FASB: In the Twisting Traffic of VIEs, No Free Parking (of Assets)

A quick acknowledgment right off the bat here:—only the (perhaps unwilling) cognoscenti compelled to be familiar with the complicated reporting rules on variable interest entitieswhat used to be called   “special-purpose entities”will understand the headline above. The rest may choose to check out the latest cat video or learn more about Piper the airport dog in Traverse City, Mich. [go ahead. see http://i.dailymail.co.uk/i/pix/2016/02/22/12/3171D5C000000578-3458213-image-m-97_1456144623691.jpg … plus related videos at abc.com or cnn.com, for example.]

On Aug. 24, the Financial Accounting Standards Board took up consolidations policy with regard to “VIEs” in the realm of “indirect interests held through related parties that are under common control.” Soon in the complex proceedings, the topic of structuring opportunities came up. (FASB hopes to issue limited-scope final rules on the common controls/VIEs topic in October. Public companies will have to apply those rules in January next year.)
In such deliberations, the question of whether to include explicit language to help prevent potential accounting abusethe setting out of transactions and of business entities’ specified duties in order to obtain desired reporting resultswas at center stage, at least for several minutes. James Kroeker, FASB’s vice chairman, and board colleague Marc Siegel spoke on the topic starting at about four minutes into the meeting. Click here for the recording of the webcast meeting.

To summarize, the planned guidance on VIEs and indirect interests held via related parties that are under common control addresses situations under other, related FASB consolidation guidance coming into effect soon (ASU No. 2015-02). In the instant set of circumstances, the board seeks to head off a “single decision-maker” (which could be the primary beneficiary of the VIE, which has to put the VIE’s activities on its consolidated books) from more automatically doing such consolidation and, in the process, from having to provide information that’s not useful to investors.

FASB put it this way in its summary of tentative board decisions, issued Aug. 26:  “The Board decided that when determining whether a single decision maker is the primary beneficiary of a variable interest entity (VIE), a single decision maker will no longer be required to consider indirect interests held through related parties that are under common control with the single decision maker to be the equivalent of direct interests in their entirety. Instead, the single decision maker will include such interests on a proportionate basis consistent with indirect interests held through other related parties.” [my emphasis in bold]
What Gave the FASB Vice Chairman Pause.

In the Aug. 24 meeting, FASB Chairman Russell Golden endorsed early in the meeting the board staff’s reasoning that FASB should complete the relatively narrowly-drawn topic described above, which arrived at the board’s offices in Norwalk, Conn., as a technical inquiry. Other, related VIE consolidations/common control issues, such as those on fees, would be taken up in a research effort that FASB plans.

Board Vice Chairman James Kroeker said he agreed with that. However, one item that gave him pause in gauging the feedback on the pending draft rules was “the structuring opportunity.”

Kroeker continued: “A couple constituents said, well, if something was done for structuring reasons, perhaps then you should apply not a proportional approach.”

He suggested that guidance in VIE accounting literature already addresses that. Therefore, FASB wouldn’t have to reiterate that in the forthcoming accounting standards update, he said.

What such a structuring opportunity would look like also caused Kroeker to pause, he said. He referred to “power” over a VIE and the economic interests in the VIE’s function, both elements in the consolidation analysis.

 “If you ended up with power being one place, at one subsidiary, and the economic interest being separated, why you want to then consolidate something where you had no economic interest in one set of financial statements, would raise the very same concerns that caused this,” the FASB vice chairman said. “If you do it on a whole basis, not a pro rata basis, you end up consolidating” in a situation marked by “no economic interest in a 99 percent minority interest.”

Siegel suggested he agreed with Kroeker. He added that he hopes the board will put in the rules’ basis for conclusions “why we didn’t think we needed to deal with this issue.”

For those readers seeking chapter-and-verse reference, the existing generally accepted accounting principles that deal with the general scenario discussed in the context of structuring opportunities are Accounting Standards Codification 810-10-15-13A and -13B, according to the FASB view.

“Parking” Concerns Spotlit by PwC.

Kroeker and Siegel didn’t refer to the constituent sources specifically, but PricewaterhouseCoopers was one of the two writers of comment letters on the VIE consolidation/common control draft rules that raised the subject of structuring. The other commentator was the Illinois CPA Society. 

PwC’s concern is found high in its single-spaced, one-page-plus July 25 letter to FASB. The firm wrote that a parent company may place or “park” interests in a VIE among a group of common entities, or subsidiaries, “motivated largely or entirely to allow a decision-maker subsidiary to avoid consolidation of a VIE in its standalone financial statements.”  PwC noted that such a scenario is called “a variable interest ‘parking arrangement." Items would be off subsidiary’s balance sheet.

The firm said it believes that the planned rule changes on consolidation policy should require “a decision-maker to assess whether the parent of a common control group has instituted a parking arrangement among the individual common control entities.” [e.g., brother and sister subsidiaries, owned by the same parent, thatperhaps with another unrelated entityset up a VIE. my example, to adapt from a scenario described in Ford Motor Company’s comment letter to FASB]

If such an arrangement exists, we believe the decision-maker should continue to consider the entirety of a commonly-controlled party’s interest in a VIE (rather than only a proportionate interest),” PwC wrote.

The accounting firm doesn’t see as sufficient the existing literature (ASC 810-15-13A and 13-B) that FASB and its staff believe obviates the need for reiterating its consolidation prescription in the circumstances the Big Four firm laid out. A more explicit statement of principles could be  useful for auditors who might have to deliver and back up  an unwelcome ‘thou shalt not do’ message to a company using VIEs and perceived as seeking to avoid consolidation via structuring.

By way of background on figurative anchors, a PwC partner pointed to a Dec. 9 speech by a Securities and Exchange Commission staff accountant at last year’s annual AICPA conference on SEC developments.

Some relevant words of the Dec. 9 speech by Christopher Semesky, a professional accounting fellow in the SEC’s Office of Chief Accountant, might be the following: “… in the instance where a controlling party in a common control group designs an entity in a way to separate power from economics for the purpose of avoiding consolidation in the separate company financial statements of a decision-maker, OCA has viewed such separation to be non-substantive.”

(The FASB codification’s section that board members and their staff identify as covering the area in which structuring is said to possibly arise refers to, ASC 810-10-15-13A, states in part: “For purposes of applying the Variable Interest Entities subsections, only substantive terms, transactions, and arrangements, whether contractual or noncontractual, shall be considered.” The codification goes on to describe terms, transactions and arrangements that don’t have “substantive effect,” as manifested in specific effects.)

PwC’s John Bishop told me, by way of background, that his firm’s accountants thought “it would be useful to codify the principles” that were outlined in the SEC staff speech.

Continue the discussion on VIEs at  Bloomberg BNA Accounting LinkedIn Group.