National Professional Services Group - PDF document

National Professional Services Group 1 CFOdirect Network — http://www.cfodirect.pwc.com PricewaterhouseCoopers LLP DataLine A look at current financial reporting issues PricewaterhouseCoopers 2010 – 20 April 1 9 , 2010 FASB’sValuationResourceGroup Highlights of April 2010 Meeting Overview At a glance The FASB formed the Valuation Resource Group (VRG) in 2007 to advise the FASB staff on certain implementation and valuation issues related to developing fair value measures used for financial reporting purposes. At its April 2010 meeting, the VRG discussed issues relating to: (1) the FASB/IASB joint project on fair value measurement and disclosure, (2) the FASB's project on investment properties , (3) the measurement of reacquired rights, and (4) the fair value measurement of accounts receivable, accounts payable, and other accrued liabilities. The VRG's role remains advisory in nature and its views do not represent authoritative positions. Compa nies may wish, however, to consider the VRG's perspectives when addressing valuation issues related to ASC 820, Fair Value Measurements and Disclosures . The main details The VRG comprises professionals from accounting and valuation firms and the preparer a nd user communities. Observers from the staffs of the SEC, PCAOB, IASB, Federal Reserve Board of Governors, and AICPA attend the VRG's meetings and p art icipate in its discussions. A VRG meeting without the FASB Board members was held the morning of Apr il 12, 2010, while FASB Board members participated in a public meeting of the VRG in the afternoon to discussthesameissues.TheVRG’sobjectiveistoeducatetheFASBstaffabout implementation issues and diversity in practice related to fair value mea surements. The FASB staff determines which of these issues should be presented to the FASB Chairman for possible inclusion on the FASB agenda. Many of the valuation issues discussed with the VRG highlight the continued importance of fair value accounting . This DataLine summarizes the following issues discussed at the April 12, 2010 VRG meeting : The FASB/ IASB joint project on fair va lue m easurement and disclosure, The FASB's pro ject on investment properties, The measurement of reacquired rights, and The fair value measurement of accounts receivable, accounts payable, and other accrued liabilities . What's inside: Overview ............................. 1 At a glance ................................ 1 The main details ........................ 1 VRG Issues ......................... 2 FASB/IASB joint project on fair value measurement and disclosure ........................ 2 The FASB's project on investment properties ............. 3 The measurement of reacquired rights .................... 3 The fair value meas urement of accounts receivable, accounts payable, and other accrued liabilities ........... 4 Questions ............................ 5 DataLine A look at current financial reporting issues PricewaterhouseCoopers DataLine 2010 - 20 National Professional Services Group 2 CFOdirect Network — http://www.cfodirect.pwc.com PricewaterhouseCoopers LLP For information on issues previously discussed by the VRG, refer to the FASB' s website ( www.fasb.org ) , DataLine 2009 - 45 , DataLine 2009 - 09 , and DataLine 2008 - 15 . VRG Issues FASB/IASB joint project on fair valu e measurement and disclosure Background: The Boards have recently completed their deliberations on a joint project to develop converged fair value measurement guidance. At the April meeting, the VRG discussedwhetheranyoftheBoards’tentativedecisions would significantly change existing practice and if so, if such changes represent an improvement. The VRG also discussed whether the tentative decisions would result in unintended consequences or if there were other issues the Boards should deliberate. VRG Discussion: A number of VRG members expressed concern related to the following aspects of the tentative decisions: Use of a price in a related party transaction as an input to a fair value measurement if the transaction was entered into at market terms . The prohibition against the application of a blockage factor at Level 2 and Level 3 of the fair value hierarchy, while premiums and discounts may be considered in pricing an asset or liability at the unit of account. Some VRG members noted that it might be difficult to distinguish blockage factors from other illiquidity adjustments. Disclosure of information about the use of an asset in a way that differs from its highest and best use (and the fair value of that asset was recognized based on its highest a nd best use) . Lack of guidance on how to apply the principal (or most advantageous) market guidance in situations where there is no active market . The requirement for a sensitivity analysis disclosure for all Level 3 fair value measurements. A number of VRG members questioned the relevance of the proposed disclosure requirement. Overall,whileitwasnottheFASBstaff’sintentiontochangecurrentpractice,itbecame apparent during the discussion that certain of the tentative decisions reached would li kely have that effect. In addition, the VRG expressed concern about the following statement included in the tentative decisions: ―…theobjectiveofafairvaluemeasurementofanindividualassetistodetermine the price for a sale of that asset alone, not for a sale of that asset as part of a group of assets or business. However , when the highest and best use of an asset is to be used as part of a group of assets, the fair value measurement of that asset presumes that the sale is to a market participan tthathas,orcanobtain,the’complementary assets’and‘complementaryliabilities.’" The VRG members believe that this statement would likely change current practice. VRG members recommended that the FASB consider revising this wording prior to issuin g its exposure draft. The FASB staff indicated that it would consider the concerns raised by the VRG members prior to issuing an exposure draft and final standard. DataLine 2010 - 20 National Professional Services Group 3 CFOdirect Network — http://www.cfodirect.pwc.com PricewaterhouseCoopers LLP The FASB plans to issue an exposure draft on Fair Value Measurement and Disclosure in May 2010, with a final standard expected before the end of 2010. The IASB is expected to follow the same timeline, but will re - expose only a limited portion of its previously issued exposure draft on Fair Value Measurement . The FASB and IASB will jointly con sider any feedback received on the exposure drafts. PwC Observation: A full summary of the Boards' tentative decisions on the project can befoundontheFASB’swebsite( www.fasb.org ). We encourage preparers and othe r constituents to respond to the Boards' exposur e drafts once they are issued. TheFASB’sprojectoninvestmentproperties Background: In their deliberations on the FASB/IASB Leasing project on January 20, 2010, the FASB and IASB tentatively decided th at a lessor of investment properties would be required to apply the proposed new lessor accounting if the lessor measures its investment properties at cost. The IASB tentatively decided that if a lessor of investment properties measures its investment pro perties at fair value in accordance with IAS 40, Investment Property , it would not apply the new lessor accounting requirements to the lease (but would continue to account for those leases as operating leases under IAS 17, Leases ). IFRS permits investme nt property to be accounted for on either a historical cost or fair value basis. U.S. GAAP, however, does not currently require or allow the measurement of investment properties at fair value. The FASB has therefore recently added a project on Investment Properties to its agenda, in which they will decide whether reporting entities should be permitted (or required) to measure investment properties at fair value through earnings on a recurring basis. The FASB sought feedback from VRG members on how an ent ity should consider a lease when measuring the fair value of a leased investment property. VRG Discussion: Under current U.S. GAAP business combinations accounting guidance, the acquirer measures the acquisition date fair value of an asset that is subje ct to an operating lease (in which the acquiree is the lesssor) separately from the lease contract. If the FASB were to permit or require investment properties to be measured at fair value on a recurring basis, a number of VRG members indicated that a mar ket participant would likely value the asset and the related lease as a single un it of account (on a net basis). The me asurement of reacquired rights Background: As part of a business combination, an acquirer may reacquire a right that it previously ha d granted to an acquiree (a "reacquired right"), e.g., a right to use the acquirer's trade name under a franchise agreement. ASC 805, Business Combinations , requires that a reacquired right be recognized as an identifiable intangible asset separate from g oodwill. The measurement guidance in ASC 805 represents an exception to the general fair value measurement provisions, as reacquired rights are to be measured on the basis of the remaining contractual term for the related contract, regardless of whether m arket participants would consider potential renewals in determining fair value. A company might also be required to measure the value of a reacquired right as part of its intangible asset impairment testing. The FASB believes there may be diversity in pr actice in how the value of a reacquired right is measured. As such, the FASB staff asked the VRG members for their perspective on how reacqui red rights should be measured. Following is an example of a reacquired right. DataLine 2010 - 20 National Professional Services Group 4 CFOdirect Network — http://www.cfodirect.pwc.com PricewaterhouseCoopers LLP Example 1 Facts: Company A own s and operates a chain of retail fast food restaurants. Company A also licenses the use of its trade name to unrelated third parties through franchise agreements (typically with a fifteen - year term). In addition to on - going fees for cooperative advertisi ng, these franchise agreements require the franchisee to pay Company A an up - front fee and an on - going percentage of revenue for co ntinued use of the trade name. Company B is a franchisee with the exclusive right to use Company A's trade name and operat e fast food facilities under Company A's brand in the San Francisco area. Pursuant to its franchise agreement, Company B pays Company A a monthly at - market royalty rate equal to 6% of revenue. Company B does not have the ability to transfer or assign the right. Company A acquires Company B on March 14, 2010 for cash considerations. In applying the acquisition method, Company A will recognize a separate intangible asset related to the reacquired right (assume that at the date of acquisition the agreement has a remaining term of 12 years and is at market). VRG Discussion: The VRG discussed several alternatives, including: The reacquired right should be measured based on the present value of the expected royalty payments over the remaining contractual term of the agreement The reacquired right should be measured based on an upfront payment paid for similar franchises less the fair value of other assets acquired (i.e., working capital, tangible and intangible assets, etc.) However, there was general con sensus among VRG members that the reacquired franchise right should be measured using a valuation technique that considers Company B's cash flows after payment of an at - market royalty rate to Company A. From Company A's perspective, it already owns the tr ade name and is entitled to the royalty payments under the franchise agreement. The amount of consideration that Company A is willing to pay for Company B (and by extension the value of Company B's assets) is based on the cash flow that Company B is able to generate above and beyond the at - market royalty rate already paid under the franc hise agreement. The difficulty in recognizing and measuring the value of a previously recognized reacquired right as part of a Step 2 goodwill impairment test was also d iscussed. PwC Observation: The views expressed in this DataLine are the views of VRG members. While we believe the general view reached by the VRG members is consistent with our point of view, specific facts and circu mstances should be considered. The fair value measurement of accounts receivable, accounts payable , and other accrued liabilities Background: In previous meetings, the VRG discussed the following two potential approaches to measuring the fair value of accounts receivable acquired and a ccounts payable and accrued liabilities assumed in a business combination. DataLine 2010 - 20 National Professional Services Group 5 CFOdirect Network — http://www.cfodirect.pwc.com PricewaterhouseCoopers LLP "In exchange" - The fair value of accounts receivable would generally be based on the sale of accounts receivable to a market participant engaged in the business of acquiring accou nts receivable. In this instance, the fair value of accounts receivable would typically result in a reduction to its carrying value as a result of incorporating a collection adjustment, the credit risk of the counterparty, the timing of payment, and a pro fit element to the market participant. The fair value of accounts payable and accrued liabilities assumed in a business combination would be based on the price paid to transfer the accounts payable and accrued liabil ities to a market participant. "In - u se" - The market participant is a potential acquirer of the business as a whole, and will use the acquired net working capital to continue as an ongoing business. The fair value measurement would therefore assume that the highest and best use of the accou nts receivable acquired is in - use within a company's ongoing business operations. Accounts payable and accrued liabilities assumed in a business combination would be tr eated similarly. VRG Discussion: There was a general agreement among VRG members that trade accounts receivable and accounts payable should be valued based on an "in - use" premise for most industries outside of financial services (assuming the company does not routinely sell or factor its receivables). The VRG only briefly discussed t hat there may be diversity in practice in how fair value might be determined for accrued liabilities (e.g., warranty accruals). PwC Observation: The views expressed in this DataLine are the views of VRG members.PwC’sguidanceondeterminingthefairv alue of working capital components can be found in PwC’s Global Guide to Accounting for Business Combinations and Noncontrolling Interests (Chapter TX 7). Questions P wC clients that have questions about this DataLine should contact their engagement partner. Engagement teams that have questions should contact a member of the Financial Instruments Team in the National Professional Services Group (1 - 973 - 236 - 7803). DataLine 2010 - 20    Auth ored by: Lawrence N. Dodyk Partner, National Professional Services Group Phone: 1 - 973 - 236 - 7213 Email: lawrence.dodyk@us.pwc.com Tom McGuinness Partner, National Professional Services Group Phone: 1 - 973 - 236 - 4 034 Email: thomas.mcguinness@us.pwc.com Matthew Pinson Managing Director, Transaction Services Phone: 1 - 646 - 471 - 2198 Email: matthew.h.pinson@us.pwc.com Jason Pitofsky Senior Manager, National Professional Services Group Phone: 1 - 973 - 236 - 5468 Email: jason.c.pitofsky@us.pwc.com DataLines address current financial - report ing issues and are prepared by the National Professional Services Group of PricewaterhouseCoopers LLP. This publication has been prepared for general information on matters of interest only, and does not constitute professional advice on facts and circum s tances specific to any person or entity. You should not act upon the information contained in this publication without obtaining specific professional advice. 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