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Special Disclosures, Designations for Some Seed Companies to Be Dropped from U.S. GAAP

February 28, 2014

The FASB plans to eliminate the concept of “development stage entities” from U.S. GAAP and scrap the disclosure and presentation requirements for the enterprises. Start-up businesses have complained that the disclosures take too much time to prepare and are of little use to investors.

The FASB on February 26, 2014, moved forward with a plan to scrap the term “development stage entities” from U.S. GAAP and eliminate the extra disclosure rules for start-up and seed companies.

By a 6-1 vote, the board directed its research staff to draw up amendments based on November’s Proposed Accounting Standards Update (ASU) No. 2013-320,Development Stage Entities (Topic 915): Elimination of Certain Financial Reporting Requirements. The amendments are a response to complaints from businesses that the disclosures take too much time to prepare and are of little use to investors in projects that are still in their research and development phases.

The update will supersede guidance in FASB ASC 915, Development Stage Entities, formerly SFAS No. 7. The changes will remove the definition of “development stage entity” from U.S. GAAP and erase the distinction between the reporting requirements for the young businesses and other organizations.

A development stage entity is as an organization “devoting substantially all of its efforts to establishing a new business.” To qualify, the organization’s planned principal operations have either not begun or, if they have begun, not generated significant revenue.

FASB ASC 915 requires the entities to report inception-to-date information in their income statements, cash flows, and shareholder’s equity; label their financial statements as a “development stage entity”; and disclose a description of their business activities. When the businesses no longer are considered in development, they must disclose in the first year the prior years they had been in the development stage.

Supporters of eliminating this information said most investors didn’t see value in separately labeling the companies’ financial statements, nor did they find the disclosures useful.

To ensure that some information is retained, the FASB agreed to amend FASB ASC 275, Risks and Uncertainties, formerly Statement of Position (SOP) No. 94-6, to clarify that entities that haven’t begun operations should provide disclosures about their risks. The disclosures have to discuss the entity’s planned operations, its current activities, when operations are expected to begin, and its risks.

“I think the world has moved past the industrial age; we’re in the technical age, and the purpose of [development stage entities] is no longer viable or needed,” FASB member Harold Schroeder said.

FASB member Lawrence Smith said he would dissent from the final amendment. He took issue with the idea of erasing the term “development stage entities” from U.S. GAAP when it continues to exist in SEC rules.

He said he also was concerned about a part of the proposal that includes an amendment to FASB ASC 810-10, Consolidation, formerly FASB Interpretation (FIN) No. 46(R), which could cause more development stage entities to be treated as variable interest entities. It would also require businesses to evaluate their total financial risk from investments in a start-up business, which can be complex.

The accounting board hadn’t considered carefully enough what the ramifications of the change would be, Smith said.

“I don’t think receiving comment letters from 24 people is sufficient research, and we didn’t do any other research on this 810 issue, and this is very different than the way we approach things,” Smith said. “So I think we’re being woefully weak in our research to come up with this conclusion.”

The amended guidance will be effective for public companies for quarters and fiscal years that begin after December 15, 2014, which would include the first quarter of 2015. Private companies will apply the change for fiscal years that begin after December 15.

Businesses will have to apply the amended guidance retrospectively, meaning they will have to restate information from prior financial statements. Retrospective information will be required after December 15, 2015, which gives businesses more time to apply the relatively complicated variable interest entity guidance for the first time.

Private companies will have to apply the amended guidance retrospectively for annual periods beginning after December 15, 2015, and interim and annual periods thereafter.

The FASB said it will let all businesses apply the change ahead of the effective date.