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FAST FACTS

• Effective for periods beginning after Nov. 15, 2009 (Q1 for calendar year entities)
• Replaces the quantitative (expected loss calculation) consolidation decision process in FIN 46(R) with a qualitative assessment, focusing on power and responsibilities
• Requires an ongoing assessment of who consolidates rather than when certain significant events occur
• Significantly expands variable interest entity disclosures
• The primary beneficiary must now separately present certain VIE assets and liabilities on the balance sheet

BACKGROUND

The Financial Accounting Standards Board’s (FASB) pace of issuing new standards isn’t slowing down – yet. And Statement of Financial Accounting Standard No. 167, Amendments to FASB Interpretation 46 (R) (SFAS167), is one you can’t afford to ignore, even if you are not in the financial services sector. An unsuspecting enterprise may find itself with an interest in a variable interest entity (VIE) that should be consolidated under the broader approach of SFAS 167.

Racing to meet the Accounting Standards Codification deadline of July 1, 2009, the FASB published two related accounting standards (SFAS 166 and SFAS 167) on June 12, 2009. These revise existing standards covering qualifying special purpose entities (QSPE) and key provisions of FIN 46(R), respectively. QSPEs were scoped out of consolidation under FIN 46(R); under SFAS 167 they must be analyzed for consolidation.

FASB has been churning out accounting standards in response to the problems at financial services companies that precipitated the current financial crisis, a lack of confidence in the financial markets, and pressure from the SEC and Congress. Additionally, FASB was faced with a growing recognition that companies were inconsistently applying and interpreting FIN46(R). This heightened investors’ worries that there were more primary beneficiaries out there, in an increasingly fragile economy, than previously acknowledged. Additional motivators were FASB’s stated commitment to improve transparency in financial reporting and disclosure, and promote convergence with judgment-based international accounting standards.

Commonly misperceived as strictly applying to the financial services sector, we believe SFAS 167 will have effects for companies across all industries. This presents potentially billions of dollars in assets and liabilities to be consolidated. Enterprises have reorganized and pared down to meet the challenges of our new economy, employing restructurings, novel supplier arrangements, and inventive financing agreements and sources. New concerns have arisen over affiliated and newly-troubled structured entities. These reorganizations, new arrangements, and economic decline may trigger consolidation under the broader, current control model of consolidation espoused by SFAS 167.

SUMMARY

Present requirements under FIN 46 (R) emphasize a quantitative determination of whether an entity must consolidate a variable interest entity. FIN 46(R) also carves-out QSPEs, and limits re-considerations of an entity’s primary beneficiary status to certain significant events.

SFAS 167 does not change the definition of a VIE. However, it significantly modifies the above key provisions of FIN 46 (R). It targets when to assess an entity’s relationship with a VIE (and thus the decision to consolidate), how to make that assessment, eliminates a number of exceptions, and expands related disclosures.

One potentially game-changing modification of SFAS 167 requires ongoing assessments of an entity’s relationship with a VIE. Prior, FIN 46 (R) only required reconsideration of the initial consolidation determination when certain "triggering events" occurred. In practice, this reconsideration happened rarely. Under SFAS 167, a VIE’s status under FIN 46 (R) shall be reconsidered on an ongoing basis, such as when there is a change in voting or similar rights (or, power) "to direct the activities of the entity that most significantly impact the entity’s economic performance".

Another new consideration is the qualitative nature of this ongoing assessment. SFAS 167 re-defines a primary beneficiary of a VIE as an enterprise that has both of the following:

• "the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance", and
• "the obligation to absorb losses of the VIE that could potentially be significant to the VIE, or the right to receive benefits from the VIE that could potentially be significant to the VIE".

These new, qualitative considerations replace the quantitative, FIN 46 (R) definition of a primary beneficiary as the one who absorbs a majority of the VIE’s expected losses or returns, or both. If the answers to the above bullets are "yes", generally, a company must consolidate the VIE under SFAS 167. Other changes to FIN 46(R) in this area concern "kick-out" rights, power sharing, and related party "tie breaker" guidance.

"These changes were proposed ... to address concerns about companies who were stretching the use of off-balance-sheet entities to the detriment of investors." Robert Herz, FASB Chairman

SFAS 167 also expands disclosures in financial statements of primary beneficiaries. Enhanced disclosures will provide greater transparency concerning an enterprise’s involvement with a VIE. Notable changes include:

• The primary beneficiary must now separately present certain VIE assets and liabilities on the consolidated balance sheet
• The significant judgments and assumptions made in the consolidation analysis
• The nature of any restrictions on consolidated VIE assets and on the settlement of its liabilities
• The nature of, and changes in, the risks associated with involvement with a VIE
• How involvement with a VIE effects the enterprise’s financial position ( the carrying amounts and classification of VIE’s assets and liabilities), performance and cash flows

SFAS 166, Transfers of Financial Assets, issued together with SFAS 167, eliminated the concept of the QSPE. A QSPE was an allowed "out" under FIN 46(R). Accordingly, any company with a QSPE must re-evaluate it for consolidation under SFAS 167, or restructure it before the new standards’ effective date.

Follow the links under "Standards" at www.fasb.org for the full text of SFAS 167.

IMPLEMENTATION

What does this mean for your business? Under this broader concept of consolidation, more entities may have to be consolidated. For any company involved with a VIE significant efforts may be required to gather the necessary understandings and data for SFAS 167 evaluations. Those evaluations must now occur on an ongoing basis. Fees paid to decision makers or service providers may now cause the payer to have a variable interest in the entity being paid due to changes in the guidance related to kick out rights and cancellation provisions.

Remember, SFAS 167 is effective for all new and existing VIEs. As under FIN 46 (R), financial accounts of the consolidated VIEs are measured at their carrying amounts as if SFAS 167 had been applied from the inception of the VIE.

SFAS 167 will be effective as of the beginning of the first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter. For calendar year enterprises it would be any variable interests (relationships) existing as of January 1, 2010 of Q1. Earlier application is prohibited.

For more information please contact:
Margaret F. Gallagher, CPA
Director, Public Companies Group
1.866.99.AMPER