ASC 820 Implementation

The Financial Accounting Standards Board (FASB) issued FAS 157 on September 15, 2006. It should be implemented on financial statements for fiscal years beginning after November 15, 2007. In December 2009, FAS 157 was renamed Fair Value Measurements and Disclosures (ASC 820). In addition to a new name, ASC 820 was amended to provide some additional clarifications. Those amendments should be implemented for reporting periods that begin after December 15, 2009, however the requirement to provide the Level 3 activity on purchases, sales, issuances and settlements on a gross basis, will be effective for reporting periods beginning after December 15, 2010. ASC 820 provides guidelines to promote increased comparability of fair value measurements and consistency of fair value reporting in financial statements.

ASC 820 clarifies and expands several points related to the concept of “fair value” reporting on financial statement. Specifically: 1) it standardizes the definition of “fair value,” 2) it establishes or clarifies methods for measuring fair value through the use of a fair value hierarchy that maximizes the use of observable inputs and minimizes the use of unobservable inputs, 3) it requires using conventional valuation techniques to measure fair value (market, income, and/or cost approach), 4) it requires that assumptions and adjustments for risk be included in determining the measurement of fair value, and 5) it introduces new disclosure requirements relating to how fair value was measured.

Under ASC 820, valuation processes and procedures need to be analyzed, then documented, and then audited. Implementation of ASC 820 could require significant resources, time and effort from within an organization. It’s important that an organization determine who will be responsible for preparing and implementing ASC 820 compliance. They will need to understand how ASC 820 affects the financial statements, figure out which additional disclosures will be required, and what information is needed to prepare them. Ask your auditor about how ASC 820 will affect the next audit and what information they will need to prepare it. Establish and monitor internal controls over the financial reporting process related to investment valuations for your portfolio. Communicate with your financial advisor, investment advisor, trustee, custodian, and independent valuation service about information they can give you to help you determine the fair value of the investments in your portfolio and allow ample time for addressing "alternative" and/or hard-to-value investments. It is important that an organization get involved early and understand the valuation considerations related to its specific portfolio investments.

To learn more about how DerivActiv professionals can help your organization with ASC 820 compliance, call 1-866-200-9012. Contact us to request a free demonstration.

DerivActiv has significant expertise valuing Derivatives, Asset-Backed Securities, Mortgage-Backed Securities, Pass-Throughs, Collateralized Mortgage Obligations (CMOs), Side Pocket Transactions, Mezzanine Debt, Convertibles, Distressed Securities, Auction Rate Securities, Cash and Synthetic CDO and CDO² Tranches, Credit Linked Notes, Structured Investment Vehicles, Exotic OTC Options, and Complex and Illiquid Securities.

Examples of ASC 820 Implementation Issues

Implementation issues related to ASC 820 are directly related to the types of investments held in a portfolio and the general availability of pricing information for establishing the fair value of those investments. Investments classified as Level 1 and Level 2 are fairly easy to measure based on mark-to-market and mark-to-model inputs. However, if a large portion of an investment portfolio holds alternative investments classified as Level 3 such as common or collective trusts, pooled separate accounts, stable value investments, private equity funds, hedge funds, real estate funds, or funds of funds, the implementation of ASC 820 will likely be more challenging. In such cases, it is important to allow extra time to prepare the investment information and disclosures required under ASC 820.

Several asset classes pose ASC 820 Implementation issues. For example, FASB does not give specific examples for Real Estate Funds (“RE Fund”). Typically, an RE Fund owns a 20% equity interest in an LLC that owns financed real estate, where the real estate is collateral for the debt. Questions arise about fair valuation under ASC 820, such as should the real estate and debt be valued as one unit, or should they be treated separately?

Investments in a fund of funds (FOF) hedge fund present similar ASC 820 implementation issues. The FOF hedge fund invests in other hedge funds that typically invest in a set of investments. Is the fair value of the FOF hedge fund dependent upon knowing the value of the underlying investments of the other hedge funds it’s invested in?