OACUBO Professional Development Conference April 18, 2011 Ohio Northern University, Ada, Ohio

1. GAAP Update OACUBO Professional Development Conference April 18, 2011 Ohio Northern University, Ada, Ohio

2. Presenters David M. Andrews, CPA Partner Cleveland, Ohio 216.522.1191 david.andrews@mcgladrey.com Lori A. Kalic, CPA Director Cleveland, Ohio 216.522.1478 lori.kalic@mcgladrey.com

3. Agenda • What are the Standard Setters Up To? • Revisiting Recently Issued Standards • FASB • GASB • What is On the Horizon? • Other Standards • Q&A

4. What are the Standard Setters Up To? • International Convergence • Principle-based vs. Rule-based • Focus is on publically traded companies • Fallout is inevitable – we see it in proposed standards • Financial Accounting Foundation • Blue Ribbon Panel – Trustee Working Group • Made two key recommendations • GAAP should have exceptions and modifications for private companies • Exceptions should be determined by a separate private company accounting standards board • It did not recommend separate GAAP • Next step is for the TWG to perform assessment • FASB Not-for-Profit Advisory Panel • Codification

5. Revisiting Recently Issued Standards • Accounting Standards Update 2010-07 • “NFP Mergers and Acquisitions” • Accounting Standards Update 2009-12 • “Fair Value Measurements and Disclosures – Using NAV” • Accounting Standards Update 2010-06 • “Fair Value Measurements – Improving Disclosures and Measurements”

6. Accounting Standards Update 2010-07 “Not-for-Profit Entities: Mergers and Acquisitions” Issued April 2009 Formerly known as FAS 164 Effective for mergers on or after the beginning of the initial reporting period beginning on or after December 15, 2009 Effective for acquisitionsfor which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2009 Objective of the Statement is to improve relevance, representational faithfulness, and comparability of the information that an NFP entity provides in its financial reports about a combination with one or more NFPs, businesses, or nonprofit activities 5

7. Accounting Standards Update 2010-07 “Not-for-Profit Entities: Mergers and Acquisitions” • Established principles and requirements for how a NFP: • Determines whether a combination is a merger or an acquisition • Applies the carryover method in accounting for a merger • Applies the acquisition method in accounting for an acquisition, including determining which of the combining entities is the acquirer • Determines what information to disclose to enable users of financial statements to evaluate the nature and financial effects of a merger or acquisition 6

8. Accounting Standards Update 2010-07 “Not-for-Profit Entities: Mergers and Acquisitions” • Merger • Governing bodies of two or more NFPs cede control to form a NEW NFP entity • Carryover method used • Need not be a new legal entity • Acquisition • NFP acquirer obtains control of one or more nonprofit activities or businesses (SOP 94-3) 7

9. Accounting Standards Update 2010-07 “Not-for-Profit Entities: Mergers and Acquisitions” • Disclosures – Merger and Acquisitions • Very robust disclosures for both types of transactions and additional disclosures for “public entities” • Refer to the ASC when dealing with a merger or acquisition under the new rules 8

10. Accounting Standards Update 2009-12 “Investments in Certain Entities that Calculate Net Asset Value per Share” Issued in September 2009 – Effective periods ending after December 15, 2009 Guidance on how entities should estimate FV of certain alternative investments. If investments are within scope of the guidance – Net Asset Value (NAV) can be used as a practical expedient to determine FV if the NAV is as of the measurement date

11. Accounting Standards Update 2009-12 “Investments in Certain Entities that Calculate Net Asset Value per Share” • Investments within the scope: • There is no readily determinable FV • An entity that has the following attributes: • Primary activity is investing • Ownership is represented by units of ownership (i.e. partner interests or shares of stock) • The funds within the investment are pooled • The entity is a primary reporting entity • An investment that does not possess one or more of these attributes but it is industry practice to issue financials on FV basis

12. Accounting Standards Update 2009-12 “Investments in Certain Entities that Calculate Net Asset Value per Share” • ASU permits use of NAV as a practical expedient – Subject to any pending sales (on an investment by investment basis) • Expands disclosures “by major category” to include the following: • Nature of any redemption frequency and any restrictions • Unfunded commitments • Investment strategies of the investees ** The expanded disclosure is required for alternative investments regardless of whether NAV is used.

13. Accounting Standards Update 2009-12 “Investments in Certain Entities that Calculate Net Asset Value per Share” • Impact to Fair Value Disclosure • If entity can redeem investment at NAV on the measurement date – Level 2 • If entity can never redeem its investment at NAV – Level 3 • If redeemable at an unknown time in the future – Judgment is required

14. Accounting Standards Update 2010-06 “Fair Value Measurements and Disclosures” • ASU 2010-06 – issued in January 2010 • Topic 820 changes – “Improving Disclosures about Fair Value Measurements” • Effective for interim and annual periods beginning after December 15, 2009, except for: • The disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for interim and annual periods beginning after December 15, 2010. 13

15. Accounting Standards Update 2010-06 “Fair Value Measurements and Disclosures” • New Disclosures • Significant transfers in and out of Level 1, 2 and Level 3 should be separately disclosed as well as the reasons for the transfers • Transfers in should be separate from transfers out • Required to disclose policy about the timing of recognizing a transfers (i.e. beginning of period, end of period, or date of event creating the transfer) • For Level 3 activity, a reporting entity should present separately information about purchases, sales, issuances, and settlements on a gross (vs. net) basis. (Years beginning after 12/15/10) 14

16. Accounting Standards Update 2010-06 “Fair Value Measurements and Disclosures” • Existing Disclosures “Clarified” • Level of disaggregation for each “class” of assets and liabilities carried at fair value based on judgment • A reporting entity should provide disclosures about the valuation techniques and inputs used to measure fair value for both recurring and nonrecurring fair value measurements for Level 2 and 3 items • Conforming amendments for employers’ disclosures related to postretirement benefit plans 15

17. Accounting Standards Update 2010-06 “Fair Value Measurements and Disclosures” • Examples of Disaggregation • Equity securities by industry • i.e. real estate, healthcare, consumables • Debt securities by grade or type • i.e. commercial, residential, US treasury, corporate ratings • Hedge fund investments by position • i.e. long/short, global vs. domestic, distressed debt • Other important point • The fair value disclosure by class should reconcile back to the line items in the statement of financial position (balance sheet)

18. Example Disclosure

19. Accounting Standards Update 2010-06 “Fair Value Measurements and Disclosures” • Why? • To meet the needs of users of the statements • More transparency with disaggregated information • The reasons behind changes in Level 3 items (vs. net information that leaves them guessing) • Also feel information about transfers in and out of the Levels (1, 2, and 3) and the reasons for them would be “helpful” 18

20. Government Accounting Standard No. 51“Accounting and Financial Reporting for Intangible Assets” • Effective Date: For periods beginning after June 15, 2009 • Why? • Establish consistency in financial reporting derecognition, initial measurement, and amortization • Applicable to intangible assets, as defined in GASB 34 • Capitalization is required for eligible tangible assets i.e. identifiable • Specific guidance regarding internally generated computer software • Provides guidance surrounding amortization

21. Government Accounting Standard No. 53 “Accounting and Financial Reporting for Derivative Financial Instruments” Effective date: For periods beginning after June 15, 2009 Recognition, measurement and disclosure associated with derivative instruments Requires fair value reporting (limited exceptions) Investment derivative instruments vs. hedging derivative instruments

22. Government Accounting Standard No. 55“The Hierarchy of Generally Accepted Accounting Principles for State and Local Governments” Effective upon issuance Incorporate GAAP hierarchy into GASB authoritative literature Result: improve financial reporting Codification No real change to existing practice

23. Government Accounting Standard No. 56 “Codification of Accounting and Financial Reporting Guidance Contained in the AICPA Statements on Auditing Standards” • Effective upon issuance • Purpose: To incorporate into GASB literature financial reporting guidance surrounding: • Related party transactions • Going concern considerations • Subsequent events • Does NOT establish new standard but incorporates existing guidance

24. Government Accounting Standard No. 58“Accounting and Financial Reporting for Chapter 9 Bankruptcies” Effective date: For periods beginning after June 15, 2009. Retroactive application is required for all prior periods presented during which a government was in bankruptcy. Accounting and financial reporting guidance for governments that have petitioned for protection from creditors by filing for bankruptcy under Chapter 9 of the United States Bankruptcy Code. It requires governments to remeasure liabilities that are adjusted in bankruptcy when the bankruptcy court confirms (that is, approves) a new payment plan

25. What is On the Horizon? Leases (2nd Quarter 2011**) Revenue recognition (2nd Quarter 2011**) Financial Instruments (3rd Quarter 2011**) Fair Value Measurements (2nd Quarter 2011) Consolidation (2nd and 3rd Quarter 2011) Financial Statement Presentation (Undefined) ** FASB will issue amendments for comment prior to finalizing standards

26. Lease Accounting – Status FASB issued Proposed Accounting Standards Update for Leases (Topic 840) on August 17, 2010 Comment period expired on December 15, 2010 The proposed ASU has garnered much attention at this stage Insiders say it is a given that these changes are coming Most existing leases are not grandfathered Target date is Q2 – 2011 Effective date – yet to be determined – 2013/14? 25

27. Lease Accounting – General Provisions • With few exceptions, operating leases are going away. • “Right-of-use” model: • Lessee would recognize an asset for its “right to use” the underlying asset for the lease term and recognize a liability to make lease payments. • Lessor would recognize an asset representing its “right to receive” lease payments and depending on certain factors would either recognize a lease liability for its performance obligation, or derecognize the rights in the underlying assets that it transfers but continue to carry a residual asset at the end of the lease term. 26

28. Lease Accounting – Lessee Accounting • Initial measurement • Asset = PV of lease payments plus direct costs • Obligation = PV of lease payments discounted at lessee’s incremental borrowing rate • Subsequent measurement • Asset – amortized cost – straight line method • Obligation – amortized cost – effective interest method • Required to consider impairment • Assess carrying amount of liability as warranted

29. Lease Accounting – Lessor Accounting • Performance Obligation vs. Derecognition Approach • Performance Obligation- Lessor retains exposure to significant risks and benefits • Derecognition Approach – Lessor does not retain exposure • Asset = PV of lease payments plus direct costs • Obligation = PV of lease payments discounted at lessee’s incremental borrowing rate

30. Lease Accounting – Lessor Accounting • Performance Obligation • Initial measurement • Determine lease payment using expected outcomes approach • Discount using rate lessor charges the lessee • Include contingent/option payments (be conservative) • Subsequent measurement • Amortize asset – interest method • Amortize performance obligation – systematic approach

31. Lease Accounting – Lessor Accounting • Derecognition Approach • Initial measurement • Considered to have sold a right to use asset • Derecognize a portion of the underlying asset • Recognize an asset for the residual benefit not transferred • Recognize a lease receivable, revenue and COGS • Subsequent measurement • Residual asset is not remeasured unless lease term changes or becomes impaired • If lease term increases – residual asset will decrease and vice versa

32. Lease Accounting – General Provisions Lease term assumes the longest possible term that is more likely than not to occur (options) Expected outcome technique to reflect the lease payments including contingent rentals, term option penalties and residual guarantees Assets/liabilities updated in the period when there is a significant change to the relevant factors such that there is significant economic incentive to exercise or terminate the lease Service component of the lease excluded in evaluating the payments to be made 31

33. Lease Accounting – General Provisions • Simplified requirements for leases of 12 months or less • Enhanced disclosures around these assumptions • Biggest change to lease accounting in 34 years • Still considerable debate on the following: • Expense recognition pattern for lessees • Lease term and options • Contingent payments • Lessor accounting 32

34. Lease Accounting – Proposed Update(Cont.) • Discussion/Issues the Standard Creates • Obligation now in the financials vs. notes for operating leases • Bank covenant issues • Estimation process for lease term extensions, contingent rentals, effective interest rates, etc. • Adoption issues • Evaluation of impairment of the asset • Payments on the obligation will be reflected as financing activities in the SOCF. • Performance obligation vs. derecognition approach 33

35. Revenue Recognition • Objective is to provide one common revenue recognition policy (simplification) • 4 step model: • Identify contract • Identify performance obligations • Allocate transaction price • Recognize revenue as obligation is satisfied • Performance obligations would be separated from goods and services • Variable and contingent fees would be included in transaction price • Initial estimate of uncollectible amounts would reduce revenue • Allocation of transaction price to multiple performance obligations

36. Accounting for Financial Instruments and Revisions to the Accounting for Derivative Instruments • Requires organization to present amortized cost and FV about financial instruments held for collection or payment of cash flows • Exception if <50% of assets are measured at FV – Will not help higher education • Potential Impact to Higher Education • Loans receivable (amortized cost) • Debt • Split interest liabilities • Continues deliberation • Once effective – non publics with < $1B in assets will have additional 4 years to adopt

37. Accounting for Financial Instruments and Revisions to the Accounting for Derivative Instruments • Financial Instruments • Use of equity method would be restricted; otherwise equity investments would be carried at FV • Classification of financial assets based on business strategy • FV-NI – Fair Value, Net Income • Strategy is trading or holding for sale • FV-OCI – Fair Value, Other Comprehensive Income • Strategy is managing risk and maximizing total return • FV-AC – Fair Value, Amortized Cost • Strategy is collection of contractual cash flows • Reclassifications would be prohibited

38. Fair Value Measurements - Amendments • Objective is to clarify meaning of FV between international and GAAP standards • Clarify definitions related to measuring FV • Highest and best use and valuation premise • Measuring FV of an instrument in net assets • Measuring the FV of financial instruments in a portfolio • Application of blockage factors and other discounts and premiums in a FV measurement • Additional disclosures

39. Consolidation • Objective is to provide comprehensive guidance. • Basis for consolidation will be “control” • Power to direct the activities of another entity • Ability to benefit from that power • Power exists if ability to direct activities impacts the entities returns • Can also have contractual control (i.e. voting rights) • Investment companies are excluded

40. Financial Statement Presentation Operating, investing and financing for all statements Disaggregating information into material classes of useful information Direct method cash flow statement Substantial disclosure for remeasurements in the financials. Provide segment disclosures

41. Government Accounting Standards • Statement No. 59“Financial Instruments Omnibus” • Effective: Periods beginning after June 15, 2010 • Objective: Update and improve existing standards regarding financial reporting and disclosure requirements of certain financial instruments and external investment pools for which significant issues have been identified in practice

42. Government Accounting Standards • Statement No. 60“Accounting and Financial Reporting for Service Concession Arrangements” • Effective Date: Periods beginning after December 15, 2011 • Reporting service concession arrangements (SCA) i.e. an arrangement between a transferor (a government) and an operator (governmental or nongovernmental entity) in which • the transferor conveys to an operator the right and related obligation to provide services through the use of infrastructure or another public asset (a “facility”) in exchange for significant consideration and • the operator collects and is compensated by fees from third parties.

43. Government Accounting Standards • Statement No. 61“The Financial Reporting Entity: Omnibus—an amendment of GASB Statements No. 14 and No. 34” • Effective Date: Periods beginning after June 15, 2012 Earlier application is encouraged • Modifies certain requirements for inclusion of component units in the financial reporting entity

44. Government Accounting Standards • Statement No. 62“Codification of Accounting and Financial Reporting Guidance Contained in Pre-November 30, 1989 FASB and AICPA Pronouncements” • Effective Date: Periods beginning after December 15, 2011. • Established to incorporate into the GASB’s authoritative literature certain accounting and financial reporting guidance that is included in certain FASB and AICPA pronouncements issued on or before November 30, 1989, which does not conflict with or contradict GASB pronouncements.

45. Questions? 44