5/4/2018 FASB Proposal Looks to Trim ‘Hedge Accounting’ Requirements - WSJ

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CFO JOURNAL

FASB Proposal Looks to Trim ‘Hedge

Accounting’ Requirements
Agency would give companies more time to complete documentation, expand treatment to wider range
of circumstances

A truck drives past a Archer Daniels Midland Co. plant in Peoria, Ill. Commodity companies such as ADM stand to bene it from a
change in Financial Accounting Standards Board rules on hedge accounting. PHOTO: DANIEL ACKER BLOOMBERG NEWS

By Tatyana Shumsky
Updated March 27, 2017 10 37 a.m. ET

One of the most Byzantine areas of corporate accounting is about to get simpler.

The Financial Accounting Standards Board is putting the finishing touches on new rules
governing how companies report their hedging activities, such as using futures and options to
insulate profits from currency or interest-rate swings.

Current rules allow companies to delay recording the economic impact of a hedge on their
income statement until the same period as the transaction involved is completed. This typically
results in less volatile earnings quarter to quarter.

The FASB’s proposal aims to give companies more time to meet the strict documentation
requirements needed to qualify for hedge accounting. The new rules also expand its application
to a broader range of circumstances, simplify the way hedges are recorded and offer relief for
companies that made small errors in applying the rules.

At stake for companies is the treatment of futures, options and other derivatives worth billions
of dollars that don’t currently qualify for hedge accounting.

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5/4/2018 FASB Proposal Looks to Trim ‘Hedge Accounting’ Requirements - WSJ

“It will simplify the documentation process, saving us time and money.” said Thomas Timko,
vice president, controller and chief accounting officer at General Motors Co.

GM uses futures and other derivatives to hedge its foreign currency, commodity and interest-
rate risk, but not all of these qualify for hedge accounting. At the end of 2016, GM held
derivatives not designated as hedges with $47.7 billion in total notional value, a measure of the
amount covered when the hedge is triggered. The fair value of these contracts was insignificant
at the end of 2016, according to regulatory filings.

The logo of General Motors Co. on its world headquarters in Detroit. GM is one of roughly three dozen companies backing
FASB’s e ort to ease the requirements for hedge accounting. PHOTO: BILL PUGLIANO GETTY IMAGES

GM is one of roughly three dozen companies, including Verizon Communications Inc. and
Archer Daniels Midland Co. , that have thrown their support behind the effort to make hedge
accounting easier. The new rules are expected to be completed this summer and become
effective as early as 2018.

“There’s still going to be rules, there’s still going to be hurdles, but it’s not going to be as
onerous as it is now,” said Rob Royall, partner in financial accounting and advisory services
practice at Ernst & Young.

The commodities sector is expected to benefit from the proposal. When a company such as
Archer Daniels Midland agrees to mill wheat into flour and sell it to its customers in the future,
the company might lock in the wheat price using futures, as no flour futures exist.

Current rules require companies like ADM to hedge the total price of its flour sales contract,
without singling out the wheat-price risk on its own, and so such hedges may not qualify for
hedge accounting treatment.

Changes in the price of derivatives that don’t qualify as hedges must be recorded in the income
statement each quarter, which can result in large earnings swings.

The result is that ADM’s losses on derivatives not designated as hedges reduced earnings by
$352 million, to $1.28 billion in 2016. The company held derivatives not designated as hedges
with a fair value of $1.26 billion at the end of 2016.

By contrast, the economic impact of qualified hedges for expected sales or purchases is only
recognized in the income statement at the same time as the relevant transaction is concluded,
like the delivery of flour to the customer.

The proposal “would allow ADM increased ability to adopt accounting models that reflect the
way risk is actually managed,” said John Stott, corporate controller and principal accounting
officer, in a letter to FASB.

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5/4/2018 FASB Proposal Looks to Trim ‘Hedge Accounting’ Requirements - WSJ

Still, several companies said the changes could have gone further. Deutsche Bank AG called for
better alignment between U.S. and international hedge accounting guidelines in a comment
letter, saying that “significant differences” between the two impede comparability of financial
statements.

‘There’s still going to be rules, there’s still going to be hurdles, but it’s not going to be as onerous
as it is now. ’
—Ernst & Young’s Rob Royall

All companies that attempt hedge accounting under the new rules will benefit from having to
do less math, said Mark Scoles, partner in charge of the accounting principles group at Grant
Thornton. For example, FASB won’t require companies to measure and record any discrepancy
in how effective the hedge is at mitigating the relevant risks each quarter, as it currently does.

“If they’re applying hedge accounting now, they’re doing a lot of math every quarter,” Mr.
Scoles said.

FASB is making it easier to avoid restatements for companies attempting the simpler, shortcut
hedge accounting method. Currently a small error would trigger a restatement, but the new
rules allow companies to avoid this if their hedges are still effective.

“If you missed something, or there was a misunderstanding of the fact pattern, you had an
error on your hands,” said Peter Kwan, executive director of accounting at Verizon, adding that
the new rule gives companies a safety net. “You don’t necessarily have to go back and blow up
the accounting.”

Write to Tatyana Shumsky at tatyana.shumsky@wsj.com

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