng Sta ndar ds Board
FASB [5 Board Members]
Inter nati ona l Ac coun ting St and ards Com mitt ee F oun dati on
IAS CF [22 Trustees]
Sta ndar ds Advi sor y Co unci l SAC
International Fin anci al Repo rtin g Inte rpr etations
Comm ittee
IFRIC
International Accounting Standards Boar d
IASB [14 Board Members]
Key Issues Legislative Funding Political
Convergence: Convergence: One Final Key PointOne Final Key Point
If FASB/IASB achieve convergence on all of these major projects U.S. GAAP and IFRS will not be completely
converged. Point raised in February 2010 SEC statement
Full IFRS adoption still uncertain More urgent priorities Costs of full adoption are high Mixed support from regulators Unresolved reporting issues Political pressures and Independence Blue Ribbon Panel on private company reporting
Even if converged, how will we stay that way?
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MoU ProjectsMoU Projects
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Financial InstrumentsFinancial Instruments
Problems: Complexities and inconsistencies within and
between U.S. GAAP and IFRS, on: Classification and measurement, Impairment Hedge accounting
In U.S., different impairment approaches for debt securities and loans especially problematic
Financial Crisis pointed to untimely recognition of credit impairment of loans held for collection by financial institutions
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Financial InstrumentsFinancial Instruments
Proposed Solution: Fewer/ simpler classification and
measurement approaches Two “buckets”: FVNI (mandatory for derivatives
and trading instruments; default for other items) and FV/OCI (optional, based on business model, for other assets and liabilities, such as many loans and core deposits).
Fair value information on the balance sheet for most financial instruments
Exceptions: short-term trade receivables and payables; in certain circumstances, own debt
Amortized cost information also reported for FV/OCI items
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Financial InstrumentsFinancial Instruments
Proposed Solution (cont’d): Income statement puts non-credit-related FV
changes of FV/OCI assets in OCI, rather than Net Income
Consistent with approach taken in FSP FAS 115-2 and 124-2
Improvements to impairment accounting, to develop single overall approach applicable to debt securities as well as loans
Equity method accounting changes Simplified criterion to qualify for hedge
accounting, leading to more consistent and transparent application
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Financial InstrumentsFinancial Instruments
Companies Affected: All; greater effect on financial institutions
Challenges to Convergence: IASB currently has reached different
conclusions in their proposed model, highlighted in table on following slide. May or may not be able to reconcile these differences
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Financial InstrumentsFinancial Instruments
Area FASB IASBMain Classification Categories
Fair value through net income
Fair value through other comprehensive income (FV-OCI)
Fair value through net income
Amortized cost
Credit Impairment Based on past events and existing conditions and their implications for the collectibility of the financial asset(s)
Recognized in net income
Impairment recognized based on expected credit losses over the life of the financial asset
Recognized in net income
Hedge Accounting Bifurcation by risk allowed for financial items
Qualitative assessments required at inception (quantitative may be necessary)
Reasonably effective threshold
Currently deliberating issues with a plan to issue and exposure draft in the second half of 2010
Fair Value MeasurementFair Value Measurement
Problem: US GAAP and IFRS not yet converged; FASB took
the lead on improving this area a few years ago with Statement 157
Statement 157: how to (not when to) measure fair value
The IASB exposed Statement 157 with some fairly minor suggested modifications
Both FASB and IASB have since issued additional guidance in this area in response to Financial Crisis
Proposed Solution: One global definition of fair value and approach
to measurement and disclosure of fair value
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Fair Value MeasurementFair Value Measurement
Companies Affected: All, with greater effect on financial
institutions; overall, will cause relatively insignificant changes when compared to current U.S. GAAP
Challenges to Convergence: No significant differences regarding how
to measure fair value More significant differences relate to
when to use fair value (see Financial Instruments Project)
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Consolidations Consolidations
Problems: Inconsistent guidance between U.S. GAAP and
IFRS, especially on consolidation of variable interests (securitizations/ structured entities)
Consolidation requirements for voting interests can lead to non-economically-representative consolidation decisions, in certain situations:
Effective control rather than contractual control Options, convertible instruments, agency
relationships
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Consolidations Consolidations
Proposed Solution: Overall consolidation standard for both variable
interest and voting interest entities identifying the party, if any, with power over and benefits from the key economic activities of the entity
Will result in fewer activities off-balance sheet FASB already tightened de-recognition and
consolidation guidance for variable interests (VIEs), through FAS 166 and 167, bringing it closer to IFRS and setting stage for convergence
Companies Affected: All
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ConsolidationsConsolidations
Challenges to Convergence: Potential differences between Boards
about how to evaluate effective control of voting interest entities (IASB: ability to control concept vs. FASB: ability to control with historical evidence view)
Banks fought recent changes to U.S. GAAP (SFAS 166 and 167), but bank regulators eased transition by phasing-in recognition for regulatory capital purposes
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Revenue RecognitionRevenue Recognition
Problems: U.S. GAAP: in 200+ standards (now codified),
inconsistent, developed piecemeal IFRS: very limited guidance, permitting
“anything goes application” or need look to U.S. GAAP to apply IFRS
Proposed Solution: Common principle, based on satisfaction of
performance obligations, that can be applied consistently across various industries and transactions and better reflect the underlying economics of revenue transactions
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Revenue RecognitionRevenue Recognition
Companies Affected: All, but greatest effect on software and
construction companies
Challenges to Convergence: Nothing significant between the Boards
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Financial Statement Financial Statement PresentationPresentation
Problem: The ability of users to predict cash flows
associated with a company would be enhanced greatly if the basic financial statements (balance sheet, income statement, cash flow statement) related to each other more cohesively and presented more disaggregated information
Proposed Solution: A consistent format across statements,
classifying items into business and financing categories, with a further disaggregation of business into operating and investing activities
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Financial Statement Financial Statement PresentationPresentation
Proposed Solution (cont’d): Required use of the direct method for
presentation of operating cash flows Income statement to include full comprehensive
income (possibly a separate ED) Disaggregation of reported items by function
and nature to facilitate prediction of cash flows Every balance sheet line item will require a full
rollforward for cash in, cash out, non cash items, accruals/provisions, and remeasurement of FV.
Potentially the same level of financial statement presentation at the Segment level.
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Financial Statement Financial Statement PresentationPresentation
Statement of Statement of financial financial positionposition
Statement of Statement of comprehensivecomprehensive incomeincome
Statement ofStatement ofcash flowscash flows
DIRECTDIRECT
Business Operating assets and liabilities Investing assets and liabilities
Business Operating income and expenses Investing income and expenses
Business Operating cash flows Investing cash flows
Financing Financing assets Financing liabilities
Financing Financing asset income Financing liability expenses
Financing Financing asset cash flows Financing liability cash flows
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Financial Statement Financial Statement PresentationPresentation
Companies Affected: All business entities (not-for-profit entities
have been scoped out)
Challenges to Convergence: Differences in approaches by Boards for
disaggregating expenses by nature FASB: in segment note (full reporting by segments) IASB: at consolidated level in notes,
Preparers have expressed concerns about implementation costs, especially about direct method for presenting operating cash flows and segment level information
Financial Instruments with Financial Instruments with Characteristics of EquityCharacteristics of Equity
Problem: Inconsistent classification and measurement of
hybrid financial liabilities with similar characteristics; vast rules-based literature (especially in U.S.) leading to structuring opportunities
Proposed Solution: Replace complex inconsistent literature with one
set of coherent classification requirements that define equity based on two principles
Ownership of the entity Settlement with a specified number of ownership
instruments
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Financial Instruments with Financial Instruments with Characteristics of EquityCharacteristics of Equity
Companies Affected: All companies
Challenges to Convergence: Nothing significant between the Boards
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InsuranceInsurance
Problems: Lack of a standard in IFRS for insurance
contracts U.S. guidance is unique and industry-specific Industry practice of excessive deferrals of
contract acquisition costs
Proposed Solution: Common, high-quality standard for recognition,
measurement, presentation, and disclosure of insurance contracts, with contract acquisition costs expensed when occurred (similar to what is done for regulatory purposes)
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InsuranceInsurance
Companies Affected: Insurance companies
Challenges to Convergence: The Boards have tentatively reached different
conclusions on numerous fundamental issues Definition of insurance, measurement of liability,
unbundling of contracts, accounting for acquisition costs and participating contracts
U.S. insurance industry generally has different views about the model than other major global insurers
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LeasesLeases
Problems: Off-balance sheet presentation of leased assets
and related financing A bright-line distinction, especially in U.S.
GAAP (FAS13), between on- and off-balance sheet transactions, leading to structuring opportunities
Proposed Solution: For lessees, lease obligations recognized on
balance sheet as liabilities, along with a corresponding asset (using a “right to use” approach)
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LeasesLeases
Proposed Solution (cont’d): Also looking at lessor accounting, to
achieve consistency with model in Revenue Recognition Project
Companies Affected: All; key industries affected include
retailers, banks, big equipment lessees
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LeasesLeases
Challenges to Convergence: Differences between the Boards on
approach to lessor accounting: FASB: performance obligation approach, which
recognizes revenue over lease term. IASB: de-recognition approach that results in
more up-front revenue
Significant work required for initial assessment and ongoing assessment.
Resistance from leasing industry and industries that engage in significant operating leases.
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ConclusionsConclusions
Proposed changes are unprecedented (accounting change, system costs, resource requirements, training, audit, etc.)
FASB objectives are independence, improvement, and convergence—in that order
Politics will be impactful Although multiple ED’s will hit within a few
months, due process is crucial. Careful assessment and implications to your business
are critical. Provide feedback (roundtables, comment letters, etc.)
Begin planning now
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Questions?
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