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Private Company Accounting Breaks for Goodwill, Hedging Are Approved for Publication

November 26, 2013

The FASB agreed to amend U.S. GAAP with two changes from its Private Company Council (PCC). The revised guidance will provide breaks on the accounting for goodwill impairment and for simple interest rate swaps some private companies use to secure fixed-rate loans.

The FASB on November 25, 2013, approved two proposals to simplify accounting practices for private companies, agreeing to publish them as final standards by the end of the year.

The proposals, forwarded to the FASB by its Private Company Council (PCC), offer accounting breaks for goodwill impairment and for simple interest rate swaps private companies use to help them secure fixed-rate loans. The changes are the first proposals from the PCC that will become amendments to U.S. GAAP.

Both amendments will be effective for the first annual period beginning after December 15, 2014, meaning most companies would adopt them in calendar year 2015.

All but one FASB member—Lawrence Smith—voted in favor of the changes. Smith expressed concerns about the goodwill impairment amendment and said it would create two tiers of U.S. GAAP. When the Financial Accounting Foundation (FAF), the FASB’s parent organization, established the PCC, it cautioned that the council’s job was not to create a so-called little GAAP versus big GAAP.

“We’ve heard the trustees say at various times [that] the PCC will not or should not produce two different avenues of GAAP, and I think this should be our objective, along with simplification for everybody,” Smith said. “This issue is no different for public and private companies, other than the fact that it doesn’t happen at public companies as much because they might have greater resources, and be able to absorb the necessary expenses to go through impairment tests.”

The goodwill amendments were issued in a draft form in July as Proposed Accounting Standards Update (ASU) No. PCC-13-01B, Intangibles—Goodwill and Other (Topic 350): Accounting for Goodwill, a proposal of the Private Company Council. The amendments give private companies buying other private companies the option to amortize the acquired goodwill over a maximum of 10 years.

Businesses that acquire other companies typically recognize the part of the purchase cost above the seller’s book value as goodwill. U.S. GAAP does not allow the amortization of goodwill, although goodwill is tested at least once a year for a drop in value.

After weighing comments from companies, auditors, and investors, the PCC recommended that the FASB retain the main thrust of the proposal—giving private companies the option to amortize goodwill over a maximum of 10 years. Goodwill would be tested for impairment only upon a “triggering event,” meaning the company has evidence that an event has occurred that could reduce the fair value of the business below its carrying amount. The impairment test also would be simplified, moving from a two-step process to one step. Private companies would not have to do a hypothetical price allocation under the proposal.

A majority of the FASB agreed with this premise, and also agreed to explore whether to extend the same method of accounting to public companies. The board’s research staff is studying the issue via what the FASB calls a pre-agenda project.

Most FASB members expressed discomfort with the idea of voting on November 25 to automatically extend the break to public companies. FASB member Thomas Linsmeier said he wanted to proceed with caution, especially in light of the IASB’s ongoing review of IFRS 3, Business Combinations, which could lead to changes to the international standard.

“At this point I’m going to vote to endorse for private companies, partly because of reporting unit complexity at this point in time,” Linsmeier said. “But I am deeply concerned if we proceed… without having knowledge of what’s going on at the IASB. We’re going to end up with potentially three different solutions around the world.”

The interest rate swap proposal was based on Proposed ASU No. PCC-13-03, Derivatives and Hedging (Topic 815), Accounting for Certain Receive-Variable, Pay-Fixed Interest Rate Swaps a proposal of the Private Company Council, which also was released in July. The proposal is intended to ease the accounting for private companies that have to purchase interest rate swaps from a third party to secure fixed-rate loans.

The swaps are hedges, but small companies purchase them simply to ensure their ability to borrow money. In the view of the PCC, the business purpose of the arrangements is enough to justify letting private companies follow a “simplified” hedge accounting method that counts the swap and the loan as separate financial instruments.

Under the proposal, a private company would be eligible to measure the designated swap at settlement value instead of fair value. The difference between settlement value and fair value is that the risk of a default by the borrower isn’t included in the determination of the settlement value.

The plan also would allow for hedge documentation to be completed up until the date when the company’s annual financial statements are available, instead of requiring them to be completed at the same time as the swap.

Privately held nonfinancial companies will be allowed to use the break, but privately held banks won’t be permitted to use it, the FASB decided. The board also said it won’t consider extending the simplified accounting method to public companies. The problems associated with the swaps are common for private companies, but they’re less of an issue for public companies. In addition, the FASB is working on a larger, separate hedge accounting project as part of its effort to amend the accounting for financial instruments that could change the accounting for the swaps.

The board’s research staff agreed to note the possibility that further changes may be forthcoming when it writes the Accounting Standards Update for the swaps amendment.