Promises enlightened

By Nancy Estey
Illustration: Jason Schnieder

New disclosure requirements for pensions and other employee future benefits address transparency concerns

A lot of information about future promises to employees such as pension and post-retirement benefits is already required in financial statements. However, some financial statement users as well as numerous articles, reports and discussions in accounting and actuarial circles, both domestically and abroad, have argued that this information is not as complete or as transparent as it could, and probably should, be and may even be misleading. Overall, the actuarial measurement of employee future benefits obligations arising from defined benefit plans is complex. The accounting for employee future benefits in the financial statements of entities that sponsor such plans is further complicated by (smoothing) adjustments intended to allocate costs to the periods in which employee services are rendered.

These concerns, combined with a "perfect storm" environment — low interest rates and poor stock market performance — have placed increased pressure on accounting standard setters to quickly revisit the reporting requirements in this area. In March, the Accounting Standards Board (AcSB) released revisions to the disclosure requirements in Handbook Section 3461, "Employee future benefits."

The above-noted concerns as well as developments at the US Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) led the AcSB to undertake an employee future benefits disclosure project in the summer of 2003. In early 2003, the FASB initiated a limited-scope disclosures project about pension plans and other post-retirement benefit plans to address concerns of users of financial statements about their need for more information about pension plan assets, obligations, cash flows and net benefit cost. In June 2002, the IASB commenced a limited convergence project to build on the principles common to most existing national standards on employee benefits and to seek improvements to International Accounting Standard IAS 19, "Employee benefits," in certain areas, including disclosures. As a result of its disclosures project, in late 2003 the FASB released a revised standard, Statement of Financial Accounting Standards No. 132 (revised 2003), Employers' Disclosures about Pensions and Other Postretirement Benefits [SFAS 132 (revised 2003)].

In addition to the FASB and IASB developments, in June 2003 the AcSB obtained valuable input from a roundtable discussion with analysts and from a think-tank in late summer of 2003. The Accounting Standards Oversight Council discussed this topic in July 2003 and supported the AcSB's addition of a disclosure project.

       The AcSB considered whether any quick fixes should be made to the measurement and/or recognition aspects of Section 3461. While agreeing that a re-evaluation of changes affecting the measurement and recognition of costs and obligations associated with employee future benefits would be beneficial, it concluded such a re-evaluation was beyond the scope of the current project and would best be done in conjunction with other accounting standard-setters internationally. (At the time of writing, the FASB planned to discuss the possibility of addressing pensions jointly with the IASB.)

On October 1, 2003 the AcSB issued an Exposure Draft, "Employee future benefits — additional disclosures," proposing amendments to the disclosure requirements of Section 3461. After considering comment letters and consultations with users and preparers, the AcSB issued final revisions to the section in March 2004.

The AcSB decided additional disclosures would enable increased understanding by users of the effects of defined benefit plans on the financial statements — to shed light on a complex area. However, it noted that disclosure requirements for employee future benefits are already extensive, resulting in a lengthy note in most financial statements. The AcSB wanted to ensure that any additional or revised disclosure requirements would provide significant benefits to users. It was concerned that increasing the quantity and complexity of the disclosures as a whole might reduce their usefulness and value. It noted that many companies have multiple plans and would provide the disclosures on a consolidated basis, which would limit the meaningfulness of some potential disclosures. The AcSB was also cognizant of the cost implications for entities, particularly those with multiple plans.

Most respondents acknowledged the need for improved disclosures and increased transparency relating to accounting for employee future benefits, and supported the AcSB's efforts to enhance the usefulness of the information presented through a disclosures-only project. However, concerns were raised that additional disclosures might contribute to disclosure overload; that the costs of compiling some of the proposed disclosures would be significant; that some of the proposed disclosures would be of limited value to shareholders and analysts, and could even be confusing in some situations. In redeliberating the proposals, AcSB members expressed a desire to refrain from adding tangential information to clutter or detract from an already long note and asked, "What do we really need?"

In general, the AcSB strives to harmonize Canadian standards with US GAAP, unless there are specific Canadian circumstances to justify a difference. (Harmonization implies that any justifiable impediments to complying with US standards are removed, not that the standards are identical.) The AcSB decided not to require all the disclosures in SFAS 132 (revised 2003) and to include certain disclosures that the FASB did not. Canadian entities that wish to comply with US GAAP, in addition to Canadian GAAP, can do so by including certain additional disclosures in their Ca- nadian GAAP financial statements.

The AcSB retained the original disclosure requirements of Section 3461, as well as added new requirements, including:

• identification of key disclosure objectives for employee future benefits, as the AcSB felt that these objectives, together with the guidance in Handbook Section 1400, "General standards of financial statement presentation," should be useful in determining an entity's specific employee future benefits disclosures and in understanding why specific disclosures are required;
• strengthening and clarifying the accounting policy note disclosure requirements in response to input from financial analysts and others about the opaqueness of many entities' accounting policy note disclosures for employee future benefits;
• a description of the type of plans arguing that users would benefit in understanding multiple plans and plans in multiple countries, and it was a natural starting point for the employee benefits note;
• the date used to measure the plan assets and the benefit obligations, as users had noted the importance of disclosing such a date given that the measurement date can be measured up to three months prior to the balance sheet date;
• the effective date of the last (as well as the next required) actuarial valuation for funding purposes to allow users to compare the timing of the valuation to the timing of market upswings or downturns — keeping in mind that actuarial valuations are only required every three years in Can- ada (or in some circumstances more often), unlike every year in the US;
• the costs recognized in the period showing separately the costs incurred in the period (such as current service costs, actual gains and losses on plan assets, and actuarial gains and losses for the period) and the accounting adjustments to allocate costs to different periods so as to recognize the long-term nature of employee future benefits, which will make the effects of smoothing more clearly visible; 
•  the balance sheet classification of the amount recognized as an asset or liability to enable users to determine which balance sheet line item would change if the asset or liability changed;
• a reconciliation of the off-balance sheet accrued benefit obligation to the amount reported on the balance sheet as an asset or liability, rather than providing the reconciling elements in isolation; 
• the total cash amount initially recognized in the period as paid or payable for that period for employee future benefits to provide users with the total cash outflow from the entity in respect of those benefits;
• the actual allocation of plan assets for each major category of plan assets, in response to a need for information on plan assets to forecast future plan performance — major categories include equity securities, debt securities and real estate;
• separate disclosure of the discount rate used to determine the benefit cost (the discount rate for the prior year) and the discount rate used to determine the accrued benefit obligation (the discount rate at the end of the period) in order to clarify the discount rate used to calculate these key amounts. Also, these rates should be presented in tabular form, along with other significant assumptions; and
• the effects of a one-percentage point increase/decrease in the healthcare cost trend rates on total service and interest costs as well as on the accrued benefit obligation as a result of the significance of healthcare costs and their degree of uncertainty.

The AcSB provides relief from certain disclosures for non-public entities. And  the additions go beyond these annual requirements to address users' concerns about annual information being up-to-date — disclosure in interim financial statements of the benefit costs for the current interim period and year to date. (For a comparison to SFAS 132 [revised 2003], please refer to "Comparison of disclosures about employee future benefits," included in the Background Information and Basis for Conclusions document, "Employee future benefits — additional disclosures.")

With the issuance of the revisions to the disclosure requirements of Section 3461, entities will likely want to meet with their accountants and actuaries to assess any additional information that they may need to meet these new requirements, which are effective for fiscal years ending on or after June 30, 2004, with earlier adoption encouraged. Financial statement users will likely eagerly await entities' adoption of these new requirements to benefit from increased transparency in the reporting for employee future benefits.