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TRANSCRIPT
Leases & Proposed Guidance On Contributions Received/Made
September 18, 2017
Jeff Holt, Partner, EisnerAmper LLP William Epstein, Director, EisnerAmper LLP
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Speakers
Jeff Holt Partner EisnerAmper LLP [email protected]
William Epstein Director EisnerAmper LLP [email protected]
• Introduction
• Leases
• Clarifying the scope and accounting guidance for contributions received and made
• Q&A
Agenda
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New Leasing Standard
• After working for almost a decade, the FASB has finally issued its new standard on accounting for leases, ASU 2016-02 (“ASU 2016-02” or the “Standard”)
• The primary objective of the leases project was to address the off-balance-sheet financing concerns related to lessees’ operating leases
• The “Standard”
– Introduces a lessee “right-of-use” model where most leases will be on the balance sheet (similar to today’s capital leases)
– Eliminates the bright-line tests for determining lease classification
Leases: Overview
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• The “Standard” – May impact the presentation and expense recognition pattern
– Retains the fundamentals of today’s lessor accounting model (and as such, this presentation will focus on the impact on lessees)
– Applies to all leases greater than 12 months (with certain exclusions, intangible asset, inventory and others)
– Significantly increases lease footnote disclosures
– Is a wholesale change to lease accounting
– Is effective for calendar periods beginning on:
• Public Companies – January 1, 2019
• Private Companies – January 1, 2020
Leases: Overview
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Which best describes your role?
A. Finance staff at a for-profit organization
B. Finance staff at not-for-profit organization
C. Public accountant serving both sectors
D. Board member at a not-for-profit organization
E. Other
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Polling Question #1
Lease Definition & Identification
Per FASB’s master glossary, a lease is defined as:
“A contract, or part of a contract, that conveys the right to control the use of identified property, plant, or
equipment (an identified asset) for a period of time in exchange for consideration.”
Lease Definition
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Identified Asset
Control over Use
Lease
Lease Identification
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Lessee Lease Classification, Recognition and Subsequent Measurement
Lessee Lease Classification
Look familiar?
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Lessees: Recognition
Lessor Lessee
Right to use underlying asset
Lease payments
ROU asset Right to use
underlying asset during lease
term
Lease liability Obligation to
make future lease payments
All leases (other than short-term leases) will be recognized on the balance sheet.
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• At the commencement date of the lease, the lessee would record a right-of-use asset and a lease payment liability measured at the present value of the lease payments (plus initial direct costs, prepaid lease payments, less any incentives received):
Right-of-use asset $20,000
Lease liability $20,000
• This treatment applies to both operating and financing leases. The subsequent measurement differs depending upon the lease classification.
Lessees: Recognition
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• Lease liability
– Previous carrying amount + interest expense – lease payments
Balance = Present value of remaining lease payments
• Right of use asset
– Previous carrying amount – current amortization expense
• Generally on a straight-line basis, over the shorter of the lease term or useful life of the right of use asset
Balance = Original amount – Accumulated amortization
Finance Leases: Subsequent Measurement
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Finance Leases: Subsequent Measurement
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$
Time
Interest expense
Amortization expense
Total expense
Interest expense $XX Lease liability $XX
Lease liability $XXX Cash $XXX
Amortization $XX Accum. Amort. $XX
Total expense = Interest + Amortization (not rent expense)
• Lease liability
– Previous carrying amount + interest expense – lease payments
Balance = Present value of remaining lease payments
• Right of use asset
– Recognize in income statement a SINGLE lease cost calculated so that the remaining cost of the lease is allocated over the remaining lease term (usually on a straight-line basis)
Operating Leases: Subsequent Measurement
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Lease liability $XXX Cash $XXX
Operating Leases: Subsequent Measurement
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$
Time
Interest
Amortization
Total expense
Rent expense $XX Lease liability (int.) $XX
Rent expense $XX Accum. Amort. $XX
Total expense = straight-line rent expense
• ASU 2016-02 brings most leases on the balance sheet as a “right-of-use” asset and a lease liability
• The increased leverage will potentially have a negative impact on key metrics or potentially cause debt covenant violations
• This may depend in part on how various debt agreements define and limit indebtedness
• Financing leases: expense recognition will be recorded as interest and amortization rather than as rent expense
– May result in lower income in early lease years (as interest expense is front loaded) more EBITDA (as it is all added back)
– Same as current capital leases
Leases: Debt Covenants
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• ASU requires entities to present operating lease liabilities outside of traditional debt, which may provide relief to some entities
• It is important for entities to determine the ASU’s potential effects on debt covenants and begin discussions with lenders early if they believe that violations are likely to occur as a result of adopting the ASU.
Leases: Debt Covenants
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The new lease standard applies to both operating leases and capital leases?
A. True
B. False
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Polling Question #2
Proposed Accounting Standards Update: Clarifying the Scope and the Accounting Guidance for Contributions Received and Contributions Made
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Background:
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Project added to the FASB Technical Agenda to improve and clarify existing guidance
ASU 2014-09, Revenue from Contracts with Customers, including related disclosures, heightened the issue
Raised the question as to whether grants and contracts are in the scope of that
guidance (reciprocal vs. non-reciprocal)
Long-standing diversity in practice in classifying grants and contracts,
particularly from government entities
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Areas of Confusion
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Issue 1: Reciprocal vs. Non-reciprocal Issue 2: Conditional vs. Unconditional
If funds are provided
with certain stipulations,
there is difficulty in
distinguishing whether a contribution
is conditional, restricted, or
both
Some equate the
government general public
– issue is whether
government receives direct commensurate value in return (because the
public benefits)
Many believe the
government doesn’t give
contributions
Stakeholders find it difficult to distinguish
between a conditional
and unconditional contribution >
causing diversity in application
Many NFPs treat federal
grants / contracts
with governmental
entities as exchanges
(regardless of substance)
Diversity in application of
“remote” notion –
whether the likelihood of
failing to meet a condition is
remote. (Some NFPs believe any condition within their control has
remote likelihood of
not being met)
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Proposed guidance would assist entities in:
1. Evaluating whether transactions should be accounted for:
• Contributions within Topic 958 – non-reciprocal
• Exchange transactions subject to other guidance – reciprocal
2. Distinguishing between conditional and unconditional contributions
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Revenue Recognition Decision Process
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Is the transaction one in which each party
directly receives commensurate value?
Is the payment from a third-party payer on behalf of an existing
reciprocal transaction?
It is a non-reciprocal transaction. Apply contribution (non-exchange)
guidance.
It is an exchange transaction. Apply Topic 606 on revenue
from contracts with customers or other applicable topics
It is a balance-sheet only transaction. No effect on an entity’s revenue recognition
Are there conditions present (a barrier and right of return/right of
release must exist)?
Yes
Yes
No
No
It is unconditional. Recognize revenue in appropriate net asset
class
Are restrictions present (that is, limited
purpose or timing)?
It is conditional. Recognize revenue when
the condition is met
Yes
It is unconditional and with donor restrictions
It is unconditional and without donor
restrictions
Distinguishing contributions (non-reciprocal transfers of assets) from exchange transactions (reciprocal):
• Clarify how an entity determines whether a resource provider is participating in an exchange
– Evaluate whether the resource provider is receiving
commensurate value in return
• Based on: – Resource provider is not synonymous with the general public
• Indirect benefit received by the public as a result of transferred assets is not commensurate value received by the resource provider
– Execution of the resource provider’s mission is not commensurate value
– Is there expressed intent asserted by both the recipient and resource provider is to exchange resources that are of commensurate value?
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
• Based on (continued):
– Resource provider has full discretion in determining the amount of transferred assets
– Penalties assessed on recipient for failure to comply with agreement are limited to the delivery of unspent assets
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Once the agreement with resource provider has been determined to be a contribution:
• Amendments require that an entity determine whether a contribution is conditional or unconditional
– Clarification on determining conditional contributions
• Donor imposed conditions must have:
– A barrier
– A right of return to the promisor for assets transferred or a right of release of the promisor from its obligation to transfer assets
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Indicators helpful in determining whether an agreement contains a barrier:
• Agreement includes a measurable performance-related barrier or other measurable barrier
• Stipulations that are related to the purpose of the agreement
• Limited discretion by the recipient
• Recipient required to undertake additional actions
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Example: Procurement Arrangement • NFP receives funding to perform a research study from local government
• Agreement requires NFP to:
– Plan the study
– Perform the research
– Summarize and submit the research to the local government
• Local government retains the rights to the research study
NFP concludes that the arrangement is a transaction in which commensurate value has been exchanged (reciprocal). • NFP is to perform a study for the local government and turn over the
findings to the local government
• Local government retains the rights the study
STOP! No need to go to next step.
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Example: Research Grant
• University is awarded grant from federal government to conduct research
• University must follow rules and regulations established by the Office of Management and Budget
• University must incur qualified expenses to be entitled to transfer of assets from federal government
– Any unspent funding during the grant period is forfeited and any drawn down funding that does not have related qualifying expenses must be returned
• University is required to submit summary research findings to federal government, but retains the rights to the findings
University concludes that the grant is not a transaction in which commensurate value has been exchanged (non-reciprocal).
• The federal government does not receive commensurate value
– Receives indirect benefit because the research findings serve the general public
• University and general public receive the primary benefit of any findings
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ISSUE #1: Reciprocal or Non-reciprocal?
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Example: Research Grant
University concludes that the grant is conditional.
• Grant agreement limits University’s discretion on how the assets are to be spent (qualifying expenses)
• Right of return and release
• Following the rules of the OMB alone is not a barrier to entitlement of the assets because it is not related to the purpose of the agreement
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ISSUE #2: Conditional or Unconditional?
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Example: Contribution from a Private Foundation • NFP receives a grant from a PF in the amount of $400,000 to provide
specific career training to disabled veterans
• Grant requires NFP to provide training to at least 8,000 disabled veterans during the next year, with specific minimum targets that must be met each quarter
• PF specifies that a right of release from the obligation in the agreement that it will only give NFP $100,000 each quarter if, and only if, NFP demonstrates services have been provided to 2,000 disabled veterans during the quarter
NFP concludes that the grant is conditional. • Right of release from obligation within the agreement
• PF requires NFP to achieve specific levels of service that would be considered a performance-related barrier
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Example: Contribution for a Research Grant
• NFP’s mission is working with gluten-related allergies
• NFP applies for and receives a $100,000 grant from a corporate foundation to perform research on gluten-related allergies over the next year
• Grant agreement includes the following: – Right of return
– General budget submitted with grant application must be followed or approval must be obtained for any significant deviations on spending
– Requirement that at the end of the grant period a report must be filed with the corporate foundation that explains how the assets were spent
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Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Example: Contribution for a Research Grant
NFP concludes that the grant is unconditional.
• General budget included in the grant proposal is not a barrier to entitlement because adherence to a general budget allows for broad discretion
• Reporting requirement alone is not barrier because it represents an administrative requirement and not related to the purpose of the agreement
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In order to be considered a conditional contribution there must be:
A. A barrier
B. A right of return to the promisor
C. A right of release of the promisor from its obligation
D. Both A and B
E. Both B and C
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Polling Question #3
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Transition Approach
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A
B
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Transition Approach – Modified Prospective Approach
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Effective Date
Completion
of Grant #1
Start of
Grant #3
Begin
recognizing
revenue using
new guidance
Start of
Grant #2
Completion
of Grant #2
No restatement of
revenue
recognized prior
to effective date
No restatement
of recognized
revenue
Recognize only
the previously
unrecognized
revenue, using
new guidance
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
Timeline of the Project
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Issued Proposed Update
November 1, 2017
Final ASU
August 3, 2017
Comment Period
Deadline
Q2 2018
Revenue Recognition of Grants and Contracts by Not-for-Profit Entities
• Although accounting for contributions is primarily an issue for not-for-profit entities, the amendments would apply to all entities (not-for-profit organizations and business entities) that receive or make contributions
• Applies to both contributions received by a recipient and contributions made by a resource provider
• Does not apply to transfers of assets from the government to business entities
• Presentation within the financial statements to label revenue (e.g. contribution, grant, donation) that is accounted for within the scope of subtopic 958-605 is not a factor for determining whether an agreement is within the scope of that guidance
• Resource provider entity type is not a factor
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Questions?
Thank You
Jeff Holt Partner EisnerAmper LLP [email protected]
William Epstein Director EisnerAmper LLP [email protected]
This publication is intended to provide general information to our clients and friends, It does not
constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the
subject matter.