Securities Blocks and Fair Value

Last week FASB discussed the fair value of securities as balance-sheet assets, particularly the accounting treatment of large blocks of securities.
Ed ZwirnMay 2, 2005

In what one staff member said was the “longest discussion on any single topic” that she could remember, the Financial Accounting Standards Board spent more than three hours last Wednesday deliberating a proposed statement, Fair Value Measurements. Much of the discussion concerned the fair value of securities as balance-sheet assets, particularly the accounting treatment of large blocks of securities.

Most securities are valued by multiplying the quoted price times the quantity held. An exception now allows broker-dealers and investment companies not subject to SEC reporting requirements to value holdings purchased in large blocks by the actual price paid, which often has been lowered by a discount. Last week FASB wrestled with affirming the exception and with requiring disclosure for broker-dealers and companies that employ it.

“This has been a contentious issue for the board for a long time,” says board member Michael Crooch. “If you had a large, 10-million-share block of General Electric, you may have to sell it at a discount [relative to price-times-quantity], or you may actually have to pay a premium for a large block like that if there was heavy demand.”

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Purchasers of large blocks of securities often sell them off in smaller pieces and generate extra profit, observes Crooch, who says that the FASB staff was instructed to “go back to do some work” on how to “incorporate ‘large block’ in fair value accounting.”

According to Crooch, the board did settle some questions and narrow the scope of the standard, which is scheduled to become effective for interim and annual reporting periods that begin after June 15. The standard will not apply to share-based payments, which will be subject to their own definitions under the recently issued Statement 123R, the board’s revised rule on expensing options. The standard also does not apply to accounting for leases, loan impairments, inventory pricing, and other situations that “are not purporting to be fair value” in their current accounting treatment, notes Crooch, citing one of the many comments to FASB’s exposure draft. For example, FAS 114, which deals with the impaired loans, “uses a present value measure and is not actually a fair value standard,” he observes.

In other business addressed at Wednesday’s meeting, the board set 120-day comment periods for two upcoming proposals intended to reconcile certain differences with the International Accounting Standards Board. The effective date of Business Combinations, and that of Consolidated Financial Statements, Including Accounting and Reporting of Noncontrolling Interests in Subsidiaries, is currently targeted for fiscal years beginning on or after December 15, 2006.

On Thursday the board issued an exposure draft, The Hierarchy for Generally Accepted Accounting Principles, that ranks the relative authority of multiple standard-setters. “The proposed statement is an important first step towards improving the GAAP hierarchy,” which is currently defined in a standard issued by the American Institute of Certified Public Accountants, according to published remarks by FASB Chairman Robert Herz. The comment period ends June 27.

Looking ahead to this Wednesday’s FASB meeting, the agenda is expected to include discussion of the following:

• Life settlements: Accounting treatment and disclosure when a company buys out a life insurance policy from an individual

• Measurement guidance regarding “cash balance” pension plans, which are not specifically addressed in FAS 87, Employers’ Accounting for Pensions

• Two issues regarding short-term international convergence

• Comments regarding the proposed FASB staff position on freestanding financial instruments originally issued as employee compensation

• Possible drafting of a staff position on accounting for arrangements that include minimum-revenue guarantees