MHM Executive Education Series: SEC Update – What Public Companies Need to Know

Presented by: Rich Howard, Brad Hale & James Comito

December 18, 2014

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Before We Get Started…

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This webinar is eligible for CPE credit. To receive credit, you will need to answer periodic participation markers throughout the webinar.

External participants will receive their CPE certificate via email immediately following the webinar.

CPE Credit

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The information in this Executive Education Series course

is a brief summary and may not include all the details relevant to your situation.

Please contact your MHM service provider to further

discuss the impact on your financial statements.

Disclaimer

INTRODUCTION

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Today’s Presenters

Rich Howard, CPA, CGMA Shareholder 949.450.4402 | rhoward@cbiz.com Rich serves as Vice President of the Board of Directors of MHM and is a member of both our Executive Committee and Professional Standards Group and is the West Region Attest Practice Leader. Rich also serves as a member of the Board of Directors for Kreston International and a member of the Executive Committee of the Global Audit Group for Kreston International, the firm’s international accounting network. Bradford Hale, CPA Shareholder 727.572.1400 | bhale@cbiz.com Brad has extensive experience providing audit and consulting services to public companies. He assists clients with revenue recognition implementation, review of complex contracts, initial public offerings and lease accounting matters. As a member of MHM's Professional Standards Group, Brad provides technical expertise to engagement teams and clients regarding revenue recognition and public company reporting.

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Today’s Presenters

James Comito, CPA, CGMA Shareholder 858.795.2029 | jcomito@cbiz.com James is a member of MHM’s Professional Standards Group, which is responsible for setting Firm-wide policy and procedures with respect to quality control, audit and accounting, client acceptance, risk management, independence, and regulatory compliance issues. James is a subject matter expert in revenue recognition, complex equity transactions, share-based compensation, fair value, earning-per-share, internal controls and a variety of other areas. James is a frequent public speaker on a variety of financial reporting issues and participates in MHM’s national level training program.

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Today’s Agenda

1

2

Key Overall Themes

3

Perspectives of Keynote Speakers

SEC Practice Issues

4 SEC Regulatory Matters

5 FASB Activities

6 PCAOB Activities

KEY OVERALL THEMES

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Transparency

Revenue recognition

Understanding IFRS

Simplicity

Transitioning with COSO

Themes

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TRUST Improving information provided to investors Investors want to hear more from auditors Need for simplification of accounting and disclosures Consistency in revenue recognition (post-adoption) Focus on internal controls over financial reporting (ICFR) Role of global accounting standards in the U.S. Value of audit needs to be improved Primary driver of value is audit quality Better information to evaluate auditor quality Increasing transparency and integrity

Themes

PERSPECTIVES OF KEYNOTE SPEAKERS

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AICPA Tommye Barie, Chairman Cindy Fornelli, CAQ

SEC James Schnurr, Chief Accountant Andrew J. Ceresney, Director, Division of Enforcement

IASB – Ian Mackintosh, Vice Chairman

PCAOB James R. Doty, Chairman Jay Hanson, Board member Martin F. Baumann, Chief Auditor

FASB - Russell G. Golden, Chairman

Organizations Represented – Keynote Speakers

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Discussed AICPA focus and initiatives AICPA focus falls into three categories Relevance Rigor Reach

Relevance Environment is changing Unable to control change Need to be able to:

Identify changes timely Adapt to those changes Create response the market will value

Tommye Barie – Chairman, AICPA

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Rigor Focus on audit quality initiatives

Developing standards and programs Peer review evolution – most important agenda item CGMA designation Regulators – PCAOB/Auditor reporting model Use of technology for audit of the future

Reach Collaboration with groups outside USA New revenue recognition standards/implementation Develop future leaders of profession Improve – not just focus on what is done today

Tommye Barie – Chairman, AICPA

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Investor survey results Profession is getting stronger Auditor at top of list of those looking out for their interests Although positive results, improvements can be made

Restatements have declined Last two years (2012 and 2013) – volume is down The number of issues involved in restatements has declined

Initiatives Developing audit quality indicators (AQI)

Issued a white paper in April 2014 Suggested an approach and specific AQIs Viewed audience as Audit Committees as users of AQI info AQIs to be measured at the engagement level Pilot testing on 2014 audits is planned

Cindy Fornelli – Center for Audit Quality, AICPA

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Focused on important issues IFRS

World wants clarity on SEC direction Open to considering any path forward Suggested a voluntary reporting option (not yet vetted) In coming months, plan to discuss alternatives with SEC Chairman U.S. constituents not in favor of full adoption

FASB/IASB Supports converged standards Focus should be on leasing – globally applicable Focused on revenue recognition

Comparability is a hallmark of the SEC Principle-based standards require judgments Focused on implementation issues

James Schnurr – Chief Accountant, SEC

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Focused on important issues (cont.) FASB/IASB

Revenue recognition (cont.) Concerned that diversity will occur as judgments are made SEC respects reasoned judgments but… If results in diversity in practice, SEC seeks to eliminate it Delay may be necessary but Boards need to consider

Audit quality improvement Disappointed with pace of PCAOB on update of standards SEC and PCAOB should be working together Schnurr plans to review the PCAOB standard-setting process

To improve timing of issuance of new standards Reduce current backlog of standards

James Schnurr – Chief Accountant, SEC

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Enforcement cases Number of fraud cases increased significantly (up 50% over 2013)

Credits SEC’s whistleblower program as “game changer” Reminded that there are laws against retaliation against whistleblowers # of investigations opened increased 25%

SEC believes there is more fraud SEC is proactively looking for fraud

Financial Reporting and Audit Task Force (the Task Force) Issuer review program – looking for “smoke” Focused on trends – (e.g., high volume of off-balance sheet transactions)

Focus Valuation, related party transactions and revenue recognition Scrutinizing the auditors and their behavior (most important gatekeeper) Independence – several recent enforcement cases against auditors

Andrew J. Ceresney – Director, Enforcement, SEC

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Enforcement cases Settling cases

Most cases are settled on a “no admit, no deny” basis To settle, SEC seeks admissions of wrongdoing in certain matters If behavior is egregious, large number of individuals harmed, obstruction Admissions obtained in 14 cases in 2014

Auditor cases settled Lobbying issue – acted as advocate to client by testifying to Congress Loan staff to client, providing non-audit services and ownership - $8.3 million Audit partner rotation

China issuers Several cases in the pipeline Basic areas – e.g., related party disclosure Audit committee chairman – for failure to investigate

Andrew J. Ceresney – Director, Enforcement, SEC

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IFRS has become the global set of standards Use of IFRS around the world

> 50% of Fortune 500 companies report in IFRS Countries implement own version of IFRS – not factual IASB research indicates that “most jurisdictions have resisted tinkering…” Local adaptions are few in number, transitory in nature and nominal

IASB/FASB relationship should remain strong Joint responsibility to protect convergence

Is convergence using the same words or getting the same outcomes? Focus on outcomes – same words mean different things

Need to involve more global standards setters Cited revenue recognition

Converged between US/EU – will Asia adopt? Working with Transition Resource Group and FASB No delay requested from EU – IASB not considering it

Ian Mackintosh – Vice Chairman, IASB

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Discussed recent work of PCAOB Gave insight into reasoning for proposals/standards Discussed capital markets Audit remains the “linchpin” of financial markets Believes that SOX is working Mostly by changing corporate culture

PCAOB proposed standards Commitment to considering economic impact Looking at standard-setting process

Efficient and effective Revenue recognition coming

James R. Doty – Chairman, PCAOB

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PCAOB focusing on value and relevance Enhance the value of the auditor and the audit function

Focused on audit quality as the driver of value to the market Transparency, AQIs and auditor reporting model

Periodic reporting of current issues Audit risk alerts Held 11 small business forums

Use of inspection results 209 inspections in 2014 Disciplined several people and firms (7 firms in December 2014)

Expansion into other non-audit services Mix of audit services in CPA firms is declining Very concerned that audit firms are getting back into consulting business Worried that this trend may negatively impact audit quality

James R. Doty – Chairman, PCAOB

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Overview of PCAOB In existence for 12 years 18 auditing standards issued Improvement since pre-SOX environment Discussed inspection process/reporting/firm expectations Categories – relevance, reporting, remediation, root cause (4 Rs)

Relevance Making substantial improvement to public company auditing

Reporting Improve inspection reports – primary communication tool

Provide context around inspection findings Train wreck, near miss or relatively minor deficiency

Jay Hanson – PCAOB Board Member

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Remediation One year to remedy deficiencies No public disclosure of part II Some firms have had part II disclosed recently New policies, training and reminders - not usually enough PCAOB is looking for involvement/oversight

Root cause Understand problem so solution is relevant/effective

Jay Hanson – PCAOB Board Member

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Summarized PCAOB activities Several new standards issued

Related parties Significant & unusual transactions – focused on preventing fraud

PCAOB has several proposals being considered Auditor reporting model – lots of comments received

Audit report to include critical auditing matters Limit to material items only Question arose – Could something end up in the audit report if management considered it

immaterial but the auditor thought it was a difficult judgment? Mr. Baumann’s view – This should not happen. If immaterial, should not be in audit report Planning to re-propose CAMs in 1st quarter 2015

Naming engagement partner Common around world – not common in U.S. (important for transparency) Next step – consider if the info was disclosed in a supplement rather than report Further public comment may be needed

Martin F. Baumann – Chief Auditor, PCAOB

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Broker/dealers Audits must follow PCAOB standards

Now effective - years ending on or after 6/1/14 Renewed emphasis on these audits Several independence violations identified

Preparing the financial statements

Economic impact of new standards Required to study the cost/benefit of new standards Economists are on PCAOB staff No other standard setter has this requirement

Martin F. Baumann – Chief Auditor, PCAOB

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Other areas of focus Going concern reporting

Now in the accounting standards Consultation paper anticipated

Express views on what PCAOB is thinking Cost/benefit analysis Request views before proposals are made to PCAOB

Developing other consultation papers Use of specialists Should there be a difference in audit effort?

Management developed the estimate Management hired a specialist

Supervision of audit – AS 10 Need to update Focus on supervision of other auditors and use of foreign firms

Martin F. Baumann – Chief Auditor, PCAOB

SEC PRACTICE ISSUES

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Review was initiated as a result of JOBS Act SEC believes that the current disclosure framework is

not broken However, SEC is making efforts to: Minimize duplication Eliminate disclosures that are not useful Reduce costs and burden on preparers

Corp Fin’s Disclosure Effectiveness Project

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S-X focus on acquired businesses, equity method investees, guarantors

Pro-forma requirements Technology must play a part Evaluation of EDGAR

Don’t wait for the SEC to finish its project…. Take Action!

Corp Fin’s Disclosure Effectiveness Project

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Myth #1: Each section of the document must stand alone.

Myth #2: When a comment is issued, the staff has already concluded that a change must occur.

Myth #3: If a registrant makes a change to a previous disclosure, it automatically triggers a review.

Corp Fin’s Comment Letter Myths

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Comment Letter Trends

FrequencyComment area 2014 2013 2013 and 2014Management's discussion and analysis 1 1 51%Fair value measurements 2 2 25%Signatures, exhibits and agreements 3 7 18%Income taxes 4 6 16%Revenue recognition 5 5 17%Non-GAAP financial measures 6 3 16%Intangible assets and goodwill 7 8 15%Executive compensation disclosures 8 10 14%Segment reporting 9 9 13%Acquisitions and business combinations 10 11 12%

Source: Audit Analytics - Comment letter taxonomy for SEC staff comment letters issued to registrant

related to Forms 10-K from July 1, 2012 to June 30, 2014

Ranking

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Issues with MD&A Doesn’t contain analysis Regurgitates what is already obvious from the financials Should answer the question “why?” Critical accounting policies are repetitive Failure to discuss the future (trends and expectations) Example: Sales increased due to higher volume

Need more granularity Discuss new information (not repetitive of what was included in f/s) Answer the “why?” – why is volume higher? What product lines contributed to

growth and how much for each? Discussion of the future expectations as well

MD&A Issues

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Involve the business Be investor-friendly Provide strong overview section Simplify Be focused Recognize trends (both good and bad) Discuss three-year trends together Discuss any metrics that are critical to management Let non-GAAP be driven by investor demands Use critical accounting policies to discuss sensitivity

MD&A — Suggestions

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Brian Croteau, Deputy Chief Accountant Auditor independence

Broker-dealer financial statements in which auditor is involved in the preparation of the financial statements

Non-attest services Acting as a client advocate

Highlights from OCA

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Brian Croteau, Deputy Chief Accountant ICFR and related disclosures

Seems extremely rare that management identifies a material weakness absent a material restatement

Suggestions: Top-down, risk-based approach Understanding the cause of the deficiency Consideration of magnitude and likelihood Describing the deficiency Don’t forget about the requirement to make quarterly disclosures of the

change to internal controls (new revenue standard controls)

Highlights from OCA

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Dan Murdock, Deputy Chief Accountant Segment Reporting

Do not automatically default to the CEO as the CODM Do not place an overreliance on the CODM package Aggregation is a high hurdle Most companies will have more than 1 and less than 10 segments

Reliance on SEC Speeches Made on the basis of specific facts and circumstances Have a shelf life (especially those older than five years) as

accounting evolves

Highlights from OCA

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Statement of Cash Flows Defined Benefit Plans Changes to Equity-classified Preferred Stock Financial Instruments Gross vs. Net Reverse Spinoffs Goodwill Pushdown Accounting Variable Interest entities Joint Ventures

Technical Accounting Topics

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Statement of Cash Flows Is the information complete and accurate? Can information be standardized or automated? Is training adequate for preparers/reviewers? Earlier preparation?

Defined Benefit Plans Society of Actuaries published its updated mortality tables,

which reflected improved longevity It is expected that companies that rely heavily on these tables will

use the updated tables for year-end 2014 Reminder that ASC 715-20 requires disclosure of the impact of

mortality to the extent is significantly impacts the benefit obligation Likely to increase recorded benefit obligation at year-end 2014

Technical Accounting Topics

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Changes to Equity-classified Preferred Stock Evaluation of modification vs extinguishment

Qualitative approach Fair value or cash flow approach Legal form approach

In accounting for modifications, 718-20, accounting for modifications to share-based payment awards should be applied.

Technical Accounting Topics

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Financial Instruments Derivative Novation

SEC staff has reaffirmed its position that in certain circumstances, it would not object to the continued use of hedge accounting provided no change to terms other than the counterparty Merger Common control entity Documentation at inception

Allocating Proceeds to a Bifurcated Derivative Liability Fair value of a derivative liability may exceed the proceeds of a financing

Company is in financial distress Alignment with an investor is beneficial

Evaluate whether at arms-length and that fair value calculation is accurate Examine whether other rights are given that meet the definition of an asset Recognize the amount of fair value of the liability in excess of proceeds as a

loss in earnings

Technical Accounting Topics

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Gross vs Net Difficulty in application to emerging industries Consider the relative strength of each indicator Primary obligor and inventory risk are stronger indicators Support with evidence

Reverse Spinoffs Consultation with SEC staff is encouraged as there may be

situations in which separate carve out financial statement of the legal spinnee are required.

Technical Accounting Topics

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Goodwill SEC staff will no longer require a preferability letter if the

entity concludes that a change to its annual impairment measurement date is not material to the financial statements (even if goodwill itself is material)

Still represents a change to an accounting principle so even if a letter is not required, change should be preferable

Pushdown Accounting The SEC staff has not objected to “on the line” presentation

provided that transparent disclosure is made

Technical Accounting Topics

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Variable Interest Entities Be cautious of the concept of shared power when some

significant activities are unilaterally directed by one party Attributing power held by an agent to other variable interest

holders Primary beneficiary for variable interests held under common

control Joint Ventures Emphasized that joint control is not the only consideration

when determining whether the JV definition under ASC 323 is met

SEC encouraged FASB to consider clarity of the definition of a joint venture

Technical Accounting Topics

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2013 COSO Framework Boiler-plate disclosures Income tax disclosures Internal control over financial reporting

Reporting Topics

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2013 COSO Framework

The 1992 COSO Framework is superseded as of December 15, 2014

Reporting Topics

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Boiler-plate disclosures Results of Operations Critical accounting policies Risk Factors

Reporting Topics

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Income Tax Disclosures Valuation Allowances Deferred Tax Realizability Foreign Cash

Better discussion of mix of income from jurisdictions Start with Rate Reconciliation

Ensure that the disclosure captures material, offsetting changes. Provide meaningful disclosure when the effective rate differs

materially from the statutory rate.

Reporting Topics

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Internal control over financial reporting Don’t just disclose deficiencies, discuss the root of the

problem. Don’t forget to disclose changes in ICFR quarterly

The SEC would expect changes to have occurred as companies do thing such as adopt new accounting standards.

Reporting Topics

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A lot of people are making efforts to improve disclosure Make the MD&A friendly for investors Keep an eye on Independence MD&A, ICFR and Income Taxes are hot topics Challenges across the board with respect to the new

Revenue Recognition standard

Themes from SEC

SEC REGULATORY MATTERS

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Dodd-Frank Three new rules related to asset-backed securities completed

since August In the works:

Resource extraction payment disclosures Pay ratio disclosures Disclosure about the relationship between executive pay and

company performance Disclosures about hedging by employees and directors Clawback of executive compensation

Conflict Minerals

SEC Rulemaking Activities

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JOBS Act Crowdfunding

Issues Sufficient investor protection Audit requirement Cost of crowd portals

Regulation A+

SEC Rulemaking Activities

FASB ACTIVITIES

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Standard Setting Update Reducing the Complexity of U.S. GAAP

FASB’s Foundational Projects Conceptual Framework Disclosure Framework

Simplification Initiative Simplification means – how can FASB make it easier to understand and

to do? “Narrow-scope” agenda projects identified by stakeholders.

Cost-benefit Assessments Ensuring the benefits of information produced by standards justify the

cost to prepare it.

Russell G. Golden – Chairman, FASB

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Standard Setting Update Reducing the Complexity of U.S. GAAP

Clarification of Major Standards TRG is the “prototype” for future standards in dealing will application and

clarification for major FASB standards. Convergence Chairman Golden reaffirmed that FASB wants to continue working

towards more converged accounting standards with the IASB and other standard setters (which would help with simplification).

However, the clear priority is to improve U.S. GAAP.

Russell G. Golden – Chairman, FASB

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Revenue Recognition FASB Accounting Standard Update No. 2014-09, Revenue

from Contracts with Customers (Topic 606) Originally issued: June 24, 2010 Re-exposed during 2011 A second re-exposure completed during 2012 Final standard issued May 2014

FASB Standards Update

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Revenue Recognition Core principle:

The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods, or services, to customers in an amount that reflects the consideration to which the entity expects to be entitled, in exchange for those goods or services. Five steps to apply the core principle:

1. Identify the contract(s) with a customer. 2. Identify the performance obligations in the contract. 3. Determine the transaction price. 4. Allocate the transaction price to the performance obligations in the

contract. 5. Recognize revenue when (or as) the entity satisfied a performance

obligation.

FASB Standards Update

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Revenue Recognition Effective Date of Adoption (Public Entity)

For a public entity, the amendments in Topic 606 are effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early application is not permitted.

FASB Standards Update

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Revenue Recognition Significant discussion of the new revenue recognition guidance occurred

at the 2014 AICPA SEC/PCAOB Conference. There appears to be general consensus on a few matters and a few recommendations: Increased judgment from a principles based standard Expanded disclosure requirements Concerns that similar transactions will receive different treatment under a

principles based approach Documentation of relevant judgments throughout the implementation process

will be critical Implementation Issues

There are two issues that have been discussed by the TRG for which the FASB may issue clarifying or additional guidance. The principle applicable to the concept of “distinct in the context of a

contract” Licenses of intellectual property

FASB Standards Update

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Leasing Project FASB expects the leasing project to wrap up in 2015. However, an

estimate of the effective date of the eventual standard was not given. It does not appear that additional exposure will be undertaken.

Financial Instrument Classification/Measurement Project FASB also expects the to complete this project in 2015 once

redeliberation of certain remaining issues (i.e., impairment of equity method investments and the transition and effective date) is complete.

FASB Standards Update

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Going Concern

Existing US GAAP/GAAS

US GAAP requires a presumption of going concern, until liquidation becomes eminent.

Auditing standards require an evaluation of whether there is “substantial doubt” about an entity’s ability to continue as a going concern.

The evaluation does not exceed one year from the balance sheet date.

The SEC provides guidance regarding going concern disclosures if an audit opinion includes an explanatory paragraph.

FASB Standards Update

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Going Concern

ASU 2014-05 requires management to evaluate:

If substantial doubt about an entity’s ability to continue as a going concern exists

If substantial doubt exists, then management must evaluate if it is probable that:

Management’s plans to alleviate the substantial doubt will be effectively implemented

Management’s plans to alleviate the substantial doubt will mitigate the conditions and events that gave rise to the substantial doubt

FASB Standards Update

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Disclosures

Conditions and events that raise(d) substantial doubt.

Management’s evaluation of those conditions and events in relation to the entity’s ability to meet its obligations.

Management’s plans that are intended to alleviate (alleviated) the substantial doubt.

If the substantial doubt is not alleviated, an explicit statement about the entities ability to continue as a going concern within one year from the date the financial statements are issued.

FASB Standards Update

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Going Concern

Annual periods ending after December 15, 2016

Calendar-year entities: December 31, 2016

Interim periods within annual periods beginning after December 15, 2016

Early adoption is permitted.

The PCAOB is evaluating its standard on going concern in light of ASU 2014-05.

FASB Standards Update

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Pushdown Accounting In November, the FASB issued a new standard that gives all

companies the option to apply pushdown accounting when they are acquired by another party.

Concurrently, the SEC staff eliminated its guidance which had required or precluded pushdown accounting for registrants generally based on the percentage of ownership. These developments make pushdown accounting optional for all companies effective immediately.

FASB Standards Update

PCAOB ACTIVITIES

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Standard Setting Reproposal on the Auditor’s Reporting Model

PCAOB expects to issue the reproposed standard in the first quarter of 2015.

Comments received during the initial process that critical audit matters be limited to items considered material to the financial statements and reported to the audit committee will be included.

Auditor Transparency Project Many firms have voiced concern over increased liability and consent

requirements related to the disclosure of the signing audit partner and other audit firms participating in the audit. The PCAOB is planning to make a supplemental request for comment on a proposal that would include the names of the engagement partner and other firms in a separate form outside of the audit report.

PCAOB Activities

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Standard Setting Auditing Estimates and Fair Value Measurements

The PCAOB received a significant number of comments from its staff consultation paper. PCAOB should work closely with accounting standard setters on

evaluating measurement uncertainty. Align the project with the PCAOB’s work on the auditor’s use of

specialist. Going Concern

The PCAOB is planning a staff consultation paper related to auditor performance and reporting responsibilities related to the evaluation of substantial doubt.

PCAOB Activities

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Inspections Results and Findings The results of the most recently completed inspection cycle

appear to be a mixed bag. While some firms showed marked improvement; others experienced results similar to prior inspections.

Most common deficiency identified by the PCAOB continues to be ICFR. Other common deficiencies identified were revenue recognition, inventory, impairment and business combinations.

PCAOB Activities

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Audit Quality Indicators PCAOB working on an initiative to define quality Intended to give users a method to compare and evaluate firms Disclosure of partner name would also help with comparison 30 indicators have tentatively been identified No single indicator would be determinative Need context to understand the indicator as well Goal would be to provide valuable information to users PCAOB has created a new department to focus on this issue

Headed by Greg Jonas, Director of Research and Analysis

PCAOB Activities

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Audit Quality Indicators The PCAOB plans to issue a concept release on AQIs in

the first half of 2015 to seek feedback on the identified 30 AQIs and their potential for improving audit quality.

The Center for Audit Quality is extremely supportive of the AQI initiative undertaken by the PCAOB.

PCAOB Activities

KEY OVERALL THEMES

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Transparency

Revenue recognition

Understanding IFRS

Simplicity

Transitioning with COSO

Themes

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TRUST Improving information provided to investors Investors want to hear more from auditors Need for simplification of accounting and disclosures Consistency in revenue recognition (post adoption) Focus on internal controls over financial reporting (ICFR) Role of global accounting standards in the U.S. Value of audit needs to be improved Primary driver of value is audit quality Better information to evaluate auditor quality Increasing transparency and integrity

Themes

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Questions?

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