BY CORY BENNETT
BENNETT THRASHER LLP
As construction companies deal with rising labor and material costs, many are looking at other areas of their business to keep costs in check. Fortunately, financial reporting is becoming less complex and costly for small, private businesses in construction and other industries.
For many years, the Financial Accounting Standards Board (FASB), which sets accounting standards (Generally Accepted Accounting Principles (GAAP)) that businesses are obligated to follow, has received numerous complaints regarding the growing complexity and cost associated with financial reporting. Much of the added complexity was a response to issues that primarily affected large, public companies.
Recognizing that many of the rules didn’t apply to small or mid-sized businesses or were burdensome, the FASB created the Private Company Council (PCC) in 2012. The PCC works with the FASB to identify and propose alternatives to GAAP for private companies. This ongoing effort has resulted in a gradual streamlining of accounting standards for smaller, private companies. Many construction companies will benefit from these revisions.
To date, the PCC and FASB have issued four accounting alternatives for private companies, all of which can apply to private construction companies. Each of these alternatives, included in Accounting Standard Updates (ASU), provides an expedited approach to certain technical topics that have historically driven up the cost of financial reporting and compliance for private companies. These alternatives are optional for private companies and must be disclosed in the financial statements. The alternatives cover goodwill, interest rate swaps, variable interest entities and identifiable intangible assets.
Goodwill is an intangible asset that reflects a general contractor’s reputation, relationships, employee workforce, brand and other similar factors that make it worth more than just the value of identifiable assets. Goodwill is generated upon the acquisition of a business by a company.
Under previous GAAP standards private companies could not amortize goodwill and companies that claimed goodwill on their balance sheets were required to evaluate it each year to assess changes to value, or impairment. This was an expensive process.
Under the new standard, private companies can amortize goodwill on a straight-line basis over a period not to exceed 10 years. By amortizing goodwill, companies will be able to avoid, to a certain extent, tedious impairment and valuation models needed to test goodwill on an annual basis.
The new goodwill standard is FASB ASU No. 2014-02, Intangibles – Goodwill and Other (Topic 350): Accounting for Goodwill.
Interest Rate Swaps
Another new standard allows private companies to use a simplified approach to qualify for hedge accounting. This can be used to reduce a company’s exposure to volatile swings in interest rates, always a concern for an industry such as construction where projects often depend on loans.
Hedge accounting is very complex to apply. It allows for the change in a derivative instrument, such as an interest rate swap, to be recorded through equity rather than through the income statement. The hedged instrument is specific to variable/fixed interest rate swaps, which are becoming more common in the current lending environment. By qualifying for hedge accounting and not having to conduct all of the rigorous tests and analyses under the current standard, private companies can remove all the volatility of a swap from their income statement and instead include it within equity.
The new interest rate swaps standard is FASB ASU No. 2014-03—Derivatives and Hedging (Topic 815): Accounting for Certain Receive-Variable, Pay-Fixed Interest Rate Swaps—Simplified Hedge Accounting Approach.
Variable Interest Entities
Companies that conduct related-party business may benefit from a standard that allows private companies an option to not consolidate certain related party entities in financial reporting that previously would have required consolidation under the FASB’s complex variable interest entity guidance. These types of arrangements are common in the construction industry whereby an operating company is the exclusive tenant of a building (or other tangible assets) owned by the business owner. Regardless of whether the operating company guarantees the debt of the related party, consolidation is not required under this alternative. Typically, this is the preferred treatment by the business owner and financing partners in these types of transactions.
The standard is FASB ASU No. 2014-07, Applying Variable Interest Entities Guidance to Common Control Leasing Arrangements.
Identified Intangible Assets
General contractors also may benefit from a standard that allows private companies to group certain intangible assets into goodwill when they cannot be sold or licensed independently as part of the accounting associated with the purchase of a business. This alternative reduces the need for performing valuations for such assets that under current standards are required to be recorded separately. Examples include customer relationships and non-compete agreements.
The standard is FASB ASU No. 2014-18, Business Combinations (Topic 805): Accounting for Identifiable Intangible Assets in a Business Combination.
More Alternatives in Financial Reporting Coming
The PCC currently is considering other changes that would affect private businesses. Topics include stock-based compensation and pensions, leases and revenue recognition. Visit the FASB website (www.fasb.org) for the latest developments with the PCC, including summaries of recent meetings on these and other topics.
Both the PCC and FASB have been very effective in meeting their objectives over the past few months as evidenced by the flurry of activity. The accounting alternatives give private construction companies options to avoid the excessive analysis and costs that are needed to comply with current standards. I suggest discussing these alternatives with your financial advisers to determine if they are viable options for your financial reporting needs.
Cory Bennett is a partner in the Financial Reporting and Assurance Practice of Bennett Thrasher LLP, one of the largest Atlanta-based, full-service certified public accounting and consulting firms, and is an active member of the firm’s construction practice. For more information, visit www.btcpa.net.