February 1, 2013
Mr. Robert Durak
Director, Private Company Financial Reporting
Accounting Standards
American Institute of Certified Public Accountants
1211 Avenue of the Americas, 19th Floor
New York, NY 10036
Re: Proposed Financial Reporting Framework for Small- and Medium-Sized Entities
Dear Mr. Durak:
Deloitte & Touche LLP appreciates the opportunity to provide feedback on the AICPA’s
Proposed Financial Reporting Framework for Small- and Medium-Sized Entities (the FRF for
SMEs or the “Framework”). We support efforts to address the financial reporting needs of small
and medium-sized entities that are not required to prepare financial statements in accordance with
U.S. GAAP as well as the needs of their financial statement users. However, while we support
these objectives, we have several significant concerns that we believe should be addressed before
the Framework is finalized.
We are concerned that the Framework may create the potential for (1) competition between the
FRF for SMEs and modifications to U.S. GAAP by the Private Company Council and (2)
confusion in the lending and equity investing markets for private entities. Thus, the AICPA
should clearly indicate that the FRF for SMEs is not an alternative GAAP but rather a framework
for entities that choose to prepare financial reports on a basis other than GAAP. In addition, the
AICPA should indicate what information entities should consider in determining whether to use
the FRF for SMEs to prepare their financial statements.
The AICPA has touted the FRF for SMEs as a “financial reporting solution that addresses
marketplace demands.” However, it is not clear what marketplace demands were identified and
what role marketplace participants have played in its development. We believe that the
Framework has the potential to meet marketplace demands if the FRF for SMEs Task Force (the
TF) makes decisions, and considers input from financial statement users and preparers,
transparently. Such transparency would also help the FRF for SMEs gain wider acceptance
among financial statement users and preparers. Thus, we recommend that the TF and the AICPA
improve their due process as they continue to develop the Framework.
In addition, to ensure that the Framework is viewed as a set of criteria with substantial support
underlying the preparation of financial statements (i.e., an other comprehensive basis of
accounting), the TF should identify the set of concepts on which the FRF for SMEs is based. The
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Re: Proposed Financial Reporting Framework for Small- and Medium-Sized Entities
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TF should link these concepts to the needs of SME financial statement users, and apply them
consistently throughout the Framework.
We elaborate on these observations and recommendations below.
Confusion in Lending and Equity Investing Markets for Private Entities
The objective of the FRF for SMEs is not the same as that of the Private Company Council
(PCC), which was created by the Financial Accounting Foundation in May 2012. The PCC is
working to determine whether exceptions or modifications to existing nongovernmental U.S.
GAAP would benefit end users of private-company financial statements and to advise the FASB
on how to treat private-company accounting matters on the Board’s technical agenda. These
efforts are not intended to create a private-company financial reporting framework that is separate
from U.S. GAAP. The FRF for SMEs, however, is a nonauthoritative framework, separate from
U.S. GAAP, that is intended for use by entities that are not required to prepare financial
statements in accordance with U.S. GAAP. We are concerned that these two initiatives will
compete for acceptance among private-entity financial statement preparers and users and will lead
to confusion in the lending and equity investing markets for private entities.
An entity’s owners, management, or owner-managers (collectively, “management”) will decide
whether to use the FRF for SMEs; however, we are concerned that they will not have the tools
and information they need to make a well-informed decision. We understand that the AICPA
intends to offer toolkits that will help CPAs explain the FRF for SMEs and its advantages. We
recommend that these toolkits, or other materials, include a clear and comprehensive discussion
of the types of entities for which the FRF for SMEs was designed. Such discussion should explain
(1) relevant differences between the FRF for SMEs and U.S. GAAP, (2) potential disadvantages
(and advantages) of using the FRF for SMEs, and (3) other relevant considerations that could
inform management’s decision. Considerations may include whether U.S. GAAP financial
statements would be needed by a parent applying U.S. GAAP or an equity-method investor now
or in the future, the size and complexity of entities contemplated by the TF when developing the
FRF for SMEs, and the information that would be needed to reconcile financial statements
prepared in accordance with the FRF for SMEs with those prepared under U.S. GAAP.
Information that may help a management team decide whether to apply the FRF for SMEs will
change and evolve over time. The PCC held its first meeting in December 2012 and will propose
exceptions and modifications to U.S. GAAP through a deliberative process that will take time.
We therefore recommend that the TF coordinate regularly with the FASB and the PCC and
update its toolkits or other materials comparing the FRF for SMEs and U.S. GAAP as modified
for private entities. A collaborative relationship between the TF and the PCC may also enhance
the PCC’s efforts as it addresses concerns related to private-entity accounting.
Due Process
Although the TF is now seeking public comment on its proposals, we are concerned about the
lack of transparency into the TF’s due process for developing the Framework to date.
Stakeholders are not able to ascertain the nature and degree of outreach conducted by the TF in
developing its proposals. Input from a broad group of financial statement preparers, users,
auditors, and other stakeholders is generally a necessary step in creating accounting guidance on
preparing decision-useful financial statements. By gathering such input and incorporating it into
the FRF for SMEs, the TF might also increase the likelihood that the FRF for SMEs becomes a
Re: Proposed Financial Reporting Framework for Small- and Medium-Sized Entities
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broadly accepted financial reporting framework. In addition, the public must have confidence that
the TF is acting in the best interests of financial statement users and is free from undue influence.
Accordingly, to ensure the TF operates with transparency and objectivity, the AICPA should
consider (1) publishing comprehensive rules of procedure and processes, (2) holding public
meetings, and (3) subjecting the TF to independent oversight by, for example, an existing or new
senior technical accounting committee of the AICPA (such as the Technical Issues Committee).
To maintain a relatively stable financial reporting environment for the Framework’s intended
constituents, the TF has proposed to update the FRF for SMEs every three or four years.
However, more frequent updates might increase the likelihood of broad acceptance and help
ensure that preparer and user concerns are addressed. Especially in the first years of adoption, but
also in subsequent years, SMEs preparing financial statements in accordance with the FRF for
SMEs are likely to have questions about how to apply certain aspects of the Framework, and
financial statement users may find that the proposed accounting is inconsistent with their needs.
As a result, more frequent amendments to the Framework or additional implementation guidance
may be warranted. Policies and procedures should be established that provide a mechanism for all
stakeholders to submit feedback, and a balance should be found that permits important updates to
be made to the FRF for SMEs more often than every three to four years. Published rules of
procedures and processes should state the criteria and processes for making such updates.
We also encourage the AICPA to establish a process whereby the AICPA (or designated body)
periodically assesses the effectiveness of the FRF for SMEs. An objective review process with
input from a broad group of stakeholders would enhance its credibility and ensure its relevance.
Conceptual Framework
Parts of the FRF for SMEs are difficult to understand because they are presented as sets of rules
pieced together rather than as a framework. Further, there is not a comprehensive set of concepts
underlying the sets of rules. The FRF for SMEs would be clearer and easier to implement if there
was a conceptual basis underlying it. A conceptual basis would (1) ensure consistency of the
Framework’s accounting guidance, (2) increase comparability of financial statements prepared
under it, and (3) help preparers exercise professional judgment when applying its principles-based
guidance. Although Chapter 1 of the FRF for SMEs describes certain qualitative characteristics,
elements of financial statements, and recognition and measurement criteria, we do not believe
these constitute a sufficient comprehensive conceptual framework. Further, we do not believe that
the Framework clearly identifies users of non-GAAP SME financial statements or their needs.
We generally agree with the observation made by the FASB in its invitation to comment, Private
Company Decision-Making Framework, that the most common types of private-company
financial statement users are lenders, other creditors, and equity investors. These users are
generally concerned about an entity’s ability to meet its obligations and about earnings before
interest, tax, depreciation, and amortization (EBITDA), which is commonly used in income-
approach valuation models. We believe that users of financial statements prepared by SMEs that
are not required to comply with U.S. GAAP are, in many cases, the same lenders and investors
that will use financial statements prepared under U.S. GAAP as modified by the PCC and the
FASB. The conceptual basis for the FRF for SMEs should clearly identify users of non-GAAP
SME financial statements and describe how their needs inform the accounting guidance in the
FRF for SMEs and the TF’s decision-making process.
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The appendix below contains our comments about selected aspects of the FRF for SMEs. Given
the relatively short comment period, we were unable to review the Framework in greater detail.
******
Deloitte & Touche LLP appreciates your consideration of our comments on the FRF for SMEs. If
you have any questions, please contact Stuart Moss at (203) 761-3042.
Yours truly,
Deloitte & Touche LLP
cc: Robert Uhl
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Appendix — Comments on Selected Aspects of the Framework
As noted in our cover letter, we do not believe that the conceptual framework underlying the
guidance in the FRF for SMEs (i.e., Chapter 1) is sufficiently comprehensive. In addition, we
believe that a single set of concepts in the FRF for SMEs is needed to ensure consistency of the
guidance (and amendments thereto) and to enhance comparability. The TF can develop a
comprehensive conceptual framework by using a well-designed and transparent due process.
In addition, some of the Framework’s principles-based guidance lacks clarity and may therefore
require SMEs to expend substantial time and money determining how to apply appropriate
professional judgment. Although we are unable to comment on all aspects of the Framework, the
comments below address guidance that may present operational challenges, may result in
misleading presentations of financial information, or appears inconsistent. We encourage the TF
to consider these comments in addition to developing a comprehensive and consistent conceptual
framework underlying the guidance in the FRF for SMEs.
Chapter 1 — Financial Statement Concepts
Paragraph 1.13(d) states, “Use of conservatism in making judgments under conditions of
uncertainty affects the neutrality of financial statements in an acceptable manner
[emphasis added]. When uncertainty exists, estimates of a conservative nature attempt to
ensure that assets, revenues, and gains are not overstated and, conversely, that liabilities,
expenses, and losses are not understated. However, conservatism does not encompass the
deliberate understatement of assets, revenues, and gains or the deliberate overstatement
of liabilities, expenses, and losses.”
First, it may not be appropriate, in the second and last sentences, to discuss unidirectional
misstatements for a given set of balances or transactions. In some cases, the
overstatement of assets, for example, may be considered conservative.
Second, this high-level description of conservatism appears to overstate the
appropriateness and effectiveness of conservative estimates. We do not believe that
conservatism in making judgments affects the neutrality of financial statements in an
acceptable manner in all cases or that conservative estimates, by their very nature, ensure
that assets, revenues, and gains are not overstated or that liabilities, expenses, and losses
are not understated.
We agree with the discussion in paragraph 95 of the FASB’s Statement of Financial
Accounting Concepts No. 2, Qualitative Characteristics of Accounting Information
(CON 2), in which the FASB states that “if two estimates of amounts to be received or
paid in the future are about equally likely, conservatism dictates using the less optimistic
estimate.” We recommend that the TF include a discussion of this concept in paragraph
1.13(d) of the FRF for SMEs. We also recommend that the TF consider including other
concepts from paragraphs 95 through 110 of CON 2, including the following: (1) that
“unjustified excesses in either direction may mislead one group of investors to the
possible benefit or detriment of others,” (2) that “reliability . . . may be enhanced by
disclosing the nature and extent of the uncertainty surrounding events and transactions,”
and (3) that financial “information should be free from bias.”
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Paragraph 1.06 states that “[m]aterial presentation items should not be netted in the
financial statements, unless specifically allowed by the FRF for SMEs.” However,
paragraph 1.31 states that “[s]imilar items may be grouped together in the financial
statements for the purpose of presentation.” Financial statement preparers and auditors
may interpret and apply these statements in contradictory ways. We recommend
providing definitions for “material presentation items” and “similar items” and clarifying
how these principles should be applied.
Paragraph 1.44(b) uses the term “market value,” but this term is not defined in the FRF
for SMEs.
Chapter 2 — General Principles of Financial Statement Presentation and Accounting Policies
Paragraph 2.06 states, in part, “Items not significant in themselves are grouped with such
other items as most closely approximate to their nature.” We recommend reconciling this
statement with the principles outlined in paragraphs 1.06 and 1.31. In addition, we
recommend providing guidance to help preparers apply this principle; in particular, in
identifying “items not significant in themselves.”
Chapter 3 — Transition
Paragraph 3.03 defines fair value as the “amount of the consideration that would be
agreed upon in an arm’s length transaction between knowledgeable, willing parties, who
are under no compulsion to act.” We do not believe the FRF for SMEs provides adequate
guidance on measuring fair value in a manner consistent with this definition. In addition,
the definition, as written, may require an entity to assess the knowledge level or attitude
of parties to an observed transaction. In contrast, under the FASB’s definition of fair
value and related guidance, entities must assess objective evidence to determine whether
a measurement represents fair value under U.S. GAAP. (Note that we acknowledge that
ASC 8201 defines market participants as buyers and sellers that, among other things, are
willing to transact for the asset or liability and are knowledgeable. However, it is not
necessary to determine whether parties to a given transaction meet the definition of
“market participant” when assessing whether an observed price represents fair value.) We
believe that the definition of fair value in U.S. GAAP, which is converged with that in
IFRSs, is an appropriate, principles-based definition, and we recommend that the TF
consider using this definition in the FRF for SMEs.
Paragraph 3.21 states “Management may receive information after the date of transition
to the FRF for SMEs about estimates that it had made previously. Management should
treat the receipt of that information in the same way as nonadjusting events after the
balance sheet date under chapter 24, ‘Subsequent Events.’” We do not agree that all
information received after the transition date should be treated in the same way as
nonadjusting events. If a balance sheet was not previously issued as of the date of
transition to the FRF for SMEs, information about items in the opening balance sheet
regarding conditions existing as of the opening balance sheet date should be used in
evaluating estimates, and the financial statements should be adjusted. In addition,
information received after the date of transition may represent objective evidence that
1 For titles of FASB Accounting Standards Codification (ASC) references, see Deloitte’s "Titles of Topics and
Subtopics in the FASB Accounting Standards Codification."
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estimates in a previously issued balance sheet prepared as of the date of transition were in
error. Such information should be treated accordingly (i.e., as prescribed in paragraph
3.20).
Chapter 4 — Risks and Uncertainties
Because collective bargaining agreements may significantly affect cash flows, we
recommend that the TF consider requiring companies to disclose the following if a
significant portion of a their labor force is subject to collective bargaining agreements:
The percentage of the workforce covered by collective bargaining agreements.
The percentage of the workforce with collective bargaining agreements that might be
expiring in the near term (i.e., within a year).
Chapter 5 — Accounting Changes, Changes in Accounting Estimates, and Correction of
Errors
Regarding the definitions in paragraph 5.05, we note the following:
For completeness, “accounting change” should be defined.
The definition of “retrospective application” refers to the application of a “new
accounting policy” and could be misleading. There may be instances in which a
company decides to apply an existing policy to a new class of transactions upon
determining that the policy may be more appropriate. The definition should be
updated to include the application of a new or different accounting policy to one or
more previous transactions, other events, or conditions reported in the financial
statements as though the principle or policy had always been applied.
Paragraph 5.25 specifically indicates that management “should correct material prior
period errors retrospectively in the first set of financial statements completed after their
discovery.” If a significant error is identified that would affect the users of the financial
statements, SMEs should communicate the error to those relying on the financial
statement information as soon as reasonably practical. Waiting until the “first set of
financial statements after their discovery” may result in reliance on incorrect information.
Chapter 10 — Statement of Cash Flows
Paragraph 10.16 states than an “entity may acquire securities and loans for trading
purposes (that is, specifically for resale in the near term)” (emphasis added). Under U.S.
GAAP, “near term” is defined as a “period of time not to exceed one year from the date
of the financial statements.” However, this term is not defined in the FRF for SMEs. We
suggest defining it so that entities are able to consistently distinguish between cash flows
from operating activities and those from investing activities.
Chapter 10 does not address whether amounts in operating, investing, or financing
activities should be reported on a gross or net basis. We suggest that adding guidance
similar to that in ASC 230-10-45-7 through 45-9.
Chapter 10 does not require the disclosure of interest or income taxes paid when the
indirect method is used. We believe that this information is generally readily available,
that it provides useful information to financial statement users, and that it should be
disclosed.
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Chapter 11 — Business Combinations
The framework for business combinations is similar to the guidance in ASC 805.
Questions about ASC 805 frequently arise related to (1) valuation, (2) business
combinations with unusual structures, (3) determining what constitutes a “business,” and
(4) determining what constitutes part of an acquisition. Thus, the benefits to users of
adding the following guidance to the FRF for SMEs may exceed the cost of compliance:
Valuing assets and liabilities when applying the acquisition method of accounting.
Day-two testing of intangibles and goodwill for impairments.
While many SMEs have the means to measure the fair value of intangibles or reporting
units in related impairment analyses, such measurement often comes at a significant cost,
and it is unclear whether it results in decision-useful information for users.
Preparers often find it cumbersome to differentiate between adjustments to their
accounting for a business combination that should be applied retrospectively during the
measurement period and those that should not. They often assert that such adjustments
are immaterial to avoid the analysis and to avoid retrospectively adjusting their books.
Chapter 12 — Subsidiaries
In paragraph 12.03, it is unclear from the definition of “control” whether control is based
on voting rights or economics. In addition, the proposed definition seems to permit
structuring opportunities to avoid consolidation. We would suggest using a definition for
control that is similar to that used in IFRS for SMEs because such definition has proven to
be operational. Under IFRS for SMEs, control exists when the parent directly or indirectly
owns a majority of the voting rights; however, that presumption may be overcome if such
ownership does not constitute control in certain circumstances. In addition, this definition
of control differs from the definition in Chapter 11 of the Framework. We do not
understand the conceptual basis for such difference. Finally, we believe that the
definitions for subsidiary and control should be related; that is, a subsidiary should be
defined as an entity that another entity (i.e., parent) controls.
Chapter 13 — Consolidated Financial Statements and Noncontrolling Interests
It is not clear why this chapter only discusses consolidation after a business combination.
Consolidation events may occur outside of business combinations, and a subsidiary may
not necessarily meet the definition of a business.
The definition of consolidated financial statements in paragraph 13.04 is not consistent
with the definition of control in paragraph 12.03 (i.e., “[c]ontrol of an entity is indicated
by the ownership of more than 50 percent of the outstanding residual equity interests”); in
particular, the definition in 13.04 should refer to outstanding residual equity interests.
In paragraph 13.08, the phrase “any goodwill arising as a result of the investment” could
be interpreted to mean that only the acquirer’s share of goodwill is recognized. We
recommend clarifying whether it should be 100 percent or just the acquirer’s share. In
Chapter 11, paragraph 11.32 seems to indicate that 100 percent of goodwill is recognized
even when there is no noncontrolling interest.
Paragraphs 13.09, 13.10, 13.16, and 13.19 discuss intercompany balances. We
recommend combining these paragraphs into one section to make them easier to follow.
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Paragraph 13.25, which states that a “difference in the basis of accounting between a
parent and a subsidiary precludes the preparation of consolidated financial statements,”
may be wrongly interpreted to mean that a reporting entity is prohibited from
consolidating a subsidiary when that subsidiary applies a different basis of accounting.
We recommend clarifying that subsidiary financial statements prepared by using a
different basis of accounting should be converted to be consistent with the FRF for SMEs
as applied by the consolidating, parent entity. However, there may be situations that
warrant nonconsolidation, and it might be helpful for such situations (e.g., those in IFRS
10, Consolidated Financial Statements, related to cost/benefit considerations) to be
identified.
In paragraph 13.26, a practicability exception may be appropriate that permits a parent to
consolidate subsidiary financial information as of and for fiscal periods ending not more
than three months before the reporting entity’s balance sheet date. If such exception is
provided, we recommend proposing that entities disclose or adjust for material events
that occur during the intervening period.
Chapter 14 — Interests in Joint Ventures
Regarding paragraph 14.03, which defines certain terms used in Chapter 14, we note that:
The term “corporate joint venture” is used in the definition of “corporate joint
venture,” resulting in a definition that is not clear because the definition contains
words being defined. Under U.S. GAAP, a corporate joint venture is a corporation
owned by joint venturers frequently for the purpose of sharing risks and rewards. We
recommend that the TF clarify the definition of corporate joint venture in the FRF for
SMEs and consider using a definition similar to that in U.S. GAAP.
The word “proportionate” is used in the definition of joint control. We believe that
this could lead to confusion. Joint control exists when decisions about relevant
activities require unanimous consent of the parties sharing control.
The definition of “proportionate consolidation” refers to the extractive industry. To
avoid misunderstanding, the FRF for SMEs should also define “extractive industry.”
Paragraph 14.15 states that the consolidation method is one among several appropriate
accounting policy alternatives for accounting for an interest in joint ventures. However,
we believe that consolidation would not be a feasible choice because there is no one party
that has unilateral control over a joint venture.
We recommend that paragraphs 14.17, 14.20, and 14.21 include a discussion about the
contributions of a business to a joint venture and how to account for such contributions
under the FRF for SMEs.
Paragraph 14.23(c) states that liabilities from participation in a joint venture should be
presented separately in the income statement. It may be more appropriate to include this
in 14.22(c).
Chapter 15 — New Basis (Push-Down) Accounting
Push-down accounting is currently only required for SEC registrants that have met the
thresholds (it is optional for nonregistrants). In addition, SEC registrants may currently
choose whether to apply push-down accounting when between 80 percent and 90 percent
of the entity is acquired. We believe that the use of the “virtually all” threshold in the
FRF for SMEs (i.e., 80 percent or more of the entity is acquired) will result in more
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instances of push-down accounting being required for SMEs than for public companies.
It is unclear whether the benefits provided to users of private company financial
statements would exceed the costs of compliance. The EITF has an active agenda item to
consider push-down accounting. We believe that the AICPA should therefore wait for a
consensus on this issue before it provides any specific guidance.
In addition, we note that the definition of “control” in Chapter 11 is different from the
definition in Chapter 15. We believe this could lead to confusion and that the concept
underlying control should be defined consistently throughout the FRF for SMEs. Finally,
it is not clear whether the definition of control in this context should be solely based on
equity ownership.
Chapter 16 — Foreign Currency Transactions
We recommend clarifying that the scope of Chapter 16 includes (1) transactions of a
reporting entity that are denominated in a foreign currency and (2) financial statements
denominated in a foreign currency that are incorporated into the financial statements of a
reporting entity through consolidation, combination, or the equity method of accounting.
In addition, we recommend providing guidance on how to translate financial statements
denominated in a foreign currency that are incorporated into the reporting entity’s
financial statements. This may necessitate, among other things, amending the definition
of “reporting entity” to include reference to transactions entered into by an entity’s
subsidiary in a foreign currency.
We recommend eliminating paragraph 16.02 because the stated assumption that a
reporting entity prepares its financial statements in U.S. dollars and subsequent
references to U.S. dollars may lead to confusion. Instead, we recommend defining and
referring to a reporting entity’s “reporting currency.”
In defining the “temporal method,” paragraph 16.04 states that “nonmonetary items are
translated at historical exchange rates, unless such items are carried at market, in which
case they are translated at the exchange rate in effect at the balance sheet date” (emphasis
added). Although “market” is used throughout Chapter 16, it is not defined in that chapter
(in Chapter 18 it is defined as net realizable value). We believe that the guidance in
Chapter 16 should refer to nonmonetary items that are adjusted to market (e.g.,
inventories) and other nonmonetary items that are adjusted to fair value (e.g., intangible
assets) or another appropriate measure (e.g., goodwill reduced by an appropriate measure
of asset-group impairment losses) if such measures are stated or developed in terms of the
foreign currency.
Paragraph 16.07 states that to translate revenues and expenses, an entity should use the
exchange rate in effect on the transaction date; however, this approach may be costly and
time-consuming. We recommend permitting the use of an appropriate average of
exchange rates during the period in which the revenue and expense transactions occurred.
Paragraph 16.08 states that receivables and payables would be remeasured to U.S.
dollars. Paragraph 16.09 states that monetary items should be adjusted to reflect an
appropriate exchange rate. Other paragraphs state that balances or transactions
denominated in a foreign currency should be translated to U.S. dollars. We recommend
that the TF consistently use the term translate, or appropriate variants, throughout
Chapter 16 when referring to the translation of foreign currency denominated amounts.
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Paragraph 16.14 permits an entity to exclude exchange gains or losses arising from
investments in equity securities that are measured at fair value from its disclosure of
exchange gains or losses included in net income. We ask the TF to consider whether a
similar exclusion should be provided for exchange gains or losses arising from
impairment losses on other financial assets.
Chapter 17 — Nonmonetary Transactions
We recommend clarifying what is meant in paragraph 17.03 by a “group of monetary
transactions that represents a nonmonetary transaction in substance (that is, the exchange
of nonmonetary assets or services accomplished through the exchange of monetary
consideration),” which is part of the scope of Chapter 17. Clarifying language, an
example, or both could be used.
Monetary assets and liabilities are defined in 17.04, in part, as follows: “Money, assets to
be received, or claims to future cash flows” (emphasis added). Assets to be received
could include nonmonetary assets. We recommend clarifying that monetary assets to be
received are an example of a monetary asset.
Paragraph 17.05 states that an “entity should measure an asset exchanged or transferred
in a nonmonetary transaction at the more reliably measurable of the fair value of the
asset given up and the fair value of the asset received” (emphasis added). However, the
FRF for SMEs does not provide guidance on evaluating which of two or more
measurements is more reliable. Such guidance might include considering whether inputs
to the measurement are observable. We recommend providing additional guidance on
determining which among two or more fair value measures is more reliable under the
FRF for SMEs.
Chapter 19 — Investments
This chapter proposes that SMEs account for equity investments under the equity method
of accounting or the cost method. However, Chapter 32 proposes that investments in
equity instruments be measured at cost, less impairment, or at fair value with changes
recognized in net income if the investment is held for sale. Chapter 32 does not discuss
the equity method of accounting, which applies to equity investments that give the
investor significant influence over the investee in accordance with Chapter 19. We
recommend that the TF clarify the accounting for equity investments, which we believe
are the same as investments in equity instruments, by clarifying the scope of Chapters 19
and 32, by reorganizing these chapters, or by cross-referring to relevant guidance.
Paragraph 19.15(c) proposes that an investor recognize its share of losses in excess of the
carrying amount of its investment if, among other reasons, the investee seems assured of
imminently returning to profitability. We recommend that the TF clarify that the investor
should make this determination and should not simply accept the assurance of the
investee.
Paragraph 19.20 states that impairment losses should be measured by comparing carrying
value with the higher of (1) the present value of the cash flows expected to be generated
by holding the investment, discounted by a current market rate of interest appropriate to
the asset, and (2) the amount that could be realized by selling the asset as of the balance
sheet date. We believe that (1) the first measurement may not be a decision-useful
measure, (2) it may be inappropriate to use a measure that requires an entity to assume it
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will hold the investment if that is not management’s intent, and (3) developing this
measure requires a high degree of subjectivity. In addition, we believe that fair value, or
(as a practical expedient) management’s best estimate of the amount that could be
realized by selling the asset, may be a more appropriate measure of an impaired equity
investment.
Chapter 20 — Property, Plant, and Equipment
We recommend clarifying that the amount of depreciation calculated in paragraphs
20.14(a) and 20.14(b) is for one year. Further, we recommend clarifying whether the
determination of which amount is greater should be made at inception or also in
subsequent periods, including periods after the recognition of an impairment-related write
down (see paragraph 20.26). We note, however, that requiring two different calculations
may add unnecessary complexity.
We ask the TF to consider whether it would be appropriate to include in paragraph 20.17
a practicability exception under which, similarly to a provision in paragraph 21.61, the
straight-line method of depreciation is deemed acceptable when the pattern of economic
benefit (or consumption) cannot be reliably determined.
Paragraph 20.24 permits the reversal of impairment losses recognized on plant, property,
and equipment (PP&E) in prior periods. We are concerned that such an approach is
inconsistent with the needs of SME financial statement users. We do not believe that an
increase in the value of previously impaired PP&E that is being held and used provides
decision-useful information related to an entity’s ability to meet its obligations or
EBITDA, which is commonly used in income-approach valuation models. In addition, it
is not clear what the conceptual basis would be for permitting impairment reversals in
certain cases (e.g., PP&E, cost method equity investments that are not held for sale) and
not in other cases (e.g., intangible assets).
Paragraph 20.39 refers to indefinite-lived intangible assets although such assets are
outside the scope of Chapter 20. In addition, paragraphs 20.23 and 30.16 refer to
indefinite-lived intangible assets evaluated in accordance with Chapter 21, although
paragraph 21.57 indicates that all intangible assets should be considered to have a finite
useful life under the FRF for SMEs. This inconsistency may lead to confusion.
If the TF continues to allow reversals in the FRF for SMEs, we recommend that
suggested disclosures include a discussion of the nature and amounts of impairment loss
reversals.
Chapter 21 — Intangible Assets
The definition of “useful life” in Chapter 21 differs from that in Chapter 20. We
recommend that the TF consider using one definition.
Paragraph 21.63 states that intangible assets should be tested for impairment in
accordance with Chapter 20; however, paragraph 20.23 states that the guidance in
Chapter 20 related to the impairment of long-lived assets does not apply to goodwill and
intangible assets accounted for under Chapter 21. It is not clear how an entity would
account for the impairment of goodwill or indefinite-lived intangible assets under the
FRF for SMEs; however, we believe that an entity applying the FRF for SMEs would not
classify any of its intangible assets as indefinite-lived.
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We recommend adding guidance on the presentation of impairment losses to paragraphs
21.69 and 21.70. Such guidance should indicate whether goodwill and intangible assets
are shown net of impairment or whether gross amounts for the carrying amount and
impairment are shown separately. Paragraph 21.73 may also need to be adjusted
accordingly.
Paragraph 21.71 states that an entity should disclose, among other things, the
amortization method used, including the amortization period or rate. Because these
disclosures could differ for each intangible asset or for classes of assets, we recommend
(1) clarifying whether the disclosures in Chapter 21 should be made for asset classes or at
a different level of aggregation and (2) providing guidance on the proper identification of
class or the alternative level of aggregation.
Chapter 22 — Leases
We do not believe that the exceptions listed in paragraph 22.02 are necessary because
“lease” is defined in paragraph 22.03 as the conveyance of the right to use a tangible
asset. However, other exceptions should be considered, including:
PP&E that is identified in an arrangement but is not the subject of a lease, because
fulfillment of the arrangement does not depend on the use of the specified PP&E.
Inventory (including equipment parts inventory) and minerals, precious metals, or
other natural resources, because such assets are not depreciable.
Regarding the definitions in paragraph 22.03:
The definition of “bargain purchase option” is different from that in paragraph
22.06(a).
The first and second bullet in the definition of “fair value” indicate that fair value
could be greater or less than carrying value simply as a result of either (1) prevailing
market conditions at lease inception or (2) a lapse in time between the date of
acquisition of the property by the lessor and lease inception. The paragraphs could
be interpreted as implying that property is impaired whenever it is subject to a lease.
We recommend clarifying the language to avoid confusion.
It may be helpful to define “sublease” in Chapter 22.
While the criteria in paragraphs 22.04 through 22.13 for determining whether a lease is a
capital or an operating lease are consistent with U.S. GAAP, we believe that certain
clarifications should be provided:
The definition of bargain purchase option in paragraph 22.06 should be consistent
with that in paragr`aph 22.03.
The guidance in paragraph 22.06(b) should be expanded to include guidance on the
treatment of assets that are leased near the end of their useful life.
Paragraph 22.06 should be expanded to include guidance on the appropriate
allocation of amounts to a leased asset that includes both land and buildings.
Paragraph 22.11 should be modified to read, “A renewal, an extension, or a change
in the provisions of an existing lease that was not contemplated in the original lease
agreement should be considered treated as a new lease . . . .”
Paragraph 22.12 should be expanded to discuss the treatment of operating leases
being replaced by a capital lease.
Paragraph 22.13 should be expanded to add guidance on (1) the replacement of an
operating lease with a capital lease, (2) the replacement of a capital lease with
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another capital lease, and (3) the replacement of an operating lease with another
operating lease.
The beginning of the first sentence of paragraph 22.24 should be modified from “Because
most operating leases are short term” to “Because of the nature of operating leases.” As
currently written, it may be inferred that most operating leases are “short term,” which
may or may not be the case (e.g., property with a 20-year life that may be leased for 10
years would not be short term).
Paragraph 22.30(b) should be amended as follows: “the cost or carrying amount if
different, of the leased property.”
The last sentence of paragraph 22.35 should be amended as follows: “The remaining
unearned income should be.”
Paragraph 22.38 should be amended as follows: “The cost of sale recognized at the
inception of the lease is the the cost or carrying value, if different, of the leased
property.”
The following changes should be made to the impairment guidance in paragraphs 22.46
through 22.50:
The first sentence in paragraph 22.46 should include the words “direct financing
leases” and “operating lease receivables (the lease asset).”
Paragraph 22.49(b) should state, “by selling the lease at the balance sheet date net of
disposal costs.”
Paragraph 22.49(c) should be deleted because it does not accurately reflect the value
of the asset or asset group in question.
The guidance in the FRF for SMEs on leases of land and buildings is limited; therefore,
guidance should be added on (1) leases of equipment and real estate, (2) leases of both
land and buildings, and (3) leases of only part of a building.
The guidance in the FRF for SMEs on related-party leases should include recognition,
measurement, and presentation and disclosure requirements.
Chapter 23 — Equity
Paragraphs 23.27 and 23.28 discuss disclosures related to stock-based compensation
plans. However, the FRF for SMEs does not provide clear and explicit guidance on the
accounting for such plans and indicates that an SME applying the Framework would not
recognize an expense for awards under such plans. Because there are income tax
consequences related to such plans and suggested disclosures, we recommend that the TF
include explicit guidance on the accounting for stock-based compensation or its exclusion
from the financial statements, and we recommend making the selected approach
consistent with the conceptual framework underlying the FRF for SMEs.
Chapter 25 — Commitments
The guidance on commitments lacks specificity about what should be disclosed. It would
be helpful if examples were provided, such as (1) unused letters of credit, (2) long-term
leases, (3) assets pledged as collateral or security for loans, and (4) other types of
obligations (e.g., purchase commitments, asset acquisition commitments). Disclosures
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about commitments expected to be settled in each of the next five years might also
benefit SME financial statement users.
Chapter 26 — Contingencies
Paragraph 26.06 notes that the term “probable” indicates that the “chance of the
occurrence (or nonoccurrence) of the future event(s) is high” (emphasis added). Use of
the word “high” in defining probable introduces a concept that is not present in U.S.
GAAP, which uses the word “likely” in its definition of probable. Further, such definition
is inconsistent with the guidance in paragraph 26.12, which requires a probable loss to be
reduced (or avoided) when an entity has a claim against a third party or a counterclaim
against a plaintiff as long as the success of such claim is not “less than likely” to occur.
Thus, we suggest that the definition of the term “probable” specify that “the chance of the
occurrence (or nonoccurrence) of the future event(s) is likely.”
Paragraph 26.30 allows the effect of possible new legislation to be taken into
consideration when an entity measures an asset retirement obligation (ARO) when that
entity has objective evidence that the legislation is virtually certain to be enacted. That
paragraph goes on to state that in many cases, objective evidence will not exist until the
new legislation is enacted. Under U.S. GAAP, entities do not have a legal obligation to
recognize an ARO until new legislation is enacted. Accordingly, entities may incur
additional cost by using the Framework because they would be required to determine
whether there is objective evidence that new legislation may be passed. We therefore
suggest that this paragraph be modified to state that the effect of new legislation is taken
into consideration in the measurement of an existing obligation “when the new legislation
is enacted.” Any new legislation that is enacted after the balance sheet date but before the
financial statements are issued would be subject to subsequent-event disclosure as
required by Chapter 24 of the FRF for SMEs .
Paragraph 26.31 states that a “present value technique is often the best available
technique with which to estimate the expenditure required to settle the present obligation
[of an ARO] at the balance sheet date.” However, Chapter 26 does not contain guidance
on what discount rate entities should use in calculating such present value. Under U.S.
GAAP, a credit-adjusted risk free rate must be used to discount expected cash flows. We
suggest that Chapter 26 include guidance on the appropriate rate to use in discounting
expected cash flows.
Chapter 26 does not include guidance on the derecognition of a liability or an ARO. We
suggest that the chapter include a discussion that is similar to those in ASC 405-20-40-1
through 40-2 and ASC 410-20-40-1 through 40-3.
Chapter 27 — Revenue
Paragraphs 27.08 through 27.10 list factors that management should consider when
determining whether performance can be regarded as achieved (i.e., whether the criteria
in 27.07 have been met). U.S. GAAP and IFRSs contain guidance on each of these
factors to help entities make consistent judgments about whether to recognize revenue.
Without guidance on these factors, users of the FRF for SMEs (or their auditors) may
have difficulty consistently making sound professional judgments that are cost effective.
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Paragraph 27.11 states that “separately identifiable components of a single transaction”
may need to be accounted for separately “in order to reflect the substance of the
transaction.” However, the Framework does contain guidance on how contract
consideration should be allocated among separate components. The Framework should
include a principle for allocating contract consideration among separately identifiable
components of a single transaction as well as examples of allocation techniques.
Other topics we suggest the TF consider addressing in the FRF for SMEs include
consideration (including sales incentives) given by a customer, accounting for contract
claims (for a construction-type and production-type contract), provisions for losses on
certain types of contracts, a customer’s option for additional goods or services that
includes a significant incremental discount, use of a residual allocation method (e.g.,
software contracts), costs to obtain and fulfill a contract, warranties, and nonrefundable
up-front fees.
The chapter refers to a “reasonable assurance” threshold but does not define this term. In
comment letters on the FASB’s and IASB’s revised exposure draft on revenue
recognition, respondents noted that the term “reasonably assured” may have inconsistent
meanings under U.S. GAAP, IFRSs, and certain auditing literature, which could result in
inconsistent application. We therefore suggest that this term be defined so that it can be
consistently applied. Similarly, guidance should be added to paragraph 27.21 on (1) when
consideration is determinable within “reasonable limits” and (2) when future returns are
sufficiently “predictable” (i.e., definitions of “reasonable limits” and “sufficiently”
predictable).
Chapter 28 — Retirement and Other Postemployment Benefits
Paragraph 28.06 defines an “expected future benefit,” which implies that implementation
guidance for the FRF for SMEs will include an asset “ceiling test.” Because such test
could confuse financial statement users or mislead them, we recommend that it not be
included in the FRF for SMEs.
Paragraphs 28.17 through 28.20 describe the “current contribution payable” method.
Excluding the net defined benefit plan obligation from the balance sheet would result in a
presentation that is inconsistent with the faithful representation of the entity’s obligation
to provide future benefits in exchange for employees’ current service, and it reduces
transparency. The current contribution payable method conflicts with basic principles for
retirement and postemployment benefits as outlined in paragraph 28.07, which states that
“an obligation for retirement and other postemployment benefits possesses all the
characteristics of liabilities.” We note that when entities use the current contribution
payable method, paragraph 28.20(b) nevertheless requires information about the funded
status of the plan (i.e., actuarially determined benefit obligation less plan assets) to be
disclosed. Since the cost and complexity of measuring the obligation is not alleviated, we
do not believe there is a sufficient rationale for allowing SMEs to exclude the funded
status of the plan from the balance sheet. In addition, providing SMEs with an accounting
policy choice between two methods that potentially would have a materially different
impact on the balance sheet will reduce comparability among similar entities.
Paragraph 28.17(b) refers to multiple accrued benefit obligation methods that will be
available under the accrued benefit obligation approach. Providing SMEs with a choice
of different methods may reduce comparability of entities. In addition, financial
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statement users may not be familiar with the various actuarial methods that may be
allowed.
Regarding paragraph 28.22, although inherent complexities warrant providing
implementation guidance to assist SMEs in their recognition, measurement, and
disclosure of defined benefit plan obligations, we believe that the FRF for SMEs itself
should prescribe (1) the permitted accrued benefit obligation attribution methods, (2) the
principles for determining the related assumptions to be used, and (3) the related
disclosure requirements. Since the various accrued benefit obligation methods being
proposed have not been fully described in the Framework, we cannot comment on the
acceptability of those methods.
Chapter 29 —Income Taxes
Since paragraphs 29.41 and 29.42 are repetitive, paragraph 29.41 could be deleted.
Paragraphs 29.48 and 29.50 state that income tax liabilities and income tax assets should
“normally” be measured by using the tax laws and rates that have been enacted as of the
balance sheet date. We suggest that the word “normally” be removed from these
paragraphs because the chapter does not include guidance on when an entity should use a
rate or law other than those enacted as of the balance sheet date.
Paragraph 29.72(c) requires disclosure of the “amount and timing of capital gain reserves
and similar reserves to be included in taxable income within five years.” The phrase
“capital gain reserves” is not a commonly known phrase. We therefore suggest that this
disclosure requirement be revised to more clearly state its intent.
The chapter does not contain guidance on how to account for uncertainty about whether a
position an entity takes (or is expected to take) in a tax return will be sustained upon audit
by the taxing authority. Possible solutions would be to add language based on the
guidance in ASC 740 on uncertain tax positions or to specifically state that a liability for
such uncertainties should be accounted for in accordance with Chapter 26 of the FRF for
SMEs.
The chapter does not provide guidance on accounting for the income tax effects of share-
based payment awards. We suggest that the TF consider adding such guidance.
Chapter 30 — Disposal of Long-Lived Assets and Discontinued Operations
Paragraph 30.22 states that “[c]urrent and long-term assets (and liabilities) are presented
separately unless the entity’s balance sheet is unclassified.” However, for assets and
liabilities of a disposal group to be classified as held for sale, it must be probable that the
long-lived assets will be sold within one year. We recommend clarifying in Chapter 30
whether it would be appropriate to classify assets held for sale as noncurrent.
Paragraph 30.28(b) states, as a condition for reporting the results of operations of a
disposed or held-for-sale component, that “the entity will not have any significant
continuing involvement in the operations of the component after the disposal
transaction.” However, we understand that the FASB has tentatively decided to eliminate
this criterion from U.S. GAAP, observing that it is applied or interpreted inconsistently
and is difficult to apply.
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Chapter 32 — Financial Instruments and Long-Term Debt
As noted in our comments on Chapter 19, the guidance in Chapters 19 and 32 could lead
to confusion about the accounting for equity investments. We recommend clarifying
relevant guidance by reorganizing these chapters, refining the scope of each chapter, or
adding cross-references to such guidance.
Paragraph 32.11 proposes, among other things, that all financial assets other than equity
instruments be subsequently measured at amortized cost. We do not understand the
conceptual basis for this principle. Specifically, we are concerned that measuring
derivatives or debt-instrument financial assets held for sale at amortized cost may not
provide SME financial statement users with decision-useful information.
Paragraph 32.13(c) refers to conversion value and intrinsic value. However, these values
are not defined in the FRF for SMEs, and we are unclear about how such measures would
be applied to financial liabilities indexed to a measure of the entity’s financial
performance or changes in the entity’s equity value.
Paragraph 32.16 proposes guidance on impairment of financial assets that is similar to the
impairment guidance proposed in paragraph 19.20 for equity investments. We are
concerned that the guidance in paragraphs 32.16(a) and 19.20(a) may result in
measurement of impaired financial assets that is misleading to SME financial statement
users.
Paragraph 32.21 states that acceptable methods of initially measuring separate liability
and equity components of instruments include measuring the equity component as zero or
applying the residual method. However, the FRF for SMEs does not state the conditions
under which these methods might be acceptable.
Paragraph 32.23 states that an “entity should derecognize receivables transferred to
another entity only when control has been surrendered” (emphasis added). However,
“control” is not defined in Chapter 32 or elsewhere in the context of financial assets.