David Ellerback Partner, Audit Scott Heiser Manager, Audit April 24, 2007 POWER AND UTILITIES A U D I T L I N E O F B U S I N E S S FASB Statement No. 146, Accounting for Costs Associated with Exit or Disposal Activities

2 FAS 146- Costs Associated with Exit or Disposal Activities- Presentation Outline Introduction Initial and subsequent Recognition and Measurement Determining One-time Termination Benefits from Ongoing Plans Contract Termination Costs Income Statement Classification Reporting and Disclosure Questions Appendix II: Decision Tree Example

3 Costs Associated with Exit or Disposal Activities - Introduction Types of Costs that FAS 146 Addresses: FAS 146 Term Examples One-Time Termination Benefits Severance payments not part of ongoing plan Contract Termination Costs Lease terminations, outsourcing contract terminations Other Associated Costs Facility closing costs, employee relocations

4 Costs Associated with Exit or Disposal Activities- Initial Recognition and Measurement Liability for disposal activity recorded when it is: Incurred, and Can be measured at fair value For recognition, liability must meet criteria of Concepts Statement No. 6 Commitment to an exit strategy is not sufficient to record a liability Liability is measured at fair value Expected cash flow approach is preferable Subsequent changes in liability are adjusted at the initial credit-adjusted risk free rate and are reported in the same line item as initial recognition.

5 One Time Termination Benefits & Future Service Requirements Future Service Requirements Affects timing of recognition and measurement Requirement exists if employees: Are required to render service until terminated to receive benefits, and Will be retained to render service beyond the minimum retention period Cannot exceed legal notification period or 60 days No future service requirements Employees entitled to benefits regardless of when they leave & record liability on communication date, at its fair value at that date

6 One-time Termination Benefits Future Service Requirement Future service required Measure liability at communication date, based on future fair value at termination date Recognize ratably over period of future service Subsequent measurement adjustments Change in estimates – reflected as cumulative effect

7 Assumptions: One time benefits meet paragraph 8 criteria on 12/31/02 Company offers upper management: Each employee who works for the next 12 months will receive $25,000 Payment made at end of the 12 th month (the termination date) Total estimated payment $400,000 (16 employees * $25,000) FAS 146 – Measurement Example Upper Mgmt Question A: $400,000 expense at the termination date (12/31/03) B: $33,000 expense each month during the 12-month service period C: $400,000 expense at date management approves and communicates the plan (12/31/02) In what periods should the company recognize the benefit liability and the related expense?

8 Answer: Plan requires future service Measure liability at communication date based on future fair value at termination date No discounting because payment due at termination date Recognize compensation expense over service period $400,000 / 12 months= $33,333 per month FAS Measurement Example Upper Mgmt Answer

9 Assumptions: Company offers the following one-time benefits: Each employee who works the next 60 days will receive $5,000, paid 6 months after communication date Total expected payment - $600,000 (120 employees * $5,000) Assumed credit-adjusted risk-free rate - 8% FAS 146 – Measurement Example Question If the Company offers to pay $5,000 6 months after the communication date, how would the Company measure and recognize the termination liability? A: $600,000 expense at the communication date (12/31/02) B: $577,000 expense at the communication date (12/31/02) and accretion expense of $23,000 between the communication and payment date (06/30/03) C: $600,000 expense at termination date (02/28/03)

10 Future service period equals minimum retention period Liability measured and recognized at fair value at communication date - $577,000 Recognize accretion expense of $23,000 from communication date through payment date FAS Measurement Example Answer

11 FAS 146- Ongoing Benefit Arrangement Indicators of Formal, Contractual & Substantive Plan Contractual: Statutory requirements or union contract FAS 88 – when probable and estimable Formal: Formal benefit plan with some specificity Widely distributed HR policy describes termination benefits FAS 112 – when FAS 43 criteria met, otherwise when probable and reasonably estimable, FV optional If benefits accumulate (increase with years of service), accrue over service period If benefits do not accumulate – accrue under FAS 5, when probable and estimable

12 One-Time Termination Benefits vs. Ongoing Benefits FASB Staff Position FAS 146-1: “ Determining Whether a One-time Termination Benefit Offered in Connection with an Exit or Disposal Activity is, in Substance, an Enhancement to an Ongoing Benefit Arrangement” - Issued to help address questions raised regarding one-time benefits and FAS Issued to help address questions raised regarding one-time benefits and FAS 146

13 Ongoing Benefit Arrangements states enhancement to ongoing benefit arrangement should: 1- Represent revision to ongoing/existing arrangement or plan 1- Represent revision to ongoing/existing arrangement or plan 2- Benefit is not limited to a specific termination or specified future event 2- Benefit is not limited to a specific termination or specified future event In absence of a formal plan, past practice of paying benefits can also be evaluated if there is in essence a substantive plan in determining whether benefit is on ongoing enhancement or one time benefit If determined to be an ongoing benefit enhancement or arrangement, the expense and liability should be recognized subject to FASB 87, 88, 106, and 112

14 FAS 146- Ongoing Benefit Arrangements- Benefit Enhancements One-time benefit enhancements to ongoing arrangements Issue 94-3 Benefit enhancements were bifurcated and accounted for under Issue 94-3 Statement 146 Benefit enhancements should be accounted for under existing pronouncements (i.e. FASB 87, 88, 105, 106, 112 or 146)

15 FAS 146- Contract Termination Costs Costs to terminate a contract before the end of its term Record a liability at the notification date for the fair value of the costs to terminate the contract Costs that will be incurred without economic benefit Record a liability and measure at its fair value when the entity ceases to use the right that is conveyed by the contract Possible to have one contract termination that has components in each category Fair value of costs that will be incurred without economic benefit include “reasonably obtainable” sublease rentals

16 FAS 146 – Contract Termination Costs Question A: Recognize fair value of penalty of $1 million at cease use date (12/31/03) and recognize lease rentals for 2003 as incurred. B: Recognize fair value of penalty of $1 million and lease rentals for 2003 at cease use date (12/31/03). C: Recognize fair value of penalty of $1 million at notice date (12/31/02) and recognize lease rentals for 2003 as incurred. D: Recognize fair value of penalty of $1 million and lease rentals for 2003 at notice date (12/31/02). Assumptions: -Company has 5 years remaining on lease-1 year notification period -Cancellation penalty of $1 million-Notice given to terminate - 12/31/02 -Vacate property - 12/31/03 How should the company measure and recognize the costs to terminate the contract before the end of it’s term?

17 Recognize fair value of liability for cancellation penalty of $1 million At notice date of 12/31/02 Lease rentals for 2003 are recognized as incurred Assumptions: Same facts Except Vacate property – July 31, 2003 FAS 146 – Contract Termination Costs Answer

18 Example 1: 10 year lease, commit to plan after year 5, company not terminating lease, company will cease using property one month after committing to plan, 6 months to sublease property Answer 1: Include sublease payments in fair value measurement when they can be reasonably obtained – 6 months after cease use date FAS 146 – Contract Termination Costs Reasonably Obtainable Sublease – Ex. 1

19 Example 2: Same lease, except company believes it is unlikely can sublease Answer 2: Fair value measurement would not include sublease payments (judgmental) Example 3: Same lease, except company decides it will not sublease space, but if did sublease could do so within 2 months Answer 3: Include sublease payments in fair value measurement starting 2 months from cease use date (judgmental) FAS 146 – Contract Termination Costs Reasonably Obtainable Sublease – Ex. 2 & 3

20 FAS 146- Other Associated Exit Costs Costs include but not limited to: costs to consolidate or close facilities and relocate employees Record a liability measured at fair value when the costs are incurred – liability recognition Restructuring expense includes all costs related to exit activity. - Under FAS 146 – Costs will be recognized over time vs. a one-time charge under EITF 94-3

21 FAS 146- Reporting and Disclosure SAB 67 and EITF 96-9 narrowly address income statement presentation An entity should disclose: Description of the facts and circumstances Information for each major type of cost, including rollforward of liability Line item(s) in income statement affected Information by reportable segment Reasons the entity cannot estimate fair value (if that is the case)

22 FAS Income Statement Classification Example Nature of Expense Classify as restructuring? Termination Benefits (under FAS 88 or 146) Yes Termination Benefits (under 112 – meeting FAS 43 criteria and accrual spread over service period) No Termination Benefits (under 112 – not meeting FAS 43 criteria – accrual recorded under FAS 5) Yes Contract Termination Costs (SFAS 146 par. 14 – 16) Yes Relocation cost for existing employees (FAS 146, par. 17) Yes Costs to move equipment and inventory from one facility to another (FAS 146, par. 17) Yes Inventory write downs (EITF 96-9) No

23 FAS Income Statement Classification Example Nature of Expense Classify as restructuring? Plant consolidation will lead to higher costs related to customer service problems No* Unfavorable overhead variances No Fees paid to consultants who advise management regarding the actions to be taken in the restructuring Yes Costs to develop software that will enable remaining employees to work more efficiently No* Advertising incurred to promote new company image No* Impairment Separate line item

24 Questions?

25 Presenter’s contact details David Ellerbeck- Audit Partner (267) Scott Heiser- Audit Manager (267) KPMG LLP Copyrights and Disclaimers may vary between applications. Please consult the GB&RC MicroWeb for specific policies. Please delete this message prior to printing or presenting The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation. ©2004 KPMG LLP, the U.S. member firm of KPMG International, a Swiss cooperative. All rights reserved. (Insert document code)

26 Appendix I Decision Tree Example

27 Are benefits offered as part of a business combination? Are termination benefits voluntary or involuntary? NO SFAS 88 Record when employee accepts offer INVOLUNTARY Separate incremental benefits A EITF 95-3 Record as liability assumed in purchase business combination when 95-3 criteria met VOLUNTARY YES BOTH Benefits include involuntary and voluntary Voluntary portion Involuntary portion

28 A Are benefits contractual, required only if specified event? (e.g., union contract, statutory requirement) Are benefits provided pursuant to formal severance plan, or widely distributed HR policy? SFAS 88 Record when probable and estimable YES Accrue over service period SFAS 112 Do benefits meet ALL FAS 43 criteria (1) Accrue when probable and estimable NO SFAS 146 One Time Benefit Arrangement Based on company’s past actions and opinion of attorney, substantive ongoing arrangement YES Undistributed HR policy Standard benefit formula Historically used same or substantially similar unwritten formula NO Are the benefits provided pursuant to a substantive ongoing benefit arrangement? (1) Attributable to past service, vest or accumulate (increase with years of service) probable and estimable. B

29 Does the arrangement require employees to render service in order to receive benefits? Are employees required to render service beyond the minimum retention period (2) in order to receive benefits? Will benefits be paid at termination date? Measure liability at communication date based on the future fair value at termination date Recognize fair value of liability ratably over service period Recognize accretion expense (3) between termination date and payment date Will benefits be paid at communication date? Measure and recognize the liability at its fair value at the communication date No Discounting No accretion expense Measure liability at communication date based on the future fair value at termination date No Discounting Recognize fair value of liability ratably over service period No accretion expense to record NO YES NO YES NO Measure and recognize the liability at its fair value at the communication date Discounting required, if material Recognize accretion expense (3) between communication date and payment date (2) 60 days unless specifically defined by law, statute or contract (3) Accretion expense shall not be considered interest cost for purpose of applying FAS 34 or for purposes of classification in the income statements B