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Presenting discontinued operations · PwC's accounting podcast

0:00
SPEAKER_00: Thought Leadership from PWC.
0:06
SPEAKER_03: Welcome to PWC's Accounting Podcast.
0:09
SPEAKER_03: I'm Heather Horn.
0:10
SPEAKER_03: It's February, and as I said last week, that means for us accountants, it's reporting and earnings season.
0:17
SPEAKER_03: So once again this week, we're featuring a topic related to one of our most popular guides, the financial statement presentation guide.
0:25
SPEAKER_03: And given the current economic condition, we're seeing a lot of questions around the topic of presentation of discontinued operations.
0:35
SPEAKER_01: And I guess if you're ultimately finding yourself in DiscOps, definitely lay out a timetable for getting all the recasting work done depending on what your filing plans are.
0:44
SPEAKER_01: Like are you going to be doing a registration statement where you need to do it sooner rather than later?
0:48
SPEAKER_01: And I guess lastly, don't underestimate the effort it takes to segregate all of this information and all of the statements for all of the periods.
0:57
SPEAKER_01: There's just we find there's just a tremendous number of very nuanced questions that come up until you kind of get into the details of it.
1:04
SPEAKER_01: You just it's hard to predict what those questions would be, and things aren't always that intuitive.
1:17
SPEAKER_03: That was Jay Celeber, a partner in PWC's national office who specializes in business combinations and is one of our most frequent guests.
1:25
SPEAKER_03: Jay is joining us today to break down the accounting and reporting for DiscOps, a judgmental topic that may not be top of mind until it needs to be.
1:35
SPEAKER_03: And just from having this conversation with Jay, I can tell you, even if you're not in the middle of a disc ops, it's worth listening so you can understand what you may need to look for.
1:44
SPEAKER_03: And as always, Jay's a wealth of information and lots of interesting points to share.
1:50
SPEAKER_03: Let's listen to my conversation with Jay.
1:53
SPEAKER_03: Jay, welcome back to the podcast.
1:54
SPEAKER_03: It's been too long since we've had you on.
1:56
SPEAKER_03: So so happy to have you back.
1:58
SPEAKER_03: And I think it's a great topic we have today, and one that impacts a lot of companies at a lot of different points in their operations, and that would be discontinued operations or disc ops, as we'll call it.
2:11
SPEAKER_03: And I do think it's coming up more frequently.
2:14
SPEAKER_03: But perhaps just to kick things off, I think it's helpful to explain what we mean when we say disc ops and then what we're going to be talking about today.
2:22
SPEAKER_01: Sure.
2:22
SPEAKER_01: Well, first thanks for having me back here today, Heather.
2:24
SPEAKER_01: Always nice to join you on the studio.
2:27
SPEAKER_01: I'd say when we talk about disc ops, what we mean is the presentation when a company disposes of part of its business and then recasts all of its financial statements to separate out what it's keeping from what it just got rid of.
2:42
SPEAKER_01: So effectively, that means the company is really only just showing the ongoing business for all the periods and financial statements, with effectively just a one-line presentation for the part that was being disposed.
2:54
SPEAKER_01: And we've talked about some of the specific presentation requirements in some other podcasts, along with some of the issues that often come up.
3:02
SPEAKER_01: But as you said, since we continue to see a lot of companies selling or spinning off businesses in the current economic environment, I thought today we'd try to highlight some of the more judgmental areas and the tougher questions we often see when companies are thinking about disc ops.
3:16
SPEAKER_03: All right.
3:17
SPEAKER_03: Sounds definitely like a plan.
3:19
SPEAKER_03: And so maybe just to kick things off from a broad perspective, what are some of the types of questions that you're getting?
3:25
SPEAKER_01: Aaron Powell Well, I guess I'd start with the DISCOPS criteria themselves, because we do get a lot of questions about that.
3:32
SPEAKER_01: Of course, folks are thinking about where to begin the whole process.
3:35
SPEAKER_03: Yeah, definitely a good place to start.
3:36
SPEAKER_01: And the guidance does have a bit of important jargon to unpack, because what it says is that the disposal of a component of an entity can be a DISCOPS if it represents a strategic shift that has or will have a major effect on the company's operations and financial results going forward.
3:59
SPEAKER_03: I know I do them myself even when you can't see me that I'm air quoting.
4:04
SPEAKER_03: So definitely some uh important definitions that we should talk about.
4:08
SPEAKER_03: So taking them in turn, let's start with the first one, which would be a component.
4:13
SPEAKER_03: And I think this comes up in other places as well.
4:16
SPEAKER_03: But what do we mean when we say component?
4:18
SPEAKER_01: Or at least there's different phrases used in other guidance all about the unit of account ultimately.
4:23
SPEAKER_01: And in this particular bit of guidance for DiscOps, what it says is a component is something that has operations and cash flows that can be clearly distinguished both operationally and from a sort of financial reporting perspective from the rest of the company.
4:41
SPEAKER_01: So that could mean it could be a segment, it could be a reporting unit, which is another bit of the guidances terminology.
4:48
SPEAKER_01: It could be a subsidiary, it could be an asset group.
4:51
SPEAKER_01: Uh we generally don't see it being lower than an asset group, because those are also supposed to represent the lowest level of independent cash flow, so it'd probably be pretty hard to get down below that level.
5:00
SPEAKER_03: Yeah, because then you would have defined your asset group wrong if you were below that.
5:04
SPEAKER_03: But nonetheless, that's still very far down in the organization.
5:08
SPEAKER_03: And I think you know you could wind up with many of these discontinued operations, and I'm hoping we'll we'll get to when you have to report them.
5:17
SPEAKER_03: But understanding that I know you start way down, but then there's other criteria that can impact whether or not it meets the definition.
5:25
SPEAKER_03: So what else would we think about?
5:26
SPEAKER_01: Right.
5:27
SPEAKER_01: And particularly the one that says it has to be a strategic shift in the business operations with a major effect.
5:33
SPEAKER_01: So that is trying to limit disc ops to I'll call it more broader strategic changes in the business, not just selling off some assets.
5:42
SPEAKER_01: And the guidance change is probably like a decade ago or more that sort of brought it back up to a higher level.
5:47
SPEAKER_01: But that is definitely where a lot more of the questions do come in.
5:50
SPEAKER_01: Now sometimes that can be pretty easy to figure out, like if it's its own reportable segment, or if it's just clearly a separate, large part of the business.
5:59
SPEAKER_01: But other times it can be a bit harder.
6:01
SPEAKER_01: So you have to look at all the relevant factors, including how much that piece of the business's potential components performance was previously disclosed separately in the MDNA or in earnings releases or in other public communications the company does in order to kind of make that judgment.
6:19
SPEAKER_01: The guidance does have a number of examples to try to help you think through it.
6:23
SPEAKER_01: And those examples include getting out of things like major project lines or major geographical areas or major distribution channels.
6:33
SPEAKER_01: And the guidance says all of those could be a strategic shift, but there's definitely a lot of judgment involved, and that's that is definitely where we get a lot of questions.
6:41
SPEAKER_03: Okay, so Jay, you also in your air quote definitions mentioned strategic shift, but we also says it has to have a material impact.
6:49
SPEAKER_03: And I know for most of our listeners, they would be familiar with sort of broadly, or I hope they're familiar broadly, with how you think about materiality.
6:58
SPEAKER_03: But I would presume there's some specific things that you would be talking about here when you're assessing whether this would have a material impact.
7:07
SPEAKER_01: Aaron Powell Well, actually, Heather, the phrase in the Discops guidance is a little different.
7:11
SPEAKER_01: It uses the words major effect, not material impact.
7:16
SPEAKER_01: So it isn't just talking about overall financial statement materiality.
7:20
SPEAKER_01: It might even be a bit higher of a threshold the way it's described.
7:24
SPEAKER_01: Although there's probably some degree of overlap.
7:27
SPEAKER_01: Yeah, you do have to look at things like what is the relative impact on assets or revenue or income or cash flows or maybe even some of the non-gap measures that you're reporting as well.
7:38
SPEAKER_01: Trevor Burrus, Jr.
7:38
SPEAKER_01: And the guidance doesn't have any bright lines over like what's enough, what's big enough to be a major effect.
7:45
SPEAKER_01: Uh it does have some examples, and a few of the examples are things like selling a product line that represents 15 percent of the company's total revenues, or selling a geographical area that represented 20 percent of the company's total assets, or uh selling all of a company's type of store formats that historically represented like 30 to 40 percent of net income and maybe 15 percent in the current period.
8:14
SPEAKER_01: So we do have some examples with some numbers in it.
8:16
SPEAKER_02: Yeah.
8:17
SPEAKER_01: But uh the SEC has commented in in a speech back almost a decade ago or so when this guidance first came out, that while those examples are illustrative, uh they aren't necessarily bright lines.
8:30
SPEAKER_01: And you would have to look at all the quantitative and qualitative factors uh that goes into it and sort of how it's otherwise being described to investors, and is it something you've been highlighting to investors, which might suggest it's a bit more material to them.
8:44
SPEAKER_01: So I guess I'd say like with many things we deal with, Heather, it it depends.
8:48
SPEAKER_03: Oh, I could have predicted.
8:49
SPEAKER_03: Okay, but that's how and I do think even those without those being bright lines, just order of magnitude-wise, you're not talking about like one or two percent of the company.
8:59
SPEAKER_03: Right.
8:59
SPEAKER_03: Right.
9:00
SPEAKER_01: And a lot of times the examples and FASB standards are kind of wide goalposts, right?
9:05
SPEAKER_01: These are clearly in, these are clearly out, but there's a lot of gray left in the company.
9:08
SPEAKER_01: Exactly.
9:08
SPEAKER_03: Yeah.
9:09
SPEAKER_03: So at least we kind of know if it's above that, you you probably are in.
9:12
SPEAKER_03: If it's below that, you better be thinking more broadly.
9:14
SPEAKER_03: So that is helpful.
9:16
SPEAKER_03: And then anything else that you see, like other types of questions that come up specific to this?
9:21
SPEAKER_01: Well, this is an interesting one that we do see come up here and there.
9:24
SPEAKER_01: And it's kind of an exception to that guidance or the the guidance about both of these areas that I was talking about.
9:29
SPEAKER_01: So normally you have to think about is it a strategic shift with a major effect?
9:33
SPEAKER_01: But we do run into one exception where if you've just bought a business and you have an immediate plan to dispose of some of what you just bought, like maybe because of regulatory requirements, maybe a regulator is going to make you uh dispose of a piece of the business for anti-competitive reasons or things like that, uh, and you meet the held for sale criteria either at or right shortly after you buy the company, then the guidance says you always present that as disc ox without having to go through that evaluation.
10:02
SPEAKER_01: And I think the thought here is that since that this piece of the acquired business was never in your historical.
10:09
SPEAKER_01: Yeah, it wouldn't make sense.
10:10
SPEAKER_01: And it's really never going to become part of your overall operations going forward, it doesn't really make sense to have it in there for this little snippet of time that you owned it before you got to sell it.
10:21
SPEAKER_01: So you get to pull that out and discuss it.
10:23
SPEAKER_03: Although it is interesting because it's not you never even really started the business, much less discontinuing it, but it it does make sense for the reasons you're giving to not sort of muddy up your regular results.
10:34
SPEAKER_03: So then with all of that said, I know that there can be different sort of views from companies in cases where they would like to actually present some of these disc ops or other cases where they would just as soon not be dealing with all of that additional reporting.
10:52
SPEAKER_03: So how do you think about that?
10:54
SPEAKER_03: And in particular, I think the question often comes up from like a subsequent events point of view.
10:59
SPEAKER_03: Well, how do we handle that?
11:00
SPEAKER_01: Right.
11:01
SPEAKER_01: So, in terms of like what you're getting at is like when do you present disc ops?
11:05
SPEAKER_01: Like, let's assume we get through all of those meeting criteria.
11:08
SPEAKER_03: Sorry, I should have said that.
11:09
SPEAKER_03: Yes.
11:10
SPEAKER_01: And yeah, we it is going to be a disc ops.
11:12
SPEAKER_01: And the question is, okay, when do you present disk ops in your financial statements?
11:15
SPEAKER_01: Because that is recasting everything.
11:17
SPEAKER_01: And so that kind of depends on how you're disposing of it.
11:20
SPEAKER_01: So if you're disposing by sales, or if you're going to sell a piece of your business, then you would go to DiscOps once that business qualifies is held for sale under the guidance.
11:31
SPEAKER_01: And that, of course, is typically before it actually is sold.
11:35
SPEAKER_01: But if you're going to dispose of it in some other fashion, like a spin-off, which we see a lot of as well, the guidance also explicitly says you you cannot record disc ops or reflect it as disc ops until that spin transaction actually closes and the spin has occurred.
11:51
SPEAKER_03: All right.
11:51
SPEAKER_03: That's definitely helpful.
11:53
SPEAKER_03: But then I think there's still this open question is what if the spin happens after the balance sheet date?
11:58
SPEAKER_03: Trevor Burrus, Jr.
11:58
SPEAKER_01: Right.
11:59
SPEAKER_01: So in that case, what the guidance is also pretty clear, it says all of these criteria, either get in the held for sale if it's going to be by sale, or completing the spin if it's a spin, those have to have happened by the balance sheet date in order to reflect the disc ops.
12:13
SPEAKER_01: So if it happens in a subsequent events period, you disclose it, of course, but you don't reflect it.
12:18
SPEAKER_01: It's not a recognized subsequent event.
12:20
SPEAKER_01: It's more of a type two thing, the old parlance, the unrecognized subsequent events.
12:24
SPEAKER_01: Of course, you disclose it.
12:26
SPEAKER_01: Now it may mean, especially if you're going to sell it, a more likely than not expectation of the balance sheet date that you're going to sell it.
12:33
SPEAKER_01: So you might have gotten to more likely than not, just not held for sale yet.
12:37
SPEAKER_01: That could still be a trigger for an impairment test under the held for use guidance.
12:41
SPEAKER_01: So you may have to think about some accounting still if you're in that sort of subsequent event scenario, but you don't get to Discops presentation until the next period.
12:49
SPEAKER_03: All right.
12:50
SPEAKER_03: Well, and I think you raise a good point there because all of this guidance on held for use, held for sale.
12:55
SPEAKER_03: And you know, we've talked about it in past podcasts, but it is something, especially uh this time of year, it's always good to have some reminders of how you should be thinking about whether or not something is held for sale.
13:06
SPEAKER_03: So what are some of the common factors that we would look to?
13:10
SPEAKER_01: Right.
13:10
SPEAKER_01: Well, and we've talked certainly about it some more in some past podcasts.
13:14
SPEAKER_01: And I won't go through all of the criteria which is in the guidance, but probably one of the first ones that I see a lot of questions come up about uh relatively recently is the first requirement in the guidance, which says that management having the or air quotes, the appropriate authority commits to a plan to sell the business.
13:35
SPEAKER_01: And we get a lot of questions about like, well, who do we think about when it comes to these approvals?
13:40
SPEAKER_01: Like, is it internal approval, is it external approval?
13:44
SPEAKER_01: Um, you know, is it just within the company, like going to the board or the shareholders, or what if you need approval by a third party, like a bank or a regulator or something like that, or the Department of Justice in most cases.
13:56
SPEAKER_01: And what this specific criterion, anyways, is getting at is really just approvals within the company.
14:02
SPEAKER_01: So in other words, it's clear the company has really committed to sell it.
14:06
SPEAKER_01: So that would mean that if the board or the shareholders have to approve it, or if you can't plan to bring it to them for approval, then management doesn't have the appropriate authority on their own.
14:17
SPEAKER_01: They need that approval within the company's corporate governance structure in order to really commit to sell.
14:22
SPEAKER_01: So that's what this guidance is getting at.
14:24
SPEAKER_01: So if you haven't gotten approval from your board or your shareholders, and you're gonna get that, then you haven't met this criteria yet.
14:31
SPEAKER_01: But conversely, needing to get approvals from an outside party, like a bank or a regulator, that's not in and of itself a problem, like a black and white problem.
14:39
SPEAKER_01: Uh, that's more of um a likelihood.
14:42
SPEAKER_01: You'd have to consider the likelihood of whether you're gonna get that approval and is it substantive or is it relatively routine?
14:49
SPEAKER_01: And that could affect how you think about other criteria in the guidance, things like the sale being probable within a year and no significant changes to the plan are likely.
15:00
SPEAKER_01: And so, you know, the depending on how substantive you think that approval is from a third party, that could weigh on if you think you meet those criteria.
15:07
SPEAKER_01: And I will mention, that we have seen some changes recently in the news from the Department of Justice issuing some new guidelines about how they're evaluating deals, and it's a little bit stricter than maybe they've they've been doing it in the past.
15:19
SPEAKER_01: So certainly something to think about as you're going through that analysis.
15:22
SPEAKER_01: Trevor Burrus, Jr.
15:23
SPEAKER_03: Well, and I'm I come from the utility industry where regulator approval is a very big deal.
15:27
SPEAKER_03: So definitely something uh something to deal with.
15:30
SPEAKER_03: And I do think it's an important point here.
15:33
SPEAKER_03: You're really thinking about if it's the right level of management, but then there's almost like a second step where you have to think about the Trevor Burrus, they are interconnected.
15:41
SPEAKER_03: Yes.
15:42
SPEAKER_01: But like so, for my my point, I guess I'd leave listeners with is that if you're talking about internal approvals, it's black and white.
15:48
SPEAKER_01: Either you have it or you don't.
15:50
SPEAKER_01: If you're talking about third-party approvals, you don't have to have it.
15:53
SPEAKER_01: You just have to feel comfortable that you're going to get it ultimately.
15:56
SPEAKER_03: Right.
15:56
SPEAKER_03: Okay, that's very helpful.
15:57
SPEAKER_03: And then what other ones would you highlight again, realizing there's a list of them in the standards.
16:01
SPEAKER_03: Right.
16:02
SPEAKER_01: The the other one I've been seeing a few times lately is another of the requirements that the business has to be available for immediate sale in its current condition.
16:11
SPEAKER_01: And you know what is that really getting at?
16:13
SPEAKER_01: Since there's usually something that still has to happen before you can actually legally close the deal.
16:18
SPEAKER_01: Right?
16:18
SPEAKER_01: You have to do some restructuring of legal operations or change around systems or something like that.
16:24
SPEAKER_01: But I think here what the guidance is really trying to get at is situations where sort of you're imposing your own operational limits on what you're willing to do.
16:33
SPEAKER_01: So maybe the guidance talks about situations where maybe you have some orders you need to finish and you just aren't willing to sell the business until you finish those orders because you and you don't want the new buyer to take them over.
16:45
SPEAKER_01: And yeah, maybe that's because it's a bigger customer to the part of the business that you're keeping, and you really don't want that, let that buyer in on that relationship.
16:53
SPEAKER_01: Or maybe the people that would go with this business are doing some critical RD project for the rest of the company, and you need them to finish that before you're willing to let them go.
17:04
SPEAKER_01: So in those cases, the company is imposing sort of its own conditions for operational reasons.
17:10
SPEAKER_01: So in other words, they're really not willing to sell right now.
17:13
SPEAKER_01: Yeah.
17:14
SPEAKER_01: You need something to happen before you're willing to sell.
17:16
SPEAKER_01: That's the case where the guidance says you probably shouldn't be in hell for sale because you're really not willing to sell it today or you know, as soon as you can get through the normal steps of closing, right.
17:27
SPEAKER_03: Right.
17:28
SPEAKER_01: But the question that we get is that it's not really getting at the situation where you might still still need to do, like I said, like some legal restructurings to get all the assets and businesses into the right legal entities for tax reasons, otherwise, or maybe need to split IT systems still to be able to separate the businesses out.
17:46
SPEAKER_01: The thought is those are all things that are kind of usual and customary to a deal, and they're pretty commonplace to get a deal done.
17:52
SPEAKER_01: If uh you know that's not a problem.
17:53
SPEAKER_01: Yes.
17:54
SPEAKER_01: If it was a problem, then we never get to have it.
17:56
SPEAKER_01: Because there's always something that has to be done, usually up to the last minute before the deal.
18:00
SPEAKER_01: Right, right.
18:00
SPEAKER_03: And you have to do your carve up financials, I mean all those types of things.
18:03
SPEAKER_03: Right.
18:03
SPEAKER_01: Trevor Burrus, Jr.: So the view is that's usual and customary.
18:05
SPEAKER_01: Any buyer and seller, you're gonna run into those things.
18:08
SPEAKER_01: It's when the company is sort of imposing its own operational restrictions, it says, I don't really want to sell it yet.
18:14
SPEAKER_01: I gotta finish something first and then I'll go sell it.
18:17
SPEAKER_01: That's what it's getting at.
18:18
SPEAKER_03: All right, that's a great reminder.
18:19
SPEAKER_03: So I and again, just a reminder to the listeners that there is a whole list of things you should be looking at for Help for Sales.
18:26
SPEAKER_03: So make sure you're looking at that guidance if you are considering this question.
18:30
SPEAKER_03: But assuming that we have met the criteria now, what are some of the questions that you tend to get that are maybe more nuanced that may not be immediately apparent?
18:40
SPEAKER_03: Right.
18:40
SPEAKER_03: So when you get into disc ops.
18:41
SPEAKER_03: Yes, when you're actually in disc ops, sorry.
18:43
SPEAKER_01: So let's say we get through all of those hurdles now and we're we're in disc ops, so now we're actually into the questions of presentation and classification the like.
18:51
SPEAKER_01: Um I would say here the questions are often about what's in versus what's not in disc ops, right?
18:58
SPEAKER_01: What do you have to keep in continuing ops or if you're not the disc ops?
19:01
SPEAKER_01: And I'll start with the balance sheet.
19:03
SPEAKER_01: Uh the in this case, the assets and liabilities that you put into disc ops and held for sale and or the like, uh, generally those would reflect the assets and the liabilities that are actually being disposed of and being assumed by the buyer or the spin-e if it's a spin.
19:20
SPEAKER_01: And if if they are going to be taken over by the new owners, then those would be presented separately in the asset and liability sections of the balance sheet.
19:30
SPEAKER_01: And you would do that for all prior periods as well, not just the current period, but all periods.
19:35
SPEAKER_01: So you'd separate it out.
19:36
SPEAKER_01: Now on the income statement side, which is really right where we get more of the questions, here the expenses that you we think you can include in disc ops are the direct operating expenses of the component that's being disposed that can be reasonably segregated from the costs of the ongoing company.
19:55
SPEAKER_01: You know, a lot of this the point of this DiscOps guidance is to create some apples apples comparisons.
20:01
SPEAKER_01: So, for example, on the side you can include them in there.
20:05
SPEAKER_01: That would be things like payroll and benefit costs for employees that work for the business that's being disposed of and they're going to go with the disposed business, and those costs are going away after the deal, therefore, those would be viewed as direct costs, those would go into Disc ops.
20:20
SPEAKER_01: But on the other hand, if their costs are expected to continue within the ongoing company, they probably shouldn't be allocated to DiscOps.
20:28
SPEAKER_01: Uh, they just stay in continuum ops.
20:30
SPEAKER_01: And that would be things like shared parts of the business or indirect costs or like shared accounting and legal departments where the department isn't going with the discontinued part of the business.
20:41
SPEAKER_01: And the thought here is back to what I was saying, you really can't allocate some of those costs to DiscOps because they're going to continue afterwards.
20:48
SPEAKER_01: So if you allocated some of the costs to DISCOps, like on a relative revenue basis or relative headcount basis or something like that, you'd end up distorting your relative earnings going forward, because now all of a sudden they'd be out in the past, but back in in the future when you have your this, what's left.
21:04
SPEAKER_01: So it would kind of look kind of weird.
21:05
SPEAKER_01: So that's why we don't allocate those costs.
21:07
SPEAKER_03: Yeah, and I guess, Jade, just to clarify that point, you're saying that, and let's take an accounting department, because that will be very familiar to everyone here.
21:14
SPEAKER_03: If there's accounting that's done centrally for the entire business, that would not get allocated.
21:20
SPEAKER_03: Now, if this discontinued operations has its own accounting department and those employees are part of that business, they they would go as part of the side.
21:29
SPEAKER_01: I think that's well said.
21:30
SPEAKER_01: Okay.
21:30
SPEAKER_01: Thank you.
21:31
SPEAKER_01: Good distinction.
21:32
SPEAKER_03: All right.
21:32
SPEAKER_03: So then another question I know that often comes up in this area is debt, because there's some complexities there as well.
21:39
SPEAKER_03: And what do you do with the debt that's been used, you know, sort of quote unquote finance this business?
21:43
SPEAKER_03: So how do you think about that?
21:45
SPEAKER_01: Sure.
21:45
SPEAKER_01: No, you're right, question that does come up a lot.
21:48
SPEAKER_01: And in this case, the debt on the balance sheet side, you only include that in the discontinued operation if it's actually being transferred as part of the disposal, meaning the debt's actually.
22:00
SPEAKER_01: Being assumed by the buyer or taken by the spinny in a in a spin.
22:04
SPEAKER_01: And it isn't just something where you're required to take the cash that you get on the sale and use it to repay the debt.
22:10
SPEAKER_01: So you can only put it in disc ops if it's actually part of the business that's going.
22:14
SPEAKER_01: But on the interest expense side in the income statement, the guidance is a little bit broader in that area.
22:20
SPEAKER_01: It says that if the debt's either being acquired by the buyer or being taken by the spin E, or it has to be repaid at closing, let's say by the bank agreements, using some of the proceeds from the sale, then the interest expense on the debt would be included in DISCOPs in the income statement because it's going away and it's kind of viewed to be directly associated with it in that in one way, shape, or form.
22:43
SPEAKER_01: And then for other debt, more of a corporate level debt that really isn't attributable to any particular business, here the guidance gives you a choice.
22:51
SPEAKER_01: It allows you to allocate some of the interest to DISCOps using some formulas that I talked about in the guidance, but it's not required.
22:58
SPEAKER_03: All right.
22:58
SPEAKER_03: That's helpful.
22:59
SPEAKER_03: And then, Jay, just to clarify then, in your first category of debt, even if that debt is down in the business that's, let's assume it's a full business that's being sold that legally has its own debt, if that debt is not being transferred as part of the sale, then it would follow this guidance that you're giving you.
23:16
SPEAKER_01: I think that's right.
23:16
SPEAKER_01: Like if the bank agreements required it to be repaid at closing as opposed to transfer to the new owner.
23:24
SPEAKER_01: That's true.
23:24
SPEAKER_01: I mean, a lot of times I think if it's a standalone business, then it will go with it.
23:32
SPEAKER_01: Okay.
23:32
SPEAKER_03: That's helpful.
23:33
SPEAKER_03: And then how about in another area that there's questions around is taxes.
23:37
SPEAKER_03: As maybe some similar, some not, but so definitely complicated.
23:40
SPEAKER_03: So what would you say about that?
23:43
SPEAKER_01: I would agree with you.
23:44
SPEAKER_01: It's really complicated.
23:46
SPEAKER_01: Taxes is a tough part of Discops.
23:49
SPEAKER_01: And that's because it's not always intuitive.
23:51
SPEAKER_01: Um there's a lot of, I'll call it really specific guidance in the income tax literature about what's called more air quotes, intra-period allocation of taxes.
24:02
SPEAKER_01: And basically that tells you how much of the total tax provision you should allocate to Disc ops.
24:08
SPEAKER_01: But I'd say it's probably too complicated to get into the details uh in this podcast, Heather.
24:13
SPEAKER_03: Okay, we'll have to do a whole separate podcast on disc ops and tax, which I actually think there we may have one out there.
24:19
SPEAKER_03: So we'll we'll link to it.
24:20
SPEAKER_01: Now we do have a lot of discussion about it in our income taxes guide.
24:24
SPEAKER_01: There's a whole chapter, it's chapter 12 I have here in my notes, that um of the guide that talks about intra-period allocation.
24:32
SPEAKER_01: I'd suggest our listeners take a read through that because I said it's not always intuitive, especially if there's a mix of income and loss between continuing and discontinued ops, or if there's other comprehensive income items that are in the mix, because that's also part of the intra-period allocations.
24:50
SPEAKER_01: I would say an area that our listeners would probably want to work together with your tax team and outside specialists on, but I would definitely say don't underestimate the complexity of it, because it's not a simple area.
25:00
SPEAKER_03: Aaron Powell All right.
25:01
SPEAKER_03: That's that's helpful.
25:02
SPEAKER_03: And I guess, Jay, as we've been talking about this, I think there's a focus on the balance sheet and the income statement.
25:09
SPEAKER_03: And that is what I think people tend to focus on, although obviously disk ops actually can permeate through the financial statements.
25:16
SPEAKER_03: So what are some of the other areas you would recommend the companies focus on as they're thinking about disc op reporting?
25:22
SPEAKER_01: So probably two main areas, and maybe I'll I'll start with uh earnings per share or EPS, another topic near and dear to me.
25:31
SPEAKER_01: Um and in this case, EPS, as others probably know, has to be calculated for each component of income.
25:39
SPEAKER_01: So that would mean both continuing ops and disk ops and net income.
25:44
SPEAKER_01: So you'd end up with EPS for all of that.
25:46
SPEAKER_01: The guidance says that EPS for net income and EPS for continuing ops, that has to be presented on the face of the income statement.
25:55
SPEAKER_01: And the EPS for disk ops can either be shown on the face or in the footnotes, although I would say we most of the time see companies show it on the face as well.
26:04
SPEAKER_01: But I guess what I'd caution our listeners to about is that it's not always as simple as just breaking apart the previous numerator based at a single company, taking your net income, and just allocating that between continuing and discontinued ops and then just using the same denominator that you had before.
26:22
SPEAKER_01: Sometimes the denominator can change, and that's just, again, because of some of the intricacies of the EPS guidance.
26:28
SPEAKER_01: And in particular, what the guidance says is if you have a mix of, say, income or from continuing, a loss from discontinued, or vice versa, what you should look at is the income from continuing operations to use a sort of, I think the phrase in the guidance is a control number to decide if things are dilutive or not to the calculations.
26:50
SPEAKER_01: And if they are considered dilutive to continuing ops, they're included for all the categories, like disc ops and net income, even if they would be like individually anti-dilutive to that one.
27:02
SPEAKER_01: So we get some weird things that pop up.
27:04
SPEAKER_01: So like, yeah, so say for example, you have income from continuing ops, but a loss from DiscOps, you might end up including the effective stock comp awards in the diluted EPS denominator for both, even though it's going to make the disc ops loss smaller on a per share basis, which feels weird, but it does, yes.
27:24
SPEAKER_01: But conversely, it can go the other way, where let's suppose you previously had just net income as a single company and you included some potential common shares in the EPS denominator for diluted EPS.
27:35
SPEAKER_01: But now when you go to DiscOps, you end up with a loss from continuing ops and income from DISCOPS.
27:41
SPEAKER_01: Now, because it's a loss from continuing ops, you pull all of those out of the calculations for both, and because they're going to be considered anti-dilutive.
27:49
SPEAKER_01: So now you've changed what your denominator was as a as a result of that.
27:53
SPEAKER_01: And then while those are kind of like always in or always out, there are other instruments like convertible debt or convertible preferred stock, where it's more of a function of the relative amount of your income vis-a-vis the interest add back or the dividend add back.
28:07
SPEAKER_01: And so again, if you just even if you still go from income to income or uh the like, just if the relative amount changes, you know, in the details of the calculation, you could get a different answer.
28:17
SPEAKER_01: So bottom line, I would say you have to redo all the calculations to make sure they're all getting updated correctly.
28:23
SPEAKER_01: You can't just assume that whatever your denominator was is going to be insane going forward.
28:29
SPEAKER_03: All right.
28:29
SPEAKER_03: Well, that's definitely a complicated area and a lot to think about.
28:33
SPEAKER_03: I will say we talked about some more I'll use sort of basic, uh, which I noticed you EPS people's favorite joke about is we we did talk about some other EPS issues in a recent podcast I did, and we'll include that in the show notes.
28:46
SPEAKER_03: But I know you mentioned the other area is cash flow.
28:49
SPEAKER_03: Yes.
28:50
SPEAKER_03: And this is a place where I know companies have some choices.
28:53
SPEAKER_03: So how how do you think about that?
28:56
SPEAKER_01: Well, probably the biggest thing I'd ask folks to take away is that putting something into DiscOps or having a DiscOps presentation doesn't change the nature of the cash flows of that business as being operating, investing, and financing activities, uh, because this does seem to pop up a lot, but the the guidance is pretty clear that you can't just pull out all the DiscOps cash flows and put them in their own separate category for DiscOps on the statements, sort of like you do for foreign exchange.
29:26
SPEAKER_01: Right.
29:26
SPEAKER_01: You just put all the foreign exchange stuff on the bottom.
29:28
SPEAKER_01: You can't just have a thing aligned on the bottom for here's the disc ops cash flows.
29:32
SPEAKER_01: They have to be still separated.
29:33
SPEAKER_01: They still have to stay in their natural categories.
29:36
SPEAKER_01: Although, as you said, Heather, you do have some flexibility as to how you present or disclose them.
29:41
SPEAKER_01: Uh the only thing the guidance says you have to do is you you either have to uh disclose or present the operating and investing cash flows for disc ops, or things like depreciation, amortization, capital expenditures, and non-cash activities for the disk ops.
30:00
SPEAKER_01: That's all you have to do.
30:01
SPEAKER_01: But admittedly, we typically see companies break them out, break out what's discontinued from continuing ops for each of the three categories and operating, investing, and financing on the statement of cash flows to help their readers understand the pieces a bit better.
30:16
SPEAKER_01: But I guess I'll again I'll I'll end with where I started.
30:19
SPEAKER_01: Uh the key thing is that they have to be in their respective categories, not all lumped together in one place.
30:24
SPEAKER_03: Yeah, I think breaking out in their respective categories is, to your point, probably the most useful uh you know from someone looking at them because otherwise it can be confusing.
30:34
SPEAKER_03: But yes, I've had that question many times about can we just make this one line?
30:37
SPEAKER_03: And you and you cannot.
30:39
SPEAKER_03: So uh the other thing with uh DiscOps, and I know we talked about Help for Sales.
30:44
SPEAKER_03: Well, I know we have SEC filing requirements.
30:47
SPEAKER_03: So can you highlight a few of those?
30:49
SPEAKER_01: Right.
30:50
SPEAKER_01: Right.
30:50
SPEAKER_01: So for public companies to have to contend with this, um, maybe the first thing I'll mention before even getting financial statements, just because it comes up really fast in this process, is that if a public company actually disposes of a business that is significant under the SEC rules, and there's a whole section of the guidance around what is significant mean, then the company has to file an 8K, a current report on 8K, highlighting the key terms of the disposal with Proforma financial information.
31:20
SPEAKER_01: And the interesting trick here when we get into DISCOps is that if you're going to ultimately account for that disposal as a DiscOps, those Proforma financials you have to show are not just the most recent year, like the typical rules for Proforma's, but it's actually all years that you're going to ultimately be recasting your financials for.
31:38
SPEAKER_01: So that would be three years for larger companies that are that present three years of income statements.
31:43
SPEAKER_01: So you have to have those um numbers basically ready to go because, and this is the kicker, that 8K on a disposal has to, you only have four days to be able to file that.
31:52
SPEAKER_01: The thought is you have all the information, you're not waiting for the for information from a company you're acquiring.
31:58
SPEAKER_01: So you have to present it in four days.
32:00
SPEAKER_01: So you basically have to have it all done and ready to go by the time you finish the transaction.
32:04
SPEAKER_01: So you've got to make sure you work that into your uh into your timetable.
32:08
SPEAKER_03: Yes, definitely.
32:09
SPEAKER_03: I think that's key.
32:10
SPEAKER_03: And I guess when you go back to your customary what's required to prepare for sale, uh thinking about this is probably one of the important points.
32:19
SPEAKER_03: But also I know there's some other things you need to think about, you know, sort of on a broader basis.
32:23
SPEAKER_01: Aaron Powell Right, right.
32:24
SPEAKER_01: So then getting to the the financial side of it.
32:27
SPEAKER_01: So you know, as we said, you present disc ops in your financial statements when you report on either the period that it becomes held for sale if you're selling it, or when you spin it, if you're spinning it off that way.
32:39
SPEAKER_01: And at that point, DISCOPs means you're retroactively recasting all your financial statements for all prior periods, so that everything is on an apples to apples basis.
32:50
SPEAKER_01: And when I say all the the filings or all the financial statements, it's not just the financial statements, it's the footnotes, it's the mDNA, it's the business section, it's basically everything in the filing to uh separate out the continuing and discontinued ops and really just focus on the continuing part.
33:07
SPEAKER_03: All right.
33:07
SPEAKER_03: So also a huge task, but you do have more than four days for that one, right?
33:11
SPEAKER_01: Right.
33:12
SPEAKER_01: So in that case, the normal rules is that you would just do that in the next time that a filing comes up.
33:18
SPEAKER_01: So it'd be in the next Q, 10Q for your interim uh filings, as well as the next 10K you file after either you go to help for sale or you do the spin.
33:28
SPEAKER_01: The next time you file your 10K is when you'd have to go back and recast everything.
33:33
SPEAKER_01: Uh so you don't have to do it immediately.
33:34
SPEAKER_01: It's not like as soon as you do it, like if you did it in Q2, you don't have to go back and immediately recast all the prior years financial statements in order to reflect that.
33:44
SPEAKER_01: You just do the next time that filing comes around.
33:46
SPEAKER_01: But, and I know we've talked about this on some other podcasts uh that you and I did together with with some of our SEC services folks, that that all could change if the company files a new registration statement or certain proxy or other filings.
34:02
SPEAKER_01: Because in those cases, since the company's including or incorporating by reference their most recent annual and interim financial statements, and those have to be current under the SEC's rules at the time of that filing.
34:14
SPEAKER_01: And once a disc op happens, those old financials are stale.
34:17
SPEAKER_01: They don't reflect your current numbers anymore.
34:20
SPEAKER_01: So that would mean the company would have to accelerate the whole process, recast all those prior period annual financial statements to reflect it in DISCOPs.
34:28
SPEAKER_01: As I said, that's the whole shebang, the financials, the footnotes, the MDA, the business section, and the like.
34:34
SPEAKER_01: And you have to do that to do that a lot faster than maybe you might have been thinking about.
34:37
SPEAKER_01: So you have to, again, work that into your timetable.
34:40
SPEAKER_03: And I think this is such a key point because I definitely have seen where this has been in sort of an afterthought, and then suddenly they want someone wants to issue debt and they can't because they don't have this.
34:50
SPEAKER_03: So definitely very key.
34:52
SPEAKER_03: But if you're in that situation, Jay, obviously then you're not filing those as part of sort of a regular filing.
34:57
SPEAKER_03: So where are those recast financial statements filed?
35:01
SPEAKER_01: Right.
35:01
SPEAKER_01: Because it is viewed that your financial statements when you file them were correct.
35:04
SPEAKER_01: Right.
35:05
SPEAKER_01: So you don't have to amend your statements.
35:07
SPEAKER_01: It's not a 10KA.
35:08
SPEAKER_01: So what we usually do see is a company would file an 8K where they include in it the audited financial statements for the last several years.
35:17
SPEAKER_01: Although it's interesting, this whole if you have this situation, it may mean you're stuck doing an extra year, because if you could have just waited until your next 10K was due, you would show the current year and then the most recent two years.
35:29
SPEAKER_01: But if you're saying a larger company has to present three years.
35:32
SPEAKER_01: But if you have to go through this process and do it sooner, you still have to show three years.
35:36
SPEAKER_01: Now you're going to go three years back.
35:38
SPEAKER_01: So it means a whole nother year that you got to go do this process for.
35:41
SPEAKER_01: So definitely something you you want to lay out beforehand and know what you have ahead of you.
35:46
SPEAKER_03: Exactly.
35:46
SPEAKER_03: So, Jay, I mean huge number of considerations.
35:49
SPEAKER_03: And again, I think to our listeners who are mostly from accounting, auditing, et cetera, they're the ones that have to focus on this.
35:56
SPEAKER_03: The deals guys may not be so concerned about some of these timelines and otherwise when they're putting together these exciting deals.
36:04
SPEAKER_03: So what reminders, just from your experience working through this, would you give, or what advice would you give to our listeners if they suddenly are pushed into having to deal with you know a disc ops?
36:16
SPEAKER_01: Well, I suppose I could always start with stay close to your deals and business guys.
36:20
SPEAKER_01: There you go.
36:21
SPEAKER_01: Very good point.
36:24
SPEAKER_03: Yes.
36:25
SPEAKER_01: Um but I guess if you're if you're start if you're entering this process, I I'd I'd recommend starting with, I'd say, answering the big questions like how are you going to be disposing of the business?
36:35
SPEAKER_01: Is it a sale?
36:36
SPEAKER_01: Is it going to be a spin?
36:37
SPEAKER_01: Is it something else?
36:39
SPEAKER_01: Uh and then is it a strategic shift or thinking through, is it a strategic shift with a major effect that can be treated as a disc ops?
36:47
SPEAKER_01: Because that's of course going to drive how you present things and when you would do it.
36:51
SPEAKER_01: And I guess if you're ultimately finding yourself in DISCOPS, definitely lay out a timetable for getting all the recasting work done depending on what your filing plans are.
37:00
SPEAKER_01: Like are you going to be doing a registration statement where you need to do it sooner rather than later?
37:04
SPEAKER_01: And I guess lastly, don't underestimate the effort it takes to segregate all of this information and all of the statements for all of the periods.
37:13
SPEAKER_01: There's just you know we find there's just a tremendous number of very nuanced questions that come up and until you kind of get into the details of it, you just it's hard to predict what those questions would be, and things aren't always that intuitive.
37:26
SPEAKER_03: Well, yeah, I think anyone who's been involved in even one disc ops will will echo that comment.
37:32
SPEAKER_03: So obviously, Jay, a huge amount of information here.
37:35
SPEAKER_03: If our listeners want more information, where's the best place to go?
37:38
SPEAKER_01: Aaron Powell Well, I'd say we we both mentioned a couple of past podcasts, uh, Heather, and you know, maybe a pair that I'd highlight is one that we did back in October of 2020 with Beth Paul and Steve Dolph.
37:51
SPEAKER_01: Uh they talked about some of the other disc ops matters and things, things, some of the areas we were talking about today, but some other things too.
37:58
SPEAKER_01: And then there was also one in October of 22 where Ray Tom Becalucci talked more about the health for sale criteria, some of the other criteria that we didn't get a chance to talk about today.
38:08
SPEAKER_01: So that's that's good stuff to listen to.
38:10
SPEAKER_01: And then in terms of some of the printed guidance, um, in our property plant and equipment guide, I think chapter five goes through the health for sale guidance.
38:19
SPEAKER_01: And then in our financial statement presentation guide, we have a whole chapter dedicated to disc ops.
38:25
SPEAKER_01: It's chapter 27, except for the cash flow part.
38:28
SPEAKER_01: That's that's in a different chapter.
38:29
SPEAKER_01: That's in the cash flow chapter, which is chapter six, is where we talk about it there.
38:32
SPEAKER_01: And then I think I mentioned that um in our income taxes guide, we have a whole chapter, chapter 12, that goes through the intra-period tax allocation process.
38:41
SPEAKER_01: So don't lose sight of that one either.
38:43
SPEAKER_03: All right, so definitely a lot of resources to go to.
38:45
SPEAKER_03: And of course, Jay, they can always pick up the phone and call you.
38:48
SPEAKER_03: So there you go.
38:48
SPEAKER_03: So, Jay, it's always such a pleasure to talk to you.
38:51
SPEAKER_03: Thank you so much for joining me today.
38:52
SPEAKER_01: You're welcome.
38:53
SPEAKER_01: Thanks for having me.
38:55
SPEAKER_02: That's our show for today.
38:57
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39:17
SPEAKER_02: From Thought Leadership at PWC, I'm Heather Horn.
39:21
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