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IFRS 9 Financial Instruments—Fair value hedge of foreign currency risk on non-financial assets (Agenda Paper 9)

Date recorded:

Background

In its June 2019 meeting, the Committee discussed the subject of whether foreign currency risk can be a separately identifiable and reliably measurable risk component of a non-financial asset held for consumption (for example, property, plant and equipment, and inventory denominated in a foreign currency) that an entity can designate as the hedged item in a fair value hedge accounting relationship. The Committee published a tentative agenda decision.

Most respondents agreed with the Committee's conclusion. Some of them had comments on the Committee's analysis and conclusion.

Staff analysis

One respondent commented that the foreign currency effect arises only from translating a market price determined in a foreign currency to the entity's functional currency rather than a 'building block' of the fair value of the asset, and questioned whether a risk component is separately identifiable and reliably measurable in this fact pattern. The staff analyse that the requirement in IFRS 9:6.5.2(a) implies that the entity considers whether foreign currency risk is separately identifiable and reliably measurable with reference to the effect of changes in exchange rates on the translated fair value, rather than the fair value determined in the foreign currency before translation. The effect of translation is therefore a component of the translated fair value that an entity can separately identify and reliably measure.

The same respondent commented that the wording of the tentative agenda decision does not sufficiently convey the expectation, expressed by some Committee members, that the designation of foreign currency risk on a non-financial asset held for consumption would be consistent with an entity's risk management activities only in very limited circumstances. For example, when the entity's strategy is to use the non-financial asset for a period of time to generate largely functional currency cash flows from its use and only then to sell it in the foreign currency, foreign currency risk arises only from the future sale of the asset for its residual value. The staff acknowledge this and recommend the Committee clarify that:

  • to the extent an entity intends to consume the non-financial asset, it is unlikely that the entity manages and uses hedging instruments to hedge the risk exposures on the non-financial asset;
  • the Committee expects that an entity would manage and hedge exposures to changes in fair value of non-financial assets held for consumption only in very limited circumstances, and provide an example of such circumstances; and
  • risk management activities that aim only at reducing the foreign exchange volatility arising from translating a financial liability denominated in a foreign currency are inconsistent with the designation of foreign exchange risk on a non-financial asset as the hedged item in a fair value hedge accounting relationship.

Staff recommendation

The staff recommend finalising the agenda decision subject to the above-mentioned changes.

Discussion

Most of the Committee members were supportive to the agenda decision. A few Committee members suggested editorial changes, including (i) deleting the assessment of risk management activities of financial liabilities because there is no specific example in the agenda decision supporting the argument and it is not the subject matter of the submission; (ii) adding "an entity would use hedging instruments to hedge only those fair value exposures that it expects will affect its profit or loss as opposed to the full current fair value of the asset" after the sentence about the entity's risk management policies on fair value of non-financial assets held for consumption only; and (iii) adding "qualifying hedged item" in the context of all applicable requirements in IFRS 9 for hedge accounting to make it more complete.

The Committee decided, by a majority of votes, to finalise the agenda decision with the additions discussed in the meeting.

 

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