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Is the Financial Accounting Standards Board (“FASB”) considering letting balance sheets reflect internally generated intellectual property values? Current accounting rules require that in order for intangible property to show up on a company’s balance sheet, the company must actually pay to acquire it. One of the most basic underlying guidelines in accounting is the lower of cost or market principle, the concept that balance sheets reflect assets at the lower of their historical cost or their current market value. This has met with some controversy in that International Financial Reporting Standards (“IFRS”) allow for certain assets to be written up to their fair values and unrecognized gains be reported. The FASB will soon issue an “Invitation to Comment” about internally generated intangible assets, says Adam Kamhi, a valuation fellow at the FASB.
The FASB wants to determine whether this should be added to the rulemaking agenda and, if so, to then determine the project’s scope. Current rules don’t allow recognition of internally generated intangibles on the balance sheet. He pointed out that the IFRS has a model for capitalizing development costs, but the model has its critics.
Late last year, the FASB issued a proposed Accounting Standards Update designed to explain the definition of a business to assist organizations evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. This is important, says Kamhi, because the accounting treatment is different and, sometimes, fair value is not required. The project is still in its first phase. Kamhi mentioned that the feedback has been generally favorable in terms of, for example, consistency in practice and a framework for defining a business. He also noted that the IFRS will soon issue a similar exposure draft.
The FASB is considering allowing public companies and nonprofits to use the easier alternative for goodwill impairment. Out for exposure now, this simpler alternative was put forth by the Private Company Council (PCC), and it allows private firms to apply a simplified impairment model to goodwill. Step 2 of the impairment test would be eliminated and replaced with a simpler calculation. Companies will have to test for impairment only when a triggering event occurs that would indicate that the fair value of an entity may be below its carrying amount.
Kamhi also mentioned the FASB’s project to simplify the accounting guidance related to financial instruments with characteristics of both debt and equity. There’s an exposure draft out that would clarify the guidance on financial instruments with “down-round” features, such as warrants and convertible instruments. A down-round provision provides for a downward adjustment of the exercise price in accordance with the contract for an equity-linked financial instrument.
A new standard (ASU 2016-01) that takes effect in 2018 requires public companies to measure equity investments at fair value through net income, with certain exceptions. Kamhi points out that the standard also allows a fair value option for financial liabilities.
Fair value disclosures are addressed in an exposure draft that requires companies to disclose about the estimates and assumptions used to determine the fair values of assets and liabilities. While the new proposed disclosures may produce information investors will find valuable, some industries, such as banking and insurance, have some concerns. In comments (that were due February 2016), bankers say they will have to make sweeping changes to how they track certain assets that would be subject to the new rules. Insurers say it’s not possible to comply with the proposed rules for some of their offerings.