Changes to FASB Accounting Standards: What does it mean for Supply Chain Finance

The world of supply chain financing (SCF) is changing rapidly. Companies that extend payment terms to their suppliers and set up SCF programs so that those vendors can be paid early by a bank or other third-party financing provider will be required to disclose the terms and size of the SCF programs in financial statement footnotes beginning in 2023.

Companies began raising these concerns long before the Financial Accounting Standards Board (FASB) released the final standard in late September 2022. Years of deliberation, debate, and discussion involving investors, credit rating agencies, accounting companies, banks, regulators, and corporations resulted in this decision. Several big insolvencies of firms that had adopted SCF programs fueled much of the worldwide attention and media coverage. Critics claimed that SCF enabled struggling businesses to conceal debt by classifying it as trade payables.

Define FASB accounting standards

The Financial Accounting Standards Board (FASB) established in 1973, based in Norwalk, Connecticut, is an independent, private-sector, not-for-profit organization that establishes financial accounting and reporting standards for public and private companies and not-for-profit organizations that adhere to Generally Accepted Accounting Principles (GAAP).

The FASB develops and sets financial accounting standards in a transparent and inclusive manner with the goal of encouraging financial reporting that gives meaningful information to investors and others who use financial reports.

What are changes in FASB accounting standards?

There had previously been no obligations for companies to report if they are running a supplier financing program, whether it be supply chain finance, payables finance, or structured payables arrangements. Supplier finance businesses will be obliged to provide information regarding the program under the new guidelines in order "to assist a user of financial statements to comprehend the program's purpose, activity during the period, variations from period to period, and prospective scale."

Buyers will be required to provide the following information in each yearly reporting period beginning after December 15, 2022:

• The program's major terms, such as a description of the payment conditions (including payment schedule and the justification for determining it) and assets pledged as security or other types of guarantees offered for the promised payment to the financing provider or intermediary.
• For liabilities that the buyer has verified to the financing provider or intermediary as valid.
• The amount owed that the buyer has not paid as of the conclusion of the fiscal year.
• A description of where certain liabilities are shown on the balance sheet.
• A roll-forward of such responsibilities throughout the course of the year, including the number of obligations confirmed and the number of obligations paid.
• At the end of each intermediate period, the buyer shall reveal the outstanding verified amount.

Is this change is good for Supply chain finance?

Clarity on the accounting approach for supply chain financing is beneficial. Clarity deters unscrupulous actors and poor supplier finance accounting treatment judgments. Transparency provides external financial stakeholders (investors, banks, rating agencies, shareholders, and so on) with a clearer picture of how supplier finance influences a company's working capital and cash flow. Knowing who a corporation owes, how much it owes, and when it owes it are fundamental principles of competent financial reporting.

Why are supplier payment terms an important focus of these changes?

The most significant difference in the new requirements is the disclosure of supplier payment conditions and how these payment terms were set.

This clearly emphasizes the need of verifying that a buyer's payment conditions are in accordance with industry averages. There should be extensive experience assisting customers in determining and validating "fair" supplier payment terms. The payment terms of a buyer's payables may or may not be extended as a consequence of a supplier finance program, and the FASB proposals want to capture all arrangements, whether or not the payment terms have been extended.

A Checklist to review the new FASB disclosure rule

Here's a checklist of things to think about while analyzing the new FASB disclosure requirement and evaluating an existing SCF program or establishing a new one.

1. Ensure that key stakeholders are aware of the disclosure rule's existence and that your auditor is familiar with all of its obligations.
2. Understand the regulation's implications and how a payables finance program should be reflected on the balance sheet.
3. Use caution in contract design with the bank/SCF service provider, as well as how the payables finance program is set up in connection to the buyer-seller relationship, the buyer-bank relationship, and the seller-bank relationship. These must adhere to a certain structure outlined in industry standards.
4. Corporate buyers, as well as their procurement teams, must realize that the SCF program is entirely elective; no supplier may be forced to participate in a payables financing program.
5. Verify that the payment conditions are reasonable and appropriate for the sector and region. Check that the SCF program's share of total procurement value or volume is not excessive.

Conclusion

Many corporations will not search for alternatives to typical supply chain financing schemes that do not demand disclosure. The economic value unleashed for both purchasers and suppliers will surpass any possible cost imposed by program transparency.

The new standards will eventually benefit the whole SCF sector, as well as investors and others interested in learning more about the programs. It might potentially be a game changer in terms of improving the quality of existing supply chain financing programs since buyers will be more sensitive to implementing the relevant principles and suggestions that are currently in place.

Corporates should not expect the FASB's new disclosure requirement to be final. Some corporations believe that transparency would deter firms from pushing the edge on payment terms, but they also hope that it will not lead to regulators drawing wide boundaries about when a trade transaction must be categorized as debt. Will the reclassification debate die? No. However, what happens depends partially on how effectively we regulate ourselves.