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Transition is on a modified retrospective basis, except presentation and disclosure. Key terms in the transition provisions and their definitions are as follows.
Term
Definition
Existing hedges
Hedging relationships in which the hedging instrument has not expired, been sold, terminated, exercised, or dedesignated
Date of adoption
First date applying the new guidance
Initial application date
Beginning of the fiscal year of adoption
For example, January 1, 2018 is the initial application date for a calendar year-end reporting entity that adopts the guidance in an interim period within 2018.
Modified retrospective approach
For hedges existing both on the date of adoption and on the initial application date, record the cumulative effect of application in AOCI with a corresponding adjustment to the opening balance of retained earnings as of the initial application date.

12.3.1 Transition guidance

At transition, reporting entities are required to:
  • Apply the new presentation guidance
  • Include the new and amended disclosures
  • Remove ineffectiveness previously recorded in earnings on existing cash flow and net investment hedges as part of the cumulative effect adjustment
  • Disclose the nature of and reason for the change in accounting principle and the cumulative effect of the change on the opening balance of each affected component of equity
Other provisions are optional. However, there may be a benefit to adopting some of the optional provisions at initial adoption, as opposed to later. Figure DH 12-2 summarizes the transition guidance, whether each provision is required, optional, or optional with a benefit if elected at transition, and whether the impact would be included in the cumulative effect adjustment to the opening balance of retained earnings if the hedging relationship existed at the initial application date. It also includes a reference to where each provision is described in more detail in this guide.
Figure DH 12-2
ASU 2017-12 transition guidance
Change / new requirement
Required? Optional? Optional with transition benefit?
Included in cumulative effect adjustment?
Guide reference
Reverse ineffectiveness recorded in prior periods on cash flow and net investment hedges entered into before the initial application date but still outstanding at the date of adoption
Required
Yes
Present derivative results with the hedged item in the income statement
Required
Not applicable
Comply with new disclosure requirements
Required
Not applicable
Change the hedged risk on fair value hedges from the overall change in fair value to the change in fair value attributable to changes in the SIFMA Municipal Swap Rate as a benchmark rate
Optional - no transition relief (requires dedesignation / redesignation)
No
Modify documentation of existing cash flow hedges to change the hedged risk from overall change in cash flows to the change in cash flows attributable to a contractually specified component or a contractually specified interest rate *
Optional, but transition relief if elected as part of transition
Yes - if elected as part of transition
Modify hedge documentation and remeasure the hedged item in a fair value hedge of interest rate risk to use the benchmark component of the contractual cash flows
Optional, but transition relief if elected as part of transition
Yes - if elected as part of transition
Rebalance the hedging relationship when modifying hedge documentation to remeasure the hedged item to use the benchmark component of the contractual cash flows
Optional, but transition relief if elected as part of transition
Yes - if elected as part of transition
Remeasure the hedged item in a fair value hedge of interest rate risk to consider only how changes in the benchmark interest rate affects the decision to prepay
Optional, but transition relief if elected as part of transition
Yes - if elected as part of transition
Reclassify a debt security from held-to-maturity to available-for-sale if it is eligible to be hedged in a last-of-layer hedge
Optional, only at transition
Not applicable
Modify documentation of existing hedges that currently use the shortcut method to assess effectiveness to specify the quantitative method that will be applied if the shortcut method is later deemed to have been inappropriate *
Optional, but transition relief if elected as part of transition
Not applicable
Modify documentation of existing hedges that currently use a quantitative method to assess effectiveness to use a qualitative approach
Optional, but transition relief if elected as part of transition
Not applicable
Change the method of assessing effectiveness for net investment hedges (from forward to spot or from spot to forward)
Optional – no transition relief (requires dedesignation / redesignation)
No
Modify documentation of existing fair value hedges to exclude cross-currency basis spread and recognize it through an amortization approach
Optional, but transition relief if elected as part of transition
Yes - if elected as part of transition
Modify documentation of existing hedges to amortize a component previously excluded from the assessment of effectiveness and recognize it through an amortization approach *
Optional, but transition relief if elected as part of transition
Yes - if elected as part of transition
* For these changes, reporting entities need not elect the same methodology for existing hedges and new hedges.

12.3.1.1 Reverse ineffectiveness on cash flow and net investment hedges

The new guidance removes the concept of ineffectiveness from the hedging literature. It eliminates the requirement and the ability to record ineffectiveness on cash flow and net investment hedges. As such, reporting entities are required to reverse ineffectiveness previously recorded on cash flow and net investment hedges that exist at the date of adoption.

12.3.1.2 Changing existing hedges to hedge the SIFMA benchmark rate

The new guidance adds the SIFMA (the Securities Industry and Financial Markets Association) Municipal Swap Rate as an additional benchmark interest rate for tax-exempt issuers and investors. As a result, some reporting entities may wish to modify existing hedging relationships to designate the hedged risk as the change in fair value due to changes in the benchmark interest rate with the SIFMA Municipal Swap Rate as the designated benchmark rate. Reporting entities would need to dedesignate and redesignate these hedging relationships to make this change. The cumulative basis adjustment of the hedged item from the dedesignated hedging relationship would be amortized to earnings as a premium or discount under other GAAP.

12.3.1.3 Changing existing hedges to a contractually specified rate

The benchmark interest rate concept no longer applies for variable-rate assets and liabilities. Instead, reporting entities can hedge the interest rate risk associated with a contractually specified interest rate. Because this is a new hedging strategy that was not previously permitted, the Board provided transition relief. If elected at adoption:
  • there is no need to dedesignate and redesignate the relationship - existing hedge documentation can be amended, and
  • the terms of the instrument used to estimate changes in cash flows due to the hedged risk (e.g., the hypothetical derivative) should use market data at inception of the original hedging relationship (not at transition).
In addition, as discussed in DH 12.3.1.1, to effect the change, ineffectiveness recognized in prior periods on the previous cash flow hedging relationship is reversed and recorded as part of the cumulative effect adjustment.
Reporting entities need not elect the same methodology for existing hedges and new hedges.
Example DH 12-1 illustrates the transition to hedging variability in cash flows due to a change in a contractually specified component.
EXAMPLE DH 12-1
Transition to hedging variability in cash flows due to a change in a contractually specified component
DH Corp has cash flow hedges of forecasted purchases of commodities (under long-term purchase contracts priced based on a published index for the commodity plus a spread). As was required before ASU 2017-12, the hedged risk was the total variability in cash flows. Because of the spread added to the index price, DH Corp was unable to use CTM to assess effectiveness and instead used the long-haul hypothetical derivative method.
At the date of adoption of ASU 2017-12, DH Corp decides to change the hedged risk to the variability in cash flows due only to changes in a contractually specified component. Because of the change in the hedged risk, the spread is no longer a factor that prevents the use of CTM. All terms are matched in the purchase contracts and derivatives, including the index price.
Given the transition guidance, how can DH Corp minimize the ongoing quantitative assessments needed on existing hedging relationships when amending the hedged risk from the variability in total cash flows to the variability in cash flows due only to changes in a contractually specified component?
Analysis
For existing hedges (which now hedge the variability in cash flows due to the change in a contractually specified component), we believe DH Corp may not use CTM because the derivatives would not have a fair value of zero when they are redesignated, but could take steps to minimize the number of quantitative effectiveness assessments needed. DH Corp could:
  • Change the terms of the perfectly effective hypothetical derivative used to estimate changes in value due to the hedged risk in the assessment of effectiveness to use market data as of the inception of the hedging relationship. Per ASC 815-20-65-3(e)(6)(ii) (discussed in DH 13.3.1.7), this would not require dedesignation.
  • Amend the documentation for existing hedges to specify a qualitative assessment of effectiveness on an ongoing basis, including how it can reasonably support an expectation of high effectiveness on a qualitative basis. Per ASC 815-20-65-3(e)(5)(i) (discussed in DH 13.3.1.9), this would not require dedesignation.
  • When performing the effectiveness assessment for existing hedges:
    • If all terms related to the contractually specified component perfectly match between the derivative and the purchase agreement, including the timing of the occurrence of the forecasted transaction and the maturity of the derivative, there is no need to perform a quantitative assessment. However, DH Corp would need to document that the assessment was done without any quantitative calculations because the actual derivative and revised hypothetical derivative are the same (because ASC 815-20-65-3(e)(6)(ii) permits changing the terms of the hypothetical derivative to use market data at hedge inception).
    • If the terms do not perfectly match because of timing differences within a month between the occurrence of the forecasted transactions and the maturity of the derivative, DH Corp would need to perform a quantitative assessment to demonstrate that even with the timing difference, the hedge is highly effective. In doing so, it could potentially leverage the prior long-haul analyses. The hedging relationship is likely to still be highly effective because it was highly effective when using the long-haul method prior to transition (when the hedged risk was the total variability in cash flows).

12.3.1.4 Changing existing hedges to benchmark component cash flows

Under the new guidance, reporting entities may hedge the benchmark rate component of the contractual coupon cash flows for fair value hedges of fixed-rate debt. Because this is a new hedging strategy that was not previously permitted, the Board provided transition relief. If elected at adoption:
  • there is no need to dedesignate and redesignate the hedging relationship (from a hedge of total coupon to a hedge of the benchmark interest rate component) – existing hedge documentation can be amended,
  • the cumulative basis adjustment carried forward is adjusted to the amount it would have been had the modified methodology been used since hedge designation, and
  • the benchmark rate component of the contractual coupon cash flows is measured as of the inception of the original hedging relationship, not at the transition date.
When applying the transition relief, the benchmark component is calculated as of the inception date of the hedging relationship in effect at the date of adoption. As a result, if the hedge was dedesignated and redesignated before adoption, the benchmark component may not match the rate on the actual hedging derivative and the hedging relationship may not be perfectly effective.
Reporting entities can elect to use either the total coupon cash flows or the benchmark component of the coupon cash flows to measure the hedged item on a hedge-by-hedge basis.
Rebalancing hedging relationships when changing from contractual cash flows to benchmark component
The Board also provided transition relief if reporting entities rebalance their hedging relationships to change from total coupon cash flows to the benchmark component of contractual coupon cash flows. The guidance allows for an entity to rebalance the hedge relationship by increasing/decreasing the portion of a derivative or hedged item designated in a hedging relationship, provided that the rebalanced relationship contains only the hedged item and hedging instrument that existed as of the date of adoption. If the transition provisions are met, reporting entities may include the basis adjustment related to the dedesignated portion of the hedged item in the cumulative effect adjustment.

12.3.1.5 Evaluating prepayment option on benchmark interest rate only

In a fair value hedge of the benchmark interest rate risk in fixed-rate prepayable debt, the new guidance permits reporting entities to consider the effect of a prepayment option only as it relates to changes in the benchmark interest rate to assess hedge effectiveness and calculate the change in fair value of the hedged item. Because this new way to measure the hedged item was not previously permitted, the Board provided transition relief. If elected at adoption:
  • there is no need to dedesignate and redesignate the hedging relationship – existing hedge documentation can be amended, and
  • the cumulative basis adjustment carried forward is adjusted to the amount it would have been had the modified methodology been used since hedge designation.

12.3.1.6 Reclassifying certain held-to-maturity securities

The new guidance permits a new “last-of-layer” hedging approach, which permits reporting entities to designate the portion of a closed pool of prepayable assets that is not expected to be affected by prepayments, defaults, and other events affecting the timing and amount of cash flows as the hedged item in a fair value hedge. Upon adoption of the new guidance, reporting entities may elect to reclassify debt securities that are eligible to be hedged in a last-of-layer hedge from held-to-maturity to available-for-sale. If elected, any unrealized gain or loss on the date of adoption would be recorded in accumulated other comprehensive income. The transfer is permissible regardless of the reporting entity’s intent to hedge them after the transfer.

12.3.1.7 Changing to a contractually specified component

The new guidance permits cash flow hedges of contractually specified components of nonfinancial items subject to certain criteria. Because this is a new hedging strategy, the Board provided transition relief. If elected at adoption:
  • there is no need to dedesignate and redesignate the hedging relationship (from a hedge of the total variability in cash flows to a hedge of variability in the contractually specified component) - existing hedge documentation can be amended, and
  • the terms of the instrument used to estimate changes in cash flows (e.g., the hypothetical derivative) should use market data as of the inception of the original hedging relationship.
In addition, as discussed in DH 12.3.1.1, to effect the change, ineffectiveness recognized in prior periods on the previous hedging relationship is reversed and recorded as part of the cumulative effect adjustment.
Reporting entities need not elect the same methodology for existing hedges and new hedges.

12.3.1.8 Modifying hedge documentation in the use of the shortcut method

The new guidance permits a reporting entity to apply a quantitative approach to assessing effectiveness without dedesignating the hedging relationship if it later determines that the use of the shortcut method was or is no longer appropriate. If elected at adoption, reporting entities can modify their current shortcut hedge documentation to specify the quantitative method that will be applied if the shortcut method is later deemed to have been inappropriate without dedesignating the existing hedging relationships.
Reporting entities need not document a quantitative method for existing hedges even if they would like to document a quantitative method for new hedges that use the shortcut method.

12.3.1.9 Modifying documentation to use a qualitative approach

For a hedge that is not perfectly effective, the new guidance requires an initial quantitative assessment, but provides a qualitative method of assessing effectiveness after hedge inception if the reporting entity can reasonably support an expectation of high effectiveness throughout the term of the hedge. If elected at adoption, reporting entities may modify existing documentation to state their intent to perform ongoing assessments on a qualitative basis without dedesignating and redesignating the hedging relationship.
The qualitative assessment can be applied on a hedge-by-hedge basis.

12.3.1.10 Changing the assessment of effectiveness-net investment hedges

The standard amends the guidance on net investment hedges to permit a change in the method of assessing effectiveness for net investment hedges, subject to the requirements that (1) the new method is an “improved” method and (2) effectiveness for similar hedges is assessed similarly. We believe reporting entities can only choose to change methods upon or after adoption of the new guidance. Further, because there is no specific transition guidance for this provision, we believe making this change would require the hedges to be dedesignated and redesignated.

12.3.1.11 Modifying documentation to amortize an excluded component

The new guidance permits certain elements of a derivative instrument to be excluded from the assessment of effectiveness. In addition to adding cross-currency basis as an eligible excluded component, the new guidance also amends the recognition of excluded components. As a result, transition relief is provided for hedges that had previously excluded a component from the assessment of effectiveness that will now be recognized through an amortization approach. This transition relief also applies when excluding the cross-currency basis spread from an existing fair value hedge and recognizing it through an amortization approach.
If elected at adoption, there is no need to dedesignate and redesignate these hedging relationships. Reporting entities will record the cumulative effect of application in OCI with a corresponding adjustment to the opening balance of retained earnings.
Reporting entities need not elect the same approach to amortization for existing hedges and new hedges.

12.3.2 Disclosures

The new and amended disclosures are required in the period of adoption, but they are prospective. Disclosures prior to the period of adoption are not required to comply with the new requirements. Reporting entities should consider disclosing any changes to significant accounting policies as a result of the new guidance.

12.3.2.1 Accounting change disclosures

At adoption, a reporting entity must provide the disclosures required by ASC 250, Accounting Changes and Error Corrections, in each interim and annual period in the fiscal year of adoption. These are:
  • The nature of and reason for the change in accounting principle
  • The cumulative effect of the change on the opening balance of each affected component of equity or net assets as of the date of adoption

12.3.2.2 SAB 74 disclosures

SEC Staff Accounting Bulletin No. 74, Disclosure Of The Impact That Recently Issued Accounting Standards Will Have On The Financial Statements Of The Registrant When Adopted In A Future Period, requires reporting entities to provide quantitative and qualitative disclosure of the expected impact of any new accounting standard not yet adopted. If a reporting entity does not know, or cannot reasonably estimate, the expected financial statement impact, it should disclose that fact. In these situations, the SEC staff expects a qualitative description of the effect of the new accounting policies, and a comparison to the reporting entity’s current accounting.

12.3.3 Timing of transition elections

The transition relief provided for certain of the transition elections is only available at adoption. Private reporting entities that are not financial institutions and private not-for-profit entities need to make the elections before the next set of interim or annual financial statements is available to be issued. All others need to make the elections before the first quarterly effectiveness assessment date after the date of adoption.
If a reporting entity does not elect a transition provision within the timeframe, it would not qualify for the transition relief and instead would have to dedesignate and redesignate the impacted hedging relationships to make a change. This would mean that the hedging instrument would have a non-zero fair value, which would impact the assessment of effectiveness. Also, the impact would not be included in the cumulative effect adjustment. The same is true for changes in the new guidance that do not have special transition guidance.

12.3.4 Application of the transition guidance

Figure DH 12-3 illustrates how a calendar-year-end public reporting entity that early adopts the new guidance on January 1, 2018 would consider hedges in effect for different periods. In this fact pattern, the date of adoption and date of initial application are the same (i.e., January 1, 2018). The same answers would apply if the hedging relationships began and ended one year later if the entity adopted the guidance on the mandatory effective date of January 1, 2019 for calendar-year-end public business entities.
Figure DH 12-3
Application of the transition guidance when the adoption date and initial application date are the same
Term of hedging relationship
Apply new recognition and measurement guidance to hedging relationship?
Would this hedge impact the cumulative effect adjustment?
Apply new presentation guidance in 2018?
9/30/17 – 12/30/17
No - the hedging relationship expired before the adoption date
No - the hedging relationship did not exist at the initial application date
No - the hedging relationship expired before the adoption date
1/2/18 – 3/30/18
Yes - the hedging relationship was designated after the adoption date
No - the hedge did not exist at the initial application date
Yes - the hedging relationship was designated after the adoption date
11/1/17 – 10/1/18
Yes - the hedging relationship existed at the adoption date
Yes - the hedging relationship existed at the initial application date and the adoption date
Yes - the hedging relationship existed at the adoption date
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