Chapter 13 — Balance Sheet Classification
Chapter 13 — Balance Sheet Classification
13.1 Background
Many entities prepare a classified balance sheet in which assets and liabilities are
grouped on the basis of whether they are current or noncurrent. ASC 470-10 contains
guidance related to such classification, whereas ASC 210-10 contains more broadly
applicable requirements related to an entity’s classification of assets and
liabilities as either current or noncurrent.
13.2 Scope
13.2.1 Entities
ASC 210-10
05-4 . . .
The balance sheets of most entities show separate
classifications of current assets and current
liabilities (commonly referred to as classified balance
sheets) permitting ready determination of working
capital.
15-3 The
guidance in this Subtopic that relates to separate
classification of current assets and current liabilities
(that is, a classified balance sheet) applies only when
an entity is preparing a classified balance sheet for
financial accounting and reporting purposes.
The guidance in ASC 470-10 on the balance sheet classification of debt applies to
debtors that present a classified balance sheet, which (as indicated in ASC
210-10-05-4) includes most debtors. Further, Regulation S-X, Rule 5-02
(reproduced in ASC 210-10-S99-1), requires SEC registrants within the scope of
that rule (i.e., commercial and industrial companies) to present a classified
balance sheet when filing financial statements with the SEC. However, that
requirement does not apply to registered investment companies, employee stock
purchase, savings and similar plans, insurance companies, bank holding companies
and banks, brokers and dealers, and real estate entities.
13.2.2 Instruments
ASC 210-10 contains broadly applicable guidance on the classification of assets
and liabilities as current or noncurrent. Further, ASC 470-10 requires entities
to classify the following types of obligations as current or noncurrent on a
classified balance sheet:
-
Debt repayable on demand (see Section 13.4).
-
Long-term debt that includes covenants that, if violated, make the debt repayable (see Section 13.5).
-
Long-term obligations that contain a subjective acceleration clause (SAC) (see Section 13.6).
-
Short-term obligations expected to be refinanced on a long-term basis (see Section 13.7).
-
Revolving-credit arrangements, including those with lockbox arrangements (see Section 13.8).
-
Increasing-rate debt (see Section 13.9).
For discussion of the application of the classification guidance to convertible
debt, see Section 13.10.
13.3 General
13.3.1 Background
To determine whether debt should be classified as current or
noncurrent, an entity must apply the guidance in ASC 470-10 and ASC 210-10.
13.3.2 Debt Classification Guidance in ASC 470-10
ASC 470-10 does not establish a uniform principle for classifying debt as current
or noncurrent; instead, it consists of a patchwork of rules and exceptions. One
requirement, which is subject to exceptions, is that liabilities that are
scheduled to mature or that the creditor could force the debtor to repay within
one year (or the operating cycle, if longer) after the balance sheet date should
be treated as short-term obligations even if they are not expected to be settled
within that period.
Accordingly, the following types of debt must be classified as current
liabilities unless (1) their settlement will not require the use of current
assets or the creation of other current liabilities (see Section
13.3.3.4) or (2) a specific exception applies:
-
Debt that is contractually scheduled to mature within one year (or the operating cycle, if longer) after the balance sheet date (see Section 13.3.4.2).
-
Any portion of long-term debt that is contractually scheduled to mature within one year (or the operating cycle, if longer) after the balance sheet date, such as the current portion of an amortizing loan for which the principal is paid down over the loan’s life (see Section 13.3.3.4).
- Debt that contractually is due on demand as of the balance sheet date or that will become payable on demand within one year (or the operating cycle, if longer) after the balance sheet date, including puttable debt (see Section 13.4) and debt that has become payable on demand because of a covenant violation (see Section 13.5).
However, short-term obligations are classified as noncurrent liabilities if:
-
A debtor has violated an objectively verifiable debt covenant as of the balance sheet date that makes an otherwise long-term obligation due on demand or payable on demand within one year of the balance sheet date and the creditor grants a waiver before the financial statements are issued (or available to be issued) or a grace period applies (see Section 13.5.3).
-
A debtor has the intent and ability to refinance a short-term obligation on a long-term basis (see Section 13.7).
In some scenarios, a debtor is required to consider expectations about whether
the creditor will accelerate a debt’s due date. If long-term debt contains a SAC
and is not payable on demand or within one year (or the operating cycle, if
longer) after the balance sheet date, the debtor must evaluate whether the SAC
is likely to be invoked to determine whether the debt is classified as current
or noncurrent (see Section 13.6). Further,
special guidance applies to revolving debt with a lockbox arrangement (see
Section 13.8) and to increasing-rate
debt (see Section 13.9), and there are
some unique issues associated with the treatment of convertible debt (see
Section 13.10). For a discussion of
the classification of long-term obligations that are repaid or that the debtor
intends to repay after the balance sheet date, see Section 13.11.
Debt that is contractually scheduled to mature beyond one year after the balance
sheet date is presented as noncurrent unless any of the following exceptions
apply:
-
The debt is due on demand or will become due on demand within one year of the balance sheet date (see Section 13.4) unless the debtor has the intent and ability to refinance the debt on a long-term basis (see Section 13.7).
-
A covenant violation has occurred that causes the debt to become repayable within one year of the balance sheet date (see Sections 13.3.4.5 and 13.5) unless (1) the creditor grants a waiver before the financial statements are issued (or available to be issued), (2) a grace period applies (see Section 13.5.3), or (3) the debtor has the intent and ability to refinance the debt on a long-term basis (see Section 13.7).
-
The debt contains a subjective acceleration clause that is likely to be triggered (see Sections 13.3.4.6 and 13.6) unless the debtor has the intent and ability to refinance the debt on a long-term basis (see Section 13.7).
-
Other facts and circumstances suggest that the debt should be classified as current (see Section 13.5.2.2).
The table below provides an
overview of the classification of different types of debt as current or
noncurrent under ASC 210-10 and ASC 470-10. Note, however, that the appropriate
classification depends on the application of GAAP to the specific facts and
circumstances.
Noncurrent
|
Current1
|
---|---|
|
|
13.3.3 Classification Guidance in ASC 210-10
13.3.3.1 Background
ASC 210-10
05-4 The Overall Subtopic
provides general guidance on the classification of
current assets and current liabilities and discusses
the determination of working capital. The balance
sheets of most entities show separate
classifications of current assets and current
liabilities (commonly referred to as classified
balance sheets) permitting ready determination of
working capital.
The sections below briefly summarize the various definitions
and guidance in ASC 210-10 that could be relevant to the classification of
debt as current or noncurrent.
13.3.3.2 Working Capital
ASC Master Glossary
Working Capital
Working capital (also called net working capital) is
represented by the excess of current assets over
current liabilities and identifies the relatively
liquid portion of total entity capital that
constitutes a margin or buffer for meeting
obligations within the ordinary operating cycle of
the entity.
ASC 210-10
05-5 Financial position,
as it is reflected by the records and accounts from
which the statement is prepared, is revealed in a
presentation of the assets and liabilities of the
entity. In the statements of manufacturing, trading,
and service entities, these assets and liabilities
are generally classified and segregated; if they are
classified logically, summations or totals of the
current or circulating or working assets (referred
to as current assets) and of obligations currently
payable (designated as current liabilities) will
permit the ready determination of working
capital.
The classification of assets and liabilities as current is intended to permit
a financial statement user to readily determine an entity’s working capital.
In practice, metrics and ratios that are computed on the basis of balance
sheet measures of working capital or components thereof are often used in
financial statement analysis and referenced in debt covenants.
13.3.3.3 Operating Cycle
ASC Master Glossary
Operating Cycle
The average time intervening between the acquisition
of materials or services and the final cash
realization constitutes an operating cycle.
ASC 210-10
05-6 The ordinary
operations of an entity involve a circulation of
capital within the current asset group. Cash is
expended for materials, finished parts, operating
supplies, labor, and other factory services, and
such expenditures are accumulated as inventory cost.
Inventory costs, upon sale of the products to which
such costs attach, are converted into trade
receivables and ultimately into cash again.
45-3 A one-year time
period shall be used as a basis for the segregation
of current assets in cases where there are several
operating cycles occurring within a year. However,
if the period of the operating cycle is more than 12
months, as in, for instance, the tobacco,
distillery, and lumber businesses, the longer period
shall be used. If a particular entity has no clearly
defined operating cycle, the one-year rule shall
govern.
Most entities use a one-year period as the basis for distinguishing between
current and noncurrent items. Under ASC 210-10-45-3, an entity that has no
clearly defined operating cycle or more than one operating cycle within a
year must use the one-year time frame. However, if the entity’s operating
cycle is greater than one year, it should base the distinction on the
operating cycle. ASC 210-10-45-3 suggests that a period longer than a year
may be appropriate, for example, in the tobacco, distillery, and lumber
businesses. The operating cycle is the average amount of time it takes an
entity to acquire materials or services, convert those items into finished
goods or services, and collect cash from the sale of those goods or
services.
13.3.3.4 Current Assets and Current Liabilities
ASC Master Glossary
Current Assets
Current assets is used to designate cash and other
assets or resources commonly identified as those
that are reasonably expected to be realized in cash
or sold or consumed during the normal operating
cycle of the business. See paragraphs 210-10-45-1
through 45-4.
Current Liabilities
Current liabilities is used principally to designate
obligations whose liquidation is reasonably expected
to require the use of existing resources properly
classifiable as current assets, or the creation of
other current liabilities. See paragraphs
210-10-45-5 through 45-12.
ASC 210-10
Obligations in the Operating Cycle
45-8 As a balance sheet
category, the classification of current liabilities
generally includes obligations for items that have
entered into the operating cycle, such as the
following:
-
Payables incurred in the acquisition of materials and supplies to be used in the production of goods or in providing services to be offered for sale.
-
Collections received in advance of the delivery of goods or performance of services. Examples of such current liabilities are obligations resulting from advance collections on ticket sales, which will normally be liquidated in the ordinary course of business by the delivery of services. On the contrary, obligations representing long-term deferments of the delivery of goods or services would not be shown as current liabilities. Examples of the latter are the issuance of a long-term warranty or the advance receipt by a lessor of rental for the final period of a 10 year lease as a condition to execution of the lease agreement.
-
Debts that arise from operations directly related to the operating cycle, such as accruals for wages, salaries, commissions, rentals, royalties, and income and other taxes.
Other Liabilities
45-9 Other liabilities
whose regular and ordinary liquidation is expected
to occur within a relatively short period of time,
usually 12 months, are also generally included, such
as the following:
-
Short-term debts arising from the acquisition of capital assets
-
Serial maturities of long-term obligations
-
Amounts required to be expended within one year under sinking fund provisions
-
Agency obligations arising from the collection or acceptance of cash or other assets for the account of third persons. Loans accompanied by pledge of life insurance policies would be classified as current liabilities if, by their terms or by intent, they are to be repaid within 12 months. The pledging of life insurance policies does not affect the classification of the asset any more than does the pledging of receivables, inventories, real estate, or other assets as collateral for a short-term loan. However, when a loan on a life insurance policy is obtained from the insurance entity with the intent that it will not be paid but will be liquidated by deduction from the proceeds of the policy upon maturity or cancellation, the obligation shall be excluded from current liabilities.
Because the definition of working capital (see Section 13.3.3.2) refers to an entity’s operating cycle (see
Section 13.3.3.3), current assets
are limited to those assets that are “reasonably expected to be realized in
cash or sold or consumed during the normal operating cycle of the business.”
Similarly, current liabilities are limited to those obligations “that have
entered into the operating cycle,” such as payables for goods or services
that are used in the entity’s production process (see ASC 210-10-45-8), or
“whose regular and ordinary liquidation is expected to occur within a
relatively short period of time,” such as short-term debt and the current
portion of long-term obligations (see ASC 210-10-45-9).
In the application of this guidance to debt obligations, a debtor must comply
with the more specific requirements in ASC 470-10. As discussed in Section 13.3.2, debt that is scheduled to
mature or that the creditor could force the debtor to repay within one year
(or the operating cycle, if longer) after the balance sheet date is
generally classified as a current liability under ASC 470-10 even if it is
not expected to be settled within a relatively short period.
Current liabilities are limited to obligations whose settlement is
“reasonably expected to require the use of existing resources properly
classifiable as current assets, or the creation of other current
liabilities.” Accordingly, short-term obligations that must be settled in
the debtor’s nonredeemable equity shares (e.g., certain mandatorily
convertible shares) do not meet the definition of current liabilities.
13.3.3.5 Funds Set Aside for the Liquidation of Long-Term Debt
ASC 210-10
45-4 The concept of the
nature of current assets contemplates the exclusion
from that classification of such resources as the
following:
- Cash and claims to cash that are restricted as to withdrawal or use for other than current operations, are designated for expenditure in the acquisition or construction of noncurrent assets, or are segregated for the liquidation of long-term debts. Even though not actually set aside in special accounts, funds that are clearly to be used in the near future for the liquidation of long-term debts, payments to sinking funds, or for similar purposes shall also, under this concept, be excluded from current assets. However, if such funds are considered to offset maturing debt that has properly been set up as a current liability, they may be included within the current asset classification. . . .
45-12 The current
liability classification is not intended to include
debts to be liquidated by funds that have been
accumulated in accounts of a type not properly
classified as current assets, or long-term
obligations incurred to provide increased amounts of
working capital for long periods.
If a debtor segregates funds for the purpose of settling long-term debt, those funds should be classified as noncurrent assets in accordance with ASC 470-10-45-4(a). Footnote 1 of FASB Statement 6 (not codified) indicates that
“funds obtained on a long-term basis prior to the balance sheet date would
be excluded from current assets if the obligation to be liquidated is
excluded from current liabilities.” However, funds that are set aside to pay
a current liability would be classified as current assets.
13.3.4 Other Key Terms
13.3.4.1 Background
This section discusses key terms in ASC 470-10 that are used to determine the
appropriate classification of debt as current or noncurrent.
13.3.4.2 Short-Term Obligations
ASC Master Glossary
Short-Term Obligations
Short-term obligations are those that are scheduled
to mature within one year after the date of an
entity’s balance sheet or, for those entities that
use the operating cycle concept of working capital
described in paragraphs 210-10-45-3 and 210-10-45-7,
within an entity’s operating cycle that is longer
than one year.
A short-term obligation is one that is “scheduled to mature within one year”
(or the operating cycle, if longer) after the balance sheet date. It also
includes any portion of long-term debt that is contractually scheduled to
mature within one year (or the operating cycle, if longer) after the balance
sheet date, such as the current portion of an amortizing loan for which the
principal is paid down over the loan’s life (see Section 13.3.3.4). Under ASC 470-10-45-14, an obligation
that is repayable on demand or within one year (or the operating cycle, if
longer) after the balance sheet date would also be a short-term obligation
(see Section 13.4). Similarly, an
obligation that has become repayable on demand or within one year (or the
operating cycle, if longer) after the balance sheet date because of a
covenant violation would be a short-term obligation under that guidance (see
Section 13.5). The term
“short-term obligation” does not have the same meaning as “current
liability” because some short-term obligations qualify as noncurrent
liabilities in accordance with the guidance on refinancing arrangements and
covenant waivers.
13.3.4.3 Long-Term Obligations
ASC Master Glossary
Long-Term Obligations
Long-term obligations are those scheduled to mature
beyond one year (or the operating cycle, if
applicable) from the date of an entity’s balance
sheet.
Under ASC 470-10, a long-term obligation is one that is “scheduled to mature
beyond one year” (or the operating cycle, if longer) after the balance sheet
date. It excludes any portion of long-term debt that is contractually
scheduled to mature within one year (or the operating cycle, if longer)
after the balance sheet date, such as the current portion of an amortizing
loan for which the principal is paid down over the loan’s life (see
Section 13.3.3.4). Under ASC
470-10-45-2, an obligation that is repayable on demand or within one year
(or the operating cycle, if longer) after the balance sheet date would not
be considered a long-term obligation (see Section
13.4). Similarly, an obligation that has become repayable on
demand or within one year of the balance sheet date (or the operating cycle,
if longer) because of a covenant violation would not be considered a
long-term obligation (see Section
13.5). The term “long-term obligation” does not have the same
meaning as “noncurrent liability” because some long-term obligations must be
classified as current liabilities (see Section
13.6).
13.3.4.4 Callable Obligations
ASC Master Glossary
Callable Obligation
An obligation is callable at a given date if the
creditor has the right at that date to demand, or to
give notice of its intention to demand, repayment of
the obligation owed to it by the debtor.
ASC 470-10 describes an obligation as “callable” if “the creditor has the
right at that date to demand, or to give notice of its intention to demand,
repayment.” In practice, such debt is often described as debt with an
embedded put option or a demand or acceleration feature. Further, ASC 815
describes such a feature as a put option, not as a call option (see, for
example, ASC 815-15-55-26 through 55-53). Under ASC 815, an embedded call
option is an option held by the debtor, not the creditor (see, for example,
ASC 815-15-25-37 and 25-38, and ASC 815-15-25-43). To reduce the potential
for confusion related to the terminological inconsistency between ASC 470-10
and ASC 815-15, this Roadmap generally refers to debt that is described as
callable under ASC 470-10 as debt with a demand or put feature (see also
Section 13.4.2).
13.3.4.5 Violation of a Provision
ASC Master Glossary
Violation of a Provision
The failure to meet a condition in a debt agreement
or a breach of a provision in the agreement for
which compliance is objectively determinable,
whether or not a grace period is allowed or the
creditor is required to give notice of its intention
to demand repayment.
ASC 470-10
45-12 Drawing a
distinction between significant violations of
critical conditions and technical violations is not
practicable. A violation that a debtor considers to
be technical may be considered critical by the
creditor. Furthermore, a creditor may choose to use
a technical violation as a means to withdraw from
its lending relationship with the debtor. If the
violation is considered insignificant by the
creditor, then the debtor should be able to obtain a
waiver as discussed in the preceding paragraph.
ASC 470-10-45-11 provides two exceptions to the requirements related to
current classification (see Section 13.5.3). The
reference in that guidance to a debtor’s “violation of a provision” includes
any objectively determinable provision that accelerates the debt’s maturity
date or otherwise makes the debt payable on demand (or will make the debt
payable on demand unless cured within a specified grace period) to protect
the creditor from an adverse issuer-specific credit event. In practice, the
contractual terms of debt arrangements often describe such covenant
violations as events of default. Examples of debt covenants that, if
violated, may cause debt to be repayable on demand include those related to:
-
Working capital requirements.
-
Minimum current ratios.
-
Maximum debt-to-equity ratios.
-
The issuance of an unqualified audit opinion (e.g., within 90 days of year-end).
-
Bankruptcy prohibitions.
Whether a credit deterioration occurs in connection with a
specific provision that was violated is not relevant. For example, an event
of default may not actually be related to a deterioration in the debtor’s
credit. That is, to apply the exceptions in ASC 470-10-45-11, a debtor does
not have to establish that an event that results in the debt’s becoming
payable on demand is associated with a decline in the debtor’s credit
standing. However, the provision that was violated must be related to
credit. For example, the exceptions in ASC 470-10-45-11 would not apply to
provisions under which (1) debt becomes callable solely on the basis of
passage of time or (2) cash-settleable convertible debt becomes convertible
if a stock price target is triggered because both provisions are unrelated
to the borrower’s credit risk. In those situations, debt that is payable on
demand on the balance sheet date would be classified as a current liability
regardless of whether the redemption provision lapses before the financial
statements are issued or available to be issued unless the debtor meets the
exception for certain refinancing arrangements (see Section 13.7).
ASC 470-10-45-11 does not distinguish between significant
covenant violations and minor technical violations that can be easily
corrected. In accordance with ASC 470-10-45-12, distinguishing between those
two types of violations is not practicable.
Example 13-1
Debt Callable as a Result of a Change in
Control
On December 15, 20X2, Company ABC issued a 10-year
debt instrument that contains a change-in-control
provision. Under the terms of the debt instrument,
the lender has the ability to demand repayment of
the debt upon the occurrence of a change-in-control
event. However, the lender’s ability to demand
repayment of the debt expires 45 days from the date
of the change-in-control event. The debt agreement
does not define a change-in-control event as an
event of default.
On December 16, 20X4, Company XYZ acquires ABC,
triggering a change-in-control event. As a result,
on that date and as of ABC’s December 31, 20X4,
balance sheet date, the debt was repayable on
demand. However, as of February 1, 20X5 (46 days
later), the lender had not requested repayment of
the debt, and the demand feature therefore expired
unexercised. In addition, as of February 1, 20X5,
ABC’s financial statements as of and for the year
ended December 31, 20X4, were not yet issued (or
available to be issued, as discussed in ASC
855-10).
Company ABC has determined that the purpose of the
change-in-control feature was to protect the lender
from potential adverse credit-related events that
could result from a change of control. Therefore,
ABC concludes that ASC 470-10-45-11 applies to the
change-in-control provision.
As long as ABC is able to objectively and
unconditionally determine that the lender’s ability
to demand repayment of the debt has lapsed as of or
before the date the 20X4 financial statements are
issued (or available to be issued), ABC would
classify the debt as noncurrent on its balance
sheet.
Example 13-2
Debt Repayable on Lender’s Demand
On December 15, 20X2, Company SCP issued a 10-year
debt instrument that allows the lender to demand
repayment of the debt three years after the original
issuance date. However, the lender’s ability to
demand repayment of the debt expires 60 days from
the third anniversary of the debt instrument’s
issuance date.
On December 15, 20X5 (the third anniversary of the
debt’s issuance date), and as of SCP’s December 31,
20X5, balance sheet date, the debt instrument was
payable on demand. On February 14, 20X6, the
lender’s right to demand repayment of the debt
expired unexercised. In addition, as of February 14,
20X6, the financial statements of SCP as of and for
the year ended December 31, 20X5, were not yet
issued (or available to be issued, as discussed in
ASC 855-10).
Company SCP has determined that the purpose for
including the feature in the debt instrument is
unrelated to potential adverse credit-related
events, and it therefore concludes that applying ASC
470-10-45-11 to the feature is not appropriate.
Accordingly, because SCP’s debt is repayable on
demand as of the balance sheet date, it would be
classified as a current liability under ASC
470-10-45-10 even though the lender ultimately did
not exercise its right (see Section 13.4).
The guidance in ASC 470-10-45-11 related to objectively determinable covenant
violations differs from that for SACs. Whereas the likelihood that the
creditor will demand repayment is a factor in the evaluation of whether a
SAC that has not been invoked triggers current classification of a long-term
obligation, such likelihood usually does not affect the analysis of an
objectively determinable covenant that has not been violated (see
Section 13.5.2.2).
Nevertheless, the likelihood of a repayment demand is a factor in an entity’s
evaluation of whether it can apply one of the exceptions to current
classification for an objectively determinable covenant that has been
violated. That is, before it can apply the covenant waiver exception, a
debtor must assess whether it will comply with the covenant as of
measurement dates that are within the next 12 months (see Section
13.5.3.3). Likewise, before it can apply the grace period
exception, a debtor must assess whether it is probable that it will cure the
violation within the grace period (see Section
13.5.3.4).
13.3.4.6 Subjective Acceleration Clauses
ASC Master Glossary
Subjective Acceleration Clause
A subjective acceleration clause is a provision in a
debt agreement that states that the creditor may
accelerate the scheduled maturities of the
obligation under conditions that are not objectively
determinable (for example, if the debtor fails to
maintain satisfactory operations or if a material
adverse change occurs).
The contractual terms of debt obligations often include some debt covenants
that are objectively determinable (e.g., nonpayment of a debt obligation)
and others that require a subjective evaluation (e.g., failure to maintain
satisfactory operations or a material adverse change). A SAC is a
contractual term in a debt agreement that permits the creditor to accelerate
the repayment of the debt under conditions that are not objectively
determinable. A subjective cancellation clause (which is also considered a
SAC and referred to as such herein) is a contractual term in a financing
agreement that permits the potential creditor or investor to terminate the
financing agreement on terms that are not objectively determinable.
A subjective condition is one that may be evaluated differently by the
parties to the agreement. Examples of subjective conditions include the following:
-
At all times, the debtor’s financial condition and results of operations must be satisfactory to the creditor.
-
There will be an event of default if there is a material impairment of the collateral on a debt obligation (and “material” is not objectively defined).
-
The creditor must have reasonably determined that any event that materially adversely affects a debt instrument’s collectibility has not occurred (i.e., a material adverse change clause).
-
A deterioration has taken place in the quality of the servicing of receivables used as collateral on a debt instrument that the creditor, in its sole discretion, determines to be material.
An objectively determinable condition is one that would not
be evaluated differently by the parties to the agreement. Examples include
but are not limited to specified financial ratios, a change-of-control
provision based on a specified percentage change in capital ownership of the
debtor, and the occurrence of particular events (bankruptcy, restatements,
going-concern audit opinions, etc.). If a debt contract defines an adverse
change in an objectively determinable manner (e.g., a maximum decrease in
reported earnings), it would be considered an objectively determinable
condition.
Some debt and financing agreements (e.g., revolving-debt agreements) contain
a material adverse change clause that applies only upon the initial
execution of the agreement. For example, a creditor might require a debtor
to represent that no material adverse change has occurred in the period
between the most recent financial statements and the initial execution of
the agreement as a precondition for entering into the agreement. However,
the agreement might not give the creditor a right to demand repayment or
cancel the agreement if the debtor experiences a material adverse change
after the agreement’s initial execution. In this case, the agreement does
not contain a subjective acceleration or cancellation provision since it
does not permit the creditor to demand repayment or cancel the agreement
unless it can demonstrate that the debtor’s initial representation was
false. Conversely, an agreement is considered to contain a subjective
acceleration or cancellation clause if the creditor is able to demand
repayment or reject a funding request if it determines that a material
adverse change has occurred after the initial execution of the agreement.
For example, a financing agreement would be considered to contain a
subjective cancellation provision if it requires the debtor to represent
that no material adverse change has occurred each time it borrows under the
agreement.
An acceleration or cancellation clause in a debt or financing agreement may
include both objectively determinable and subjective conditions that must be
met before the creditor is permitted to demand repayment or cancel the
agreement. For example, a financing agreement might require the debtor to
represent that it has not, without the creditor’s prior written consent,
amended, restated, or otherwise modified any contracts that serve as
collateral under the agreement in a manner that would reasonably be expected
to have a material adverse effect. Such a clause should be evaluated as an
objectively determinable condition under ASC 470-10 since the creditor
cannot demand repayment or cancel the agreement unless the objectively
determinable condition is met (i.e., the debtor has amended, restated, or
otherwise modified such contracts without the creditor’s prior written
consent).
13.3.4.7 “Traditional” Lockbox Arrangement
ASC Master Glossary
Lock-Box Arrangement
An arrangement with a lender whereby the borrower’s
customers are required to remit payments directly to
the lender and amounts received are applied to
reduce the debt outstanding. A lock-box arrangement
refers to any situation in which the borrower does
not have the ability to avoid using working capital
to repay the amounts outstanding. That is, the
contractual provisions of a loan arrangement require
that, in the ordinary course of business and without
another event occurring, the cash receipts of a
debtor are used to repay the existing
obligation.
ASC 470-10
45-5A The term lock-box
arrangement as used in this guidance refers to
any situation in which the borrower does not have
the ability to avoid using working capital to repay
the amounts outstanding. That is, if the contractual
provisions of a loan arrangement require that, in
the ordinary course of business and without another
event occurring, the cash receipts of a debtor be
used to repay the existing obligation, the credit
agreement shall be considered a short-term
obligation.
The terms of some debt obligations contain a “lockbox” arrangement under
which the debtor’s customers submit payments for goods or services directly
to a special collection account maintained by the creditor. In a
“traditional” lockbox arrangement, payments to the lockbox are automatically
applied to reduce the outstanding debt. Therefore, a debt arrangement that
incorporates a traditional lockbox arrangement is considered a short-term
obligation under ASC 470-10 even if the final maturity of the debt is not
within one year (or the operating cycle, if longer) after the balance sheet
date (see Section 13.8.3.1). In a revolving-debt
arrangement, the contractual terms usually permit the debtor to request
additional borrowings so that the outstanding balance due under the
arrangement remains unchanged (i.e., the debtor draws an amount equal to the
daily cash receipts). To determine the appropriate classification of such
debt, the debtor must evaluate the right to request additional borrowings
under the guidance on refinancing arrangements (see Sections
13.7.4 and 13.8.3.3).
Connecting the Dots
A contractual provision might meet the definition of a lockbox
arrangement even if the terms of the debt do not explicitly refer to
it as a lockbox. For example, a contract might refer to a lockbox as
a blocked collection account or a deposit account control
agreement.
13.3.4.8 Springing Lockbox Arrangement
ASC Master Glossary
Springing Lock-Box Arrangement
Some borrowings outstanding under a revolving credit
agreement include both a subjective acceleration
clause and a requirement to maintain a springing
lock-box arrangement, whereby remittances from the
borrower’s customers are forwarded to the debtor’s
general bank account and do not reduce the debt
outstanding until and unless the lender exercises
the subjective acceleration clause.
In a springing lockbox arrangement, the debtor has full access to amounts
collected from its customers. The creditor is not entitled to the payments,
although such amounts may be subject to a security interest in the
creditor’s favor. If a triggering event occurs (e.g., the debtor does not
pay its debts on time or the creditor exercises a SAC), the arrangement
becomes a traditional lockbox under which the payments received from
customers are automatically applied to reduce the debtor’s outstanding debt.
A springing lockbox arrangement does not prevent a debt instrument from
being treated as a long-term obligation (see Section
13.8.3.2).
13.3.4.9 Financial Statements Are Issued (or Available to Be Issued)
ASC Master Glossary
Financial Statements Are Available to Be
Issued
Financial statements are considered available to be
issued when they are complete in a form and format
that complies with GAAP and all approvals necessary
for issuance have been obtained, for example, from
management, the board of directors, and/or
significant shareholders. The process involved in
creating and distributing the financial statements
will vary depending on an entity’s management and
corporate governance structure as well as statutory
and regulatory requirements.
Financial Statements Are Issued
Financial statements are considered issued when they
are widely distributed to shareholders and other
financial statement users for general use and
reliance in a form and format that complies with
GAAP. (U.S. Securities and Exchange Commission [SEC]
registrants also are required to consider the
guidance in paragraph 855-10-S99-2.)
ASC 855-10 — SEC Materials — SEC
Staff Guidance
Announcements
Made by SEC Staff at Emerging Issues Task Force
(EITF) Meetings
SEC Staff Announcement: Issuance of
Financial Statements
S99-2 The following is the
text of SEC Staff Announcement: Issuance of
Financial Statements.
In considering
when financial statements have been issued, the SEC
staff observed that Rules 10b-5 and 12b-20 under the
Securities Exchange Act of 1934 and General
Instruction C(3) to Form 10-K specify that financial
statements must not be misleading as of the date
they are filed with the Commission. For example,
assume that a registrant widely distributes its
financial statements but, before filing them with
the Commission, the registrant or its auditor
becomes aware of an event or transaction that
existed at the date of the financial statements that
causes those financial statements to be materially
misleading. If a registrant does not amend those
financial statements so that they are free of
material misstatement or omissions when they are
filed with the Commission, the registrant will be
knowingly filing a false and misleading document. In
addition, registrants are reminded of their
responsibility to, at a minimum, disclose subsequent
events,FN1 while independent auditors
are reminded of their responsibility to assess
subsequent eventsFN2 and evaluate the
impact of the events or transactions on their audit
report.FN3
A registrant
and its independent auditor have responsibilities
with regard to post-balance-sheet-date subsequent
events, as well as the application of authoritative
literature applicable to such events. See Topic 855
and AU 560, Subsequent Events, paragraph 3.
Generally, the
staff believes that financial statements are
“issued” as of the date they are distributed for
general use and reliance in a form and format that
complies with generally accepted accounting
principles (GAAP) and, in the case of annual
financial statements, that contain an audit report
that indicates that the auditors have complied with
generally accepted auditing standards (GAAS) in
completing their audit. Issuance of financial
statements then would generally be the earlier of
when the annual or quarterly financial statements
are widely distributed to all shareholders and other
financial statement usersFN4 or filed
with the Commission. Furthermore, the issuance of an
earnings release does not constitute issuance of
financial statements because the earnings release
would not be in a form and format that complies with
GAAP and GAAS.
_____________________
FN1 See AU Section 560,
Subsequent Events, paragraphs 5 and 8 and Section
855-10-50.
FN2 See AU 560 and AU
Section 561, Subsequent Discovery of Facts Existing
at Date of the Auditor’s Report.
FN3 See AU Section 530,
Dating of the Independent Auditor’s Report, and AU
560, paragraph 9.
FN4 Posting financial
statements to a registrant’s web site would be
considered wide distribution to all shareholders and
other financial statement users if the registrant
uses its web site to disclose information to the
public in a manner consistent with the requirements
of Regulation FD. See the Commission’s interpretive
guidance in Exchange Act Release No. 58288 (Aug. 7,
2008).
Some of the guidance in ASC 470-10 refers to the date on which the financial
statements are “issued” or “available to be issued” (e.g., the guidance on
refinancing arrangements in ASC 470-10-45-14 discussed in Section 13.7), as those terms are defined in
ASC 855-10. Financial statements are considered available to be issued when
they have been completed in a form and format that complies with GAAP and
all necessary approvals for issuance have been obtained. Generally,
financial statements are considered issued when they are widely distributed
for general use in a form and format that complies with GAAP. For an SEC
registrant, financial statements are generally considered issued on the
earlier of the date on which they are (1) widely distributed to all
shareholders and other financial statement users or (2) filed with the
SEC.
Footnotes
1
Unless an item must be classified as noncurrent
because the refinancing exception discussed in
Section 13.7
applies.
13.4 Debt With Early Settlement Feature
13.4.1 Background
This section discusses the classification of debt with early settlement features
(such as put and call options), including debt with provisions that (1) permit
the creditor to demand early repayment (see the next section), (2) contingently
accelerate the maturity date or contingently permit the debtor to demand early
repayment (see Section
13.4.3), or (3) permit the debtor to prepay the amount
outstanding (see Section
13.4.4). For a discussion of credit-related early settlement
features with contingencies, see Section 13.5.
13.4.2 Provisions That Permit the Creditor to Demand Early Repayment
ASC 470-10
45-9 Loan agreements may
specify the debtor’s repayment terms but also enable the
creditor, at his discretion, to demand payment at any
time. Those loan arrangements may have wording such as
either of the following:
-
“The term note shall mature in monthly installments as set forth therein or on demand, whichever is earlier.”
-
“Principal and interest shall be due on demand, or if no demand is made, in quarterly installments beginning on. . . .”
45-10 The current liability
classification shall include obligations that, by their
terms, are due on demand or will be due on demand within
one year (or operating cycle, if longer) from the
balance sheet date, even though liquidation may not be
expected within that period. The demand provision is not
a subjective acceleration clause as discussed in
paragraph 470-10-45-2.
Except for certain obligations that are expected to be
refinanced on a long-term basis (see Section 13.7), debt that is due on demand
or that will become payable on demand within one year after the balance sheet
date (or the operating cycle, if longer) should be classified as current even if
it is not expected to be repaid within that period. For example, an obligation
that is scheduled to mature more than one year after the balance sheet date may
contain an embedded put option that permits the investor to put the debt to the
issuer at any time or on one or more dates within the next 12 months in exchange
for the repayment of the principal and interest amounts owed. Such debt would be
classified as current under ASC 470-10-45-10 unless it meets the conditions for
debt that is expected to be refinanced on a long-term basis (see Section 13.7). An entity
should generally treat debt that is repayable upon the occurrence or
nonoccurrence of an event that is within the creditor’s control as debt that is
due on demand.
13.4.3 Provisions That Require or Permit the Creditor to Demand Early Payment Upon a Non-Credit-Related Contingent Event
Some debt obligations become immediately due and payable, or
payable within one year (or the operating cycle, if longer) after the balance
sheet date, upon the occurrence or nonoccurrence of a specified event that is
beyond the control of the creditor. For example, debt may contain a put option
or redemption feature that is activated upon the occurrence or nonoccurrence of
a specified event (e.g., a fundamental change, a change of control, a ratings
downgrade, delisting, or the loss of a business license or permit) or on the
basis of quantitative criteria (e.g., related to the debtor’s stock price,
debt-to-equity ratio, working capital, or other financial ratios).
If the contingency that causes the debt to become repayable is met as of the
balance sheet date and is not credit-related, such debt obligations are analyzed
as debt that is due on demand or within one year (or the operating cycle, if
longer) after the balance sheet date (see the previous section). If, as a result
of a discrete event that occurred after the balance sheet date, the contingency
is not credit-related and is not met as of the balance sheet date but is met
before the financial statements are issued (or available to be issued), it is
acceptable to treat the debt as a long-term obligation. For example, noncurrent
classification would be appropriate if the triggering event was within the
debtor’s control (e.g., the entity’s decision to sell certain assets after the
balance sheet date). In that scenario, the debtor should disclose an
acceleration of the debt’s due date as a nonrecognized subsequent event under
ASC 855-10.
If the contingency is credit-related, the debtor should apply
the guidance in ASC 470-10-45-11 on covenant violations that cause the debt to
become repayable (see Section
13.5) regardless of whether the covenant violation occurred (1)
as of the balance sheet date or (2) after the balance sheet date but before the
financial statements were issued (or available to be issued).
13.4.4 Provisions That Permit the Debtor to Pay Early
Some debt obligations contain call or prepayment options that permit the debtor
to prepay the obligation before its maturity date (e.g., at any time, on
specified dates, or upon the occurrence or nonoccurrence of a specified event).
Generally, such options do not affect the classification of debt as current or
noncurrent before it is exercised since the debtor has discretion over whether
to exercise the options and could not be contractually forced to repay the debt
early because of them. However, if the debtor irrevocably exercises a call or
prepayment option before or as of the balance sheet date, the related debt
should be classified as current if the debt’s repayment will occur within one
year (or the operating cycle, if longer) after the balance sheet date. If the
debtor exercises a call or prepayment option after the balance sheet date, it
should disclose that fact as a nonrecognized subsequent event.
13.5 Credit-Related Covenant Violations That Cause Debt to Become Repayable
13.5.1 General
ASC 470-10
45-11 Current liabilities
shall include long-term obligations that are or will be
callable by the creditor either because the debtor’s
violation of a provision of the debt agreement at the
balance sheet date makes the obligation callable or
because the violation, if not cured within a specified
grace period, will make the obligation callable. . .
.
If an entity violates an objectively determinable covenant on a long-term debt
arrangement, the contractual terms might accelerate the debt’s due date or give
the creditor the right to accelerate the debt’s due date. Long-term debt that
has become payable on demand or within one year (or the operating cycle, if
longer) after the balance sheet date because of a covenant violation that has
occurred as of the balance sheet date or, in the case of credit-related
covenants, after the balance sheet date but before the financial statements are
issued (or available to be issued) (see Section 13.5.2.2)
generally must be classified as current. This is the case even if the creditor
has not demanded repayment and there is no indication that it will do so.
However, a credit-related covenant violation in a long-term obligation does not
trigger current classification if one of the following exceptions in ASC 470-10 applies:
-
Covenant waiver — The debtor obtains a covenant waiver that meets the requirements in ASC 470-10-45-1 and ASC 470-10-45-11(a) before the financial statements are issued or are available to be issued (see Sections 13.5.3.2 and 13.5.3.3).
-
Grace period — The debt contains a grace period and it is probable that the violation will be cured within such period (see ASC 470-10-45-11(b) and Section 13.5.3.4).
-
Refinancing arrangement — The debtor has the intent and ability to refinance the obligation on a long-term basis (see Section 13.7).
To apply the exceptions in ASC 470-10-45-11 that address
covenant waivers and grace periods, an entity must ensure that the violated
provision is related to credit (see Section
13.3.4.5). The exception for refinancing arrangements applies
irrespective of whether the event is associated with credit. For a discussion of
the analysis of covenant violations that are not credit-related, see Section 13.4.3.
13.5.2 Scope
13.5.2.1 Background
This section discusses credit-related covenant violations
that occur after the balance sheet date but before the financial statements
are issued or available to be issued (see the next section), debt
modifications that are made to avoid a covenant violation (see Section 13.5.2.3),
and credit-related covenant violations that are cured before the financial
statements are issued or available to be issued (see Section
13.5.2.4).
13.5.2.2 Covenant Violation After the Balance Sheet Date
The classification implications of credit-related debt covenant violations
that occur after the balance sheet date but before the financial statements
are issued or available to be issued are generally consistent with the
requirements triggered by a violation as of the balance sheet date (see
Section 13.5.1). A debt covenant
violation that occurs after the balance sheet date but before the financial
statements are issued or available to be issued would generally be an
example of other “facts and circumstances,” as discussed in ASC 470-10-45-1
(see Section 13.5.3.3), under which current
classification of the debt would be required unless one of the exceptions
described in Section 13.5.3 applies. We have confirmed
this position through informal discussions with the SEC staff.
Such scenarios primarily involve credit-related debt covenants, including
those associated with quantitative financial metrics or ratios and those
regarding going-concern matters. In some circumstances, the violation may be
unrelated to credit or may be the result of a discrete event after year-end
(e.g., a debt covenant that is triggered upon a sale of specified assets
that occurred after year-end). We encourage entities to consult their
advisers in these situations to determine the appropriate classification
guidelines to apply.
Sometimes, a debtor might expect that it will violate a credit-related debt
covenant only after the financial statements have been issued or are
available to be issued. Unless the debtor is virtually certain that it will
violate the covenant after such time, it should not classify the debt as a
current liability on the basis of such anticipated covenant violation.
Example 13-3
Debt That Becomes Due on Demand as a Result of a
Going-Concern Audit Opinion
Company ABC has a long-term loan
that requires it to (1) comply with quantitative
ratios, including liquidity ratios (e.g., current
ratio, quick ratio) and financial leverage ratios
(e.g., debt ratio, debt-to-equity ratio), and (2)
obtain an audit opinion on its annual financial
statements that is not subject to any qualifications
or exceptions with respect to the scope of the audit
or that contains a going-concern emphasis. If ABC
does not comply with each of these covenant
requirements, the lender has the ability to require
repayment of the debt immediately. As of December
31, 20X1, ABC is in compliance with all of the
quantitative ratios; however, the audit opinion
issued for December 31, 20X1, will contain a
going-concern emphasis. Company ABC does not obtain
a waiver from the lender.
Because of the going-concern emphasis in the audit
opinion, ABC should classify the loan as a current
obligation in its December 31, 20X1, balance sheet.
Although the audit opinion is issued after the
balance sheet date, under ASC 470-10-45-1, such a
known violation as of the date financial statements
are issued or available to be issued would be
considered an example of other “facts and
circumstances” under which current classification of
the debt would be required as of December 31,
20X1.
Example 13-4
Debt That Becomes Due on Demand Because of Failure
to Satisfy Quantitative Covenants
Company ABC has a long-term loan that requires it to
comply with quantitative ratios, including liquidity
ratios (e.g., current ratio, quick ratio) and
financial leverage ratios (e.g., debt ratio,
debt-to-equity ratio). If ABC does not comply with
each of these covenant requirements, the lender has
the ability to require repayment of the debt
immediately. Assume that ABC violated one of the
quantitative ratio covenants as of a measurement
date after the balance sheet date but before
issuance of the financial statements. Assume also
that ABC has obtained a waiver related to the
specific violation before issuance of the financial
statements for the year ended December 31, 20X1, and
that ABC believes that it is probable that it will
fail to meet the same covenant requirement again as
of measurement dates occurring within the 12 months
after December 31, 20X1.
In this situation, the covenant violation after the
balance sheet date but before financial statement
issuance should be viewed in the same way as a
violation as of the balance sheet date (i.e., the
violation constitutes evidence of “other facts and
circumstances” as discussed in ASC 470-10-45-1).
Since it is probable that ABC will not be able to
comply with the same covenant as of compliance dates
within 12 months of the balance sheet date, the debt
should be classified as current as of December 31,
20X1.
13.5.2.3 Covenant Violation Would Have Occurred in the Absence of Debt Modification
ASC 470-10-55-4(d) and ASC 470-10-55-6 (see Section
13.5.3.3) indicate that a modification of the contractual
terms of a debt obligation before the balance sheet date should be analyzed
as a covenant violation as of the balance sheet date if all of the following
conditions are met:
-
The modification removes or adjusts the covenant so that the debtor will comply as of the balance sheet date.
-
In the absence of the modification, the debtor would have violated the covenant as of the balance sheet date.
-
The same or a more restrictive covenant must be met as of the compliance dates after the balance sheet date.
A debt modification that meets the above conditions is treated as a covenant
waiver under ASC 470-10, even though no covenant violation exists as of the
balance sheet date, because a covenant violation would have occurred
notwithstanding the modification (i.e., in substance, the modification
represents a waiver).
13.5.2.4 Covenant Violation Cured Before the Financial Statements Are Issued or Available to Be Issued
If a debtor cures a credit-related covenant violation before the financial
statements are issued or available to be issued or before the creditor
otherwise loses its right to demand repayment for more than one year (or the
operating cycle, if longer) after the balance sheet date, the debt is
classified as noncurrent (see ASC 470-10-45-11(a) and Section
13.5.3.2). For example, if a long-term debt obligation
contains a put option that may be exercised by the creditor because of a
covenant violation, but such option is only exercisable for 30 days after
the balance sheet date, noncurrent classification is appropriate since the
put option expired before the issuance of the financial statements.
13.5.3 Exceptions to the Current-Classification Requirements
13.5.3.1 Background
Violation of a covenant in a long-term obligation that makes the debt
repayable on demand does not cause the debt to be classified as current if
an exception in ASC 470-10 related to one or more of the following applies:
-
Covenant waivers and cures (see Section 13.5.3.2).
-
Grace periods (see Section 13.5.3.4).
-
Refinancing arrangements (see Section 13.7).
13.5.3.2 Covenant Waivers and Cures
ASC 470-10
45-11 Current liabilities
shall include long-term obligations that are or will
be callable by the creditor either because the
debtor’s violation of a provision of the debt
agreement at the balance sheet date makes the
obligation callable or because the violation, if not
cured within a specified grace period, will make the
obligation callable. Accordingly, such callable
obligations shall be classified as current
liabilities unless either of the following
conditions is met:
- The creditor has waived or subsequently lost (for example, the debtor has cured the violation after the balance sheet date and the obligation is not callable at the time the financial statements are issued or are available to be issued [as discussed in Section 855-10-25]) the right to demand repayment for more than one year (or operating cycle, if longer) from the balance sheet date. If the obligation is callable because of violations of certain provisions of the debt agreement, the creditor needs to waive its right with regard only to those violations. . . .
Long-term obligations that become payable on demand or
within one year (or the operating cycle, if longer) after the balance sheet
date because of a covenant violation are classified as current liabilities
unless the debtor obtains a covenant waiver that meets the requirements in
ASC 470-10-45-1 and ASC 470-10-45-11(a) before the financial statements are
issued or are available to be issued. Such debt would qualify as noncurrent
if the creditor either waives its right to demand repayment under the
specific covenant that was violated or otherwise loses its right to demand
repayment (e.g., because the debtor cures the violation) for a period of
more than one year after the balance sheet date. However, noncurrent
classification would not be permitted if the creditor retains its right to
demand repayment with respect to future covenant violations and it is
probable that the debtor will violate the same or a more restrictive
covenant as of measurement dates that are within 12 months of the balance
sheet date (see Section
13.5.3.3). To apply the exception in ASC 470-10-45-11(a) for
covenant waivers, an entity must ensure that the violated provision is
related to credit (see Section
13.3.4.5). For a discussion of the analysis of covenant
violations that are not credit-related, see Section 13.4.3.
Debt cannot be classified as noncurrent unless a waiver is binding and
eliminates the creditor’s right to demand repayment of the debt within one
year (or the operating cycle, if longer) after the balance sheet date as a
result of the covenant violation. If the creditor has a right to revoke the
waiver at its sole discretion, the waiver would not meet this condition.
Further, a creditor’s statement that it does not intend or expect to demand
repayment in the event of a covenant violation does not represent a waiver.
A debtor is not permitted to consider the likelihood that a creditor will
grant a waiver in the future even if the creditor has historically issued a
waiver for the same type of violation or other covenant violations.
Lenders often request something in exchange for a covenant waiver. For
example, the parties might agree to an up-front fee, an increase to the
interest rate, a principal modification, the addition of a cross-default
provision, or additional collateral. Since such changes represent
modifications to the contractual terms of the original debt instrument, the
debtor should consider whether the modifications are TDRs under ASC 470-60
(see Chapter 11) and, if not, whether
to account for them as an extinguishment or modification of the original
debt under ASC 470-50 (see Chapter
10). Unless it performs the necessary calculations, an entity
cannot assume that the payment of a fee to obtain a debt covenant waiver
does not pass the 10 percent cash flow test under ASC 470-50 (see Section 10.3.3).
13.5.3.3 Recurring Covenant Tests
ASC 470-10
45-1 Some long-term loans
require compliance with certain covenants that must
be met on a quarterly or semiannual basis. If a
covenant violation occurs that would otherwise give
the lender the right to call the debt, a lender may
waive its call right arising from the current
violation for a period greater than one year while
retaining future covenant requirements. Unless facts
and circumstances indicate otherwise, the borrower
shall classify the obligation as noncurrent, unless
both of the following conditions exist:
-
A covenant violation that gives the lender the right to call the debt has occurred at the balance sheet date or would have occurred absent a loan modification.
-
It is probable that the borrower will not be able to cure the default (comply with the covenant) at measurement dates that are within the next 12 months.
See Example 1 (paragraph 470-10-55-2) for an
illustration of this classification guidance.
The contractual terms of long-term debt obligations often contain covenants
that must be met on certain dates and that render the debt repayable on
demand if they are not met on those dates. If such a covenant has been
violated as of the balance sheet date or before the date on which the
financial statements are issued or available to be issued, the debt must be
classified as current unless one of the exceptions in ASC 470-10-45-11 or
ASC 470-10-45-14 applies (see Section
13.5.3.1).
ASC 470-10-45-1 addresses the application of ASC 470-10-45-11 to covenant
waivers (see Section 13.5.3.2) in
situations in which the creditor has waived the specific covenant that was
violated as of the balance sheet date but retains its right to demand debt
repayment if the debtor violates the same or a more restrictive covenant on
subsequent compliance dates within one year (or the operating cycle, if
longer) after the balance sheet date. This guidance applies when a debtor
would have violated a covenant as of the balance sheet date in the absence
of a modification to the debt terms (i.e., a debt modification before the
balance sheet date is treated as a waiver of a debt covenant under this
guidance; see Section 13.5.2.3).
Example 13-5
Recurring Minimum Working Capital
Requirement
The terms of a debt obligation require the debtor to
maintain a minimum amount of working capital in each
fiscal quarter. If the working capital requirement
is not met, the creditor obtains the right to
immediately accelerate the due date of the debt’s
outstanding amount. The debtor violates the covenant
as of December 31, 20X1. Further, the creditor
waives its right to accelerate the due date of the
debt as a result of the debtor’s violation of the
covenant as of December 31, 20X1. However, the
debtor retains its right to accelerate the debt’s
due date if the covenant is not met as of March 31,
20X2. In this scenario, the debtor must consider the
guidance in ASC 470-10-45-1.
Generally, a long-term obligation should be classified as noncurrent if the
creditor has waived the specific covenant violation unless it is probable
that the debtor will be unable to cure the violation on the compliance dates
within the next 12 months (or the operating cycle, if longer) after the
balance sheet date. If it is reasonably possible that the debtor will meet
the same and more restrictive covenants on the subsequent compliance dates
within the next 12 months (or the operating cycle, if longer) after the
balance sheet date, the debt should be classified as noncurrent. However,
the obligation should be classified as current if it is probable that debtor
will be unable to meet the covenant on any of the subsequent
compliance dates within the next 12 months (or the operating cycle, if
longer) after the balance sheet date. In other words, the obligation should
be classified as current if there is a remote likelihood that the debtor
will meet the covenant on all subsequent compliance dates within the
next 12 months (or the operating cycle, if longer) after the balance sheet
date.
Note that the guidance on recurring covenant tests includes a different
likelihood threshold for curing the covenant violation than the guidance on
grace periods. For a debtor to justify noncurrent classification under the
guidance on grace periods, curing the default must be probable (see
Section 13.5.3.4), whereas it must
merely not be probable that the debtor will be unable to cure the default
under the guidance on recurring covenant tests.
ASC 470-10
Example 1: Classification of Long-Term Debt
That Includes Covenants
55-2 This Example
illustrates the guidance in paragraph 470-10-45-1
for the classification of long-term debt when a debt
covenant violation is waived by a lender for a
period greater than a year.
55-3 A borrower has a
long-term loan that requires compliance with certain
covenants, such as maintenance of a minimum current
ratio, minimum debt-to-equity ratio, or minimum
level of shareholders’ equity. The borrower must
meet the covenants on a quarterly or semiannual
basis. At one of the compliance dates, the borrower
violates a covenant. That violation gives the lender
the right to call the debt. The lender waives that
right for a period greater than one year but retains
the future covenant requirements.
55-4 The issue is whether
the waiver of the lender’s rights resulting from the
violation of the covenant with the retention of the
periodic covenant tests represents, in substance, a
grace period. If viewed as a grace period, the
borrower would classify the debt as current (see
paragraph 470-10-45-11) unless it is probable that
the borrower can cure the violation (comply with the
covenant) within the grace period. Specifically, the
balance sheet classification of an obligation is
considered in the following situations:
-
The debt covenants are applicable only after the balance sheet date, and it is probable that the borrower will fail to meet the covenant requirement at the compliance date three months after the balance sheet date.
-
The borrower meets the current covenant requirement at the balance sheet date, and it is probable that the borrower will fail to meet the same covenant requirement at the compliance date in three months.
-
The borrower meets the current covenant requirement, and it is probable that the borrower will fail to meet a more restrictive covenant requirement applicable at the compliance date in three months.
-
The borrower has met the covenant requirement in the prior quarter but before the balance sheet date negotiates a modification of the loan agreement that eliminates the covenant requirement at the balance sheet date or modifies the requirement so that the borrower will comply. Absent the modification, the borrower would have been in violation of the covenant at the balance sheet date. The same or a more restrictive covenant must be met at the compliance date in three months, and it is probable that the borrower will fail to meet that requirement at that subsequent date.
-
The borrower is in violation of the current covenant requirement at the balance sheet date and, after the balance sheet date but before the financial statements are issued or are available to be issued (as discussed in Section 855-10-25), obtains a waiver. The same or a more restrictive covenant must be met at the compliance date in three months, and it is probable that the borrower will fail to meet that requirement at that subsequent date.
55-5 In the situations
described in (a) through (c) of the preceding
paragraph, the debt would be classified as
noncurrent, in which case the borrower would be
required to disclose the adverse consequences of its
probable failure to satisfy future covenants.
55-6 In the situations
described in paragraph 470-10-55-4(d) through (e),
the debt would be classified as current. However, if
the debt is expected to be refinanced on a long-term
basis and the borrower meets the provisions of
paragraphs 470-10-45-13 through 45-20, the debt
would be classified as noncurrent.
13.5.3.4 Grace Periods
ASC 470-10
45-11 Current liabilities
shall include long-term obligations that are or will
be callable by the creditor either because the
debtor’s violation of a provision of the debt
agreement at the balance sheet date makes the
obligation callable or because the violation, if not
cured within a specified grace period, will make the
obligation callable. Accordingly, such callable
obligations shall be classified as current
liabilities unless either of the following
conditions is met: . . .
b. For long-term obligations containing a
grace period within which the debtor may cure the
violation, it is probable that the violation will
be cured within that period, thus preventing the
obligation from becoming callable.
Generally, long-term debt that has become payable on demand
or within one year (or the operating cycle, if longer) after the balance
sheet date because of a covenant violation is classified as current (see
Section
13.5.1). However, if the debt agreement contains a grace
period during which the debtor may cure the violation, the debtor classifies
the debt as noncurrent if it is probable that the violation will be cured
within the established grace period. To apply the exception in ASC
470-10-45-11(b) for grace periods, an entity must ensure that the violated
provision is related to credit (see Section
13.3.4.5). For a discussion of the analysis of covenant
violations that are not credit-related, see Section 13.4.3.
In determining whether it is probable that the violation will be cured within
the contractual grace period, a debtor must use judgment and consider all
relevant facts and circumstances. In the absence of persuasive evidence that
it is probable that the debtor will be able to cure the violation before the
end of the grace period, the obligation should be classified as current
unless the debtor has obtained a covenant waiver that meets the requirements
in ASC 470-10-45-11(a) (see Section
13.5.3.2) or the debtor has the intent and ability to
refinance the obligation on a long-term basis (see Section 13.7). If a more than remote
likelihood exists that the debtor will be unable to remedy the violation,
the debt should be classified as current even if the debtor expects that the
creditor will not demand repayment.
ASC 470-10-50-2 requires a debtor to disclose the circumstances in which it
is in violation of a debt covenant but classifies the related debt as
noncurrent because it is probable that the violation will be cured within a
specified grace period (see Section 13.5.4).
13.5.3.5 Comparison of Guidance on Covenant Waivers and Grace Periods
When a lender issues a covenant waiver, the related debt is classified as
noncurrent unless it is probable that the debtor will violate the same or a
more restrictive covenant again as of a measurement date that is within 12
months of the balance sheet date (see Section
13.5.3.3). By contrast, when a loan agreement contains a
grace period, the related debt is classified as current unless it is
probable that the debtor will cure the violation within the specified grace
period, thus preventing the obligation from becoming repayable on demand
(see Section 13.5.3.4). The decision
tree below summarizes the guidance on classification of debt upon the
violation of a covenant as of the balance sheet date.
Example 13-6
Failure to Satisfy Debt Covenant — No Grace Period
Provided in Debt Agreement
Company A has a long-term loan that requires it to
comply with certain covenants, including quarterly
minimum quantitative ratios (e.g., a debt-to-equity
ratio) and issuance of annual audited financial
statements with an audit opinion that is not subject
to any qualifications or exceptions with respect to
the scope of the audit or any going-concern
emphasis. Company A failed to meet the minimum
quantitative ratio as of December 31, 20X1. Thus,
the lender has the right to demand repayment of the
debt immediately. The loan agreement does not
specify a grace period for curing covenant
violations.
Company A must classify the debt as current as of
December 31, 20X1. When a loan agreement does not
contain a grace period, long-term debt should be
classified as current when a debtor is in violation
of a loan covenant as of the balance sheet date
since the obligation is repayable on demand by the
lender.
Example 13-7
Failure to Satisfy Debt Covenant — Grace Period
Provided in Debt Agreement
Assume the same facts as in the
example above, except that the loan agreement
contains a grace period during which the debtor can
cure the violation. Company A would need to assess
the probability of curing the covenant violation.
Unless A determines that it is probable that the
covenant violation will be cured within the
specified grace period, current classification of
the loan would be required.
Example 13-8
Failure to Satisfy Debt Covenant — Waiver Obtained
by Debtor
Assume the same facts as in
Example 13-6
except that the lender has waived its right to
demand repayment of the loan related to the specific
covenant violation for a period of more than 12
months after the balance sheet date. Company A would
classify the debt as a current liability only if it
is probable that it will violate the same or a more
restrictive covenant again as of measurement dates
that are within 12 months of the balance sheet date
(see Section
13.5.3.3).
13.5.4 Disclosure
ASC 470-10
50-2 If an obligation
under paragraph 470-10-45-11(b) is classified as a
long-term liability (or, in the case of an unclassified
balance sheet, is included as a long-term liability in
the disclosure of debt maturities), the circumstances
shall be disclosed.
SEC Regulation S-X, Rule 4-08
§210.4-08 General Notes to Financial Statements
[Reproduced in ASC 235-10-S99-1]
If applicable to the person for which the financial
statements are filed, the following shall be set forth
on the face of the appropriate statement or in
appropriately captioned notes. The information [required
by paragraph (c)] shall be provided as of the most
recent audited balance sheet being filed . . . . When
specific statements are presented separately, the
pertinent notes shall accompany such statements unless
cross-referencing is appropriate. . . .
(c) Defaults. The
facts and amounts concerning any default in principal,
interest, sinking fund, or redemption provisions with
respect to any issue of securities or credit agreements,
or any breach of covenant of a related indenture or
agreement, which default or breach existed at the date
of the most recent balance sheet being filed and which
has not been subsequently cured, shall be stated in the
notes to the financial statements. If a default or
breach exists but acceleration of the obligation has
been waived for a stated period of time beyond the date
of the most recent balance sheet being filed, state the
amount of the obligation and the period of the waiver. .
. .
Nonauthoritative AICPA Guidance
Technical Q&As Section 3200, “Long-Term
Debt”
.17 Disclosure of Covenant Violation and Subsequent
Bank Waiver
Inquiry — At the balance-sheet
date, an entity was in violation of certain provisions
of the loan covenant associated with its long-term debt.
Under the terms of the loan agreement, the obligation is
now callable by the creditor. Subsequent to the
balance-sheet date, the bank waived its right to demand
repayment for more than one year from the balance-sheet
date. Therefore, the loan remained classified as
long-term, per Financial Accounting Standards Board
(FASB) Accounting Standards Codification (ASC)
470-10-45-12. Does the covenant violation and subsequent
bank waiver need to be disclosed in the financial
statements?
Reply — The authoritative literature applicable to
nonpublic entities does not address disclosure of debt
covenant violations existing at the balance-sheet date
that have been waived by the creditor for a stated
period of time. Nevertheless, disclosure of the existing
violation(s) and the waiver period should be considered
for reasons of adequate disclosure. If the covenant
violation resulted from nonpayment of principal or
interest on the debt, inability to maintain required
financial ratios, or other such financial covenants,
that information may be vital to users of the financial
statements even though the debt is not callable. If the
lender has waived the right for greater than one year
but retained the future covenant requirements (i.e.,
covenant requirements will have to be met at interim
dates during the next 12 months), the accounting and
disclosure provisions of FASB ASC 470, Debt,
apply.
For SEC registrants, Regulations S-X,
Article 4, Section 210-4-08(c), requires disclosure of
the amount of the obligation and the period of waiver
whenever a creditor has waived its right to call the
debt for a stated period of time.
ASC 470-10-50-2 requires a debtor to disclose the circumstances in which it is in
violation of a debt covenant but classifies the related debt as noncurrent
because it is probable that the violation will be cured with a specified grace
period that extends beyond the date on which the financial statements are to be
issued (see Section 13.5.3.4). For example, it might be appropriate to
disclose a description of the nature of the violation, the actions taken by the
debtor to cure the violation, and a statement that it is probable that the
violation will be cured before the end of the grace period. In addition, debtors
that do not present a classified balance sheet and describe the obligation as a
long-term liability must disclose this description in their discussion of debt
maturities.
Further, SEC Regulation S-X, Rule 4-08, requires SEC registrants to disclose
information about (1) the facts and amounts associated with any defaults or
other covenant violations that existed as of the balance sheet date and that
have not been subsequently cured and (2) the amount and the period of the waiver
if a waiver of a default or covenant violation was given for a period beyond the
balance sheet date. As discussed in AICPA Technical Q&As Section 3200.17,
disclosure of covenant waivers and the waiver period “may be vital” also for
users of financial statements of nonpublic entities.
13.6 SACs in Long-Term Obligations
ASC 470-10
45-2
In some situations, the circumstances (for example,
recurring losses or liquidity problems) would indicate that
long-term debt subject to a subjective acceleration clause
should be classified as a current liability. Other
situations would indicate only disclosure of the existence
of such clauses. Neither reclassification nor disclosure
would be required if the likelihood of the acceleration of
the due date were remote, such as if the lender historically
has not accelerated due dates of loans containing similar
clauses and the financial condition of the borrower is
strong and its prospects are bright.
50-3
As indicated in paragraph 470-10-45-2, in some situations
long-term debt subject to a subjective acceleration clause
shall be reclassified. That paragraph explains that other
situations would indicate only disclosure of the existence
of such clauses. That paragraph states further that neither
reclassification nor disclosure is required if the
likelihood of the acceleration of the due date is remote,
such as when the lender historically has not accelerated due
dates of loans containing similar clauses and the financial
condition of the borrower is strong and its prospects are
bright.
If a long-term debt obligation contains a SAC, the debtor should assess the
likelihood that the creditor will accelerate the debt’s due date. If exercise of the
SAC is probable, the long-term obligation must be classified as a current liability
and the SAC disclosed. If the debtor has experienced recurring losses or liquidity
problems, the obligation should be classified as current unless the exception for
refinancing arrangements applies (see Section
13.7). If the likelihood that the creditor will accelerate the debt’s
due date is reasonably possible, the existence of the SAC should be disclosed. If
the likelihood that the debt’s due date will be accelerated is remote, neither
disclosure nor reclassification is required. If a creditor has accelerated the
debt’s due date under a SAC, the debt is considered due on demand (see Section 13.4) and is classified as current unless
the exception for refinancing arrangement is met.
ASC 470-10 contains guidance on the impact of SACs on the classification of
revolving-debt arrangements that require a lockbox arrangement (see Section 13.8).
13.7 Refinancing Arrangements
13.7.1 Background
Under ASC 470-10-45-14, short-term obligations are classified as noncurrent if
the debtor has the intent and ability to refinance the obligation on a long-term
basis. To demonstrate that it has such an intent and ability, a debtor must (1)
refinance the obligation on a long-term basis (see Section
13.7.3) after the balance sheet date, but before the financial
statements are issued or available to be issued, or (2) have a financing
agreement that clearly permits it to refinance the obligation on a long-term
basis (see Section 13.7.4) before the financial statements
are issued or available to be issued.
13.7.2 Scope
13.7.2.1 Background
ASC 470-10-45-14 applies to certain short-term obligations
(see Section
13.3.4.2) of a debtor that has the intent and ability to
refinance on a long-term basis (see the next section). It does not apply to
certain short-term obligations incurred as part of an entity’s operating
cycle (see Section
13.7.2.3). Further, the post-balance-sheet-date refinancing
or financing agreement must be in place before the financial statements are
issued or available to be issued (see Section 13.3.4.9).
13.7.2.2 Refinancing a Short-Term Obligation on a Long-Term Basis
ASC 470-10
45-12A Some short-term
obligations are expected to be refinanced on a
long-term basis and, therefore, are not expected to
require the use of working capital during the
ensuing fiscal year. Examples include commercial
paper, construction loans, and the currently
maturing portion of long-term debt.
45-12B Refinancing a
short-term obligation on a long-term basis means
either replacing it with a long-term obligation or
with equity securities or renewing, extending, or
replacing it with short-term obligations for an
uninterrupted period extending beyond one year (or
the operating cycle, if applicable) from the date of
an entity’s balance sheet.
45-13 . . . A short-term
obligation shall be excluded from current
liabilities only if the conditions in the following
paragraph are met. Funds obtained on a long-term
basis before the balance sheet date would be
excluded from current assets if the obligation to be
liquidated is excluded from current liabilities.
45-14 A short-term
obligation shall be excluded from current
liabilities if the entity intends to refinance the
obligation on a long-term basis (see paragraph
470-10-45-12B) and the intent to refinance the
short-term obligation on a long-term basis is
supported by an ability to consummate the
refinancing demonstrated in either of the following
ways:
-
Post-balance-sheet-date issuance of a long-term obligation or equity securities. . . .
-
Financing agreement. . . .
45-21 Replacement of a
short-term obligation with another short-term
obligation after the date of the balance sheet but
before the balance sheet is issued or is available
to be issued (as discussed in Section 855-10-25) is
not, by itself, sufficient to demonstrate an
entity’s ability to refinance the short-term
obligation on a long-term basis. If, for example,
the replacement is made under the terms of a
revolving credit agreement that provides for renewal
or extension of the short-term obligation for an
uninterrupted period extending beyond one year (or
operating cycle) from the date of the balance sheet,
the revolving credit agreement must meet the
conditions in paragraph 470-10-45-14(b) to justify
excluding the short-term obligation from current
liabilities. Similarly, if the replacement is a
rollover of commercial paper accompanied by a
standby credit agreement, the standby agreement must
meet the conditions in that paragraph to justify
excluding the short-term obligation from current
liabilities.
As discussed in Section 13.7.1, ASC
470-10-45-14 applies when a debtor has the intent and ability to refinance a
short-term obligation on a long-term basis. ASC 470-10-45-12B clarifies that
refinancing a short-term obligation on a long-term basis includes:
-
Issuing a long-term obligation that replaces the short-term obligation.
-
Issuing equity securities that replace the short-term obligation.
-
Renewing or extending a short-term obligation for a period of more than one year (or the operating cycle, if longer) after the balance sheet date. (Note that provisions that permit the successive renewal or extension of short-term obligations generally should be evaluated under the guidance on financing agreements [see Section 13.7.4] and not under the requirements for post-balance-sheet-date issuance of long-term obligations or equity securities [see Section 13.7.3] since they do not represent long-term obligations.)
A debtor does not have the intent and ability to refinance a short-term
obligation on a long-term basis if:
-
It issues another short-term obligation that matures within one year (or the operating cycle, if longer) after the balance sheet date.
-
It extends or renews a short-term obligation for a period of less than one year (or the operating cycle, if longer) after the balance sheet date.
-
The short-term financing agreement expires within one year (or the operating cycle, if longer) after the balance sheet date.
13.7.2.3 Short-Term Obligations Related to the Operating Cycle
ASC 470-10
45-13 Short-term
obligations arising from transactions in the normal
course of business that are due in customary terms
shall be classified as current liabilities. . .
.
ASC 470-10-45-14 does not apply to short-term obligations that are classified
as current liabilities under ASC 210-10-45-8 and the first sentence of ASC
470-10-45-13 (see Section 13.3.3.4).
That is, “[s]hort-term obligations arising from transactions in the normal
course of business that are due in customary terms,” such as payables for
goods and services and accruals for wages, salaries, commissions, rentals,
and royalties, cannot be classified as noncurrent on the basis of the
guidance on refinancing arrangements. However, as noted in paragraph 20 of the Basis for Conclusions of FASB Statement 6, the guidance does apply to
short-term obligations “arising from the acquisition or construction of
noncurrent assets” or “not directly related to the operating cycle,” such as
a “note given to a supplier to replace an account payable that originally
arose in the normal course of business and had been due in customary
terms.”
13.7.3 Post-Balance-Sheet-Date Issuance of Long-Term Debt or Equity
13.7.3.1 General
ASC 470-10
45-14 A short-term
obligation shall be excluded from current
liabilities if the entity intends to refinance the
obligation on a long-term basis (see paragraph
470-10-45-12B) and the intent to refinance the
short-term obligation on a long-term basis is
supported by an ability to consummate the
refinancing demonstrated in either of the following
ways:
-
Post-balance-sheet-date issuance of a long-term obligation or equity securities. After the date of an entity’s balance sheet but before that balance sheet is issued or is available to be issued (as discussed in Section 855-10-25), a long-term obligation or equity securities have been issued for the purpose of refinancing the short-term obligation on a long-term basis. If equity securities have been issued, the short-term obligation, although excluded from current liabilities, shall not be included in owners’ equity. . . .
45-16 If an entity’s
ability to consummate an intended refinancing of a
short-term obligation on a long-term basis is
demonstrated by post-balance-sheet-date issuance of
a long-term obligation or equity securities (see
paragraph 470-10-45-14(a)), the amount of the
short-term obligation to be excluded from current
liabilities shall not exceed the proceeds of the new
long-term obligation or the equity securities
issued.
One way a debtor can demonstrate its intent and ability to refinance a
short-term obligation on a long-term basis is to repay the short-term
obligation by using the proceeds from the issuance of a long-term obligation
or equity securities. Such refinancing must occur before the financial
statements are issued or available to be issued (see Section 13.3.4.9). The amount of the
short-term obligation that is classified as noncurrent cannot exceed the
amount of the proceeds received from issuing the new long-term obligation or
equity securities and that are used to repay the short-term obligation.
The issuance of a new debt instrument or equity security that contains a put
option or other provision that permits the holder to demand repayment within
one year (or the operating cycle, if longer) after the balance sheet date
does not demonstrate the debtor’s ability to refinance on a long-term basis
(see Section 13.4.2). A debtor that
has violated a credit-related covenant in the new debt obligation before the
financial statements are issued or available to be issued should consider
the guidance on covenant violations (see Section
13.5). If a new long-term debt obligation contains a SAC, the
debtor should assess the likelihood that the holder will accelerate the
debt’s due date under that clause since it can affect whether noncurrent
classification is appropriate (see Section
13.6).
ASC 470-10-55-15 through 55-24 contain an example of a
post-balance-sheet-date refinancing that would be evaluated under ASC
470-10-45-14(a) (see Section 13.7.6.3).
13.7.3.2 Repayment of Short-Term Obligation Before Long-Term Refinancing
ASC 470-10
45-15 Repayment of a
short-term obligation before funds are obtained
through a long-term refinancing requires the use of
current assets. Therefore, if a short-term
obligation is repaid after the balance sheet date
and subsequently a long-term obligation or equity
securities are issued whose proceeds are used to
replenish current assets before the balance sheet is
issued or is available to be issued (as discussed in
Section 855-10-25), the short-term obligation shall
not be excluded from current liabilities at the
balance sheet date. See Example 5 (paragraph
470-10-55-33) for an illustration of this
guidance.
If a debtor repays a short-term obligation after the balance sheet date by
using current assets (e.g., excess cash), that obligation must be classified
as current as of the balance sheet date even if the debtor subsequently
issues a new long-term obligation or equity securities before the financial
statements are issued or available to be issued. This is because the
repayment of the short-term obligation required the use of current assets.
ASC 470-10-55-33 through 55-36 contain an example of a short-term obligation
that is repaid after the balance sheet date and subsequently replaced by
long-term debt before the balance sheet is issued (see Section
13.7.6.3).
13.7.4 Financing Agreement
13.7.4.1 Background
A debtor can demonstrate that it is able to refinance a
short-term obligation on a long-term basis by having a financing agreement
(e.g., a term loan commitment, a line of credit, a revolving-debt
arrangement, an equity facility, or a forward sale of debt or equity
securities) that permits such refinancing and meets certain criteria (see
the next section). Further, the guidance on financing agreements applies to
scenarios in which the debtor renews or extends the short-term obligation
(see ASC 470-10-45-12B).
ASC 470-10 limits the amount of the short-term obligation that can be
classified as noncurrent (see Section 13.7.4.3).
Generally, a debtor is not precluded from using a stand-by financing
agreement, although its terms cannot be unreasonable (see Section
13.7.4.4). However, a best-efforts agreement cannot be used
to demonstrate an ability to refinance a short-term obligation on a
long-term basis (see Section 13.7.4.5). In certain
circumstances, a subsidiary might be able to use a parent’s financing
agreement to demonstrate such ability (see Section
13.7.4.6).
13.7.4.2 Financing Agreement Criteria
ASC 470-10
45-14 A short-term
obligation shall be excluded from current
liabilities if the entity intends to refinance the
obligation on a long-term basis (see paragraph
470-10-45-12B) and the intent to refinance the
short-term obligation on a long-term basis is
supported by an ability to consummate the
refinancing demonstrated in either of the following
ways: . . .
b. Financing agreement. Before the balance
sheet is issued or is available to be issued (as
discussed in Section 855-10-25), the entity has
entered into a financing agreement that clearly
permits the entity to refinance the short-term
obligation on a long-term basis on terms that are
readily determinable, and all of the following
conditions are met:
1. The agreement does
not expire within one year (or operating cycle)
from the date of the entity’s balance sheet and
during that period the agreement is not cancelable
by the lender or the prospective lender or
investor (and obligations incurred under the
agreement are not callable during that period)
except for violation of a provision with which
compliance is objectively determinable or
measurable. For purposes of this Subtopic,
violation of a provision means failure to meet a
condition set forth in the agreement or breach or
violation of a provision such as a restrictive
covenant, representation, or warranty, whether or
not a grace period is allowed or the lender is
required to give notice. Financing agreements
cancelable for violation of a provision that can
be evaluated differently by the parties to the
agreement (such as a material adverse change or
failure to maintain satisfactory operations) do
not comply with this condition.
2. No violation of any
provision in the financing agreement exists at the
balance sheet date and no available information
indicates that a violation has occurred thereafter
but before the balance sheet is issued or is
available to be issued (as discussed in Section
855-10-25), or, if one exists at the balance sheet
date or has occurred thereafter, a waiver has been
obtained.
3. The lender or the
prospective lender or investor with which the
entity has entered into the financing agreement is
expected to be financially capable of honoring the
agreement.
55-1 Under paragraph
470-10-45-2, the lender has already loaned money on
a long-term basis. To continue long-term
classification requires a judgment about the
likelihood of acceleration of the due date.
Paragraphs 470-10-45-13 through 45-20 cover
circumstances in which the obligation is by its
terms short-term. For such an obligation to be
excluded from current liabilities, the lender must
advance new funds or refinance the short-term
obligation on a long-term basis based on conditions
existing on the date of the new loan or refinancing.
Therefore, to classify an obligation as long-term,
paragraphs 470-10-45-13 through 45-20 require a
higher standard for a financing agreement that
permits an entity to refinance a short-term
obligation on a long-term basis than paragraph
470-10-50-2 requires for an existing long-term loan
for which early repayment might be requested.
For debt to be classified as noncurrent on the basis of a financing
agreement, all of the following conditions must be met:
-
The financing agreement must clearly permit the debtor to refinance the short-term obligation on a long-term basis on terms that are readily determinable.The terms of the financing commitment must be unambiguous about whether the debtor is able to refinance the short-term obligation on a long-term basis. For example, the agreement might state that “[b]orrowings are available at [the debtor’s] request for such purposes as it deems appropriate and will mature three years from the date of borrowing” (see ASC 470-10-55-16(a) and ASC 470-10-55-17 in Section 13.7.6.4). Further, the debtor cannot be subject to any legal or contractual restrictions that prevent it from accessing funds that otherwise would be available under the financing agreement (e.g., transfer restrictions) (see Section 13.7.4.3). If the amount available under the financing agreement fluctuates, only the minimum amount that is expected to be available can be used to support a conclusion that noncurrent classification is appropriate for a short-term obligation. If the amount available under the financing agreement fluctuates and no reasonable estimate of the minimum amount that is expected to be available can be made, the financing agreement does not allow the debtor to refinance a short-term obligation on a long-term basis (see Section 13.7.4.3).In addition, the agreement must bind the potential creditor or investor to extend credit on a long-term basis or purchase the debtor’s equity securities. If the potential creditor or investor has a right to cancel the agreement in its sole discretion without any penalty or damages, the agreement would not meet this condition. For example, a letter of intent or memorandum of understanding would generally not be sufficient to meet this condition even if the potential investor or creditor is expected to honor its stated intent. Further, ASC 470-10-55-8 implies that the existence of a best-efforts remarketing agreement is not sufficient to demonstrate an intent and ability to refinance a short-term obligation on a long-term basis under ASC 470-10-45-14(b) (see Section 13.7.4.5). However, there is no requirement that the financing agreement be contractually linked to the short-term obligation.The fact that a debtor is considering other more advantageous sources of financing does not necessarily preclude it from asserting an intent to use a financing agreement to refinance a short-term obligation on a long-term basis under ASC 470-10-45-14(b) (see Section 13.7.4.4). However, the debtor must intend to use the financing agreement if no other source of financing becomes available (see ASC 470-10-45-20).
-
The financing agreement must be in place as of the date the financial statements are issued or available to be issued.There is no requirement that the debtor enter into the financing agreement as of the balance sheet date. ASC 470-10-45-14(b) requires the financing agreement to have been executed by the time the financial statements are issued or available to be issued.
-
The financing agreement cannot expire within one year (or the debtor’s operating cycle, if longer) after the balance sheet date except for the violation of an objective covenant.ASC 470-10-45-14(b)(1) requires the potential creditor’s or investor’s commitment under the financing agreement to be for at least one year (or the operating cycle, if longer) after the balance sheet date. During that period, the potential creditor or investor cannot have a right to cancel the agreement unless the debtor violates a provision (e.g., a restrictive covenant, representation, or warranty) with which compliance is objectively determinable or measurable (see item 5 below and Section 13.3.4.6).
-
The obligations or equity securities that would be issued under the financing agreement cannot be repayable on demand or within one year (or the operating cycle, if longer) after the balance sheet date.ASC 470-10-45-14(b)(1) indicates that any obligation incurred or equity securities issued under the financing agreement cannot be repayable on demand or within one year (or the debtor’s operating cycle, if longer) after the balance sheet date. Obligations that are repayable on demand or within one year (or the debtor’s operating cycle, if longer) after the balance sheet date are considered short-term obligations (see Section 13.4). Similarly, the renewal or extension of a short-term obligation for a period of more than one year would not meet this condition if the obligation contains a put option or other provision that permits the holder to demand repayment within one year after the balance sheet date.
-
The financing agreement and any obligations that would be issued under the financing agreement cannot contain a SAC.ASC 470-10-45-14(b)(1) indicates that the financing agreement cannot contain a SAC (see Section 13.3.4.6). For example, a liquidity facility with a material adverse change clause that permits the potential creditor or investor to terminate the facility would not qualify under this condition.Note that a long-term financing arrangement might not meet the conditions in ASC 470-10-45-14(b) for classification of a short-term obligation as noncurrent even if the debt that would be issued under the financing agreement would qualify as noncurrent once issued (see ASC 470-10-55-1). Long-term obligations with SACs often qualify as noncurrent under ASC 470-10-45-2 (see Section 13.6). However, a financing agreement can only be used as the basis for excluding a short-term obligation from current liabilities if the financing cannot be canceled by the lender on the basis of a SAC. The FASB believes that the circumstances addressed in the guidance on refinancing agreements in ASC 470-10-45-13 through 45-20 are different from those addressed in the guidance on SACs in long-term obligations in ASC 470-10-45-2. That is, the guidance on SACs in long-term obligations requires an entity to use judgment in determining the likelihood of acceleration of the due date of the long-term obligation, whereas the guidance on refinancing arrangements in ASC 470-10-45-14 requires the creditor to advance new funds or refinance the short-term obligation on a long-term basis.
-
If the debtor has violated a provision in the financing agreement, it has obtained a waiver.Under ASC 470-10-45-14(b)(2), the debtor must not be in violation of any provision in the financing agreement on the balance sheet date or when the financial statements are issued or available to be issued or, if a violation has occurred, the other party must have granted a waiver. Waivers should be evaluated under the guidance in ASC 470-10 on waivers (see Sections 13.5.3.2 and 13.5.3.3).
-
The potential creditor or investor must be expected to be financially capable of honoring the agreement.Under ASC 470-10-45-14(b)(3), the potential creditor or investor must be “expected to be financially capable of honoring the [financing] agreement.” If substantial doubt exists about the potential creditor’s or investor’s capacity to honor its commitment, this condition is not met.
-
The terms of the financing agreement cannot be unreasonable to the debtor.If the terms of a financing agreement are unreasonable to the debtor (e.g., with respect to interest rates or collateral requirements), the debtor would not be able to assert an intent to refinance the short-term obligation on a long-term basis under that agreement. Although a debtor is permitted to seek alternative sources of financing (see Section 13.7.4.4), it must intend to use the existing financing agreement if another source of financing does not become available.
13.7.4.3 Limit on the Amount That Can Be Classified as Noncurrent
ASC 470-10
45-17 If ability to
refinance is demonstrated by the existence of a
financing agreement (see paragraph 470-10-45-14(b)),
the amount of the short-term obligation to be
excluded from current liabilities shall be reduced
to the amount available for refinancing under the
agreement if the amount available is less than the
amount of the short-term obligation.
45-18 The amount to be
excluded shall be reduced further if information
(such as restrictions in other agreements or
restrictions as to transferability of funds)
indicates that funds obtainable under the agreement
will not be available to liquidate the short-term
obligation.
45-19 Further, if amounts
that could be obtained under the financing agreement
fluctuate (for example, in relation to the entity’s
needs, in proportion to the value of collateral, or
in accordance with other terms of the agreement),
the amount to be excluded from current liabilities
shall be limited to a reasonable estimate of the
minimum amount expected to be available at any date
from the scheduled maturity of the short-term
obligation to the end of the fiscal year (or
operating cycle). If no reasonable estimate can be
made, the entire outstanding short-term obligation
shall be included in current liabilities.
The amount of a short-term obligation that can be classified as noncurrent
cannot exceed the amount that the debtor is able to access under the
financing agreement and should take into account any limitations on the
debtor’s ability to access the amount committed under the financing
agreement. For example, the debtor may be subject to legal or contractual
restrictions that prevent it from using some or all of the amount committed
under the financing agreement to repay its short-term obligation. ASC
470-10-55-20 and 55-21 (see Section 13.7.6.4) include
an example of a scenario in which the transfer of funds between a parent and
subsidiary is legally restricted so that the parent is unable to access
funds that are available under the subsidiary’s financing agreement.
If the amount obtainable under a financing agreement fluctuates (e.g., on the
basis of collateral value of the debtor’s trade receivables), the debtor
should make a reasonable estimate of the minimum amount expected to be
available on any date during the period from the scheduled maturity of the
short-term obligation to the end of the fiscal year (or the entity’s
operating cycle, if longer). If a reasonable estimate cannot be made, the
financing agreement cannot be used to support a decision to exclude the
short-term obligation from current liabilities. ASC 470-10-55-27 through
55-29 (see Section 13.7.6.4) contain an example of a
financing agreement that meets the conditions in ASC 470-10-45-14(b) and
limits the amount that the debtor can borrow under the agreement to the
amount of its inventory.
13.7.4.4 Standby Financing Agreement
ASC 470-10
45-20 The entity may
intend to seek an alternative source of financing
rather than to exercise its rights under the
existing agreement when the short-term obligation
becomes due. The entity must intend to exercise its
rights under the existing agreement, however, if
that other source does not become available. The
intent to exercise may not be present if the terms
of the agreement contain conditions or permit the
prospective lender or investor to establish
conditions, such as interest rates or collateral
requirements, that are unreasonable to the
entity.
A financing agreement can qualify under ASC 470-10-45-14(b) even if a debtor
is seeking an alternative source of financing (e.g., one that is more
advantageous). Although a debtor is required to demonstrate an intent to
refinance the short-term obligation on a long-term basis, such an intent can
be present even if the financing agreement serves as a fallback or standby
source of financing. It is sufficient that the debtor intends to use the
financing agreement to refinance the short-term obligation on a long-term
basis if it does not find another source of financing. However, the debtor
should evaluate whether the terms of the financing agreement are reasonable.
If the terms are unreasonable to the debtor (e.g., the interest rate is in
excess of what the debtor is ready and willing to pay), it would be unable
to assert an intent to use that financing agreement if another source of
financing is not available.
Example 13-9
Lack of Intent to Refinance Short-Term Obligation
on a Long-Term Basis
A debtor is evaluating whether it can classify a
short-term obligation as a noncurrent liability
under ASC 470-10-45-14(b). It has a long-term line
of credit that clearly permits it to refinance the
short-term obligation on a long-term basis at 15
percent per annum. Because that interest rate is
significantly in excess of the interest rate the
debtor expects it would have to pay if it were to
enter into a similar line of credit arrangement that
reflects current market interest rates, it is
exploring whether to renegotiate the line of credit.
However, if it is unable to obtain a reduction in
the interest rate on the line of credit, the debtor
expects to pay off the short-term obligation by
using excess cash. In this scenario, the debtor
would not be able to assert an intent to refinance
the short-term obligation on a long-term basis under
the line of credit because it expects to use current
assets rather than the existing financing agreement
to repay the short-term obligation if it is unable
to renegotiate the financing agreement’s terms.
13.7.4.5 Best-Efforts Remarketing Agreements
ASC 470-10
Example 2: Classification by
the Issuer of Redeemable Instruments That Are
Subject to Remarketing Agreements
55-7 This Example
illustrates the guidance for the appropriate
classification by the issuer of debt if all of the
following conditions exist:
-
The debt has a long-term maturity (for example, 30 to 40 years).
-
The debt holder may redeem or put the bond on short notice (7 to 30 days).
-
The issuer has a remarketing agreement that states that the agent will make its best effort to remarket the bond when redeemed.
-
The debt is secured by a short-term letter of credit that provides protection to the debt holder in the event that the redeemed debt cannot be remarketed. (Amounts drawn against the letter of credit are payable back to the issuer of the letter of credit by the issuer of the redeemable debt instrument on the same day that the drawdown occurs.)
55-8 Debt agreements that
allow a debt holder to redeem (or put) a debt
instrument on demand (or within one year) should be
classified as short-term liabilities despite the
existence of a best-efforts remarketing agreement.
That is, unless the issuer of the redeemable debt
instrument has the ability and intent to refinance
the debt on a long-term basis as provided for in
paragraph 470-10-45-14, the debt should be
classified as a current liability.
55-9 In this Example, the
obligation would be classified by the issuer as
noncurrent only if the letter-of-credit arrangement
meets the requirements of paragraph
470-10-45-14(b).
ASC 470-10-55-7 through 55-9 include guidance on the classification of a
puttable debt obligation (such as a variable rate demand obligation) that is
subject to a best-efforts remarketing agreement and short-term letter of
credit. ASC 470-10-55-8 indicates that since a best-efforts remarketing
agreement is not binding, its existence is not sufficient evidence of a
debtor’s intent and ability to refinance a short-term obligation on a
long-term basis under ASC 470-10-45-14(b) (see Section 13.7.4.2).
13.7.4.6 Subsidiary’s Ability to Rely on Parent’s Financing Agreement
Rather than have multiple subsidiaries enter into individual long-term
financing agreements, a parent may enter into a single external arrangement
that allows it to provide intercompany financing to its subsidiaries for all
their short-term obligations to be refinanced on a long-term basis. Although
there may be no formal written agreement between the parent and its
individual subsidiaries that describes the terms of such a financing
arrangement, the parent’s intent and ability to provide long-term financing
to the subsidiary (through either an intercompany loan or an infusion of
capital) would enable the subsidiary to refinance its short-term obligations
on a long-term basis. The parent may provide such financing to the
subsidiary by either (1) using its own working capital or (2) drawing down
on the external financing agreement.
To exclude short-term obligations from current liabilities in its stand-alone
financial statements, a subsidiary may use an intercompany financing
arrangement with its parent to demonstrate its ability to refinance a
short-term obligation on a long-term basis if the criteria in ASC
470-15-45-14 are met (see Section
13.7.4.2). For the subsidiary to meet the criteria in ASC
470-15-45-14, there must be evidence that its parent has committed a portion
of its liquidity resources to servicing the subsidiary’s short-term
obligation on a long-term basis. That evidence should be documented in a
written intercompany financing agreement or in a confirmation of the details
of the arrangement with the parent. In either case, the evidence should
explicitly cover the criteria in ASC 470-10-45-14:
-
The parent must be committed to providing financing to the subsidiary on terms that would allow the subsidiary to refinance the short-term obligation on a long-term basis.
-
The parent must be committed to not canceling the agreement within one year (or the operating cycle) after the subsidiary’s balance sheet date for any reason that is not objectively determinable. To the extent that objectively determinable events may give rise to cancellation of the agreement, such events should be detailed in the confirmation obtained from the parent.
-
The parent must be financially capable of honoring the intercompany financing agreement after taking into account all of its other obligations, including the obligation to provide financing to other subsidiaries under similar agreements.
Although the parent is not required to have an external financing agreement
that meets the conditions in ASC 470-10-45-14 to demonstrate its financial
capabilities, in some circumstances establishing the parent’s ability to
refinance may be difficult in the absence of such agreement. In the
consolidated financial statements, a subsidiary’s obligations represent
obligations of the consolidated entity; therefore, the absence of an
external financing agreement (or post-balance-sheet issuance of a long-term
obligation or equity securities) that meets the conditions in ASC
470-10-45-14 would preclude a noncurrent classification of the subsidiary’s
short-term obligations on the parent’s consolidated balance sheet.
13.7.5 Disclosure
ASC 470-10
Short-Term Obligations Expected to Be
Refinanced
50-4 If a short-term
obligation is excluded from current liabilities pursuant
to the provisions of this Subtopic, the notes to
financial statements shall include a general description
of the financing agreement and the terms of any new
obligation incurred or expected to be incurred or equity
securities issued or expected to be issued as a result
of a refinancing.
When a debtor classifies a short-term obligation as a noncurrent liability under
ASC 470-10-45-14, it must include a general description of the
post-balance-sheet-date refinancing (see Section
13.7.3) or the financing agreement (see Section 13.7.4), as applicable.
13.7.6 Examples
13.7.6.1 Background
ASC 470-10
Example 4: Current Maturity of Long-Term Debt
and Notes Payable to Be Refinanced
55-13 The following Cases
illustrate various scenarios for refinancing the
current portion of long-term debt and notes payable
as discussed in paragraphs 470-10-45-13 through
45-20:
-
Entity refinances on long-term basis the current maturity of long-term debt and notes payable (Case A).
-
Laws prohibit the transfer of funds (Case B).
-
Entity issues debentures to liquidate the debt (Case C).
-
Entity negotiates a revolving credit agreement (Case D).
-
Entity negotiates a revolving credit agreement with borrowing limits (Case E).
-
Entity refinances commercial paper (Case F).
-
Case illustrates balance sheet presentation (Case G).
ASC 470-10-55 includes multiple cases illustrating whether
short-term obligations should be classified as current or noncurrent under
ASC 470-10-45-14 in various refinancing scenarios. The assumptions in most
of the cases are similar (see the next section). The cases address the
application of the guidance to:
-
Two post-balance-sheet-date refinancing scenarios (Case C of Example 4, and Example 5); see Section 13.7.6.3.
-
Various financing agreements (Cases A, B, D, and E of Example 4); see Section 13.7.6.4.
-
A financing agreement related to a long-term construction project (Case F of Example 4); see Section 13.7.6.5. (SAB Topic 6.H.2 also addresses this scenario.)
In addition, Case G in Example 4 illustrates balance sheet
presentation; see Section
13.7.6.6.
13.7.6.2 Shared Assumptions
ASC 470-10
Example 4: Current Maturity of Long-Term Debt
and Notes Payable to Be Refinanced
55-14 The Cases in this
Example do not comprehend all possible circumstances
and do not include all the disclosures that would
typically be made regarding long-term debt or
current liabilities.
55-15 Cases A through G
share all of the following assumptions:
-
Entity A’s fiscal year-end is December 31, 19X5.
-
The date of issuance of the December 31, 19X5, financial statements is March 31, 19X6; the Entity’s practice is to issue a classified balance sheet.
-
At December 31, 19X5, short-term obligations include $5,000,000 representing the portion of 6 percent long-term debt maturing in February 19X6 and $3,000,000 of 9 percent notes payable issued in November 19X5 and maturing in July 19X6.
-
The Entity intends to refinance on a long-term basis both the current maturity of long-term debt and the 9 percent notes payable.
-
Accounts other than the long-term debt maturing in February 19X6 and the notes payable maturing in July 19X6 are as follows.
-
Unless otherwise indicated, the Cases also assume that the lender or prospective lender is expected to be capable of honoring the agreement, that there is no evidence of a violation of any provision, and that the terms of borrowings available under the agreement are readily determinable.
ASC 470-10-55-14 and 55-15 contain assumptions that apply to
Cases A through G in Example 4 in ASC 470-10-55-16 through 55-32 (see the
next section and Section
13.7.6.4).
13.7.6.3 Post-Balance-Sheet-Date Refinancing
ASC 470-10
Example 4: Current Maturity of Long-Term Debt
and Notes Payable to Be Refinanced
Case C: Entity Issues Debentures to Liquidate the
Debt
55-21 In this Case, the
Entity issues $8,000,000 of 10-year debentures to
the public in January 19X6. The Entity intends to
use the proceeds to liquidate the $5,000,000 debt
maturing February 19X6 and the $3,000,000 of 9
percent notes payable maturing July 19X6. In
addition, assume the debt maturing February 19X6 is
paid before the issuance of the balance sheet, and
the remaining proceeds from the sale of debentures
are invested in a U.S. Treasury note maturing the
same day as the 9 percent notes payable.
55-22 Because the Entity
refinanced the long-term debt maturing in February
19X6 in a manner that meets the conditions set forth
in paragraph 470-10-45-14, that obligation would be
excluded from current liabilities. In addition, the
9 percent notes payable maturing in July 19X6 would
also be excluded because the Entity has obtained
funds expressly intended to be used to liquidate
those notes and not intended to be used in current
operations. In balance sheets after the date of sale
of the debentures and before the maturity date of
the notes payable, the Entity would exclude the
notes payable from current liabilities if the U.S.
Treasury note is excluded from current assets (see
paragraph 210-10-45-4).
55-23 If the debentures
had been sold before January 1, 19X6, the $8,000,000
of obligations to be paid would be excluded from
current liabilities in the balance sheet at that
date if the $8,000,000 in funds were excluded from
current assets.
55-24 If, instead of
issuing the 10-year debentures, the Entity had
issued $8,000,000 of equity securities and all other
facts in this Case remained unchanged, both the 6
percent debt due February 19X6 and the 9 percent
notes payable due July 19X6 would be classified as
liabilities other than current liabilities, such as
Indebtedness Due in 19X6 Refinanced in January
19X6.
Example 5: Classification of a Short-Term
Obligation Repaid Before Being Replaced by a
Long-Term Security
55-33
This Example illustrates the guidance in paragraph
470-10-45-15.
55-34 This Example has the
following assumptions:
-
An Entity has issued $3,000,000 of short-term commercial paper during the year to finance construction of a plant.
-
At June 30, 1976, the Entity’s fiscal year end, the Entity intends to refinance the commercial paper by issuing long-term debt. However, because the Entity temporarily has excess cash, in July 1976 it liquidates $1,000,000 of the commercial paper as the paper matures.
-
In August 1976, the Entity completes a $6,000,000 long-term debt offering.
-
Later during the month of August, it issues its June 30, 1976, financial statements.
-
The proceeds of the long-term debt offering are to be used to do all of the following:
-
Replenish $1,000,000 in working capital
-
Pay $2,000,000 of commercial paper as it matures in September 1976
-
Pay $3,000,000 of construction costs expected to be incurred later that year to complete the plant.
-
55-35 The $1,000,000 of
commercial paper liquidated in July would be
classified as a current liability in the Entity’s
balance sheet at June 30, 1976. The $2,000,000 of
commercial paper liquidated in September 1976 but
refinanced by the long-term debt offering in August
1976 would be excluded from current liabilities in
balance sheets at the end of June 1976, July 1976,
and August 1976. It should be noted that the
existence of a financing agreement at the date the
financial statements are issued or are available to
be issued (as discussed in Section 855-10-25) rather
than a completed financing at that date would not
change these classifications.
55-36 At the end of August
1976, $2,000,000 of cash would be excluded from
current assets or, if included in current assets, a
like amount of debt would be classified as a current
liability.
Case C in Example 4 in ASC 470-10-55-21 through 55-24 illustrates the
application of the guidance on post-balance-sheet-date refinancings in ASC
470-10-25-14(a) (see Section
13.7.3.1). Example 5 in ASC 470-10-55-33 through 55-36
illustrates the application of that guidance in a scenario in which the
short-term obligation is repaid before the post-balance-sheet-date
refinancing (see Section 13.7.3.2).
The assumptions in ASC 470-10-55-14 and 55-15 apply to Case C (see Section 13.7.6.2).
13.7.6.4 Financing Agreements
ASC 470-10
Example 4: Current Maturity of Long-Term Debt
and Notes Payable to Be Refinanced
Case A: Entity Refinances on Long-Term Basis the
Current Maturity of Long-Term Debt and Notes
Payable
55-16 The Entity
negotiates a financing agreement with a commercial
bank in December 19X5 for a maximum borrowing of
$8,000,000 at any time through 19X7 with the
following terms:
-
Borrowings are available at Entity A’s request for such purposes as it deems appropriate and will mature three years from the date of borrowing.
-
Amounts borrowed will bear interest at the bank’s prime rate.
-
An annual commitment fee of 1/2 of 1 percent is payable on the difference between the amount borrowed and $8,000,000.
-
The agreement is cancelable by the lender only if any of the following occur:
-
The Entity’s working capital, excluding borrowings under the agreement, falls below $10,000,000.
-
The Entity becomes obligated under lease agreements to pay an annual rental in excess of $1,000,000.
-
Treasury stock is acquired without the prior approval of the prospective lender.
-
The Entity guarantees indebtedness of unaffiliated persons in excess of $500,000.
-
55-17 The Entity’s
intention to refinance meets the condition specified
by paragraph 470-10-45-14. Compliance with the
provisions listed in (d) of the preceding paragraph
is objectively determinable or measurable;
therefore, the condition specified by paragraph
470-10-45-14(b)(1) is met. The proceeds of
borrowings under the agreement are clearly available
for the liquidation of the 9 percent notes payable
and the long-term debt maturing in February 19X6.
Both obligations, therefore, would be classified as
other than current liabilities.
55-18 Following are the
liability section of Entity A’s balance sheet at
December 31, 19X5, and the related note disclosures
required by this Subtopic, based on the information
in paragraphs 470-10-55-15 through 55-16. Because
the balance sheet is issued subsequent to the
February 19X6 maturity of the long-term debt, the
note describes the refinancing of that
obligation.
Note A
The Entity has entered into a financing agreement
with a commercial bank that permits the Entity to
borrow at any time through 19X7 up to $8,000,000 at
the bank’s prime rate of interest. The Entity must
pay an annual commitment fee of 1/2 of 1 percent of
the unused portion of the commitment. Borrowings
under the financing agreement mature three years
after the date of the loan. Among other things, the
agreement prohibits the acquisition of treasury
stock without prior approval by the bank, requires
maintenance of working capital of $10,000,000
exclusive of borrowings under the agreement, and
limits the annual rental under lease agreements to
$1,000,000. In February 19X6, the Entity borrowed
$5,000,000 at 8 percent and liquidated the 6 percent
long-term debt, and it intends to borrow additional
funds available under the agreement to refinance the
9 percent notes payable maturing in July 19X6.
Case B: Laws Prohibit the Transfer of Funds
55-19 A foreign subsidiary
of the Entity negotiates a financing agreement with
its local bank in December 19X5. Funds are available
to the subsidiary for its unrestricted use,
including loans to affiliated entities; other terms
are identical to those cited in Case A. Local laws
prohibit the transfer of funds outside the
country.
55-20 The requirement of
paragraph 470-10-45-14(b)(1) is met because
compliance with the provisions of the agreement is
objectively determinable or measurable. Because of
the laws prohibiting the transfer of funds, however,
the proceeds from borrowings under the agreement are
not available for liquidation of the debt maturing
in February and July 19X6. Accordingly, both the 6
percent debt maturing in February 19X6 and the 9
percent notes payable maturing in July 19X6 would be
classified as current liabilities.
Case D: Revolving Credit Agreement
55-25 In December 19X5 the
Entity negotiates a revolving credit agreement
providing for unrestricted borrowings up to
$10,000,000. Borrowings will bear interest at 1
percent over the prevailing prime rate of the bank
with which the agreement is arranged but in any
event not less than 8 percent, will have stated
maturities of 90 days, and will be continuously
renewable for 90-day periods at the Entity’s option
for 3 years provided there is compliance with the
terms of the agreement. Provisions of the agreement
are similar to those cited in paragraph
470-10-55-16(d). Further, the Entity intends to
renew obligations incurred under the agreement for a
period extending beyond one year from the balance
sheet date. There are no outstanding borrowings
under the agreement at December 31, 19X5.
55-26 In this instance,
the long-term debt maturing in February 19X6 and the
9 percent notes payable maturing in July 19X6 would
be excluded from current liabilities because the
Entity consummated a financing agreement meeting the
conditions set forth in paragraph 470-10-45-14(b)
before the issuance of the balance sheet.
Case E: Revolving Credit Agreement
With Borrowing Limits
55-27 Assume that the
agreement cited in Case D included an additional
provision limiting the amount to be borrowed by the
Entity to the amount of its inventory, which is
pledged as collateral and is expected to range
between a high of $8,000,000 during the second
quarter of 19X6 and a low of $4,000,000 during the
fourth quarter of 19X6.
55-28 The terms of the
agreement comply with the conditions required by
this Subtopic; however, because the minimum amount
expected to be available from February to December
19X6 is $4,000,000, only that amount of short-term
obligations can be excluded from current liabilities
(see paragraphs 470-10-45-16 through 45-19). Whether
the obligation to be excluded is a portion of the
currently maturing long-term debt or some portions
of both it and the 9 percent notes payable depends
on the intended timing of the borrowing.
55-29 If the Entity
intended to refinance only the 9 percent notes
payable due July 19X6 and the amount of its
inventory is expected to reach a low of
approximately $2,000,000 during the second quarter
of 19X6 but be at least $3,000,000 in July 19X6 and
thereafter during 19X6, the $3,000,000 9 percent
notes payable would be excluded from current
liabilities at December 31, 19X5 (see paragraphs
470-10-45-16 through 45-19).
Cases A, B, D, and E in Example 4 in ASC 470-10-55-16 through 55-20 and ASC
470-10-55-25 through 55-29 illustrate the application of the guidance on
financing agreements in ASC 470-10-25-14(b) (see Section 13.7.4). The assumptions in ASC 470-10-55-14 and
55-15 (see Section 13.7.6.2) apply to these cases. Further, Cases B and
E illustrate the application of the guidance on the limits on the amount
that can be classified as noncurrent when the amount available under the
financing agreement is subject to transfer restrictions or fluctuates (see
Section 13.7.4.3).
13.7.6.5 Financing Agreements Related to Long-Term Construction Projects
ASC 470-10
Example 4: Current Maturity of Long-Term Debt
and Notes Payable to Be Refinanced
Case F: Commercial Paper Refinancing
55-30 In lieu of the facts
given in paragraph 470-10-55-15(c) through (d),
assume that during 19X5 the Entity entered into a
contract to have a warehouse built. The warehouse is
expected to be financed by issuance of the Entity’s
commercial paper. In addition, the Entity negotiated
a standby agreement with a commercial bank that
provides for maximum borrowings equal to the
expected cost of the warehouse, which will be
pledged as collateral. The agreement also requires
that the proceeds from the sale of commercial paper
be used to pay construction costs. Borrowings may be
made under the agreement only if the Entity is
unable to issue new commercial paper. The proceeds
of borrowings must be used to retire outstanding
commercial paper and to liquidate additional
liabilities incurred in the construction of the
warehouse. At December 31, 19X5, the Entity has
$7,000,000 of commercial paper outstanding and
$1,000,000 of unpaid construction costs resulting
from a progress billing through December 31.
55-31 Because the
commercial paper will be refinanced on a long-term
basis, either by uninterrupted renewal or, failing
that, by a borrowing under the agreement, the
commercial paper would be excluded from current
liabilities. The $1,000,000 liability for the unpaid
progress billing results from the construction of a
noncurrent asset and will be refinanced on the same
basis as the commercial paper and, therefore, it
would also be excluded from current liabilities (see
paragraph 470-10-45-13).
SEC Staff Accounting Bulletins
SAB Topic 6.H.2, Classification of
Short-Term Obligations — Debt Related to Long-Term
Projects
[Reproduced in ASC
470-10-S99-3]
Facts: Companies engaging in
significant long-term construction programs
frequently arrange for revolving cover loans which
extend until the completion of long-term
construction projects. Such revolving cover loans
are typically arranged with substantial financial
institutions and typically have the following
characteristics:
-
A firm long-term mortgage commitment is obtained for each project.
-
Interest rates and terms are in line with the company’s normal borrowing arrangements.
-
Amounts are equal to the expected full mortgage amount of all projects.
-
The company may draw down funds at its option up to the maximum amount of the agreement.
-
The company uses short-term interim construction financing (commercial paper, bank loans, etc.) against the revolving cover loan. Such indebtedness is rolled over or drawn down on the revolving cover loan at the company’s option. The company typically has regular bank lines of credit, but these generally are not legally enforceable.
Question: Under FASB ASC
Subtopic 470-10, Debt — Overall, will the
classification of loans such as described above as
long-term be acceptable?
Interpretive Response: Where
such conditions exist providing for a firm
commitment throughout the construction program as
well as a firm commitment for permanent mortgage
financing, and where there are no contingencies
other than the completion of construction, the
guideline criteria are met and the borrowing under
such a program should be classified as long-term
with appropriate disclosure.
Case F in Example 4 in ASC 470-10-55-30 and 55-31 and SAB Topic 6.H.2
illustrate the application of the guidance on financing agreements in ASC
470-10-25-14(b) (see Section 13.7.4)
to scenarios that involve short-term interim financing to fund long-term
construction projects. The assumptions in ASC 470-10-55-14 and 55-15 (see
Section 13.7.6.2) apply to Case F
except as specified in ASC 470-10-55-30.
This guidance illustrates that a short-term interim financing (e.g.,
commercial paper, bank loans) can be classified as noncurrent if a financing
agreement (e.g., a firm, revolving long-term mortgage commitment for the
construction project) meets the conditions in ASC 470-10-45-14(b). The fact
that the financing agreement is contingent on the completion of construction
is not relevant.
13.7.6.6 Balance Sheet Presentation
ASC 470-10
Example 4: Current Maturity of Long-Term Debt
and Notes Payable to Be Refinanced
Case G: Balance Sheet Presentation
55-32 The following are
two methods of presenting liabilities in Entity A’s
balance sheet at December 31, 19X5, assuming the
Entity intends to refinance the 6 percent debt
maturing in February 19X6 and the 9 percent notes
payable maturing in July 19X6 but has not met the
conditions required by this Subtopic to exclude
those obligations from current liabilities.
Alternative 1
Alternative 2
Case G in Example 4 in ASC 470-10-55-32 illustrates the appropriate balance
sheet presentation based on the assumptions in ASC 470-10-55-14 and 55-15
(see Section 13.7.6.2).
13.8 Revolving Debt
13.8.1 Background
ASC Master Glossary
Line-of-Credit Arrangement
A line-of-credit or revolving-debt arrangement is an
agreement that provides the borrower with the option to
make multiple borrowings up to a specified maximum
amount, to repay portions of previous borrowings, and to
then reborrow under the same contract. Line-of-credit
and revolving-debt arrangements may include both amounts
drawn by the debtor (a debt instrument) and a commitment
by the creditor to make additional amounts available to
the debtor under predefined terms (a loan
commitment).
A revolving-debt arrangement is an agreement under which
borrowed amounts that are repaid can be reborrowed. That is, the potential
debtor can make multiple borrowings up to a specified maximum amount, repay
borrowed amounts, and reborrow. Some, but not all, revolving-debt arrangements
contain a lockbox feature with which remittances made by the debtor’s customers
are used to repay the debtor’s outstanding debt obligation (see Sections 13.3.4.7 and
13.3.4.8). The
next section discusses the classification of a revolving-debt arrangement
without a lockbox feature, and Section 13.8.3 addresses revolving-debt arrangements with a
lockbox feature.
13.8.2 Revolving Debt Without Lockbox Feature
ASC 470-10
45-4 Borrowings outstanding
under certain revolving credit agreements are considered
long-term debt because the borrowings are due at the end
of a specified period (for example, 3 years) rather than
when short-term notes roll over (for example, every 90
days). Borrowings may be collateralized, but the only
note is the overall note signed at the agreement’s
inception. . . .
Nonauthoritative AICPA Guidance
Technical Q&As Section 3200, “Long-Term
Debt”
.12 Balance Sheet Classification of Revolving Line
of Credit
Inquiry — A company has a revolving line of credit
with a bank. The company is only required to make
monthly interest payments. No principal payments are
required. In the event the credit line is terminated,
the principal is due 12 months after the date of
termination.
Should the principal amount be classified as current or
long-term in a classified balance sheet?
Reply — Financial Accounting Standards Board
(FASB) Accounting Standards Codification (ASC)
210-10-45-9 states that liabilities whose regular and
ordinary liquidation is expected to occur within a
relatively short period of time, usually 12 months, are
intended for inclusion in the current liability
classification. If the line of credit has not been
terminated at the balance sheet date, the principal
amount should be classified as long-term, unless the
company intends to repay the outstanding debt within 12
months.
[Revised, June 2009, to reflect conforming changes
necessary due to the issuance of FASB ASC.]
Borrowings under a revolving-debt agreement without a lockbox feature are
classified as current or noncurrent in the same manner as nonrevolving-debt
obligations. Generally, such borrowings are classified as current liabilities if
(1) they are scheduled to mature within one year (or the operating cycle, if
longer), (2) the creditor could demand earlier repayment (see Sections 13.4 and 13.5), or (3) it is probable that a SAC will be exercised (see
Section 13.6). However, a
revolving-debt agreement would qualify as a noncurrent liability if the debtor
can demonstrate its intent and ability to refinance the obligation on a
long-term basis (see Section 13.7) or, in
the case of a long-term revolving-debt agreement for which a covenant violation
has occurred, either of the exceptions for covenant waivers and grace periods
applies (see Section 13.5.3). ASC
470-10-55-25 and 55-26 illustrate a scenario in which a long-term
revolving-credit agreement is used to demonstrate an intent and ability to
refinance a short-term obligation on a long-term basis (see Section 13.7.6.4).
13.8.3 Revolving Debt With Lockbox Feature
Some debt agreements require the debtor to establish a lockbox with the creditor.
ASC 470-10-45-5 and 45-6 draw a distinction between traditional and springing
lockbox features.
13.8.3.1 Traditional Lockbox Arrangements
As discussed in Section
13.8.3.3, a revolving-debt obligation that contains a
traditional lockbox arrangement is considered a short-term obligation.
Therefore, it can be classified as a noncurrent liability only if the debtor
has the intent and ability to refinance the obligation on a long-term basis.
This depends on the circumstances, including whether the debt agreement has
a SAC and whether repayments made through the lockbox arrangement can be
considered refinanced on a long-term basis in accordance with ASC
470-10-45-13 through 45-21 (see Section 13.7.4).
13.8.3.2 Springing Lockbox Arrangements
Because customer remittances paid to a lockbox in a revolving-credit
arrangement that incorporates a springing lockbox feature (see Section 13.3.4.8) are not used to pay down
the debtor’s obligation unless the springing lockbox is triggered, a
revolving-credit arrangement that is not repayable within one year (or the
operating cycle, if longer) generally is considered a long-term obligation
under ASC 470-10 even if it contains a springing lockbox feature (see ASC
470-10-45-6).
Springing lockbox arrangements usually include a SAC (see Section 13.3.4.6) that, if exercised, allows
the creditor to cause the cash in the lockbox at that moment, as well as all
subsequent customer lockbox remittances, to be applied against the debtor’s
outstanding debt balance. That is, once the creditor exercises the SAC, in
addition to acceleration of the debt, the springing lockbox arrangement will
function like a traditional lockbox agreement (see Section 13.3.4.7). Therefore, the debtor
must consider the guidance on SACs in long-term obligations (see Section 13.6).
Borrowings under revolving-debt arrangements with a springing lockbox feature
are classified as noncurrent liabilities if they are scheduled to mature one
year (or the operating cycle, if applicable) after the balance sheet date
unless (1) the creditor could demand earlier repayment (see Sections 13.4 and 13.5) or (2) it is probable that a SAC will be exercised
(see Section 13.6). If a covenant
violation has occurred that makes the debt repayable within one year (or the
operating cycle, if longer) after the balance sheet date, the debtor should
also consider whether the debt can be classified as noncurrent under the
guidance on waiver exceptions and grace periods (see Section 13.5.3).
Borrowings under revolving-debt arrangements with a
springing lockbox feature are classified as current liabilities if (1) they
are scheduled to mature within one year (or the operating cycle, if longer),
(2) the creditor could demand earlier repayment (see Sections 13.4 and
13.5), or
(3) it is probable that a SAC will be exercised (see Section 13.6).
However, such borrowings qualify as noncurrent liabilities if the debtor can
demonstrate its intent and ability to refinance the obligation on a
long-term basis (see Section 13.7) or, in the case of a covenant violation,
either of the exceptions for covenant waivers and grace periods applies (see
Section
13.5.3).
13.8.3.3 Revolving Debt With Lockbox Feature and SAC
ASC 470-10
45-3 This guidance does
not apply to lock-box arrangements that are
maintained at the discretion of the borrower.
45-4 . . . Some agreements
require that the borrower maintain a lock-box
arrangement. If borrowings outstanding under the
agreement are considered long-term obligations, the
effect of a subjective acceleration clause on
balance sheet classification is determined based on
the criteria in paragraph 470-10-45-2. If borrowings
outstanding are considered short-term obligations,
and the borrower intends to refinance the obligation
on a long-term basis, paragraph 470-10-45-13 applies
and the debt shall be classified as a current
liability because of the existence of the subjective
acceleration clause.
45-5 Borrowings
outstanding under a revolving credit agreement that
includes both a subjective acceleration clause and a
requirement to maintain a lock-box arrangement shall
be considered short-term obligations. Accordingly,
because of the subjective acceleration clause, the
debt shall be classified as a current liability
unless the conditions in paragraph 470-10-45-14 are
met based on an agreement, other than the revolving
credit agreement, to refinance the obligation after
the balance sheet date on a long-term basis.
45-6 Borrowings
outstanding under a revolving credit agreement that
includes both a subjective acceleration clause and a
requirement to maintain a springing lock-box
arrangement shall be considered long-term
obligations since the remittances do not
automatically reduce the debt outstanding without
another event occurring. The effect of the
agreement’s subjective acceleration clause shall be
determined based on the provisions of paragraph
470-10-45-2.
45-21 Replacement of a
short-term obligation with another short-term
obligation after the date of the balance sheet but
before the balance sheet is issued or is available
to be issued (as discussed in Section 855-10-25) is
not, by itself, sufficient to demonstrate an
entity’s ability to refinance the short-term
obligation on a long-term basis. If, for example,
the replacement is made under the terms of a
revolving credit agreement that provides for renewal
or extension of the short-term obligation for an
uninterrupted period extending beyond one year (or
operating cycle) from the date of the balance sheet,
the revolving credit agreement must meet the
conditions in paragraph 470-10-45-14(b) to justify
excluding the short-term obligation from current
liabilities. . . .
A revolving-credit arrangement with a traditional lockbox
feature (see Section
13.3.4.7) is considered a short-term obligation. Under ASC
470-10-45-14, short-term obligations are classified as noncurrent
liabilities if the borrower has the intent and ability to refinance such
obligations on a long-term basis (see Section 13.7). However, the existence
of a SAC within a revolving-debt arrangement disqualifies the entity from
using the revolving-debt arrangement as the means to refinance the
obligation on a long-term basis even if the revolving-debt arrangement does
not expire within one year (or the operating cycle, if longer) after the
balance sheet date. Accordingly, a revolving-credit agreement that
incorporates both a traditional lockbox feature and a SAC must be classified
as a current liability unless the conditions in ASC 470-10-45-14 are met on
the basis of an agreement other than the revolving-debt arrangement (see
Section
13.7). (As discussed in Section 13.7.4, a long-term
revolving-debt agreement with a traditional lockbox feature that does not
have a SAC may meet the conditions in ASC 470-10-45-14(b).)
If a long-term
revolving-debt arrangement incorporates a springing lockbox feature (see
Section
13.3.4.8) and a SAC (see Section 13.3.4.6), the classification
of the related borrowings depends on the likelihood that the SAC will be
exercised. If exercise of the SAC is probable, the revolving-debt
arrangement must be classified as a current liability unless the conditions
in ASC 470-10-45-14 are met on the basis of an agreement other than the
revolving-debt arrangement (see Section 13.7). The impact of lockbox
features and SACs on the classification of a revolving-credit agreement is
summarized in the following decision tree:
2
Remittances from the borrower’s customers are
forwarded to the debtor’s general bank account and not used to
reduce the outstanding debt unless or until the lender exercises
the SAC (ASC 470-10-45-6).
3
Classify the borrowing as a current liability
unless the ability to refinance the liability for a long-term
period comes from an agreement other than the revolving-credit
agreement.
13.9 Increasing-Rate Debt
ASC 470-10
45-7
Classification of increasing-rate debt as current or
noncurrent would reflect the borrower’s anticipated source
of repayment that is, current assets or a new short-term
debt borrowing versus a long-term refinancing agreement that
meets the requirements of this Subtopic and need not be
consistent with the time frame used to determine periodic
interest cost.
The manner in which increasing-rate extendable debt is classified as current or
noncurrent is not necessarily consistent with how periodic interest cost is
determined under ASC 470-10-35-1 and 35-2 (see Section
6.2.4.5). Rather, increasing-rate extendable debt should be
classified as current or noncurrent on the basis of the same general guidance in ASC
470-10 that applies to all other debt instruments. The debtor may therefore need to
consider whether a refinancing arrangement meets the requirements in ASC
470-10-45-14 (see Section 13.7).
13.10 Convertible Debt
ASC 470-20
45-1B The guidance on
convertible debt instruments in this Subtopic does not
affect an issuer’s determination of whether the instruments
should be classified as a current liability or a long-term
liability. For purposes of applying other applicable U.S.
generally accepted accounting principles (GAAP) to make that
determination, all terms of the convertible debt instrument
shall be considered.
Nonauthoritative AICPA Guidance
Technical Q&As Section 1100, “Statement of Financial
Position”
.14 Classification of Convertible Debt
Inquiry — A company has debt that is convertible into
common stock of the company at the option of the company.
The debt by its terms is considered long-term debt in the
classified balance sheet. The company intends to call the
debt and issue the common stock within one year of the
balance sheet date. Should this debt be classified as a
current liability?
Reply — No. The expected call of the debt securities
will not consume current assets or increase current
liabilities, and accordingly should continue to be
classified as a long-term obligation.
The general principle underlying the classification of debt
in a debtor’s principal balance sheet should be based on
facts existing at the date of the balance sheet rather than
on expectations. According to FASB Accounting Standards
Codification (ASC) glossary, the term current
liabilities “is used principally to designate
obligations whose liquidation is reasonably expected to
require the use of existing resources properly classifiable
as current assets, or the creation of other current
liabilities.” . . .
The classification of convertible debt as current or noncurrent depends on the terms
of the debt. Current liabilities generally include convertible debt obligations for
which payment of cash or other current assets or the creation of current liabilities
could be required within one year (or the operating cycle, if longer) after the
balance sheet date. Unless debt has met the requirements related to short-term
obligations expected to be refinanced on a long-term basis (see Section 13.7), current classification is necessary for:
-
Convertible debt that is scheduled to mature within one year (or the operating cycle, if longer) after the balance sheet date (see Section 13.3).
-
Any portion of long-term convertible debt that is scheduled to mature within one year (or the operating cycle, if longer) after the balance sheet date (e.g., the current portion of an amortizing long-term debt obligation for which the principal amount is paid down over the obligation’s life; see Section 13.3).
-
Convertible debt that is repayable on demand or puttable by the holder within one year (or the operating cycle, if longer) after the balance sheet date (see Section 13.4), including convertible debt that is contingently puttable if the contingency has been met.
-
Long-term convertible debt that became repayable on demand or within one year (or the operating cycle, if longer) after the balance sheet date because of a covenant violation that occurred as of the balance sheet date or before the financial statements were issued or available to be issued (see Section 13.5). Note that the issuer should consider whether either of the exceptions for covenant waivers and grace periods is applicable (see Section 13.5.3).
-
The cash-settled portion of debt that is convertible at any time or within one year (or the operating cycle, if longer) after the balance sheet date if the issuer is or could be required to settle all or part of the conversion value in cash upon conversion (e.g., Instrument A and Instrument C; see Section 2.3.2.2). Such debt is treated as debt that is repayable on demand (see Section 13.4) even if the conversion option is out-of-the-money.
Generally, the holder’s conversion option does not affect the classification of
convertible debt as current or noncurrent if it must be settled by the delivery of
the issuer’s equity shares (see Section
13.3.3.4).
13.11 Long-Term Obligations That Debtor Repays or Intends to Repay After the Balance Sheet Date
ASC 470-10 does not require an entity to classify a long-term debt
obligation as a current liability on the basis that the entity expects to settle the
debt within one year (or the operating cycle, if longer) after the balance sheet
date (e.g., the debtor expects to exercise an early repayment option such as an
embedded call option in the debt). While ASC 210-10-45-9 states that liabilities
whose “ordinary liquidation is expected to occur within a relatively short period of
time, usually 12 months,” are intended for inclusion in the current liability
classification, noncurrent classification is appropriate when a debt obligation
meets the conditions for long-term classification even if the debtor intends to
repay it within one year (or the operating cycle, if longer) after the balance sheet
date. That is, if the debtor controls the ability to not repay the debt obligation
within one year (or the operating cycle, if longer) after the balance sheet date,
the debt represents a noncurrent liability notwithstanding the debtor’s intent to
repay it within one year (or the debtor’s actual repayment of the liability after
the balance sheet date and before the financial statements are issued or available
to be issued). This is consistent with the general principle in U.S. GAAP that a
debtor should classify debt on the basis of facts known on the balance sheet date
rather than on its expectations. Therefore, a debt repayment that occurs after the
balance sheet date but before the financial statements are issued or available to be
issued represents a nonrecognized subsequent event under ASC 855-10-25-3.
However, on the basis of observed diversity in practice, it would be acceptable for a
debtor to classify a debt obligation as current that otherwise meets the conditions
for noncurrent classification when both of the following conditions are met:
-
The debtor either (1) has the ability and intent to repay the obligation within one year (or the operating cycle, if longer) after the balance sheet date or (2) repays the obligation after the balance sheet date but before the financial statements were issued or available to be issued.
-
The repayment of the debt is made with assets that were classified as current as of the balance sheet date (e.g., the debtor did not repay the debt by refinancing it with the issuance of replacement long-term debt).
This alternative view would be considered acceptable and consistent with the
nonauthoritative guidance in AICPA Technical Q&As Section 3200.12, which refers
to classification of a long-term debt obligation as current on the basis of an
intent to repay it within 12 months after the balance sheet date. However, if an
entity applies this alternative, it should appropriately disclose the rationale for
the classification of the debt as a current liability as of the balance sheet
date.
13.12 Presentation
13.12.1 Balance Sheet Presentation
ASC 210-10
45-5 A total of current
liabilities shall be presented in classified balance
sheets.
In a classified balance sheet, current liabilities are presented separately from
noncurrent liabilities, with a summation of each total. SEC Regulation S-X, Rule
5-02 (reproduced in ASC 210-10-S99-1), requires SEC registrants within the scope
of that rule (i.e., commercial and industrial companies) to present long-term
debt separately from current liabilities when filing financial statements with
the SEC. Case G in Example 4 in ASC 470-10-55-32 illustrates the appropriate
balance sheet presentation based on the assumptions in ASC 470-10-55-14 and
55-15 (see Section 13.7.6.6).
13.12.2 Subsidiary’s and Parent’s Fiscal Years Differ
ASC 470-10 — SEC Materials — SEC Staff Guidance
Comments Made by SEC Observer at Emerging Issues
Task Force (EITF) Meetings
SEC Observer Comment: Classification of
Subsidiary’s Loan Payable in Consolidated Balance Sheet
When Subsidiary’s and Parent’s Fiscal Years Differ
S99-4 The following is the text
of SEC Observer Comment: Classification of Subsidiary’s
Loan Payable in Consolidated Balance Sheet When
Subsidiary’s and Parent’s Fiscal Years Differ.
Issues periodically occur related to
classification of a subsidiary’s loan payable in a
consolidated balance sheet when the subsidiary’s
and parent’s fiscal years differ. For example,
assume that a consolidated balance sheet prepared
as of February 29, 1988, comprised of the parent
company’s balance sheet as of that date and the
subsidiary’s balance sheet as of December 31,
1987. The subsidiary’s balance sheet included a
material loan payable to a bank due January 31,
1989. The SEC staff would expect the debt in this
case to be classified as current because to do
otherwise would result in a material
misclassification.
A subsidiary’s fiscal year may end before that of its parent. As a result, a
subsidiary may have debt that becomes due more than one year (or the operating
cycle, if longer) after the subsidiary’s balance sheet date but less than one
year (or the operating cycle, if longer) after the parent’s balance sheet date.
ASC 470-10-S99-4 includes the SEC staff’s views about the classification in this
situation. If a debt obligation matures less than one year (or the operating
cycle, if longer) after the parent’s balance sheet date, the debt should be
classified as a current liability in the parent’s consolidated balance
sheet.
13.12.3 Comparative Financial Statements
Nonauthoritative AICPA Guidance
Technical Q&As Section 3200, “Long-Term
Debt”
.13 Uncertainty Arising From Violation of Debt
Agreement
Inquiry — At the end of 20X1, a company was in
violation of its long-term debt covenant and was unable
to obtain a waiver from the bank. It therefore
reclassified its debt to current and appropriate
footnote disclosures were made. During 20X2, the
violation was cured. What is the proper classification
of the debt in the company’s 20X2 comparative financial
statements?
Reply — . . . Since the violation was cured in
20X2, the debt should be classified as long-term in the
20X2 financial statements. The debt should not be
reclassified to long term in the 20X1 financial
statements because it was a current liability based on
the facts existing at the 20X1 balance sheet date. . .
.
AICPA Technical Q&As Section 3200.13 clarifies that when an entity presents
comparative financial statements, it should not retrospectively reclassify debt
as noncurrent if the debt was appropriately classified as current when those
financial statements were first issued. The specific situation addressed in
Technical Q&As Section 3200.13 is one in which the debtor (1) violated a
covenant, which caused the debt to become repayable as of the 20X1 balance sheet
date (see Section 13.5), and (2) did not
obtain a waiver from the creditor before the 20X1 financial statements were
issued (see Section 13.5.3). Accordingly,
the debt was classified as current in the 20X1 financial statements. The debtor
cured the violation in 20X2 so that the debt qualified for noncurrent
classification in the 20X2 financial statements. Nevertheless, the debtor could
not reclassify the debt as noncurrent in its 20X2 comparative financial
statements for 20X1.