Share-Based Payment

• The Exposure Draft will have a 120-day comment period. (IASB's timetable calls for issuance in the fourth quarter of 2002.)
• The measurement objective for share-based payment for employee services is to measure the value of the services received. To implement that objective, grant date measurement means that shares and share options will be valued at grant date (with expected lapses reflected), the number of units of employee service expected to be received over the service period will be estimated at grant date, and a cost per unit of services will be determined at grant date. Subsequently, expense will be recognised based on actual quantity of service received multiplied by the originally estimated per unit cost.
• An entity should recognise all tax benefit it receives from issuance and exercise of shares and share options in net profit or loss, not directly in equity.
• IAS 39 should continue to apply to commodity purchase contracts that are settled net even if those contracts are settled net in shares rather than cash. The Standard on share-based payment will have a scope exclusion clarifying this.
• If a liability for a vested share appreciation right had been recognised at intrinsic value prior to the effective date of the new IASB Standard on share-based payment, it should not be revalued at the initial adoption of the new Standard.
• If a share plan or option plan is cancelled during the vesting period (a) any additional resulting cost is charged to expense and (b) any cost previously measured at grant date should be recognised as expense over the remaining vesting period in a manner similar to a repricing.
• If a subsidiary grants options excercisable in shares of its parent, in the subsidiary's own financial statements the subsidiary should recognise compensation cost and a capital contribution from its parent.
• A reload feature should generally be taken into account in determining the fair value of an option at grant date. However, do not do so if it is impracticable to measure the value of the reload feature.
• Implementation guidance for options with performance conditions will be added to the Standard.
• The Standard on share-based payment will apply to all issuances of shares to acquire nonfinancial assets. Clarification of this will be added to some existing IAS.

Wednesday 18 September:

On Wednesday 18 September, the IASB held an all-day meeting with the US Financial Accounting Standards Board at FASB's offices in Norwalk, Connecticut, USA. The joint discussions were intended to be informational, and neither Board made any decisions at the meeting.

IASB/FASB Joint Discussions: Reporting Financial Performance

The FASB project manager summarised the status of the FASB project on reporting financial performance and identified areas of commonality and of difference with the tentative conclusions of IASB:

• FASB supports a single performance statement, as does IASB.
• FASB agrees that expenses should be split by function (cost of sales, selling, administrative, etc.) rather than by nature (salaries, depreciation, etc.), as does IASB.
• FASB has considered IASB's Principle 3 by which the performance statement would split current period items and remeasurements of items recognised in prior periods. While, tentatively, FASB "cannot go with IASB Principle 3," FASB intends to use Principle 3 as the basis for its future discussions of presentation on the face of the performance statement. IASB's Principle 3 states:
  

  Income and expenses resulting from the remeasurement of an asset or liability should be reported separately. 'Remeasurement' refers to the revision of estimates embedded in the carrying values of assets and liabilities.

• FASB's conclusions on discontinuing operations are different from those of IASB. FASB would present discontinuing operations below after-tax profit on the performance statement, and measured net of income taxes, rather than as part of reporting pre-tax expenses by function. IASB takes the latter approach.
• FASB has not yet decided whether to retain the concept of extraordinary items or whether they should be reported on the face of the performance statement or in the notes. FASB believes that extraordinary items, if retained and if presented on the face of the performance statement, should be shown as part of pre-tax results of operations. IASB would abolish extraordinary items.

The IASB project manager noted that, while there are some differences in tentative conclusions, both IASB and FASB are working with a matrix format for the performance statement -- separating out financing activities from business operating activities and, within operating activities, separating out various types of income, expense, gains, and losses. IASB is leaning toward a three-column presentation consistent with IASB Principle 3 -- income and expense items initially recognised in the current period, remeasurement of prior period items, and a total column. The total column is similar to today's income statement, so there would be no loss of information.

The reason for distinguishing between financing and operating is to arrive at a measure of results of business activities that is before all costs of capital. This requires a definition of debt finance. IASB has identified three characteristics of debt: substitutability with equity finance, it is independent from the activities the enterprise is engaged in, and it involves deferral of settlement so that the returns on debt represent returns relating to the passage of time. The Boards discussed whether these criteria can be operationalised.

Representatives of both Boards noted that because of differences in existing IASB and FASB accounting standards, the performance statements would not be identical even if identical performance reporting standards were adopted. An example cited was the 'split accounting' of IAS 32, which recognises a portion of the proceeds of a compound financial instrument as equity. This is not currently a FASB standard. This results in different measures of interest expense under FASB and IASB standards.

The IASB project manager discussed the benefits of separating current period items from remeasurements, using measurement of pension expense as an example. An entity whose actual pension experience exactly matches its actuarial assumptions will have no remeasurements in the second column of the performance statement. An entity that 'consistently gets it wrong' will have many gain and loss items (remeasurements) in the second column. The second column will therefore provide insight about the reliability and sustainability of amounts reported in the first column. Several members of the two Boards noted that column 2 provides evidence of 'quality of earnings' as well as predictive ability. It was noted that the split might 'institutionalise pro forma earnings' by causing users to focus on column one which excludes the 'volatility' elements reported in column 2, and the Boards discussed whether that is a good or a bad thing.

The Boards also discussed whether a distinction should be made in the performance statement between measurements that result from actual (contractual) transactions and measurements (whether at initial recognition or remeasurement) based on estimated values -- a 'hard' and 'soft' earnings split.

IASB/FASB Joint Discussions: Business Combinations (Phase II)

This is a joint IASB/FASB project on purchase method procedures and application guidance. The discussion focused on areas on which the IASB and the FASB have tentatively reached different conclusions. Those areas include:

• Measurement date for equity instruments issued as consideration. Tentatively, IASB would use the date on which the business combination is agreed to, while FASB would use acquisition date (date control passes). After discussion, an informal joint vote of members of the two Boards showed a slight preference (11 to 9) for acquisition date.
• Initial measurement of equity consideration -- blockage factors. Tentatively, IASB would take blockage factors into account in the case of a 'thin market' while FASB would not.
• Assets held for disposal. FASB favours net selling price (fair value less costs of sale). IASB would use fair value.
• Amendments to postemployment benefit plans that are a condition of the business combination.
• Intended changes by the acquirer to employee benefits and other postretirement benefit plans.
• Employee benefit payments triggered by a business combination.
• Constructive obligations.
• Initial measurement of acquired assets and assumed liabilities -- selection of a disposition market price if multiple disposition markets exist. To what extent is replacement cost an appropriate measure of fair value?

• Level 1: By reference to an observable market transaction (for example, cash purchases of the same or a similar item at or near the transaction date).
• Level 2: If Level 1 is not available, through valuation methods or techniques (such as present value or option pricing models) that incorporate market-based assumptions.
• Level 3: If neither Level 1 nor Level 2 is available, through valuation methods or techniques that incorporate assumptions not contrary to market assumptions. As a practical matter, an entity can use its own assumptions in instances in which market-based assumptions are not available.

• Measurement of minority interest and related goodwill.
• Step acquisitions.
• Sale of shares by a subsidiary ('deemed disposals').
• Disclosure and presentation.

IASB/FASB Joint Discussions: Convergence

The IASB and FASB discussed a common proposed strategy for a convergence project. The following short- and long-term strategies were proposed:

Strategy for short-term convergence project(s): The IASB is in the midst of a project to update and improve IAS that would eliminate many existing differences between FASB and IASB GAAP, but that would create some new differences. FASB has recently issued several pronouncements that have also caused differences. This phase of the convergence project would attempt to reduce or eliminate those differences. Certain differences in FASB and IASB GAAP that have existed for a longer period of time would also be addressed in the short-term phase of this project. Issues for convergence on a short-term basis include:

• IAS 11, Construction Contracts
• IAS 19, Employee Benefits (aspects other than post-employment benefits)
• IAS 24, Related Party Disclosures
• IAS 29, Financial Reporting in Hyperinflationary Economies
• IAS 34, Interim Financial Reporting
• IAS 40, Investment Property
• IAS 41, Agriculture

Long-term strategy: Both Boards have undertaken a number of major projects with convergence as one of the objectives of the projects. Examples include performance reporting, revenue and liabilities, and business combinations. The long-term strategy of this project would require further coordination regarding agenda setting and resource allocation with a goal of achieving convergence in the major projects over the next several years.

The Boards discussed criteria that might be adopted to identify candidates for the short-term convergence project. Examples include:

• Likelihood of quickly reaching agreement on the change (this might include some issues that are considered to be part of another longer-term agenda project of one or the other of the Boards).
• Recency of adoption of the standard that caused the conflict between IASB and FASB GAAP.
• Frequency of occurrence as an IAS/US GAAP reconciling item (for instance in SEC filings).
• Monetary magnitude as a reconciling item.

IASB/FASB Joint Discussions: Revenue Recognition

Both IASB and FASB have added to their agenda projects on revenue recognition, and both have indicated an interest in pursuing the projects as a joint project. The Boards discussed the issues relating to pursuing the project jointly, including:

• The Boards' agendas.
• Joint project working group.
• Joint project staff.
• Joint project plan.
• Milestones and deadlines.
• Anticipated final products.

• Realisation and 'completion-of-earning-process' approach (set out in revenue recognition concepts the conceptual frameworks of both Boards).
• Asset and liability approach (set out in the definitions of assets and liabilities in both frameworks). Revenue would be defined in terms of changes in assets and liabilities.

Thursday 19 September:

Reporting Performance

The Board's discussion focused on IASB's Performance Reporting Principle 1, which states that a statement of comprehensive income should enable the user to distinguish the return on total capital employed from the return on equity. It follows from that principle that all components of comprehensive income should be classified as either operating or financing, such that total operating income plus total financing income is equal to comprehensive income. IASB members reaffirmed their support for that principle.

In June 2002, the IASB had decided that there should be a separate financing category in the statement of comprehensive income. The Board noted that although financing costs are a deduction, like any other expense, in calculating income attributable to equity holders, they are unlike other expenses in that they represent a return to providers of finance. While comprehensive income is the appropriate measure of return to providers of equity finance, operating income (before deducting financing costs) is the appropriate measure of return to providers of both equity and debt finance.

The Board discussed proposed characteristics to define debt financing and concluded, simply, that all liabilities are debt financing (including bank overdrafts). If a cost of that debt is recognised under accounting recognition and measurement Standards, then it is a financing cost for the purpose of presenting comprehensive income. Obvious examples are interest and amortisation of discount. Less obvious examples might include the interest component of pension expense and even a portion of rent expense under operating leases. The performance reporting Standard will not address calculation or display of interest that is not required by other Standards, but it might include a list of financing costs recognised under existing International Financial Reporting Standards.

The Board discussed whether financing cost would ever be net of some interest income. One view is that all assets generate a return, and that return is available to pay the cost of financing. Therefore, interest income would never be part of financing. Another view is that certain assets are managed as an offset to debt rather than as an investment (the treasury function of the entity is managed on a net basis). Under this view, surplus cash would be deducted in arriving at a net financing position, and income from that surplus cash is an offset to financing cost.

That discussion led to consideration of two other possibilities:

• whether the financing category should be broadened to be a treasury category that would include all interest expense and all interest income (this would require restatement of Principle 1); or
• whether there should be a treasury subsection within the operating section of the statement of comprehensive income.

Business Combinations (Phase II)

Measurement date for equity securities issued in a business combination. At yesterday's joint meeting with FASB, an informal combined vote of members of the two Boards showed a slight preference for acquisition date rather than agreement date. Today, IASB voted to support acquisition date (the date that control passes) in the interest of convergence with FASB.

Measurement of employee benefit obligations in connection with an acquisition. IASB agreed to prepare a memorandum to FASB setting out the IASB's reasoning for not remeasuring such obligations.

Assets held for disposal. While IASB has not yet discussed measurement of assets acquired in a business combination that are intended for disposal, IASB staff noted that the measurement approach in IAS 36 differs from the approach in FASB Statement 144 principally in that anticipated disposal costs would be deducted under SFAS 144 but not necessarily under IAS 36. The Board concluded that convergence on this issue should be considered as part of the Convergence Project rather than as part of the Business Combinations (Phase II) Project.

Constructive obligations. These are addressed in IAS 37 but not specifically in FASB Standards (though it is addressed in the FASB Concepts Standards). Members of the IASB Board generally agreed that recognition in an IASB Standard on Business Combinations should be consistent with IAS 37. They suggested that IASB encourage FASB to consider guidance that would be consistent with IAS 37.

Income taxes - net operating loss carryforward. Recognition of a NOL carryforward at the time of a business combination is different under IASB and FASB Standards. This difference can only be addressed as part of a project on accounting for income taxes.

Items whose fair value might be affected by a business combination. The Board discussed whether the fair value of a liability assumed in a business combination should reflect the acquirer's credit rating or the acquiree's credit rating. The Board concluded that, in general, the fair values of all assets and liabilities of the acquiree can be affected by the market's knowledge of a pending business combination. Therefore, in some circumstances depending on observed market adjustments of fair values, the acquirer's credit rating will be reflected in the fair value of an acquired liability.

Inventory. Items of inventory should be measured using a market-based assumption model that incorporates an observable disposition price and market-based calculations of the estimated costs to complete the inventory, including an estimated profit margin and costs to sell.

Convergence Topics

The Board considered the scope of a project on convergence of pension accounting standards and concluded:

Include in scope of convergence project:

• How the total change in value of plan assets should be reported in a statement of comprehensive income
• Disclosure of an allocation of plan assets across broad categories, such as equities, fixed income securities, property, etc.
• Whether the immediate recognition of actuarial gains and losses arising on the defined benefit obligation should be retained as an option (as currently in IAS 19), made mandatory, or prohibited. Those who favour immediate recognition feel that the IAS 19 corridor approach amounts to 'income smoothing'. Those who support a corridor or spreading approach feel that such approach is appropriate given (i) the allocation of benefits earned to periods of service and (ii) the recognition of unvested past service cost over the vesting period.
• Whether the 'asset ceiling' of IAS 19 should be retained.
• Whether certain guidance from FASB Statements 106 and 112 (which deal with non-pension benefits) should be incorporated into a revised IAS 19.

• Whether the defined benefit obligation should reflect current salaries rathe3r than expected final salaries
• Whether a defined benefit plan should, in some circumstances, be fully consolidated into the3 entity's financial statements.

The Board voted to commence the Convergence Project as outlined during the joint IASB/FASB meeting on 18 September.

Friday 20 September:

Insurance Contracts

In May 2002, the IASB agreed to split the insurance contracts project into two phases, so that some components of the project can be put in place by 2005 without delaying the rest of the project. The first phase will address the application of existing IFRSs to companies that issue insurance contracts. The Board discussed whether each of the following issues should be identified as matters to be addressed in the first phase:

1. Agree on a definition of insurance contracts. The existing definitions in IAS 32 and IAS 39 are not consistent with those in IAS 37 and IAS 38, and also are not consistent with certain aspects of the definition of insurance contracts used in US GAAP.

2. Presentation and disclosure, including consideration of how insurers might give the disclosures about measurement assumptions proposed by the Improvements Project to be added to IAS 1.

3. Implementation guidance for applying IAS 39 to those contracts issued by insurers (as well as other financial institutions) that do not qualify for the insurance contracts scope exclusion of IAS 39 -- particularly guidance with respect to embedded derivatives such as renewal options and participation features.

4. Provide guidance on identifying and measuring derivatives that are embedded in insurance contracts, including guidance on which such derivatives are 'closely related' to their host insurance contract.

5. Elimination of a limited number of existing practices that are incompatible with the IASB Framework, for example, the elimination of catastrophe and equalisation provisions that do not represent liabilities as defined in the Framework.

6. A review of the implications to insurance entities of the hierarchy of pronouncements that an entity is required to consider in the absence of an IFRS. The IASB has proposed to add that hierarchy as part of its improvements to IAS 8.

7. Derecognition -- guidance on applying the proposed 'no continuing involvement' derecognition approach to insurance contracts.

8. Guidance on accounting by policy holders.

Individual Board members suggested that certain of the foregoing matters (particularly items 3 and 7) may be too broad -- and, therefore, too time consuming -- to be included within the scope of the first phase of the insurance contracts project. However, after discussion, the Board did not object to further staff research on all of them as potentially within the first phase.

The Board does not intend to exempt insurers from existing IFRSs beyond the scope exemptions that already exist in IAS 18, IAS 32, IAS 37, IAS 38, and IAS 39.

This summary is based on notes taken by observers at the IASB meeting and should not be regarded as an official or final summary.