Accounting for certain electricity contracts
FINANCIAL REPORTING INSIGHTS |
Certain contracts for the purchase or sale of electricity on a forward basis, such as a contract to purchase a stated volume of electricity from a power-generating company at a future date or dates at a fixed price, often meet the definition of a derivative under Accounting Standards Codification Topic 815, Derivatives and Hedging. Topic 815 requires that a derivative contract be recognized at fair value unless the contract qualifies for a scope exception. One of those scope exceptions is the normal purchases and normal sales scope exception. Normal purchases and normal sales contracts are those that provide for the purchase or sale of something other than a financial instrument or derivative instrument that will be delivered in quantities expected to be used or sold by the reporting entity over a reasonable period in the normal course of business. There are two sets of criteria an entity that purchases or sells electricity could consider to determine whether a contract is eligible for the normal purchases and normal sales scope exception, both of which include a criterion related to physical delivery.
Questions have been raised about whether a contract for the purchase or sale of electricity on a forward basis should be eligible to meet the physical delivery criterion of the normal purchases and normal sales scope exception when either the delivery location is within a nodal energy market or the contract necessitates transmission through a nodal energy market and one of the contracting parties incurs charges (or credits) for the transmission of the electricity based in part on locational marginal pricing differences payable to (or receivable from) an independent system operator. A nodal energy market is an interconnected electricity grid operated by an independent system operator with established price points at each node or hub location.
The Financial Accounting Standards Board recently issued Accounting Standards Update (ASU) 2015-13, Derivatives and Hedging (Topic 815): Application of the Normal Purchases and Normal Sales Scope Exception to Certain Electricity Contracts within Nodal Energy Markets (a consensus of the FASB Emerging Issues Task Force), which specifies that the use of locational marginal pricing by an independent system operator does not constitute net settlement of a contract for the purchase or sale of electricity on a forward basis that necessitates transmission through, or delivery to a location within, a nodal energy market, even in scenarios in which legal title to the associated electricity is conveyed to the independent system operator during transmission. Consequently, the use of locational marginal pricing by the independent system operator does not cause that contract to fail to meet the physical delivery criterion of the normal purchases and normal sales scope exception. If the physical delivery criterion is met, along with all of the other criteria of the normal purchases and normal sales scope exception, an entity may elect to designate that contract as a normal purchase or normal sale and not account for it as a derivative.
ASU 2015-13 was effective upon issuance on August 10, 2015 and should be applied prospectively.