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FAS 157 Continues to Evolve--Looking for Insights?
by Dennis Quichocho, CPA
The Financial Accounting Standards Board (FASB) has issued additional guidance for estimating fair value by adding clarification to Statement of Financial Accounting Standards No. 157, Fair Value Measurements (FAS 157). New criteria for evaluating the fair value of investments and expanded financial reporting requirements were established for employee benefit plans and other entities. This new guidance was issued in light of the volatility of the financial markets, forced sales of the country's largest banks and investment firms, as well the overwhelming bankruptcies and related events in the latter half of 2008. Since many of these transactions were the result of this turbulent environment, they were viewed as "not orderly" and therefore estimating fair value proved to be challenging. To provide guidance on determining whether a market was no longer active or whether a transaction is not orderly, FASB Staff Position FAS 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (FSP 157-4)* was issued in April 2009.
As a fiduciary, what impact can you expect to your Plan? While there are fundamentally three key developments (listed below), the most significant impact likely will be the additional financial statement disclosure requirements.
- New guidance for determining whether market activity has significantly declined and how to estimate fair value in these cases. In most cases, the impact will be limited to significantly hard-to-value assets or liabilities (e.g., estimates that involve considerable judgment and inputs which cannot be readily/independently confirmed).
- New guidance for identifying when transactions are not orderly. If a transaction is not orderly, little weight shall be placed on the transaction price when estimating fair value. For most, the impact will be limited to significantly hard-to-value assets or liabilities.
- Additional financial statement disclosure requirements. The expanded financial statement disclosures will impact all entities. The new disclosure requirements include:
- Disclosing the valuation technique(s) and inputs used to estimate fair value. Previously, the disclosure of inputs was not required. If there are changes to these inputs and techniques going forward, they should also be disclosed.
- Listing or categorizing investments by risk, nature, industry or other common characteristics (i.e., major category). Previously, investments were only disclosed based on the FAS 157 hierarchy (Levels 1, 2, or 3). (To refresh your memory on the FAS 157 hierarchy, see our related article from April 2009.) With FSP 157-4, investments shall now also be disclosed by major category. Some examples of major categories include the following; however, others may be needed depending on the nature of your investments:
- Equity securities (segregated by industry type, company size, investment objective, etc.)
- Debt securities issued by the U.S. Treasury and other U.S. government corporations and agencies
- Debt securities issued by foreign governments
- Corporate debt securities
- Residential mortgage-backed securities
- Commercial mortgage-backed securities
- Collateralized debt obligations
- A reconciliation of beginning and ending balances of Level 3 investments by major category rather than by consolidated total of investment type.
Are you, your administrator or accounting department ready to prepare the new footnotes to the financial statements? For illustrative purposes, we have provided examples of the pre- and post-FSP 157-4 footnote requirements. (Click on links below.)
Example Footnote Disclosures - Before FSP 157-4
Example Footnote Disclosures - After FSP 157-4
Example Footnote Disclosures - After FSP 157-4, Level 3 Reconciliation
As you can see, the level of detail required by FSP 157-4 has expanded considerably.
Is your investment custodian ready to report the Plan's investments by category? For some plans, the additional information may be already available. We recommend contacting your custodian today to understand the level of information they plan to provide and request that the information is reported in a manner that will facilitate your preparation of the footnote in accordance with FSP 157-4.
Conclusion
As FAS 157 evolves, it continues to present some interesting challenges and require increased efforts in the preparation of financial statement disclosures. The issuance of FSP 157-4 extends the disclosure by requiring the presentation of investments by nature, risk, type, industry, etc. Obtaining the information to prepare these disclosures may take some coordination with your investment custodian, so contact them now. Also, judgment may be required with categorizing the investments, even with the custodians' detailed statements, so reach out to your auditor if you have questions.
These new requirements are effective for periods ending after June 15, 2009 and should be applied prospectively.
* Incorporated into FASB Codification 820, Fair Value Measurement and Disclosures.
Article by Dennis Quichocho, CPA - As an audit senior manager in our Seattle practice and a CPA with 11 years of public accounting experience, Dennis leads, develops, and mentors our client service teams. Reporting directly to the partners, he assists them with every aspect of serving our clients. Before joining the Firm in 2009, Dennis began his public accounting career with Deloitte & Touche LLP. Dennis is a graduate of the University of Washington and a member of the American Institute of Certified Public Accountants.
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