Monday 17 May 2010
 Revenue Recognition
Repurchase agreements
At the FASB only meeting on 5 May, the FASB considered the potential effects of the proposed model on the accounting for real estate contracts. FASB questioned how an entity would determine whether a buyer obtains control of an asset in a contract with a repurchase agreement. Because an assessment of control is critical to the application of the proposed revenue recognition model, the matter was raised at the joint meeting to gain the insight of the IASB as well.
The Boards agreed to add some implementation guidance to the forthcoming ED and considered whether the guidance should clarify that:
- when a buyer has the unconditional right to require the seller to repurchase the asset (put option), the buyer controls the asset and the seller should account for the transaction similar to a sale of a product with a right to return; and
- when the seller has an unconditional obligation or right to repurchase the asset, the seller retains control of the asset and should account for the transaction as either a financing arrangement or a lease, rather than as a sale.
When deliberating the buyer's unconditional right to require the seller to repurchase the asset, the Boards were presented with two alternatives:
- View A – the sale of an asset with a right of return, although an entity might not recognise any revenue upon the sale of the asset; or
- View B – the sale of an asset with a right of return except when the put option is economically similar to a forward.
In response to an enquiry by one Board member on what the differences between the two alternatives were, the staff acknowledged that both alternatives would result in the same accounting for most put options that are similar to a right of return, even when view B views the option as economically similar to a forward. The benefit of view A over B, according to the staff, is that the Boards would not need to specify when a put option is economically similar to a forward.
One Board member commented that the Boards have already considered and rejected the notion of an option being economically similar to a forward and expressed surprise at that being presented as an alternative. Some other Board members questioned the journal entries to apply view A and were concerned about the fact that an entity may end up not recognising any revenue although the transaction has qualified as a sale and, as a result, report negative gross profit margins.
The majority of Board members supported the staff recommendation of view A, but they requested the staff to provide an analysis to distinguish and compare the alternatives. It was agreed to discuss the matter further offline.
The Boards also agreed to include implementation guidance for situations when a repurchase agreement is a financing arrangement that will converge US GAAP and IFRSs. The proposed guidance will specify that the seller:
- continue to recognise the asset;
- recognise a financial liability for any consideration received; and
- recognise the difference between the consideration received and the amount of consideration paid to the buyer as interest.
As the proposed implementation guidance addresses the issues in FASB Subtopic 470-40 Product Financing Arrangements, the FASB unanimously agreed to withdraw it.
Sales of assets that are not an output of an entity's ordinary activities
At a recent FASB only meeting, it was noted that there is a lack of guidance for gain transactions in US GAAP whereas IAS 16, 38, and 40 refer to the recognition guidance in IAS 18 to determine the timing of gain recognition although such gains cannot be classified as revenue. The Boards were asked to consider whether the recognition and measurement requirements of the proposed revenue model should be applied to contracts for the sale of non-financial assets.
A few Board members had serious concerns about 'scope creep' of the revenue project and noted that gains and other income do not form part of the scope of the project and should not be included in the forthcoming ED. Other Board members responded that existing IAS 16, 38, and 40 currently refer to IAS 18 and since the revenue measurement principles are being changed, it may require consequential amendments to the other standards as a result.
In response to several Board members expressing concern with including guidance on the sale of non-financial assets in the revenue recognition standard, one Board member noted that if the revenue recognition standard is silent on the matter, constituents will analogise to the revenue standard in anyway because of the general lack the guidance on the matter.
Another Board member suggested to incorporate the application guidance in the revenue ED and to acknowledge the scope creep in the introduction to the ED and include a specific question in the invitation to comment on whether constituents view this as the an appropriate analogy. The majority of the Board members agreed with this proposal.
Conceptual Framework – Qualitative Characteristics (Sweep Issues)
Sweep issues from the ballot draft
The following concerns were raised by Board members on the ballot draft:
- the objective of financial reporting as drafted implied that there were two objectives rather than one; and
- materiality is related to the relevance of financial reporting and is not a constraint of financial reporting.
The Boards were presented with a revised objective paragraph and additional paragraphs discussing user's needs and management's stewardship.
Several Board members responded that although they do not object to the proposed changes, they felt that the previous wording was simpler and more easily understood. A number of Board members did not support the new paragraph that dealt with management's stewardship.
One Board member noted that what was presented as the 'original' wording in the agenda papers was not, in fact, the wording that the Boards agreed too at a previous meeting. After a short discussion, the majority of Board members supported the proposed the staff's proposal subject to the wording being refined further and taking into account what the Boards originally agreed to as the objective of financial reporting.
Several Board members supported the proposal to relocate materiality as an aspect of relevance instead of a constraint. The Boards had a short discussion on the matter and by a large majority agreed with the staff's proposal. One of the Board members who did not support the proposal to relocate materiality is still considering whether to dissent from the final Standard.
Tuesday 19 May 2010
Leases
Lessor accounting - Lessor performance obligation
After a short discussion the Boards confirmed that under a performance obligation approach the lessor has a single obligation to continue to permit the lessee to use the leased asset over the lease term. Consequently, that performance obligation would be satisfied, and revenues recognised, continuously over the lease term. One IASB member noted that day one gain under this approach should be recognised only when the nature of the transaction is a sale and consequently it is outside the scope of the proposed leases Standard.
One Board member expressed his concerns over the treatment of purchase options under the proposed model and suggested that they be treated as stand-alone options (accounted for separately and not as an extension of the lease term) as they relate to the termination of the right-of-use rather than to the lease term. The staff expressed some concerns about this approach on the interaction with extension options. The staff will provide further analysis of the issue at a following meeting.
On the manufacturer/dealer lessor issue, some Board members felt uncomfortable with no profit/loss recognition upon lease commencement for manufacturers and dealers and suggested derecognition approach for manufacturer/dealer lessor and performance obligation for all other lessor. These Board members thought that such approach better reflects the economic logic of the relationship. Some Board members asked the staff to clarify the issue as well as explore the implication of the proposal on the overall model.
Lessor accounting - Derecognition approach
The Boards explored the derecognition approach to lessor accounting. After a short discussion the Boards rejected the full derecognition approach that resulted in the lessor derecognizing the full carrying amount of the leased asset and recognizing a receivable (a financial asset) and a residual value asset (a non-financial asset).
The Boards continued to explore the partial derecognition approach under which the lessor derecognizes the portion of the asset representing unconditional right to use a portion of the underlying asset for a period of time in return for a receivable and the lessor retains the residual asset representing the lessor`s rights to the underlying asset at the end of the lease term.
One Board member questioned the basis of the derecognition model. He noted that the presented approach (revenue recognition based on the present value of the lease payments and at the same time accounting for cost of sales in the same amount) is inconsistent with the proposed revenue recognition guidance and does not tie to the customer consideration. He noted that the approach assumed that the lessor has no continual performance obligation (that isw, there is the obligation to provide the leased asset, might be obligation to pay taxes, provide maintenance) and therefore might lead to frontloading of revenue.
After a heated discussion the Boards agreed that under both models all other obligations should be recognised and measured either at inception or as they arise in accordance with other Standards. As one Board member noted the model implicitly assumes that the lessor transferred all rights and obligations, though that is not necessarily the case.
Finally, the Boards noted that the derecognition model would place much more focus on the identification of the service component of the contract and identification whether payments for the other obligations are included in the leased payments as the present value of the lease payments might include different elements than those related to the right-of-use asset.
The Boards considered the accounting for arrangements with service and lease components. The Boards debated how to allocate the value attributable to the service component as well as accounting for both components. The Boards noted that the service component would have to be always separated and estimated. The Board asked the staff to consider the accounting for the service component. The Boards also asked the staff to clarify the basis for the decision of separation – that is, which guidance would apply for integral and non-integral types of services (and what is the interaction between the integral characteristic of the service and the distinct function as proposed in the revenue recognition guidance).
Several Board members expressed their concerns with particular aspects of the model – for example, the fact that higher residual value would lead to higher revenue recognition, effects of contingent rentals as well as usage of revaluation model under IFRSs).
Residual asset
The Boards continued their discussion with the definition of the residual asset. The staff suggested that as the lessor would be unable to access the benefits associated with the underlying asset until the end of the lease, the valuation of the residual asset should reflect the time value of money. Several Board members were concerned that such definition would differ from the residual value defined in IAS 16 as well as definition under US GAAP and did not understand how such difference could be justified. Several Board members expressed their concerns that effects of accretion of the value of the residual asset (and accelerated depreciation patterns) might lead to recognition of the day one gain.
In addition several IASB members were concerned that the proposed guidance on valuation of the residual asset would contradict the revaluation guidance under IFRSs. They questioned how different is the revaluation asset from the PPE under IAS 16.
One Board member questioned the usage of discount rate - the nature of the asset risk related to residual asset is different to the credit risk related to the receivable thus potentially leading to different discount rates. The staff noted that in practice a combined rate is being used as separation of the rates in very complicated.
In addition one Board member asked the staff to explore the interactions of the proposed guidance on residual assets with the guidance on investment property.
As the proposal to require re-measurement of the residual asset to fair value did not receive a sufficient support, the Boards considered the alternative of an allocation of the previous carrying amount of the underlying asset that would be frozen at inception and subsequently tested for impairment.
At that point, the Boards asked the staff to explore the implications of that approach and present them on a numerical example. Some Board members doubted the viability of the approach (mechanics of journal entries at the end of the period, potential for lump gains at the end of the lease for very short or very long leases as well as potential for underreporting of income from the leases.) The staff pledged to present examples of application of this model at the Wednesday's meeting.
Treatment of options
The staff proposed the same overall approach to leases with options to extend or terminate as under the performance obligation approach. The majority of the Boards agreed, even though some Board members echoed the arguments for a different treatment for options for lessors and for lessees and suggested separate treatment of options for lessors. On the other hand, other Board members stressed the need for consistency. Finally, the Boards agreed (the IASB with the tightest of margins) that initial measurement of the residual asset recognised by the lessor should be consistent with the assessed leased term (i.e. the longest possible lease term that is more likely than not to occur).
The Boards considered subsequent measurement of leases with options to extend or terminate. Given the consideration of the decision to freeze the cost allocation of residual value at inception, the Boards asked the staff to consider impact of that decision on the subsequent measurement of these options on examples as well as consideration of the different treatment of extending and shortening the expectations of the term.
Consistently with the earlier decision on performance obligation approach, the Boards asked the staff to analyse the broader implications of the purchase options for lessor accounting. The Boards also clarified that given that analysis they would like to consider its impact on the treatment of purchase options on lessee accounting. The staff would provide this additional analysis at a following meeting.
Other issues
The Boards considered the impact of contingent rentals and residual value guarantees and accounting for subleases on the derecognition approach. The Boards would continue their discussion on leases on their Wednesday meeting when they would cover the remaining aspects of the derecognition model.
Insurance Contracts
The Boards held an extended discussion, which seemed to be designed to confirm the elements of the alternative approaches to measuring risk in an insurance contract to be included in the forthcoming exposure draft. The debate was difficult to follow and demonstrated that both Boards and their respective staff remain split both within themselves and between the two groups. Many of the interventions essentially reiterated Board members' previous positions and opinions and did not serve to advance the discussion to any meaningful extent. The net result was one of the worst debates on this project for many months.
Risk adjustment or composite margin
The Boards continue to be finely divided on whether to adopt a risk adjustment with a residual margin or a composite margin approach: the FASB 3-2 in favour of a composite margin approach; the IASB 8-7 in favour of a risk adjustment/ residual margin approach. Consequently, the ED will discuss both.
The Boards agreed (FASB: 5 in favour; IASB: 8 in favour) that should an insurance contract include a separate risk adjustment, the ED should limit the range of permitted techniques by specifying the range of techniques that the Boards consider consistent with the measurement objective (this is similar to the approach to measurement methods adopted in IFRS 2).
Composite margin
The Boards discussed potential approaches to the release of a composite margin subsequent to initial recognition. The staff proposed that the release should be governed by two 'drivers' that would be specified in the ED. The suggested release formula was:
Current period actual premium + current period claims and benefits
Expected value of premiums + Expected value of future claims and benefits
At least one Board member challenged the staff's proposed 'drivers', noting that, in his opinion, the drivers did not capture what the Board should be measuring: the currency amount of premiums and the currency amount of claims had little to do with the risk and uncertainty inherent in insurance contracts.
Other Board members saw the proposed release formula as a sort of 'percentage of completion' formula for the contracts, which they considered to be a useful way of releasing the composite margin.
Ultimately, the staff proposal was accepted by the FASB (3 in favour) and the IASB (13 in favour).
The Boards seemed to choose not to reconsider the issue about the recognition of changes in estimates in a composite margin approach.
Level of measurement (unit of account)
The Boards discussed the level of aggregation that an insurer should adopt for measurement purposes.
Ultimately, the Boards agreed that if measurement includes a separate risk adjustment, that adjustment should be determined for a portfolio of insurance contracts. The risk adjustment should not reflect the effects of diversification between portfolios or negative correlation between portfolios (FASB: 5 in favour; IASB 14 in favour).
In addition, the Boards agreed unanimously that the ED should carry forward the definition of a 'portfolio of insurance contracts' in IFRS 4: 'contracts that are subject to broadly similar risks and are managed together as a single portfolio'.
Disclosure
The Boards discussed the proposed disclosure requirements for the forthcoming exposure draft. In particular they discussed a revised disclosure principle:
To help users of financial statements understand the amount, timing and uncertainty of future cash flows arising from insurance contracts, an entity shall disclose qualitative and quantitative information about:
- the amounts recognised in its financial statements arising from insurance contracts; and
- the nature and extent of risks arising from those contacts
A Board member noted that the disclosure principle should also include the 'nature' of cash flows, because an insurance contract involves a number of cash flows.
Another Board member challenged the staff to demonstrate how the disclosures proposed were responsive to users' needs and suggested requirements.
Some Board members challenged the practicability of the requirements as written, noting that for some large multi-national insurers, the staff proposals would result in a 'phone book' of disclosures.
No vote was taken on these proposals.
Consolidation
The consolidation project, scheduled for discussion on Tuesday, was not discussed.
Wednesday 19 May 2010
Joint IASB-FASB Meeting
Leases
Lessor accounting - Derecognition approach supplement: Residual asset (freezing residual asset)
During yesterday's discussion on the derecognition approach, the staff was requested to present the Boards with numerical examples on what would happen if the carrying amount of the residual asset does not change after initial measurement, other than for impairment.
The staff presented the Boards with examples illustrating the mechanics of the proposed approach when the underlying asset is released, sold or retained for own use.
While some Board members were comfortable with the examples provided, other Board members questioned the determination of profit on initial recognition. Some of these Board members were concerned that lessors did not get to recognise a profit on initial recognition and that this 'profit' is effectively recognised over the lease term as a higher interest charge. One Board member noted that in order to arrive at the same profit figure that would have been recognised under operating lease accounting, the residual value have to be accreted over the lease term.
The Boards debated that issue around profit recognition and whether it is only a consequence of the derecognition model resulting in a timing difference. The Chairman asked the Boards to vote again on the matter and the Boards re-confirmed their earlier decision to freeze the allocated residual asset and only reassess for impairment when there are indicators of impairment.
Lessor accounting - Derecognition approach supplement: treatment of options
The staff presented the Boards with a supplement setting out the journal entries for an option to terminate a lease earlier than the originally determined lease term, in accordance with the Boards' earlier decision to treat the reassessment as a new derecognition/re-recognition event (Approach A in the agenda papers).
One Board member questioned the mechanics of the example which results in a loss upon reassessing the lease term when no profit has been recognised upon initial recognition. Other Board members noted that the examples presented do not reflect the Boards' earlier decision appropriately and requested the staff to rework the example to reflect the Boards' decision with regards to the residual asset and circulate the supplement again.
Lessor accounting - Derecognition approach: Contingent rentals and residual value guarantees
The Boards considered the accounting for contingent rentals and residual value guarantees under the derecognition approach. Without much discussion on the matter, the Boards tentatively agreed that changes to the receivable arising from contingent rentals based on performance or an index should be recognised in profit or loss as there is no direct correlation between the value of the residual asset and the amounts receivable under contingent rentals.
The Boards then considered how changes in usage-based contingent rentals should be treated. Some Board members were of the opinion that additional usage of the leased asset would lead to a reduction in the residual asset, whereas other Board members did not agree that this will always be the case. It was suggested that a lessor should be able to determine at the commencement of the lease which additional usage would lead to a decrease in the residual asset and which would lead to increase servicing costs. Based on this, only additional usage that does not result in a decrease in the residual asset should be recognised in profit or loss.
Several Board members had sympathy with this view but did not think it was practical to imply in practice. After a short discussion on the matter, the Boards were asked to vote on the following 3 alternatives:
- all usage adjustments are recognised in profit or loss and possible impairment test on the residual asset;
- all usage adjustments are recognised as an adjustment to the residual asset; or
- additional usage that does not result in a decrease in residual asset, is recognised in profit or loss and other usage adjustments are adjusted against the residual asset.
The majority of the FASB members voted in favour of all usage adjustments being recognised in profit or loss, whereas the IASB was evenly split between the 3 alternatives (5 votes each). The IASB members supporting the latter two alternatives then indicated that they don't object to the first alternative. The Boards therefore tentatively agreed that all usage adjustments should be recognised in profit or loss.
The Boards were also asked how changes in the receivable arising from residual value guarantees should be accounted for. The Boards acknowledged that the link between the residual value guarantee and the value of the residual asset is closer than with contingent rentals and usage adjustments. However, the Boards agreed that in the light of their previous decision to freeze the residual asset at initial measurement, changes in the receivable arising from residual value guarantees need to be recognised in profit or loss.
Lessor accounting - Derecognition approach: Accounting for Subleases
The Boards considered how to account for subleases under the derecognition approach. Without much deliberation, the Boards tentatively agreed not to provide different measurement guidance for assets and liabilities under a sublease and that intermediate lessors should present all assets and liabilities arising from a sublease gross on the statement of financial position.
Lessor accounting - Derecognition approach: Presentation
The Boards then deliberated how a lessor's assets, liabilities, revenue and expenses arising from a lease contract should be presented in the financial statements. With regards to presentation in the statement of financial position, the Boards tentatively agreed that, subject to the general presentation and materiality requirements in IAS 1, the lease receivable should be presented separately from other receivables and the residual asset with property, plant and equipment but separately from owned assets on the face and disclosed separately by class of asset.
When discussing the presentation in the statement of comprehensive income, the Boards considered whether to require:
- gross presentation of revenue and cost of sales by all lessors;
- net presentation by all lessors; or
- gross presentation by some lessors (i.e. manufacturers and dealers) and net presentation by others (i.e. financing entities).
Some Board members supported gross presentation by manufacturer and dealer lessors as that would appropriately present the economic reality of the transaction, whereas net presentation by financing entities would be more appropriate especially as they don't have a gross margin to present. The Boards had a short discussion on what the appropriate criteria would be to make the distinction. One Board member suggested allowing management to apply judgement in a way that is similar to how management present financial statements based on the business activities of the entity. Several Board members supported this view subject to the requirement to provide information that is meaningful to the users. The majority of Board members voted for this alternative.
The Boards requested the staff to consider the disclosure requirements for the derecognition of financial assets when formulating the disclosure requirements for lessors under the derecognition approach and provide sufficient explanations if some requirements are considered not appropriate to lessor accounting.
In concluding the session, the Chairman asked the respective Boards to indicate their preference for the performance obligation or derecognition approach in order to provide the staff with some idea on where to focus their efforts. By a large majority the FASB indicate a preference for the performance obligation approach for all lessors, while a majority of the IASB members preferred a hybrid model, where some lessors apply the derecognition approach and others the performance obligation approach. However, the IASB has not yet had time to consider whether the distinction should be drawn between manufacturer and dealer lessors vs. other lessors or the characteristics of the leasing arrangements. The IASB will meet within the next couple of days to define the distinguishing factors.
Insurance Contracts
Unbundling
The Board discussed whether investment/ financial and service components contained in a contract together with insurance should be recognised and measured separately as if they were separate contracts. In particular, the Boards discussed the proposed unbundling principle:
A component of an insurance contract should be unbundled if it functions independently from other components of that contract. A component functions independently if it is not significantly interdependent with other components of that contract.
The Boards continued to be unhappy about whether the distinction between 'independent' and 'interdependent' could be made operational. Several Board members were deeply troubled about the implications for embedded derivatives and the potential for accounting arbitrage between insurance contracts and financial instruments. Ultimately, the Boards could not conclude on this issue and decided to discuss other aspects of unbundling hopeful that those discussions would assist them to articulate the unbundling principle in a coherent manner.
The Boards discussed how it might require unbundling of an investment component, especially in a long-duration insurance contract. The Boards agreed that contracts with an explicit policyholder account balance ('account-driven contracts') should be unbundled. In addition, contracts such as participating and nonguaranteed-premium contracts that have characteristics significant to account-driven contracts should be included with account-driven contracts.
The Boards agreed that the staff should build on existing US guidance (ASC Topic 944-20-15-29) to address account-driven contracts. The Boards agreed that the investment component of insurance contracts that have no characteristics significant to account-driven contracts would usually not be separated. Such contracts have no explicit account balance, nor do they share the fundamental characteristics of account-driven contracts. However, if such contracts were to include two or more components for reasons other than economic, those components would be unbundled because they function independently.
The treatment of embedded derivatives was less conclusive. The IASB voted narrowly in favour (9 in favour; 5 opposed) that embedded derivatives should be unbundled using the existing IFRS bifurcation requirements. On the other hand, the FASB were unanimous that any component, including embedded derivatives, should be unbundled if that component is not significantly interdependent with other components of the insurance contract.
The staff will take this bundle of decisions and work with the Board off-line to try to get to a common position, including trying to identify an 'unbundling principle.' That position would be deliberated in public in the ordinary manner. It was noted that the FASB's Derivatives Implementation Group had addressed a number of issues that focussed on general insurance contracts, but not long-term contracts.
Scope: Financial guarantees
The Board discussed whether financial guarantee contracts should be included in the scope of insurance contracts or in the scope of the financial instruments project. In particular, they discussed financial guarantee insurance contracts (for non-payment of interest and principal on debt instruments); mortgage guarantee insurance contracts; and credit insurance contracts (for trade receivables).
At least one Board member was concerned that many of the contracts under discussion would be derivatives but, because they met the definition of an insurance contract, would be accounted for at other than fair value. The staff tried to reassure the Board that this would not be the case, since the treatment was not dependent on holding the underlying.
The Boards ultimately agreed (FASB: 4 in favour; IASB: 13 in favour) that contracts that meet the definition of insurance should be accounted for as insurance contracts. The Boards agreed that the intent of the project was that like or similar transactions should be accounted for similarly. That objective leaves little alternative other than to account for financial guarantees that indemnify the holder as insurance contracts.
Scope: Fixed-fee service contracts
After a short discussion, the Boards did not agree that fixed-fee service contracts that meet the definition of an insurance contract should be within the scope of the IFRS/ ASC on insurance (FASB: 5 opposed; IASB: 4 in favour). Consequently, such contracts will be excluded from the Standard. This is consistent with the treatment of such contracts historically.
Consolidation
Sweep issue: Accounting by the parent of an investment company
The IASB agreed that the IFRS on Consolidation would address the situation in which a controlled investee of a consolidated investment company holds an equity interest in the ultimate parent. Currently, under IFRS, the investment in the parent held by the investee would be treated as treasury shares in the Parent's consolidated financial statements. Whether this treatment should be retained if the investee was accounted for at fair value was unclear. The FASB would not address this issue specifically: in their view, there was existing guidance in US GAAP and facts and circumstances would determine the appropriate accounting treatment.
In a supplemental vote, the IASB agreed (12 in favour) the parent of an investment company would consolidate all controlled investees, including those held by investment company subsidiaries. The fair value accounting applied by the investment company subsidiary to its investment in the Parent when the Parent entity prepares its consolidated financial statements would be prohibited.
Agency relationships: Regulated funds
The Boards discussed the appropriate consolidation conclusions when a fund being managed is governed strictly by law or regulation to ensure that the fund is operated in the best interests of all investors.
The Boards considered an example in which the reporting entity establishes a mutual fund and acts as the fund manager, selling units in the fund to external investors. Although the fund manager determines the type of fund, the parameters of the fund within which the fund manager operates are determined by regulation.
After a short discussion, the Boards agreed unanimously that restrictions placed on a fund manager's decision-making authority by law or regulation would not prevent the fund manager from controlling (and thus consolidating) the fund.
Separate presentation/ Transition guidance
The Boards did not have time to discuss papers on whether any or all of the elements of a consolidated entity should be permitted or required to be classified separately from other elements in a reporting entities' consolidated financial statements; and proposed transition requirements when a reporting entity concludes, when transitioning to the new Standard on consolidation, either that consolidation of a previously unconsolidated entity, or discontinuing consolidation of a previously consolidated entity is appropriate. These papers will be discussed by the Boards separately and only if the conclusions differ will they be discussed at a joint meeting.
Meeting of IASB Alone
IFRS Interpretations Committee (IFRIC) Update
The Director of Implementation Activities provided the Board with an update on the IFRS Interpretations Committee's meeting on 6 and 7 May 2010. For details of the meeting please refer to the meeting notes published on the IAS Plus.
In particular, the Board noted that the Interpretation Committee added to its agenda the treatment of put options over non-controlling interests. Several Board members were surprised that the issue arose as they assumed that IAS 39 would apply.
The Board also noted that the Committee discussed the fixed date in derecognition exception in IFRS 1. The Board members urged the Committee to suggest to the Board a speedy solution to this issue in order to provide clarity for the first-time adopters. The Board also noted that the derecognition project is unlikely to address the issue in a timely manner.
Annual Improvements 2009-2010
Revised criteria for annual improvements
Based on the request from the Trustees, the Board considered revised criteria for the annual improvements process different from the current definition of 'non-urgent but necessary amendments to IFRSs'.
The suggested criteria would emphasise the fact that the annual improvements should neither change existing principles, nor introduce new ones, but should clarify the wording or address apparent conflicts. Some Board members expressed their concerns that such wording would not encompass possible exceptions to the current principles.
Some Board members questioned whether conflict between principles should be addressed by the Interpretations committee (as an Interpretation) or should warrant a separate project.
Several Board members suggested that the criteria for annual improvements should be considered together with the criteria for the Interpretations Committee agenda decisions so that these criteria are consistent. Other Board members warned against being too prescriptive in defining the details. In general the Board agreed that the Annual Improvements should be very narrow amendments and broader amendments have to warrant a separate Board project.
Replacement of IAS 39: Hedge Accounting
Eligible hedge items: Groups and net positions
The Board considered eligibility criteria for groups of hedged items that constitute a gross position and groups of hedged items that constitute a net position in the context of a general hedging model. These positions constitute common risk management strategies and are a building block of a portfolio hedging model.
The staff suggested limiting the discussion only to firm commitments as forecasted transactions would be discussed at a later stage. Some Board members clarified that the groups of items relate to a closed portfolio of instruments in contrast to a full portfolio hedging model that would be discussed after the general model is finalised.
Some Board members also questioned whether some of these issues are not influenced also by the application of the mechanics of a cash flow hedge to a fair value hedge.
The aim of the discussion was to consider whether and how to relax the restrictions on the types of groups of items that qualify for hedge accounting under IAS 39.
Eligible hedge items: Groups of hedged items
The Board debated whether any specific eligibility criteria are necessary for groups that are gross positions of hedged items of the same nature, with different risk characteristics, that impact profit or loss in the same period. Most Board members tentatively agreed that in these narrow circumstances no specific eligibility criteria are necessary.
Some Board members expressed their view that such positions should be eligible only if the groups are constantly re-measured. They believed that ultimately such decisions would lead to structuring and would lead to failure of effectiveness testing. The staff clarified that effectiveness would be considered at a later stage of the project. In addition, it noted that there are issues in the practice that even this narrow set could influence (e.g. seed corn hedge dependent on the benchmark corn price component and seed corn yield component).
Another Board member was concerned with the notion of same reporting period. He pointed out to the interactions with guidance in IAS 34 and questioned whether eligibility should depend on the fact whether the company prepares interim accounts. The staff would further analyse the issue.
Eligible hedge items: Net positions
The Board considered eligibility and presentation of some types of net positions for hedge accounting. The staff suggested that the designated hedged items would not be adjusted but instead the offsetting gain/loss resulting from the hedging instrument would be presented in a separate line of the statement of comprehensive income.
For most Board members the scenario (based on two form commitments - purchase of material and sale of goods in a foreign currency leading to a net risk position) was predominantly a presentation issue. Some Board members suggested that the staff considered presentation in its entirety as the suggested approach would lead to a separate line when hedging a net position but not when these transactions were hedged separately. These Board members questioned whether such presentation would increase transparency in dealing with derivatives.
In addition, one Board member expressed his concerns that the Board continues to require separate lines in a primary statement that could lead to a situation that the primary statements would become too cluttered by separate disclosure to be useful. He questioned whether note disclosure would not address the transparency issue.
Finally, despite seeing merits in the suggested approach, the Board agreed that the staff should consider presentation issue for hedge instruments in its entirety.
The Board then extended its discussion on multiple reporting periods. The Board considered the mechanics of the accounting for hedged items and hedging instruments. Some Board members questioned the mechanics of the proposed model that would lead to revaluation of both hedging instrument and hedged items related to the hedged risk directly in the other comprehensive income (that is, would differ from the current cash flow hedging mechanics). Such mechanics would include direct reclassification from profit or loss to the other comprehensive income. Several Board members questioned such reclassification as well as the fact whether the Board agreed such mechanics. The Board did not conclude this issue and would continue its discussion on Thursday.
Leases
Lessor accounting: Hybrid model
The Board met for a short session to consider the criteria for application of the different models within the hybrid model.
Several Board members suggested that the criteria should be based on the features of the lease, e.g. based on the dominant risk factors - derecognition model for contracts that are dominated by credit risk and performance obligation model for contracts with predominant asset risk (residual value, contingent rents, high level of services). Other Board members disagreed. They believed that those criteria would not work, for example, for the manufacturer/dealer issue due to the asset risk resulting from the residual value guarantee.
Another Board member supporting the hybrid model suggested that the performance obligation model should prevail, but the Board should extend the manufacturer/dealer leases as well as long term leases of land from the model (and apply the derecognition model).
No decision has been taken; the Board would continue its discussion on the issue at a following meeting. Some of the Board members were disappointed that the Board cannot conclude on a single model and expressed their concerns that the new model for lessors would be more complicated than current rules of IAS 17.
Thursday 20 May 2010
IASB Meeting
Management Commentary
Comment letter summary
Staff summarised the 102 comment letters received on the exposure draft. Most respondents were supportive of the project as they consider it to provide decision-useful information for users. A minority did not support the project as they don't see management commentary as within the boundaries of financial reporting and, therefore, not within the IASB's remit.
The majority of those that support the project also support the decision to issue a guidance document instead of an IFRS as this will avoid duplication and inconsistencies with existing legislative requirements in various jurisdictions.
Some Board members were surprised to learn that a portion of respondents would like the Board to issue an IFRS on management commentary. Overall, the Board was very pleased with the good degree of feedback and support it received on the exposure draft and requested the staff to continue their analysis of the comment letters and present something at the July meeting on the future direction of the project.
Emissions Trading
The Board was presented with a staff research paper on emission trading schemes prepared by a former IASB Industry Fellow. The research paper is intended to be a helpful resource for those interested in the joint project and to serve as background information to future Board deliberations on the topic. The Board was not asked to make any decisions at the meeting, but to provide feedback on the scope and general direction of the paper.
The Board commended the author for the good work he did while at the IASB and continues to do on the research paper. In general, the Board felt that the paper lacks some background and guidance on the accounting issues arising from emission trading schemes and that the Board aims to answer as part of the project. It was suggested that an additional chapter be added to the paper to highlight the key accounting questions, the current industry practices applied and the discussion the Board had to date on the topic without committing the Board to any specific accounting treatment. The Board also asked that the staff paper not be published during another comment period, so as to avoid constituents to be distracted from the Board's current projects.
Consolidation
Investment companies: Consequential amendments to IAS 28 and IAS 31
The Boards considered the implications of the decision to provide a fair value exception from consolidation to investment companies for associates and joint ventures.
Most Board members felt that the current scope exceptions for mutual funds, unit trusts, investment-linked insurance funds, and venture capital organisations to use fair value in IAS 28 and IAS 31 should be aligned to the decision on investment companies. The Board noted that two sets of exceptions would be complex and confusing. Nonetheless, some Board members noted that the investment company exemption narrows the set of companies benefiting from fair value accounting in comparison with current requirements. In particular, concerns were raised with the treatment of investment linked insurance funds that usually do not operate as reporting entities. The Board asked the staff to consider the implication of narrowing of the set of companies in this context. Notwithstanding the further analysis, the Board tentatively decided to include the proposed criteria for an investment company, developed within the consolidation project, to replace the list of entities benefiting from the fair value exception in the scope paragraphs of IAS 28 and IAS 31.
The Board further considered implications of the decision made the previous day on accounting by the parent of the investment company. The Board decided that, consistently with the guidance proposed within the Consolidation project, normal rules for measurement of associates and joint ventures should apply (that is, fair value accounting should be reversed unless the parent itself is an investment company).
Finally, the Board confirmed its decision that partial use of fair value for measurement of associates and joint ventures would be allowed (in other words, different measurement bases can be applied to portions of an investment in associate or joint venture when part of the investment fulfils the fair value exemption). Nonetheless, some Board members were deeply unhappy with such outcome.
Investment companies: First-time adoption in 2011
The Board considered a request from a jurisdiction that will require entities to prepare their financial statements in accordance with the IFRSs for the first time from 1 January 2011 to provide a temporary relief from the current requirement to consolidate the investment in entities similar to investment companies as defined in the Consolidation project and allow them to be carried at fair value. Under the local GAAP the existing requirements are to measure those investments at fair value. The Board expressed some sympathy to the request as under current requirements those entities would have to consolidate the investment companies on adoption of IFRSs, but when the investment companies guidance is finalised under IFRSs, change the accounting back to fair value. Nonetheless, the Board noted that the investment companies guidance is not finalised and such guidance would presume some decisions what would be inconsistent with due process. Moreover, the Board felt that it is a regulatory issue and a local regulator might address it, rather than ithe Board. Therefore, the Board decided not to address the issue.
The Board considered the package of decisions related to the investment companies that will be re-exposed. Two Board members indicated that they would express alternative view, with further three Board members considering such option.
ED 10: Transition
The Board considered the overall transition requirements for the new Consolidation IFRS. The Board decided that the new requirements for consolidation should be applied retrospectively in accordance with IAS 8 (that is, presume that these entities were always consolidated). Nonetheless, the Board noted that full retrospective application might require hindsight is some cases, when the fair values at the date of acquisition were not available. The Board thus decided that the newly consolidated entities should use the calculation that was prepared on acquisition (e.g. were required when accounted for the acquisition as associate). When such calculations were not made, the Board decided to grant an impracticability exception to avoid the hindsight. The Board agreed that in that case the acquisition method should be used in the current reporting period.
The Board also decided to allow early application of the consolidation guidance.
Separate presentation
The Board considered whether to require separate classification of elements of a consolidated entity in the reporting entity's consolidated financial statements.
The US GAAP requires that a reporting entity separately classify, on the face of its balance sheet, those assets of a consolidated Variable Interest Entity (VIE) that can only be used to settle obligations of the consolidated VIE, and those liabilities of a consolidated VIE for which creditors (or beneficial interest holders) do not have recourse to the general credit of the reporting entity. Some Board members considered this requirement to be inconsistent with the concept of a single economic entity in consolidated financial statements. These members argued that such requirements would clutter the primary financial statements and would not provide useful information. On the other hand, some Board members believed that such disclosures might be useful for users.
As most Board members felt that the US GAAP requirements were too onerous, the Board asked the staff to consider whether disclosure in the notes of restrictions on assets might serve the purpose. The Board would discuss the issue with the FASB at a following Board meeting.
Joint Ventures
Application of IFRS 5 to loss of joint control
Without much discussion the Board agreed that
- an entity classifies a partial interest in a joint venture or in an associate as held for sale, if such partial disposal fulfils the criteria for the classification as held for sale set out in IFRS 5, while the equity method applies for accounting for the retained interest;
- in the case a plan of sale changes the entity should resume equity method accounting for the held-for-sale interest;
- in the case of joint operations, the held-for guidance should be extended for the classification as held for sale of all the assets and liabilities in which the joint operator has an interest, in the case in which a disposal meets the criteria of classification as held for sale as defined in IFRS 5'
- paragraph 28 of IFRS 5 should be amended to clarify that the financial statements for the periods since classification as held for sale shall be adjusted retrospectively when the disposal group or non-current asset that ceases to be classified as held for sale is a subsidiary, a joint arrangement or an associate; and
- the requirements in paragraph 34 of ED 9 should be re-worded to include the corresponding requirements for joint operations that no longer meet the criteria to be classified as held for sale.
Disclosures
The Board agreed to require a list and description of joint arrangements and associates that are individually material for the reporting group. The Board decided not to refer to significant joint arrangement or associates as the term 'significant' is not defined in the IFRSs.
The Board decided that summarised financial information related to the joint ventures or associates in the venturer's financial statements shall state the investment at 100% of the interest as the disclosure already include the share of interest and voting rights in the joint venture or associate. Consequently, the Board decided to require disclosure of amounts at a hundred per cent for individually-material joint ventures and associates and disclosing the entity's net interest amount in those joint ventures or associates that are not individually material.
The Board was split on the detail of disclosure for associates. Some Board members preferred requiring more detailed information, similar to those required for joint ventures, as they believed that some associates might be as significant as joint ventures. They believed that such information is important for the users of financial statements. Nonetheless, the Board (with a split vote 8:7) decided to require only the investor's interest in the amount of each of current assets, non-current assets, current liabilities, non-current liabilities, revenues, profit or loss and other comprehensive income.
Some Board members also suggested requiring these disclosures for each individually material associate and not only aggregate for all associates.
Finally, the Board agreed to remove the requirement to disclose contingent liabilities and commitments arising from joint operations separately from the other reporting entity's own contingent liabilities and commitments disclosures, but keeping separate disclosures relating to contingent liabilities arising from the entity's involvement in joint ventures
Transition
After a very short discussion, the Board agreed that in case of transitioning from accounting for arrangements under the equity method to accounting for shares of assets and liabilities (joint operations under the new IFRS), an entity should derecognise the investment and recognise the share of assets and liabilities based on the entity's interest determined in accordance with the agreement at their corresponding carrying values (adjusted for their fair value at acquisition, depreciation and impairment). Additionally, the entity shall recognise difference between the carrying amount of the investment and carrying amount of the individual assets and liabilities in retained earnings. The Board also agreed that the goodwill included in the investment under the equity method shall be allocated to the individual assets of the joint operation.
The Board also agreed that in case of transition from accounting for arrangements under the equity method to accounting for shares of assets and liabilities, and entity should perform and disclose a reconciliation between the investment derecognised, assets and liabilities recognised and any balance recognised in the retained earnings.
The Board agreed that the first-time adopters transitioning from proportional consolidation accounting to equity accounting should perform impairment testing of the resulting investment.
The Board also agreed that the first-time adopters transitioning from equity accounting to accounting for shares of assets and liabilities should apply the same transitional requirements as the current IFRS preparers except for any adjustments that a first-time adopter might need to carry out to convert its investment into an IFRS basis.
The Board agreed that the transitional provisions for separate financial statements of first time adopters shall be the same as transitional requirement of current IFRS preparers.
The Board agreed that the effective date of the guidance should be aligned with other MoU projects.
Finally, the Chairman asked the Board members to indicate their support for the package of decisions. No Board members indicated his/her dissent.
Replacement of IAS 39: Hedge Accounting
Eligible hedge items: Net positions
The Board continued the discussion from Wednesday on net positions consisting of a closed group of existing, non financial hedged items, with different risk characteristics that affect profit or loss in different reporting periods (for instance, a group of partially offsetting FX firm commitments that settle over five periods, with a forward FX contract used to hedge the net risk).
Several Board members were unhappy with the proposed model and challenged the staff that the proposed model (which would require changes of both the hedging instrument as well as the remeasurement of the fixed commitments to be recognised in the OCI) is inconsistent with basic features of the model as discussed by the Board. These Board members believed that the new hedging model should be limited to the pure cash-flow hedge mechanics (that is, only remeasurement of the derivative hedging instrument). Those Board members would prefer to recognise the results from recognising remeasurement of the unrecognised firm commitments as assets and liabilities that have an effect on the profit or loss (rather than the proposed accounting in OCI with a corresponding 'double entry' in the profit or loss). Those Board members also asked the staff to further clarify the criteria when the hedged items (with respect to the hedged risk) would be remeasured in the OCI and when not.
On the other hand, a majority of the Board members wanted the staff to pursue the proposed hedging model and develop it further. They encouraged the staff to explore the model so that the Board may be able to make decision whether the developed model is improvement over the current requirements. Consequently the staff would come back with further features of the model at a future meeting.
Eligible hedge items: contractually specified risk components
The Board considered the eligibility of contractually specified components of an item for hedge accounting (both financial and non-financial items). Most Board members agreed that that a contractually specified risk component should be eligible for designation as the hedged item in a hedging relationship for hedge accounting purposes, irrespective of whether it is the component of a financial or a non-financial item and thus that the current restrictions in IAS 39 should be softened (currently IAS 39 restricts eligible risk components to separately identifiable and reliably measureable risk components of financial items and foreign currency risk for non-financial items).
Some Board members expressed their reservations to the proposal. They argued that the current restrictions in IAS 39 were introduced as a way to ensure that the items are not marked away from the market.
Finally, the Board agreed to pursue these criteria. Some Board members indicated that some of the eligibility criteria need to be tightened to make the model operational. The staff would provide additional analysis at a following Board meeting.
This summary is based on notes taken by observers at the joint IASB-FASB meeting and should not be regarded as an official or final summary.
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