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Grant Thornton Cautions Re: Master-Feeder Structur

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NEW YORK (–The accounting and consultancy firm Grant Thornton LLP has published in its newsletter, “SecuritiesAdviser,” an analysis of the likely effects of the Financial Accounting Standards Board’s interpretation No. 46, Consolidation of Variable Interest Entities.

The article, prepared by Partner Richard Flowers, cautioned investment companies and securities broker-dealers that FIN 46, which was intended to stop the abuse of the accounting of off-balance sheet transactions through the use of special purpose entities, is very complex and far broader in scope than just SPEs.

“Two arrangements where questions arise concerning the applicability of FIN 46 include investment partnerships organized in a master-feeder structure and limited partnerships where a broker-dealer or investment company owns the general partnership interest,” the accounting firm said.

Will the master be considered a variable-interest entity in the sense of the new rule? If so, must its liabilities be consolidated on the balance sheet of the feeder entity? The accounting firm said that this will “often come down to deciding whether the equity owners (the feeder entities) control the activities of the master entity and are exposed to its expected losses and entitled to its expected residual rewards because the master entity is generally capitalized entirely through the issuance of common equity and therefore would have sufficient equity to absorb its expected losses.”

Delayed for Investment Companies

Those hedge funds that have a master-feeder structure, or the general/limited partnership arrangement Mr. Flowers identified, will not have to work immediately through this analysis, though, because the effect of FIN 46 has been delayed for investment companies and the FASB has issued for comment three pertinent final staff positions. The first, FSP FIN 46-a, is the most pertinent. It delays the effective date of FIN 46 for investment companies that follow specialized accounting guidance in the American Institute of Certified Public Accountants Audit and Accounting Guide, Audits of Investment Companies, because the AICPA still is finalizing its statement of position on the accounting by parent companies and equity method investors for investments in investment companies. After the AICPA issues its final statement of position, the FASB will consider modifying paragraph 4(e) of FIN 46 to exclude companies that are within the scope of the AICPA rule from FIN 46 altogether.

The deadline for comment on this FSP is Oct. 3.

Mr. Flowers’ article also said that FIN 46 applies on its face to limited partnerships in which a broker-dealer or investment company owns the general partnership interest.

A practice fellow at FASB, Ann McIntosh, agreed with the general statement that both master-feeder structures and investment partnerships in the situation Mr. Flowers described will want to take a close look at FIN 46 and its consequences for their position in terms of whether one associated entity in either case is a variable interest entity of another and, if so, whether it will have to be consolidated.

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