For many companies the year-end audit is fast approaching. In preparing for an audit of your hedge accounting program, keep in mind the following key control areas:
- Have all derivatives been identified?
- Are all derivatives on balance sheet at fair value?
- Are the values in OCI reconcile-able to future transactions?
- Is the hedge documentation complete and easily accessible?
- Have the effectiveness tests been completed in accordance with the documentation?
- Are the hedged transactions still probable of occurring?
- Have gains and losses been released to income consistent with documentation?
- Have the necessary disclosures, including tabular and non-tabular requirements, been net? (See ASC 815)
While most companies have strong controls to ensure that all hedges are accounted for, it is also crucial that a process for identifying other contracts that meet the technical definition of a derivative is in place and that the conclusions reached through this process are documented. It is generally most effective when that process is centralized in Treasury or Accounting (with other key contacts in legal, purchasing and facilities be trained to spot potential derivatives).
Be prepared to provide details of valuation models and inputs, even when valuations are provided by a third party like Hedge Trackers, LLC (and preferably one that is not the counterparty to the hedge). Valuation inputs will also be required for disclosure purposes – the more subjective the inputs, the more disclosures required.
Amounts recorded in OCI must be supported by appropriate documentation and effectiveness testing. We are seeing more scrutiny by auditors on specific data points within the regression analysis, as well as reviews of the appropriateness of the regression inputs. Also, the expected date of the underlying transaction, which is a key component of the effectiveness measure, is beginning to get more attention, especially as auditors take their lead from the FASB and shift their focus from testing to measurement.
We suggest that you strongly encourage the auditors to begin looking at derivatives and hedge accounting issues early in the audit (preferably at interim). Too often this is an area that is addressed at the very end of the audit when potential issues can easily turn into a last-minute crisis and legitimate programs gutted to meet filing or reporting deadlines.
