Report of the Agenda Committee
Staff gave a report back of the Agenda Committee meeting and presented a list of the issues that were not taken onto the agenda.
On the issue of the accounting for contingently convertible debt with certain features, particularly with regards to their effect on diluted earnings per share (commonly referred to as 'Co-Cos'), IFRIC noted that this issue should be monitored. Staff was asked to prepare an analysis of the issues with the objective of identifying differences between US GAAP and IFRS in this area. In addition, it was noted that the differing debt / equity models used by the two accounting frameworks warranted a revisit of this issue at a later stage.
Service Concession Arrangements
Staff advised IFRIC that education sessions on this issue had been planned to take place in September so as to prepare the IASB for the issues dealt with in this project.
The Chairman indicated that the planned way forward was to have draft interpretations at the October meeting for IFRIC to formally vote on, hence the purpose of the discussion was to finalise the principles contained in the current draft interpretations as well as raise issues to be dealt with before the October meeting.
It was agreed that any dissenting views at this stage would be documented and presented to the IASB during the education sessions to be held in September.
A general discussion ensued in which members indicated that with hindsight, this project was essentially a standard setting type project and not one of an interpretive nature. This discussion was held in the context of the difficulties surrounding the project given the number of additional issues that had arisen during debates particularly the revenue recognition issues that appear to pre-empt the IASB's project on that issue. A proposal to have the IASB complete work done so far was generally rejected, with members noting that constituents required guidance and hence IFRIC agreed to move forward with preparing the Interpretations.
It was noted that the IASB should be made aware of areas within this project that IFRIC believed certain principles had been stretched (such as the control notion and the clarity of the scope of this project given the existence of IFRIC D3), if those areas still existed at the time of presenting the drafts to the IASB.
There was significant discussion around the scope paragraphs with IFRIC agreeing that the draft interpretations should specify that they would apply to 'public to private' arrangements but without limiting their application (e.g. to 'private to private' arrangements). IFRIC would then ask for comment from constituents during the exposure period as to whether this was appropriate.
IFRIC agreed that these draft interpretations should only deal with the accounting by the 'operator' and not the 'grantor'. It was noted that there was no intention to ask constituents for comments on this issue.
The guidance contained in SIC 29 Disclosure - Service Concession Arrangements was discussed in the context of providing a definition in the draft interpretations of service concession arrangements in order to ensure that general outsourcing type arrangements would be excluded from D10. Members noted that the definition per SIC 29 would be problematic (e.g. the term 'gives public access' and reference to 'social facilities' may be difficult to apply in practice). There was general agreement that the words 'service concession arrangements' should be used in the draft interpretations as opposed to referring using other words as this would create confusion particularly with outsourcing type arrangements that exist.
The distinction in the applicability of D3 and D10 was discussed with some members expressing concern in this area. IFRIC agreed to make it explicitly clear in the scope paragraphs that these interpretations would be mutually exclusive (it would not be a choice, which interpretation to apply).
Issues and Consensus
Members expressed concern at the number of issues that were being dealt with in this project and suggested a way forward that would deal with the broader issues only without necessarily dealing with the detailed ramifications that may arise depending on various scenarios. There was general support for this view.
The distinction between the receivables and intangibles model was discussed at length. The following basic fact pattern is only meant to give context to the debate observed:
An operator builds a road but gets paid based on usage of the road by the general public
IFRIC first debated whether upon completion of construction, the operator should recognise a financial asset, an IAS 11 type asset which could be a receivable, an intangible asset or whether that asset was essentially a contingent asset.
This debate included whether a financial asset should be recognised when the road is complete, such that the variability in cash inflow becomes a measurement issue (this was supported by members with reference to the principles surrounding certain derivatives). Some members supported the view that a financial asset should be recognised based upon usage of the road.
There appeared to be general support for the view that the operator had a financial asset based on AG8 of IAS 32 particularly where the grantor has an obligation to make payment based on usage (as opposed to the operator receiving cash directly from the general public - e.g. toll road collections).
Members supporting the intangible asset model, did so, where the operator was paid directly by the general public, on the basis that a third party was making the payments whereas, a contract existed between the operator and the grantor and its that contract that gives rise to an intangible asset.
IFRIC also discussed the implications of the above issues where floors and / or caps were added to the contractual terms by the grantor (e.g. operator will be paid based on usage directly by the public subject to a minimum of $X etc.) but no decisions were taken.
As a result, concern was raised at the possible structuring opportunities if IFRIC decided that both the financial asset and intangible asset models were acceptable depending on the means of payment. Members noted that this may indicate a need to amend IAS 38 such that the accounting result would not differ simply because of the way the arrangement is structured.
IFRIC decided to go ahead and present all supportable solutions based on existing literature with a view that the IASB may then consider to make the necessary amendment to IAS 38 in order for there to be only one solution.
Summaries of the draft Interpretations presented to IFRIC, as prepared by the Staff (contained in observer papers), are as follows (note that this is prior to making any changes that may arise from IFRIC's debate):
Summary of proposals in draft D10A Service Concession Arrangements - Determining the Accounting Model
Recognition of the infrastructure items as assets of the grantor
Infrastructure items constructed or acquired by the operator for the purpose of a service concession shall be recognised as assets of the grantor, and not the operator, if they are controlled by the grantor. Otherwise, subject to the effects of any leases from the operator to the grantor, they shall be recognised as assets of the operator.
It is usual that assets are controlled by their owner. However, this is not always so. In particular, the grantor of a service concession controls the infrastructure used in that concession even when it is owned by the operator, if the grantor both:
- a. controls or regulates what services the operator must provide using the infrastructure, to whom it must provide them, and at what price; and
- b. will control, through ownership, beneficial entitlement or otherwise, the residual interest in the infrastructure at the end of the concession, and the residual interest is significant.
Infrastructure items transferred to the operator by the grantor, and used in the concession, shall continue to be recognised as assets of the grantor unless the conditions in IAS 18 for recognising revenue on a sale of goods are met, in which case they shall be recognised as assets of the operator. Among other circumstances, those conditions will not be met when the grantor controls the infrastructure.
Choice of accounting model
The operating lease model applies if the operator has the right of use of the infrastructure.
- If, as is usual, the grantor controls the use to which the infrastructure is put, the operator does not have the right of use of the infrastructure but only the right of access to the infrastructure to provide the specified services on the specified terms.
- The accounting under the operating lease model is generally similar to that under the intangible asset model, except that the operating lease prepayment is accounted for under IAS 17.
The receivable model applies if the operator does not have the right of use, and:
- the grantor (rather than users) has the primary responsibility to pay the operator for its services, or
- although the operator is entitled to be paid by users, the effect of the contractual arrangements is that substantially all of the demand risk associated with the service concession is retained by the grantor.
The intangible asset model applies in all other cases where the infrastructure items are recognised as assets of the grantor.
Summary of proposals in draft D10B Service Concession Arrangements - The Receivable Model
Recognition and measurement
Contract obligations and related rights shall be recognised and measured in accordance with IASs 11 and 18.
As regards recognition:
- no obligation or related right is recognised to the extent that contracts are executory.
- an obligation is recognised when consideration is received in advance of performance.
- an asset, being a receivable under a contract, is recognised when an entity performs in advance of receiving consideration.
As regards measurement:
- obligations under contracts shall be measured on the basis of the consideration receivable for their performance.
- consideration receivable shall be measured at fair value.
The receivable in respect of construction or other services
The receivable shall be accounted for in accordance with IAS 39 as either:
- a loan or receivable;
- if so designated upon initial recognition, an available-for-sale financial asset; or
- if so designated upon initial recognition, at fair value through profit or loss. This designation shall not be made unless the fair value is reliably measurable.
In the first two cases, IAS 39 requires interest income calculated using the effective interest method to be recognised in profit or loss.
The receivable shall be classified as available for sale (unless designated as at fair value through profit or loss) when the holder may not recover substantially all of its initial investment, other than because of credit deterioration. This applies if the operator's recovery may vary significantly with variations in demand. However, it does not apply solely because revenue may vary for reasons relating to the quality of subsequent services, such as variations in availability or service levels.
If revenue may vary for reasons relating to the quality of subsequent services, the operator shall account for the receivable on the basis of expected cash flows. Variations because quality levels are more or less than expected shall be recognised as they occur.
Borrowing costs incurred by the operator
If the operator adopts the allowed alternative treatment in IAS 23, it shall capitalise borrowing costs attributable to contract activity, if the costs are reliably estimated to be recoverable.
Capitalisation shall cease once revenue is recognised in relation to the relevant expenditure.
Items contributed by the grantor
Under the receivable model, infrastructure items contributed by the grantor for use in the service concession continue to be recognised as assets of the grantor. Therefore, the operator does not recognise them as assets. If the grantor makes no charge for these items, the operator shall recognise an expense for their use, and corresponding additional income from the grantor, only when the operator both:
- has the right of use of the items, and
- is providing services to the grantor, rather than to other users.
The grantor may also contribute other items to the operator, which the operator can keep or deal with as it wishes. In accordance with the general recognition and measurement principles:
- such items are recognised as assets of the operator at fair value.
- in a reciprocal transaction, they will have been contributed in consideration for the assumption of contract obligations by the operator. The operator recognises a corresponding liability in respect of those obligations, unless they have already been performed.
Because the infrastructure items are recognised as assets of the grantor, the operator shall not recognise any obligation in respect of its commitment to hand them over to the grantor at the end of the service concession.
Summary of proposals in draft D10C Service Concession Arrangements - The Intangible Asset Model
The requirements of D10B also apply to the intangible asset model, unless a different treatment is specified by D10C.
The intangible asset shall be accounted for in accordance with IAS 38.
Revenue and profit or loss recognition
When construction or other services are provided in exchange for the intangible asset, revenue and profit or loss shall be recognised on the exchange.
Revenue and costs shall be recognised and measured in accordance with IASs 11 and 18. In particular, revenue shall be measured at the fair value of the intangible asset received or receivable, unless its fair value cannot be measured reliably, in which case revenue is measured at the fair value of the services provided, adjusted in either case by the amount of any cash or cash equivalents transferred.
Timing of recognition of the intangible asset
The intangible asset shall be recognised when it meets the recognition criteria of IAS 38, which is usually the earlier of (a) when the operator is entitled to earn revenue from it, and (b) when costs are incurred (either in cash or otherwise, such as by providing construction or other services).
If the intangible asset is recognised in advance of payment, the operator has an obligation that is discharged upon payment. When payment is in the form of construction or other services, payment occurs when revenue is recognised on those services.
Contractual obligations included in the consideration given for the intangible asset
Obligations to construct new infrastructure, or to enhance either new or existing infrastructure to a condition better than at the start of the concession, are included in the consideration given for the intangible asset, and therefore in its cost.
Contractual obligations excluded from the consideration given for the intangible asset
All other contractual obligations of the operator - including obligations to maintain, replace or restore infrastructure, except for any enhancement element - are excluded from the consideration given for the intangible asset. They shall be recognised and measured in accordance with IAS 37, i.e. at the best estimate of the expenditure required to settle the present obligation at the balance sheet date.
Subject to the next paragraph, if the operator adopts the allowed alternative treatment in IAS 23, it shall capitalise borrowing costs attributable to the acquisition or production of the intangible asset. Under IAS 23, capitalisation ceases when substantially all activities necessary to prepare the asset for its intended use are complete. In most cases, this will be no later than when the intangible asset is paid for, either in cash or in the form of construction or other services.
If the operator has a right to recover its borrowing costs from the grantor or another party, which is not contingent on other revenues being insufficient to cover those costs, it shall expense the borrowing costs and recognise revenue in respect of its right of recovery.
If the ability to recover borrowing costs is contingent on other revenues being insufficient to cover those costs, it is not a right of recovery but an agreement designed to limit the operator's exposure to variations in demand, and shall be accounted for as described below.
Revenue caps, floors and similar agreements
The operator shall account for revenue caps, floors and other agreements included in the terms of the service concession, designed to limit the operator's exposure to variations in demand, as follows:
- if their fair value is reliably measurable, the operator may elect to account for them at fair value through profit or loss, separately from the intangible asset. On initial recognition, this requires an allocation to be made between the value of these agreements and of the intangible asset.
- if the agreements are not accounted for at fair value through profit or loss:
- any premium effectively paid or received for the agreements shall not be accounted for separately from the intangible asset.
- any rights under them shall be recognised only if and when they satisfy the recognition criteria in IAS 37.
- any obligations under them shall be accounted for in accordance with IAS 37.
This summary is based on notes taken by observers at the IFRIC meeting and should not be regarded as an official or final summary.