Tuesday, January 24, 2017

Panelists discuss new accounting standards at PLI’s European securities regulation program

By Jacquelyn Lumb

SEC Chief Accountant Wesley Bricker was among the panelists at the Practising Law Institute’s conference on securities regulation in Europe, which addressed new accounting standards, international financial reporting standards, non-GAAP measures, audit committees, and internal control over financial reporting. John White, a partner at Cravath, Swaine & Moore, moderated the panel, which also included PricewaterhouseCoopers managing partner Michael Gallagher and IASB member Mary Tokar.

New standards on the horizon. Bricker said the new standards on revenue recognition, leasing, and financial instruments should be at the top of the agenda for executive teams, auditors, and others. The revenue recognition standard can be applied this year but is required for 2018. This standard affects the top line of nearly every company, he advised. The leasing standard will bring leases onto the balance sheet for most companies, making them part of the primary financial statements. The standard on financial instruments will affect strategic equity investment instruments, impairment for receivables, and lending activities, among other things. All of these standards will have a significant impact on the content of companies’ disclosures.

The revenue recognition disclosure under GAAP and IFRS is substantially the same and will make financial information more comparable across companies. Bricker suggested that the information provided by the transition resource group should be used as a resource. Many large accounting firms participated in the group. Tokar reported that the group included 50 individuals and suggested that registrants consider the wisdom in this collective effort in drafting their disclosure.

Registrants are required to disclose the impact of the new accounting standards. Bricker advised that if the quantitative effect is not known, registrants should provide qualitative information. The staff will expect more specific disclosure as the adoption date nears. Gallagher recommended that issuers engage with their securities counsel on the required disclosure given that the consequences of getting it wrong can be pretty severe. White recommended a publication by the Center for Audit Quality on preparing for the revenue recognition standard, which he said is helpful for lawyers.

IFRS. On the topic of international financial reporting standards, Bricker referred to a statement issued by Chair Mary Jo White on January 5, 2017 about the role and relevance of GAAP and IFRS. She said that GAAP will remain in force for domestic issuers for the foreseeable future but also emphasized the continuing importance of IFRS given that investors invest in foreign companies, U.S. companies enter into transactions in reliance on IFRS information, and some multinational companies may have to comply with IFRS with respect to their foreign subsidiaries. Bricker added that approximately 525 foreign private issuers use IFRS in their SEC filings.

Frequent areas of comment. The panel talked about recurring themes in comment letters. Not long ago, a majority of the comment letters involved revenue recognition and MD&A, but now non-GAAP measures have risen to the top. Gallagher said the SEC is interested in things that require judgment, are complex, and are material, in addition to issues that are reported in the newspapers. The staff is also interested in the lack of an early warning about a large loss contingency or impairment, so a registrant will often get a comment asking why there was no earlier warning before reporting these losses.

White said a cautionary tale lies with the SEC’s actions against RPM International, which failed to disclose a Department of Justice investigation and a contingency that it may have to repay overcharges to the government. The SEC charged the company and its general counsel in the matter (LR-23639, September 9, 2016).

Non-GAAP measures. The SEC’s renewed focus on non-GAAP measures is the result of certain practices that undercut the credibility of the information that was being reported, according to Bricker. The staff has issued compliance and disclosure interpretations to remind registrants of the importance of not giving more prominence to non-GAAP numbers than GAAP and provides examples of how a non-GAAP measure may be materially misleading. A company cannot cherry pick good news while omitting bad news, he said. White said both lawyers and accountants should be a part of the disclosure process when it comes to non-GAAP measures.

Gallagher added that non-GAAP measures tend to have a significant impact and, accordingly, should be subject to rigorous internal controls. If the information is important enough to disclose to the public and move markets, it should be subject to internal controls, he said.

Takeaways. The panelists were asked for their takeaways at the conclusion of the program. Bricker advised registrants to focus on the tone at the top and to incorporate it into the reporting process. Gallagher said that the new GAAP (new accounting standards) and non-GAAP are at the forefront of financial reporting and should be a key focus area. Tokar said change is coming, and it is not a small piece of the reporting process. She urged registrants to get ready, report on their progress, and embrace the new disclosure.

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