Auditing the Fair Value of Financial Statements

Studies on SingleStudies Audit and Yellow Book Deficiencies

Accounting and Auditing Supplement No. 3–2019 PBV1701P

PBV1701P

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Chapter 1

Accounting and Auditing Supplement No. 3–2019

Introduction This update includes the more significant accounting and auditing developments from July 1, 2019, through September 30, 2019. Included in this update are standard-setting and project activities of the Auditing Standards Board (ASB), Accounting and Review Services Committee (ARSC), Professional Ethics Executive Committee (PEEC), Financial Accounting Standards Board (FASB, Public Company Accounting Oversight Board (PCAOB), and the Securities and Exchange Commission (SEC).

These developments, although believed to be complete as of the date they were prepared for this course material, may not cover all areas within accounting and auditing relevant to all users of this material.

This update may refer you to other sources of information, in which case you are strongly encouraged to review that information if relevant to your needs.

Final standards, interpretations, and regulations AICPA

Auditing Standards Board

Statement on Auditing Standards Statement on Auditing Standards (SAS) No. 136, Forming an Opinion and Reporting on Financial Statements of Employee Benefit Plans Subject to ERISA

Issue date July 2019

Background According to the AICPA report Enhancing Audit Quality, 2017 Highlights and Progress, enhanced oversight of audits of employee benefit plans (EBPs) subject to the Employee Retirement Income Security Act of 1974 (ERISA) found troubling levels of nonconformity with the standards and with the two primary areas challenging EBP audit practitioners that follow:

. 20% of engagements had material nonconformity related to improper use of system and organization controls (SOC) reports and certifications. . 50% of engagements had material nonconformity related to inadequate or no documentation.

These findings prompted the ASB to propose a new audit standard for reporting on EBP audits subject to ERISA. The proposal sought to:

. help auditors better understand their responsibilities with respect to EBP audits and . provide financial statement users with more information about auditors’ responsibilities.

SAS No. 136 creates a new AU-C section 703 in AICPA Professional Standards and addresses the auditor’s responsibility to form an opinion and report on the audit of financial statements of EBPs subject to ERISA. The SAS amends the form and content of the auditor’s report issued as a result of an audit of ERISA plan financial statements.

This SAS applies to audits of single employer, multiple employer, and multiemployer plans subject to ERISA. It applies to an audit of a complete set of general-purpose financial statements of EBPs subject to ERISA, and includes performance requirements specific to auditing ERISA plans relating to engagement acceptance, audit risk assessment and response relating to plan provisions, communication of reportable findings to those charged with governance, responsibilities relating to the ERISA-required supplemental schedules, etc.

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-2 Main provisions and significant changes To enhance the communicative value and transparency of the auditor’s report, SAS No. 136 creates a new reporting model for audits of ERISA plans in the following ways:

. It changes the form and content of the auditor’s report when management elects to exclude from the audit certain investment information held and certified by a qualified institution. . It includes incremental performance requirements to effect certain new reporting requirements in addition to those currently set forth in the existing AU-C sections in AICPA Professional Standards.

Effective date The SAS is effective for audits of ERISA plan financial statements for periods ending on or after December 15, 2020. Early implementation is not permitted. New resources (the “At a Glance” document and Frequently Asked Questions) are available.

Auditing Standards Board SAS No. 137, The Auditor’s Responsibilities Relating to Other Information Included in Annual Reports

Issue date July 2019

Background This SAS supersedes SAS No. 118, Other Information in Documents Containing Audited Financial Statements, as amended (AICPA, Professional Standards, AU-C sec. 720). The ASB believes the standard will benefit financial statements users by providing transparency related to the auditor’s responsibility for other information when the auditor has obtained all other information at the date of the auditor’s report on the financial statements. SAS No. 137 is expected to reduce diversity in practice with respect to information and documents within the scope of this SAS.

Main provisions and significant changes This SAS addresses the auditor’s responsibilities relating to other information, whether financial or nonfinancial (other than financial statements and the auditor’s report on the financial statements), included in an entity’s annual report. An entity’s annual report may be a single document or a combination of documents that serve the same purpose. Specifically, SAS No. 137 amends the following:

. SAS No. 119, Supplementary Information in Relation to the Financial Statements as a Whole, as amended (AU-C sec. 725) . SAS No. 120, Required Supplementary Information, as amended (AU-C sec. 730) . SAS No. 122, Statements on Auditing Standards: Clarification and Recodification, as amended – AU-C section 210, Terms of Engagement – AU-C section 230, Audit Documentation – AU-C section 260, The Auditor’s Communication With Those Charged With Governance – AU-C section 450, Evaluation of Misstatements Identified During the Audit – AU-C section 600, Special Considerations — Audits of Group Financial Statements (Including the Work of Component Auditors) – AU-C section 810, Engagements to Report on Summary Financial Statements

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-3 . SAS No. 133, Auditor Involvement With Exempt Offering Documents (AICPA, Professional Standards, AU-C sec. 945) . SAS No. 134, Auditor Reporting and Amendments, Including Amendments Addressing Disclosures in the Audit of Financial Statements, as amended – AU-C section 700, Forming an Opinion and Reporting on Financial Statements – AU-C section 705, Modifications to the Opinion in the Independent Auditor’s Report – AU-C section 706, Emphasis-of-Matter Paragraphs and Other-Matter Paragraphs in the Independent Auditor’s Report

Effective date This SAS becomes effective for audits of financial statements for periods ending on or after December 15, 2020. Early implementation is not permitted.

Accounting and Review Services Committee The ARSC did not issue any new or revised standards or interpretations in this period.

Professional Ethics Executive Committee The PEEC did not issue any new or revised standards or interpretations in this period.

FASB

Accounting standards updates Accounting Standards Update (ASU) No. 2019-07, Amendments to SEC Paragraphs Pursuant to SEC Final Rule Releases No. 33-10532, Disclosure Update and Simplification, and Nos. 33-10231 and 33- 10442, Investment Company Reporting Modernization, and Miscellaneous Updates

Issue date July 2019

Background The FASB Accounting Standards Codification® is the authoritative source of U.S. generally accepted auditing principles (GAAP). It includes relevant portions of authoritative content issued by the SEC and selected SEC staff interpretations and administrative guidance. The FASB updated the SEC portions of its Codification to reflect changes the SEC made to simplify disclosures and modernize the reporting and disclosure of information by registered investment companies.

Major provisions and significant changes The SEC amended its disclosure rules in 2018 with the aim of providing investors with more useful disclosure information and to simplify compliance without altering the mix of information being provided. ASU 2019-07 updates the Codification to reflect the amendments of various SEC disclosure requirements that the agency determined were redundant, duplicative, overlapping, outdated, or superseded.

SEC The SEC did not issue any new or revised regulations or guidance in this period.

PCAOB

PCAOB Staff Guidance: Auditing Accounting Estimates

Issue Date August 2019

Background New requirements for auditing accounting estimates will take effect for audits of financial statements for fiscal years ending on or after December 15, 2020. These requirements will apply to estimates in significant accounts and disclosures and will replace three PCAOB standards with a single, uniform risk- based approach to auditing estimates, including fair value measurements.

The new requirements are reflected in the revised and retitled AS 2501, Auditing Accounting Estimates, Including Fair Value Measurements, and related amendments to other PCAOB standards. When the revised standard takes effect, AS 2502, Auditing Fair Value Measurements and Disclosures, and AS 2503, Auditing Derivative Instruments, Hedging Activities, and Investments in Securities, will be rescinded.

Main provisions and significant revisions This publication highlights aspects of the new requirements for auditors as they begin to plan and perform work on audits subject to the new requirements. It also illustrates relevant considerations for certain key areas of the revised standard, including certain information from the adopting release. Appendix 3 of the adopting release includes a detailed discussion of the new requirements, including differences from and similarities to current requirements. The information included in this publication is not a substitute for any rule or standard; only PCAOB’s rules and standards provide auditors with definitive requirements.

Staff guidance on new requirements for auditing the fair value of financial instruments, included in Appendix A to AS 2501 (Revised), is also available. (See Staff Guidance Auditing the Fair Value of Financial Instruments — Insights for Auditors.) Guidance on the use of specialists, including in developing and auditing estimates, is also available. (See Staff Guidance Using the Work of a Company’s Specialist and Staff Guidance: Supervising or Using the Work of an Auditor’s Specialist.)

Issue date August 2019

Background New requirements for auditing the fair value of financial instruments will take effect for audits of financial statements for fiscal years ending on or after December 15, 2020. These requirements are included in AS 2501, Auditing Accounting Estimates, Including Fair Value Measurements. Appendix A of that standard provides specific requirements when auditing the fair value of financial instruments, primarily when pricing information is obtained from third parties. It applies when the auditor uses third-party pricing information to develop an independent expectation as well as when the auditor evaluates third-party pricing information used by the company.

This publication highlights information for auditors as they begin to plan and perform work on audits subject to the new requirements. It also illustrates relevant considerations for auditing the fair value of financial instruments, especially when pricing information from pricing services, brokers and dealers, and other third-party sources is used, including certain information from the adopting release. Appendix 3 of the adopting release includes a detailed discussion of the new requirements, including differences from and similarities to current requirements. The information in this publication is not a substitute for any rule or standard; only PCAOB’s rules and standards provide auditors with definitive requirements.

More general staff guidance on new requirements for auditing accounting estimates in AS 2501 (Revised) is also available. (See Staff Guidance Auditing Accounting Estimates.) Guidance on the use of specialists, including in developing and auditing estimates, is also available. (See Staff Guidance Using the Work of a Company’s Specialist and Staff Guidance Supervising or Using the Work of an Auditor’s Specialist.)

Main provisions and significant revisions The guidance addresses the following areas:

. Applying Appendix A of AS 2501 – Identifying and assessing risks of material misstatement – Determining whether pricing information provides sufficient appropriate evidence . Using information from pricing services – What is a pricing service? – Assessing reliability of pricing information – Performing procedures to assess reliability at interim dates – Assessing relevance of pricing information – Multiple pricing services . Using broker quotes . Using pricing information from other sources . Unobservable Inputs

Issue date August 2019

Background New requirements for supervising the work of a specialist employed by the auditor’s firm or for using the work of a specialist engaged by the auditor’s firm apply to audits of financial statements for fiscal years ending on or after December 15, 2020. The new requirements can be found in Appendix C to AS 1201, Supervision of the Audit Engagement (when using the work of an auditor-employed specialist); and AS 1210, Using the Work of an Auditor-Engaged Specialist.

This publication highlights information for auditors as they begin to plan and perform work on audits to which the new requirements apply. It also illustrates relevant considerations for the auditor when supervising the work of an auditor-employed specialist or using the work of an auditor-engaged specialist, including certain information from the adopting release. Appendix 3 of the adopting release includes a detailed discussion of the new requirements, including differences from and similarities to current requirements. The information included in this publication is not a substitute for any rule or standard; only the rules and standards provide the auditor with definitive requirements.

Staff guidance on the new requirements for using the work of a company’s specialist as audit evidence is also available. (See Staff Guidance Using the Work of a Company’s Specialist.) Guidance on auditing accounting estimates and on auditing the fair value of financial instruments is also available. (See Staff Guidance Auditing Accounting Estimates and Staff Guidance Auditing the Fair Value of Financial Instruments.)

Main provisions and significant revisions The guidance addresses the following areas:

. What is an auditor’s specialist? – Auditor-employed specialist – Auditor-engaged specialist . Supervising or using the work of the auditor’s specialist – Assessing knowledge, skills and ability (KSA) – Determining independence or objectivity (as applicable) – Informing the auditor’s specialist of the work to be performed – Determining the extent of review of the work of an auditor’s specialist – Evaluating the work of the auditor’s specialist

Issue date August 2019

Background New requirements for when an auditor uses the work of company specialists as audit evidence will take effect for audits of financial statements for fiscal years ending on or after December 15, 2020. The new requirements are included in Appendix A to AS 1105, Audit Evidence, and supplement existing requirements in AS 1105.

This publication highlights information for auditors as they begin to plan and perform work on audits to which the new requirements apply. It also illustrates relevant considerations for the auditor when evaluating the work of a company’s specialist, including certain information from the adopting release. Appendix 3 of the adopting release includes a detailed discussion of the new requirements, including differences from and similarities to current requirements. The information included in this publication is not a substitute for any rule or standard; only the rules and standards provide the auditor with definitive requirements.

Staff guidance on new requirements for supervising the work of a specialist employed by the auditor’s firm or using the work of a specialist engaged by the auditor’s firm is also available. (See Staff Guidance Supervising or Using the Work of an Auditor’s Specialist.) Guidance on auditing accounting estimates and on auditing the fair value of financial instruments is also available. (See Staff Guidance Auditing Accounting Estimates and Staff Guidance Auditing the Fair Value of Financial Instruments.)

Main provisions and significant revisions The guidance addresses the following areas:

. What is a company’s specialist? . The auditor’s responsibilities when using the work of a company’s specialist – Understanding the specialist’s work – Assessing the KSA of the company’s specialist and the specialist’s relationship to the company – Evaluating the specialist’s work  Testing and evaluating data  Evaluating significant assumptions  Evaluating the specialist’s methods  Evaluating the specialist’s work to obtain the necessary audit evidence  Evaluating the specialist’s findings

Auditing Standards Board

Proposed SAS: Auditing Accounting Estimates and Related Disclosures

Issue date August 22, 2019

Comment deadline November 22, 2019

Background The proposed SAS seeks to enhance the standard for auditing accounting estimates by enabling auditors to address increasingly complex scenarios that arise from new accounting standards that require estimates and related disclosures. The proposed SAS also seeks to enhance the auditor’s focus on factors driving estimation uncertainty and potential management bias. Inspection findings globally have highlighted accounting estimates as a key area where enhancing standards was needed to improve audit performance.

The ASB has considered the revisions to auditing accounting estimates resulting from the International Auditing and Assurance Standards Board (IAASB) and PCAOB projects in developing the proposed changes, which the ASB believes will help auditors in their procedures to audit accounting estimates and related disclosures while enhancing auditor skepticism and improving audit quality.

Proposed changes The proposed SAS would supersede SAS No. 122, Statements on Auditing Standards: Clarification and Recodification, as amended, AU-C section 540, Auditing Accounting Estimates, Including Fair Value Accounting Estimates, and Related Disclosures.

The proposed SAS would also amend the following SASs:

. SAS No. 122, as amended – AU-C section 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance With Generally Accepted Auditing Standards – AU-C section 230, Audit Documentation – AU-C section 240, Consideration of Fraud in a Financial Statement Audit (AU-C section 240) – AU-C section 260, The Auditor’s Communication With Those Charged With Governance (AU-C section 260) – AU-C section 501, Audit Evidence — Specific Considerations for Selected Items (AU-C section 501) – AU-C section 580, Written Representations (AU-C section 580)

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-9 . SAS No. 134, Auditor Reporting and Amendments, Including Amendments Addressing Disclosures in the Audit of Financial Statements, as amended – AU-C section 700, Forming an Opinion and Reporting on Financial Statements – AU-C section 701, Communicating Key Audit Matters in the Independent Auditor’s Report . SAS No. 136, Forming an Opinion and Reporting on Financial Statements of Employee Benefit Plans Subject to ERISA (AU-C sec. 703)

Proposed SAS: Amendments to AU-C Sections 800, 805, and 810 to Incorporate Auditor Reporting Changes from SAS No. 134

Issue date August 28, 2019

Comment deadline October 28, 2019

Background In May 2019, the ASB issued SAS No. 134, Auditor Reporting and Amendments, Including Amendments Addressing Disclosures in the Audit of Financial Statements. The overall objective of SAS No. 134 was to update the form and content of auditors’ reports on nonissuers’ financial statements to be more consistent with standards of the IAASB and recent updates to PCAOB standards. This proposed SAS aligns the AU-C 800 series with the relevant auditor reporting standards in SAS No. 134.

Following are some of the more significant changes introduced by SAS No. 134, categorized by the AU-C section in which the change occurs:

. AU-C section 700, Forming an Opinion and Reporting on Financial Statements – Requires the “Auditor’s Opinion” section of the report to be the first section of the report for enhanced visibility; requires the “Basis for Opinion” section of the report to immediately follow the “Auditor’s Opinion” section – Requires the auditor’s report to include a statement that the auditor is required to be independent of the entity and to meet the auditor’s other ethical responsibilities, in accordance with relevant ethical requirements relating to the audit – Enhances auditor reporting related to going concern by requiring a description of the respective responsibilities of management, when required by the applicable financial reporting framework, and responsibilities of the auditor relating to going concern – Expands the description of the auditor’s responsibilities, including those relating to professional judgment and skepticism, and the auditor’s communications with those charged with governance . AU-C section 701, Communicating Key Audit Matters in the Independent Auditor’s Report – Addresses the auditor’s responsibility to communicate key audit matters (KAMs) in the auditor’s report when engaged to do so; does not otherwise require the communication of KAMs

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-10 . AU-C section 705, Modifications to the Opinion in the Independent Auditor’s Report – Aligns the form and content of the auditor’s report with the changes in AU-C section 700 when the auditor concludes that an unmodified auditor’s opinion in accordance with AU-C section 700 is not appropriate (qualified, adverse, or disclaimer of opinion); the revisions to AU-C section 705 do not change existing requirements regarding circumstances in which a modification to the auditor’s opinion is required or for determining the type of modification to the auditor’s opinion) . AU-C section 706, Emphasis-of-Matter and Other-Matter Paragraphs – Clarifies the relationship between emphasis-of-matter (EOM) paragraphs and the communication of KAMs; when engaged to communicate KAMs, the use of an EOM paragraph is not a substitute for including the matter in the KAM section if the matter meets the definition of a KAM – Requires that use of an appropriate heading; when KAMs are communicated, the heading is required to include the term “Emphasis of Matter” . AU-C section 570, The Auditor’s Consideration of an Entity’s Ability to Continue as a Going Concern – Amends AU-C section 570 to require inclusion of a separate section in the auditor’s report when substantial doubt exists and to require that the heading of that section be titled “Substantial Doubt About the Entity’s Ability to Continue as a Going Concern”

The amendments to the AU-C 800 sections also reflect the issuance of the following SASs:

. SAS No. 136, Forming an Opinion and Reporting on Financial Statements of Employee Benefit Plans Subject to ERISA. SAS No. 136 addresses the auditor’s responsibility to form an opinion on the financial statements of EBPs subject to ERISA. . SAS No. 137, The Auditor’s Responsibilities Relating to Other Information Included in Annual Reports, which supersedes SAS No. 118, Other Information in Documents Containing Audited Financial Statements, as amended and codified in AU-C section 720.

Effective date If issued as final, the proposed SAS will be effective for audits of financial statements for periods ending on or after December 15, 2020. Early implementation is not permitted.

Proposed shanges The following list summarizes what the ASB believes will be the most significant changes.

Changes to AU-C section 800: . Designates cash, tax, regulatory, contractual, and other bases of accounting as examples of special- purpose frameworks rather than as part of the definition of special-purpose framework . Adds an introductory paragraph stating that section 570, The Auditor’s Consideration of an Entity’s Ability to Continue as a Going Concern, applies to audits of special-purpose financial statements . Clarifies that, in all audits of special-purpose financial statements, the auditor is required to do the following: – Conclude whether substantial doubt exists about the entity’s ability to continue as a going concern for a reasonable period – When substantial doubt exists, evaluate the adequacy of the financial statement disclosures as required by the applicable financial reporting framework . For special-purpose financial statements prepared in accordance with a contractual or other basis of accounting, adds a new requirement that the EOM paragraph in the auditor’s report state that the financial statements may not be suitable for another purpose.

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-11 Changes to AU-C section 805: . Adds paragraph .A21, which indicates that the applicable financial reporting framework may not have a requirement for management to assess going concern for a single financial statement or element (or going concern may not be relevant at all to the framework) . Adds examples of factors that may be relevant in considering whether a matter included in the auditor’s report on a complete set of financial statements is relevant in the context of an engagement to report on a single financial statement or a specific element, account, or item of a financial statement

Changes to AU-C section 810: . Amends paragraph .15e — which addresses the paragraph in the auditor’s report describing the auditor’s responsibilities — to delete the description of procedures performed by the auditor

Accounting and Review Services Committee The ARSC did not propose any new or revised standards or interpretations in the period.

Professional Ethics Executive Committee The PEEC did not propose any new or revised standards or interpretations in the period.

FASB

Proposed ASU Debt — Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging — Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity

Issue date July 31, 2019

Comment deadline October 14, 2019

Background This project addresses issues identified as a result of the complexity associated with applying GAAP to certain financial instruments with characteristics of liabilities and equity. Accounting complexity appears to be a significant contributing factor to numerous financial statement restatements and adds complexity for users. In addressing the complexity, the FASB amended the guidance on convertible instruments and the guidance on the derivatives scope exception for contracts in an entity’s own equity.

For convertible instruments, the Board reduced the number of accounting models for convertible debt instruments and convertible preferred stock. Limiting accounting models would result in fewer embedded conversion features being separately recognized from the host contract as compared with

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-12 current GAAP. Conversion features that would continue to be separately recognized are those embedded conversion features that are not clearly and closely related to the host contract, that meet the definition of a derivative, and that do not qualify for a scope exception from derivative accounting.

The FASB expects that eliminating certain accounting models would simplify the accounting for convertible instruments, reduce complexity for preparers and practitioners, and improve the decision usefulness and relevance of the information provided to financial statement users. The Board also decided to enhance information transparency by making targeted improvements to the disclosures for convertible instruments and earnings-per-share (EPS) guidance.

The Board proposed revised guidance for the derivatives scope exception for contracts in an entity’s own equity to reduce form-over-substance-based accounting conclusions. The Board also decided to improve and amend related disclosure and EPS guidance.

The amendments in this proposed ASU affect entities that issue convertible instruments and/or contracts in an entity’s own equity.

Proposed amendments Under current GAAP, there are five accounting models for convertible debt instruments. Except for the traditional convertible debt model that recognizes a convertible debt instrument as a single debt instrument, the other four models require that embedded conversion features be separated from the host contract and classified as equity under Subtopic 470-20, Debt — Debt with Conversion and Other Options, or as liabilities under Subtopic 815-15, Derivatives and Hedging — Embedded Derivatives. Convertible preferred stock should be assessed under similar models.

Feedback from preparers and practitioners indicated that the accounting guidance for convertible instruments is unnecessarily complex and difficult to navigate, resulting in applying or interpreting the guidance incorrectly or inconsistently. Consequently, accounting for convertible instruments has been the subject of a significant number of restatements.

According to the FASB, most users do not find the current separation models for convertible instruments useful and relevant because they generally view and analyze those instruments on a whole-instrument basis. Because a convertible debt instrument will be either repaid at maturity or converted to stock, users of financial statements asserted that separating the instrument into two components is confusing and creates a result in the financial statements inconsistent with their views. Many users also indicated that cash (coupon) interest expense is more relevant information for their analyses rather than the imputed interest expense that results from the separation of conversion features required by GAAP. Overall, most users of financial statements stated a preference for a simple recognition, measurement, and presentation approach with disclosures for convertible instruments to have a simplified and consistent starting point across entities.

In response to the feedback, the Board decided to simplify the accounting for convertible instruments by removing the separation models in Subtopic 470-20 for convertible instruments. Under the proposed ASU, for convertible instruments with conversion features that are not required to be accounted for as

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-13 derivatives under Topic 815, the embedded conversion features would no longer be separated from the host contract. Consequently, a convertible debt instrument would be accounted for as a single liability measured at its amortized cost and a convertible preferred stock would be accounted for as a single equity instrument measured at its historical cost if no other features require bifurcation and recognition as derivatives. By removing those separation models, the interest rate of convertible debt instruments typically would be closer to the coupon interest rate when applying the guidance in Topic 835, Interest.

The FASB expects that the amended ASU would provide financial statement users with a simpler and more consistent starting point to perform analyses across entities. The Board also expects the proposed amendments to improve the operability of the guidance and to reduce, to a large extent, the complexities in accounting for convertible instruments and difficulties with the interpretation and application of the relevant guidance.

Under current guidance in Subtopic 815-40, Derivatives and Hedging — Contracts in Entity’s Own Equity, an entity must determine whether a contract qualifies for a scope exception from derivative accounting. This guidance must be applied to freestanding financial instruments and embedded features that have all the characteristics of a derivative instrument and freestanding financial instruments that can be settled in an entity’s own stock, regardless of whether the instrument has all the characteristics of a derivative instrument. The analysis to determine whether a contract meets this scope exception includes two criteria: (1) the contract is indexed to an entity’s own stock and (2) the contract is classified as equity. If both criteria are not met, the contract must be recognized as an asset or a liability.

Under the scope and scope exceptions section of Subtopic 815-40, the concept of indexation is defined as an application of the following two-step process:

. Step 1: An entity evaluates the feature for any contingent exercise provisions. This step is not within the scope of the amendments in this proposed ASU. . Step 2: An entity evaluates the feature’s settlement provisions. The fixed-for-fixed principle underlying step 2 means that an embedded feature or equity contract is considered indexed to an entity’s own stock if its settlement amount will equal the difference between the fair value of a fixed number of the entity’s equity shares and a fixed monetary amount. However, most contracts subject to this guidance contain adjustment provisions upon the occurrence of contingent events. As a result, a list of exceptions exists to supplement the principle. In performing this assessment under the indexation criterion, an entity should consider any potential settlement adjustment provisions regardless of the likelihood of the contingent events occurring.

Under the recognition section of Subtopic 815-40, an entity must determine whether a contract meets specific conditions to be classified as equity. Analyzing whether a contract meets the settlement criterion involves evaluating the contract’s settlement optionality and conditions necessary for share settlement. The guidance includes seven conditions for performing this assessment.

The amendments in this proposed ASU would revise the guidance in Subtopic 815-40 as follows:

1. Add a likelihood threshold to the existing indexation guidance. All other existing indexation guidance would remain. However, an entity would no longer be required to evaluate potential adjustments that have a remote likelihood of occurring.

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-14 2. Remove the following from the settlement guidance: a. Requirement to evaluate contingent events that could require net cash settlement but have a remote likelihood of occurring b. Condition about settlement in unregistered shares c. Condition about collateral d. Condition about shareholder rights 3. Clarify the condition about failure to timely file in the settlement guidance that penalty payments do not preclude equity classification.

The amendments in this proposed ASU would also

. reduce or eliminate situations in which classification conclusions are driven by remote contingent events and . change the population of contracts currently recognized as assets or liabilities.

The FASB also decided to change the frequency of reassessing whether the derivatives scope exception is met. Under current guidance, reassessment is required at each balance sheet date. The proposed ASU would reduce the frequency of reassessment by requiring it only upon the occurrence of a reassessment event (such as an adjustment to the instrument’s strike price or the number of shares used to calculate the settlement amount).

In considering improvements to the EPS guidance, the Board focused on the areas included in the project’s overall scope of (a) convertible instruments and (b) instruments that qualify for the derivatives scope exception for contracts in an entity’s own equity in Subtopic 815-40 and consequences of the amendments in this proposed ASU to classification, recognition, and measurement in those areas of the guidance.

Effective date The effective date will be determined after the FASB considers stakeholders’ feedback on the amendments in this proposed ASU.

Proposed ASU Investments — Equity Securities (Topic 321), Investments — Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815): Clarifying the Interactions between Topic 321, Topic 323, and Topic 815

Issue date July 30, 2019

Comment deadline August 29, 2019

Background In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments — Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, which added Topic 321, Investments — Equity Securities, and made targeted improvements to address certain aspects of

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-15 accounting for financial instruments. One improvement enabled an entity to measure certain equity securities without a readily determinable fair value at cost, minus impairment, if any. Paragraph 321-10- 35-2, as amended, states that if an entity identifies observable price changes in orderly transactions for the an identical or similar investment of the same issuer, it should measure the equity security at fair value as of the date that the observable transaction occurred (hereinafter referred to as the measurement alternative).

Stakeholders raised questions about interactions between the measurement alternative in Topic 321 and the equity method of accounting in Topic 323, Investments — Equity Method and Joint Ventures. Stakeholders noted that diverse views have emerged about the application of the measurement alternative and the equity method of accounting since the adoption of ASU 2016-01.

Stakeholders also raised questions about the interactions among Topic 321, Topic 323, and Topic 815, Derivatives and Hedging, related to the application of the guidance for certain forward contracts and purchased options to purchase securities that, upon settlement or exercise, would be accounted for under the equity method of accounting. Stakeholders noted that diverse views have emerged about whether these forward contracts and purchased options should be accounted for in accordance with Topic 321, Topic 323, or Topic 815.

The amendments in this proposed ASU would affect all entities that apply the guidance in Topics 321, 323, and 815 and (1) elect to apply the measurement alternative or (2) enter into a forward contract or purchase an option to purchase securities that, upon settlement of the forward contract or exercise of the purchased option, would be accounted for under the equity method of accounting.

Proposed amendments

Issue 1: Accounting for certain equity securities upon the application or discontinuation of the equity method of accounting

The proposed amendments would clarify that an entity should consider observable transactions that require it to either apply or discontinue the equity method of accounting for the purposes of applying the measurement alternative in accordance with Topic 321 immediately before applying or upon discontinuing the equity method.

Issue 2: Scope considerations for forward contracts and purchased options on certain securities

The proposed amendments would clarify that for the purpose of applying paragraph 815-10-15-141(a) an entity should not consider whether, upon the settlement of the forward contract or exercise of the purchased option, individually or with existing investments, the underlying securities would be accounted for under the equity method in Topic 323. An entity would also evaluate the remaining characteristics in paragraph 815-10-15-141 to determine the accounting for those forward contracts and purchased options.

The amendments in this proposed Update would clarify certain interactions between the guidance to account for certain equity securities under Topic 321, the guidance to account for investments under the

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-16 equity method of accounting in Topic 323, and the guidance in Topic 815, which could change how an entity accounts for an equity security under the measurement alternative or a forward contract or purchased option to purchase securities that, upon settlement of the forward contract or exercise of the purchased option, would be accounted for under the equity method of accounting. These proposed amendments would improve current GAAP by reducing diversity in practice and increasing comparability of the accounting for these interactions.

Effective date The effective date and the ability to early adopt the amendments will be determined after the Emerging Issues Task Force considers stakeholder feedback on this proposed ASU. The amendments in this proposed ASU would be applied prospectively.

Proposed ASU Financial Instruments — Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842)

Issue date August 15, 2019

Comment deadline September 16, 2019

Background and proposed amendments Since 2014, the FASB has issued several major ASUs. Based on feedback obtained from outreach with stakeholders and monitoring of implementation, the Board has gained a greater understanding about the implementation challenges encountered by all types of entities when adopting a major ASU. The challenges are often magnified for private companies, smaller public companies, and not-for-profit organizations. Following are some factors that affect the severity of challenges encountered by those entities when transitioning to a major ASU:

1. Availability of resources 2. Timing and sources of education 3. Knowledge or experience gained from implementation issues encountered by larger public companies 4. Comprehensive transition requirements 5. Understanding and applying guidance from post-issuance standard-setting activities 6. The development or acquisition of the following: a. Sufficient information technology and expertise in developing new systems or effecting system changes b. Effective business solutions and internal controls c. Better data or estimation processes

In response to those issues and requests to defer certain major ASUs not yet effective for all entities, the FASB developed a philosophy to extend and simplify how effective dates are staggered between larger

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-17 public companies and all other entities. Those other entities include private companies, smaller public companies, not-for-profit organizations, and EBPs.

Under this philosophy, a major ASU would first be effective for larger public companies — entities that are SEC filers (per the Master Glossary definition) but excluding entities eligible to be smaller reporting companies (SRCs) under the SEC’s definition. For all other entities, the Board will consider, with respect to major ASUs, requiring an effective date staggered at least two years after that for larger public companies.

For existing major ASUs not yet effective, determining whether an entity is eligible to be a smaller reporting company will be based on an entity’s most recent determination in accordance with SEC regulations as of the issuance of this final ASU. For future major ASUs, the determination will be based on an entity’s most recent determination in accordance with SEC regulations as of the date that the future final ASU is issued.

The FASB proposes in this ASU to apply this change in philosophy to the effective dates for the following major ASUs (including amendments issued after the issuance of the original ASU):

1. ASU No. 2016-13, Financial Instruments — Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (Credit Losses) 2. ASU No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities (Hedging) 3. ASU No. 2016-02, Leases (Topic 842) (Leases)

The Board also will address the application of this change in philosophy to ASU No. 2018-12, Financial Services — Insurance (Topic 944): Targeted Improvements to the Accounting for Long-Duration Contracts (Insurance), as part of a separate project.

Effective dates The Credit Losses currently is not effective for any entities; early application is permitted for fiscal years beginning after December 15, 2018. Its mandatory effective dates are as follows:

1. Public business entities that meet the definition of an SEC filer for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years 2. All other public business entities for fiscal years beginning after December 15, 2020, including interim periods within those fiscal years 3. All other entities (private companies, not-for-profit organizations, and EBPs) for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years

Under the revised effective date philosophy, the mandatory effective dates for Credit Losses in this proposed Update would be amended to the following:

1. Public business entities that meet the definition of an SEC filer, excluding entities eligible to be SRCs as defined by the SEC, for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years 2. All other entities for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-18 Hedging currently is effective for some entities. Its effective dates are as follows (early application is allowed):

1. Public business entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years 2. All other entities for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020

Because Hedging already is effective for all public business entities, the FASB retained the effective date for those entities, including SRCs. The Board also decided to defer the mandatory effective date for Hedging for all other entities by an additional year. Therefore, Hedging would be effective for entities other than public business entities for fiscal years beginning after December 15, 2020, and interim periods within fiscal years beginning after December 15, 2021. Early application would continue to be allowed.

Leases currently is effective for some entities. Its effective dates are as follows (early application is allowed):

1. Public business entities; not-for-profit entities that have issued or are conduit bond obligors for securities that are traded, listed, or quoted on an exchange or an over-the-counter market; and EBPs that file or furnish financial statements with or to the SEC for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years 2. All other entities for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020

Because Leases already is effective for entities listed within the preceding no. 1, the FASB retained the effective date for those entities, including SRCs. The Board also decided to defer the effective date for all other entities by an additional year. Therefore, Leases would be effective for entities listed within the preceding no. 2 for fiscal years beginning after December 15, 2020, and interim periods within fiscal years beginning after December 15, 2021. Early application would continue to be allowed.

Proposed ASU Financial Services — Insurance (Topic 944)

Issue date August 21, 2019

Comment deadline September 20, 2019

Background On August 15, 2018, the FASB issued ASU No. 2018-12, Financial Services — Insurance (Topic 944): Targeted Improvements to the Accounting for Long-Duration Contracts, which made targeted amendments to improve, simplify, and enhance the financial reporting requirements for long-duration contracts issued by insurance entities. For public business entities, the amendments in ASU No. 2018-12 are effective for fiscal years (and interim periods within those fiscal years) beginning after December 15, 2020. For all other entities, those amendments are effective for fiscal years beginning after December 15,

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-19 2021, and interim periods within fiscal years beginning after December 15, 2022. Early application of the amendments is permitted.

The Board received a technical agenda request to defer the effective date of the amendments in ASU No. 2018-12 for public entities by one year.

Separately, the Board issued a proposed ASU, Financial Instruments — Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842): Effective Dates, on August 15, 2019. The FASB developed a philosophy to extend and simplify how effective dates are staggered between larger public companies and all other entities. Under this philosophy, a major Update would first be effective for entities that are SEC filers (per the Codification’s Master Glossary definition), excluding entities eligible to be SRCs under the SEC definition. For all other entities, the Board will consider requiring an effective date staggered at least two years after the effective date for SEC filers, excluding entities eligible to be SRCs.

The amendments in this proposed ASU would address the agenda request and would apply the new proposed philosophy on effective dates to the amendments in ASU No. 2018-12.

Proposed amendments — Effective date The amendments in this proposed ASU would defer the effective date of the amendments in ASU No. 2018-12 for all entities.

For SEC filers, excluding entities eligible to be SRCs as defined by the SEC, the amendments in ASU No. 2018-12 would be effective for fiscal years beginning after December 15, 2021, and interim periods within those fiscal years. The determination of whether an entity is an SRC would be based on an entity’s most recent determination in accordance with SEC regulations as of the issuance of amendments in a final ASU on the effective date for Topic 944. Early application of the amendments in ASU No. 2018-12 would be permitted.

For all other entities, the amendments in ASU No. 2018-12 would be effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Early application of the amendments in ASU No. 2018-12 would be permitted.

Proposed ASU Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting

Issue date September 5, 2019

Comment deadline October 7, 2019

Background The FASB is proposing optional guidance for a limited time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting.

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-20 In response to concerns about structural risks of interbank offered rates (IBORs) and, particularly, the risk of cessation of the London Interbank Offered Rate (LIBOR), regulators in several jurisdictions around the world have undertaken reference rate reform initiatives to identify alternative reference rates that are more observable or transaction-based and less susceptible to manipulation.

Stakeholders raised certain operational challenges likely to arise in accounting for contract modifications and hedge accounting due to reference rate reform. Some challenges relate to the significant volume of contracts and other arrangements, such as debt agreements, lease agreements, and derivative instruments, which will need to be modified to replace references to discontinued rates with references to replacement rates. For accounting purposes, such contract modifications are required to be evaluated in determining whether the modifications result in the establishment of new contracts or the continuation of existing contracts. Stakeholders indicated that due to the significant volume of affected contracts and other arrangements, together with a compressed time frame for making contract modifications, the application of existing accounting standards on assessing modifications versus extinguishments could be costly and burdensome and financial reporting results should reflect the intended continuation of such contracts and arrangements.

Stakeholders raised additional accounting concerns specific to hedge accounting. Specifically, changes in a reference rate could disallow the application of certain hedge accounting guidance, and certain hedging relationships may not qualify as highly effective during the period of the market-wide transition to a replacement rate. Stakeholders indicated that the inability to apply hedge accounting because of reference rate reform would result in financial reporting outcomes that do not reflect entities’ intended hedging strategies when those strategies continue to operate as effective hedges.

The amendments in this proposed ASU would be elective and would apply to all entities, subject to meeting certain criteria, for contract modifications or hedging relationships that reference LIBOR or another reference rate expected to be discontinued due to reference rate reform.

Proposed amendments The amendments in this proposed ASU would provide optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met.

The amendments in this proposed ASU would apply only to contracts and hedging relationships that reference LIBOR or another reference rate expected to be discontinued due to reference rate reform. The proposed expedients and exceptions provided by the amendments would not apply to contract modifications made and hedging relationships entered into or evaluated after December 31, 2022.

For other Topics and Subtopics in the Codification, the amendments in this proposed ASU also include a general principle that would permit entities to:

1. Consider modifications of contracts due to reference rate reform to be a continuation of those contracts 2. Not reassess previous determinations

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-21 When elected, the optional expedients for contract modifications would be applied consistently for all contracts or transactions within the relevant Topic, Subtopic, or Industry Subtopic within the Codification that contains the guidance that otherwise would be required to be applied.

The proposed ASU also addresses the following:

. Exceptions to Topic 815 guidance related to changes in critical terms of a hedging relationship . Optional expedients for fair value hedges . Optional expedients for cash flow hedges

Effective date The amendments in this proposed ASU would be effective for all entities upon issuance of the final ASU. Upon adoption, an entity may elect to apply the proposed amendments prospectively to contract modifications made and to hedging relationships existing as of or entered into on or after the date of adoption and through December 31, 2022. The proposed amendments would not apply to contract modifications made and hedging relationships entered into or evaluated after December 31, 2022.

Proposed ASU Debt (Topic 470): Simplifying the Classification of Debt in a Classified Balance Sheet (Current versus Noncurrent) — Revision of exposure draft issued January 10, 2017

Issue date September 12, 2019

Comment deadline October 28, 2019

Background The FASB is issuing this proposed ASU as part of its initiative to reduce complexity in accounting standards (Simplification Initiative). The objective of the Simplification Initiative is to identify, evaluate, and improve areas of GAAP for which cost and complexity can be reduced while maintaining or improving the usefulness of the information provided to financial statement users.

Stakeholders have told the Board that the guidance on determining whether debt should be classified as current or noncurrent in a classified balance sheet is overly complex. Topic 470 includes guidance on various narrow-scope, fact-specific debt transactions. The amendments in this proposed ASU would replace the current, fact-specific guidance with an overarching, cohesive principle for debt classification.

The FASB issued a proposed ASU, Debt (Topic 470): Simplifying the Classification of Debt in a Classified Balance Sheet (Current versus Noncurrent), for public comment on January 10, 2017, with comment letters due on May 5, 2017. The Board added the proposed requirements to preclude the consideration of unused long-term financing arrangements and to allow the consideration of grace periods in this revised proposed ASU but has not made significant changes to the other aspects of the 2017 proposed amendments. The Board decided to re-expose the 2017 proposed amendments to raise awareness of

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-22 the revisions with all entities, including private company and not-for-profit organization stakeholders, and to avoid unintended consequences of the final guidance.

The amendments in this proposed ASU relate to separate classifications of current debt and noncurrent debt within a classified balance sheet. Separate classification of current debt and noncurrent debt is not required for entities that do not present a classified balance sheet.

The amendments in this proposed ASU would apply to all entities that enter into a debt arrangement and present a classified balance sheet. A debt arrangement provides a lender with a contractual right to receive consideration and a borrower with a contractual obligation to pay consideration on demand or on fixed or determinable dates. The proposed amendments also would apply to convertible debt instruments, liability-classified mandatorily redeemable financial instruments, and lease liabilities.

Proposed amendments The amendments in this proposed ASU would introduce a principle for determining whether debt or other instruments within the scope of the proposed amendments would be classified as a noncurrent liability as of the balance sheet date. According to that principle, an entity would classify an instrument as noncurrent if either of the following criteria is met as of the balance sheet date:

1. The liability is contractually due to be settled more than one year (or operating cycle, if longer) after the balance sheet date. 2. The entity has a contractual right to defer settlement of the liability for a period greater than one year (or operating cycle, if longer) after the balance sheet date.

The amendments in this proposed ASU also would require more comprehensive disclosures about defaults resulting from violations of a loan covenant, grace periods within which a debtor may cure a violation, and triggers of a subjective acceleration clause.

The amendments in this proposed ASU could shift classification of certain debt arrangements between noncurrent liabilities and current liabilities as compared with current guidance. The existing classification guidance would be superseded by a principle that may result in a classification that differs from the classification produced under existing rules.

There could be a change in classification when a borrower violates a provision of a long-term debt arrangement and the debt arrangement provides a specified grace period. Current GAAP requires that an entity classify that debt as a current liability unless it is probable that the violation will be cured within the period, which would prevent the debt from becoming callable. The amendments in this proposed ASU would require that the principle be applied in that scenario, which would result in a noncurrent liability classification if either of the criteria in the principle is met as of the balance sheet date.

Effective date In the first set of interim and annual financial statements following the effective date of the amendments in this proposed ASU, an entity would apply the proposed amendments on a prospective basis to debt that exists at that date and after that date. Early adoption of the proposed amendments would be permitted.

© 2019 Association of International Certified Professional Accountants. All rights reserved. 1-23 After considering stakeholder feedback, the FASB will determine the effective date of the amendments in this proposed ASU.

SEC

Release Nos. 33-10668; 34-86614; File No. S7-11-19: Modernization of Regulation S-K Items 101, 103, and 105

Issue date August 8, 2019

Comment deadline October 22, 2019

Background The SEC proposed amendments to modernize the description of business, legal proceedings, and risk- factor disclosures that registrants are required to make pursuant to Regulation S-K. The proposed amendments improve disclosures and simplify compliance.

These proposals are part of a comprehensive evaluation of the SEC’s disclosure requirements that was recommended in the staff’s Report on Review of Disclosure Requirements in Regulation S-K (S-K Study). The report was mandated by Section 108 of the Jumpstart Our Business Startups Act (“JOBS Act”). Based on the S-K Study’s recommendation, the staff initiated an evaluation of the information registrants are required to disclose, how this information is presented, where this information is disclosed, and how the SEC can better leverage technology as part of these efforts (collectively, the Disclosure Effectiveness Initiative). The overall objective of the Disclosure Effectiveness Initiative is to improve the SEC’s disclosure regime for both investors and registrants.

Proposed amendments The proposed amendments would revise the following items and emphasize a more principles-based approach:

. Item 101(a) (description of the general development of the business) . Item 101(c) (narrative description of the business) . Item 105 (risk factors)

The flexible approach may elicit more relevant disclosures about these items. The proposed amendment of Item 103 (legal proceedings) would continue the current approach because that requirement depends less on the specific characteristics of registrants.

. Make it largely principles-based by providing a nonexclusive list of the types of information that a registrant may need to disclose . Require disclosure of a topic only to the extent such information is material to an understanding of the general development of a registrant’s business . Include as a listed disclosure topic, to the extent material to an understanding of the registrant’s business, transactions and events that affect or may affect the company’s operations . Eliminate a prescribed time frame for this disclosure . Permit a registrant, in filings made after a registrant’s initial filing, to provide only an update of the general development of the business that focuses on material developments in the reporting period (an active hyperlink to the registrant’s most recent filing that, together with the update, would contain the full discussion of the general development of the registrant’s business)

The proposed amendment of Item 101(c) would:

. Clarify and expand its principles-based approach, by including disclosure topics drawn from a subset of the topics currently contained in Item 101(c) . Include, as a disclosure topic, human capital resources, including any human capital measures or objectives that management focuses on in managing the business, if such disclosures would be material to an understanding of the registrant’s business . Refocus the regulatory compliance requirement by including material government regulations as a topic

The proposed amendment of Item 103 would:

. Expressly state that the required information about material legal proceedings may be provided by including hyperlinks or cross-references to legal proceedings disclosure located elsewhere in the document; . To adjust for inflation, revise the $100,000 threshold for disclosure of environmental proceedings to which the government is a party to $300,000

The proposed amendment of Item 105 would:

. Require summary risk factor disclosure if the risk factor section exceeds 15 pages . Refine the principles-based approach of that rule by changing the disclosure standard from the “most significant” factors to the “material” factors required to be disclosed . Require risk factors to be organized under relevant headings

PCAOB

Public Company Accounting Oversight Board The PCAOB did not propose any new or revised standards or guidance during this period.