New guidance from accounting rule makers means employers will have to disclose significantly more information about the potential risks of their pension plan assets than previously required.
Companies should also expect to share more details about their investment policies and strategies, categories of plan assets, significant concentrations of risk, and fair-value measurements used in valuing pension assets. The disclosures, detailed in a Financial Accounting Standards Board staff position issued in December, are required for employers’ 2009 financial statements, due to be filed one year from now.
Akresh
“The good news is that employers have some time to get ready,” says Murray Akresh, a partner with PricewaterhouseCoopers. But Akresh and others say employers would be wise to use the lead time to prepare, since they’ll have to pull together far more detailed information than was previously required.
The FSP amends Financial Accounting Standard No. 132 (R)-1, Employers’ Disclosures About Pensions and Other Postretirement Benefits. The guidance stems from concerns about the lack of transparency surrounding the types of assets and associated risks in an employer’s defined-benefit pension or other post-retirement plan, as well as events in the economy and markets that could have a significant effect on the value of plan assets.
“FASB is trying to get plan sponsors to provide more transparency into the investment decisions they’re making on behalf of plans, to give analysts and other financial statement users a better picture of how the asset allocation developed and the types of risks that may be in that asset strategy,” says Jon Waite, chief actuary at consulting firm SEI.
The guidance aims to give users a better understanding of how investment allocation decisions are made, including the plan’s investment policies and strategies and the major categories of plan assets. It also seeks to bring more clarity to the inputs and valuation techniques used to measure the fair value of plan assets, including the so-called “Level 3” inputs companies use to make their best guess at fair value when a market doesn’t exist to give a more immediate price.
“This doesn’t affect recognition or measurement of plan assets, and it doesn’t change the basic measurement attribute for plan assets.”
— Paul Munter,
Audit Partner,
KPMG
Experts say the guidance is substantially similar to the Exposure Draft issued last year.
Since the disclosures will appear in the footnotes to the annual financial statements, “This doesn’t affect recognition or measurement of plan assets, and it doesn’t change the basic measurement attribute for plan assets,” notes Paul Munter, an audit partner in KPMG’s Department of professional practice.
Munter and others say employers that use plan administrators or other third parties should start working with those outsiders now to make sure they can present the information consistent with the new expanded asset categories, and in the form needed for a new required reconciliation of assets measured using Level 3 inputs.
If that information is tracked internally, Munter says employers may need to make some modifications to how the information is captured to extract it by category.
Showing Your Cards
Among other things, the guidance requires a narrative description of investment policies and strategies, including target allocation percentages or range of percentages considering the major categories of plan assets disclosed, as well as other factors such as investment goals, risk-management practices, permitted and prohibited investments, and the relationship between plan assets and benefit obligations. A description of the significant investment strategies is also required for investment funds disclosed as major categories of plan assets, such as hedge funds, mutual funds, or private equity funds.
Waite
Waite says this is where analysts may seek additional information from publicly traded companies with large pension plans. As a result, plan sponsors “need to make sure they have a clear strategy for asset allocation, and that they can describe how they’ve gotten to where they are,” he says. “To the extent there’s anything that’s not straightforward or plain vanilla, they need to make sure they can describe it to anybody who may ask questions.”
The guidance also expands the types of disclosures companies must make about their retirement plans. Under previous rules, Akresh says, employers had to break out their asset holdings according to four categories. Now they will need to separate assets into nine categories and give the fair value for each. “The guidance requires a greater breakout of asset categories, and that will require more thought and more judgment,” Akresh says.
For companies with multiple plans or plans in multiple countries, Akresh says it will be more difficult to determine what categories are appropriate and to consolidate all that information at year-end after the required fair values are determined. For that reason, he says employers should start reviewing their investment portfolio now to determine what asset categories are appropriate.
PLAN ASSET DISCLOSURE
Below is an excerpt of FASB Staff Position 132(R)-1 that clarifies disclosures about categories of plan assets.
An employer shall disclose separately for pension plans and other
postretirement benefit plans the fair value of each major category of plan assets as of each annual reporting date for which a statement of financial position is presented. Asset categories shall be based on the nature and risks of assets in an employer’s plan(s).
Examples of major categories include, but are not limited to, the following: cash and cash equivalents; equity securities (segregated by industry type, company size, or investment objective); debt securities issued by national, state, and local governments; corporate debt securities; asset-backed securities; structured debt; derivatives on a gross basis (segregated by type of underlying risk in the contract, for example, interest rate contracts, foreign exchange contracts, equity contracts, commodity contracts, credit
contracts, and other contracts); investment funds (segregated by type of fund); and real estate. Those examples are not meant to be all inclusive. An employer should consider the overall objectives in this FSP in determining whether additional categories of plan assets or further disaggregation of major categories should be disclosed.
Source
FASB Staff Position No. FAS 132(R)-1 (Dec. 30, 2008).
Experts say most of the additional work will come from new required disclosures about the inputs and valuation techniques used to develop fair value measurements of plan assets.
“There’s quite bit more disclosure about Level 3 assets and how those assets have progressed through the year,” Waite says. Examples of assets that use Level 3 measurements include investments in real estate, private equity funds, and hedge funds. For assets measured using Level 3 unobservable inputs, employers must provide a reconciliation of the beginning and ending balances, presenting changes during the period.
Akresh says employers should start now to gather the beginning-of-year numbers for 2009 so they’ll have that information ready when it’s time to do the reconciliation in nine months.
Munter
While the information “generally should be available,” Munter says, he adds, “it may not be in the format that the reconciliation requires.”
Employers must also disclose information about the valuation techniques and inputs used to measure fair value, including any changes in valuation techniques and inputs used during the period.
Finally, the employers have to disclose “significant concentrations of risk” in plan assets. But FASB gave little guidance on how significant concentration should be determined, Akresh says.
While Munter says no significant changes are expected in the near term on pension accounting, he says employers should monitor the development of a long-term FASB project on pension and retirement benefits, now in the very early stages, which would develop new standards jointly with the International Accounting Standards Board as part of efforts to align U.S. Generally Accepted Accounting Principles and International Financial Reporting Standards.
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