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The notes below were literally written while I sat through these various sessions. They are meant only to trigger important topics. They obviously can’t be authoritative or definitive on the issues outlined.
Hope they help you in some small way!
Phil.livingston@approva.net www.approva.net
Carol Stacey of SEC Division of Corporation Finance
FAS 133 accounting for derivatives – some companies inappropriately are using the shortcut method. SEC staff is seeing aggressive interpretations of hedging rules. The staff will ask for documentation and look to see if it was really contemporaneous. 6 items including IDing the hedged ITEM. This is often omitted from the documentation. How is effectiveness being measured? It’s another typical weakness of the documentation.
Carol Stacey warned about being ready for fair value accounting. They want to see consistent company methodology applied. Appraisals were encouraged as one consistent method. Clear accounting policies about how you do the FV assessments. Several life insurance have gone through detailed review with the SEC staff in this area.
Private companies – cheap stock issue heating up with IPO market. Look at the SEC speech by Sandra ___ on big block discounts applied to valuations. The SEC has disagreed with the application of such a discount.
Segment reporting - issue in retail about whether an individual store is a single segment. Businesses must have similar economic characteristics and the staff looks at margins of the different parts of the business.
Pensions SEC staff comments are down due to 132R which requires extensive disclosures about pension plans. Enforcement looking hard at the automotive industry for the assumptions about rates of returns.
Revenue recognition – policy for each revenue stream is expected to be disclosed. What are the rights of return with each revenue stream? Much more detailed disclosures expected.
Income taxes – changes in ESTIMATES should be disclosed. What happened in the period that led to the change in estimate.
Loss contingencies – though FAS 5 does not require specifics on a loss accrual, but the SEC staff has been pushing for specifics (DISCLOSURE of exact amounts like expectations of losses on a lawsuit) on those accruals.
John Huber of Latham and Watkins:
Discussion of 8K rules – missing the timely filing of an 8K can knock a company out of S3 filing eligibility. It can also make it difficult for the CEO and CFO to certify the financial statements cleanly. Knowledge of the 8K rules is important for the full company disclosure committee. Make sure there is an accountant on the disclosure committee – pretty obvious, but he encouraged it.
Good rule for 8K is “disclose what you know today and amend and update that disclosure later.” Better to disclose quickly and timely even if you don’t have the full picture.
Must file 8Ks within four BUSINESS days . The day of the event is NOT included, but the filing day IS included. Must be filed before 5:30pm.
402A important part of new 8K rules – allows audit committee or management to recommend the non-reliance on existing financial statements. He recommends that power reside with the SC. 402A is triggered when non-reliance is determined. 402A does not go to internal control just the financial statements. 402B is when your AUDITOR determines that your financial statements can’t be relied.
Discussion of current securities offering process – “Free Writing Prospectuses” – allows companies and underwriters to make written offers by a FWP after a registration is filed. FWP is a written communication that constitutes an offer.
MD&A Discussion from Brink Dickerson – Brink is a lawyer that has been teaching and tracking MD&A best practices for many years – he gave an excellent presentation.
Item 303 of SK is the guiding rulebook for MD&A. Read it once in awhile.
Alcoa, P&G, Miscrosoft, Intel, Cambell Soup, Amheiser Busch given as companies that do great MD&A. Great source of study and prep for companies.
Read the SEC comment letters from your industry. Pretty routine for good firms to pull comment letters from similar companies. Roadmap for how examiners will look at your company.
Overview sb no longer than three paragraphs – 1) how do we make money? 2) how did our last period go? 3) how do we think that next period will go?
Don’t regurgitate your financial statements! Don’t use elevator music!
Plain English rules don’t technically apply to MD&A, but it is greatly encouraged.
Results of operations – goal is NOT to tell them WHAT, it’s to tell them WHY.
Companies are struggling with contractual obligations table. What goes into the table? CEO employment contracts? Common area maintenance in lease obligations. Most companies aren’t thinking expansively enough. Be clear by giving good notes to the table about what you didn’t include and why. For example some companies say “ the above does not include the $40M interest on our debt that we will incur next year…”
Critical accounting policies – SEC is really after the JUDGEMENT areas like pension plan valuation and discount rate, litigation reserves and control provisions of unconsolidated subsidiaries. No one can have NO critical accounting policies. Be forthright about your key estimates. Really a great chance to cover the company from second guessing in the future.
Audit committees – critical accounting policies and estimates are a MUST for the audit committee discussion and agenda.
Liquidity – we aren’t doing well with this section. Most people take their statement of cash flow and recant the statement section by section. Simple way to think about this area is “what are our bills and how are we going to pay them?” Three sources – from operations, from debt, from selling assets or more stock. Can say we were cash-flow positive last year and expect to be so in the upcoming year.
Important that if debt covenants are tight in the upcoming periods, you MUST say something about it.
If you will need to access the capital markets in the upcoming periods you must say something about it.
Companies need to think about UPGRADING the WRITTEN safe harbor statements for the transcripts of analysts calls. Suggests that people are FORCED to go THROUGH a page with the detailed WRITTEN safe harbor language before they get to the transcript. Point is that the short statement in the call made orally isn’t adequate for written documents.
Non- GAAP financial information – are we trying to provide SPIN or truly incremental information. Every business has indicators that drive their business – like airline industry revenue per airline seat mile. They are NOT non-GAAP financial numbers, they are operating statistics that you shouldn’t worry about. Provide more of that not less.
Best practices – disclosure committees, sub-certifications and widely circulating MD&A to management. Must actually GET INPUT from other management members about MD&A.
Time Warner’s 404 Experience – Daniel Happer, Time Warner
Initial year:
300 significant accounting streams identified
6,000 key controls
300,000 manhours
Top-down intent, bottoms-up reality from the field. Cost not sustainable.
Training has been a focus all along. It did raise controls awareness.
Their deficiencies were concentrated in:
Takeaways – must have top-down approach; use judgment focused on risk; test only key controls; training is key; keep internal auditors by your side.
2005 – Theme - The Journey to Self Assessment – having the process owners run the 404 and test them. Simplify documentation methodologies. Test throughout the year – this helps with 302 certification. 150,000 manhours in 2005. 4,800 key controls. Not that much of a reduction.
Requiring a walkthrough annually of all accounting streams. Internal audit looking at controls to verify that local self-assessment process. They hope that in the long term the process will enhance the control consciousness of the company.
2006 looking to implement a SOX tool. Workflow, document retention and reporting are the three tools they are looking at. Tools should help their folks work on remediation rather than rolling up the information and documentation.
Need to push the external auditors to really integrate their audit work. It’s still like two audits going on.
Bottom line is they want value out of the process in 2006 not just compliance.
Norm Straus – Overview of FASB IASB Projects in process
Acquisition – Business Combination Accounting - Proposals to “fix” purchase accounting under 141 and 142.
FASB theory is focused on FAIR VALUE, no matter what percentage you acquire, the FMV of 100% is the relevant amount to use to determine your basis.
Contingent liabilities in an acquisition – their theory is that if there is a contingent liability at date of acquisition – say 40% chance of loosing $10M – then book $4M liability at acq date and add $4M to goodwill. Then, they propose, if the liability goes away at no cost then reduce the liability and CREDIT INCOME, not goodwill. All this thinking reflects FMV acct thinking.
Acquired in-process R&D – FAS 141 requires that you write it off immediately based on fair value of the project. The NEW thinking under the project in process is that in process R&D would be capitalized at acq at FMV and then amortize eventually when you see if it works/ turns into something or write it off when you determine that it’s worthless.
FASB now thinking that all acquisition/deal costs – bankers/lawyers/ acct – should be WRITTEN OFF as incurred not capitalized.
Norm’s question is whether or not this project will be finalized. Does it really improve financial reporting? Who is driving this change?
Fair Value Project – statement coming that will codify how to apply fair value accounting, probably early 06. Statement will be about defining FV, not when to use it. They will establish a hierarchy of the sources of info for determing FV. Trading prices from the WSJournal at the top of the hierarchy. Goal is that all financial instruments recorded at FV every period with changes to the income statement.
Fair value option for financial instruments is coming early in 06. Very unusual this proposal will give companies the alternative of fair valuing financial instruments. ED coming that will ask people to comment on whether this is a good idea or not. Being that it’s optional, it might be attractive.
FAS 150 – Liabilities or Equity – made redeemable preferred stock be classified as DEBT. Commitments to buy back your own stock are LIABILITIES too. Have to be contractually firm obligations – dr tres stock, cr liability on obligation to buy back!
Uncertain Tax Provisions – will impact most companies – will set how you should book tax deductions that may be aggressive. Must be MORE LIKELY THAN NOT (a change from their initial position) or more than 50% likely that the deduction will survive. Companies will have to look at their returns for the last few open tax years and be sure they meet this test. You have to assume that the IRS will detect the issue, can not factor in the possibility that it won’t be audited. Final standard by the FASB will probably be issued in early 06.
Panel on the developments at SEC Office of Chief Accountant
Tim Kviz – OCA Professional Acct Fellow –
Paul Kepple – PWC national office