Today’sCPA MAR./APR. 2012
T E X AS S O C IET Y OF
C E RT I F I E D P U BL IC AC C OU N TANT S
RISING STARS
INTRODUCING TSCPA’S 2012 HONOREES
IRS Conflicts of Interest Rules A Few Considerations from Multinational Corporations Metrics are Revolutionizing Corporate Financial Management Compensation Earn-Outs and Post Business Combination Earning Surprises
Also: The 2012 Board of Directors Meeting
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Contents 24
MARCH/APRIL 2012 VOLUME 39, NUMBER 5
EDITORIAL BOARD CHAIRMAN Arthur Agulnek, CPA
Staff MANAGING EDITOR DeLynn Deakins ddeakins@tscpa.net 972-687-8550 800-428-0272, ext. 250
TECHNICAL EDITOR C. William Thomas, CPA, Ph.D. Bill_Thomas@baylor.edu
COLUMN EDITORS Greta P. Hicks, CPA Mano Mahadeva, CPA, MBA James F. Reeves, CPA C. William (Bill) Thomas, CPA, Ph.D.
WEB EDITOR
10 cover story
Wayne Hardin whardin@tscpa.net
24 Introducing TSCPA’s Rising Stars of 2012
CONTRIBUTORS
Ali Allie, Marcia Attmore, AICPA; Melinda Bentley; Jerry Cross, CPA; Anne Davis, ABC; Donna Fritz; Rhonda Ledbetter; Craig Nauta; Kim Newlin; Heather O’Connor, AICPA; Catherine Raffetto; Dianne Rollin; Katey Selph; Rori Shaw; Patty Wyatt
DIRECTOR, MARKETING & COMMUNICATIONS Janet Overton Design/Production/Advertising The Warren Group thewarrengroup.com custompubs@thewarrengroup.com
CLASSIFIED Donna Fritz Texas Society of CPAs 14651 Dallas Parkway, Suite 700 Dallas, Texas 75254-7408 972-687-8501 dfritz@tscpa.net
Editorial Board Arthur Agulnek, CPA-Dallas; Lisa Bauman, CPA-Dallas; James Danford, CPA-Fort Worth; Greta Hicks, CPA-Houston; Jeffrey Liggitt, CPA-Dallas; Mano Mahadeva, CPA-Dallas; Alyssa Martin; CPA-Dallas; Dawne Meijer, CPAHouston; Ty Moore, CPA-Houston; Jan Taylor Morris, CPA-Houston; Windford Paschall, CPA-Fort Worth; Marshall Pitman, CPA-San Antonio; Mattie Porter, CPA-Houston; Kamala Raghavan, CPA-Houston; James Reeves, CPA-Fort Worth; Brinn Serbanic, CPA-East Texas; Paul Willey, CPA-Dallas. © 2012, Texas Society of CPAs. The opinions expressed herein are those of the authors and are not necessarily those of the Texas Society of CPAs. Today’s CPA (ISSN 00889-4337) is published bimonthly by the Texas Society of Certified Public Accountants; 14651 Dallas Parkway, Suite 700; Dallas, TX 75254-7408. Member subscription rate is $3 per year (included in membership dues); nonmember subscription rate is $28 per year. Single issue rate is $5. Periodical POSTAGE PAID at Dallas, TX and additional mailing offices. POSTMASTER: Send address changes to: Today’s CPA; 14651 Dallas Parkway, Suite 700; Dallas, TX 75254-7408.
Today’sCPA
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TSCPA launched the Rising Stars Program to recognize young CPAs.
society features 14 Speaking of Being a CPA …
Transplanted Georgian Continues Business & Industry Blog
21 Focus on Ethics
How Do IRS Conflicts of Interest Rules Impact You?
30 columns 5 Chairman’s & Executive Director’s Message
An Update on TSCPA’s Business and Industry Initiatives
6 Tax Topics
Required Reporting and Procedures on 2011 Returns
8 Business Perspectives
Talent – A Global Currency
9 Accounting and Auditing
New Proposed Revenue Recognition Standard
technical articles
10 Emerging Issues
30 Financial Statement Analysis: A Few Considerations from Multinational Corporations
12 Chapters
How to get the most out of ratio comparisons.
37 Metrics are Revolutionizing Corporate Financial Management
Combining financial and non-financial information can yield a bigger picture.
Well … It Depends
Chapter Presidents Who Mean Business
departments 15 Take Note 44 Classifieds 46 CPE Calendar
38 CPE: Compensation Earn-Outs and Post Business Combination Earning Surprises
A study of earn-outs and their impact on the financial statements of the acquirer. 3
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Chairman’s & Executive Director’s Message By Donna Holliday Wesling, CPA | TSCPA Chairman & John Sharbaugh, CAE | TSCPA Executive Director/CEO
An Update on TSCPA’s Business and Industry Initiatives TSCPA provides members with access to an extensive range of resources and information to assist them as they work in the various areas of the accounting profession. In this issue of Today’s CPA, we would like to give you an update on what’s available for members who are employed in business, industry, government, and education. The online Business & Industry Center on the TSCPA website continues to give members links to research resources, the latest professional news, specialized CPE, connections with other members, and much more. Specialized neighborhoods on the site include: CFOs, Healthcare, Energy, Nonprofit, Education, and Government. TSCPA is adding three new neighborhoods for Manufacturing, Service Industry and Internal Auditors. The neighborhoods have mini panels of volunteers who provide their insight, advice and recommendations for keeping the content up to date and refreshed. There are also several member profiles, which are updated on a regular basis. Another new addition to the B&I Center is the Industry Issues blog. It is written by TSCPA member Bill Schneider, CPADallas. Schneider is being highlighted in the Spotlight on CPAs section of this Today’s CPA issue. He is a member of the Society’s Business & Industry Committee. In his blog posts, he shares his thoughts on critical issues and opportunities impacting the profession, and new posts are added
regularly. Also in the B&I Center are links to TSCPA’s other blogs, including the TSCPA Chairman, CEO/Executive Director and Federal Tax Policy blogs. When you have a question and want to connect with other B&I members, you can use the new “Ask a Question” area. This easy-to-use resource is a place where members can meet other CPAs who have experience and expertise and are willing to answer questions. It is an outstanding networking opportunity available through the “Ask a Question” link on the site. You can also link to TSCPA’s groups on Facebook, Twitter and LinkedIn. A LinkedIn group was created especially for B&I members as a way to connect and start discussions with other members. For those who might be considering making the switch from public practice to business and industry, TSCPA created a reference tool available in the B&I Center that showcases other CPAs who have made the switch. They answer questions and concerns, and they discuss how they made the transition. To assist in navigating the B&I Center, TSCPA created a virtual tour that’s available on the site. The tour highlights the sections and important areas of interest, as well as how you can become involved in the Society’s business and industry initiatives. TSCPA continues to conduct seven conferences specific to industry. To learn more about the conferences, please visit
the CPE area of the website at tscpa.org. In addition, the Industry Institute is offered by the TSCPA CPE Foundation and the Accounting CPE Network (ACPEN) for CPAs who work in business and industry environments. The Industry Institute provides an extensive catalog of highquality, accredited webcast courses from knowledgeable, top-tier presenters. To view the online catalog, go to http://tscpa. acpen.com/category/acpen-industryinstitute. TSCPA’s Member Relations Specialist, Rori Shaw, travels to the large chapter areas to meet with members and nonmembers in business and industry. In the meetings, she discusses the importance of membership and receives feedback on how to improve service offerings. In addition, TSCPA created a brochure that outlines the value of membership for you and your company or organization, since often times it can be easier to maintain your membership in a professional association if your employer supports it. The brochure can be used to cover the many reasons why you should belong to the state’s premier CPA organization. To request a copy, please contact Rori Shaw at rshaw@tscpa.com. The Society also offers B&I members a free subscription to the monthly Business & Industry E-ssentials. This e-newsletter includes the latest news and information relevant to industry CPAs. More than 40 percent of TSCPA members work in business, industry, government, and education. This is a sizable group with diverse needs. TSCPA and the TSCPA B&I Committee continually review current offerings, adding new services and resources where appropriate, with a goal of helping you succeed in your career and professional life. n
Donna Holliday Wesling can be contacted at donna@weslingcpa.com. John Sharbaugh can be contacted at jsharbaugh@tscpa.net.
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Tax Topics By Greta P. Hicks, CPA | Column Editor
Required Reporting and Procedures on 2011 Returns Legislation enacted from 2008 through 2011 is reflected in the number of new forms to be prepared, changed information for reporting requirements, and new responsibilities for preparers and authorized representatives. Below is a brief summary of new reporting and preparation requirements. FORM 1099-B, PROCEEDS FROM BROKER AND BARTER EXCHANGE TRANSACTIONS Traditionally, brokers furnished to the IRS and their clients the sales price of security transactions. Effective in 2011, brokers are required to report the customer’s adjusted basis. Schedule D has been revised and Form 8849 added. It is possible that as many as six Forms 8849 could be attached to a Schedule D. A Form 8849 is to be prepared for short-term sales with basis reported and a second Form 8849 where basis is not reported on a Form 1099. Another set of Forms 8849 are to be prepared for long-term sales with basis reported and a separate Form 8849 where basis is not reported. A third set of Form 8849s are to be prepared where sales have not been reported on a Form 1099 with one 8849 for short term and a second form for long term.
FORM 1099-K, MERCHANT CARD AND THIRD PARTY NETWORK PAYMENTS Payments included on Form 1099-K are payments made with a credit card or payment card, including third party network transactions. For example, credit card companies are required to prepare a Form 1099-K for credit card payments received by their customers, businesses that accept credit cards in payment for materials and/or services.
Note: The IRS added new lines 1a and 1b to Schedule C to implement reporting of gross receipts on the 1099-K. However, for 2011, the IRS has deferred the requirement to report these amounts separately. Therefore, enter zero on line 1a and report all gross receipts on line 1b. Also, you should encourage clients to revise their 2012 bookkeeping systems to account for credit card sales versus non-credit card sales.
FORM 1099, CORPORATE AND RENTAL EXPENSE PAYMENTS The 2011 Act repeals information reporting for payments to corporations for property and other gross proceeds. The Act also repeals information reporting for rental property expense payments.
FORM TD F 90-22.1, FOREIGN BANK AND FINANCIAL ACCOUNT REPORT The Foreign Bank and Financial Account Report (FBAR) is used to report a financial interest in, or signature authority over, a foreign financial account. The FBAR must be received by the Department of the Treasury in Detroit, Mich., on or before June 30 of the year immediately following the calendar year being reported. The June 30 filing date may not be extended. A United States citizen who has a financial interest in, or signature authority over, foreign financial accounts must file an FBAR if the aggregate value of the foreign
financial accounts exceeds $10,000 at any time during the calendar year. New Department of Treasury Regulations 31 CFR 1010.350 (formerly 31 CFR 103.24) defines: Person, Financial Account, Financial Interests, Signature Authority, Foreign Accounts, and Signature Authority. Effect on taxpayers: Willful violations may be subject to criminal penalties under 31 U.S.C. section 5322(a), 31 U.S.C. section 5322(b), or 18 U.S.C. section 1001. How does this affect the return preparer? On Schedule B, the return preparer should ask the client, “Did you at any time during 2011 have a financial interest in, or signature authority over, a financial account located in a foreign country?” Failure to ask the question of the client could result in preparer failure to exercise due diligence as required by Sec. 10.22 of Circular 230. If an FBAR return is required, a new engagement letter is recommended.
FORM 8938, STATEMENT OF SPECIFIED FOREIGN FINANCIAL ASSETS For tax years beginning after March 19, 2010, taxpayers may be required to file a Form 8938 (Tax FBAR) to report the ownership of specified foreign financial assets if the total value of those assets exceeds an applicable threshold amount. The threshold varies depending on whether an individual lives in the United States or files a joint income tax return. See instructions to Form 8938 for filing requirement thresholds. If the 8938 should be but is not attached to the applicable income tax form, the statute on the complete income tax form is open until three years after the filing of the 8938. There are some duplications between the TD F 90-22.1 and the Form 8938 but,
Greta P. Hicks, CPA, is a consultant on IRS problems, seminar discussion leader, author of continuing education courses and web content provider. She can be reached at gretahickscpa@yahoo.com or www.gretahicks.com.
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if applicable, both forms must be fully completed and filed with their respective governmental agencies. Since Form 8938 is to be attached to the applicable income tax form (1040, 1120, 1065, 1041, 1120-S, 1040NR), return preparers will be held responsible for the proper preparation and inclusion of the 8938. Other potential filing requirements: • Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation; • Form 3520, Annual Return to Report Transactions With Foreign Trusts; • Forms 4621 and 4681, Passive Foreign Investment Company (PFIC) Reporting; • Form 5471 and 5472, Information Return of U.S. Person with Respect to Certain Foreign Corporations; • Form 8288, U.S. Withholding Tax Return for Dispositions by Foreign Persons of U.S. Real Property Interests; • Form 8858, Foreign Disregarded Entities; and • Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships.
INCREASED REGULATION OF RETURN PREPARERS Circular 230, Part 10, was updated to reflect recent legislation, including but not limited to: • Registered Tax Return Preparer (RTRP); • Preparer Tax Identification Number (PTIN); • Diligence As To Accuracy, Sec. 10.22; • Standards For Tax Returns, Sec. 10.34(a); • Standards For Documents And Other Papers, Sec. 10.34(b); and • Conflicting Interests, Sec. 10.29.
EXPANSION OF ELECTRONIC FILING BY RETURN PREPARERS Final I.T. Regulations 301.6011-7 and Rev. Proc. 2011-25 have been released. Yes, this is a quick and brief overview. The intent was to put preparers and authorized representatives on notice of many changes hidden in new legislation from 2008 through 2011 that affect the 2011 filing season. n
REFERENCE MATERIALS
You are encouraged to study the following source materials. Form 1099-B, Schedule D, Form 8849, Energy Improvement and Extension Act of 2008, PL 110-343, IRC 6045 Form 1099-K, Information Reporting on Payment Card and Third Party Payment Transactions, Housing Assistance Act of 2008, PL 110-289, Effective 2-11, IRC 6050W, I.T.Regs. 1.6050W Form 1099, Information Reporting of Payments to Corporations and for Rental Expenses, Protection and Repayment of Exchange Subsidy Overpayments Act of 2011 Foreign Bank and Financial Account Report (FBAR), Form TD F 90-22.1 Tax FBAR, Form 8938, Hiring Incentives to Restore Employment Act, PL 111-147, IRC 6038D and IRC 1471(d)(4), Notice 2011-55, I.T. Regs. 1.6038D-1T Circular 230, updated 8-2-2011, 31 C.F.R. Part 10, www.irs.gov/pub/irspdf/pcir230.pdf, Sec. 10.22, 10.29, and 1. 0.34, Notices 2011-80, 2011-45 Electronic Filing by Return Preparers: Worker, Homeownership, and Business Assistance Act of 2009, PL 111-92, IRC 6011, I.T. Regs. 301.6011-7, Rev. Proc. 2011-25 Today’sCPA
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Business Perspectives By Mano Mahadeva, CPA, MBA | Column Editor
Talent – A Global Currency The Green Bay Packers reached the pinnacle of football in 2010 by winning the Lombardi Trophy. They accomplished this feat despite having nearly half their starters out due to injury throughout the year. As a starter became injured, another player ably filled in. The team never missed a beat and met its strategic objective. In 2002, the Oakland Athletics became competitive with larger market teams, having one of the lowest payrolls in Major League Baseball, by taking advantage of empirical gauges of player performance. The novel approach helped the Athletics become a very successful franchise in Major League Baseball. Google, a highly successful operator of a leading search engine, highlights their uniqueness in their branding to attract future employees who share common attributes and philosophies. In the examples above, the organizations had a clear strategy – to be the best in football, baseball and business, respectively. But it was not simply about having a superior strategy. These organizations were committed to recruiting, managing and retaining talented people who were able to execute the strategies to achieve organizational success. The pool of talent continues to be in demand across the globe with never enough to go around. In the United States, the baby boomers continue to retire; in Europe, the populace continues to gray; in Asia, the large number of graduates masks those with real experience and skill. The demand for talent is further driven by private equity companies, start ups, technological advancements, deregulation and the information age. These talented individuals want job satisfaction and the opportunity for advancement, whereas the employer wants the skill and experience when they need them. As such, organizations have made talent management a strategic business priority to ably align these interests with the organization’s overall objectives. Finding the right people is hard and retaining them is harder on many accounts. Organizations typically state clear reasons
why they need skilled and experienced people, but then may not do what is necessary to retain them. Some organizations account for this talent as “overhead” and “full-time equivalent employees,” with neither metric connected in any way with the business outcomes. Even today, human resources managers continue to make the hiring decision for departments outside of its own, due to little involvement from line managers. This lack of initial involvement may lead to the departure of an unfulfilled employee. And, if the organization does not adopt talent management as a strategic business priority, talent is not looked at collectively or strategically across the organization, with very little guidance on how to integrate talent across the wide range of investments. The boards of organizations that are serious about talent management hold their chief executive officers and senior managers responsible for finding, developing and retaining top talent. These individuals not only have to set the enthusiastic tone at the top, but they believe that talent is a corporate-wide resource. Managers at every level need to be actively involved with
people decisions, as we do with budgets and operational plans. And, the “annual” review needs to be a more frequent and honest engagement between the manager and employee. It is important that employees know that talent development and advancement within the organization are priorities. Challenge the best by making them walk in others’ shoes, getting them out of their comfort zones or assigning them special projects. Differentiate the best from the rest; the best are needed to execute organizational strategy. Develop the group that falls in the middle; these people provide a foundation for the best of the bunch. Act decisively on the rest. Is it easier to “make” or “buy” talent? General Electric continues to spend nearly $1 billion a year on training and evaluating talent. Their bench is viewed as the deepest in the world. Procter and Gamble has earned a reputation as a build-from-within company with their future success dependent on the strength of their future pipeline. The “making” of talent leads to proactive planning, lesser expense, and a boost for employee morale. It is slower in the sense that it takes time to develop and there has to be a “fit” for the opportunity. The “buying” of talent is faster and more responsive, but expensive. It is also a morale buster as it blocks internal promotions. The ideal solution may be a trade off depending on the circumstance. It is clear that organizations that don’t evolve to the level of applying talent management are destined to go the way of all organizations that fail to evolve with their environment. But an organization that does make talent management a strategic business priority and aligns it with its business strategy will attract the best people. The depth and quality of these individuals will help your organization achieve its strategic vision for the long term and make your organization a leader in its sector. n
Mano Mahadeva, CPA, is executive director with U.S. Oncology in Plano. He serves on both the Editorial Board and the Business and Industry Issues Committee for TSCPA. Mahadeva can be reached at mano.mahadeva@usoncology.com.
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Accounting and Auditing By C. William (Bill) Thomas, CPA, Ph.D. | Column Editor
New Proposed Revenue Recognition Standard The Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) have been working since 2008 on a joint project to revise the accounting standard for revenue recognition. This project was placed on the convergence agenda because of its broad impact across essentially all entities and because both sets of standards need some improvement. Generally accepted accounting principles (GAAP) in the United States currently have more than 100 revenue recognition standards; many of these standards have conflicting revenue recognition triggers1. International Financial Accounting Standards (IFRS) currently have two standards, but even these two have conflicting revenue recognition triggers1. As a result, the current standards could result in different accounting for economically similar transactions2. After several iterations and rounds of comment letters, the Boards released a revised exposure draft in November 2011 designed to provide a consistent standard.
A FIVE-STEP MODEL The core principle behind the most recent proposed revenue recognition standard “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.”2 To achieve this objective, the standard includes a five-step model for revenue recognition. 1. Identify the contract with the customer. The standard defines a contract as an agreement between parties that creates enforceable rights and obligations. It need not be written, but may also be oral or implied by customary business practices. 2. Identify the separate performance obligations in the contract. A performance
obligation is a promise within a contract to transfer a good or service to a customer. If more than one good or service is transferred, they can potentially be combined as a single performance obligation provided that the goods or services are not deemed to be distinct. A distinct good or service is one that the entity regularly sells separately or one that the customer can benefit from independently. If a bundle of goods or services is determined to be not distinct, it could be accounted for as a single performance obligation. 3. Determine the transaction price or consideration given by the customer in the contract. To do this, the entity should consider the time value of money, any noncash consideration at fair value, and reduce the transaction price for any consideration payable to the customer. If the consideration in the contract is variable, the entity may estimate the transaction price either as the expected value (a probability-weighted amount) or as the most likely amount based on whichever amount will better represent the predicted amount of consideration that the entity will ultimately receive. 4. Allocate the transaction price to the separate performance obligations in the contract, if any. If the contract contains separate performance obligations, the entity should allocate the total transaction price determined in step three between them. This allocation should represent the proportion of the standalone selling price of the individual
performance obligation to the total standalone selling prices of all performance obligations in the contract. 5. Recognize the revenue assigned to each performance obligation as it is satisfied. A performance obligation is deemed to be satisfied when the entity transfers control of the good or service. This can be over time – such as membership contracts – or at a point in time – such as the delivery of a consumer good.
CHANGES FROM THE PREVIOUS EXPOSURE DRAFT The major changes to the revenue recognition standard in this exposure draft occurred in the steps of the revenue recognition model. In the first step on identifying contracts, provision for segmenting one contract into multiple contracts was eliminated (though this principle was preserved in step four of the model). No significant changes were made to the second step on identifying performance obligations. The third step on determining the transaction price now includes a provision that allows entities to use the most likely amount rather than only allowing a probability-weighted estimate. No significant changes were made to the fourth step on allocating the transaction price. Indicators were added to the fifth step for determining when control is transferred at a point in time, and criteria were added for determining when a performance obligation is satisfied over time.
WHAT’S NEXT? Comments on the revised exposure draft are due in March 2012. According to the Boards’ current timetable, the final version of the revenue recognition standard will be effective for annual reports beginning on or after Jan. 1, 2015. The current exposure draft is located on FASB’s website (fasb.org) with a more comprehensive summary of all the details within the standard. n FOOTNOTES 1.
PWC’s Revenue Recognition Overview on CFO
2.
Direct. See www.cfodirect.pwc.com FASB’s November 2011 Exposure Draft on www.fasb.org
C. William Thomas, CPA, Ph.D., is the KPMG/Thomas L. Holton Chair and the J.E. Bush Professor of Accounting in the Hankamer School of Business at Baylor University in Waco. Thomas can be reached at Bill_Thomas@baylor.edu.
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Emerging Issues By James F. Reeves, CPA | Column Editor
Well … It Depends
I can only imagine some of the more interesting conversations that CPAs are having with their individual tax clients these days, in response to the inevitable question that comes up every year as the attention shifts from the prior year’s tax return to planning for the current year… “Ok, so what should I do?” It seems like only yesterday that Congress and President Barack Obama were at a virtual impasse over extending the Bush tax cuts for higher-income individuals, as well as the pending reversion of the estate and gift tax regime to the pre-2001 rate structure. In an 11th hour compromise following the 2010 Congressional elections, Congress and the White House settled on a two-year extension of the current rate structure, as well as a liberalized estate and gift tax regime, about two weeks before an across-the-board tax increase for all taxpayers and a draconian transfer tax structure that no one supported would have become law. Well, before too long, it will be déjà vu all over again, with some additional wrinkles. Under current law, ordinary individual income tax rates are scheduled to rise virtually across the board on Jan. 1, 2013, as are rates on long-term capital gains and qualified dividends. The standard deduction for married taxpayers will revert
to a lower level than the combined amount for unmarried taxpayers, and the expanded 15 percent tax bracket for married taxpayers sunsets, bringing back the marriage penalty. Phase-outs of itemized deductions and personal exemptions for taxpayers exceeding certain income thresholds will be restored, and the child tax credit will be cut in half. For estate and gift tax purposes, we are scheduled to see a drop in the exemption from $5 million to $1 million, and an increase in the top rate from 35 percent to 55 percent. But that’s just the beginning. On top of these provisions, the health care legislation imposes an additional 0.9 percent Medicare tax on employees and self-employed individuals and a 3.8 percent tax on investment income of individuals with adjusted gross incomes (AGI) exceeding $200,000 (single) and $250,000 (married), beginning in 2013. And although it’s only in the proposal stage and unlikely to advance through the House
before the elections, President Obama has endorsed a new minimum tax he calls the Buffett Rule for taxpayers earning more than $1 million. So that’s the backdrop for responding to the “OK, what should I do?” question. While not dodging the issue, the prudent response may be to answer the question with another question: “What do you think is going to happen with the economy, unemployment, the budget and the elections?” To a great extent, these are the issues that will shape federal tax policy for 2013 and beyond. Seasoned (or maybe cynical) Washington observers suggest that history will repeat itself in late 2012, with a lame-duck Congress enacting another short-term extension of the expiring tax breaks in the name of supporting the economic recovery, leaving it to the new Congress and administration to find a permanent solution in 2013 or 2014. While there is general agreement that lower income tax rates and marriage penalty relief are desirable for lower and middle income taxpayers, along with at least a $3.5 million estate tax exemption, there simply won’t be enough time after the November 6 election to resolve the more contentious issues. Perhaps something like the Buffett Rule or a compromise on the estate tax could sneak in as an 11th hour bargaining chip, but for the most part I believe we will enter 2013 with the 2012 tax structure largely intact for the near term. That said, I wouldn’t be shocked to see entrenched partisan positions in a lame duck Congress result in a gridlock scenario that causes the 2013 Congress to have to take up taxes as its first order of business. Beyond considering the likelihood of a short-term extension of the current rate structure, it may be worthwhile to engage higher income clients in a multi-year, multi-scenario tax planning exercise. If
James F. Reeves, CPA, is Senior Vice President, New Product Development at the Tax and Accounting business of Thomson Reuters. Contact him at jim.reeves@thomson.com, or visit his blog at http://jamesfreeves.blogspot.com.
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President Obama and the Democrats come out of the elections with the wind at their backs, we may be looking at a scenario of higher income tax rates for upper income clients. Conversely, pressure to look at fundamental corporate and individual tax reform as part of a broader economic policy review could drive a scenario of lower tax rates with fewer tax “expenditures,” or targeted benefits like the exclusion for employer-provided health insurance, lower rates on capital gains and dividends, and deductions for mortgage interest, charitable contributions, and state and local taxes. A number of credible tax reform proposals in recent years (Bowles-Simpson, Paul Ryan, Gang of Six, and Domenici-Rivlin) have recommended a top individual rate under 30 percent with various limitations on tax expenditures as a tradeoff for lowering the rates.
It’s not a stretch to see a rate structure with lower tax rates and a less generous mortgage interest deduction, no state income or sales tax deduction, or even a cap on total itemized deductions as a percentage of AGI. Nor would I be surprised to see the tax on “Cadillac” health care plans (scheduled to begin in 2018) be replaced by a tax on “Chevy” health care plans, where employee health care benefits above a moderate threshold are included in taxable compensation. It’s also not a stretch to imagine a scenario like we saw with the Tax Reform Act of 1986 where ordinary income, dividends and capital gains were all taxed at the same rate. Democrats may find such proposals palatable as a means to reducing the deficit via the tax code and promoting progressivity, while Republicans can point to tax reform as cutting government subsidies and reducing the size of government while
reducing the deficit and increasing overall economic efficiency. In any event, it would be wise to compartmentalize the various types of income for high income clients and look at the impact of the various proposals on each type, including: • investment income; • business (including pass-through) income; • ordinary income; • retirement income; and • the impact on itemized deductions.
COVER ALL BASES There’s no question that the uncertainty surrounding the future of the federal tax code makes tax planning difficult. Upper income clients would be well served by a multi-year, multi-scenario planning exercise that contemplates a variety of legislative outcomes. At some level, failing to plan is planning to fail. n
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Chapters By Rhonda Ledbetter | TSCPA Chapter Relations Representative
Chapter Presidents Who Mean Business In this issue, we focus on chapter presidents who work in industry or for other employers as controllers. They provided responses to questions ranging from their first jobs as CPAs to their advice to those entering the profession in the future, as well as how their experiences working in industry have helped them in their current volunteer position. Those participating were, in alphabetical order: Crystal Baylor, CPA-Permian Basin; Christy Gibson, CPA-East Texas; Susie Infante, CPA-Corpus Christi; Tracy Merritt, CPA-San Antonio; Deidra Reeves, CPA-Texarkana; and Chad Stroud, CPA-Wichita Falls.
CPA CAREER, JOB RESPONSIBILITIES Only three of the six who were interviewed started their CPA careers in public accounting at local firms. One began as an internal auditor in county government. The other two went directly into business/industry. The number of employees at their previous CPA jobs range from six people to tens of thousands. Currently, one participant works in finance at a school district and one is with a credit union. The others are employed in industries such as oil and gas and construction. Each has had interesting job duties. Several said that the wide variety is what they love about their work and that their days are never boring. At any given time, they could be involved with the sale or acquisition of a business unit, or a legal matter involving employee actions. One referred to serving as co-director of the human resources department, which brought the opportunity to talk one-on-one with employees about their insurance needs and strengthen the family feeling that is an important part of the company’s culture. A job in county government brought occasional feelings of awe about the honor of working directly with the officials elected to guide services to taxpayers, and feelings of a
different sort when performing one specific duty. Chad Stroud remembers: “Our office was responsible for performing internal audit functions on the various fee offices. One of the functions was to perform periodic cash counts. Most of them were run-of-the-mill, except for the one for the Sheriff ’s Department. To perform the cash count, I had to go inside the jail. For someone who had never been on that side, hearing those perimeter doors close behind me was a weird feeling.” One participant experienced an unusual situation after the employer acquired a company in another state. While helping with the post closing, the CPA stumbled upon a mortgage the acquired company had paid on behalf of a land owner. Research revealed that the land owner could not pay the mortgage and was facing foreclosure. The company had paid the mortgage to prevent losing the lease during foreclosure. The CPA set up a system to deduct the land owner’s mortgage payment from monthly revenue distributions. Another of the six worked on an International Financial Reporting Standards (IFRS) conversion project for a large company as part of an international team. In addition to learning the information needed to complete the task, working across cultural differences was cited as an exciting experience. A task perfectly suited to one of the outdoorsy types in the group was taking inventory count on a drilling rig. One began working at a nationwide company not long before it officially entered bankruptcy. By utilizing previous job experience in that arena, knowledge was applied to assist in the verification of the proof-
of-claim process. By reading and interpreting legal contracts and writing the contracts into Microsoft SQL coding language, the CPA was able to create a database to maintain the proper subscriber counts and programmer payments that were used during the bankruptcy legal process and for financial resolution. An interesting situation in the oil and gas industry involved a unit that was producing out of two to three zones. The problem was that each zone had different ownership. To make the situation more complex, all of the working-interest owners were selling their own gas and were taking more or less than what they were entitled to, thus gas balancing by owner for each zone. Taxes and federal royalties further complicated the unit. The most moving job-related story of all is from a person whose usual duties for the school district are focused on finance. As Deidra Reeves explains: “One Friday afternoon, most of our central office administrators had to leave early for a district event. I was designated to stay behind, making sure that all of the buses delivered children home safely.” She sighs and continues: “Well, I was notified that there was a bus wreck. I arrived on the scene and there were about 40 elementary students outside of the bus screaming, crying or running around in a nearby yard. Thank goodness there were only minor injuries. We got everyone delivered home safely … on a different bus.”
WORK/VOLUNTEER SKILLS AND CHAPTER INVOLVEMENT The conversation turned to chapter involvement and the skills that are different from those used in the public practice/ financial advisor arena that have helped as a volunteer leader. They cited skills developed by CPAs in all areas of practice that have helped in their role as a chapter president, especially those gained by working as part of the employer’s management team. The industry CPAs’ day-today responsibility for being detail-oriented and
Rhonda Ledbetter is the TSCPA chapter relations representative. Contact her at 972-687-8508 or at rledbetter@tscpa.net.
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also seeing the big picture helps tremendously. Several said that their work experience with a variety of personalities and backgrounds prepared them for leadership. One shared that local government employment often teaches what it’s like to be a volunteer, whether helping a student learn to read or organizing a community event. Chapter involvement for most began with committee work. One took the opportunity to attend chapter luncheon meetings while still a member of the student accounting society. Having been made to feel welcome, it was natural to continue participating during candidacy and then as a new CPA. Crystal Baylor laughs that her former boss, who was then chapter president, “suggested me for positions within the chapter. How do you say no to that?!” Another says the faculty advisor to the student accounting society, who had been a president at the chapter, encouraged involvement.
more big-picture responsibilities), dealing with multiple competing demands and managing simultaneous projects. One person talked about the effects of governmental regulation on product offerings. Another mentioned that, to stay competitive, leaner production models are implemented with greater productivity, requiring constant adaptation. “I think one of the biggest career challenges I face is being able to provide strategic visioning and continuously make worthwhile contributions to my company,” says Tracy Merritt. “I have to ensure that I keep pace with the growth of the company, by continuously making enhancements or process improvements, bringing new ideas with a fresh perspective and staying abreast of the regulatory changes that can be crucial for strategic positioning,” she continues.
CAREER REWARDS AND CHALLENGES
The participants then looked into the future and discussed the one big thing they foresee as the game-changer for CPAs in industry during the next 10 years. Some referred to IFRS and two sets of accounting standards. However, the overwhelming response was that technology will have the greatest impact. It will be felt not only through the mechanics as companies implement new hardware and software (a process in which their CPA employees are deeply involved) but, more importantly, in the workforce. Ever-increasing access to electronic communication could be affecting communication skills and knowledge about conducting one’s self professionally in the work environment. Companies might need to develop specific strategies to meld the personal with the technological. The discussion about technology also included the impact that multiple generations in the workplace will have. It was mentioned that the older generation of CPAs values face-to-face communication, while younger ones are likely to rely on social media for interaction with even their closest friends. These preferences, as well as others unique to each age group, will be evident throughout companies and must be integrated. Also, the increasing ratio of CPAs over the age of 50 will
The career rewards discussed were diverse. The most frequently mentioned is the variety of projects and, more importantly, people. Each of the participants’ fields bring a wide mix of those they interact with – engineers, maintenance workers, county commissioners, cooks, teachers, bankers, land men, sales staff, etc. Susie Infante enthuses: “I love that, as part of the internal audit team looking into employees’ procedures to assess and mitigate risk, I have the time to talk with them about making processes more efficient and making their jobs easier. I also have the opportunity to help them feel a part of the team by explaining the objectives and the company’s big picture, and how their work makes a difference. I love educating them that what they’re doing is important.” Keeping up to date on relevant legislation at all levels was cited as extremely interesting. Another mentioned the fluidity of the CPA’s work in industry – from journal entries, to forecasting, to analysis, to strategic planning, to IT conversions. Several said the variety that’s so rewarding also brings the problems of prioritizing (especially at the CFO level, where there are
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THE NEXT 10 YEARS FOR CPAS WORKING IN INDUSTRY
affect the companies they work for. And, when they move into retirement, a great deal of intellectual capital will be lost to employers.
ADVICE TO STUDENTS CONSIDERING A CAREER IN ACCOUNTING The advice to students who are considering a career in accounting started with: Go for it! Participants stated that, because of the versatility and options the CPA designation offers, every door is open. There are many different career paths for accounting professionals. The diverse opportunities will continue to grow as CPAs embrace changes in technology, the green movement, economics, and other developments affecting business. It was said that students can develop a good career safety net if they become knowledgeable in many aspects of accounting. One person pointed out that it’s not always about debits and credits, followed by the suggestion that building working relationships to augment professional knowledge will make a better CPA. Christy Gibson recalls: “While speaking to a group of university students recently, I stressed to them to not only learn accounting, but also become skilled in technology. I believe that will cause them to be in demand.” She goes on to say: “Every company in my career has transitioned from one platform to another, one software system to another, or developed software internally. All of these involved the accounting system. Being instinctively familiar with technical systems will enhance the chosen path of the CPA – whether it’s forensic accounting, auditor, controller, you name it.” Closing on a practical note, Crystal Baylor advises: “Begin taking the parts of the Uniform CPA Exam as soon as you graduate. You’ll still remember what you learned in class and you’ll still have great study skills. As soon as you’ve passed one part, go on to the next. Don’t let anything get in your way!” Those are thoughts from six of our current chapter presidents. Just like them, you have unique experiences and skills that can be a great asset to your chapter. If you’re not already involved, please volunteer. A complete list of chapter contact data is available through the Chapters section of the TSCPA website at tscpa.org. n
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Spotlight on CPAs By Anne McDonald Davis, ABC
Speaking of Being a CPA … Transplanted Georgian Continues Business & Industry Blog When Bill Schneider, CPA-Dallas, took time to talk with Today’s CPA, he was about to publish his next blog about, well, being a CPA. Although he has written for years now on topics ranging from professional dress to the AICPA Strategic Plan, Schneider plays a special role in addressing the issues of professionals in business and industry. “I actually started the blog when I was practicing in Georgia,” Schneider clarifies. “I had become involved at AICPA (American Institute of CPAs) and thought it would be cool for other CPAs to know more about what goes on at a national level.” But his blog soon expanded beyond talking about AICPA doings. Schneider explained that well in his milestone 100th blog published last Dec. 12 (see http://industryissues.wordpress.com for this and his other blog posts): “… there is so much going on in the profession that I can honestly say there is never a shortage of things to write about, but if all I wrote about was the latest exposure draft issued by FASB, this blog would get boring, so I write about whatever is on my mind at the time. Sometimes it is something serious like FAF’s attempt to subvert the recommendations of the Blue Ribbon Panel on Private Company Financial Reporting, but other times, it is a little more fun like speculating on what was going on in the back office of the Minnesota Vikings when they had to trade out tickets for one stadium with those of a different stadium when the Metrodome roof tore open in a snowstorm.” About that Metrodome snowstorm incident … Schneider says that his wife of 24 years, Doris, found that typical of how CPAs think. Proof positive, when his daughter, Allison, an accounting
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major, saw the news report, he laughs that her immediate reaction was, “How are they going to handle the accounting for switching tickets and the rest of it?” So of course he had to blog about that. A long-time manager with BellSouth/ AT&T, Schneider actually started out in public accounting. He recalls: “Leaving college, I joined Deloitte Haskins and Sells (now Deloitte). At first, I was on the partner track – that was the brass ring. But once I was a young father with a second child on the way, my priorities were a little bit different.” So when a headhunter approached Schneider with an industry option that was likely more family friendly, he decided to go for it. “I knew it would be very different than public accounting,” he acknowledges. “But I figured I could always go back and get my Ph.D. and teach. Now, I’m celebrating my 20th anniversary with AT&T. Some people said that I would be bored; I never have been. I’ve held nine different positions over the years … there are always different issues coming up. Business and industry accounting is not boring – it’s a lot of fun. And professionalism in the B&I world is very important to the company, the investors and the profession. I’m glad to be a part of it.” By the way, teaching wasn’t an option Schneider just pulled out of thin air. He comes from a family of teachers. Growing up in the University of Georgia college town of Athens, his father was a professor of education. His mother taught high school science, but her mother was an operator
with AT&T, so life does come full circle at times. Now, Schneider’s son, William, is a high school math teacher married to another soon to be elementary school teacher. “When mother passed away in 2007, on the visitation night before her funeral, people never stopped coming,” he marvels. “She had touched so many people in her life and achieved riches beyond financial success. There are some paybacks for teaching that are phenomenal.” So how did Schneider end up as a CPA instead of a teacher or professor? Here’s the story. “When I was a junior in high school, my sister was dating the son of Dr. Don Edwards, a fairly famous accounting professor. So we’re all watching something on TV while we’re waiting on dinner … and Dr. Edwards asked what I wanted to be. Mostly to impress him, I said I wanted to be a doctor. He asked why. I replied that it was hard to do, helped a lot of people, and made good money. I figured that would shut him up,” Schneider chuckles. But the venerable accountant didn’t stop there. He informed young Bill that there was a profession he could pursue that “was hard to do, helped a lot of people, and made good money” … and took about half the time required to become a doctor. Apparently, that insight struck a chord. When the time came, Schneider’s major at the University of Georgia was accounting.
THE PROFESSIONAL ASSOCIATION CONNECTION Another critical element in Schneider’s education and development as a CPA was getting involved with accounting’s professional organizations. And his career in industry was the catalyst. He recollects: “While I was in public accounting, I was a member of the state and national organizations, but wasn’t really active. Once I entered industry, I knew I had
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Take Note
to get more involved to stay in touch with the profession. That’s when I went to my first chapter meeting – a good way to meet other CPAs and stay connected with accounting issues. It was at one of those meetings that the chapter president asked how they could serve us better.” Schneider took the man at his word and walked over afterwards to suggest that the chapter present more topics pertinent to members in business and industry. The president wholeheartedly agreed. “So I got put on a committee to do that,” laughs Schneider. “I thought … ‘Wait a minute!’ But I did it, started developing programs, and ended up serving as chapter president myself eventually. That got me much more involved at the state and national levels, and most recently invited to serve on the AICPA board.” Schneider says he is thankful to work for a company like AT&T that allows him time to be involved as a volunteer in his profession. But he also believes that companies themselves benefit greatly from such policies. “The on-the-job training as far as leadership goes … through a professional association … is great,” asserts Schneider. “It helps you be a much more effective manager and leader for your company. As a profession, we probably need to do a better job of explaining that to companies. Also the contacts – CPAs involved in their professional organization have other CPAs they can call up for information and advice. Priceless access. That’s what I love about this profession: we’re willing to help one another. Yes, we compete, but we retain that core of wanting to help and mind the public interest.” In 2009, a couple of years after Dallasbased AT&T bought BellSouth, the company asked Schneider to head to the Lone Star State. He says he joined the Texas Society of CPAs as soon as he got here. “I thought it was important to continue my involvement with the professional organization where I resided,” Schneider stresses. “I introduced myself to the Texas delegation at the next AICPA meeting
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and later volunteered for the TSCPA B&I Committee. And I’m very pleased that they’re including my blog on their website.” He admits that it was tough after a lifetime in Georgia for Doris and him to leave all their friends behind. But they agreed that staying with AT&T was the way to go and the timing was right. Their middle child was in college and the two youngest, Jillian and Mallory, were about to change schools anyway, entering middle school and high school respectively. “Actually, Dallas isn’t all that different from Atlanta in many ways,” he muses. “The demographics and geography are similar. And believe it or not, the traffic is even worse in Atlanta!” Thus, the Schneiders have been busy rebuilding their lives in north Texas, already involved in their church – and soccer. Schneider used to coach when his kids were younger, but now he referees. The transplanted Georgia CPA strongly believes in spending time with his kids and opines the best way to do that is to “find common interests and do things you all enjoy together; then you have things to talk about too. To this day, my son and I still compare soccer refereeing notes.” The family also hopes to start camping again. Having explored most of the state parks of Georgia, it’s time to tackle Texas’s many offerings. In the meantime, ‘hiking’ consists of walking dogs Bear and Katie every evening. For someone who seems to have an exceptionally balanced life, Schneider rejects the concept of work life versus personal life … doesn’t particularly relate to the current buzz words of “work/life balance.” “You’re off balance all your life,” he reflects. “There are times when you need to focus on work and there are times when you need to focus on family. Why try to achieve ‘balance’ every day? Balance comes over a lifetime. The beauty of our profession is that it allows you to change that balance over your career. Besides, part of my life’s philosophy is that if it’s your passion, it’s not work anyway.” n
Nominations for TSCPA Awards Do you know members who are making outstanding contributions to TSCPA, the profession and/or the community? Now is the time to nominate them for a TSCPA service award. The TSCPA Awards Committee is seeking nominations for the 2011-12 year. Categories include Meritorious Service to the Accounting Profession in Texas, Distinguished Public Service, Honorary Fellow, Outstanding TSCPA Committee Chairman, Young CPA of the Year, and Honorary Member. The deadline for nominations is April 27, 2012. For more information, please visit the website at tscpa. org/Content/about/leadership/awards. aspx or contact TSCPA’s Melinda Bentley at mbentley@tscpa.net; phone 800-428-0272, ext. 279 or 972-687-8579 in Dallas.
Advertise in the Classifieds Section of Today’s CPA If you have a job opening to fill, would like to buy or sell an accounting practice, or have products and/or services you would like to promote, consider placing a classified ad in Today’s CPA magazine. TSCPA offers opportunities for members and non-members to advertise in the Classifieds section of this publication. Your advertising message will reach an audience of approximately 29,000 readers. For more information, including the current rates, please contact Donna Fritz at dfritz@tscpa.net, 800-428-0272, ext. 201, or in Dallas at 972-687-8501. Or write to: TSCPA, Today’s CPA Classified Ads, 14651 Dallas Pkwy, Suite 700, Dallas, TX 75254-7408.
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Take Note
Advancing Your Career TSCPA is helping members advance in their careers through high-quality CPE on the latest professional developments and issues, volunteer opportunities that build resumes and networks, and communications tailored to members’ needs with direct delivery to inboxes and mailboxes. Send your nonmember colleagues and accounting students in pursuit of the CPA license to TSCPA so they too can advance with the benefits of TSCPA membership! Visit the Join TSCPA section of www.tscpa.org for more on the ways TSCPA connects, protects and advances our members. Or call member services at 800-428-0272 with your specific needs and questions.
What’s New on the TSCPA Website: Go to tscpa.org to learn more about … B&I Center - New Neighborhoods and Ask a Question Section TSCPA’s Business and Industry Center contains specialized neighborhoods to assist members in their specific area of accounting practice. New neighborhoods were recently added for Internal Auditors, Manufacturing and Service Industry; the site continues to include neighborhoods for CFOs, Healthcare, Energy, Nonprofit, Education, and Government. An “Ask a Question” section was also recently added. To visit the B&I Center, go to tscpa.org and under Resource Center, select Business & Industry Center and log in as a member. Updates on Tax Issues Community To assist you during tax season and year-round, TSCPA’s Tax Issues Community on the website provides a variety of resources and links to tax-related information. You can also sign up to receive the free Tax Issues electronic newsletter that includes important updates. To visit the Tax Issues Community, go to tscpa.org. Under Resource Center, scroll down to Member Communities, select Tax Issues, and log in as a member.
For TSCPA Members – The Practice Management Institute The Practice Management Institute, developed in partnership with the Succession Institute, LLC, is focused on firm management and practice management issues. Through this resource, TSCPA members have access to free material and content on succession planning. There are also CPE self-study course offerings available at a discounted rate for those who would like to receive CPE credit. To learn more and utilize this resource for members only, please go to the CPE section of the TSCPA website at tscpa.org, scroll down and select Practice Management Institute CE.
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TSCPA’s Ask a Member Program Have you taken advantage of TSCPA’s Ask a Member program? Through this program, you can connect with your peers to exchange ideas, knowledge and resources. If you have a question outside your area of expertise or your employer is exploring a new enterprise, you can refer to the knowledge of a CPA who has experience in that area. Volunteers will provide quick, informal assistance on an as needed basis. To learn more, go to tscpa.org/Content/ ResourceCenter/AskaMember.aspx.
Membership Suspensions The following people have had their membership in TSCPA suspended by the Executive Board for non-compliance with TSCPA Bylaws Article III, Section (4A)(1) for non-compliance with the Texas State Board of Public Accountancy’s continuing professional education requirements. Suspended for a period of three years – Alison K. Engel, CPA, Dallas Randy J. Johnson, CPA, Cedar Park
Members Expelled The following people have had their membership in TSCPA expelled by the Executive Board under TSCPA Bylaws Article III, Section (4B)(1). This action was a result of the revocation of their CPA certificates by the Texas State Board of Public Accountancy. Katherine F. Lykes, Houston Edwin A. McCampbell III, Corpus Christi
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Accountants Confidential Assistance Network
Spotlight on Management Accounting – New CGMA Designation
As a peer assistance program, TSCPA’s Accountants Confidential Assistance Network (ACAN) is designed to help Texas CPAs, CPA candidates and accounting students dealing with alcohol, chemical dependency and mental health issues. A 24-hour hotline is available at 1-866-766-ACAN to help people who need assistance. You can also contact TSCPA’s Craig Nauta at cnauta@tscpa.net. By law, all information, communications, reports received, gathered or maintained by ACAN are strictly confidential, so there’s no risk to call. To learn more about the program, please go to TSCPA’s website at tscpa.org/resource/peerasst.
Business is in flux amid unprecedented economic, technological and social change. Across the world, organizations are racing to keep up with the pace of business, global competition and the increasing risks of day-to-day operations. As organizations focus on how they process and interpret these global forces, the role and responsibilities of the finance function are evolving as well. It’s no surprise that now, more than ever, organizations rely on management accountants to apply non-financial, qualitative information along with financial analysis to help make decisions vital to achieving sustainable growth. CEOs want help “connecting the dots” to communicate a clear picture of how the organization is running and where the opportunities are. Increasingly, CPAs in business, industry and government have taken on these responsibilities and become key players in shaping their organizations’ futures and continuing success.
Membership Terminations The following people have had their membership in TSCPA terminated by the Executive Board for noncompliance with TSCPA Bylaws Article XVIII – Peer Review. Robert Diaz, El Paso Berta Aguiar, Carrollton James Scott Long, Dripping Springs Judith Bayless, La Grange Charles Jefferson Pickering, Plano Richard N. Rivas, Stafford Edwin John Simek, Jr., Conroe William E. Skrivanek, Kingwood Richard James Garcia, San Antonio Robert J. Worster, McAllen Patricia Pechal, La Grange David J. Schneider, La Grange
Today’sCPA
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What is Management Accounting? Management accounting is a discipline at the intersection of finance and strategy. It combines quantitative and qualitative data to guide more informed decision making and drive long-term business success. It brings together financial accounting – reporting financial performance, understanding the framework of financial laws, standards and regulations and providing a compliance perspective – and strategy – managing business opportunities, providing a framework of solutions and best practices and guiding decisions. This means management accountants are equipped to shape both short- and longterm strategy, provide key insight throughout the decision-making process and maintain oversight and control of organizational capital and resource allocations. Organizations have always leaned on CPAs to provide necessary financial information to meet stakeholder needs. In many instances, an industry-specific knowledge of regulations, markets and common tactics are added to the mix. This broadened knowledge base, plus the ability to present and communicate information to stakeholders – who often are not finance experts – uniquely position CPAs as management accountants. Introducing the CGMA. Professional recognition of the work CPAs in business, industry and government do on behalf of organizations has taken a significant step forward with the introduction of a new designation, the Chartered Global Management Accountant (CGMA). Complementing the U.S. CPA, the CGMA demonstrates that designees have the experience, skills and expertise to provide organizations with the information needed to optimize performance. The CGMA was established by AICPA and the Chartered Institute of Management Accountants (CIMA) through a joint venture that collectively represents more than 550,000 accounting professionals and students throughout the world. Together, AICPA and CIMA are working with employers and influencers around the world to increase awareness of what management accountants do to drive successful business performance. “Leveraging the strength of CPAs and expanding awareness of their role in organizations worldwide, the CGMA will showcase designation-holders’ management accounting expertise and serve as a complement to their knowledge, skill set and commitment to the code of conduct,” said Barry Melancon, CPA, CGMA, president and CEO of AICPA. An Opportunity for TSCPA Members. The CGMA is available to regular (voting) members of AICPA who meet the qualifying requirements. TSCPA members who are also eligible members of AICPA can take advantage of a free introductory period through July 31, 2012. Visit cgma.org for thought leadership papers, access to a global community and a career toolkit to help you promote your CGMA. Interested in learning more? For details about the CGMA and to find out if you qualify, visit cgma.org.
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Take Note
By Rhonda Ledbetter | TSCPA Chapter Relations Representative
TSCPA Midyear Board of Directors Meeting Members of the TSCPA board of directors met in College Station on January 19-20, 2012, to conduct Society business, obtain profession information and meet with legislators.
TSCPA’s 2011-12 Chairman Donna Wesling, CPA-Austin.
CHAIRMAN AND CEO UPDATE An updated Strategic Plan charts the organization’s direction. Chairman Donna Wesling, CPA-Austin, outlined the four focus areas: Professional Competency, Advocacy, Operational Excellence, and Recruitment and Retention. TSCPA continues to provide members with access to trusted resources and continuing professional education to maintain their professional competency, as well as to support members in the delivery of quality services to their employers or clients. Online communities, e-publications and a searchable CPE database are just some of the vehicles for members to utilize the wealth of information available. The Society serves the professional interests of Texas CPAs by being their advocate to public policy makers, regulators, and standards-setters. Members are actively involved in the Professional Standards, Federal Tax Policy and State Taxation committees. Their numerous projects are communicated to members in the Viewpoint e-newsletter, sent each Friday. Assuring that the appropriate level of resources, technology and volunteer leadership is available to deliver excellent member service is another objective. That is being achieved through member surveys, a leadership development program, member involvement in financial oversight, and implementation of new association management software. The fourth Strategic Plan objective is to recruit and retain members, which includes attracting competent individuals to become CPAs by promoting the career opportunities that the profession provides, as well as harnessing the power of numbers through a membership campaign throughout the year. A key area of emphasis for Wesling is young CPAs. She obtained recommended names from chapters and placed a young CPA on
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every available TSCPA committee. She also initiated the Rising Stars Program (spotlighted in the cover story beginning on page 24). During the year, TSCPA continued its part in the dialogue about Private Company Financial Reporting. The Executive Board sent a letter to the Financial Accounting Foundation Board of Trustees in support of the Blue-Ribbon Panel’s recommendations for Private Company Reporting Standards, including support for creation of an independent board to set exceptions and modifications in U.S. GAAP. Wesling also updated the board on PCAOB recommendations regarding auditor transparency and on several comment letters sent by the Federal Tax Policy Committee. TSCPA Executive Director/CEO, John Sharbaugh, CAE, shared results from a recent survey assessing members’ needs and their satisfaction with services that TSCPA delivers to them. The top five issues they identified were, in order of priority: 1. staying up-to-date on changes in regulations; 2. work/life balance; 3. keeping up with technology; 4. finding and retaining qualified employees; and 5. time management. To improve its resources for serving members, TSCPA has evaluated the latest association management software programs and selected Avectra. Implementation is underway.
FINANCIAL ACCOUNTING FOUNDATION
FAF Trustee Mack Lawhon, CPA-Fort Worth, expressed his views about the Foundation’s recent activities. Its mission is to establish and improve financial accounting and reporting standards, fostering financial reporting that provides decision-useful information to investors and other users of financial reports. Care is given to considering the needs of those who rely on financial reporting, including investors, as well as bankers, other credit grantors and fund managers. Trustees have business, professional and government experience, and varied backgrounds as users, preparers, government preparers, auditors, and academics. FAF provides oversight for the administration and finances of its standard-setting boards, the Financial Accounting Standards Board (FASB) and the Governmental Accounting Standards Board (GASB), and their Advisory Councils. Private company issues are among the four that Lawhon spoke about. He said that clients are frustrated with the complexity of standards and the resulting cost. He recapped formation of a BlueRibbon Panel formed in 2010 in collaboration between FAF, AICPA, and NASBA, which issued its report in January of 2011. Based upon the information included in the Blue-Ribbon Panel report, the FAF Trustees proposed creation of a new Private Company Standards Improvement Council (PCSIC), which would propose changes to U.S. GAAP for private companies and present them to FASB for
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El Paso Chapter Executive Director Beverly Longoria with El Paso Chapter members Kym Anderson, CPA, and Teri Reinert, CPA.
Dallas Chapter members John Eads, CPA, and Marshall Pitman, CPA-San Antonio, and TSCPA Executive Director/CEO, John David Colmenero, CPA. Sharbaugh, CAE.
ratification. Lawhon expressed the two aspects of PCSIC he feels are important in demonstrating its difference from previous bodies: 1) the ability to set its own agenda and then present proposed exceptions/modifications to FASB for ratification; and 2) direct oversight by the FAF Board of Trustees. He presented a chart listing key proposals regarding private company issues and showing similarities/differences between the Blue-Ribbon Panel’s recommendations and the FAF plan. A Post Implementation Review process has been established to determine whether FASB and GASB standards are working as intended. He feels that the recommendation to consistently follow established policies and procedures for re-exposing all or part of a proposed standard is especially important.
GLOBAL, NATIONAL AND TEXAS ECONOMIES
Dr. Barton Smith, Professor Emeritus at the University of Houston, presented a look at economic conditions on several levels. He began by showing that the U.S. Gross Domestic Product, which is still below the statistical threshold of a typical recovery, appears to be regaining some ground. The monthly numbers for employment gains and losses indicate that job growth is likely to continue improving slowly. There will be variations in growth rates among business sectors. Smith presented data showing five distinct economic segments in Texas and comparing those to the state as a whole, as well as the nation. He explained that Houston is currently experiencing a higher job growth rate, and that much of it is driven by the energy and minerals sectors. Global events are likely to drive swings in supply and demand for oil. Smith expressed cautious optimism in his forecasts. He predicts no new recession, but sees continued low GDP growth. There likely will be slight employment growth, with a temporary slowdown in 2013, and a better rate in Texas than the national average. Continued uncertainty will keep stress on the markets and prevent business growth. The greatest risk to recovery is quick fixes without making the necessary fundamental changes to our economy. He showed a comparison between the gain in real GDP in the U.S. and Japan, cautioning about the possibility of failure to grow if meaningful change isn’t made. America’s congressional stalemate has added to
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the fear and uncertainty dampening recovery. Another great risk is debt, both among U.S. consumers and the government. In addition to significantly increasing their personal savings rates, individuals must accept a change in the notion of “entitlements.” Statistics showed the ever-increasing portion of total government expenditures required for interest and transfer payments. Smith explained that monetary and fiscal policies must be integrated, citing the disconnect overseas. Politics among sovereign nations could lead to the departure of some from the Euro Zone. There must be a worldwide modernization of how we deal with the global economy.
TEXAS STATE BOARD OF PUBLIC ACCOUNTANCY
State Board member, Dr. James Flagg, CPA-Brazos Valley, shared information about the work of the Texas State Board of Public Accountancy. A chart showed the number of CPA Exam candidates in Texas since 1980, reflecting the impact of changes to the economy, the requirements to sit and the CPA Exam itself. There has been an increase in the number almost every year since 2001. In 2005, the State Board began a sponsor review program to improve CPE quality. An annual fee from sponsors makes it self-supporting; currently, there are 27 reviewers under contract. Programs are reviewed on a sample basis. Flagg explained that the enforcement process is quasi-judicial and listed the steps involved along with typical committee actions. He provided statistics about the continued decline in the number of administrative rates for actual violations compared to the increasing number of licensees. He discussed constructive enforcement and its role. A survey revealed the public is deceived by the unauthorized use of protected terms such as accountant, accounting firm and auditing services. Seventy percent of the survey respondents assume that persons or firms advertising accounting services to the public are required to be licensed by the state of Texas. In response, the State Board has increased efforts to curtail the use of protected terms in business names and advertising, with an increase in the number of cease-anddesist orders issued. The State Board is also conducting a review of its rules, as is required every four years. Two changes are that client
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Take Note
records must be returned within 10 business days after such a request and that administrative penalties collected will be transferred to the Fifth Year Accounting Students Scholarship Program.
OTHER BUSINESS • The president of the Accounting Education Foundation Board of Trustees, Dr. Rosie Morris, CPA-Austin, explained the phase-out of scholarships to winners of the UIL competition in accounting because many change majors by the time they reach upperlevel coursework. Morris also indicated that more donations for scholarships are needed because more of the hours required to sit for the CPA Exam must be taken in graduate school, therefore increasing the costs substantially. Trustees for the Foundation were elected, and a change to the Bylaws specifying the timeframe for election and beginning of trustee terms was approved. • CPA-PAC Chair Brad Brown, CPA-Southeast Texas, explained the value that members get from making their voices heard at the state capitol through contributions of time and money. The legislators and regulators responsible for shaping the business environment seriously consider CPAs’ concerns for preserving a sound Texas economy.
• Membership Committee Chair Bill Frazer, CPA-Houston, shared information about a wealth of resources available through TSCPA. Just a few are: protection of the CPA certificate, online communities, regulation and rules updates, communication about a range of business issues, and connectivity through social media. • The board of directors voted to increase state-level dues for members in the AA category for the first time in eight years. (That classification is for CPAs and international affiliate members who do not hold a retired license with the Texas State Board of Public Accountancy.) • The results of TSCPA’s electronic election for officers, Executive Board members, directors-at-large, and Nominating Committee positions were announced. See Figure 1 for the names of those elected.
UPCOMING EVENTS The 2012 Annual Meeting of Members, to be held at the Omni Corpus Christi Bayfront Hotel June 29-30, will include a silent auction benefiting the Accounting Education Foundation. Austin is the site for the next Midyear Board of Directors Meeting, January 29-30, 2013.
Figure 1. TSCPA Leaders for 2012-13 Chairman-elect (Chairman in 2013-14)
William (Willie) H. Hornberger (Dallas)
Treasurer-elect (Treasurer in 2013-14)
Jeannette P. Smith (Rio Grande Valley)
Secretary (One-year term – 2012-2013)
Brenda R. (Roxie) Samaniego (El Paso)
Executive Board (Three-year term – 2012-2015)
Michael L. Brown (Central Texas) Kathryn W. Kapka (East Texas)
Director-at-Large (Three-year term – 2012-2015)
Ryan G. Bartholomee (Permian Basin) E. Leroy Bolt (Abilene) Bradley D. Brown (Southeast Texas) Sandra Kay F. Brown (Brazos Valley) Diane DeCou (Corpus Christi) Donna H. Hugly (Dallas) Jerome G. Kotzur (Victoria) Toni McBee Joyner (Brazos Valley) William L. Patton (San Antonio) Keith Reeger (South Plains) Susan S. Roberts (Fort Worth) Donna P. Tadlock (Central Texas)
Maria A. Martinez (San Antonio) was selected as a one-year Director-at-Large replacement (2012-2013) for Michael L. Brown, who was elected for a three-year Executive Board term. Mark J. Goldman (San Antonio) was selected as a one-year Director-at-Large replacement (2012-2013) for Melanie C. Geist, who will automatically be on the board of directors as president of the San Antonio Chapter.
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Committee on Nominations (One-year term – 2012-2013)
Randy L. Crews (Rio Grande Valley) Robin T. Christian (Fort Worth) Sheri K. DelMage (Southeast Texas) Michelle R. Downs (Central Texas) Aaron G. (Guy) Draper (Austin) Melanie C. Geist (San Antonio) Jacquelyn (Lyn) Kuciemba (Brazos Valley) Robert G. Lindsey (East Texas) Nancy M. Mathews (Houston) Paul W. Willey (Dallas)
As immediate past chairman of TSCPA in 2012-2013, Donna Wesling (Austin) will automatically serve as the Nominating Committee Chair. AICPA Council – 3-Year Term (2012- 2015) The following names will be submitted to the AICPA Nominating Committee as recommendations from Texas to serve on the AICPA Council: Donna H. Wesling (Austin) Tracy B. Stewart (Brazos Valley) James A. Smith (Dallas) AICPA Council – 1-Year Designee Fred J. Timmons (San Antonio) Chairman-elect Appointees ratified by vote of the board of directors at this meeting Executive Board (One-year term – 2012-2013) Jacquelyn (Lyn) Kuciemba (Brazos Valley) Charlotte M. Jungen (Southeast Texas) Michael W. Young (Panhandle) Committee on Nominations
Larry D. Edgerton (Permian Basin)
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Focus on Ethics By Kenneth M. Horwitz, J.D., LL.M., CPA
How Do IRS Conflicts of Interest Rules Impact You? Professional Conduct (the “AICPA Code”) and other professional standards may still apply if Section 10.29 does not. A CPA subject to the Statements on Standards for Tax Services (SSTS) is generally required to follow them and other AICPA professional standards as a minimum standard. Thus, if Section 10.29 applies and provides a stricter rule on the definition of how to deal with such a conflict, a CPA should follow Section 10.29.
UNDERLYING VALUES
Circular 230, the Treasury regulations governing ethical standards applicable to practice before the Internal Revenue Service (IRS), deals with conflicting interests at Section 10.29 (31 C.F.R. §10.29). It forbids federal tax practitioners (a defined term that includes CPAs) from having conflicts of interest. Conflicts of interest are defined as representation of one client that is directly adverse to that of another client, or as representing a client in circumstances creating a significant risk that the representation of one or more clients will be materially limited by the practitioner’s responsibilities to another client, a former client or a third person, or by a personal interest of the practitioner. However, a practitioner may represent a client despite a conflict of interest if the practitioner reasonably believes he/ she can provide competent and diligent representation to each affected client and if all affected clients waive the conflict by giving their written informed consent. Circular 230 has at least two major potential effects on covered practitioners: (1) violation of a Circular 230 standard may subject the practitioner to sanction by the IRS Office of Professional Responsibility (OPR); and (2) Circular 230 may be used in a lawsuit
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for damages filed by a client in connection with asserted errors and omissions by the practitioner as the standard to which the practitioner should be held in performing services. Thus, CPAs have a strong interest in understanding the standards to which they will be held under Circular 230. The rules in Section 10.29 track the language in the American Bar Association Model Rules (the “ABA Rules”). They are terse and apply to a CPA only where the CPA is practicing before the IRS. However, the American Institute of CPAs’ Code of
The Circular 230 standard on conflicts of interest emphasizes conflicting professional responsibilities. It differs from the AICPA Code and other standards that emphasize the broader values of integrity and objectivity (and in attestation engagements, independence) as compared to the ABA Rules that are based on the values of advocacy and loyalty. Unstated is the extent to which the interpretations of Section 10.29 will follow the comments on the ABA Rules or case law interpreting them. Unfortunately, the IRS and Treasury have not provided further guidance and to date, there is no case law or administrative law judge decisions that could provide guidance as to how OPR will interpret Section 10.29.
CONFIDENTIALITY IN MULTIPARTY REPRESENTATIONS In any multiparty representation, a CPA must consider the confidentiality requirement under ET Section 301, as well as the practitioner-client communication privilege under IRC Sec. 7525. Normally, a CPA’s clients have a more limited right to confidentiality than any attorney’s clients, but that right is still of great significance. Commencing or continuing common representation would almost certainly be inappropriate if one client asks the CPA to not disclose to the other client continued on next page
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Focus on Ethics information relevant to the common representation. The CPA must act with integrity and objectivity with respect to each client equally; each client has a right to be informed of anything bearing on the representation that might affect the client’s interests and the right to expect that the CPA will use that information to the client’s benefit. Therefore, in any consent to a waiver of conflict as required in Section 10.29, suspension of a client’s rights to confidentiality must be anticipated and provided for with respect to the other client being commonly represented. The CPA should, at the outset of the common representation and as a part of the process of obtaining each client’s informed consent, advise each client that the information will be shared and that the CPA will have to withdraw if one client decides that information material to the representation should be kept from the other. In limited circumstances, it may be appropriate for the CPA to proceed with the representation when the clients have agreed, after being properly informed, that the CPA will keep certain information (such as one client’s trade secrets) confidential provided that there is informed consent of both clients in such regard.
CONSENTING TO WAIVER When the CPA is representing more than one client, the question of consent must be resolved for each client. The clients’ ability to consent is typically determined by considering whether their interests will be adequately protected if they give their informed consent to such a representation. Representation is prohibited if, under the circumstances, the CPA cannot reasonably conclude that he/she will be available to provide competent and diligent representation. Considerations include (1) possible effects on integrity and objectivity; (2) the Sec. 7525 practitioner-client privilege and other confidentiality requirements; and (3) the advantages and risks involved in the common representation.
POTENTIAL CONFLICTS Section 10.29 also refers to actual conflicts and to significant risk that representation
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of one or more clients will be materially limited. If a conflict of interest may exist or may be likely to develop before an engagement is undertaken, the engagement must be declined unless the CPA obtains the informed consent of each client under the conditions set forth under Section 10.29(b). If, after the engagement has been undertaken, the CPA determines because of a change in circumstances that there is a conflict or a significant risk that a conflict will likely occur (either because clients will be directly adverse to each other or because representation will be materially limited), the CPA must obtain the written informed consent of all affected clients under the terms and conditions of Section 10.29(b) or withdraw. Only if the CPA can represent adequately the remaining client(s), given the CPA’s duties to any former client, may the CPA continue the engagement as to any remaining clients. The CPA must continue to protect the confidences of the client from whose representation he/she has withdrawn.
IDENTIFYING DIRECTLY ADVERSE CONFLICTS Identifying conflicts in adverse situations is critical to avoid undertaking an engagement that is directly adverse to a client without that client’s informed consent. One example is spouses who are jointly liable with respect to a tax liability, but one spouse may have defenses to the detriment of the other (such as the innocent spouse defense). It would be difficult, if not impossible, for the CPA to represent both spouses in such a situation because their interests are directly adverse to each other. In such a case, the CPA may not ask both spouses to consent to common representation. Similarly, with divorcing spouses, CPAs should carefully consider whether drafting appropriate disclosures is appropriate for a consent of waiver to a conflict. Assume that a CPA is asked to represent the seller of a business in negotiations (involving federal tax issues) with the buyer, who is also a client of the CPA or the CPA’s firm in an unrelated matter. Under Section 10.29, a conflict would exist even though in a nonfederal tax engagement under the AICPA Code, this may not be the case.
MATERIAL LIMITATION Even where there is no directly adverse relationship, a conflict of interest exists if there is a significant risk that the CPA’s ability to consider, recommend or carry on an appropriate course of action for the client will be materially limited as a result of the CPA’s other responsibilities or interests. For example, assume a CPA is asked to provide federal tax services to several individuals (one of whom is a long-time client) seeking to form a joint venture. The CPA’s ability to recommend or advocate all possible positions that each client might take is likely to be materially limited because of the CPA’s long-time relationship, impairing his/her integrity or objectivity. The question is often one of proximity and degree. However, a mere possibility of subsequent harm does not require disclosure or consent. The critical questions are whether a conflict is likely to arise and if it does, whether it will materially limit or interfere with the CPA’s independent professional judgment. The CPA’s own interests may create a conflict. If the CPA’s own conduct or quality of work in a transaction is in serious question, it may be difficult or impossible for him/her to give a client detached advice with integrity and objectivity. Such a situation may occur if the CPA is representing a client at the IRS Office of Appeals and penalties are proposed to be imposed on the client with respect to a return that the CPA or his/her firm prepared. If the CPA learns that the IRS is proposing to assert penalties on the CPA (or another preparer in the CPA’s firm) under Sec. 6694 in the same matter, the representation would also be materially limited by the CPA’s personal interest in avoiding a preparer penalty (or action by OPR).
OBTAINING AND RECORDING CONSENT Section 10.29(b) requires the CPA to obtain the written informed consent of each client confirmed at the time that the CPA knows of the existence of a conflict of interest. Written confirmation may be
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made within a reasonable period after the informed consent, but no later than 30 days after. Merely obtaining consent without adequate written disclosure of relevant issues does not create informed consent. Section 10.29(c) requires CPAs and other practitioners to retain copies of written consents for at least 36 months after the date of the conclusion of the representation of the affected clients, and the written consents must be provided to any IRS officer or employee on request. CPAs should consider, in consultation with legal counsel, whether to redact confidential portions of communications between clients and the CPA that may be subject to privilege under Sec. 7525. The client’s written confirmation does not supplant the need for the CPA to talk with each client and to explain any risks and advantages of the representation burdened with the conflict of interest, as well as reasonably available alternatives. This affords each client a reasonable opportunity to consider the risks and alternatives and to raise questions and concerns, as well as to object before any disclosures of confidential information are made to another client.
SPECIAL SITUATIONS A CPA engaged by a corporation or other organization does not necessarily represent any constituent or affiliated entity, such as a parent or subsidiary. An organizational client is a legal entity, but it cannot act except through its officers, directors, employees, shareholders and other constituents. A CPA engaged by an organization may also represent a principal officer or major shareholder of that organization. In such an instance, the CPA should be alert to the potential for conflict of interest between the principal officer or major shareholder and the organization. Their interests may not be congruent and may be in conflict. For example, an organization’s method of accounting for tax purposes desired by an equity holder for a particular item or expense may be in conflict with the best interests of the organization and the other equity holders. Another special area of potential conflict is agreements prospectively limiting a CPA’s liability from malpractice. Unless the client is independently represented in making the agreement, such agreements create the potential for a
conflict of interest because they are likely to undermine competent and diligent representation. This is an instance where the client’s interests conflict with the CPA’s personal interests. Obviously after termination of a client-CPA relationship, the CPA has certain continuing duties with respect to confidentiality and conflicts of interest and thus may not represent another client except in conformity with the rules of Section 10.29.
CAREFUL ANALYSIS CPAs in federal tax practice face risks from potential conflicts of interest that they may not have fully identified or focused on. CPAs need to carefully analyze these risks and as a result, may want to strengthen their client acceptance practices and procedures. Situations that bear special scrutiny include those involving services in multiparty representation situations, such as related entities and equity holders, spouses, and clients being represented before the IRS Office of Appeals. n
Kenneth M. Horwitz, J.D., LL.M., CPA, is with Glast, Phillips & Murray, P.C., a law firm in Dallas, Texas. He is licensed by the State Bar of Texas and the Texas State Board of Public Accountancy. Horwitz may be reached at kmh@gpm-law.com.
audimation.com
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COVER STORY
Introducing TSCPA’s 2012
RISING STARS
By DeLynn Deakins, Today’s CPA Managing Editor
TSCPA launched the new Rising Stars Program last fall to recognize CPA members 40 years old and younger who have demonstrated exemplary leadership skills and active involvement in TSCPA, the accounting profession and/or their communities. People from around the state nominated colleagues or friends they felt should be recognized as a rising star. To be considered, the nominee was required to be a TSCPA CPA member, 40 years old and under by the October 25, 2011 application deadline, and nominated by the application deadline. Each nominee also had to complete and submit a profile. A task force of TSCPA Executive Board members served as the selection committee. With all of the excellent nominations received, the selection process was difficult, but the committee narrowed it down and 12 were chosen. TSCPA’s 2011-12 Chairman, Donna Wesling, CPA-Austin, said the following about the program: “I am so pleased that we launched the program this fiscal year. All of us who served on the selection task force were so impressed with all the nominees. We came away knowing that our profession will continue to be strong, and leaders are emerging who can take us into the future.” We now introduce you to the CPAs, in alphabetical order, who make up the inaugural list of TSCPA’s Rising Stars. continued on next page
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COVER STORY
Chip Adami, Jr. CPA-Dallas Partner; Adami, Lindsey & Company, LLP; Sherman, Texas
Katy Avenson CPA-Austin Tax Manager; Atchley & Associates, LLP; Austin, Texas
Michael Brown CPA-Central Texas, ABV Senior Manager, Business Valuation, Forensic and Litigation Services; Jaynes, Reitmeier, Boyd & Therrell, P.C.; Waco, Texas
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Chip Adami received his BBA in Accounting at Texas Tech University and began his accounting career at Coopers & Lybrand, LLP. He joined the firm of Adami, Lindsey and Company, LLP in 1995 and, as a CPA professional in the north Texas area, has been involved in the development, retention and servicing of a diverse client base in his community and beyond. Since becoming a partner in 2003, he has helped firm revenues grow significantly and has attracted numerous new clients to his firm through his ability and desire to help clients plan and follow through on future individual and business financial goals. Adami has gladly volunteered to serve a number of nonprofit organizations in the north Texas area, including Wilson N. Jones Memorial Hospital, Junior Achievement of Grayson County, the Salvation Army, CASA, and the Pregnancy Care Center of Texoma,
but was especially drawn to improving the quality of life in the Sherman community where he grew up. He thought it was important that the community have a low tax rate and outstanding amenities that would continue to attract families and businesses to the area to sustain growth. He ran for and was elected to serve on the Sherman City Council in 2003 and, by fostering a spirit of cooperation with other City Council members, a number of significant improvements have been made. The city of Sherman has completed an outdoor splash park, a spray water park, a baseball and softball complex with outdoor basketball courts, a soccer complex, miles of concrete walking trails and, most recently, a $2.5-million, 120acre nature park. Through his many achievements, Adami is recognized at his firm and in his community as an outstanding leader and public servant.
Katy Avenson received her Master in Professional Accounting and Bachelor of Business Administration degrees at The University of Texas at Austin. In her professional career, Avenson considers communicating effectively with others as highly important for success. The technical nature of accounting often requires CPAs to translate the accounting language into comprehensible terms for clients, so she has worked to hone her communications skills. She is able to break down complex terms into ones that clients can more easily understand. Avenson also uses her communications skills to work on financial literacy efforts in her community.
She is a member of the Austin Chapter’s Financial Literacy Committee and co-developed a training course for faith-based nonprofit organizations. She serves as an instructor for the Austin Chapter’s nonprofit board training course and as the chair of the newly formed Austin Chapter Young CPA Committee. Her involvement with the Austin Chapter programs led to her being asked to present similar financial education courses for Greenlights, a local nonprofit resource for the central Texas area. She is considered by her co-workers and CPA colleagues to be a rising star in her firm, TSCPA, the Austin Chapter, and her community.
Michael Brown holds a Master of Taxation degree and a BBA Accounting degree from Baylor University. Within his firm, Brown helped build a practice niche in the business valuation, forensic and litigation services area. He now leads this service area in his firm and has developed strong referral sources in the legal community. He also has experience as a testifying and consulting expert in litigation settings. Brown serves with several local civic groups in his community. He is treasurer of the Dr. Pepper Museum and a member of the Lake Brazos Rotary Club. In 2010, he was selected as one of 30 young
CPAs to participate in AICPA’s Leadership Academy. AICPA’s Leadership Academy is a program that engages the next generation of CPAs in an examination of leadership and how it impacts their personal life, their career path, and the CPA profession. He has served on several TSCPA committees, including chairing the Young CPAs Committee. He was selected to serve on TSCPA’s Executive Board for a three-year term beginning in 2012. In this role, he will represent the interests of his fellow CPAs, contribute his perspective to the issues facing the profession and apply the leadership skills he has gained.
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Gina DeHoyos CPA-East Texas President/Shareholder; Gina G. DeHoyos, CPA, PLLC; Gladewater, Texas
Michelle Downs CPA-Central Texas Partner, Accounting and Business Consulting; Pattillo Brown & Hill LLP; Waco, Texas
Neely Duncan CPA-Dallas Principal; Lane Gorman Trubitt, PLLC; Dallas, Texas
Gina DeHoyos has a Masters degree and BBA in Accounting degree from Texas A&M University. She began her own consulting firm in 2009. She assists clients with their internal audit and board functions, and she works to make a positive difference in their organizations through her services. DeHoyos has worked tirelessly at a variety of volunteer positions with TSCPA’s East Texas Chapter and is now serving as vice president. She has also served as treasurer, CPE chair and chair of the Chapter’s golf tournament for scholarships. She is active with community organizations in her
local area as well, including her church, the United Way of Longview, the Junior League of Longview, Leadership Tyler, and other organizations. She served as chair of the Longview Cattle Baron’s Ball, which benefitted the American Cancer Society. She was responsible for all aspects of the Cattle Baron’s Ball, such as organizing the committees, contacting sponsors, securing entertainment and location, Ball promotion, and more. The successful event raised $160,000 for the American Cancer Society. DeHoyos is an asset to the East Texas area, as well as TSCPA and the East Texas Chapter.
Michelle Downs attended Baylor University and graduated with her Bachelor of Business Administration and Masters of Accountancy degrees. She received her CPA license in May of 2002 and was recognized by the state of Texas as having one of the top 10 scores in the state. Downs is now a partner in Pattillo Brown & Hill LLP’s Accounting & Business Consulting department specializing in providing tax planning and monthly business consulting to clients. At the firm, she is in charge of the IT Committee, which focuses on using technology to enable employees to have flexible work schedules and a better work/life balance.
Downs has served in various capacities for TSCPA’s Central Texas Chapter, including her current position as president. She co-chairs the Young CPAs Committee and is a member of her Chapter’s CPE Committee. She also serves as a member of the Baylor University Accounting Advisory Council and is a graduate of Leadership Waco, which is a program that identifies area leaders through community involvement. Downs believes that CPAs and the work they do can help people better manage their lives and businesses.
Neely Duncan received her Bachelor of Science in Business Administration-Accounting degree from Old Dominion University in Norfolk, Virginia, and also served in the U.S. Navy. In her accounting career, she recognized that the not-for-profit (NFP) sector lacked the kind of specialized attention for professional services that is more readily available for the for-profit sector. She began working to create her firm’s Dedicated NFP niche in 2004. She assembled the staff members who were the most experienced in working with NFP clients. It would become the firm’s standard practice that NFP clients would only be staffed by those in the NFP niche to ensure the
staff had a thorough understanding of the industry. The firm now has over 100 NFP organizations that it services, over 40 organizations at which it volunteers, and reached sales of over $1 million at the end of 2011. Neely is an active volunteer for TSCPA and the Dallas Chapter. She chaired TSCPA’s 2011 and 2012 Nonprofit Organizations Conference, and is a member of various committees. She has also been extensively involved in community organizations locally. Throughout her career, she has worked to blend her professional life with that of community service.
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COVER STORY
Sheila A. Enriquez CPA-Houston Shareholder; Briggs & Veselka Co.; Houston, Texas
Charlotte Jungen CPA-Southeast Texas, CFP® Shareholder; Edgar Kiker & Cross PC; Beaumont, Texas
Christi Mondrik CPA-Austin, CIA Attorney; Mondrik & Associates; Austin, Texas
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Sheila A. Enriquez holds a BS in Public Accounting degree from Mercy College, as well as an MBA from Long Island University and a Juris Doctor from the University of Houston Law Center. At her firm, she is responsible for developing two growing areas, Litigation Support and an SEC practice. She also handles non-billable initiatives, including acting as a mentor for staff members. Enriquez is a first generation immigrant who came to the U.S. as a self-supporting student. She grew up in the Philippines and, after high school, received a scholarship to study business in Japan and then in New York. After earning her public
accounting and MBA degrees, she attended law school while working full time as a CPA and raising a family. In 2009, she was sworn in as an attorney and received her U.S. citizenship. Enriquez is active in TSCPA and the Houston Chapter. She is chair of the Chapter’s PR Committee, and is a member of TSCPA’s External Relations/Image Issues Committee. She was also recently elected to the Chapter’s board of directors for a two-year term beginning June 2012. The hard-working CPA provides pro bono legal services to Kids In Need of Defense, an organization that protects the rights of unaccompanied immigrant children in the U.S.
Charlotte Jungen graduated Summa Cum Laude from Lamar University with a BBA in Accounting and was awarded the Plummer Award as the top female graduate. A scholarship recipient of TSCPA’s Accounting Education Foundation (AEF), she now supports scholarships through the AEF and Lamar Foundation. She began her career working in traditional tax and accounting services, but in the past 10 years, her focus has shifted to the financial services area. She provides financial planning assistance to businesses, their owners and individuals in areas such as cash management and budgeting, insurance planning, estate and tax planning, and wealth accumulation and retirement planning.
Jungen is past president of TSCPA’s Southeast Texas Chapter. She is currently serving on TSCPA’s Executive Board and CPE Advisory Committee. She has served as chair of the Chapter’s CPE Committee and on TSCPA’s board of directors. Jungen is a graduate of the Beaumont Chamber of Commerce’s Leadership Beaumont and is involved with a number of community organizations. She also plays the piano for St. Pius X Catholic Church in Beaumont. In the wake of Hurricane Ike, she volunteered countless hours assisting in her hometown of Bridge City, even providing dry shelter in her Beaumont home to those who needed it. Her accomplishments and contributions to TSCPA and her community are numerous.
Christi Mondrik holds a BBA (Accounting) degree from The University of Texas at Austin and a JD degree from The University of Texas at Austin School of Law. In 2007, she started her own law practice focusing on state and federal tax controversies and litigation. Mondrik and her associates endeavor to give clients individualized attention to work their way through solving complex tax problems. Mondrik actively participates in TSCPA, as well as the national American Bar Association Section of Taxation events. She is a speaker on state and federal tax matters for TSCPA, the State Bar, the
Society of Louisiana CPAs, and other organizations. She currently chairs TSCPA’s State Taxation Committee and has previously chaired the Texas State Taxation Conference. She is a past president of the Austin Chapter and serves as a member of TSCPA’s board of directors. Mondrik volunteers for a variety of community organizations, and she has received recognition and many awards honoring her work and community service. She also trains and participates in triathlons. Practicing tax law has been Mondrik’s lifelong career ambition, and she enjoys mentoring others in a profession that is rewarding and challenging.
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| MARCH/APRIL 2012
Richard Orellana CPA-Houston President; TriFlex Staffing Solutions; Bellaire, Texas
Joel Perez, Jr. CPA-San Antonio Partner; Padgett Stratemann & Co., LLP; San Antonio, Texas
Ben Simiskey CPA-Houston, CFP® Founder and Owner; PLS Advisory, LLC; Houston, Texas
Today’sCPA
Richard Orellana received his BBA in Accounting and Finance degree from the University of Houston. In 2010, Orellana launched his own company. Through his work as a regular employee at Enron and as a contract employee at Enron and other companies, he had developed a strong tax network in the Houston area. He knew many talented tax professionals who had become decision makers for other employers in the area. Orellana is involved with TSCPA’s Houston Chapter serving on the Community Service, Membership Development, Public Relations and Young Professionals committees. He is associated with a wide variety of community organizations. One is a grassroots group called Volunteer Opportunities In Houston that he and his two brothers co-founded shortly after Hurricane Ike. The group, which has grown to over 600 members, provides group
volunteer opportunities serving different causes for the busy individual who is interested in volunteering, but is not able to make a regular commitment. He has served as a court-appointed advocate volunteer for Child Advocates, a nonprofit organization that serves children who have been abused and/or neglected and are under Child Protective Services’ custody. He recently joined the United Way Young Leaders Council, which is a group of 30 who assist in developing educational, community service and networking opportunities for the 2,600 UW Young Leaders in the Greater Houston area. He is also truly passionate about serving the homeless community. With his hard work, Orellana has shown that he is committed to promoting the accounting profession, helping CPAs achieve their potential and serving his community.
Joel Perez, Jr., graduated from The University of Texas at Brownsville with a Bachelor in Business Administration and a major in Accounting. At Padgett Stratemann & Co., LLP (the firm), he primarily serves clients in the public sector industry and is a member of the firm’s Public Sector Niche Steering Committee. His areas of concentration include local municipalities, utilities, river authorities, school districts, government-sponsored retirement plans, private schools, and tax-exempt organizations. He is also a frequent instructor of technical accounting and reporting updates for various public sector trade associations. Perez is one of the firm’s designated and trained peer reviewers. In 2010 and 2011, he completed a leadership program offered by the Center for Character Based Leadership. At the community level, Perez holds
a seat in the San Antonio Chapter of TSCPA’s Political Action Committee (PAC), as well as the firm’s PAC. In January of 2012, he began his second appointment to the San Antonio Hispanic Chamber of Commerce board of directors. During his first appointment (four years), he served as its Finance Committee chair and was a member of the Executive Committee of the board. Perez is a graduate of Leadership San Antonio (LSA), Class 32. Two years later, he became a Steering Committee member for LSA Class 34, and was recently nominated to co-chair LSA, Class 37, during 2012. In January 2012, he received the prestigious San Antonio Business Journal’s 40 Under 40 Rising Star Award. He enjoys giving back to his community, church, and the accounting profession, as well as spending time with his family.
Ben Simiskey received his Bachelor of ScienceAccounting degree from Brigham Young University. He is the founder and owner of PLS Advisory, LLC, a fee-only financial planning and investment management firm based in Houston. He is active with TSCPA’s Houston Chapter, serving as the chair of both the Young Professionals Committee and the Personal Financial Planning Committee. He was also recently elected to a two-year term on the Houston Chapter’s board of directors for 20122014. In addition, he will serve as the chair of TSCPA’s Young CPAs and Emerging Professionals Committee for 2012-2013.
Simiskey is a devoted father to his two young sons and is very active in his community. He is committed to contributing to the lives of young people and has been involved with initiatives to meet their needs. His service includes working in the inner city of Chicago, leadership involvement in Boy Scouts and youth programs at his church, serving in the PTA as a lead parent for his elementary school’s “Watch DOGS” program that focuses on increasing volunteerism from fathers, and working with other organizations. Above all, everything that Simiskey does within the profession and the community has to fit within the parameters of his role as a father.
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Feature
BY JO ANN M. PINTO, BEIXIN LIN AND JOSEPH L. LIPARI
Financial Statement Analysis: A Few Considerations From Multinational Corporations Financial statement analysis is a set of tools consisting of ratios, trend analysis and common-size statistics that allow users of financial statements to make inferences from diverse sets of accounting information. One of the cornerstones of financial statement analysis is the concept of comparability; without comparability, financial statistics lose their properties of relevance and reliability.
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Ratio analysis is one of the most commonly used methods in financial statement analysis. Summary statistics, such as debtto-equity, allow users to compare companies of unequal size. However, even after scaling the financial statement numbers of unequal firms, the ratios generated may not produce truly informative numbers if different accounting methods were used to produce financial statement balances. For example, a company may opt to use accelerated depreciation over straight-line, LIFO versus FIFO inventory valuation, and income statement versus balance sheet numbers to create the allowance for doubtful accounts. Financial statement preparation also rests upon the assumption of a stable monetary unit. U.S. firms and companies are required to issue dollar-denominated financial statements even though not all of the transactions that flow into the financial statements were originally conducted in dollars; hence, there exists a need to convert transaction and accounts balances into dollar measurements before the consolidation processes. Another significant accounting choice that will render very dissimilar results is the selection of functional currency for multinational enterprises. If a company designates the dollar as the functional currency and its foreign affiliate does not maintain its records in its functional currency, it must re-measure balance sheet numbers utilizing the temporal (re-measurement) method (Financial Accounting Standards Board Accounting Standards Codification 830). Conversely, if the local currency is selected as the functional currency, the firm or company must convert foreign-domiciled accounts under the current rate (translation) method. Currently, approximately 20 percent of U.S. multinationals report under the temporal method with the remaining 80 percent reporting under the current rate method; this relationship has held steady for over 20 years.
TEMPORAL VERSUS CURRENT RATE METHOD: A REFRESHER Translation exposure differs from transaction exposure. Transaction exposure to foreign exchange is recognized when a foreign-based transaction is complete. Firms or companies employ hedging operations to compensate for transaction exposures of, for example, foreign sales revenue. In general, transaction exposure relates to income statement numbers, while translation exposure stems from balance sheet numbers. Translation exposure is the result of translating foreign-domiciled assets and liabilities at the balance sheet date. Unlike transaction exposure, some contend that translation gains and losses are simply paper in nature; i.e., they are not realized until the underlying asset or liability is disposed of or liquidated. Under the temporal (re-measurement) method, the monetary assets and monetary liabilities that are foreign-domiciled are re-measured into functional currency at the effective exchange rate on the balance sheet date; nonmonetary assets, nonmonetary liabilities and paid-in capital are re-measured at their respective
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historical rates. Depreciation and amortization expenses and cost of goods sold are converted at the historical rate when the corresponding assets were acquired. Revenues and other expenses are converted at (weighted) average rate. The year-overyear difference, re-measurement gain or loss, is reported as a component of net income. Critics of the temporal method, citing volatility in exchange rate markets, contend that this accounting
Currently, approximately 20 PERCENT of U.S. multinationals report under the TEMPORAL METHOD with the remaining 80 PERCENT reporting under the CURRENT RATE METHOD; this relationship has held steady for over 20 years. treatment injects unnecessary swings in net income. In fact, it is exactly for this reason that FASB issued FASB 52 (ASC 830), Foreign Currency Translation, that superceded FASB 8, Accounting for the Translation of Foreign Currency Financial Statements. FASB 52 (ASC 830) requires companies take extra steps to determine the appropriate functional currency. If the subsidiary does not keep its records in functional currency, the temporal method shall be used. Under the current rate (translation) method, all assets and liabilities are translated at the exchange rate in effect at the balance sheet day; capital accounts are converted at historical rate. All revenues and expenses are generally converted at (weighted) average rate. The translation gain or loss is also calculated as the year-over-year change in net assets. While this methodology generally produces a larger translation gain or loss, due to more accounts being swept into the translation process, the number does not flow through net income and, therefore, produces a smoother trend in net income. However, this number is required to be reported as another item of other comprehensive income and generally accounts for most of the difference between net income and comprehensive income. Under the current rate method, gains and losses are booked directly into stockholders’ equity. Proponents of the temporal method contend that it, not the current rate method, captures the true economic exposure of the firm or company. Given the vast expansion of U.S. multinationals into foreign markets, the designation of functional currency is not a trivial matter. Furthermore, the scope and scale of foreign activities into countries that traditionally have not had marketbased currencies – including the BRIC countries of Brazil, Russia, India and China – makes this an even weightier one. Firms are allowed to designate either the dollar or the local currency as the functional currency. FASB 52 (ASC 830) has put forth six continued on next page
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Financial Statement Analysis continued from previous page
indicators that should be examined when designating a functional currency. These indicators include: • cash flow indicators, • sales price indicators, • sales market indicators, • expense indicators, • financing indicators, and • intercompany transactions and arrangement indicators. However, a large body of both academic and practitioner researchers demonstrates the criteria are subjective enough for firms to justify the selection of a functional currency either way. One such study, conducted by Arnold and Holder in 1986, sampled Fortune 500 companies and found that they simply picked the functional currency and ex post facto used FASB’s classification scheme to justify their decision. Among the factors influencing their decision was the way in which they actually ran their foreign operations. Accounting method choice is ultimately a managerial decision, and auditors would only get involved in this decision if it led to a material misstatement of the financial statements. Given that FASB’s guidelines leave a lot of room for discretion, this is unlikely to happen in practice.
THE IMPACT OF FUNCTIONAL CURRENCY CHOICE Under the current-rate method, translation adjustments can increase or reduce stockholders’ equity significantly. When the dollar rises (falls) against foreign currency, translation losses (gains) are recorded. In recent years, companies with subsidiaries in Europe have reported translation gains due the dollar’s weakness against the euro. Companies with operations in developing countries typically report translation losses because these currencies have historically chronically declined relative to the U.S. dollar. Due to ongoing ebbs and flows in currency markets and the requirement to report a comprehensive income statistic, the financial ratios of companies using the current rate method are not directly comparable to those of companies reporting under the temporal method. This dissimilarity is particularly acute in financial ratios that contain equity amounts.
A HYPOTHETICAL EXAMPLE Consider the following examples that demonstrate how functional currency choice can distort ratios that are based upon stockholders’ equity. A simple numerical example will expose this contradiction. Assume a French subsidiary prepares its financial statements in euros. The hypothetical financial statements are provided in this article’s appendices. The subsidiary has reported a net income of €50,000, total assets of €280,000 and stockholders’ equity of €220,000. According to ASC 830, if the subsidiary has designated the euro as its functional currency, it will employ the current-rate method to translate its financial statements into dollars. On the other hand, the temporal method should be used when the U.S. dollar is the functional currency. Two case scenarios
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are assumed. First, we assume the dollar’s value increases against the euro over time, as depicted in Appendix A (see page 32). The appreciation of dollars results in a foreign translation loss of $51,600 in the balance sheet equity account when the currentrate method is used, while it would render a much smaller remeasurement loss of $24,600, but would comprise part of net income under the temporal method. In Appendix B (see page 33), we assume the opposite, where the dollar declines against the euro gradually. In this situation, the translation gain for the period amounts to $19,300 and is included in equity account. In comparison, if the company had opted to use the temporal method, the re-measurement gain would be a smaller amount – $8,900 – but recognized in income. The exchange rate scenarios mimic the historic exchange rates during the year of 2010, when the dollar’s value went up against the euro in the early months of the year, then down in the remainder of the year. Table 1 summarizes different metrics of return-on-equity reported depending upon functional currency choice. The economic factors driving Case #1 and Case #2 are the same; this also holds for Case #3 and Case #4. However, the accounting measurement of foreign currency translation gains and losses differs significantly depending upon functional currency choice. Of note from the analysis above is that the temporal method produces the widest swings in return-on-equity. Another peculiar result is that under the current-rate method, the higher the foreign TABLE 1. VARIOUS MEASURES OF RETURN-ON-EQUITY CASE
RETURN-ON-EQUITY CALCULATION
RETURN-ONEQUITY PERCENTAGE
CASE #1: CURRENT-RATE METHOD WITH FOREIGN CURRENCY TRANSLATION LOSS.
$66,500 $315,600-51,600
25.19%
CASE #2: TEMPORAL METHOD WITH FOREIGN CURRENCY RE-MEASUREMENT LOSSES.
$64,400*-24,600 $313,500-24,600
13.78%
$62,000 $264,500+$19,300
21.84%
$62,700*+$8,900 $265,200+$8,900
26.12%
CASE #3: CURRENT-RATE METHOD WITH FOREIGN CURRENCY TRANSLATION GAINS. CASE #4: TEMPORAL METHOD WITH FOREIGN CURRENCY RE-MEASUREMENT GAINS.
*INCOME BEFORE RE-MEASUREMENT GAIN/LOSS
currency translation loss, the greater the return-on-equity. Utilizing the current rate shrinks the denominator in the equation. Taking this observation to its logical conclusion, the greater the amount of translation losses, the larger the gap grows between how the accounting system is reporting a fundamental measure and what may be considered a true amount of profitability. Also of note is that the greatest difference in return on equity (ROE) occurs between a foreign currency translation loss and re-measurement loss – when the temporal method is used. The observation gives credence that employing the dollar as the
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functional currency produces more variation in net income and other accounting measures. Other widely-used ratios that are calculated from stockholders’ equity include market-to-book value, debt-to-equity ratio, and rate earned on common equity. The next section deals with this issue from the point-of-view of two Fortune 500 companies.
CONTEMPORARY EXAMPLE ExxonMobil and Chevron were ranked second and third respectively among Fortune 500 companies during 2010. Both companies fall under the same standard industrial classification code (SIC) of 2911 – petroleum refining. Although the companies are competitors and both report earning a significant proportion of their revenues overseas, with ExxonMobil reporting 69 percent and Chevron reporting 49 percent in 2010, ExxonMobil utilizes the local currency as its functional currency, while Chevron designates the dollar as its functional currency for the majority of its operations. Therefore, equity-based ratios are not directly comparable for the 2010 fiscal year. Given that some variation exists in how ratios are calculated, the following are based upon the definition of financial ratios found in the 21st edition of Accounting by Warren, Reeve and Fess. The ROE ratio is defined as follows: Net Income/Average Stockholders’ Equity.
We Go To Work For You.
TABLE 2. EQUITY-BASED RATIOS FOR EXXONMOBIL AND CHEVRON 2010 RATIO
EXXONMOBIL (Translation Method)
CHEVRON (Re-measurement Method)
FOREIGN EXCHANGE EFFECT
584 MILLION
(423) MILLION
RETURN-ON-EQUITY
23.67%
19.31%
MARKET-TO-BOOK VALUE
2.40
2.12
DEBT-TO-EQUITY
1.01
0.75
YEAR 2008
2009
EXXONMOBIL (Translation Method)
CHEVRON (Re-measurement Method)
Foreign Currency Translation Adjustment
(6,964) Foreign Exchange million Re-measurement
862 million
Return-on-Equity
38.53% Return-on-Equity
29.23%
Foreign Currency Translation Adjustment
3,256 Foreign Exchange million Re-measurement
Return-on-Equity
17.25% Return-on-Equity
(744) million 11.74%
All else being equal, ExxonMobil reports a higher amount of these ratios due, at least in part, to its selection of the local currency as the functional currency. In the three running years including
continued on next page
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Financial Statement Analysis continued from previous page
APPENDIX A. THE EURO TO DOLLAR EXCHANGE RATES MIMIC THE PERIOD FROM JANUARY TO MAY, 2010 THE EXCHANGE RATE AT THE BEGINNING OF PERIOD WAS EURO 1 = U.S. $1.43 THE EXCHANGE RATE AT THE PURCHASE DATE OF EQUIPMENT WAS EURO 1 = U.S. $1.34 THE EXCHANGE RATE AT THE PURCHASE DATE OF LAST INVENTORY WAS EURO 1 = U.S. $1.39 THE EXCHANGE RATE ON THE DECLARATION DATE OF DIVIDEND WAS EURO 1 = U.S. $1.23 THE EXCHANGE RATE AT THE BALANCE SHEET DATE WAS EURO 1 = U.S. $1.2 AVERAGE EXCHANGE RATE FOR THE PERIOD = U.S. $1.33
CURRENT RATE METHOD INCOME STATEMENT
TEMPORAL METHOD
EUROS
EXCHANGE RATE
DOLLARS
EXCHANGE RATE
DOLLARS
NET SALES
280,000
1.33
372,400
1.33
372,400
COST OF GOODS SOLD
120,000
1.33
159,600
CALCULATED
161,600
10,000
1.33
13,300
1.34
13,400
100,000
1.33
133,000
1.33
133,000
DEPRECIATION EXPENSE OTHER EXPENSES INCOME BEFORE RE-MEASUREMENT LOSS
66,500
RE-MEASUREMENT LOSS NET INCOME
50,000
1.33
64,400
0
TO BALANCE (3)
-24,600
66,500
FROM BELOW
39,800
STATEMENT OF RETAINED EARNINGS RETAINED EARNINGS, 1/1/10
0
0
0
+ NET INCOME
50,000
FROM I/S
66,500
TO BALANCE (2)
39,800
– DIVIDENDS DECLARED
30,000
1.23
36,900
1.23
36,900
RETAINED EARNINGS, 12/31/10
20,000
29,600
FROM B/S
2,900
BALANCE SHEET CASH
40,000
1.2
48,000
1.2
48,000
ACCOUNTS RECEIVABLE
80,000
1.2
96,000
1.2
96,000
INVENTORIES (AT FIFO COST)
50,000
1.2
60,000
1.39
69,500
EQUIPMENT (NET)
110,000
1.2
132,000
1.34
147,400
TOTAL ASSETS
280,000
1.2
336,000
ACCOUNTS PAYABLE
60,000
1.2
72,000
1.2
72,000
200,000
1.43
286,000
1.43
286,000
20,000
FROM R/E
29,600
TO BALANCE (1)
2,900
COMMON STOCK RETAINED EARNINGS STOCKHOLDERS’ EQUITY BEFORE TRANSLATION LOSS
315,600
TRANSLATION LOSS
-51,600
N/A
STOCKHOLDERS’ EQUITY
264,000
288,900
336,000
360,900
0.251894
0.137764
TOTAL LIABILITY AND STOCKHOLDERS’ EQUITY ROE
34
360,900
280,000
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APPENDIX B. THE EURO TO DOLLAR EXCHANGE RATES MIMIC THE PERIOD FROM JUNE TO DECEMBER, 2010 THE EXCHANGE RATE AT THE BEGINNING OF PERIOD WAS EURO 1 = U.S. $1.2 THE EXCHANGE RATE AT THE PURCHASE DATE OF EQUIPMENT WAS EURO 1 = U.S. $1.22 THE EXCHANGE RATE AT THE PURCHASE DATE OF LAST INVENTORY WAS EURO 1 = U.S. $1.25 THE EXCHANGE RATE ON THE DECLARATION DATE OF DIVIDEND WAS EURO 1 = U.S. $1.25 THE EXCHANGE RATE AT THE BALANCE SHEET DATE WAS EURO 1 = U.S. $1.29 AVERAGE EXCHANGE RATE FOR THE PERIOD = U.S. $1.24
CURRENT RATE METHOD INCOME STATEMENT
TEMPORAL METHOD
EUROS
EXCHANGE RATE
DOLLARS
EXCHANGE RATE
DOLLARS
NET SALES
280,000
1.24
347,200
1.24
347,200
COST OF GOODS SOLD
120,000
1.24
148,800
CALCULATED
148,300
10,000
1.24
12,400
1.22
12,200
100,000
1.24
124,000
1.24
124,000
DEPRECIATION EXPENSE OTHER EXPENSES INCOME BEFORE RE-MEASUREMENT GAIN
62,700
RE-MEASUREMENT GAIN NET INCOME
50,000
1.24
0
TO BALANCE (3)
8,900
1.24
62,000
FROM BELOW
71,600
STATEMENT OF RETAINED EARNINGS RETAINED EARNINGS, 1/1/10
0
0
+ NET INCOME
50,000
FROM I/S
62,000
TO BALANCE (2)
71,600
– DIVIDENDS DECLARED
30,000
1.25
37,500
1.25
37,500
RETAINED EARNINGS, 12/31/10
20,000
24,500
FROM B/S
34,100
BALANCE SHEET CASH
40,000
1.29
51,600
1.29
51,600
ACCOUNTS RECEIVABLE
80,000
1.29
103,200
1.29
103,200
INVENTORIES (AT FIFO COST)
50,000
1.29
64,500
1.25
62,500
EQUIPMENT (NET)
110,000
1.29
141,900
1.22
134,200
TOTAL ASSETS
280,000
1.29
361,200
ACCOUNTS PAYABLE
60,000
1.29
77,400
1.29
77,400
200,000
1.2
240,000
1.2
240,000
20,000
FROM R/E
24,500
TO BALANCE (1)
34,100
COMMON STOCK RETAINED EARNINGS
264,500
STOCKHOLDERS’ EQUITY BEFORE TRANSLATION TRANSLATION GAIN STOCKHOLDERS’ EQUITY TOTAL LIABILITY AND STOCKHOLDERS’ EQUITY ROE
351,500
280,000
19,300
N/A
283,800
274,100
361,200
351,500
0.218464
0.261219 continued on next page
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Financial Statement Analysis continued from previous page
2010, ExxonMobil reported cumulative translation adjustments as follows: $1.146 million for 2008; $4.402 million for 2009; and $5.011 million for 2010. All else being equal, ExxonMobil’s translation adjustments caused larger swings in its stockholders’ equity, valued at $147 billion in 2010, that would not have occurred had it used the dollar as its functional currency. For example, in 2008 ExxonMobil reported an ROE of 38.53 percent when it reported a foreign currency translation loss for $6,964 million. The high value of ROE was at least in part caused by the negative translation adjustment into equity account. Chevron reported small translation gains and losses due to the majority of its foreign operations utilizing the dollar as the functional currency. The company reported foreign exchange loss of $744 million in 2009 and $423 million in 2010, which could have a negative effect on the amounts of ROE ratio. As a caveat, it must be noted that other items enter into the calculation of stockholders’ equity for both ExxonMobil and Chevron. Two large items for both companies include treasury stock purchases and other items of comprehensive income related to pension adjustments. However, foreign currency translation adjustments cannot be ignored as one underlying reason for the lack of consistency between equity ratios for the aforementioned companies. The lack of consistency between ExxonMobil and Chevron will only increase going forward as increasing amounts of investments are undertaken in countries such as India, Brazil and Mexico – countries that historically have currencies that are volatile.
AN ISSUE OF INCREASING IMPORTANCE The issue of how to account for translation gains and losses will increase in importance as more and more U.S. firms and companies move production and service operations overseas. Lack of uniformity in accounting for foreign domiciled assets and liabilities will also skew ratios that comprise this element. Given the vast amount of operations invested in developing country markets, where currencies sometimes are fixed or crashed because of currency collapses, care must be taken when analyzing and comparing the finances of firms and companies that report under different methodologies. n FOOTNOTES 1. 2.
Other widely-used ratios that are calculated from STOCKHOLDERS’ EQUITY include market-to-book value, debt-to-equity ratio, and rate earned on common equity.
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In this article, we still make reference to the legacy standards so as to differentiate FASB 52 from its preceding rule, FASB 8. Such result holds true when the dollar’s value generally declines or increases against another currency in a particular period.
Jo Ann M. Pinto, Beixin Lin and Joseph L. LiPari are associate professors at Montclair State University in the School of Business, Department of Accounting, Law & Taxation in Montclair, NJ. Pinto may be reached at pintoj@mail.montclair.edu.
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Feature By John L. Daly, MBA, CPA, CMA, CPIM, Executive Education, Inc.
Metrics are Revolutionizing Corporate Financial Management
Business schools have long compartmentalized various aspects of financial management into separate classes. Our professors likely discussed financial planning, internal control, internal reporting and cost accounting as different topics. Today, advances using metrics are quickly binding these major financial management tasks into an integrated whole. If you want to keep your financial management skills up to date, you need to have a strong understanding of how metrics are causing this to happen. A metric is a performance measurement. At one time, metrics discussions focused around financial ratios. A financial ratio is an old-fashioned type of metric that compares one financial number to another, such as debt/equity or profit/sales. At one time, limited computing capabilities restricted financial analysis to these primitive metrics derived entirely from the general ledger. However, today’s financial management can provide considerably more value by combining both financial and non-financial information.
While analysts usually use financial ratios for entire businesses, companies now commonly use metrics for individual responsibility centers as well. Today, organizations often develop metrics for every major activity. Did a responsibility center do well or poorly last month? If a manager’s budget was $100,000 and he/she spent $120,000, is this a good job or a bad job? To answer these questions, we need to know something about business volume. By calculating cost/unit and benchmarking this metric against other organizations, financial
management can quickly focus performance discussions. For example, hospital departmental reports commonly show cost/laboratory test, cost/ prescription filled, or cost/inpatient day. Benchmarked against other hospitals, the metric allows everyone to know which departments are doing well and which ones are doing poorly. Once an organization begins using metrics, budget discussions change from what a department spent last year, to what it should spend to be efficient. The simple act of benchmarking metrics is a powerful tool, significantly reducing the politics in the budgeting process. While you can calculate a cost/unit for any activity where you can measure output, profit center’s metrics usually also include revenue/unit and gross margin/unit. These simple practices are only the beginning. In addition to financial metrics, today’s performance management employs a high proportion of non-financial metrics, looking at the organization from customer, operational and learning perspectives. First introduced almost 20 years ago, this Balanced Scorecard approach has led to the development of strategy maps tying financial and nonfinancial metrics into a neat, efficient package. Experienced financial managers quickly recognize that metrics have broad financial management uses. For example, the same responsibility center metrics generated for financial planning and control also have powerful cost accounting uses. While a short article cannot make you an expert in these techniques, hopefully it has spurred you to ask, “Do I need to learn more about metrics soon?” n
John L. Daly, MBA, CPA, CMA, CPIM, is a Chelsea, Mich., based management consultant specializing in costing, pricing strategy and pricing model development. He has taught continuing professional education courses since 1995. Earlier in his career, Daly was chief financial officer for a Tier 1 automotive parts supplier. He also has been CFO for a large restaurant chain and COO for a window treatments manufacturer and retailing chain. Daly is the author of Pricing for Profitability, published by Wiley & Sons, Inc., and is a frequent presenter for Executive Education, Inc.
Today’sCPA
| MARCH/APRIL 2012
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CPE Article BY JOSEF RASHTY, CPA
Compensation Earn-Outs and Post Business Combination Earning Surprises
Compensation earn-outs (earn-outs) are contingent post business acquisition expenses in the form of liabilities or equity. The acquirer promises to grant certain awards in a form of cash or equity to certain employees of the acquired entity if they achieve certain performance objectives or if certain conditions are met during the post-acquisition period. Like other forms of contingencies, earn-outs must be measured at fair value at the time of acquisition and be included in the post business combination earnings of the acquirer. It is a misconception that they should be accounted for as part of goodwill in purchase accounting.
CPE Self Study Curriculum: Accounting and Auditing Level: Intermediate Designed For: CPAs in publicly held corporations or public practice Objectives: To clarify and explain the U.S. GAAP guidance regarding the treatment of compensation earn-outs in post-business combinations Key Topics: Earn-outs, stock compensation, contingencies, commitments, and business combinations Prerequisites: None Advanced Preparation: None
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For example, Entity A acquires Entity S and promises certain executives of Entity S that if they remain with the company during the post-acquisition for a certain period of time and if the acquired product line of Entity S generates a certain level of revenues during this period, they will receive some cash bonuses. In this example, Entity A recognizes contingent consideration liability and an expense during the post-business combination period. If the earn-out provision requires issuance of equity awards instead of cash payments, the earn-out contingency may be recorded in equity rather than liabilities. There are instances, however, when equity awards may be recorded as liabilities, as discussed later in this article. This article will address various types of earn-outs and their impact on the financial statements of the acquirer. There are certain types of earn-outs – in particular, equity awards classified as liabilities – that may impact the earnings of the acquirer based on certain circumstances that may not be completely under management’s control. The discussion is followed by a detailed
Today’sCPA
| MARCH/APRIL 2012
illustration reflecting the nuances related to earn-out accounting. The earn-out accounting guidance impacts the acquirer’s acquisition accounting and introduces a level of volatility in the acquirer’s earnings during the post-business combination periods.
absolute or relative stock price hurdle during or at the end of the earn-out period. Therefore, service condition results in explicit service period, whereas performance and market conditions result in implicit and derived service periods, respectively. Earn-outs at the time of acquisition are classified as either liabilities or equity: • In liability-classified earn-outs, the acquirer is obligated to pay cash or transfer other assets to the acquiree. • In equity-classified awards, the acquirer is required to issue its shares to the acquiree. However, the requirement to issue shares may not always result in equity classification.
TYPES OF EARN-OUTS Earn-outs are usually conditioned based on service, performance or market conditions: • A service condition simply stipulates that an employee must remain employed during the earn-out period to be eligible to receive the bonus. • A performance condition, on the other hand, usually targets achievement of certain company internal operational metrics during the earn-out period for eligibility. • A market condition, by contrast, ties the vesting or payout to either an
CONTINGENCIES Contingency losses are conditions, situations or sets of circumstances
EXHIBIT 1 BEG. OF THE 1ST QUARTER
1ST QUARTER
2ND QUARTER 3RD QUARTER
4TH QUARTER
FORFEITURE RATE (*)
—
20%
20%
20%
20%
ACQUIRED PRODUCT LINE QUARTERLY REVENUE
—
$250,000
$200,000
$500,000
300,000
PROBABILITY OF ACHIEVING $1.2 MM REVENUE
—
NOT PROBABLE
NOT PROBABLE
PROBABLE
ACHIEVED
PROBABILITY OF ACHIEVING $1.5 MM REVENUE
—
NOT PROBABLE
NOT PROBABLE
PROBABLE
NOT ACHIEVED
$17.00
$18.00
$15.00
$20.00
NOT PROBABLE
NOT PROBABLE
NOT PROBABLE
NOT ACHIEVED
0.1%
(8.5%)
(10.1%)
(8.1%)
PROBABLE
PROBABLE
PROBABLE
ACHIEVED
STOCK PRICE
$16.00
MARKET CONDITION $30 STOCK PRICE TARGET FUTURE CRUDE OIL PRICES INCREASE (DECREASE)
—
OIL PRICES NOT TO EXCEED BY MORE THAN 20% BLACK-SCHOLES-MERTON VALUATION
$6.00
—
—
—
—
LATTICE METHOD VALUATION
$5.00
—
—
—
—
MONTE CARLO VALUATION
$5.00
$5.00
$5.00
$6.00
$7.00
(*) ENTITY A ESTIMATED AT THE TIME OF ACQUISITION THAT ONE OUT OF THE FIVE EXECUTIVES OF ENTITY S WILL BE TERMINATED DURING THE EARN-OUT PERIOD. DURING THE FOURTH QUARTER SUBSEQUENT TO ACQUISITION, ONE OF THE EXECUTIVES OF ENTITY S LEAVES THE COMPANY BUT THE REMAINING FOUR EXECUTIVES WILL CONTINUE THEIR SERVICES THROUGH THE END OF THE EARN-OUT PERIOD. Today’sCPA
| MARCH/APRIL 2012
involving uncertainty as to possible loss to an entity that will ultimately be resolved when one or more future events occur or fail to occur. The initial classification of earn-outs may significantly impact the acquirer’s post-business combination earnings. Contingent considerations classified as liabilities are measured initially and subsequently at each reporting date at fair value. Any changes in the fair value of contingent consideration in the form of liabilities are recognized in earnings until the contingent consideration arrangement is settled. The contingent awards in the form of equity, on the other hand, if classified as equity are not required to be re-measured at the end of each period. Cash or equity earn-outs are not pre-acquisition contingencies and are not within the scope of Accounting Standards Codification (ASC) 805, Business Combinations, but rather are both subject to ASC 450, Contingencies [f/k/a Financial Accounting Standards Board (FASB) Statement No. 5]. As a result, the acquirer does not recognize earn-out expenses as part of purchase accounting in goodwill. When a loss contingency exists as a result of earn-out arrangements, the likelihood of its incurrence can range from probable (the future event or events are likely to occur) to remote (the chance of the future event or events occurring is slight). The Contingencies Topic (ASC 450) uses the terms probable, reasonably possible (the chance of the future event or events occurring is more than remote but less than likely), and remote, to identify three areas within that range (ASC 450-20-25-1). An entity should estimate the loss from a loss contingency and accrue it by a charge to earnings if both of the following conditions are met (ASC 450-20-25-2): • It is probable that a liability had been incurred at the date of the financial statements. • The amount of loss can be reasonably estimated. continued on next page
39
Earning Surprises continued from previous page
If an amount within a range of loss appears to be a better estimate than any other amount within the range, that amount shall be accrued. When no amount within the range is a better estimate than any other amount, the minimum amount in the range shall be accrued. Even though the minimum amount in the range is not necessarily the amount of loss that will ultimately be determined, it is not likely that the ultimate loss will be less than the minimum amount (ASC 450-20-30-1). After the date of an entity’s financial statements but before those financial statements are issued or are available to be issued, information may become available indicating that an additional or lower amount of cash earn-outs should have been accrued. If so, disclosure may be deemed necessary to keep the financial statements from being misleading. The disclosure should include the following (ASC 450-2050-9): • The nature of the earn-outs adjustment. • An estimate of the amount or range of adjustment.
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CASH EARN-OUTS Accounting for cash earn-outs is relatively simple. They are classified as liabilities in the balance sheet and their fair values are re-measured periodically and the changes are reflected in earnings. The forfeiture estimate of the cash awards impacts the amount of accrual for cash earn-outs at the end of each period. Cash earn-outs can be either service based or performance and market based. If material and the timing and amounts of future cash flows are fixed or reliably determinable (ASC 835-30, Interest – Imputation of Interest), the time value of the projected payouts for the cash earn-outs must be taken into account. Changes in estimate of future cash earn-outs are reflected in earnings periodically and the offsetting account is usually accounts payable accruals.
EQUITY EARN-OUTS CLASSIFIED AS EQUITY A complete and comprehensive discussion of equity awards is beyond
the scope of this article. Generally, equity awards for equity earn-outs have either a requisite service period or are subject to performance and market conditions. A performance condition ties an equity award to a certain performance and operational target, whereas market condition ties the awards to certain stock price hurdle. Therefore, equity-classified awards granted under ASC 718, Stock Compensation, should contain one of the following conditions, as well as certain other requirements: • a market condition, • a performance condition, • a service condition. Valuation and expense amortization of an equity award is based on type, terms and conditions of the awards. If an equity award is indexed to a factor other than market, performance or service conditions, the award should be classified as liabilities. Companies usually use Black-ScholesMerton or lattice (binomial) models for valuation of stock options with service
Today’sCPA
| MARCH/APRIL 2012
conditions. Market and performance based awards, however, may require use of lattice or Monte Carlo valuation techniques. For example, for a market condition, the Monte Carlo valuation model simulates stock prices into the future and on different potential paths (thousands and thousands) of the stock price. Then, the fair value of the instrument is computed by averaging all these paths values. An entity should recognize the fair value of stock compensation in its financial statements over the requisite service period through a charge to compensation cost and a corresponding credit to equity [additional paid-in capital (APIC)] or to liabilities, depending on the classification of the award. It should also be noted that equity awards not only impact the compensation costs but also earnings per share (EPS) and the deferred tax assets (DTA). Performance or market conditions per se do not impact the valuation of equity awards, but rather it is the forfeiture rate estimates that determine the percentage of accrual costs for service and performance or market based equity awards. In fact, performance and market conditions must be viewed as a “special type” of service condition. Therefore, forfeiture rate estimates function similarly for service condition awards as well as for performance and market condition awards.
EQUITY EARN-OUTS CLASSIFIED AS LIABILITIES ASC 718-10-25-6 through 25-19 determine whether an equity award should be classified as liabilities or equity. ASC 718 describes five types of awards that should be classified as liabilities, although certain exceptions exist. 1. An award with conditions or other features that are indexed to something other than a market, performance or service condition. (This article will illustrate the accounting treatment of this type of award.) 2. An award that meets certain criteria of ASC 480, Distinguishing Liabilities from Equity. 3. A share award with a repurchase feature that permits an employee to avoid the risks and rewards that are normally associated with stock ownership, or a share award where it is probable that the employer
Today’sCPA
| MARCH/APRIL 2012
would prevent the employee from bearing the risks and rewards that are normally associated with stock ownership. These provisions are applicable for a reasonable period (at least six months) after the stock issuance. 4. An option or similar instrument that could require the employer to pay an employee cash or other assets in lieu of an option or similar instrument, unless cash settlement is based on a contingent event that is (a) not probable and (b) outside the control of the employee. 5. An option or similar instrument where the underlying stock is classified as a liability. The most significant way that liabilityclassified awards differ from equityclassified awards is that liability-classified awards are re-measured each reporting period at fair value and the result is reflected in earnings. This feature of the liability-classified awards may create earnings volatility for the acquirer during the post-business combination periods. The accounting treatment of liabilityclassified awards is as follows: • Measure the fair value of the award on the grant date and recognize it as compensation. • Re-measure the fair value of the award each reporting period until the award is fully vested. • True up the compensation cost in each reporting period for changes in the fair value and pro-rate for the portion of the requisite service period that service is rendered. • Recognize any additional changes in fair value upon vesting.
ILLUSTRATION Entity A acquires Entity S in a business combination at the beginning of the first quarter. Entity A would like to retain the five top executives of Entity S for a period of at least one year. To entice the executives to continue their employment at Entity A, the company decides to offer them the following earn-out package: 1. Service cash earn-out – Executives will receive a cash bonus of $1,000 if they remain employed one year from the date of acquisition. 2. Performance cash earn-out – Executives will also receive a
3.
4.
5.
6.
performance cash bonus of $1,000 if the revenue from the acquired product line exceeds $1.2 million during the first year subsequent to acquisition. The amount of bonus will not be less than $100 even if the goal is not achieved as long as the executives remain employed one year from the date of acquisition. Service equity earn-out – Executives will receive a grant for 1,000 non-qualified stock options at an exercise price of $16 (the fair market value of the stock at the time of grant). The options will be fully vested upon completion of a year service subsequent to acquisition. Performance equity earn-out (classified as equity) – Executives will receive a grant for 1,000 restricted stock units (RSUs) at an exercise price of $16 (the fair market value of the stock at the time of grant). The RSUs will be fully vested if the revenue from the acquired product line exceeds $1.5 million during the first year subsequent to acquisition. Market condition equity earn-out (classified as equity) – Executives will receive a grant for 1,000 non-qualified stock options at an exercise price of $16 (the fair market value of the stock at the time of grant) if the price of Entity A stock exceeds $30 at the end of the first year subsequent to acquisition. Other condition equity earn-out (classified as liability) – Executives will receive a grant for 1,000 non-qualified stock options at an exercise price of $16 (the fair market value of the stock at the time of grant), which will be fully vested if the percentage of increase in crude oil prices during the first year subsequent to acquisition does not exceed by more than 20 percent.
All cash bonuses and equity awards will be payable to the five executives of Entity S on an equal basis. Exhibit 1 reflects the assumptions used in the above examples. Entity A estimated that one of the executives of Entity S would terminate his services during the earn-out period. During the fourth quarter of the continued on next page
41
Earning Surprises continued from previous page
EXHIBIT 2 1ST QUARTER
2ND QUARTER
3RD QUARTER
4TH QUARTER(*)
TOTAL
ACCOUNT
(1) SERVICE CASH EARNOUT
$200
$200
$200
$200
$800
LIABILITIES (7)
(2) PERFORMANCE CASH EARNOUT
$20
$20
$560
$200
$800
LIABILITIES (7)
(3) SERVICE EQUITY EARNOUT
$1,200
$1,200
$1,200
$1,200
$4,800
EQUITY (APIC)
(4) PERFORMANCE EQUITY EARNOUT
$0
$0
$9,600
($9,600)
$0
EQUITY (APIC)
(5) MARKET CONDITION $30 STOCK PRICE
$0
$0
$0
$0
$0
EQUITY (APIC)
(6) OTHER CONDITION CRUDE OIL PRICE
$1,000
$1,000
$1,600
$2,000
$5,600
LIABILITIES (8)
earn-out period, one of the five executives actually left Entity A, and as a result the estimated forfeiture reserve is the same as the actual forfeited amount and no cumulative catch-up adjustment is required for forfeiture true up. Exhibit 2 reflects the calculation of accrual in each period and the corresponding classification of earn-outs into either equity or liabilities.
CLOSE ANALYSIS REQUIRED
(1) $1,000 bonus less 20 percent forfeiture estimate = $800. There is no requirement for cumulative catch-up adjustment at the end of the earn-out period. (2) Entity A accrues the minimum amount for the first and second quarters ($100 less 20 percent forfeiture rate = $80). The $800 performance bonus ($1,000 less 20 percent expected forfeiture rate) was not probable in the first and second quarters but became probable in the third quarter and as a result, Entity A made a cumulative catch-up adjustment for the first two quarters of $360 ($400 less $40 prior quarters accrual) plus the third quarter bonus of $200 = $560. (3) 1,000 options less 20 percent forfeiture estimate times $6 (Black-Scholes-Merton value) = $4,800. The valuation occurs at the beginning of the period and is ratably amortized for four quarters. The valuation does not change or gets adjusted in each period. (4) $1000 RSUs less 20 percent forfeiture rate at $16 = $12,800. The performance bonus was not probable in the first and second quarters, but became probable in the third quarter. Therefore, there is a cumulative adjustment $6,400 in the third quarter plus $3,200 quarterly charge. The whole amount will get reversed in the fourth quarter since the performance condition was not achieved. (5) Entity A uses Monte Carlo simulation for valuation of these options but does not consider the vesting of options probable at any time; therefore, no accrual is required at the end of the different earn-out periods. (6) 1,000 options less 20 percent forfeiture estimate times the corresponding Monte Carlo valuation in each period. The expense is trued up at the end of third and fourth quarters due to different valuations. In this example, the liability is measured at fair value at the end of each period (unlike examples 3 and 4 where the fair value measurement occurs only at grant date). (7) These amounts will be offset against cash at the end of the period. (8) This amount will be offset against equity (APIC) at the end of the period. (*) Since one of the executives of Entity S is terminated during the fourth quarter, no cumulative adjustment for forfeiture true up is required in this period.
Earn-outs during the post-business combination are very common and the acquirer often uses them to entice the key employees of the acquired company to continue their services during the transition period. These earn-outs are not reflected in goodwill as part of an acquisition but are considered post-acquisition expenses. Therefore, they are not subject to ASC 805, Business Combinations, but rather they are covered under ASC 405, Contingencies, and ASC 718, Stock Compensation. Management exercises significant judgment in determining the probability of these payments and their applicable forfeiture rates. Earn-outs could be in the form of cash or equity awards. The classification of equity awards in the form of equity or liabilities and the valuation of such awards also require exercise of significant management judgment and estimates. Earn-out arrangements in an acquisition require close analysis. Determining the fair value of the equity awards at the outset is very important and could be challenging. Regularly updating the fair value of earnouts classified as liabilities could result in earnings surprises during the post-business combination periods. Strategic navigation of the acquisition through the accounting requirements to obtain equity treatment for earn-outs can be difficult. Acquirers who do not focus on these matters when negotiating the terms and conditions of an acquisition may be surprised by the impact of earnouts on their financial reporting, and the unintended financial volatility during the post-business combination periods. n
Josef Rashty, CPA, has held managerial positions with several publicly held technology companies in the Silicon Valley region of California. He is a member of the Texas Society of Certified Public Accountants and can be reached at jrashty@sfsu.edu.
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Today’sCPA
| MARCH/APRIL 2012
CPE Quiz Today’s CPA offers the self-study exam below for readers to earn one hour of continuing professional education credit. The questions are based on technical information from the preceding article. Mail the completed test by April 30, 2012, to TSCPA for grading. If you score 70 or better, you will receive a certificate verifying you have earned one hour of CPE credit – granted as of the date the test arrived in the TSCPA office – in accordance with the rules of the Texas State Board of Public Accountancy (TSBPA). If you score below 70, you will receive a letter with your grade. The answers for this exam will be posted in the next issue of Today’s CPA. Answers to last issue’s self-study exam: 1. d 2. c 3. a 4. a 5. b 6. b 7. d 8. c 9. a 10. b PARTICIPATION EVALUATION (Please check one.) 5=excellent 4=good 3=average 2=below average 1=poor 1. The authors’ knowledge of the subject is: 5__ 4__ 3__ 2__ 1__. 2. The comprehensiveness of the article is: 5__ 4__ 3__ 2__ 1__. 3. The article and exam were well suited to my background, education and experience: 5__ 4__ 3__ 2__ 1__. 4. My overall rating of this self-study exam is: 5__ 4__ 3__ 2__ 1__. 5. It took me___hours and___minutes to study the article and take the exam. Name _______________________________ Company/Firm________________________ Address (Where certificate should be mailed) ___________________________________ City/State/ZIP_________________________ Enclosed is my check for: ___ $10 (TSCPA member) ___ $20 (non-member) Please make checks payable to The Texas Society of CPAs. Signature____________________________ TSCPA Membership No._______________ After completing the exam, please mail this page (photocopies accepted) along with your check to: Today’s CPA; Self-Study Exam: TSCPA CPE Foundation Inc.; 14651 Dallas Parkway, Suite 700; Dallas, Texas 75254-7408. TSBPA Registered Sponsor #260.
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Compensation Earn-Outs and Post Business Combination Earnings Surprises BY JOSEF RASHTY, CPA 1 Compensation earn-outs
7 A loss contingency must get
are contingent post-business acquisition expenses that are reflected:
reflected in financial statements if:
A. in goodwill. B. in the acquiree’s financial statements prior to business combination. C. in the acquirer’s financial statements post-business combination. D. none of the above. 2 Earn-outs can be in the form
of equity only. A. True B. False 3 Equity earn-outs
are reflected in: A. equity. B. liability. C. either equity or liability. D. goodwill. 4 Earn-outs are
conditioned based on: A. service. B. performance. C. market. D. all of the above. 5 Cash or equity earn-outs are:
A. pre-acquisition contingencies. B. post-acquisition contingencies. C. not contingencies. D. partially pre-acquisition contingencies.
A. it is probable. B. it is estimable. C. it is both probable and estimable. D. it is reasonable. 8 An equity award should have
one of the following conditions, as well as certain other requirements: A. service B. market C. performance D. all of the above 9 Companies usually use Black-Scholes-Merton or lattice (binomial) models for valuation of stock options with ________ conditions.
A. service B. market C. performance D. performance or market 10 The liability awards granted
as part of the earn-outs must be re-measured periodically and the changes in their fair values should be reflected in the statement of operations or income. A. True B. False
6 Cash earn-outs are
classified as: A. liabilities. B. equity. C. goodwill. D. prepayments. 43
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Today’sCPA
| MARCH/APRIL 2012
Accounting Broker Acquisition Group “Maximize Value When You Sell Your Firm” A Local Texas Corporation You Sell Your Firm Only Once! Will You Leave Money on the Table? Free Report: “Discover the 12 Irreversible Fatal Errors You Must Avoid When You Sell Your Firm!” We sell small & large CPA firms … 100 percent of our acquisition brokers are “Ex-Big Four” CPAs! We are the only firm of our type in the nation that can make this claim! Call now for your Free Report! 800-419-1223 X101 or send a quick e-mail to maximizevalue@accountingbroker.com
Services Need assistance with a Client’s Texas Sales Tax Issue/Problem? Audits? Refunds? Not permitted? We were trained by and worked for the Comptroller of Public Accounts. We know Sales Tax Law and Audit procedures. Your client has options. Michael J. Robertson, CPA Web page: Texas-SalesTax.com 817-478-5788 Fax: 817-478-8779
Software For Sale PROVEN OIL and GAS ACCOUNTING SYSTEM keeps getting better. Fast, easy to use. Developed for PC/network by CPA. Over 2,000 users. G/L, A/P, depletion, payroll, joint interest billing, revenue distribution, document imaging, and production management. WolfePak Software; 2901 S. First St., Abilene, TX 79605. 325-677-1543 or 800-299-1543. E-mail: sales@wolfepak.com.
TSCPA offers opportunities for members and non-members to advertise in the Classifieds section of Today’s CPA magazine. TO REQUEST A CLASSIFIED AD contact Donna Fritz at dfritz@ tscpa.net or 800-428-0272, ext. 201 or in Dallas at 972-687-8501; fax 972-687-8601. Or write to: TSCPA, Today’s CPA Classified Ads, 14651 Dallas Pkwy, Suite 700, Dallas, TX 75254-7408. ALL CLASSIFIED ADS MUST BE PAID IN ADVANCE. MASTERCARD, VISA, AMERICAN EXPRESS, PERSONAL AND BUSINESS CHECKS ARE ACCEPTED. PLEASE CONTACT DONNA FRITZ FOR RATES AND MORE INFORMATION.
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CPE Calendar TSCPA Continuing Professional Education Programs APRIL MONDAY
TUESDAY
WEDNESDAY
THURSDAY
FRIDAY
1
2
3
4
5
8
9
10
11
12
15
16
17
18
19
22
23
29
30
Personal and Professional Ethics for Texas CPAs Houston CPE Credits: 4
Technology Essentials for Today’s CPA Corpus Christi CPE Credits: 8
24
25 Personal and Professional Ethics for Texas CPAs Dallas CPE Credits: 4
2
3
4
10
11
17
18
Texas Property Taxation Dallas CPE Credits: 8
26
MAY 1
7 Employee Benefit Plans: Audit and Accounting Essentials Dallas CPE Credits: 8 14 Personal and Professional Ethics for Texas CPAs Austin CPE Credits: 4 Compilation and Review Annual Update: A Seminar Designed for Smaller Firms Dallas CPE Credits: 8 Audits of 401(k) Plans San Antonio CPE Credits: 8 Non-Profit Organizations Conference Dallas CPE Credits: 18
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8 Employee Benefit Plans: Audit and Accounting Essentials Houston CPE Credits: 8 15 Audits of 401(k) Plans Austin CPE Credits: 8 Financial Statement Presentation and Disclosures – A Realistic Approach Fort Worth CPE Credits: 8 Personal and Professional Ethics for Texas CPAs Houston CPE Credits: 4 22
Financial Statement Presentation and Disclosures – A Realistic Approach San Antonio CPE Credits: 8
9
Texas Property Taxation San Antonio CPE Credits: 8
Business Fraud SATELLITE BROADCAST Various CPE Credits: 8
16
29
Personal and Professional Ethics for Texas CPAs Dallas CPE Credits: 4 FASB Review for Industry: Targeting Recent GAAP Issues Houston CPE Credits: 8
Audits of 401(k) Plans Fort Worth CPE Credits: 8
23
Annual Update for Controllers Dallas CPE Credits: 8 28
Energy Conference Austin CPE Credits: 18 FASB Review for Industry: Targeting Recent GAAP Issues Dallas CPE Credits: 8
Audit Workpapers: Documenting and Reviewing Field Work Houston CPE Credits: 8
Texas Property Taxation Fort Worth CPE Credits: 8
2012 Texas CPA Technology Conference Dallas CPE Credits: 16
30 Personal and Professional Ethics for Texas CPAs Odessa CPE Credits: 4
24 Annual Update for Controllers CPE Personal Houston CPE Credits: 8 Assistant
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Be sure to use your CPE Personal Assistant on the TSCPA website. It’s an online tool TSCPA members can use to track, maintain and update their CPE records. You can access this tool by going 31 to the CPE area of the TSCPA website (tscpa.org) and clicking on the Wizard.
Compilation and Review Annual Update: A Seminar Designed for Smaller Firms, Houston CPE Credits: 8
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Today’sCPA
| MARCH/APRIL 2012
What CaN You ExpECt
FRoM TSCPA BESIDES
Newest Member Benefit Discount Sports Tickets for TSCPA Members Currently, TSCPA has arranged deals with the San Antonio Spurs, Houston Rockets and Dallas Mavericks. To check out the discounts, please visit the Member Benefits Marketplace at tscpa.org. Stay tuned for more ticket packages on the way.
Becker CPA Review Direct Bill Program Save $600 per staff member off the cost of the full four-part CPA review course www.beckercpa.com/tscpa
Texans Credit Union Full service financial institution 800-843-5295, www.texanscu.org
CPA Exam Review Discounts For a complete list of exam review discounts available, visit the Member Benefits Marketplace at tscpa.org.
FedEx Shipping Discounts on select FedEx shipping services Passcode: 4R9TJP. 1-800-MEMBERS
InterCall
Personal and Career Development
Paychex Partner Program Payroll processing. 877-264-2615
Exclusive rates on audio and web conferencing services.1-800-636-2377
Cutting-Edge Professional Information and CPE
ProPay
Subscription Services
Discounts on credit card processing 888-227-9856
Discounts on magazine subscriptions 800-603-5602
Enhancing the Image of the CPA Profession
Tech Depot
CareerBank.com
Recruiting New Members to the Profession Protecting the CPA Certificate You can expect special deals and discounts
Discounts on computer and technical products 888-289-6424
Online career center for accounting and finance professionals. tscpa.careerbank.com
Office Depot
Framing Success
Discounts on office supplies. 201-253-5215
FedEx Office Discounted pricing on most services 646-302-9242
Infinet, Inc. AntiSpam/AntiVirus Protection 214-446-0089
Accurate Forms & Supplies Discounts on computer supplies and tax forms 800-777-0072
Nova Information Systems Discounts on payment processing services 800-546-1831
Monroe Systems for Business Discounts on calculators and other supplies www.monroe-systems.com
Bank of America TSCPA credit card programs – Platinum MasterCard, CPA logo and other benefits. 800-932-2775
Discounts on professional framing of all certificates. 800-677-3726
Marsh Affinity Group Services TSCPA Insurance Trust offering a variety of insurance plans, including TSCPA-sponsored professional liability insurance. 800-262-7689
Liberty Mutual Homeowners and auto insurance. ID number: 7026. 800-524-9400
AXA Equitable TSCPA Members’ Retirement Program – Members are waived $25 enrollment fee. 800-523-1125, www.axa-equitable.com/mrp
Hertz Discounts on car rentals - ID number: 1041643 800-654-2200, www.hertz.com
La Quinta Inns and Suites Ten percent off standard room rates. Discount code: TXSCPA. 800-531-5900, www.lq.com
Quest Membership Program Save 50 percent on your next hotel bill 800-STAY450
Please visit the Member Benefits Marketplace at tscpa.org for complete information and links to each of our Member Discount Programs.
Questions? Contact the Member Benefits Administrator at 1-800-428-0272 ext. 216 or craffetto@tscpa.net.
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