ASU 2017-12 Impact on Derivative Disclosures

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The FASB recently released updated hedge accounting guidance which will improve the financial reporting to better portray the economic results of an entity’s hedge program in its financial statements.

The changes aim to simplify the application of the hedge accounting guidance and make hedging a much more attractive option for all corporations and financial institutions. In addition, to broadening the set of transactions eligible for hedge accounting and streamlining ongoing hedge accounting requirements, the changes also include new disclosure requirements.

Although the new proposal is a big win for most hedge programs, the “cost” of these improvements is an additional table summarizing all derivatives impacting income from both cash flow and fair value hedges.   Let’s start with the mandated changes and then discuss what might changes may be required to your current disclosures.

NEWLY REQUIRED TABLE

The new disclosure table requires an all-encompassing, “impact-to-earnings” table, which will include the derivative-related amounts reported in earnings by income statement line, by hedge designation type, and also by asset class being hedged. This table, titled “The Effect of Fair Value and Cash Flow Hedge Accounting on the Statement of Financial Performance”, will capture the impact of both effective amounts and amounts excluded from the effectiveness assessment. The FASB’s goal is to allow users of financial statements to have a single location to assess the impacts of derivatives receiving special hedge accounting on the income statement in a period. The new table represents a change in presentation, as opposed to a change in content. Most of the data needed to populate this report should already be accessible if current disclosure requirements are being met.

Along the top of the new disclosures table are the total amounts recorded in each of the P&L accounts which contain cash flow or fair value hedge accounting gains/losses for the period.  Recall that under the new rules, ALL cash flow and fair value derivative related gains/losses will be required to be recorded in the same line as the hedged item. As a result,  gains and losses may be reported in more line items.  For example, if you have been hedging foreign operating expenses and historically recorded all the gains/losses in G&A, but the operating expenses hedged included Sales, Marketing and R&D, after adoption you will be required to bifurcate the gains/losses into the appropriate line items. A separate column will be required for each P&L account effected (one for Sales, one for Marketing, and one for G&A); see Table B as an example. On the other hand, if you are only hedging foreign currency product revenues and interest rates on debt you would only need two columns: one for revenue and the second for interest expense.  So the columns of the table will consolidate, for the reader, which financial statement line items hold gains/losses from fair value or cash flow hedge accounting.  These gains and losses will be categorized in rows by hedge designation (cash flow or fair value), then further divided into asset classes (FX, IR, Commodity, etc.), and within the asset class the accounting treatment for hedge relationship elements will be further sub-divided and quantified.

Let’s review an example of a corporation that issued fixed rate debt and now needs to report on the designated interest rate swap and adjustments to that debt.  In the table, all the values reported will align under the interest rate expense column.  The first value to report will be total interest expense as reported in the income statement. Next the preparer will report on the adjustment (gain/losses) to the fixed rate debt associated with fair value hedge accounting that impacted interest expense.  This value will be followed by the change in the swap that impacted interest expense.  Click here to see Table A to see what the associated table might look like.

If time value is excluded from special hedge accounting for a derivative in a fair value hedge relationship, that value would be bifurcated from the derivative and reported in an additional line as “Amounts excluded from effectiveness testing.”

If the company only hedged currency risk related to operating expenses at foreign subsidiaries in cash flow hedge relationships and excluded time value from effectiveness testing, click here to see Table B which displays the disclosure format.

In the case where you have both interest rate and currency hedges the table will become increasingly complex. Table C is an example of reporting both the interest rate and currency hedging examples from above, click here to see it. The full template is provided in the guidance as 815-10-55-182.

ADJUSTMENTS TO EXISTING TABLES 

Prior guidance required a separate table for fair value hedges that included the income statement classification, the gain/loss on the derivative and the gain/loss on the hedged item.  The adjusted table details the location of the hedged item on the balance sheet, the carrying amount of the hedged Item along with the cumulative adjustment from fair value hedge accounting that has been made to that line item. The cumulative adjustment is bifurcated into amounts from current and prior hedge relationships in the notes associated with the table. An example of the adjusted table described in ASC 815-10-55-181 is displayed in Table D, click here to see.

The prior Net Investment Hedge Table has been slightly modified to eliminate the reporting on ineffective amounts as the concept of ineffectiveness is no longer relevant to hedge accounting.The prior “The Effect of Derivative Instruments on the Statement of Financial Performance” table has dropped all requirements for fair value hedges and has been retitled “The Effect of Fair Value and Cash Flow Hedge Accounting on Accumulated Other Comprehensive Income”.  This table has been updated to reflect that: 1) there is no longer a concept of ineffective amounts in hedge accounting and therefore no reason to report ineffective amounts and 2) a new section to report on any amounts excluded from effectiveness testing that are captured in OCI for fair value hedge relationships.   This report then will continue to inform shareholders on the amount of gain/loss that has been accumulated to other comprehensive income as well as repeating the amounts and location of values reclassified to earnings that is also reported in the new summary table.

NO CHANGES TO EXISTING TABLES

No changes have been made to either the “Fair Values of Derivative Instruments” table or the tabular disclosures for derivatives that are not designated in a hedge relationship but are executed as economic hedges (as opposed to trading).

The potential benefits extended from the update to ASC815 should easily override the small changes needed to comply with the new rules. This article presents a few exemplary tables demonstrating how to implement the changes. If your organization is still unsure about how the new rules would affect your hedge program or financial statements, our Hedge Trackers’ team is happy to help with modeling the impact and recommending an implementation plan to maximize the advantages for your company.