FASB's FSP Decisions: Bigger than Basketball?

Includes: BAC, C, GS, JPM
by: Belvedere

Finally, the FASB held its long-anticipated meeting on the two FSPs that would have gutted fair value reporting as it exists. There's been more hoopla (and hope-la) about these two amendments than in all of March Madness.

Briefly, here's what transpired, as best as I could tell from the webcast of the meeting:

1. FSP 157-e, the proposal which would have provided a direct route to Level 3 modeling of fair values whenever there was a problem with quoted prices, will be quite different from the original plan. There will be indicators of inactive markets in the final FSP, but they'll only be indicators for a preparer to consider - and more importantly, their presence WILL NOT create a presumption of a distressed price for securities in question. That part of the proposal would have greased the skids for Level 3 modeling. Not now.

There will be added required disclosures, which were not in the exposure draft. One that I caught: quarterly "aging" disclosures of the securities that are in a continuous loss position for more than 12 months and less than 12 months. As discussed in last week's report on the proposals, these now-annual disclosures are useful for assessing riskiness of assets that could become a firm's next other-than-temporary impairment charge.

Bottom line: investors didn't lose here.

2. FSP FAS 115-a, 124-a, and EITF 99-20-b, the proposal that softens the blow of recognizing other-than-temporary impairments, was essentially unchanged from the original proposal. It remains a chancre on the body of accounting literature. The credit portion of an other-than-impairment loss will be recognized in earnings, with all other attributed loss being recorded in "other comprehensive income," to be amortized into earnings over the life of the associated security. That's assuming the other-than-temporary impairment is recognized at all, because the determination will still be largely driven by the intent of the reporting entity and whether it's more likely than not that it will have to sell the security before recovery. This is a huge mulligan for banks with junky securities.

If OTT charges are taken, the full amount of the impairment will be disclosed on the income statement with the amount being shunted into other comprehensive income shown as a reduction of the loss, leaving only the credit portion to be recognized in current period earnings.

Bottom line: Investors lost on this vote, and they will have to pay more attention to OCI in the future, as it becomes a more frequently-used receptacle for unwanted debits. When investors note these "detoured charges" in earnings, they should skip the detour and factor the full charge into their evaluation of earnings. A small victory for investors: the original proposal would have included other-than-temporary impairments on equity securities. The final decision will affect only debt securities.

There was a third, much less-heralded FSP voted upon at the meeting:

3. FSP FAS 107-a and APB 28-a, which will make the now-annual fair value disclosures for all financial instruments required on a quarterly basis. This will be required beginning in the second quarter, with early implementation allowed in the first quarter.

All three FSPs will become effective in the second quarter, with early implementation allowed in the first quarter. Note: any firm electing early adoption of the impairment FSP cannot wait until later to adopt the FSP 157-e fair value amendment. If they change the way they recognize impairments, they also have to change how they consider the calculation of fair values.

Some board members expressed hope that this was the last of the "emergency amendments" to take place at the end of a reporting period. It seems too much to hope for; there could more ahead, depending on how meddlesome the G-20 would like to be. Remember when IFRS in the United States was a hot topic? To a very large degree, that sprouted from a trans-Atlantic summit meeting between the EU and the White House. The same thing could happen again if the G-20 gang decides they know accounting better than the standard-setters.

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