Financial leaders will be keen to stay on top of new accounting standards updates (ASUs), since these have consequences in terms of training employees, software needs, communications with stakeholders and more. Knowing what changes are at stake in the updates helps ensure compliance and prepares CFOs and their teams to make forward-looking decisions. But, it can sometimes be hard to wrangle all the accounting updates issued over the course of a year with so many complexities at play, and that can make it hard to identify which processes might need to be adapted. Here, we break down the ASUs issued so far, including what they mean for your business.
The Financial Accounting Standards Board (FASB) has issued four ASUs so far in 2022. Here’s a quick look at each update and why they are important.
ASU 2022-01: Derivatives and Hedging: Fair Value Hedging
Portfolio Layer Method
Hedging is how a company uses derivatives to mitigate risk. Under Generally Accepted Accounting Principles, derivatives are recorded at fair value on the balance sheet, while fluctuations in a derivative’s value appear in net earnings.
Hedge accounting can prevent a derivative’s volatility from hitting the income statement by shifting unrealized gains and losses from net income to other comprehensive income.
ASU 2022-01 addresses several issues surrounding hedge accounting purposes. First, multiple layer hedging is now permitted within the same closed portfolio. To reflect this expansion, the last-of-layer method has been renamed the portfolio layer method.
Second, the portfolio layer method can now include nonprepayable financial assets. And third, there’s now more flexibility to the types of eligible hedging instruments.
This update will help to better depict the financial results of an entity’s risk management activities on its financial statements.
Read more about the fair value hedging here.
ASU 2022-02: Financial Instruments
Credit Losses: Troubled Debt Restructuring and Vintage Disclosures
Entities may restructure a loan to a borrower who is experiencing financial difficulties. A loan modification is considered a troubled debt restructuring (TDR) if certain thresholds are met.
This update eliminates the TDR recognition and measurement guidance for a creditor if the creditor has adopted the current expected credit losses (CECL) model and instead requires an entity to consider whether the loan modification represents a new loan or a continuation of an existing loan.
If a modification is considered a new loan, any unamortized fees, costs and prepayment penalties are immediately recognized in interest income when the new receivable is created. If the modification is determined to be a continuation of an existing loan, any new fees or costs associated with the modification are added on to the amortized cost basis of the receivable.
Borrower entities will continue to apply the TDR model to modifications in the debt agreements when the borrower is experiencing financial difficulty and the lender grants the borrower a concession.
This update also amends the guidance on vintage disclosures, requiring the disclosure of current-period gross write-offs by year of origination.
“(These) amendments create a single model for loan modification accounting by creditors while providing improved loan modification and write off disclosures,” FASB Chair Richard Jones said in a news release.
ASU 2022-03: Fair Value Measurement of Equity Securities Subject to Contractual Sale Restrictions
A contractual sale restriction is a contract that prohibits the selling of an equity security for a stated period of time. How this restriction is accounted for when calculating the fair value of an equity security is the subject of ASU 2022-03.
This update specifies that a contractual sale restriction is a restriction attributable to the holding entity, not to the security itself. Therefore the contractual sale restriction should not impact the fair value calculation of the equity security.
While not impacting the measurement of the security’s fair value, the restriction must still be disclosed by detailing the nature and remaining duration of the restriction, the circumstances that could cause a lapse in the restriction, and the fair value of equity securities subject to contractual sale restrictions reflected on the balance sheet.
In contrast, an equity security that is legally restricted from being sold in a particular market would be measured considering the restriction. For instance, an entity may sell shares through an exchange and a private placement, with the private placement shares not being registered. If the purchaser of the shares that are not registered is legally restricted from selling them on an exchange until they are registered, or an exemption for registration is met, the inability to sell the shares on the exchange is considered when measuring fair value.
For CFOs, knowing how restrictions are evaluated in your process – and whether that is changed by the ASUs – will help when it comes to discussing securities with your accounting expert. The ASU also eliminates diversity in practice, which has the potential to simplify valuation of securities, streamline processes, and more easily ensure compliance.
ASU 2022-04: Liabilities – Supplier Finance Programs
Supplier finance programs (SFP), also known as supply chain finance or reverse factoring, is a financing method initiated by a buyer when making a purchase from a supplier. After issuing an invoice to the buyer, the supplier receives immediate payment from a third-party for a small fee, while the buyer can wait to issue payment per the terms of the invoice (for example net 30).
SFPs can potentially reduce the risk of supply chain disruptions, allowing both buyers and suppliers to make better use of their working capital.
From an accounting point of view, the challenge was that there were no explicit GAAP reporting requirements for these types of financing arrangements resulting in a lack of transparency and comparability for financial statement users. While ASU 2022-04 didn’t address the presentation within the balance sheet and cash flow statement, it did implement new disclosure standards.
A buyer in a supplier finance program must now disclose sufficient information to allow a user of its financial statements to understand the finance program’s nature, including: key terms of the program; the amount outstanding that remains unpaid by the buyer; a description of where those obligations are presented on the balance sheet; and a roll forward schedule of these obligations.
The best way to ensure compliance and preparedness is to have a trusted expert on hand. Connect with one of our professionals to make sure you’re up to date with the latest accounting changes. We can help you understand the implications of the new ASUs and how you can adapt your processes to make sure you’re in line with updates.
Published on October 25, 2022