By Denise Lugo
The FASB will decide during the first quarter of next year what new guidelines companies should follow to report initial contributions of nonmonetary assets in joint ventures, a topic the SEC and Big Four firms flagged as needing explicit rules.
The board will weigh whether to require companies to record contributed items such as buildings and equipment at fair value, at carrying value, or give companies an option to choose, according to December 17, 2019 joint discussions with the Private Company Council (PCC) and Small Business Advisory Committee (SBAC).
Companies differ in how they have been reporting contributed buildings, equipment, or other nonmonetary assets when a joint venture is initially formed because there are no provisions under GAAP. The accounting choices they therefore typically use stem from old SEC speeches or other nonauthoritative literature, the discussions indicated.
PCC and SBAC members said they favored reporting contributed nonmonetary assets at fair market value because that is the most relevant approach and would better align with other portions of GAAP and tax rules.
Advocates for a fair value approach also said the nature of some joint ventures would preclude some types of nonmonetary contributions from being reported under a different approach.
“We do run into a number of transactions in the joint venture arena, primarily [with] pharmaceutical or startup companies where one party to the joint venture contributed technology or know how so there’s no carry over basis, they’ve pretty much written off everything,” Yan Zhang, partner at EisnerAmper LLP in New York, said. “So, we actually never used the carry over basis because there was no basis to use, so you could have one side of the transaction being zero and the other side just contribute the $5 million – so almost have to default to fair value accounting for this,” she said.
“Carryover basis” is an accounting term referring to a method for determining the tax basis of an asset when it is transferred from one individual to another.
In terms of incremental costs, “as a part of negation to form the joint venture there’s tremendous amount of information that’s already being exchanged between the two parties to come up with a fair value amount, so that’s our starting point and [we] go from there,” Zhang said.
Fair Value Without a Doubt
Under the fair value approach, upon formation, a joint venture would initially recognize and measure the contribution of nonmonetary assets at fair value in its financial statements, according to a FASB handout that explains the issue.
“Every joint venture starts out they’re always very friendly, so negotiations go really well, and if I’m going to give $10 million of cash and I’m going to give you a fine piece of equipment, they’re going to make sure the equivalent value is being given so it’s fair value without a doubt,” Marshall Minoux, Underwriting Director/Construction Services at Travelers, said.
If the board decided to require a “carrying amount” approach, upon formation, a joint venture would initially recognize and measure the contribution of nonmonetary assets at the venturers’ carrying amounts in its financial statements. That approach, or one that would give companies an option, should be nixed, according to the discussions.
“I don’t understand the logic or rational behind the carrying value approach,” Michael Minnis—associate professor at the University of Chicago Booth School of Business, said. “Conditions on the venture partner’s accounting has already been established that they’re going to do this mark up, and I could see that there could be some concern that these are false joint venture activities so we can recognize some gains from the partner, but once that accounting has already been established I didn’t see any logic in doing a carrying value approach to this,” he said.
Old SEC Speeches Outdated
The FASB on September 18 added the project to its agenda to address how standalone entities that meet the definition of a joint venture should initially recognize and measure, within the financial statements of that joint venture, the nonmonetary assets contributed by venturers upon the joint venture’s initial formation. (See Pharmaceuticals, Others Might Get Accounting Rules for Initial Reporting of Nonmonetary Assets in Joint Ventures in the September 20, 2019 edition of Accounting & Compliance Alert.)
The rules would fill a hole in GAAP. While there is current guidance for the accounting for the venturer upon joint venture formation, GAAP does not address the issue in question. Joint venture formation for example, is scoped out of both Topic 845, Nonmonetary Transactions, and Topic 805, Business Combinations.
Practitioners believe that the analogies to SEC speeches and various other nonauthoritative guidance, of which some are conflicting, make it difficult to determine the appropriate accounting, board discussions indicated. Moreover, many practitioners think that the SEC staff speeches are outdated and are no longer consistent with other current standards in GAAP related to the decision usefulness of carryover basis versus fair value measurements.
This article originally appeared in the December 30, 2019 edition of Accounting & Compliance Alert, available on Checkpoint.