U.S. GAAP & IFRS Convergence Update – February 16, 2012

1. U.S. GAAP & IFRS Convergence Update – February 16, 2012 Presented by Keith Novak Keith.novak@cliftonlarsonallen.com

2. Goal To create a single set of international accounting standards companies worldwide will use for both domestic and cross-border financial reporting What is international convergence?

3. IFRS - 123 of 195 Countries Permit/Require Permit or Require Working on Adoption Source of information (adapted from): www.iasplus.com

4. General Convergence Concept • US standards for the most part are rules based • Specific rules to determine appropriate accounting • Example – Operating vs. Capital lease accounting, rigid test • International standards for the most part are principles based • Facts and circumstances based on guidelines • Convergence is tasked with bringing the two together into one

5. Not Just Accounting Standards • SSAE 16 – Reporting on Controls at a Service Organization (formerly SAS70) • Correlates to IASE 3402

6. Specific convergence issues • The Players: • FASB = Financial Accounting Standards Board • Under Financial Accounting Foundation (FAF) sets US GAAP for all companies • IASB = International Accounting Standards Board • Sets IFRS (International Financial Reporting Standards) • In 2006, FASB and IASB reached agreement - MoU • Specific standards they expected to combine.  • Exposure drafts (preliminary drafts released for public comment) - FASB & IASB have issued for several projects

7. Convergence Projects • Revenue recognition • Leases • Financial instruments • Statement of comprehensive income • Fair value measurement • Consolidations • Derecognition • Post-employment benefits • Balance sheet - Netting • Financial statement presentation • Discontinued operations • Financial instruments with characteristics of equity • Insurance contracts • Emissions trading schemes

8. The FASB focus on the big three • Priority Exposure Drafts Outstanding • Revenue recognition • Leases • Financial instruments

9. Revenue Recognition ED • Purpose • Provide a comprehensive framework concerning: • When to recognize revenue, • amounts to be recognized, and • presentation and disclosure. • This standard will significantly impact all industries and replace previously issued industry-specific guidance.

10. Proposed Revenue Recognition Accounting • Five step process • Identify contract • Identify distinct performance obligations • Determine transaction price • Allocate transaction price • Recognize when performance obligation is satisfied

11. Revenue recognition - Update • Currently in the exposure response period • With limited activity to date • Issued a companion ED • Removes existing revenue recognition standards

12. Specific convergence issues Continued • Leases- The exposure draft proposes a “right-of-use” model be considered when accounting for leases. This means an organization leasing an asset would account for it by recording an asset for the lease term and a liability for lease payments (similar to the capital lease model under current standards). This would require more leases recorded on an organization’s balance sheet.

13. Overview of Proposed Lease Accounting • A lease creates a commitment • Called a lease obligation • A lease creates an asset • Called a right-of-use asset • Must be a specific asset • Lease obligation should be discounted • Incremental rate or other rates • Short-term leases are excluded from asset/liability accounting • Maximum lease term is 12 months or less • Bargain purchase or transfer of title • Results in a purchase/sale not a lease

14. Leases - Update • FASB acknowledging re-exposure will take longer • Lessor accounting still an issue • Investment properties will be addressed • Currently, receivable/residual method does not apply to investment properties

15. Leases - Update Leases—Changes during redeliberations. • Leases with less than a one-year term will not be capitalized. • Variable (contingent) rentals will only be included in the lease liability when they are index-based or in-substance fixed, and renewal options will be included in the lease liability only if there is significant economic incentive that the renewal would be exercised. • Leases with greater than a one-year term will be accounted for as a finance lease with interest related to leases and lease amortization separately reported each period.

16. Specific convergence issues Continued • Financial instruments—FASB and IASB models for financial instruments are very different. IASB prefers amortized costs for all liabilities, while FASB prefers a presumption of fair value with amortized cost exceptions. Convergence of this standard will be challenging. • FASB and IASB positions are far apart.

17. Accounting for Financial Instruments FASB / IASB Joint Project – Proposed ASU No. 1810-100 Accounting for Financial Instruments • Amends Topic 825 – Financial Instruments • Expands the use of fair value measurement to a larger range of assets and liabilities • Changes often recognized to net income • Changes from U.S. GAAP: • Credit impairment generally recognized earlier. • Interest income possibly lower each period • Easier to qualify for hedge accounting – Reasonably effective

18. Accounting for Financial Instruments Continued FASB / IASB Joint Project Accounting for Financial Instruments • Addresses recognition and measurement of all financial instruments • ED released May 2010; comment period ended Sept 30 • There were over 2,800 comment letters in response

19. Accounting for Financial Instruments Continued Proposed measurement attributes – re-deliberated • Amortized Cost • Short term receivable and payables arising in normal course of business • Financial liabilities with an accounting mismatch (e.g., contractually linked to an asset not measured at fair value) • Expectation to collect or remit principal (versus held for sale) • Net Realizable Value • Contributions receivable and payable, but excluded from scope of the ED • Fair Value • Everything else

20. Accounting for Financial Instruments Continued FASB Approach – 3 category mixed measurement approach • Amortized cost • Fair value through OCI • Fair value through net income IASB Approach – 2 category mixed measurement approach • Amortized cost • Fair value through net income • Both require classifying financial instruments based on the entity's business model and characteristics of individual instruments. • Once FASB re-deliberates it plans to engage IASB in reconciling differences. Expected by end of 2011 and then re-exposure in 2012

21. Financial instruments - Update • Project has been re-vitalized • Three components • Classification and measurement • Impairment • Hedging

22. Specific convergence issues Continued • Fair value measurement—FASB has a working model; On May 12, 2011 IASB and FASB issued common fair value measurement and disclosure requirements. • The requirements do not extend the use of fair value accounting, but provide guidance on how it should be applied where its use is already required or permitted by other standards within IFRSs or US GAAP. • Issued ASU 2011-04 converging fair value guidance

23. Specific convergence issues Continued • Post-employment benefits—This standard will eliminate off-balance sheet reporting.

24. ASU 2011-11 Balance sheet offsetting • Effective for years beginning after 1/1/13 • Primarily a disclosure standard • Disclose both gross and net • Tabular format

25. Specific convergence issues Continued • Financial statement presentation—The proposed model will affect the organization and presentation of information in the financial statements. The balance sheet, income statement, and cash flows statement will be organized into five sections: • business (two subsections: operating and investing), financing, income taxes, discontinued operations, and equity. • Combining this standard has been more challenging than • originally expected. • Back-Burnered now. No changes expected anytime soon.

26. Specific convergence issues Continued • Financial instruments with characteristics of equity—This standard deals with liability versus equity. FASB and IASB are in the process of developing a working model.

27. Status of other convergence projects • Divide financial statement presentation into separate elements • Comprehensive income (ASU No. 2011-05 effective 2012) • Discontinued operations • Consolidation may continue to add qualitative elements to key provisions – US model wins? • Define voting interest entity and variable interest entity

28. FAF Response • In October 2011, FAF proposed the creation of a Private Company Standard Improvement Council (PCSIC) • Purpose: To determine whether exceptions or changes to U.S. GAAP are needed to improve standards for private entities • Any proposed changes to U.S. GAAP would need to be approved by FASB • This is contrary to the Blue-Ribbon Panel’s recommendations • Comments on the FAF plan were due January 14, 2012

29. FAF private company accounting proposal • Most continue to endorse the blue ribbon panel recommendations • Many responses are now recommending revisions to the FAF proposal

30. What do you need to know? • IFRS Standards are more principles-based, where U.S. GAAP is more rules-based • Will require: • Increased use of fair value considerations • More use of estimates & judgments • Increased accounting policy disclosures

31. What do you need to know? Continued • Assess impact of convergence – Impact on: • Business • Accounting • Financing • Systems • Controls • Long-term contracts • Tax structure • Investors • Etc…

32. What do you need to know? Continued • What should you do now? • Gain an understanding of each project and impact on your business • Understand the lead time needed to adopt standards • Create an entity wide approach to address implications of adoption of these new standards

33. Convergence vs. Endorsement • In May 2011 and SEC staff paper introduced the concept of “Condorsement” • Convergence • Phase I: Complete MoU Projects • Phase II: FASB formulates a plan to merge active IFRS projects into U.S. GAAP through due process • Phase III: FASB merges all remaining IFRS into U.S. GAAP • Endorsement • FASB evaluates changes to IFRS for use by U.S. issuers • Established FASB as an endorsement body and possibly creates rare accounting difference

34. Other Developments • AICPA Recommends that SEC Allow Optional IFRS by U.S. Public Companies • “Whether or not the SEC decides to incorporate IFRS into the U.S. financial reporting system through an endorsement/convergence approach, we believe U.S. issuers should be given the option to adopt IFRS as issued by the IASB,” Paul V. Stahlin, AICPA chairman, and Barry C. Melancon, AICPA president and CEO, said in a four-page letter to the SEC.

35. IFRS First-Time Adoption What is Required? • IFRS requires full retrospective application of all IFRS standards that are effective as of the closing balance sheet • Identify first IFRS financial statement • Prepare opening balance sheet at the date of transition to IFRS • Select accounting policies – Retrospectively to all years • Consider optional exemptions • Apply mandatory exceptions for retrospective application • Make extensive IFRS 1 disclosures

36. SEC Released Two Staff Papers – Nov 2011 Two Staff Papers • A Comparative of U.S. GAAP and IFRS (describes remaining differences between U.S. GAAP and IFRS) • An Analysis of IFRS in Practice (examines the variations in the way IFRS was applied by various foreign companies whose financial statements had been filed with the SEC) • The SEC is expected to make a decision on whether or not to incorporate International Financial Reporting Standards into the U.S. financial reporting system sometime in the next several months.

37. FAF Response to Condorsement Concerns included in a letter to SEC regarding Condorsement: • It shifts significant authority to an international governing structure • It dilutes the SEC’s power to ensure investor protection in the U.S. FAF would prefer a “U.S. Incorporation Commitment” providing • Nonvoting observer rights to participate in IASB deliberations • FASB would also conduct due process and post implementation reviews in the U.S. for all IASB agenda items and standards

38. IFRS for SMEs • IFRS for SMEs was developed by IASB to provide a more simplifieduser friendly set of standards based on full IFRS to meet the needs of private company financial reporting users and ease the financial reporting burden on private companies through a cost-benefit approach. • SME = Small- and Medium-Sized Entities. • For entities without “public accountability”: • “Public accountability” entities: • File with securities commissions or similar regulators, or • Fiduciary for broad groups (banks, insurance companies, broker-dealers, investment bankers, etc.)

39. IFRS for SMEs (Continued) • Can IFRS for SMEs be used in the United States? • Yes - US entity can choose to report on IFRS SME • AICPA recognize the IASB as an accounting body, so would be GAAP, but not US GAAP. • Why choose IFRS for SMEs? • Main reason is to simplify reporting requirements. • US GAAP – approx 17,000 pages • Full IFRS – approx 2,500 pages • IFRS for SMEs – 230 pages • Barriers • Comparability with non-SMEs is a problem • Users of financial statements, i.e. banks, investors, etc…

40. Monitoring international activity • Currently the IAASB has more open projects than the ASB • Each proposed standard will trigger a conforming response • Disclosures and use of internal audit • Working on a number of non-financial statement audit projects

41. Other IAASB projects include • Compilation and review • Greenhouse gas • Audit quality • ISA implementation monitoring

42. ???Questions???