An Irked FASB on EPS; Pension Plans; More

The Financial Accounting Standards Board has reluctantly agreed to give final guidance on how to calculate earnings per share when employees are holding shares for which they may receive dividends.

The Board voted to finish a staff position that says unvested stock awards that carry the right to a dividend should be considered “participating securities” for purposes of calculating earnings per share. That means they would be included in the EPS calculation, potentially diluting the figure if the numbers are large enough.

FASB’s Emerging Issues Task Force first took a crack at the question and determined that vested rights should be included in the EPS calculation. The task force was stumped, however, on whether non-vested rights should also be included in the calculation.

Comments on the proposed guidance reflected some diversity in how the calculation is typically done. Accounting firms generally supported the notion that the EPS calculation should include the non-vested rights, but preparers generally lobbied for exclusion.

Some commenters also worried the staff’s proposed position would lead to some double counting of employee shares in the EPS calculation. Board members conceded the point, but were reluctant to spend any more time and resources on the guidance. “It’s the narrowest of narrow issues,” board member Leslie Seidman said at a March 5 FASB meeting. “This is the exact type of thing where I think we can tolerate some diversity. Do we have to answer every single question?”

FASB member George Batavick was equally prepared to wrap up. “I’m not going to spend any more brain cells thinking about this issue,” he said. “It’s a calculation. We’re trying to get people making the calculation the same way. I don’t want to get into the conceptual basis.”

Herz

With a push in the United States toward the more principles-based International Financial Reporting Standards—where guidance on such narrow issues is typically not given—FASB Chairman Bob Herz wondered how U.S. preparers and auditors would answer the same questions under IFRS. “I doubt [the International Accounting Standards Board] would even contemplate getting into an issue like this,” he said. “I keep asking myself: Are we going to continue to be the world’s source of detailed implementation guidance?”

CFOs May Need Crash Course on Pension Investing

Chief financial officers may need to do a quick study of their corporate pension investment strategy if planned guidance from FASB eventually becomes part of U.S. Generally Accepted Accounting Principles.

FASB staffers are preparing an exposure draft of a staff position that would require companies to provide some new disclosures about a pension plan’s asset allocation and investment strategy. Jon Waite, chief actuary at consulting firm SEI, says that will require CFOs and plan sponsors to be prepared to discuss in greater detail the investments held in the pension plan and the reasons behind the holdings.

SEI recently published an advisory to CFOs and plan sponsors saying FASB’s plan to add the disclosure requirement to Financial Accounting Standard No. 132R, Employers’ Disclosures about Pensions and Other Postretirement Benefits, will require companies to disclose the kinds of investments they hold in pensions by breaking out each class of assets from the current broader categories. The proposed guidance is also expected to require companies to identify the risk level of investments and apply the hierarchy of fair value prescribed in FAS 157, Fair Value Measurement.

Waite

“Right now, the requirement is for a footnote to disclose the percentage of assets in equity securities, debt securities, real estate, and other investments,” Waite says. “The feedback from the analyst community primarily is that there’s not enough detail there. They can’t tell how the assets are invested. Some asset classes don’t easily fit into one or the other of those categories.”

Waite says FASB is expected to require more detail not only on the asset allocation and the related risks, but also any concentration in a particular asset class or industry where such disclosure might not otherwise be required. He says CFOs can expect the requirement to be in force for fiscal years beginning with the 2009 calendar year.

“The CFO will potentially need to be able to discuss in more detail the asset allocation,” he says. “In some cases it may require more work to make sure they understand it. They need to be able to outline the asset allocation and say, ‘This is why.’” A new rule along these lines wouldn’t be expected to lead to changes in asset allocation, Waite said, but it certainly will lead to increased scrutiny of the investment policy.

IFAC Study on Financial Reporting Progress

While corporate governance, audits, and financial reporting have all improved in recent years, the reports themselves are still too complex to be understood easily, according to a recent study by the International Federation of Accountants.

IFAC commissioned a global survey of a variety of participants in the financial reporting supply chain: investors, preparers, management, directors, auditors, standard setters, and regulators. The goal was to gauge progress in the recent push to improve financial reporting. The survey found that corporate governance has improved, driven by increased focus on the objectives of good governance and by changes to company codes and standards.

Survey respondents said convergence to international standards, enhanced regulation over financial reporting, and improved internal controls all have contributed to increased reliability and relevance of financial reports. They also said improvements in audit standards and practices, as well as stronger independence rules, have bolstered audit quality.

Still, respondents panned the usefulness of financial reports themselves, saying complexity and increased focus on compliance issues have made financial reports hard to read and understand. They said better communication among players in the financial-reporting process, more business-driven information in financial reports, and better use of technology might help make financial reports more relevant and easier to understand.

IFAC published its findings in a report titled, “Financial Reporting Supply Chain: Current Perspectives and Directions.” Norman Lyle, recently retired group finance director of Jardine Matheson Ltd. in Hong Kong and chairman of the project, says a “checklist” mentality endures, especially in the United States, around governance and compliance.

“Going forward, there’s a feeling that it’s important to have the right tone at the top of the organization, the right behavior and cultural tone,” he says. “That really drives governance and the way people think and operate in a company.”

Lyle says much of the focus in recent years has been a reaction to financial reporting crisis, so the clampdown on compliance is not surprising. “Now we need to move toward business governance,” he contends. “Where are you going to get growth and add value to the business? We need more looking forward rather than looking backward.”

IAASB Issues Standard on Auditing Fair-Value Estimates

International audit rulemakers are tackling the tough issues around auditing fair values, establishing a new professional standard and forming a task force to develop further guidance.

The International Auditing and Assurance Standards Board, an arm of the International Federation of Accountants, has issued International Standard on Auditing 540, Auditing Accounting Estimates, Including Fair Value Accounting Estimates, and Related Disclosures, to put more teeth into existing approaches to the audit of accounting estimates, including fair-value estimates. The new standard requires auditors to focus attention on higher-risk areas, accounting judgments, and possible biases, all to help the auditor assess the reasonableness of estimates in the context of an entity’s financial reporting framework.

ISA 540 addresses issues such as how the auditor should evaluate risk assessment in light of any uncertainty about estimates, the methods management uses for making estimates, the reasonableness of assumptions used by management, and the adequacy of disclosures. The standard provides expanded guidance on auditing fair-value accounting estimates, including audit considerations relating to the proper application of the financial reporting framework and the use of models in valuations.

Kellas

John Kellas, chairman of the IAASB, says current market conditions highlight the importance of measuring and disclosing fair values. “We are confident that the standard will enhance current practice and promote consistency worldwide,” he says in an IAASB statement.

Officially, the new standard doesn’t take effect until 2010 because the IAASB is revising all of its auditing standards to conform to a new approach to writing rules. Still, Kellas encourages auditors to put the principles to work earlier than that. “Auditors may wish to consider the material in the new standard as they complete their 2007 audits and plan and perform those for 2008 and 2009 engagements,” he says.

Meanwhile, the IAASB said market conditions have inspired the Board to accelerate the pace of plans to form a task force to address valuation difficulties. The task force is expected to consider aspects of auditing fair-value assertions and making recommendations to the IAASB for matters that require priority attention.