Tuesday 18 November 2008
 Conceptual Framework Phase C – Measurement
The Board discussed a paper in which the FASB staff assigned to this joint project attempted to identify factors to consider when selecting a basis for measurement after initial recognition. The paper was characterised by one Board member as a way of trying to help the Boards identify the population of measurement attributes and the criteria by which the Boards might select a particular attribute in a particular standard-setting situation.
It was apparent that Board members disagreed over what the staff paper actually said and what 'agreeing with it' implied. However, the discussions that followed these initial interventions did something to resolve the confusion.
The Board seemed to agree and support the notion that a broad categorisation of items into 'flow-dominant' and 'value-dominant' items was useful.
- Flow-dominant assets are those whose current value is generally less important than the cash flows they generate. Such assets are often used in conjunction with others to benefit the entity. If such assets were measured at current values, the cash flows and value changes attributable to them would need to be separated in the statement of comprehensive income.
- Value-dominant assets are those that will produce cash flows by being collected or sold; the flows produced are directly related to the value of those assets in market exchanges. Most liabilities are value-dominant because their values are directly related to the cash flows required to extinguish them.
Board members found these notions to be a useful base from which to make distinctions. However, one Board member noted that once the Board admitted that there was a choice of measurement attributes, it had to address the issue of management intent, but not in the notion in which that phrase is usually used currently. How management intends to use an item (for example, is a machine an item of inventory or is it used in the entity's production process?) has important consequences for the subsequent measurement of the asset. This also begs the question of what is the unit of account: the individual asset (inventory) or a group of assets (the production process)?
No decisions were made, and the staff will continue its work and report to the Boards at a subsequent meeting.
Conceptual Framework Phase D – Reporting Entity – Preliminary summary of comments received on the Discussion Paper
The IASB staff presented its summary of comments received on the Discussion Paper The Reporting Entity. The session was essentially an educational one, and no decisions were made. The staff summary is available in Agenda Paper 4 for this meeting. The staff highlighted several of the high-level findings but did not discuss them to any extent.
There was considerable concern and interest among constituents and Board members about the cross-over between the concepts-level notions of control, joint control, etc and the related standards-level implementation issues. These were particularly acute given that the Board expects to issue draft standards-level guidance in the very near future.
Some Board members highlighted areas that interested them, supplemented by their own reading of the comments. In particular, one Board member noted that the comments on the notion of control in the context of not-for-profit entities intrigued him. Control in the profit-oriented sector was an exposure to variances in outcomes; but not-for-profits had a different objective. He urged the staff to consider this area some more before bringing proposals to the Board.
Other Board members were concerned that the Board needed to address to issues of entities under common control and the preparation of combined financial statements. These issues are of particular interest in the Asia-Pacific region. For example, it is common for banks in Korea to request combined financial statements in addition to IAS 27 consolidated statements.
Next steps
The staff stated its intention to redeliberate the issues in the Discussion Paper at three Board meetings. These meetings would address:
- the description of a reporting entity; and consolidated and parent-only financial statements;
- the definition of control; the group reporting entity; and other control issues; and
- the entity perspective. This discussion would be conducted jointly with that for Phase A and would, among other things, decide where in the IASB Framework the discussion of the entity vs. proprietary/parent-company approach should be placed.
The staff does not think that roundtable or other formal public information-gathering meetings were necessary. The Board did not disagree.
Wednesday 19 November 2008
IFRIC Update
Transition and effective date of IFRIC 15 Agreements for the Construction of Real Estate
The Board considered representations made by some participants at the September 2008 World Standards Setters' meeting and two individual letters requesting a change to the transitional requirements and effective date of IFRIC 15. The Board had been asked:
- to consider changing the transitional requirements to require prospective application (rather than retrospective); and
- to consider delaying the effective date to annual periods beginning on or after 1 July 2009 (as opposed to 1 January 2009).
The Board discussed both items. There was very little sympathy for prospective application. Board members noted that it was likely that entities applying IFRIC 15 would be moving from a percentage-of-completion approach for revenue to a completed sale approach, which would not require extensive systems changes. With respect to the effective date, the IFRIC Chairman noted that IFRIC and the Board had already agreed to a delayed effective date: six months after issue rather than the usual three months.
The staff noted the Interpretation had been through full due process and that EFRAG had not been persuaded by the arguments raised by one of its constituents (which were copied to the IASB) when preparing its endorsement advice to the European Commission.
The Board unanimously declined to change IFRIC 15 for either issue.
Ratification of IFRIC 17 Distributions of Non-cash Assets to Owners
The Board ratified, subject to written ballot, IFRIC 17 as well as consequential amendments to IFRS 5 and IAS 10. No Board members indicated they would dissent.
A Board member was worried that the Interpretation would create legal problems in some jurisdictions, especially during the period between the declaration of a non-cash dividend and the date on which that dividend is settled. An entity making such a distribution could appear to be making a return of capital rather than a return on capital because it could appear (before the effect of the fair value adjustment related to assets used to settle the liability) to be distributing more than its available retained earnings. The Board debated this point, but ultimately agreed with the Interpretation as drafted and noted that the issue was not raised as a fatal flaw by any constituents during the IFRIC's due process.
The staff noted that a few constituents (primarily UK-based) commenting on the near-final draft had raised concerns about the following proposed deletion from IAS 10 paragraph 13:
If dividends are declared (i.e., the dividends are appropriately authorised and no longer at the discretion of the entity) after the reporting period but before the financial statements are authorised for issue, the dividends are not recognised as a liability at the end of the reporting period because they do not meet the criteria of a present obligation in IAS 37.
The Board discussed the constituents' concerns and concluded that the parenthetical comment did provide useful guidance about whether a distribution was irrevocable but that the comment was better placed in IFRIC 17 rather than IAS 10. Consequently, the phrase will be removed from IAS 10 and incorporated in IFRIC 17.
The Board also considered whether it was necessary or desirable to amend IFRS 5 to include a new defined term, 'costs to distribute'. The Board concluded that there was considerable potential for confusion between that term and the similar defined term in IFRS, 'costs to sell'. The Board agreed not to create a new defined term but to incorporate the elaboration of the term 'costs to distribute' in IFRS 5 paragraph 15A (new).
A Board member also questioned the lack of symmetry between IFRIC 17 and US GAAP with respect to spin-off transactions (especially for non-publicly accountable entities). There was no appetite to amend the Interpretation at this late stage.
Post-employment Benefits – initial discussion of responses to discussion paper
The IASB staff introduced a high-level summary of comments it had received on the IAS 19 discussion paper. The main issues identified in the comment letters were summarised in the Agenda Paper. The Board concentrated its discussion on two broad areas:
- the definition and scope issue related to contribution-based promises, and
- how pension items would be presented in the financial statements.
Contribution-based promises
The staff noted that most respondents were critical about the Board's proposals for contribution-based promises. Some stated that the proposals were more problematic than the current requirements. In particular:
- The scope of contribution-based promises, as defined in the discussion paper, was too wide and suggested that the Board should restrict the scope to promises that are 'problematic' to account for using IAS 19.
- The measurement proposed represented a fundamental change in measurement for many post-employment benefit plans. It would be preferable, and possible, to deal with the 'troublesome promises' within the existing framework of IAS 19.
A Board member queried whether those constituents who raised these issues were the same as those who favoured retaining the corridor and expected returns approaches. The staff subsequently stated that there was not a strong correlation between the two groups.
The staff noted that they were surprised by the level of concern about contribution-based promises and the estimates in some jurisdictions that many (or most) defined benefit plans would be reclassified as contribution-based promises. The staff was not convinced that this was the intention of the Board. The staff also admitted that there were more problems 'patrolling the boundary' between defined benefit and contribution-based promises and with their measurement than they had appreciated.
Financial statement presentation
The staff also noted that most respondents supported the Board's preliminary view that all changes in the defined benefit obligation and in plan assets should be recognised in the period in which they occur (that is, that smoothing mechanisms should be deleted from IAS 19). However, there were diverse views on financial statement presentation.
Board members, speaking of conversations and formal meetings with constituents, suggested that there was a high degree of acceptance among constituents that the deferral mechanisms in IAS 19 were no longer defensible and should be removed; however the price of removal was that financial statement presentation needed to be addressed as a matter of urgency.
The staff noted that, when the discussion paper was being drafted, the IAS 19 team had been directed by the Board not to address financial statement presentation matters. Subsequently, the Board (together with the FASB) had issued their Discussion Paper and Preliminary Views on Financial Statement Presentation in October 2008, and that there was now greater scope for cooperation between the two teams. In particular, at the December 2008 Board Meeting, staff from both projects will be present when the Board discusses presentation issues related to the IAS 19 discussion paper.
The Board discussed some of the tension points in the financial statement presentation project that comments received on the IAS 19 discussion paper had highlighted. In particular, the 'cohesiveness principle' in the financial statement presentation discussion paper might be seen by some as preventing disaggregating pension expense between the service element (operations) and the financing charge on the balance sheet obligation (financing). Other Board members disagreed and thought that disaggregation would be an accounting policy choice. Others saw an opportunity to discuss disaggregation in financial statements more generally.
The staff noted that the discussion would help them to determine what could be done within the time available to complete this phase of the IAS 19 project.
Next steps
In December 2008 the Board will discuss:
- the scope of an exposure draft to be developed from the discussion paper; and
- the comments on the recognition and presentation of defined benefit promises.
Related Party Disclosures– sweep issues arising from re-exposure ballot draft
The Board discussed two sweep issues related to the forthcoming re-exposure draft of proposed amendments to IAS 24 Related Party Transactions:
- disclosure of the extent of transactions with a state or state-controlled entities
- the length of the comment period
Disclosure of the extent of transactions with a state or state-controlled/ influenced entities
The staff presented proposed wording intended to capture concerns expressed by Board members about the disclosures that would be required about the extent of transactions with a state or state-controlled/ influenced entities. The revised wording would require the entity to disclose 'the extent of transactions with [the entities defined in the ED]'. Related explanatory guidance suggests that such disclosure would state whether transactions with the state or other entities controlled, jointly-controlled or significantly influenced by the state were 'significant or insignificant'. In addition, the reporting entity would 'not [be] required to analyse those transactions by counterparty or by nature and need not provide detailed quantitative information about their extent'.
Several Board members stated that they did not like the proposed wording, which they thought did not communicate strongly enough the 'health warning' desired by the Board. These Board members were anxious to avoid boilerplate disclosure; they wanted meaningful disclosure that there might be significant related party transactions and where in the financial statements those transactions might be reported. They supported the intent of a suggestion from one Board member that disclosure be required of the 'nature and extent of these transactions in total for the state and all such entities, either qualitatively (for example, a significant portion of the revenues is transacted with state controlled entities) or quantitatively (for example, about one quarter of the sales)'.
The staff expressed concerns about the implied information accumulation obligation of this proposal and that to disclose information about the nature of the transactions (that is, where in the financial statements the effects might be recognised) implied a data obligation that the ED was designed to avoid.
The Chairman intervened to suggest that the staff redraft the requirement such that:
- A reporting entity could quantify the transactions with the state or other entities referred to in the ED.
- If it did not, the entity would be required to disclose whether transactions with the state or other entities referred to in the ED were significant, insignificant, or significance could not be determined by the reporting entity.
- If transactions were significant, the reporting entity would be required to disclose the nature of such transactions.
This suggestion was accepted by the Board.
The length of the comment period
The Board agreed that the comment period for the re-exposure draft should be 90 days rather than the more usual 120 days.
Financial Instruments – Comprehensive Project
(FASB staff joined via videolink)
The session was split in three parts:
- Part 1: Debrief from the first roundtable
- Part 2: Agenda proposal
- Part 3: Issues raised by constituents for urgent consideration
Debrief from the first roundtable
Staff debriefed the Board on the first roundtable on the financial crisis held in London on 14 November 2008 (see IAS Plus Notes). It noted that a general theme at the roundtables was that any next steps of the Boards should lead to convergence between IFRS and US GAAP and that such steps must adhere to due process. It was also highlighted that impairment models under both GAAPs were considered insufficient, and impairment consumed most of the time at the roundtables. Other issues discussed were: accounting for collateralised debt obligations (CDO), fair value option, fair value measurement in illiquid markets.
Agenda proposal
The staff introduced its agenda proposal to add to the IASB's active agenda a project on a comprehensive review of financial instruments accounting. The Board was informed that the proposal had already been discussed with the SAC. The staff noted that SAC supported adding a project to the active agenda, but was split about the expected output.
Board members questioned what the scope of the project would be. Staff responded that the scope would be defined after the project was added to the active agenda. Staff said that more urgent issues could be resolved faster. The staff also informed the Board that the FASB will discuss a similar proposal in the next couple of weeks.
After discussion the Board voted unanimously to approve the staff recommendation to add the project to the active agenda.
Issues raised by constituents for urgent consideration
The staff presented the Board with three Agenda Papers:
- Fair value option
- Accounting for investments in credit-linked instruments
- Impairment requirements for financial instruments
This part of the session was of educational nature only, and no decisions were made.
Fair value option
The staff introduced the paper. One Board member noted that a view generally expressed at the roundtables so far was that reclassification out of the fair value option would not improve financial reporting. Another Board member noted that the financial instruments project should consider removing the restrictions that IFRS currently have for invoking the fair value option, thereby converging with US GAAP.
Accounting for investments in credit-linked instruments
There was some confusion about the term credit-linked instruments. One Board member noted that all financial instruments are somewhat linked to credit risk. The staff acknowledged this, but noted that this was a term used in the market for certain instruments. In particular, the perceived different accounting treatment for synthetic Collateralised Debt Obligations (CDOs) under IFRS and US GAAP caused concern amongst constituents. The staff highlighted that this might not be an intended inconsistency and that the US GAAP provisions might have been applied more broadly than intended. The chairman asked the FASB representatives if they will take any actions. FASB staff said they are currently considering possible clarifications to the provisions concerned under US GAAP.
Impairment requirements for financial instruments
The staff discussed current approaches to recognising and measuring impairment under both US GAAP and IFRS. The existence of the different measurement categories aggravated the issue as different impairment models apply to them – in addition to the differences between US GAAP and IFRS in the scope of the various measurement categories. One Board member asked about the conceptual basis for the impairment model under IFRS.
Some Board members highlighted that this issue cannot be fixed quickly and should be considered as part of the comprehensive financial instruments accounting project.
Derecognition
The Board continued its deliberations of a derecognition model to be included in a future exposure draft. The staff informed the Board that it had further developed its two approaches to implement its derecognition principle. The staff had identified several issues that the Board would need to resolve before issuing an exposure draft. At this meeting the following issues were discussed:
- What is the 'asset' referred to in applying the derecognition principle?
- Definition of 'continuing' involvement
- The Meaning of 'practical ability to transfer'
- Which perspective in the flowcharts: transferor's or transferee's?
What is the 'asset' referred to in applying the derecognition principle?
The staff introduced this issue by noting that it is important to know what the asset is to which the derecognition tests apply. The staff distinguished between transfers of the entire asset and transfers involving parts of financial assets. The Board had a lengthy discussion on this issue.
In the end, the Board agreed to the following by majority vote:
- Transfer of the entire asset: No distinction between the transfer of the asset itself and a transfer of the right to the cash flows from the asset
- Transfer of parts of financial assets:
- For flowchart 1 (see Agenda Papers to this session): the asset could be any cash flows from a recognised (by the transferor) asset
- For flowchart 2: the asset would be in line with the component definition in IAS 39.16 along with specific guidance on transfer of groups of similar financial assets and derivatives, embedded derivatives and equity instruments.
Definition of 'continuing' involvement
The notion of continuing involvement is important to both derecognition approaches, as it is the filter to identify 'obvious' cases where no subsequent derecognition tests are required. Staff presented the Board with four possible definitions and recommended the following definition:
Continuing involvement in the Asset represents retention of any contractual rights that resulted in the Asset or the acquisition of any new contractual rights or contractual obligations relating to the Asset (eg, any interest in the future performance of the Asset or a responsibility to make payments in the future in respect of the Asset under any circumstance).
It was noted that this was taken from the draft standard 'Financial Instruments and Similar Items' developed by the Joint Working Group of Standard Setters. The staff said that this definition would require some exceptions to allow for derecognition under flowchart 2:
- standard representations and warranties
- fiduciary servicing
- forwards and options (both with a fair value strike price)
The Board members had a lively debate on the possible definitions of continuing involvement and the consequences of it for the derecognition model. In the end the Board agreed by majority vote to accept the staff recommendation including the proposed exceptions.
The meaning of practical ability to transfer
In response to questions by Board members, the staff elaborated on the meaning of 'practical ability to transfer' an asset acquired from a transferor. Staff asked the Board whether, based on the Agenda Paper, the concept is clear and understandable.
One Board member asked whether the notion 'unique' was used in its usual sense, that is, there is nothing like it elsewhere.
The staff clarified that unique was used as meaning 'not readily obtainable' – acknowledging that this notion would also need a definition.
The Board also discussed the whether a put option written by the transferor would in any way impact the assessment – would it impose additional restrictions on the transferee as, if exercised, the transferee would have to deliver the unique asset?
Finally, the Board confirmed that the concept is now clearer but that staff should expand further on the situation involving a put on the transferred asset held by the transferee.
Which perspective in the flowcharts: transferor's or transferee's?
At the Board's request, staff reconsidered whether 'practical ability to transfer' is assessed from the perspective of the transferee, while the continuing involvement test is assessed from the transferor's view. The transferee's view is also considered in assessing whether the transferee presently has other access to all or some of the cash flows of the asset for its own benefit.
After some discussion, the Board concluded that the transferee's view should be applied. Some Board members questioned whether this conclusion must be made for both approaches to implement the derecognition principle. Some believed that for flowchart 1, a transferor's view would be appropriate while a transferee's view would fit better into flowchart 2.
The staff was asked to bring back a short paper with an example that would depict the consequences of the view taken.
Finally, the staff discussed with the Board whether the list of issues provided was complete. One Board member asked the staff to add 'accordance with the framework'.
Thursday 20 November 2008
IFRS for Private Entities (formerly IFRS for SMEs) – Recognition, Measurement, and Presentation
At this meeting the Board discussed some of the issues that had been deferred at previous meetings and also some new issues relating to areas where respondents requested further guidance, in particular in areas addressed by certain IFRIC interpretations. The Board made the following tentative decisions:
Income taxes
Staff presented two possible approaches for accounting for deferred taxes by private entities to the Board for their consideration:
- Temporary difference approach with simplifications – Starts from the temporary difference approach as set out in the latest version of a forthcoming exposure draft of revisions to IAS 12 Income Taxes, but makes simplifications in areas considered particularly complex.
- Taxes-payable-plus approach – Recognising deferred taxes only for those differences between accounting and tax treatment of items of income or expense that are expected to reverse (and therefore affect an entity's cash flows) in a relatively short term.
The Board decided to pursue the temporary difference approach with simplifications in the final IFRS for Private Entities. However the Board disagreed with the staff recommendatiaon that deferred tax assets should not be recognised for unused tax loss and tax credit carryforwards. The Board decided that such deferred tax assets should be recognised, and that the circumstances under which they should be recognised should be restricted in the same way as in IAS 12.
The Board made the following decisions related to accounting for income taxes by private entities:
- to retain the requirements proposed in the Exposure Draft of an IFRS for SMEs (ED) and existing IAS 12 regarding the measurement of deferred tax when a jurisdiction imposes different tax rates on distributed and undistributed income, rather than follow the forthcoming exposure draft of revisions to IAS 12.
- to require all deferred tax assets and liabilities to be classified as non-current.
- to require that current tax assets and liabilities are not discounted.
- not to require that the initial measurement of assets and liabilities that have a tax basis different from their initial carrying amount should be disaggregated into (i) an asset or liability excluding entity-specific tax effects and (ii) any entity-specific tax advantage or disadvantage.
Share-based Payment (SBP)
The Board decided that private entities should always recognise an expense for equity-settled SBPs issued by private entities and that expense should be measured based on observable market prices, if available, or if not using the directors' best estimate of the fair value of the equity-settled SBPs. Disclosure only, without expense recognition, would not be permitted.
For SBP transactions that give either the entity or the counterparty a choice of settlement in cash or equity instruments, the Board decided that the entity shall account for the transaction as a cash-settled SBP transaction unless either
- (a) the entity has a past practice of issuing equity instruments or
- (b) the option to settle in cash has no commercial substance.
In circumstances (a) and (b), the transaction shall be accounted for as equity-settled.
The Board agreed with a number of simplifications to the disclosure requirements for SBPs that were proposed by the staff. However, the Board asked staff to ensure that the disclosure requirements for private entities are sufficient to ensure an understanding of how the amount recognised in profit or loss has been determined, including information on the key assumptions used in measuring SBPs.
Post-employment benefit plans
The Board decided not to adopt the staff proposal to require an entity to measure the defined benefit obligation of a defined benefit plan at the current termination amount (vested benefit obligation) under certain circumstances. However the Board felt that the defined benefit accounting under IAS 19 Employee Benefits should be simplified for private entities. The Board asked the staff to bring back an approach at a future meeting that is more in line with the current IAS 19 approach (for example, it includes consideration of unvested benefits), but would be something that the entities could generally be able to apply themselves without needing to use external specialists. The Board suggested that the staff also consider whether the concept of accumulated benefit obligation in FASB Statement 87 may be suitable.
The Board also made the following decisions related to accounting for post-employment benefit plans by private entities:
- to retain the requirements for multi-employer plans as proposed in the ED (and IAS 19), ie when sufficient information is not available to use defined benefit accounting for a multi-employer plan that is a defined benefit plan, an entity shall treat the plan as defined contribution plans with appropriate disclosure.
- to permit subsidiaries to recognise a charge based on a reasonable allocation of the group charge if the parent presents consolidated financial statements under IFRS for Private Entities or full IFRSs.
- not to require entities to divide the return on assets into an expected return and an actuarial gain or loss.
IFRIC Interpretations
The Board decided guidance from the following IFRIC interpretations should be covered in the IFRS for Private Entities, suitably adapted for private entities.
- IFRIC 4 Determining Whether an Arrangement Contains a Lease
- IFRIC 8 Scope of IFRS 2
- IFRIC 12 Service Concession Arrangements
- IFRIC 15 Agreements for the Construction of Real Estate
Name of Standard
The Board discussed the issue of the title of the Standard due to some negative reactions received from the change from SME to private entities. The Board decided that the title should describe the types of entities to which the standard would be applicable. As Board members' views were divided on a specific title, the Board decided to invite public comment via the IASB's website or a webcast.
Outstanding issues
The staff noted that there are still a few outstanding issues that have been deferred at previous meetings, and staff recommendations on these will be brought to the Board at one or more future Board meetings. Some of the main outstanding issues relate to restructuring the financial instruments section, concepts and pervasive principle and impairment of goodwill.
Fair Value Measurements
(FASB staff joined the meeting by telephone.)
Day One Gain or Loss
The Board discussed whether, and if so, in what circumstances, to require the recognition of a day one gain or loss resulting from a fair value measurement. The staff reviewed the Board's tentative decisions made between June 2008 and October 2008 as a way of prefacing the discussion.
The staff presented its analysis about whether to require the recognition of day one gains or losses even when a fair value measurement is derived using unobservable inputs. With respect to initial recognition, this analysis was characterised at a high level as:
- Approach 1: Prohibit day one gains or losses in all circumstances.
- Approach 2: Require day one gains or losses in some circumstances, such as when the initial fair value measurement is based entirely on observable market inputs (the current IAS 39 approach).
- Approach 3: Require day one gains or losses in all circumstances, including when the initial fair value measurement is derived using unobservable inputs (the SFAS 157 approach).
The staff argued for Approach 3, noting that it was consistent with the Board's tentative decision to define fair value as a current exit price, and acknowledged that day one gains or losses were a direct consequence of a current exit price measurement objective. The Board was reminded that the working assumption that 'entry fair value equals exit fair value' applied in the situation of a transaction involving an identical asset in the same market on the same day.
In the wide-ranging debate that followed, it was clear that none of the Board was in favour of Approach 1, but favoured variants of Approach 2 ('Approach 2-plus') or Approach 3 ('Approach 3 with restrictions'). For example, some Board members would want any model being used in conjunction with non-observable inputs ('Level 3 inputs') to be 'calibrated' to the inputs being used, such that it was consistent with those inputs.
Subsequent Measurement
Although subsequent measurement was not discussed in detail, it was noted that issues surrounding subsequent measurement were more acute for financial items than for non-financial assets (for which IFRS does not usually require fair value for subsequent measurement-other than investment property and biological assets).
No firm decisions were made, but the staff acknowledged that the debate had given them enough direction to enable them to make progress on this issue.
Next steps
The Board expects to discuss the following topics in the near future:
- principal (or most advantageous) market;
- the valuation premise (that is, in-use or in-exchange);
- defensive value;
- valuation of liabilities (including non-performance risk and whether liabilities should be measured on a transfer basis or settlement basis); and
- fair value measurement disclosures.
The Board will also discuss a staff assessment of which fair value measurements in current IFRSs should be included or excluded from the scope of an IFRS on fair value measurement.
Financial Instruments with Characteristics of Equity (Liabilities and Equity)
(FASB staff joined the meeting by videolink.)
At the Joint Board meeting in October, the boards decided to begin deliberations on their project financial instruments with characteristics of equity using the principles underlying the perpetual approach (that is, no settlement feature and entitlement to pro-rata share on liquidation of the issuing entity) and the basic ownership approach (that is, most subordinated instrument and entitlement to percentage of net assets).
The staff explained that the Agenda Paper divided the seven previously identified classification issues into two parts, as follows:
- Part 1: Issues that could potentially be resolved at this meeting
- Should perpetual basic ownership instruments be classified as equity?
- Should other perpetual instruments be classified as equity?
- Should derivatives held or issued by an entity be classified as equity if the underlying is the entity's own equity instruments?
- Part 2: Issues that likely would require further analysis and deliberations at future meetings
- Which hybrid instruments should be separated into equity and non-equity components?
- How should redeemable ownership instruments be reported?
- Should instruments that are classified as equity in the financial statements of a subsidiary retain that classification in the consolidated financial statements?
- How do the Boards want to address income statement presentation (especially disaggregation of gains and losses on derivatives and hybrid instruments)?
On the Part 2 issues, the staff sought initial reactions to confirm that these were the right issues to be analysed.
Part 1: Issues that could potentially be resolved at this meeting
Should perpetual basic ownership instruments be classified as equity?
The staff asked the Board whether it considered perpetual basic ownership instruments as equity. One of the Board members questioned whether the notion of 'ultimate risks and ultimate rewards' used in the Agenda Paper was the characteristic that made the staff believe it is equity. The staff answered that the definition of a basic ownership instrument as defined in the discussion paper was the driver for this conclusion.
In the end, the Board agreed that perpetual basic ownership instruments are equity.
Should other perpetual instruments be classified as equity?
The staff continued to explain that FASB prior to issuance of its preliminary views debated whether perpetual instruments with preference to dividend or in liquidation should be classified as equity. It was noted that finally the FASB decided to classify them as a financial liability because it was not able to resolve the issue of economic compulsion. One Board member questioned whether economic compulsion creates a present obligation and hence, whether an perpetual instrument where the features created economic compulsion met the definition of a liability under the Framework.
After a brief discussion, the Board agreed with the staff proposal to treat such perpetual instruments with dividend or liquidation preference as equity.
Should derivatives held or issued by an entity be classified as equity if the underlying is the entity's own equity instruments?
The staff reminded the Board of the two approaches to accounting for derivatives over own equity instruments it previously focussed on:
- Classify indirect ownership instruments settled with equity instruments as equity
- Classify all derivatives over own equity as assets or liabilities
It was noted that FASB decided that such instruments should not be accounted for as equity leaving the issue of accounting for employee stock options open. Staff informed the Board that the decision whether employee stock options are within this scope of this project would be deferred to a future meeting. Some Board members saw no different characteristic in employee stock option that would justify a different accounting treatment.
One Board member noted that classification as liability or asset would be in line with the concept of basic ownership instruments, but that this treatment would violate the Framework. Another Board member noted that this is true only for the current definition.
The Board agreed by majority vote that derivatives over an issuer's own equity instruments should be classified as assets or liabilities.
Part 2: Issues that likely would require further analysis and deliberations at future meetings
Which hybrid instruments should be separated into equity and non-equity components?
Staff noted that a hybrid instrument was an instrument that had both equity and non-equity features. It highlighted that such instruments would be split up if such an instrument required payment and after that payment an equity instrument remained outstanding. Further it noted that some Board members wanted puttable instruments and bonds with a conversion option for a fixed number of own equity instruments. The staff was asked to consider what was meant by a 'fixed' number as this would create difficulties in applying the current guidance in IAS 32 in practice.
How should redeemable ownership instruments be reported?
The Board discussed what was meant by a 'redeemable' instrument, that is, was redemption an option or a requirement. No decisions were made.
Should instruments that are classified as equity in the financial statements of a subsidiary retain that classification in the consolidated financial statements?
The Board discussed two alternatives:
- Carry over the classification from the subsidiary's financial statements (unless nature of instrument is altered by arrangements between holder and other group members)
- Always reconsider classification from the perspective of the consolidated financial statements
Some Board members believed that only perpetual instruments should be accounted for on the carry over alternative. For all other instruments consolidation would trigger reassessment.
Leases
(FASB staff joined the meeting by videolink.)
The purpose of this session was to resolve open issues before publication of a discussion paper (DP).
The issues addressed at this meeting were:
- Consideration of Lease Term, Purchase Options, Contingent Rentals and Residual Value Guarantees
- Subsequent Measurement of right-to-use asset and obligation to pay rentals
- Presentation of Leases
- Subleases
The staff said that while they hoped the Board would reach preliminary views on these issues before the DP is issued, to avoid significant delay of the DP an alternative approach could be to describe the unresolved issue, discuss alternative treatments, and ask respondents for their views in the DP.
Consideration of Lease Term, Purchase Options, Contingent Rentals and Residual Value Guarantees
Lease Term
The staff asked the Board whether assessment of the lease term is done for purposes of recognition or measurement. The example used was a lease contract over 10 years with a 5 year option to renew. The staff proposed two alternative approaches:
- Approach 1: Lessee recognises obligation to pay rentals, the uncertainty in the lease term is addressed through measurement.
- Approach 2: Lessee recognises obligation to pay rentals over a specified lease term. Uncertainty is addressed through recognition.
It was noted that the FASB voted for approach 2. The Board discussed various implications of both approached. Finally, the majority of the Board members voted in favour of approach 2.
Determining Lease Term under Approach 2
The staff highlighted that under approach 2 an entity would be required to establish a lease term for the purpose of recognition. Possible solutions to this issue presented were:
- Approach 2A: a probability threshold
- Approach 2B: a best estimate
- Approach 2C: a best estimate - most likely lease term
Some Board members expressed concern over the term 'best estimate' as it implied a certain degree of subjectivity. Again, the Board discussed certain implications and agreed with the staff recommendation that the most likely lease term (approach 2C) should be used.
Purchase options
The Board agreed with the staff recommendation that the possible exercise of a purchase option was reflected in the obligation to be recognized by the lessee and that it was to be included if exercise of the option was the most likely outcome.
Measurement of contingent rentals
The staff presented three possible approaches to measure contingent rentals:
- Best estimate
- Best estimate – most likely amount of contingent rentals
- Probability-weighted best estimate
The Board decided to propose a probability-weighted measure.
Residual value guarantee
The Board decided to require that the initial assets and liabilities recognised by the lessee should reflect the obligation to make payments under a residual value guarantee.
Subsequent Measurement of right-to-use asset and obligation to pay rentals
The staff presented the Board with their approach to subsequent measurement of the lessee's right-to-use asset and obligation to pay rentals. The proposed accounting would be as follows:
- Amortise/depreciate right-of-use asset
- Apportion the lease payments between a finance charge and a reduction of the outstanding obligation
- Present interest expense and amortization/depreciation in the income statement.
The Board discussed the interaction with the conclusions reached in the financial statement presentation project.
One Board member noted that the proposed accounting would not meet the cohesiveness objective. The Board agreed, however, with the staff recommendation.
The staff continued to address the issue of reassessment of lease term. The staff proposed to continuously reassess the lease term. The Board agreed.
The staff then turned to the reassessment of the obligation to pay rental. The staff proposed to reassess the obligation to pay rentals at every reporting date. The Board agreed.
For the resulting change in the estimated lease payments the staff proposed a cumulative catch up approach by discounting the new cash flow estimates with the original effective interest rate. Some Board members expressed concern over the use of the original effective interest rate. The Board had a lengthy discussion on whether also rate changes should trigger reassessment, or whether remeasurement should only be triggered if cash flows changed. The FASB voted for a cumulative catch up approach. The Board voted in favour of a cumulative catch up approach.
The staff continued to ask the Board where the changes in estimated rental payments should be recognised. The staff recommended treating all reasons for changes in rental payments similarly and reflecting the balancing journal entry in an adjustment to the right-of-use asset. The Board agreed.
Presentation of Leases
Presentation of the right-to-use asset
The staff presented the Board with possible alternatives of presenting the right-to-use asset in the statement of financial position:
- Approach A: presentation in line with the underlying asset
- Approach B: presentation as an intangible asset
- Approach C: different presentation for different types of leases
Staff noted that additional disclosures should accompany any of the presentation approaches. The staff recommended approach A. The Board agreed with no support for a concept of an 'in substance purchase'.
Presentation of the obligation to pay rentals
The staff recommended that the obligation to pay rentals should be presented as financial liabilities not being required to be presented separately from other financial liabilities. One Board member was concerned that the staff recommendation would not be in line with the cohesiveness principle. Staff responded that it did not consider the outcomes of the current financial statement project. The Board agreed to the staff recommendation.
The staff informed the Board that the presentation in the statement of financial position will drive income statement presentation, but that this would not be addressed at this meeting.
Subleases
The staff informed the Board that in sublease scenarios, the different accounting treatment for lessee (accounted for under the new model) and lessor (accounted for under the IAS 17 model) accounting would create problems. This resulted from the Board's decision only to address lessee's accounting in the project. The staff recommended deferring this issue until after publication of the discussion paper. The Board agreed and asked the staff to use the comment period to address the issue of subleases. FASB staff informed the Board that the FASB indicated that if this issue would not be resolved, they would not move on with this project.
Friday 21 November 2008
Consolidation
Options, warrants and convertible instruments
The Board considered an analysis about whether and, if so, under what circumstances potential voting rights are sufficient for a reporting entity to have control of another entity; and whether a reporting entity should assess potential voting rights continuously when determining whether it controls another entity.
The Board held a lengthy debate during which they debated two views presented by the staff, characterised as the 'economic power view' (having an option for which it is beneficial for the holder to exercise is, of itself, power); and the 'related rights view' (for an option to give the holder the power to direct the activities of the underlying entity the option holder will need to have related rights). Board members expressed support for aspects of each view, but did not favour either view as expressed by the staff.
A majority of the Board agreed that holding an option that would, if exercised, give the holder control of an entity did not represent control (that is, there is a difference between owning an option and owning the underlying interest); however you could not ignore it either. All facts and circumstances needed to be assessed before a conclusion as to whether an entity controlled another.
A Board member was concerned and frustrated that the Board seemed content to use 'control' to mean one thing in relation to an asset and another thing in the context of consolidation. He wanted the Board, at a minimum, to acknowledge the inconsistency.
The Board agreed (10 in favour) that all facts and circumstances needed to be assessed to determine whether an entity controlled another; this assessment would consider the effects of options that would give an entity a controlling interest in another entity. However, options by themselves would not be determinative. The real test, which would be subjective in certain circumstances, was which entity is 'effectively in control' of the subsidiary. A question on this position would be included in the Invitation to Comment.
Parties acting in the role of a principal and an agent
The Board noted a previous discussion that, when assessing control, a reporting entity considers whether it acts as an agent for another party or parties. Sometimes a reporting entity might act simultaneously as a principal and agent (for example, a reporting entity might invest in a fund and simultaneously act as manager of that fund). This raises questions as to whether the fund manager controls the find and thus should consolidate that fund.
The Board noted that many of the troublesome issues in the previous discussion were present in this issue as well, and that it was critical to understand whether the fund manager's actions benefited all fund participants equally or whether its actions would benefit the fund manager disproportionately (for example, because of a performance fee).
As with all structured vehicles, it was important to understand (i) who was able to direct the strategic financial and operating decisions of the fund so as to obtain benefits. In the case in discussion, a critical issue was which parties benefited. If the fund manager's and the investors' interests were aligned, then it was likely that the find manager was acting as agent; if not, then the fund manager was likely to be acting as principal and consolidation would be appropriate.
Several Board members were of the view that in many situations, fund managers should consolidate the funds they managed-although that would not be a popular answer.
The Board agreed that find managers should apply the principles agreed in the previous section to determine whether an entity was acting as principal or agent; if acting as principal then consolidation would be required. Again, this issue would be addressed in the Invitation to Comment.
Assessing control of a structured entity
The Board discussed a staff proposal to remove from the ED the rebuttable presumption relating to the assessment of control of a structured entity, and replace it with wording that would require the assessment of both power and returns when assessing control of a structured entity.
While agreeing to remove the rebuttable presumption, the Board did not think the staff's alternative suggestion could be made operational. To make the staff's idea operational, it would be vital to assess what activities are important in the context of the structured entity and which were not.
Board members were wary of introducing invitations for structuring into the ED and discussed how best to avoid excessive rules and detailed quantitative thresholds. They were clearly struggling to find an answer that could be seen to be within the principles in the ED, yet strong enough to withstand the structuring implied in a 'structured entity'.
After some debate, the Board agreed that whether an entity would be required to consolidate a structured entity depended on:
- (a) whether an entity held an interest in a structured entity that gave it significant influence and that interest was greater than any other individual interest; and
- (b) whether an entity had the power to make critical operational and financial decisions in the event that things went wrong.
The Board agreed that in making this assessment, an entity would need to understand all aspects of the structured entity-it was not a mere 'counting of votes' exercise-it was an assessment of all facts and circumstances and all situations.
Board members suggested that the IASB staff should review the FASB qualitative tests proposed in its ED of revisions to FIN 46R and determine whether it would be possible to bring the US approach closer to that being proposed by the IASB.
Disclosure
The staff presented proposals for disclosure that were categorised as disclosure about the structure of the group, including 'individually material subsidiaries'; and restrictions within the group. While understanding the intent of these disclosures, the Board thought that the principles underlying the suggested disclosures were not clear.
Board members agreed that what was important to users was to understand the location within a group of business and other risks (such as currency or political risk) and the effect of those risks on the assets, liabilities and cash flows available to the parent entity's shareholders.
In addition, the effects of non-controlling interests on the assets, liabilities and cash flows available to the parent company shareholders was important and should be explained in the financial statements.
The Board noted that some of the disclosures might already be required or implied by the requirements in IFRS 7 and IFRS 8 and the staff should be satisfied that there was no unnecessary duplication before they proposed additional disclosures as a result of this project.
Separate financial statements
The Board agreed that the new IFRS would address consolidated financial statements only and that IAS 27 would address only separate financial statements. The new IFRS would be titled Consolidated Financial Statements; and IAS 27 would be renamed Separate Financial Statements.
Comment period
The Board agreed that in order to meet its obligations to respond to requests from the Financial Stability Forum and other high-level groups to address consolidation as a matter of urgency, the comment period deadline would be 20 March 2009. Based on the staff's estimated publication date (subject to satisfactory resolution of matters decided at this meeting), that would mean a comment period of between 90-100 days, slightly shorter than the IASB's usual 120 days. In the circumstances, the Board agreed to this shorter period.
Transition
The Board agreed that the ED would propose that the new IFRS would apply prospectively from the effective date. Retrospective application would be prohibited.
Indication of the intent to present Alternative Views in the Exposure Draft
Three Board members (Messrs Garnett, Leisenring and Smith) indicated that they are likely to present an Alternative View in the Exposure Draft. In particular, they were concerned that the Board had not articulated clearly what is the objective of consolidation and that the Board was being inconsistent about the treatment of options as between the ED and other IASB authoritative material.
Related Party Disclosures– sweep issues arising from re-exposure ballot draft
(See also the Deloitte meeting notes from Wednesday 19 November 2008)
The Board agreed revised wording for the forthcoming ED of proposed changes to IAS 24. The ED will include the following paragraph:
17B However, a reporting entity shall disclose the following information about transactions with the state or other entities referred to in paragraph 17A:
(a) the name of the state and the nature of its relationship with the reporting entity (ie control, joint control or significant influence);
(b) the types of individually or collectively significant transactions with the state or such entities and a qualitative or quantitative indication of their extent. Types of transactions include those listed in paragraph 20; and
(c) the fact that the state or such entities are related parties as defined in IAS 24 but, as permitted by paragraph 17A, disclosures about related party transactions do not include transactions with that state or those entities.
There was no discussion.
Sweep Issue for IFRIC 17 Distributions of Non-cash Assets to Owners
(See also the Deloitte meeting notes for Wednesday 19 November 2008)
The Board agreed revised wording prepared by the IFRIC staff reflecting the Board's decisions when approving IFRIC 17. The wording was not available to Observers.
Standards Advisory Council Update – Oral Report
The IASB staff gave an oral report on the meeting of the Standards Advisory Council meeting held on 13-14 November 2008. This was the last meeting of the Council in its current form.
Of particular concern were:
- SAC members' continued frustration that the SAC lacked a clear role within the IASB/IASCF structure;
- that the 'feedback loop' is unclear (that is, SAC members are interested in how their input has influenced IASB and IASCF decisions); and
- SAC's agenda should be limited to items for which it could provide the most useful input to the IASB.
This summary is based on notes taken by observers at the IASB meeting and should not be regarded as an official or final summary.
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