The first two GAAP alternatives created by the Private Company Council (PCC) were released by FASB on Thursday, giving private companies new options for possible cost savings in their financial reporting.
FASB released Accounting Standards Updates describing the alternatives. They are:
- An exemption for private companies from the requirement to annually perform impairment testing for goodwill subsequent to a business combination.
- A simplified hedge accounting approach for certain interest-rate swaps that private companies other than financial institutions enter to convert variable-rate debt to fixed-rate debt. Private companies whose only derivatives are such swaps also will be relieved of certain fair value disclosures.
“These two accounting standards address issues that private-company stakeholders have told us are priorities,” said FASB Chairman Russell Golden.
Savings could be substantial
Each GAAP alternative has the potential to bring significant cost savings to private companies that can use them, experts say. Those who adopt the goodwill alternative will have to test for impairment only when a triggering event occurs that would indicate that the fair value of an entity (or reporting unit) may be below its carrying amount.
The frequency of this trigger should be decreased because private companies that choose the alternative would be required to amortize the book value of goodwill over a period not to exceed 10 years, said Brian Marshall, CPA, a partner in the National Accounting Standards Group for McGladrey LLP.
Even when impairment testing is required, it should be simpler than in the past, Marshall said. Private companies often have struggled to comply with current guidance requiring testing at the reporting unit level because it is difficult for them to identify their reporting units. The alternative will give them the opportunity to test for impairment at the entity level rather than the reporting unit level.
In cases where impairment is identified, it will be recorded simply as the amount by which the book value of an entity (or reporting unit) exceeds the fair value. This can be a cost savings because traditional guidance in this situation calls for hypothetical business combination accounting that can require identification and valuation of intangible assets—and the services of a valuation specialist, Marshall said.
“There are certainly a number of things that would result in companies having some cost savings if they adopted the alternatives,” Marshall said.
New approach for swaps
The simplified hedge accounting approach also can create significant cost savings, according to Faye Miller, CPA, a partner in the National Professional Standards Group at McGladrey LLP.
Miller said it’s common for private companies to approach banks in hopes of receiving a fixed-rate loan, only to be required to take out a variable-rate loan with a separate interest-rate swap to receive the fixed rate. Understanding and applying traditional hedge accounting to these swaps can be difficult for private companies.
The alternative is designed to provide private companies a simpler approach to apply hedge accounting to certain swaps. The exception could be particularly advantageous for private companies that entered into swaps in the past, but did not initially choose or properly elect hedge accounting, Miller said, because the exception is allowed for existing swaps as well as new swaps.
Private companies also can wait until their financial statements are issued to have the documentation in place and elect to apply the simplified hedge accounting approach, Miller said. But she advises companies to expedite the election to avoid surprises.
“Even though the standard gives you a grace period to make the election, it would be prudent to make sure upfront that you qualify for the election and that it makes business sense for you to make the election,” Miller said.
Evaluate before electing
Each alternative may be adopted for 2013 financial statements as long as the private company hasn’t already made those financial statements available for issuance, Marshall and Miller said. They advised that before taking the alternatives, private companies should consider:
- Users’ perspectives. Consulting with financial statement users is a good idea, Marshall said. “For example, if you have some lenders out there and you have some debt, you want to make sure you’re discussing that with your bank and make sure that they’re comfortable that you are electing this alternative,” Marshall said.
- If they plan to ever go public—or be acquired by a public company. In either case, using GAAP alternatives for private companies could create difficulties in the future. “If you’re acquired by a public company, you’d have to put those financial statements in a filing [in some cases],” Marshall said. “And in those cases, you’d have to undo the election of the alternative. So if that’s one of the company’s exit strategies, that’s something they should also be considering.”
- If the terms of the swap and the debt may change and get out of sync. The prerequisites for taking the simplified hedge accounting exception include having variable rates of the swap and debt based on the same index, with the same reset frequencies. “If there’s a chance that is not going to hold through for the term of the swap, it may not be a good idea to elect this approach,” Miller said.
— Ken Tysiac ( firstname.lastname@example.org ) is a JofA senior editor.