Decoding CECL: An Overview of the Financial Reporting Changes
Welcome to The Herbein Conversation podcast, where we delve into pressing topics impacting your business - and help you drive success.
In this episode, we examine Current Expected Credit Losses (CECL) with Kaitlyn Schappell, senior manager in Herbein's assurance practice. CECL is a new accounting standard introduced by the Financial Accounting Standards Board, which will replace the current incurred loss model with an expected loss credit loss model, aiming to provide a more forward-looking approach to assessing credit risk.
Amy Klatt: Hello and welcome To an episode of the Herbein Conversation podcast, where we dive deep into the trending topics that impact your business. I'm your host, Amy Klatt, and with us today is Kait Schappell, senior manager in Herbein's accounting and auditing practice. Kait specializes in serving clients in the transportation, logistics, manufacturing, and distribution industries, as well as the employee benefit plan niche. Thanks so much for joining us Kait.
Kait Schappell: Thanks for having me. I am excited to be here.
Amy Klatt: Great. So today we're excited to dive into the trending topic of current expected credit losses, or better as CECL. Technically that is referred to as ASU 2016 - 13 So to kick us off Kait, can you give us an overview of and why this is such a significant change?
Kait Schappell: Yeah, so CECL is the current expected credit loss. Model. Um, It moves from the incurred loss model that we've historically had for the allowance calculations into a forward-looking approach. It recognizes a loss over the life of the financial asset. So in theory, when a company is recording accounts receivable on day one when they make a sale, they should be matching a, um, allowance against that.
Amy Klatt: Okay, great, and there any key timelines that go along with CECL that people need to be aware of?
Kait Schappell: Yeah, so for public companies, um, it was effective as of 2020. And for private companies, it will be in effect for their 2023 financial statements.
Amy Klatt: Okay, so essentially right now is the time when private companies are really making things happen. What are some of the top challenges that businesses might face when implementing the CSAW model and how can businesses navigate these?
Kait Schappell: So the allowance initially, is always a historical loss factor on it. And one of the big challenges that a company may face now is that they should be forward facing so along with their historical data that they would be gathering, they need to start looking for. What's gonna be happening in the future and, you know, incorporating those economic forecasts, which will definitely be different for our private companies.
Amy Klatt: Okay. Forward facing great points. It really seems like when we're dealing with any kind of reporting change at all, I feel like we keep going back to the importance of good data, communication, and kind of getting expert advice and that those are really key things that we often refer back to.
Would you agree with that?
Kait Schappell: Definitely, um, a lot of our clients just want us to be able to kind of, give them the answer of how they should record the allowance. Um, but with many of the most recent accounting standards, there's a lot of judgment involved. So, you know, we can no longer give them a black-and-white answer, and it's up to the companies to determine, you know, what their customer base is and the risks associated with those customers.
They definitely need to start internally looking at, you know, what makes sense for them and you know, looking at industry trends related to them as well.
Amy Klatt: it makes sense that they definitely know their business the best. Um, but it's, it's great that you can certainly be a resource to them. I'm wondering if in your experience working with different businesses, you can highlight some actual practical examples of the shift from the incurred loss model to the CECL model, and what it really means for anyone who's going through this right now.
Kait Schappell: So when it comes down to it, shifting from CECL means businesses need to reevaluate their processes in estimating credit losses. They need to start gathering data related to the historical loss. Um, they should be looking at modeling techniques and, data analytics and third-party research of, you know, what do they think is gonna happen going forward. There's also an additional level of complexity for financial reporting, especially in this year of transition.
Since the standard was effective as of the beginning of the company's reporting period, for our 1231 clients, um, that means that they'll also have to do a 1/1 2023 calculation in addition to their 12/31 2023 calculation. And when they do that 1/1 calculation, they'll be comparing it to their 12/31 2022 calculation to see if there are any differences, um, and whether or not they have to record something to their retained earnings.
Amy Klatt: Okay, great, thank you. So knowing that this overall could really include some process adjusting. What are some key strategies or maybe some best practices that you would recommend for companies that are, that are really hoping for just, a smooth transition to CECL?
Kait Schappell: Well, we definitely all want a smooth transition on that. We know that our clients have a vast knowledge of their customer base, but honestly, the biggest hurdle is getting that knowledge down on paper. So the Cecil model requires you to put all assets with similar risks and pools, and then calculate an allowance from there.
So when management's looking at what those pools should be, they might have to be reaching out to, you know, their sales reps, um, you know, the people that are on the ground and know what their customers are struggling with in the, you know, current economic environment. Um, you know, is there an industry that's seeing an uptick based on government lending?
Um, is unemployment dropping in a specific county? Those kinds of things need to be, um, documented and considered. And then another piece of the CECL model is having reasonable and supportable adjustments to the historical loss information. So we're always gonna say, document, document, document. You definitely know as our clients, we're gonna come in and ask for that documentation, so you might as well have it ready for us, um, and not have to go back and recreate the wheel.
Amy Klatt: Okay, great, great advice that I'm sure people can, um, certainly take with them and really just wondering about who are just starting the implementation journey and if you have any kind of specific or different advice to those that are just going through this.
Kait Schappell: So regardless of the familiarity or comfort levels with CECL specifically, like with any financial reporting, um, change, starting with the CECL implementation journey requires a clear roadmap. Um, begin assessing your current processes and data collection quality. develop a timeline for implementation and ensure as much as you can that you allocate sufficient resources.
Um, definitely make sure you're engaging with industry peers and experts to learn from their experiences and communicate with your stakeholders, including your investors and regulators about the implementation plan.
Amy Klatt: Great. Thanks so much for breaking down such a technical topic into a nice Overview for everyone. And we're looking towards the future, uh, how do you see CECL evolving? Uh, what can companies really do to kind of stay ahead?
Kait Schappell: So CECL is likely to evolve as the industry gains more experience with its implementation. Uh, companies should stay informed with any updates or changes in the standard. Um, continuously monitoring and adapting models, will definitely be essential for adjustment with the adjustment factors we talked about, and then staying engaged with the industry forms of regulatory bodies will help companies anticipate and navigate any future changes effectively.
Amy Klatt: Okay. And then here's my chance to remind everyone to subscribe to our blog at Herbein.com, that means that you'll receive any kind of key industry updates, immediately as soon as things are posted. And then specifically related to CECL, within the next week, we'll be sending out a recorded webinar that goes a little bit more into the details, of the model that will be sent out within the next week and covers a lot of the top questions that we've received so far.
So Kait, thanks so much for joining us for today's Herbein conversation. And thanks to everyone for listening in. We hope to be your go-to source for thought leadership as we continue to explore trending topics with experts from various industries and services. To learn more about CECL and its impact on your business, you can visit us at Herbein.com. and until next time, this is Amy Klatt signing off.