IFRS and GAAP Convergence Update

1. IFRS and GAAP Convergence Update Presented May 25, 2011 at Penn State University Cooperative Extension, Doylestown, PA by Joel Wagoner, MBA, CPA, CMA, CFM Assistant Professor of Business Administration Arcadia University

2. IFRS and GAAP Convergence Update Questions: Is the SEC going to require us to use IFRS? If so, when? Why aren’t we hearing as much about this as we did a few years ago? Are we going to have to learn IFRS? What will become of the FASB if we adopt IFRS?

3. IFRS and GAAP Convergence Update Last year, the SEC established a work plan to determine whether to require American publicly traded corporations to present their financial statements in accordance with International Financial Reporting Standards (IFRS.)

4. IFRS and GAAP Convergence Update In a progress report dated October 29, 2010, the SEC stated that a decision on whether or not to require IFRS in America would depend in part on the progress that the Financial Accounting Standards Board (FASB) and International Accounting Standards Board (IASB) are marking towards the convergence of American Generally Accepted Accounting Principles (GAAP) and IFRS.

5. IFRS and GAAP Convergence Update The FASB and IASB have been working towards the convergence of American and International standards since 2002.

6. IFRS and GAAP Convergence Update The two boards have an ambitious agenda for 2011. Here is the status of the items on their agenda:

7. Statement of Comprehensive Income The FASB and IASB expect to issue a final pronouncement this summer.

8. Statement of Comprehensive Income What to expect: Net income and comprehensive income will either be presented on the same report, or on consecutive reports.

9. Statement of Comprehensive Income This will likely be effective by the end of this calendar year.

10. Statement of Comprehensive Income The boards recognize that there will remain differences in what constitutes “other comprehensive income” between GAAP and IFRS.

11. Statement of Comprehensive Income There will also be differences in the timing of reclassifications between other comprehensive income and net income.

12. Fair Value Measurement The FASB and IASB expect to issue a final pronouncement this summer.

13. Fair Value Measurement The two boards seek to “ensure that fair value has the same meaning” in GAAP as in IFRS, “other than minor necessary differences in wording or style.”

14. Fair Value Measurement What to expect: For the most part, the tentative decisions that the FASB and IASB have made clarify, but do not change, GAAP.

15. Fair Value Measurement “The boards tentatively decided that an entity may apply the guidance on measuring the fair value of liabilities when measuring the fair value of its own equity instruments.”

16. Fair Value Measurement “. . .[T]he objective of measuring the fair value of a liability or an entity’s own equity instrument is to estimate an exit price from the perspective of a market participant who holds the corresponding asset at the measurement date, regardless of whether that asset is traded”

17. Fair Value Measurement What this means: The fair value of a company’s debt or equity is what the owner of the company’s bonds or stock would be able to sell them for in an open market.

18. Fair Value Measurement “An entity may measure the fair value of financial instruments that are managed on the basis of the entity’s net exposure to a particular market risk, or to the credit risk of a particular counterparty, on a net basis if there is evidence that the entity manages its financial instruments in this way.”

19. Fair Value Measurement The evidence can include a documented risk management or investment strategy, or “providing information about the entity’s net risk exposure resulting from the financial instruments to management.”

20. Fair Value Measurement The entity may only measure the fair value of the instruments this way if the instruments are measured at fair value on the balance sheet, and if the entity has a policy to measure the instruments consistently from period to period. The policy must be disclosed.

21. Fair Value Measurement “When measuring the fair value of. . .financial instruments on the basis of. . .net risk exposure, the objective is to estimate an exit price from the perspective of a market participant who holds that net risk position at the measurement date.”

22. Fair Value Measurement The Boards have “tentatively decided that the requirements for measuring the fair value of a liability issued with an inseparable third-party credit enhancement: (1) [o]nly apply to guarantees purchased by the issuer of the liability; and (2) [d]o not apply to liabilities guaranteed by other entities within the consolidated or combined group.”

23. Fair Value Measurement “[W]hen measuring the fair value of an asset of liability when a Level 1 input is not available, an entity may apply discounts and premiums only if those discounts or premiums are consistent with the unit of account specified in another standard and if market participants would take into account such discounts or premiums when pricing the asset or liability.”

24. Fair Value Measurement The Boards have “tentatively decided not to permit exceptions for nonpublic entities to the fair value principles and concepts applicable to the measurement of fair value. . .”

25. Balance Sheet - Offsetting The FASB issued an exposure draft on January 28 of this year. Comments were accepted through April 28.

26. Balance Sheet - Offsetting The FASB and IASB issued exposure drafts on January 28 of this year. Comments were accepted through April 28. The two boards expect to issue a final pronouncement by the end of this year.

27. Balance Sheet - Offsetting What to expect: A requirement to offset assets and liabilities when an entity “has an unconditional and legally enforceable right of setoff and intends either to settle the asset and liability on a net basis or to realize the asset and settle the liability simultaneously.”

28. Balance Sheet - Offsetting The right to setoff must be legally enforceable “in all circumstances” and not contingent on a future event.

29. Consolidation: Policy and Procedures The FASB and IASB intend to issue an exposure draft in the near future and a final pronouncement by the end of this year.

30. Consolidation: Policy and Procedures What you can expect: The FASB and IASB have tentatively decided to reverse an earlier decision and will “allow a general partner to consider its economics (fees and other interests) when evaluating whether it should consolidate a partnership.”

31. Consolidation: Policy and Procedures The boards had earlier decided “to conform only how kick-out rights and participating rights affect the consolidation analysis of a partnership to the proposed for evaluating whether a decision maker of a variable interest entity is an agent or a principal.”

32. Consolidation: Policy and Procedures The boards have also tentatively decided “to replace the existing rebuttable presumption of control in (Codification Database) Subtopic 810-20 with a presumption that the general partner has power (but not control) over the partnership.”

33. Consolidation: Policy and Procedures The two boards have also tentatively decided the following requirements for reporting entities that must consolidate a previously nonconsolidated affiliate:

34. Consolidation: Policy and Procedures “[Record] the assets, liabilities, and noncontrolling interests of the subsidiary as if the newly issued guidance had been effective at the time the entity first met the conditions for consolidation.”

35. Consolidation: Policy and Procedures “If it is not practicable for the reporting entity to determine the carrying amounts, it would measure the assets, liabilities, and noncontrolling interests of the subsidiary at their fair value at the date the newly issued requirements first apply…A reporting entity may elect the fair value in transition, as long as that option is elected for all of the subsidiary’s eligible financial assets and financial liabilities.”

36. Consolidation: Investment Companies The FASB and IASB intend to issue an exposure draft in the near future and a final pronouncement by the end of this year. The two boards have not met to discuss this topic since October, 2010.

37. Consolidation: Investment Companies The FASB and IASB have decided that the current GAAP treatment (Topic 946 in the Codification Database) will be used as the basis for “developing the attributes of an investment company.”

38. Consolidation: Investment Companies Tentatively, an investment company is an entity that meets all of the following criteria: 1 – Its express business purpose is “investing for current income, capital appreciation, or both.” 2 – It has “identified potential exit strategies and a defined time (or range of dates) at which it expects to exit the investment.”

39. Consolidation: Investment Companies 3 – All of its activities are “carried out for the purposes of generating current income, capital appreciation, or both. The entity and its affiliates shall not obtain benefits from its investees that would be unavailable to other investors or unrelated parties of the investee.” 4 – Ownership is represented by units of investments (shares).

40. Consolidation: Investment Companies 5 – The funds of the owners are pooled to avail owners of professional investment management. 6 – All of the investments are managed and evaluated on a fair value basis.

41. Consolidation: Investment Companies 7 – The entity must be a reporting entity. 8 – Any “providers of debt to the investees of the entity shall not have direct recourse to any of the entity’s other investees.”

42. Consolidation: Investment Companies The FASB has tentatively decided that an investment company must measure all of its investments at fair value. The IASB has tentatively decided that an investment company must measure investments in entities that it controls at fair value through profit or loss.

43. Consolidation: Investment Companies There is currently a disagreement between the FASB and IASB over whether a non-investment company that is a parent of an investment company subsidiary should retain the fair value accounting that is applied by a subsidiary.

44. Discontinued Operations The FASB and IASB intend to issue an exposure draft in the near future and a final pronouncement by the end of this year. However, there have been no meetings to discuss the topic since February, 2010.

45. Discontinued Operations The current discussion would have little effect on the reporting of discontinued operations other than increasing the required disclosures.

46. Financial Instruments The FASB and IASB hope to increase the usefulness and simplify the accounting requirements for financial instruments.

47. Financial Instruments “Although the project objective is comprehensive, it is also the Boards’ objective that the project should be completed expeditiously.”

48. Financial Instruments Three specific goals of this project are: 1 – Reconsider the recognition and measurement of financial instruments; 2 – Address issues related to impairment of financial instruments and hedge accounting; 3 – Increase convergence in accounting for financial instruments.

49. Financial Instruments On January 31, the FASB and IASB also issued a supplementary document, Accounting for Financial Instruments and Revisions to the Accounting for Derivative Instruments for Hedging Activities – Impairment.

50. Financial Instruments The two Boards have tentatively decided the following: