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Financial Instruments: Complexity (Comprehensive Project)

Date recorded:

This session's purpose was to update the two Boards on the status of the comment letters received on the IASB's Discussion Paper (DP) on Reducing Complexity in Reporting Financial Instruments. As of the beginning of October 2008, the Boards received over 150 comment letters from various constituents groups including users, preparers, and auditors. The staff also used this session to update both Boards on the comment letters received on the FASB's Exposure Draft (ED) on Accounting for Hedging Activities. As of the beginning of October 2008, the FASB received approximately 130 comment letters from various constituent groups including users, preparers, and auditors.

At the start of the session, the staff referred to a joint release issued by the IASB and FASB on 20 October 2008 regarding the Boards' commitment to a global approach to dealing with reporting issues arising from the global financial crisis. The staff premised the remaining discussion on the complexity project and the hedge accounting project by stating that whatever is decided during the joint approach to dealing with reporting issues from the global financial crisis will need to be considered in the longer term complexity and hedge accounting projects.

Overall, the staff explained that the responses received to both documents (DP and ED) had significant divisions between users and preparers/auditors, and the remaining discussion would focus on a comparison of the comments received from users to the comments received from preparers and auditors.

 

Reducing Complexity DP

The staff explained that overall all constituent groups agreed that there is significant complexity in the reporting for financial instruments and there is a need to reduce that complexity. Views differed on how to do that. The staff organised the discussion based on the four approaches described in the DP:

  • Long-term approach, report all financial instruments at fair value
  • Intermediate approach 1, reduce the number of measurement attributes or certain categories of financial instruments
  • Intermediate approach 2, replace existing measurement attributes with fair value with certain optional exceptions, and
  • Intermediate approach 3, simplify the accounting for hedging activities.

Regarding the long-term approach, most users were supportive of moving to a full fair value approach for all financial instruments. However, preparers and auditors did not appear to support a full fair value approach. The majority of respondents were not supportive of intermediate approaches 1 and 2, but some were supportive of a combination of those approaches. Regarding the intermediate approach 3, users were generally supportive of eliminating hedge accounting while preparers and auditors were not. Further, most users were supportive of the FASB's ED on hedge accounting while most preparers and auditors were not. Regarding other issues/concerns, constituents were consistent in their views that a prerequisite to proceeding with the Reducing Complexity project was to deal with certain presentation issues in the current Financial Statement Presentation project, specifically how gains and losses would be presented. Certain users also added that a comprehensive disclosure framework and fair value measurement framework are also required before proceeding with this project.

 

Hedging ED

The staff divided the views expressed into five broad categories:

  1. joint project,
  2. qualitative effectiveness assessments,
  3. reasonably effective threshold,
  4. elimination of bifurcation-by-risk, and
  5. hedging of an entity's own debt.

Users, preparers, and auditors were generally unified in their views that any project should be a joint project between the IASB and FASB. The concerns raised were that preparers would have to change their hedge accounting models twice over the coming years. Once to move to the FASB's model and then a second time upon international convergence (assuming the IASB had not adopted the FASB's model by the time international convergence occurs).

Regarding all of the other categories of views expressed, users and preparers/auditors were divided. Users generally disagreed with the loosening of hedge assessment requirements to a qualitative approach and the lowering of the hedge effectiveness threshold to reasonably effective. The staff stated that the preparers and auditors were generally supportive of the ED regarding its suggested changes. The staff also stated that users generally supported the elimination of the bifurcation-by-risk hedging model that currently exists while preparers and auditors did not support it. Preparers and auditors believed that such elimination would result in accounting consequences that do not match an entity's risk management strategies. They also cited the fact that an entity's own credit would be included in the evaluation and recording of hedge ineffectiveness.

The Boards asked the staff to further discuss with preparers what was meant by the comments on credit risk. They also asked the staff to further examine how to deal with these concerns through the Financial Statement Presentation project and through disclosure. Some Board members also asked the staff to reach out to additional user groups to further understand their concerns with hedge accounting. Specifically, users wanted to eliminate hedge accounting or at the least, eliminate bifurcation-by-risk, but stated that doing so was just as important as presenting and disclosing the effects of an entity's risk management strategies.

Lastly, the staff indicated that users generally did not support the exception to allow bifurcation-by-risk on the hedging of an entity's own debt. Users believed this would result in the underreporting of other risk exposures, such as counterparty risk. Preparers generally agreed with the exception and thought the exception should be extended to include situations other than hedges placed at the inception of the debt. The staff also stated that preparers cited concerns similar to those raised in the elimination of bifurcation-by-risk regarding the inclusion of credit risk.

The staff wrapped up the meeting by stating that the hedging project has not been removed from the FASB's agenda, as some reports had indicated. The staff stated that the project was put on hold until the Boards could decide how to proceed with the broader project on reducing complexity in the reporting of financial instruments. Several board members cited support for the FASB staff's efforts on the hedging ED and said they would consider it during the upcoming agenda setting process. Those decisions are expected in the next couple of months.

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