Software also must be upgraded to troll for buried items — such as the term over which lease payments will be made or received, or the probability that a tenant will exercise an option to extend its lease. Accounting systems must first find the data, then extract it in a way that can be reported in financial statements, Oldham says.
Katie Emmel, director of product management and support at IDS, says that the lease accounting upgrades will take about three months to complete for smaller companies with simple accounting systems, and up to a year for large multinationals.
Financial Instruments: Losing Bankers’ Religion
FASB hit a nerve when it issued an exposure draft in May on financial instruments (Topic 825) and derivatives and hedging (Topic 815). In the four months the proposal was out for public comment, the board received 1,525 comment letters, prompting FASB to schedule three public meetings on the subject last month.
Wells Fargo executive vice president and controller Richard Levy took issue with FASB’s expanded use of fair value on several fronts, including IT. “Existing accounting systems cannot accommodate the proposed fair-value and credit-impairment guidance” being proposed in FASB’s rules, wrote Levy. Specifically, he pointed out that loan-accounting systems are unable to track fair value separately from amortized cost, calculate and store expected cash-flow information, or handle the proposed changes to interest-income recognition. He also complained that credit, deposit, security, and risk-management systems would be handicapped by the proposed rules, essentially requiring “companies to significantly enhance or, in certain cases, replace entire financial-reporting systems.”
Henry Wysocki, senior counsel at The Clearing House Association, underscores other IT problems related to loan-impairment accounting. For example, while impairment accounting is mostly handled outside the loan-accounting system, the proposed rule requires banks to introduce a “second accounting system” to determine impairment. Integrating the two systems, says Wysocki, would be “expensive and complex and subject banks to significant operational risk if manual processes are required as an interim solution.”
Revenue Recognition: It’s All Relative
Fair-value methodology — in this case involving the requirement to use the so-called relative selling price method to book bundled products — also looks to be the major IT challenge for revenue recognition. While current revenue rules require the relative pricing method, they also give companies the option to use the less onerous residual method of accounting if estimating the value of individual interlocking pieces of a contract becomes too difficult.
Earlier adopters of the revenue-recognition rules — such as Apple, Cisco, and NetSuite — spent about 50% of their conversion effort on “planning and scoping” the project, says Protiviti’s Hobbs. Smaller companies with less-sophisticated accounting systems will have to do the same, since no off-the-shelf software “will work without a fair amount of customization — the new rules are just too complex.” He would rather see companies make IT infrastructure changes.
Yet spreadsheets and temporary software patches may be the approach many small and midsize companies take, says Hobbs. He suspects smaller companies may be “tempted to work around” the rule changes to get through the initial year of reporting. The risk, however, is that “Band-Aids often don’t work, because there isn’t the time or budget later on to do what needs to be done.”
The “heavy lifting won’t be getting the accounting right,” asserts Hobbs, but rather building processes and systems that are “sustainable quarter after quarter.”
Marie Leone is senior editor for accounting at CFO.
The unintended consequences of proposed accounting rules could change the way companies do business. Lewis Beatty, CFO of First Hope Bank, speculates that the draft rules for financial instruments could force community banks to abandon long-term fixed-term loans and products for more volatile offerings — such as derivatives or loans with balloon payments. In a comment letter to the Financial Accounting Standards Board, Beatty wrote that the rules would push banks to shift interest-rate risk to customers as a way of maintaining capital ratios. As a result, conventional financial products — the core of community banks — would be replaced by riskier fare.
Hospitals will feel the sting of lease-accounting rules, says William Bosco, a consultant who regularly works with the Equipment Leasing and Finance Association. Bosco says the proposal replaces rent expense with asset amortization and interest expense, two items for which Medicare does not issue reimbursements. That means hospitals that lease nonmedical equipment will lose their equipment-rental refund if the rules remain.
Consulting and service firms will have to track billable hours differently if the proposed revenue-recognition rules are issued, says NetSuite chief operating officer James McGeever. The rules call for breaking apart elements of bundled products so a fair-value estimate of each component can be booked. NetSuite, which sells software bundled with implementation services, would have to estimate and keep track of every hour of implementation work that was historically sold under a fixed-price contract. — M.L.