As the 2014 year comes to a close, we need to be aware of accounting guidance that was issued early in 2013 but went into effect for investment companies in 2014. One such pronouncement is the liquidation basis of accounting for an Investment Company.
In April, 2013, the Financial Accounting Standards Board issued Accounting Standards Update 2013-07, Presentation of Financial Statements (Topic 205): Liquidation Basis of Accounting. The pronouncement update is effective for entities with annual reporting periods beginning after December 15, 2013. This pronouncement provides guidance on when and how an entity should prepare its financial statements using the liquidation basis of accounting and describes the related, necessary disclosures that should be made.
The main takeaways from this announcement include the following:
Presentation of financial statements
Entities must prepare financial statements using liquidation basis of accounting to present relevant information about the expected resources in liquidation
Financial statements should include at a minimum:
Statement of Net Assets in Liquidation
Statement of Changes in Net Assets in Liquidation
While not required, the investment company may want to include a “stub” period between the entity’s last balance sheet date when it was considered a going concern and the date when liquidation became imminent.
Measured at the amount of EXPECTED CASH PROCEEDS from liquidation including assets not recognized under GAAP (for example, trademarks) that it expects to either sell in liquidation or use to settle liabilities
Portfolio holdings may have a value different than the fair value
Thinly traded securities
Defined maturity derivative investments
Liabilities and Income
Measured in accordance with GAAP
Do not anticipate that the investment company will be released from being primary obligor
Accrue costs expected to be incurred and income expected to be earned during the liquidation period
This includes the entire liquidation period. If that period is two years you may need to accrue two years of expected earnings on investments as well as two years of audit fees
Disclosures Should Include:
Facts and circumstances surrounding the adoption of liquidation basis that liquidation is imminent.
And determination of the plan for liquidation including:
Manner by which the investment company expects to dispose of its assets, including other assets expected to sell not previously recognized (for example, trademarks)
Manner by which liabilities are expected to be settled
Expected date by which entity expects to complete liquidation
Methods and assumptions used to measure assets and liabilities including subsequent changes to those methods and assumptions
Type and amount of costs and income accrued and the period over which those costs are expected
Liquidation basis of accounting should be applied once the liquidation becomes imminent.
Liquidation is imminent when the likelihood is remote that the entity will return from liquidation and either:
A plan for liquidation is approved by the person or persons with the authority to make such a plan effective and it is remote that the execution will be blocked by other parties (e.g., those with shareholder rights); or
A plan for liquidation is being imposed by other forces (for example, involuntary bankruptcy).
Limited Life Entities
If a plan for liquidation was specified in the governing documents from the entity’s inception, the entity should apply the liquidation basis of accounting ONLY if the approved plan differs from the plan for liquidation that was specified at inception.
Early adoption permitted
The effective date for a calendar year-end private investment fund is January 1, 2014, although early adoption is permitted. The liquidation basis of accounting should be applied prospectively from the day that liquidation becomes imminent.
Registered funds are exempt
Pronouncement applies to all entities except investment companies that are registered under the Investment Company Act of 1940
Overall, the new rules should help reduce the diversity in accounting and financial reporting by liquidating private funds. Prior to the Update, limited guidance existed in Generally Accepted Accounting Principles in the United States on how to apply liquidation accounting. ASU 2013-07 applies to both public and private companies, including most investment companies, and is intended to bring consistency and comparability to financial statements prepared on the liquidation basis. FASB believes that financial statements that are prepared using the liquidation basis of accounting provide users of those financial statements with specialized information because the emphasis shifts from reporting about the entity’s economic performance and position to reporting about the amount of cash or other consideration that an investor might reasonably expect to receive after liquidation. Financial statements that are prepared using the liquidation basis of accounting should convey information about the amount of cash or other consideration that an entity expects to collect and the amount that the entity is obligated or expects to be obligated to pay during the course of liquidation.
Need More Information
If you’d like more information regarding this update, please contact your local WS+B advisor.
The information contained herein is not necessarily all inclusive, does not constitute legal or any other advice, and should not be relied upon without first consulting with appropriate qualified professionals.