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The Business Lawyer

Summer 2022 | Volume 77, Issue 3

Section II: Accounting Developments 2021

Karen J Garnett and Christina M. Thomas

Summary

  • In 2021, the Financial Accounting Standards Board issued ten Accounting Standards Updates to its Accounting Standards Codification.
  • The following discussion summarizes the ASUs issued by the FASB in 2021.
Section II: Accounting Developments 2021
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In 2021, the Financial Accounting Standards Board (the “FASB” or the “Board”) issued ten Accounting Standards Updates (“ASUs”) to its Accounting Standards Codification (“ASC” or the “Codification”), compared to eleven ASUs in 2020. Two of the ASUs issued in 2021 clarify the scope and application of standards related to reference rate reform and business combinations. Two ASUs make improvements to the leases standard in response to input received as part of the Board’s ongoing post-implementation review of that standard, which was adopted in 2016. Two ASUs provide new practical expedients related to revenue recognized by franchisors and stock compensation. One ASU creates a new accounting alternative related to goodwill impairment analysis. The practical expedients and the accounting alternative apply only to nonpublic entities. One ASU issued in 2021 revises various sections of the Codification to reflect amendments to the U.S. Securities and Exchange Commission’s (“SEC”) financial reporting rules in Regulation S-X and a new subpart to Regulation S-K related to disclosure by bank and savings and loan registrants adopted by the SEC. One ASU issued in 2021 adds a new Codification Topic to improve transparency about government assistance.

The FASB issued one ASU that articulates a consensus of the FASB’s Emerging Issues Task Force (the “EITF”) and one that articulates a consensus of the FASB’s Private Company Council (the “PCC”).

The EITF, which was formed in 1984, seeks to address emerging accounting issues before divergent approaches to those issues become widespread. The FASB must approve all consensuses reached by the EITF. The EITF is chaired by the FASB’s technical director, has members from the auditing profession and from the preparer and financial statement user communities, and observers from the FASB board, the SEC, the Financial Reporting Executive Committee of the American Institute of Certified Accountants (the “AICPA”), and the PCC.

The PCC was formed by the Board of Trustees of the Financial Accounting Foundation (the “FAF”) in May 2012 to improve the process of setting accounting standards for private companies. The PCC determines whether exceptions or modifications to U.S. Generally Accepted Accounting Principles (“GAAP”), including ASUs being considered by the FASB, are appropriate to address the needs of users of private company financial statements. The PCC also is responsible for advising the FASB on the appropriate treatment for private companies for items on the FASB’s technical agenda. The FASB must endorse any proposed exceptions or modifications to GAAP proposed by the PCC. Similar to the EITF, the PCC’s members represent the auditing profession, preparers and financial statement users, and they must have significant experience conducting audits or preparing or using private company financial statements. A FASB board member serves as liaison to the PCC, and the FASB staff provides technical and administrative support to the PCC.

The following discussion summarizes the ASUs issued by the FASB in 2021.

A. ASUs Originated by the FASB

1. Reference Rate Reform—Scope

On January 7, 2021, the FASB issued ASU No. 2021-01 to clarify the scope of the Board’s reference rate reform guidance in ASC Topic 848, Reference Rate Reform. The FASB issued ASC 848 in 2020 to “ease the potential burden on financial reporting in accounting for (or recognizing the effect of ) reference rate reform.” To achieve this objective, ASC 848 provides “temporary, optional expedients and exceptions for applying accounting guidance to contract modifications and hedging relationships . . . that reference LIBOR or another reference rate expected to be discontinued.” ASU 2021-01 clarifies that certain optional expedients and exceptions in ASC 848 may be applied to derivative instruments that do not reference LIBOR or another rate being discontinued but that use an interest rate for margining, discounting, or contract price alignment that is modified as a result of reference rate reform (commonly referred to as the “discounting transition”).

Currently, the guidance in ASC 848 applies to “contracts or other transactions that reference [LIBOR] or a reference rate that is expected to be discontinued as a result of reference rate reform.” In its continuing effort to monitor global developments in reference rate reform, the Board noted market-wide changes in derivative instruments related to the discounting transition. Stakeholders questioned whether the guidance in ASC 848 could also apply to derivatives that are affected by reference rate reform as a result of the discounting transition but do not reference a rate that is expected to be discontinued. The FASB recognized that the current scope of ASC 848 could preclude its application to such derivative instruments, even though changes being made to those instruments also stem from reference rate reform.

ASU 2021-01 expands the scope provisions in ASC 848 to apply the guidance explicitly to derivative instruments that are affected by reference rate reform as a result of the discounting transition. The expanded scope will allow “both derivatives that reference a rate that is expected to be discontinued as a result of reference rate reform and those that reference a rate that is expected to continue after reference rate reform that are affected by the discounting transition” to apply the contract modification relief in ASC 848. Similarly, certain hedge accounting optional exceptions and expedients can be applied to derivative instruments that are subject to the discounting transition.

The amendments provided by ASU 2021-01 are optional and apply to all entities with derivative instruments that use an interest rate for margining, discounting, or contract price alignment that is modified as a result of reference rate reform. The amendments were effective as of January 7, 2021, and generally will be available through December 31, 2022, as follows:

An entity may elect to apply the amendments . . . on a full retrospective basis as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020, or on a prospective basis to new modifications from any date within an interim period that includes or is subsequent to the date of the issuance of a final Update, up to the date that financial statements are available to be issued.

The amendments will not apply to contract modifications and new hedging relationships entered into after December 31, 2022. Also, the amendments generally will not apply to existing hedging relationships evaluated for effectiveness in periods after December 31, 2022, with certain exceptions.

2. Franchisors—Revenue from Contracts with Customers

In January 2021, the FASB issued ASU No. 2021-02 to simplify the application of revenue recognition guidance for franchisors that are not public business entities. The FASB issued ASU 2021-02 to address stakeholder concerns about the complexity of applying the guidance in ASC Topic 606, Revenue from Contracts with Customers, to pre-opening services. The Board expects that the amendments will provide financial reporting results “that are generally more consistent with the intent” of ASC 606 for the affected entities.

ASC 606 requires franchisors to analyze pre-operating activities in their franchise agreements to identify whether the goods and services provided are distinct from the franchise license and thus are performance obligations. If the goods and services are performance obligations, then the franchisor must analyze the standalone selling prices for those performance obligations to determine the timing and amount of revenue recognition. Private company stakeholders indicated that “significant costs and complexity are associated with identifying and evaluating performance obligations related to pre-opening services under a franchise agreement.” Additionally, some non-public franchisors held an “incorrect view that those pre-opening services always would not be distinct from the franchise license and the initial franchise fee therefore would always be recognized over the license term rather than applying the [ASC 606] model to identify performance obligations.”

ASU 2021-02 adds a new subtopic to the standards applicable to franchisors. The new subtopic provides a practical expedient for non-public franchisors to more easily apply the guidance about identifying performance obligations and simplifies the judgment required to determine whether pre-opening services are distinct from the franchise license. The practical expedient allows franchisors that are not public business entities to account for pre-opening services as distinct from the franchise license so long as the services are consistent with those included in a predefined list within the new guidance. The practical expedient applies only to identifying performance obligations. Entities that apply the practical expedient will still need to apply the existing guidance in ASC 606 to determine the timing and amount of revenue recognition. Additionally, entities that elect the practical expedient may make an accounting policy election to recognize the pre-opening services as a single performance obligation, rather than determining whether the pre-opening services are distinct from one another. Non-public franchisors that elect the practical expedient, and entities that make the accounting policy election to recognize pre-opening services as a single performance obligation, will be required to disclose those facts.

The practical expedient is available only to franchisors that are nonpublic business entities. While non-public franchisors expressed concerns about implementation of ASC 606, the Board observed that public franchisors, which adopted ASC 606 before the private franchisors were required to do so, did not raise similar concerns. Entities that do not apply the practical expedient will apply the ASC 606 guidance on identifying performance obligations.

The effective date of the amendments in ASU 2021-02 differ depending on whether an entity has adopted ASC 606. For entities that have already adopted ASC 606, the amendments are effective for annual and interim periods beginning after December 15, 2020, and early adoption is permitted. Those entities will apply the guidance retrospectively to the date ASC 606 was adopted. For entities that have not yet adopted ASC 606, the existing transition and effective date provisions of ASC 606 will also apply to the amendments in ASU 2021-02. The amendments provide “an option of modified retrospective transition or full retrospective transition and an effective date of annual reporting periods beginning after December 15, 2019, and interim periods within annual reporting periods beginning after December 15, 2020.”

3. Intangibles—Goodwill and Other

In March 2021, the FASB issued ASU No. 2021-03, which amends ASC Topic 350, Intangibles—Goodwill and Other, to provide an accounting alternative for evaluating triggering events related to goodwill impairment. The amendments allow private companies and not-for-profit entities to perform the goodwill impairment triggering event evaluation as of the end of the quarterly or annual reporting period, rather than evaluating triggering events throughout the reporting period. The amendments are intended to simplify the triggering event evaluation by allowing entities to elect an accounting alternative that aligns the goodwill triggering event evaluation with the reporting date and other reporting processes.

Generally, ASC 350 requires an entity to monitor and evaluate goodwill impairment triggering events throughout the reporting period. An entity must evaluate whether a triggering event has occurred and, if so, the entity must test goodwill for impairment. A triggering event is an event or change in circumstances “that would more likely than not reduce the fair value of a reporting unit (or in some cases entity) below its carrying amount.” The amendments provide an accounting alternative for private companies and not-for-profit entities to complete the goodwill impairment triggering event analysis at the end of the interim or annual period rather than during the period, as otherwise required under ASC 350.

The Board decided to issue the amendments in response to concerns expressed by certain stakeholders about the cost, complexity, and relevance of private companies and not-for-profit entities preparing a goodwill triggering event evaluation during the reporting period rather than as of the end of the reporting period. Stakeholders noted that private companies often perform the triggering event analysis at the end of their annual reporting process, making it “difficult for them to determine whether there was a triggering event during the year and, if so, the precise date on which the triggering event occurred.” Stakeholders also questioned the usefulness of private companies performing a goodwill impairment evaluation on the date that a triggering event occurs:

As an example, … if a private company that reports only on an annual basis determines that it has a goodwill triggering event on an interim date but the facts and circumstances that led to the triggering event have changed as of the end of the annual reporting period, an impairment charge estimated as of the date of the triggering event may not provide users of financial statements with meaningful information if the entity reports results only at year end.

The FASB expects that the amendments will reduce compliance costs for private companies and not-for-profit entities that elect the accounting alternative by allowing those entities “to align the goodwill triggering event evaluation with their other reporting processes, such as calculating debt covenants.” Additionally, the FASB anticipates no loss of decision-useful information for investors because “feedback indicated that users of private company and not-for-profit financial statements do not place significant value on non-cash charges like goodwill impairment.”

Stakeholders also noted that economic uncertainty resulting from the COVID-19 pandemic highlighted concerns about the timing of goodwill impairment testing because of the significant changes in facts and circumstances from period to period. Accordingly, the FASB considered whether the accounting alternative should be limited to triggering events and reporting periods affected by the pandemic. The Board decided, however, to make the accounting alternative available on an ongoing basis, rather than limiting it to periods affected by the pandemic. In reaching its decision, the Board considered the difficulty of determining what reporting periods have been or will be affected by the pandemic and noted that issues concerning cost, complexity, and user relevance exist regardless of whether an impairment is associated with the pandemic.

The amendments in ASU 2021-03 are effective prospectively for fiscal years beginning after December 15, 2019. Early adoption is permitted for interim and annual financial statements that have not yet been issued or made available for issuance as of March 30, 2021. Retrospective application is not permitted. The amendments also provide that companies and entities that elect the accounting alternative for the first time “need not justify the use of the accounting alternative as preferable” under ASC Topic 250, Accounting Changes and Error Corrections.

4. Leases—Certain Leases with Variable Lease Payments

In July 2021, the FASB issued ASU No. 2021-05, which amends ASC Topic 842, Leases to address an issue related to a lessor’s accounting for certain leases with variable lease payments. The amendments affect lessors with lease contracts that “(i) have variable lease payments that do not depend on a reference index or a rate and (ii) would have resulted in the recognition of a selling loss at lease commencement if classified as a sales-type or direct financing lease.”

As part of the Board’s post-implementation review of ASC 842, which was issued in 2016, certain stakeholders have noted that application of the standard to certain leases with variable lease payments can require a lessor to recognize a selling loss at lease commencement (referred to as a “day-one loss”) even if the lessor expects the arrangement to be profitable overall. This can result in “reporting outcomes that do not faithfully represent the underlying economics either at lease commencement or over the lease term.” ASU 2021-05 summarizes the issue as follows:

Topic 842 requires that a lessor determine whether a lease should be classified as a sales-type lease or a direct financing lease at lease commencement on the basis of specified classification criteria (see paragraphs 842-10-25-2 through 25-3). Under Topic 842 a lessor is not permitted to estimate most variable payments and must exclude variable payments that are not estimated and do not depend on a reference rate index or a rate from the lease receivable. Subsequently, those excluded variable payments are recognized entirely as lease income when the changes in facts and circumstances on which those variable payments are based occur. Consequently, the net investment in the lease for a sales-type lease or a direct financing lease with variable payments of a certain magnitude that do not depend on a reference index or a rate may be less than the carrying amount of the underlying asset derecognized at lease commencement. As a result, the lessor recognizes a selling loss at lease commencement (hereinafter referred to as a day-one loss) even if the lessor expects the arrangement to be profitable overall.

Additionally, stakeholders noted that lessors did not recognize day-one losses under ASC 840, which preceded the issuance of ASC 842 in 2016, because of a longstanding interpretation of a classification criterion under ASC 840. That classification criterion was not retained in ASC 842.

The Board decided to issue the amendments in ASU 2021-05 to address the stakeholders’ concerns by aligning the lease classification requirements with prior practice under ASC 840. The amendments will require a lessor to “classify a lease with variable lease payments that do not depend on an index or a rate as an operating lease at commencement if classifying the lease as a sales-type lease or a direct financing lease would result in the recognition of a selling loss.” By classifying the lease as an operating lease, the lessor would not recognize a selling profit or loss.

The amendments are effective for all entities for fiscal years beginning after December 15, 2021. For public business entities, the amendments also apply to interim periods within those fiscal years. For all other entities, the amendments apply to interim periods within fiscal years beginning after December 15, 2022. Entities that have not adopted ASC 842 as of July 19, 2021 (the date that ASU 2021-05 was issued) should apply the transition requirements of ASC 842 to these amendments. Entities that adopted ASC 842 before July 19, 2021, have the option to apply the amendments either (i) retrospectively to leases that commence or are modified on or after adoption of ASC 842, or (ii) prospectively to leases that commence or are modified on or after the date the entity first applies these amendments. Early adoption is permitted.

5. Presentation of Financial Statements and Financial Services—Updates to SEC Sections in the Codification

In August 2021, the FASB issued ASU No. 2021-06, which amends ASC Topic 205, Presentation of Financial Statements, ASC Topic 942, Financial Services—Depository and Lending, and ASC Topic 946, Financial Services—Investment Companies. Specifically, the update amends certain SEC paragraphs to reflect recent rule amendments related to financial disclosures for acquired and disposed businesses, which became effective on January 1, 2021. Additional amendments conform to updated SEC rules related to statistical disclosures for banks and savings and loan companies, which generally became effective on November 16, 2020.

6. Business Combinations

In October 2021, the FASB issued ASU No. 2021-08 to improve the accounting for revenue contracts with customers acquired in a business combination. Specifically, ASU 2021‑08 amends ASC Topic 805, Business Combinations to require an entity (acquirer) to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with ASC Topic 606, Revenue. The amendments provide consistent recognition and measurement guidance for revenue contracts with customers, regardless of whether those contracts are acquired in a business combination or originated by the entity.

The amendments address diversity in practice about how to determine whether a contract liability is recognized by the acquirer in a business combination. Under ASC 805, an acquirer generally recognizes assets acquired and liabilities assumed in a business combination at fair value on the acquisition date, in accordance with ASC Topic 820, Fair Value Measurement. ASC 606, which was issued in 2014, provides a single accounting model on revenue recognition for contracts with customers. Before the adoption of ASC 606, an acquirer would recognize a liability for deferred revenue if it represented a legal obligation, rather than applying the concept of performance obligation introduced in ASC 606. Stakeholders have raised questions about how to apply ASC 805 to contracts with a customer acquired in a business combination after the acquirer has adopted ASC 606. The amendments also address questions about how to recognize and measure acquired revenue contracts with customers at the date of and following a business combination.

The amendments in ASU 2021-08 create new exceptions to the recognition and measurement principles of ASC 805. Under the new exceptions, an acquiring entity must apply ASC 606, rather than the general principles under ASC 805, to recognize and measure contract assets and contract liabilities acquired in a business combination.

The amendments also provide specific guidance on recognition and measurement for contract assets and contract liabilities of an acquired contract. At the acquisition date, an acquirer should account for the related revenue contracts in accordance with Topic 606 as if it had originated the contracts. To achieve this, the Board noted, an acquirer may assess how the acquiree applied Topic 606 to determine what to record for the acquired revenue contracts. Generally, the new guidance should “result in an acquirer recognizing and measuring the acquired contract assets and contract liabilities consistent with how they were recognized and measured in the acquiree’s financial statements (if the acquirer prepared financial statements in accordance with [GAAP]).” As a result of measuring contract assets and contract liabilities arising from revenue contracts from customers acquired in a business combination in accordance with ASC 606, “the acquirer should no longer measure the remaining obligations of the acquired revenue contract at fair value but, instead, utilize the transaction price allocated to the remaining performance obligations in accordance with the principles of [ASC] 606.”

The amendments include certain practical expedients to provide relief to acquirers that do not have “the appropriate data or expertise to analyze the historical periods in which the contract was entered into.” These situations could arise when the acquirer has to assess long-term, contracts that were modified prior to the business combination or when the acquirer is unable to assess or rely on the acquiree’s accounting under ASC 606. The practical expedients address (1) contracts that were modified before the acquisition date, and (2) the date for determining the standalone selling price of each performance obligation in the acquired contract. If the acquirer elects a practical expedient, the acquirer must apply that practical expedient consistently to all contracts acquired in the same business combination and provide related disclosures.

For public business entities, the amendments will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2022. For all other entities, the amendments will be effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2023. The amendments should be applied prospectively to business combinations that occur after the effective date, and early application is permitted. An entity that elects early application for an interim period must apply the amendments retrospectively to all business combinations that occur on or after the beginning of the fiscal year that includes the interim period of adoption, as well as prospectively for all business combinations that occur after the date of initial application.

7. Leases—Discount Rate for Lessees that Are Not Public Business Entities

In August 2021, the FASB issued ASU No. 2021-09, to amend an existing practical expedient under ASC 842, Leases, which previously allowed lessees that are not public business entities to elect, as an accounting policy, to use a risk-free rate as the discount rate for all leases. The amendments provide non-public lessees greater flexibility to make the election by class of underlying asset, rather than at the entity-wide level. The amendments apply to all lessees that are not public business entities, including all not-for-profit entities and employee benefit plans.

A lessee’s discount rate “directly affects lease classification and the measurement of a lessee’s lease liability and corresponding right-of-use asset” and in some cases will affect the income statement. ASC 842 generally requires a lessee to use the rate implicit in the lease whenever that rate is readily determinable to discount its leases and to use the lessee’s incremental borrowing rate when the rate implicit in the lease is not readily determinable. As a practical expedient, ASC 842 previously allowed lessees that are not public business entities to avoid calculation of the incremental borrowing rate by electing to use a risk-free rate as the discount rate for all leases. The amendments allow lessees that are not public business entities to make the risk-free rate election by asset class rather than for all leases. The amendments also clarify that such lessees should use the rate implicit in the lease when it is readily determinable, rather than the incremental borrowing rate or the risk-free rate.

The updated guidance is intended to address concerns that some private company stakeholders may be reluctant to make the risk-free rate election for all leases because doing so “would result in recognizing lease liabilities and right-of-use assets that are greater than those recognized using the lessee’s incremental borrowing rate or the rate implicit in the lease (if that rate is readily determinable).” Stakeholders also noted that the election could cause some leases that otherwise would be classified as operating leases to be classified as financing leases. By providing non-public business entities with the flexibility to elect the practical expedient for individual asset classes rather than the entity as a whole, the Board expects more of those entities will make the election.

ASC 842 becomes effective for non-public business entities (and not-for-profit entities that are not conduit bond issuers) for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. However, some of those entities have already adopted ASC 842 because early application is permitted. Entities that have not yet adopted ASC 842 as of November 11, 2021 (the date ASU 2021-09 was issued) will be required to apply the amendments at the same time as they adopt ASC 842. Those entities should apply the existing transition provisions in ASC 842. For entities that have adopted ASC 842 as of November 11, 2021, the amendments will be effective for fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Those entities should apply the amendments on a modified retrospective basis to leases that exist at the beginning of the fiscal year of adoption. Earlier application is permitted.

8. Disclosures by Business Entities About Government Assistance

In November 2021, the FASB issued ASU No. 2021-10 to improve transparency in the reporting of government assistance by requiring companies to disclose, in the notes to their financial statements, information about certain types of government assistance that they receive. ASU 2021-10 adds new Topic 832, Government Assistance, to the Codification to provide guidance on the disclosure of certain government assistance received by an entity. The objective of these disclosures is to provide information that enables an investor or other financial statement user to better understand the nature of the transactions, the related accounting policies, and the effect of the transactions on the entity’s financial statements, as well as the significant terms and conditions of the transactions. ASC 832 provides guidance on disclosures for transactions with a government that are accounted for by applying a grant or contribution accounting model by analogy.

Under ASC 832, an entity is required to disclose for annual periods the following information about transactions with a government:

  1. The nature of the transactions, including a general description of the transactions and the form in which the assistance has been received (for example, cash or other assets);
  2. The accounting policies used to account for the transactions; and
  3. The line items on the balance sheet and income statement that are affected by the transactions and the amounts applicable to each financial statement line item in the current reporting period.

The new guidance is intended to addresses diversity in practice that exists under current GAAP, which previously did not include specific guidance on the recognition, measurement, and disclosure of government assistance. Although the new guidance is limited to disclosure, the FASB noted that disclosure could shed light on other issues related to recognition, measurement, and presentation that might inform broader standard setting in the future. As initially proposed, the amendments would have applied to a broader scope of arrangements; however, the Board decided to narrow the types of arrangements subject to the new disclosure requirements, in part to ensure timely issuance of the amendments in light of the significant increase in government funding provided in response to the COVID-19 pandemic.

The amendments apply to all entities other than certain not-for-profit entities and certain employee benefit plans. The amendments are effective for financial statements issued for annual periods beginning after December 15, 2021, and early application is permitted. Entities may apply the guidance either (1) prospectively to transactions that are reflected in the financial statements at the date of initial application and to new transactions entered into after that date, or (2) retrospectively.

B. ASU Originated by the EITF

Earnings Per Share, Debt—Modifications and Extinguishments, Compensation—Stock Compensation, and Derivatives and Hedging—Contracts in Entity’s Own Equity

In May 2021, in response to a consensus of the EITF, the FASB issued ASU No. 2021-04, to clarify accounting for modifications or exchanges of free-standing equity-classified written call options (such as warrants) that remain equity classified after the modification or exchange. The update amends ASC Topic 815, Derivatives and Hedging and related Topics within the Codification to address stakeholder concerns about “diversity in an issuer’s accounting for economically similar modifications or exchanges of freestanding equity-classified written call options” by providing explicit guidance for certain financial instruments that are not covered by another Topic.

The amendments apply to modifications of free-standing equity classified written call options that remain equity classified after modification and clarify that such modifications should be treated as an exchange of the original instrument for a new instrument, regardless of whether the modification is executed through an amendment to an existing instrument or replacement of an existing instrument with a new instrument. The new guidance also addresses how an entity should measure the effect of such modification or exchange. If the modification or exchange relates to an existing debt instrument, an entity should measure the effect as the difference between the fair value of the modified or exchanged written call option and the fair value of that written call option immediately before it is modified or exchanged. For all other modifications or exchanges, entities should measure the effect as the excess, if any, of the fair value of the modified or exchanged instrument over the fair value of that instrument immediately before it is modified or exchanged.

The amendments further clarify that entities should recognize modifications or exchanges in the same manner as if cash were paid instead of modifying or exchanging the instruments, and provides specific guidance as follows:

  1. For a financing transaction to raise equity, the effect should be recognized as an equity issuance cost;
  2. For a financing transaction to raise or modify debt, the effect should be recognized as a cost in accordance with the guidance on debt and interest;
  3. For other modifications that are not related to financings or compensation for goods or services or other exchange transactions addressed by other Topics in the Codification, the effect should be recognized as a dividend.

Additionally, for an entity that presents earnings per share (“EPS”) in accordance with ASC Topic 260, Earnings Per Share, that dividend should be an adjustment to net income (or net loss) in the basic EPS calculation.

The amendments in ASU 2021-04 are effective for fiscal years beginning after December 15, 2021, including interim periods within those fiscal years, and should be applied prospectively to modifications occurring on or after the effective date. Early adoption is permitted.

C. ASU Originated by the PCC

Stock Compensation

In October 2021, in response to a consensus of the PCC, the FASB issued ASU No. 2021-07, which updates ASC Topic 718, Compensation—Stock Compensation, to provide a practical expedient that nonpublic entities may apply to determine the current price of an underlying share for certain share-based awards. The practical expedient allows nonpublic entities to use a value determined by the “reasonable application of a reasonable valuation method” as the current price input for purposes of determining fair value of awards classified as equity. The Board and the PCC expect the amendments to reduce the cost and complexity of determining the current price input into an option pricing model while continuing to provide decision-useful information.

ASC 718 provides guidance on accounting for share-based compensation awards. Under this guidance, share-based awards, such as share-option awards, are initially measured at grant date fair value and are not subsequently re-measured unless they are modified and meet certain requirements. Because they generally do not have observable market prices for their equity shares, nonpublic entities must estimate grant date fair value and typically use an option pricing model to do so. One of the inputs for estimating fair value under a common option pricing model is current share price. Private company stakeholders have indicated that estimating current share price can be costly and complex.

The practical expedient issued in ASU 2021-07 is intended to address stakeholder concerns about the cost and complexity of estimating current share price for purposes of estimating fair value. The practical expedient allows a nonpublic entity to determine the current price of a share underlying an equity-classified share-based award using the “reasonable application of a reasonable valuation method.” The amendments describe the characteristics of this valuation method, which are the same as those used in regulations of the U.S. Department of the Treasury under Section 409A of the U.S. Internal Revenue Code (the “Treasury Regulations”). A valuation performed in accordance with the applicable Treasury Regulations, which has the characteristics described in the practical expedient, is an example of a valuation that is reasonable for purposes of the practical expedient. The PCC noted that, for income tax purposes, nonpublic entities may already be using methodologies that are presumed to result in reasonable valuations of share-based equity awards under the Treasury Regulations, and that same valuation could be used to achieve the practical expedient.

The amendments in ASU 2021-07 are effective on a prospective basis for all qualifying awards granted or modified during fiscal years beginning after December 15, 2021, and interim periods within fiscal years beginning after December 15, 2022. Early application is permitted for financial statements that have not been issued or made available for issuance as of October 25, 2021 (the date ASU 2021-07 was issued). The practical expedient is available only to nonpublic entities and does not apply to awards that are classified as liabilities.

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