BDO SEIDMAN, LLPS October 2006 FINANCIAL REPORTING UPDATE

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BDO SEIDMAN, LLPSOctober 2006FINANCIAL
REPORTING UPDATE
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Speakers and Replay Information

• Speakers
• Jeff Lenz
• Ben Neuhausen
• Replay Access
• www.bdo.com/about/publications/assurance

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Agenda

• SEC Update
• GAAP Update
• Questions and Answers

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SEC UPDATEOctober 2006
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SEC Update Agenda

• Rulemaking
• Personnel Changes
• SAB 108 Effects of Prior Year Errors
• Stock Option Accounting
• Other SEC Practice Issues

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Recent Rulemaking

• Executive Compensation and Related Person
  Disclosure (Release 33-8732A)
• http//www.sec.gov/rules/final/2006/33-8732a.pdf
• Transition Questions and Answers
  (http//www.sec.gov/divisions/corpfin/faqs/execcom
  pqa.pdf)
• Request for Additional Comment Release 33-8735
  (http//www.sec.gov/rules/proposed/2006/33-8735.pd
  f)
• Amendments to the Tender Offer Best-Price Rule
  (http//www.sec.gov/news/press/2006/2006-177.htm)

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404 ImplementationNext Steps SEC

• Defer compliance dates
• Completed Release 33-8730A (http//www.sec.gov/r
  ules/final/2006/33-8730a.pdf)
• Accelerated foreign private issuers
• Proposed Release 33-8731 (http//www.sec.gov/rul
  es/proposed/2006/33-8731.pdf)
• Non-accelerated filers
• Newly public companies
• Obtain additional feedback (Concept Release)
• Issue guidance on management assessments
• Work in concert with PCAOB (standard setting,
  inspections)

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404 Compliance Dates (Proposed)
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Rulemaking AgendaDecember 13

• Internal Control Reporting
• Management reporting
• Deferral for non-accelerated filers and newly
  public companies
• Internet Availability of Proxy Materials (Release
  34-52926)
• http//www.sec.gov/rules/proposed/34-52926.pdf
• Foreign Private Issuer Deregistration (Release
  34-53020)
• http//www.sec.gov/rules/proposed/34-53020.pdf
• Exchange Act Rule 14a-8

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Personnel Changes

• New Chief Accountant Conrad Hewitt
• New Deputy Chief Accountant for Professional
  Practice Zoe-Vonna Palmrose

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SAB 108 Quantifying Effects of Prior Year
Errors

• Topic 1-N (http//www.sec.gov/interps/account/sab1
  08.pdf)
• Effects of prior year errors on current year
  financial statements
• Historical diversity in practice
• Iron curtain vs. rollover approaches
• May require significant adjustments
• Transition
• Restatement not required
• Effective for years ending after 11/15/06

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Assessing Errors

• Are the financial statements materially
  misstated?
• Identify and quantify errors that have not been
  corrected (SAB 108)
• Evaluate whether the effects of those errors are
  material (SAB 99)

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Rollover Approach

• Focuses on the income statement
• Error is the amount by which the current year
  income is misstated
• May result in the accumulation of
  significant errors in the balance sheet

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Iron Curtain Approach

• Focuses on the magnitude of the error to the
  current balance sheet
• If a prior year error is corrected in the current
  year, does not consider the current year
  financial statements to be misstated
• May not prevent significant misstatements of
  income

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Alternative Approaches Example

• Improper expense accrual of 100 that has built
  up over 5 years at 20 per year
• Rollover approach - 20 overstatement of expenses
• Iron curtain approach - 100 overstatement of
  liabilities and expenses

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SAB 108 Dual Approach

• Evaluate misstatements under both approaches
• If the adjustment would be material under either
  approach the error should be corrected

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SAB 108 Dual Approach

• If you correct an error that was immaterial
  in prior years but is material to the current
  year
• Restate prior year financial statements
• But no need to amend prior filings

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SAB 108 Transition Approaches

• Restating is permitted
• Restating is not required if management
• Properly applied its previous assessment approach
• Considered all relevant qualitative factors in
  assessing previous errors
• Alternative Report cumulative effect as
  adjustment to opening 2006 balances (through
  retained earnings)

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SAB 108 Example Transition Entries

• Record cumulative catch up entry as of January 1,
  2006
• Dr. Liability 80
• Cr. Retained earnings 80
• Correct the remaining 20 misstatement as an
  adjustment to 2006 earnings
• Dr. Liability 20
• Cr. Expense 20

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SAB 108 Transition Disclosures

• Nature and amount of each individual error being
  corrected
• When and how each error being corrected arose
• The fact that the errors had previously been
  considered immaterial

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SAB 108 Adopt in an Interim Period

• Not required to amend previously filed interim
  reports
• Disclose the effect on the current period and any
  prior periods adjusted
• If necessary, restate this years quarters
• Quarterly data in next Form 10-K
• Prior year columns in next years Form 10-Qs

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SAB 108 Adopt at Year End

• Consider SAB 74 disclosures in interim financial
  statements
• If necessary, restate this years quarters
• Quarterly data in next Form 10-K
• Prior year columns in next years Form 10-Qs

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SAB 108 Other Issues

• IPOs
• Must apply dual approach if the registration
  statement is effective after Nov. 15, 2006
• Transition via restatement
• Implementation questions
• Private companies?
• Interim materiality next SAB?

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Stock Option Accounting Overview

• Issues
• Timing practices pricing practices
• Accounting, tax, legal, internal control issues
• Investigations intentional practices, sloppy
  practices
• Timeframe pre-SOX
• Accounting standard was APB 25
• Intrinsic value at measurement date
• Date the number of options and price are known

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SEC Staff Guidance

• September 19 letter to FEI and AICPA
• Reflects practical/common sense approach
• Available at
• http//www.sec.gov/info/accountants/staffletters/
• fei_aicpa091906.htm
• Topics largely relate to questions about whether
  a companys past measurement date determinations
  were appropriate

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What if there was an administrative delay in
completing required granting actions?

• It depends. If the company operated
• As if the terms of the awards were not final,
  then measurement date did not occur until the
  completion of all required granting actions
• As if the terms and recipients of awards were
  final on an earlier date, it may be appropriate
  to conclude that a measurement date occurred
  prior to the completion of all required granting
  actions

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Is the grant valid?

• If
• The company intends to honor the awards in stock
  and
• Reasonably concludes that it will be able to do
  so
• Then
• There is a substantive arrangement that can serve
  as the basis of the accounting
• Can account for the awards as fixed
• Potential need for legal analysis

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What if the documentation is incomplete?

• It depends
• Dont default to variable accounting or to
  treating the awards as if they had never been
  granted
• Use all available relevant information

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Other Questions Addressed

• What if the individual grant recipients are
  uncertain?
• What if the exercise price is set by reference to
  a future market price?
• What if the grant is made prior to employment?
• What if the options were timed to specific
  company announcements?
• What if the options were changed due to the
  release of new information?
• What if the incorrect exercise date was
  documented to reduce income taxes for the
  employee?
• What if the Statement 123 pro forma footnote
  disclosure is in error?

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Audit Implications

• PCAOB Audit Practice Alert No. 1 Matters
  Related to Timing and Accounting for Option
  Grants
• http//www.pcaob.org/News_and_Events/News/2006/07-
  28_Release.pdf
• Audit procedures depend on nature and potential
  magnitude of risk

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Other Stock Option Auditing Matters

• PCAOB Staff FAQ Auditing the Fair Value of
  Share Options Granted to Employees
• Issued October 17, 2006
• http//www.pcaobus.org/Standards/Staff_Questions_a
  nd_Answers/2006/Stock_Options.pdf

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Other SEC Practice Issues

• Cash flows classification
• Non-GAAP financial measures
• Restatements Form 8-Ks

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GAO Study Restatements

• Analyzed 1,392 restatements between July 2002 and
  September 2005
• Available at http//www.gao.gov/new.items/d06678.p
  df
• Number of companies restating financial
  statements rose from 3.7 to 6.8
• 17 did not file an Item 4.02 Form 8-K to report
  the restatement

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GAAP Update October 2006
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Agenda

• FASB Statement Nos. 157 and 158
• FASB Staff Positions
• Proposed FASB Staff Positions
• EITF Consensuses
• EITF Open Issues

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FASB Statement No. 157

• Uniform definition of fair value
• Guidance on measuring fair value
• No expansion of areas in which fair value
  measurements are required
• Effective for fiscal years beginning after
  11/15/07

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FASB Statement No. 157

• Guidance on measuring fair value in absence of
  active markets differs from
• Past accounting guidance
• Typical practice of valuation specialists
• Ideal is perspective of marketplace participant
• Company-specific data a fallback
• Transaction costs excluded
• Blockage adjustment to market prices prohibited

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FASB Statement No. 158

• Defined benefit pension and other postretirement
  benefits
• Change to balance sheet display
• Fiscal years ending after 12/15/06 for companies
  with publicly traded equity
• Fiscal years ending after 6/15/07 for others,
  including not-for-profits
• Requirement to use year end measurement dates
  effective for fiscal years ending after 12/15/08

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FASB Statement No. 158

• Todays balance sheet shows asset or liability
  equal to cumulative difference between accounting
  expense and funding
• Amount on balance sheet also equals difference
  between obligation and plan assets adjusted for
• Unrecognized gains and losses
• Unrecognized prior service cost
• Unrecognized transition obligation

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FASB Statement No. 158

• New requirementbalance sheet asset or liability
  equal to difference between obligation and plan
  assets
• PBO for pensions
• APBO for other postretirement plans
• Unrecognized items shown as elements of
  shareholders equity (accumulated other
  comprehensive income), net of income tax

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FASB Statement No. 158

• Balance sheet gross up similar in some respects
  to additional minimum liability for pensions, but
  different because
• Measure of obligation is PBO versus ABO
• All unrecognized items displayed in shareholders
  equity
• Prior requirements showed unrecognized prior
  service cost as an intangible asset

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FASB Statement No. 158

• Issues for first application of new balance sheet
  guidance
• Compliance with contractual requirementsdebt
  covenants, bonding requirements, bidding
  requirements
• Book value stock plans
• Realizability of deferred tax assets associated
  with balance sheet liabilities

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FASB Staff Positions--Final

• AUG AIR-1 Accounting for Planned Major
  Maintenance
• Accrue in advance method no longer acceptable.
  Defer and amortize, expense as incurred, or
  built-in overhaul method continue to be
  acceptable
• New in finalalso applies to quarterly financial
  statements
• FAS 123(R)-5 Amendment of FASB Staff Position
  FAS 123(R)-1
• Addresses whether a modification of an instrument
  in connection with an equity restructuring or a
  business combination should be considered a
  modification for purposes of applying FSP FAS
  123(R)-1

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FASB Staff Positions--Final

• FAS 123(R)-6 Technical Corrections

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FASB Staff Positions--Proposed

• FAS 126-a Revision to the Definition of a Public
  Entity to Include an Obligor for Conduit Debt
  Securitiesstill open
• EITF 00-19-b Registration Rights Agreements
• EITF 03-6-a Whether employee stock compensation
  arrangements represent participating securities
  for EPS purposes

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FASB Staff Positions--Proposed

• FAS 141-b, 142-e, and 144-b Transition guidance
  on fair value measurements until Statement 157
  becomes effective

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EITF Update
SELECTED EITF ISSUES
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Final Consensus

• 06-1, Consideration paid by service provider to
  an intermediary rather than to a customer
• Is debit revenue reduction or an expense?
• Generally consistent with EITF 01-9 guidance for
  consideration paid to customer

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Final Consensus

• 06-4, Endorsement Split-dollar life insurance
• Employer has a postretirement obligation to
  employee
• Purchase of insurance does not settle the
  employers obligation

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Final Consensus

• 06-5, Company-owned life insurance
• Asset should be measured by considering all
  consideration that company would receive upon
  surrender
• Each policy should be measured individually

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Tentative Consensus

• 06-6, Modification of a conversion right
• 06-7, Previously bifurcated conversion right that
  no longer needs to be bifurcated
• 06-6 would nullify Issue 05-7 consensus
• Two more in long string of EITF issues dealing
  with convertible debt
• Complex models
• EITF recommendation that FASB give accelerated
  consideration to convertible debt

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Tentative Consensus

• 06-8, Buyers continuing investment in
  condominium transactions
• For seller to use percentage-of-completion
  method, buyers continuing investment must meet
  Statement 66 requirements
• To accomplish, buyer either (1) makes payments to
  amortize debt during construction or (2) makes
  extra down payment

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Tentative Consensus

• 06-9, Change or elimination in difference in
  fiscal years between investor and equity method
  investee
• Accounting change under FASB Statement No. 154
• Retrospective application unless not practicable
  as defined in Statement 154

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Open EITF Issues

• 05-4, Liquidated damages in equity derivative
  contractsnow proposed FSP EITF 00-19-b
• 06-H, Application of AICPA Broker-Dealer Guide to
  commodity traders
• 06-I, Joint development, manufacturing, and
  marketing arrangements in biotechnology and
  pharmaceutical industries
• 06-J, Subsequent accounting for executory
  contract recorded at fair value in purchase
  accounting