We previously blogged about the recent AICPA conference. At the conference, representatives from the Office of Chief Accountant also shared some views regarding the discontinuation of LIBOR. The Staff of the OCA joined in the July 2019 statement with the SEC Staff from the Division of Corporation Finance, the Division of Investment Management and the Division of Trading and Markets on LIBOR discontinuation. Since, the Staff of the OCA has been following emerging accounting issues related to LIBOR discontinuation. In particular, OCA Staff has been providing guidance relating to the treatment of cash flow hedge accounting involving LIBOR-based interest payments. The Staff pointed out that until the FASB accounting standards update relating to reference rate reforms become effective, the prior Staff guidance on testing the probability and the effectiveness of cash flow hedges that involve LIBOR-based interest payments remains relevant.
The speaker also addressed accounting for amendments to preferred stock that have periodic dividend payments based on a LIBOR rate. Specifically, the fact pattern that was addressed by the OCA Staff in a recent interpretation, which may have broad applicability, involved perpetual preferred stock instruments that are equity in legal form and classified in permanent equity by the issuer. For at least a portion of the life of the instrument, dividend payments on the instrument are based on a LIBOR rate. The sole business purpose of the amendments undertaken by the issuer will be to designate a replacement dividend rate index for LIBOR (in this case, the Secured Overnight Financing Rate – “SOFR”) upon the cessation of LIBOR. No cash will be exchanged in connection with the amendment of the terms. The first question that OCA Staff considered was whether the change represented a modification or extinguishment. The Staff did not object to the issuer applying a qualitative approach, in which the issuer assessed the business purpose for the amendments and the effect of the changes on an investor’s economic interests, which led to a conclusion that the amendments should be treated as a modification. The OCA Staff also addressed whether there was any accounting recognition on the modification date, which would result in the recognition of an increase in fair value of the modified instrument upon modification. Given that the modification was made solely to address LIBOR cessation and that the market is aware of this development and likely is pricing in the effect of LIBOR cessation for any LIBOR-based instrument, the fair value immediately prior to the modification would already consider the impact of the anticipated cessation event, minimizing any potential increase in fair value as a result of the modification the sole business purpose of which was to amend fallback language. The Staff did not object to the conclusion by the issuer that there is no recognition of any change in fair value as a result of the modification in the fact pattern presented.