Current expected credit losses a.k.a. CECL… We’ve been talking about it since 2016. Now, here we are in 2020, and the results of implementing the standard are finally in… sort of. Let me explain a little further before we look at the results!
Accounting Standard Update (ASU) 2016-13, Financial Instruments – Credit Losses: Measurement of Credit Loss on Financial Instruments was issued in June 2016. This ASU resulted in a complete mindset shift from an incurred credit loss model to an expected credit loss model. That said, the goal of the allowance for credit losses, or ACL, (yep, the terminology changed too – no longer do we refer to it as the allowance for loan and lease losses (ALLL)!) remained the same – to reflect, on the balance sheet, the net amount of the asset (e.g. loans, securities, etc.) the entity expects to receive. In a previous post, we provided an overview of ASC 326 and have created a self-study, eLearning course available online now!
SEC Staff Accounting Bulletin Topic 11 M requires companies to disclose the impact recently issued accounting standards are expected to have on the financial statements of registrants. This requirement was previously found in SEC Staff Accounting Bulletin 74 (SAB 74) before it was reorganized into Topic 11 M. The SEC believes that disclosures made by companies related to the impacts of recently issued accounting standards should become more robust as the implementation date draws closer.
SEC filers with calendar-year ends (excluding those meeting Smaller Reporting Company status) were required to adopt CECL on January 1, 2020. Other entities have delayed effective dates. So, what’s the connection here?
As you know, SEC filers are required to file quarterly and annual reports. The 2019 year-end Form 10-Ks (annual report) for SEC filers are due in March 2020. This means that companies required to adopt the new standard on 1/1/2020 should know the impact of adopting ASC 326 before their annual report for 2019 is filed with the SEC! So, we should be able to determine the impact of CECL by reviewing the Form 10-Ks!
But why did I say we “sort of” know the results? It’s because the level of information disclosed by these companies has varied widely. Some entities have disclosed detailed charts of the effects, while others have disclosed only the dollar amount of the impacts (although some disclosures are pre-tax and some post-tax, oh my!). To make matters even more complicated, some institutions specifically cite that their CECL adjustment impact includes the change to their reserve for unfunded commitments, while others remained silent on the matter. Furthermore, many of the banks we reviewed remained silent on the impacts associated with their held-to-maturity and available-for-sale debt security portfolios under the changes in ASC 326!
Let’s get to the good stuff – the impacts of CECL! I want to preface this information by reiterating that this isn’t exactly an apples-to-apples comparison, because some companies disclosed the impacts using differing levels of details or on a different tax basis. However, we did our best to analyze the data with the information available.
We reviewed the disclosures found in the Form 10-Ks of 20 financial institutions for the year ended December 31, 2019. Why financial institutions? Because, although CECL applies to all entities, banks are widely believed to be the most impacted by ASC 326.
The range of impact varied considerably – anywhere from a decline in the institution’s allowance for credit losses (ACL) of $1.3 billion (Wells Fargo & Company) to an increase of $4.3 billion (JPMorgan Chase & Co.)! Based on calculations for our sample of financial institutions, the range of change to the ACL is a decline of 12% to an increase of 154%!
Of the 20 financial institutions we sampled:
- 17 reflected an increase to their reserves
- 2 reflected a decrease to their reserves (Wells Fargo & Company and Bank of New York Mellon Corporation)
- 1 noted the impact was not material (State Street Corporation)
The average impact for our sample was an increase of 42.81%, or $1.3 billion. The largest dollar figure increases were experienced by the largest institutions in our group (a notable exception was the decrease disclosed by Wells Fargo), which makes sense considering the size of their balance sheets and loan portfolios. In our group, Bank of New York Mellon and Wells Fargo were the only two that cited a decline in their reserves. Wells Fargo attributed the decrease primarily to reflecting shorter contractual maturities due to the limitations to contractual terms under the CECL model, while Bank of New York Mellon noted the decline in their reserves was “primarily attributable to a reduction to the allowance for credit losses for our commercial lending portfolio.” State Street Corporation had the smallest loan portfolio of the institutions in our sample and cited the effect of implementing CECL was not material.
Why do the results vary so much?
Factors that can influence the range of impact include the size of the financial institution, portfolio composition (especially credit cards), institution asset quality, inclusion of recoveries anticipated in forecasts, contractual terms of assets, reversion methodologies employed and, of course, management judgment!
If you don’t already subscribe to our blog, GAAPology, I encourage you to do so. We plan on more CECL-related fun with additional posts discussing the aforementioned factors and final results once the first quarter 2020 Form 10-Q’s have been filed.
Want to see the full results of our analysis or compare how the impact of CECL on your entity compares with your peers? Download our detailed analysis now!
Confused about CECL? Have a question on applying ASC 326 or IFRS 9? We currently have online courses on the CECL model as well as IFRS 9 across a variety of delivery methods. Need additional help? Let’s talk. We’re always glad to help!
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