IFRS and GAAP Convergence Update Presented March 15, 2012 at Main Line Association for Continuing Education by Joel Wagoner, MBA, CPA, CMA, CFM Assistant

IFRS and GAAP Convergence Update

Presented March 15, 2012

at Main Line Association

for Continuing Education

by Joel Wagoner, MBA, CPA, CMA, CFM

Assistant Professor of Accounting

Arcadia University


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?


The potential conversion to IFRS has been a concern in the Accounting profession since the Securities and Exchange Commission first published their “roadmap” for conversion in 2008.


Few would disagree with the desirability of a single set of financial reporting standards and accounting principles.

The question: How do we go from our divergent sets of principles, GAAP and IFRS, to a single set of high-quality standards?


The FASB and IASB have been working towards the convergence of American and International standards since 2002.


Under a current Memorandum of Understanding (agreed to by both boards in 2006), the FASB and IASB will work together to ultimately resolve all significant differences between GAAP and IFRS.


The SEC released Publication 33-9109 in 2010, supporting “a single set of high-quality globally accepted accounting standards.”


Shortly afterward, the SEC published 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.)


The work plan “addresses [six] areas of concern that were highlighted by commenters” on the 2008 roadmap:

1 – Sufficient development and application of IFRS for the U. S. domestic reporting system;


2 – The independence of standard setting for the benefit of investors;


3 – Investor understanding and education regarding IFRS;


4 – Examination of the U. S. regulatory environment that would be affected by a change in accounting standards;


5 – The impact on issuers, both large and small, including changes to accounting systems, changes to contractual arrangements, corporate governance considerations, and litigation contingencies;


6 – Human capital readiness.


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 making towards the convergence of American Generally Accepted Accounting Principles (GAAP) and IFRS.


The two boards responded to the progress report by establishing an ambitious agenda for 2011. As time allows, later in this presentation we will review the current status of the items on their agenda.


Five weeks later, on December 6, 2010, SEC Deputy Chief Accountant Paul Beswick suggested a different approach in an address to the AICPA National Conference on Current SEC and PCAOB Developments: “Condorsement”.


Paul Beswick: “U. S. GAAP would continue to exist. The IASB and the FASB would finish the major projects in their MOU (Memorandum of Understanding). The FASB would not begin work on any major new projects in the normal course.”


“Rather, a new set of priorities would be established where the FASB would work to converge existing U. S. GAAP to IFRS over a period of time for standards that are not on the IASB’s agenda.”


“This is not meant to be an MOU2 but rather would entail making sure that, on a standard by standard basis, existing IFRS standards are suitable for our capital markets.”


“At the same time, the FASB would have a process where they would consider new standards issued by the IASB for incorporation into U. S. GAAP and then integrate such standards into the U. S. codification.”


Six months after Mr. Beswick’s speech, on May 26, 2011, the SEC issued a work plan “Exploring a Possible Method of Incorporation” in which they further explained the concept of “condorsement”.


“Condorsement” is a combination of the words “convergence” and “endorsement”.


“Convergence” is described as when “jurisdictions maintain their local standards but make efforts to converge those bodies of standards with IFRS over time.”


“Endorsement” is when “jurisdictions incorporate individual IFRS’s into their local body of standards. . .The degree of deviation from IFRS as issued by the IASB can vary under this approach.”


“Condorsement” would be an approach in which the FASB “would facilitate the transition process (to IFRS) over some defined period of time (e.g., five to seven years).”


“At the end of this period, the objective would be that a U. S. issuer compliant with U. S. GAAP should also be able to represent that it is compliant with IFRS. . .”


“Incorporation of IFRS. . .would have the objective of achieving the goal of having a single set of high-quality, globally accepted accounting standards, while doing so in a practical manner that could minimize both the cost and effort needed to incorporate IFRS. . .”


“For the endorsement part of the framework, the FASB would continue to participate in the development and improvement of accounting standards. . .”


“However, the manner of participation. . .would differ considerably from the FASB’s current standard-setting role. . .”


“. . .[T]he FASB would participate in the process for developing IFRS, rather than serving as the principal body responsible for developing new accounting standards or modifying existing standards under U. S. GAAP.”


“The FASB would play an instrumental role in global standard setting by providing input and support to the IASB in developing. . .standards; by advancing the consideration of U.S. perspectives in those standards; and by incorporating those standards, by way of an endorsement process, into U.S. GAAP.”


“The FASB would continue to promulgate U.S. GAAP primarily through its endorsement of standards promulgated by the IASB.”


“[D]ue to the FASB’s participation in the IASB’s standard setting process, the FASB should be in a position to readily endorse (i.e., incorporate directly into U.S. GAAP) the vast majority of the IASB’s modifications to IFRS.”


“However, the FASB would retain the authority to modify or add to the requirements of the IFRSs incorporated into U.S. GAAP. . .”


“If IFRS is incorporated into the U.S. financial reporting system, the Commission (SEC) would maintain its oversight over the FASB. . .”


The SEC emphasizes that the work plan describing “Condorsement” “is not intended to suggest that the Commission has determined to incorporate IFRS or that the discussed framework is the preferred approach or would be the only possible approach.”


Here is a brief status update of the joint projects that the FASB and IASB have been collaborating on under the Memorandum of Understanding.

Statement of Comprehensive Income

The FASB published Accounting Standards Update 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income in June, 2011.

Statement of Comprehensive Income

Net income and comprehensive income must either be presented on the same report, or on consecutive reports.

Fair Value Measurement

The FASB published Accounting Standards Update 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value measurement and Disclosure Requirements in U. S. GAAP and IFRSs.


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


The amendments in ASU 2011-04 “explain how to measure fair value. They do not require additional fair value measurements and are not intended to establish valuation standards or affect valuation practices outside of financial reporting.”


“The Board (FASB) does not intend for the amendments in this Update to result in a change in the application of the requirements in Topic 820.”

Revenue Recognition

On November 14, 2011, the FASB reissued a Proposed Accounting Standards Update (what we used to call an “exposure draft”) on Revenue Recognition (Codification Database Topic 605.)

Revenue Recognition

The FASB and IASB had received almost 1,000 comments in response to an earlier version of the Proposed Accounting Standards Update (Exposure Draft).

The earlier version had been released in June, 2010.

Revenue Recognition

“[R]evenue recognition requirements in. . .GAAP differ from those in. . .[IFRS], and both sets of requirements are considered to be in need of improvement.”

Revenue Recognition

GAAP “comprises broad revenue recognition concepts and numerous requirements for particular industries or transactions that can result in different accounting for economically similar transactions.”

Revenue Recognition

“Although IFRSs provide less guidance on revenue recognition, the two main revenue recognition standards, IAS 18, Revenue, and IAS 11, Construction Contracts, can be difficult to understand and apply to transactions beyond simple.”

Revenue Recognition

The objective of the Revenue Recognition project is to “clarify the principles for recognizing revenue and to develop a common revenue standard for U. S. GAAP and IFRSs that would:

Revenue Recognition

(a) remove inconsistencies and weaknesses in existing revenue recognition standards and practices;

Revenue Recognition

(b) provide a more robust framework for addressing revenue recognition issues;

Revenue Recognition

(c) Improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets; and

Revenue Recognition

(d) Simplify the preparation of financial statements by reducing the number of requirements to which entities must refer.”

Revenue Recognition

The core principle underlying the project is that “an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.”

Revenue Recognition

An entity accomplishes this through a five-step procedure:

Revenue Recognition

1 – Identify the contract with a customer.

Revenue Recognition

2 – Identify the separate performance obligations in the contract.

Revenue Recognition

3 - Determine the transaction price.

In doing this, we must consider the effects of each of the following:

Revenue Recognition

a - Variable consideration: “If the promised amount of consideration in a contract is variable, an entity would estimate the transaction price by using either the expected value. . .or the most likely amount, depending on which method the entity expects to better predict the amount of consideration to which it will be entitled”;

Revenue Recognition

b - The time value of money;

Revenue Recognition

c: Non-cash consideration;

Revenue Recognition

d: Consideration payable to the customer: “If an entity pays, or expects to pay, consideration to a customer. . .in the form of cash, credit, or other items that the customer can apply against amounts owed. . .the entity would account for the consideration payable. . .as a reduction of the transaction price unless the payment is in exchange for a distinct good or service.”

Revenue Recognition

4: Allocate the transaction price to the separate performance obligations in the contract.

Revenue Recognition

5 – Recognize revenue when (or as) the entity satisfies a performance obligation – by transferring a promised service or good to a customer.

Revenue Recognition

A performance obligation is satisfied – control of a good or service has been transferred – when one of two criteria have been met:

Revenue Recognition

1 – The entity’s performance creates or enhances an asset that the customer controls as the asset is created or enhanced;

Revenue Recognition

2 – The entity’s performance does not create an asset with an alternative use to the entity and at least one of the following criteria is met:

Revenue Recognition

a – The customer simultaneously receives and consumes the benefits of the entity’s performance as the entity performs;

Revenue Recognition

b – Another entity would not need to substantially reperform the work the entity has completed to date if that other entity were to fulfill the remaining obligation to the customer;

Revenue Recognition

c – The entity has a right to payment for performance completed to date and it expects to fulfill the contract as promised.

Revenue Recognition

The amount of revenue recognized as a performance obligation is met is allocated based on the proportion of revenue that will ultimately be realized from the contract.

Revenue Recognition

If the amount of revenue that an entity will recognize from a contract is variable, the cumulative amount that it would recognize at any time “would not exceed the amount to which it is reasonably assured to be entitled.”

Revenue Recognition

If an entity has an “onerous performance obligation” (“the lowest cost of settling the performance obligation exceeds the amount of the transaction price allocated to that performance obligation”), it would “recognize a liability and a corresponding expense.”

Revenue Recognition

This Accounting Standards Update will not be effective before January 15, 2015 at the earliest. Early application will not be permitted.

Balance Sheet - Offsetting

The FASB issued ASU 2011-11 this past December to address differences in disclosures related to offsetting assets and liabilities on the balance sheet.


ASU 2011-11 is intended to “enhance disclosures and provide converged disclosures about financial instruments and derivative instruments that are either offset on the statement of financial position or subject to an enforceable master netting arrangement or similar agreement, irrespective of whether they are offset on the statement of financial position.”


ASU 2011-11 requires entities “to provide both net and gross information for these assets and liabilities in order to enhance comparability between those entities that prepare their financial statements on the basis of U.S. GAAP and those entities that prepare their financial statements on the basis of IFRS.”

Consolidation: Policy and Procedures

The FASB issued a proposed Accounting Standards Update on November 3. Comments were accepted through January 17, 2012.


FASB Statement 167 (Codification Topic 810) requires an entity to “perform a qualitative evaluation of its power and economics to determine whether it should consolidate a variable interest entity.”


Accounting Standards Update 2010-10, issued in February, 2010, had indefinitely deferred the effective date of the consolidation requirements for certain entities. The proposed ASU rescinds this deferral and requires “all variable interest entities to be evaluated for consolidation.”

Consolidation: Investment Companies

The FASB published a Proposed Accounting Standards Update on consolidating investment companies on October 21, 2011. The comment period for this proposed ASU ran through January 5, 2012.

Consolidation: Investment Companies

“Investment companies carry all of their investments in operating entities at fair value, even if they hold a controlling financial interest in the investee. Therefore, the Boards agreed that, as part of the development of a consolidation standard, they would look to develop consistent criteria for determining whether an entity is an investment company.”

Financial Instruments

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


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


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.


On May 26, 2010, the FASB issued one comprehensive proposed Accounting Standards Update, Accounting for Financial Instruments and Revisions to the Accounting for Derivative Instruments and Hedging Activities (proposed Update), which addresses the measurement, classification, and impairment of financial instruments, as well as hedge accounting.


On January 31, 2011, 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.


“The Boards continue to develop a comprehensive model for accounting for financial instruments, including hedge accounting. The Boards plan to deliberate certain issues relevant to this project separately and then meet subsequently to reconcile differences in their technical decisions.”

Leases

Professor John Fusco will present coverage of the proposed changes to lease accounting.

Insurance Contracts

This project is in the early stages. The FASB issued a discussion paper in September, 2010, and expects to issue a proposed Accounting Standards Update during the first half of 2012.

Insurance Contracts

It should be noted that there is an extensive body of GAAP concerning Insurance Accounting, but relatively little IFRS has been developed.

Conceptual Framework

Other than the Revenue Recognition project that we discussed earlier, this has been “reassessed as a lower priority project. Further action is not expected in the near term.”

Documents

IFRS and GAAP Convergence Update Presented March 15, 2012 at Main Line Association for Continuing Education by Joel Wagoner, MBA, CPA, CMA, CFM Assistant