Last January, the Financial Accounting Standards Board, which is better known as the FASB, issued Accounting Standards Update 2015-01. The update eliminates the concept (and definition) of “extraordinary item”. According to the FASB, the update is part of its “initiative to reduce complexity in accounting standards”. I wish the FASB the best of luck in that Sisyphean task.
Although the FASB jettisoned the defined term “extraordinary item” it retained two other defined terms “unusual nature” and “infrequency of occurrence”. Formerly, the presence of both of these was the sine qua non for determining that an item was an “extraordinary item”. I find the FASB’s definition of “infrequency of occurrence” to be unusual and problematical at best:
The underlying event or transaction should be of a type that would not reasonably be expected to recur in the foreseeable future . . . .
First, the phrase of “reasonably be expected” is extremely unclear. Reasonably expected by whom? What constitutes reasonableness? If the FASB is concerned about probabilities, what level of probability makes it unreasonable to expect the occurrence of an event or transaction?
Second, what is the “foreseeable future”? This implies that the future may be foreseen for some period of time. However, no one, save a prophet, can foresee the future.
Third, the focus on expectations and the future is misplaced. An event or transaction is “infrequent” if it occurs only occasionally within a specified period of time. The FASB’s definition, in contrast, appears to require that an event not occur at all.
To illustrate some of these problems, Halley’s comet is visible from earth every 75 to 76 years. Since no post Biblical human has seen the comet more than twice in his or her lifetime, I would characterize the comet as infrequently occurring. Under the FASB’s definition, it might not be, however. Based on human experience and scientific observation, it is a near certainty that the comet will make its next perihelion in July 2061. Thus, it could be said that it is reasonable to expect a sighting of the comet in the foreseeable future.
Compensation committees may want to take note of the FASB’s update. Many equity compensation plans allow compensation committees to make compensation awards based performance criteria. These plans often further empower the compensation committee to make adjustments for “extraordinary items”. For fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015, there will no longer be extraordinary items under GAAP. Therefore, companies may want to consider updating these provisions to account for the change in terminology. In the meantime, the FASB may want to consider adopting a more useful definition of “infrequency of occurrence”.