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IFRS implementation issues

Date recorded:

Agenda paper summary

The regular update summary paper on the most recent IFRS Interpretations Committee meeting was made available to the IASB. The item on the Committee’s current agenda that led to comments by the Board was the classification of a liability for a prepaid card from the issuer’s perspective. One Board member was concerned on the potential knock-on effects if the item was considered to be a non-financial liability (as it may not be clear whether the holder accounted for the item as a financial asset and, therefore, the prepaid card would not be a financial instrument) could lead to other items, generally accepted to be financial instruments, coming under further scrutiny.  

IFRS 9 Financial Instruments and IAS 28 Investments in Associates and Joint Ventures – Measurement of long-term interests

Background

The issue (refer to Agenda Paper 12A) relates to the interaction between IFRS 9 and IAS 28—the measurement, impairment in particular, of long-term interests in associates and joint ventures that form part of the net investment (referred to as long-term investments). In its December 2015 meeting, the IASB discussed the issue but no conclusions were reached.

The staff has requested that the IASB continue their discussion of the matter and has provided them with further analysis.  The staff will ask the IASB to consider the following:

  1. does the scope exception in IFRS 9 (paragraph 2.1(a)) apply to long-term interests in associates or joint ventures and,
  2. if the scope exception does not apply, how the requirements of IFRS 9 and IAS 28 interact relating to these interests.

Furthermore, at its December 2015 meeting, some IASB members were uncertain about what type of interests are considered to be long-term interests. The IASB suggested that an interpretation be developed to clarify which interests should be included in the net investment of an associate or joint venture. 

Staff analysis

The staff is of the opinion that the requirements of IFRS 9, including those relating to impairment, would apply to long-term interests to which the equity method has not been applied – in other words, the scope exception does not apply to such long-term interests.

The relevant exception to the scope of IFRS 9 applies only to interests accounted for using the equity method (this is clarified by IAS 28.14).   Furthermore, IAS 28.38 distinguishes between investments accounted for using the equity method and long-term interests that are, in substance, part of the entity’s net investment in the associate or joint venture – the staff understand therefore that long-term interests are separate from interests to which the equity method is applied.

Based on the conclusion above, the staff provided their recommendation relating to the accounting for such long-term interests. An entity would classify and measure such long-term investments in accordance with IFRS 9. When allocating any impairment losses, the carrying amount of the interests (determined under IFRS 9) would be included in the net investment to which impairment is allocated and this net investment would be in accordance with IAS 28.40-43.

Relating to the IASB’s suggested interpretation of those interests be included in the net investment of an associate or joint venture, the staff feel that any issues relating to investments to be accounted for using the equity method should be addressed as part of the equity accounting project.

The IASB was asked whether it agrees with the staff analysis:

  1. that the scope exception in paragraph 2.1.(a) of IFRS 9 does not apply to long-term interests; and
  2. of the accounting for long-term interests in an associate or joint venture.

The views of the IASB will be reported back to the IFRS Interpretations Committee.

Board discussion and decision

The Board, on the whole, felt that this paper assisted to identify the issues to be addressed.  Further, it clarified that there are different categories of financial interests in associates and joint ventures considered in IAS 28—equity investments that are equity accounted; financial interests, accounted for in accordance with IFRS 9, that do not form part of the net investment in the associate or joint venture; and interests that form part of the net investment but which are not accounted for using the equity method. This helped make the scope of the matter under consideration clearer.

When the discussion turned to accounting for the long-term interests, some Board members raised concerns regarding a potential double impairment of the same asset.  The staff and other Board members clarified that this would not be the case as the unit of account for the impairment tests was different and impairment would be assessed at different levels; the equity interests in accordance with the equity method, then the long-term interests would be tested in accordance with IFRS 9 and then the net investment (of which the long-term interests form part) in accordance with IAS 28 if there is objective evidence of impairment.

In addition, the Board agreed that there are areas of IAS 28 that could be improved or clarified but that was not the issue to be considered in this meeting.

When called to vote, 12 Board members agreed with the staff analysis and conclusions reached.

IAS 1 Presentation of Financial Statements Current/non-current classification of liabilities

Background

The IASB proposed, in the Classification of Liabilities ED, clarifications to IAS 1 relating to the classification of liabilities as either current or non-current. In these proposals: 

  1. Classification would be based on rights in existence at the end of the reporting date – a liability would be current unless the entity has the right to defer settlement for at least twelve months after reporting date.
  2. If the right to defer settlement for a period greater than twelve months is subject to a condition, the entity must determine whether it is in compliance with that condition as at the reporting date when considering classification of the liability.

Respondents to the IASB’s public consultation on these proposals questioned how an entity would assess compliance with a condition in circumstances when compliance with a condition is not or cannot be tested until after the reporting period (see Agenda Paper 12B).

Staff analysis

The staff presented analysis relating to a number of queries raised by respondents for the IASB’s consideration.

Testing conditions at a specified date — Example (a)

Comment letter respondents considered the right to defer settlement and, more specifically whether a right actually exists at the end of the reporting period, if a condition of the right is subject to testing after the reporting period and how compliance with such a condition is to be assessed as at reporting date.

The staff are of the opinion that any condition would be in place to protect the lender’s interest and, therefore, should be in place continuously. Compliance with this condition should be assessed as at the reporting date.

The IASB will be asked whether they agree with the staff’s analysis and assessment that a right tested after the end of the reporting period is a right at the reporting date; and that assessment of any conditions will be as at the reporting date.

In BC4 of the ED, the IASB concluded that an entity’s compliance with a condition (as at reporting date) should affect the liability’s classification. The staff agree with a number of respondent’s suggestion that BC4 should be included in the requirements of the standard, as this guidance is significant in assessing the classification of liabilities.

The IASB will be asked whether they agree with this conclusion.

Reliance on audited financial statements — Example (b)

If an arrangement contains a condition which is assessed by reference to audited financial statements, such an assessment is being made at the end of the reporting period. Any verification process would be an adjusting event in accordance with IAS 10 as such verification provides evidence of conditions that existed at the reporting date.

Annual review clause carried out after the reporting period

Several respondents used an annual clause as an example of a right to defer settlement that is affected by events after the reporting date i.e. the review is by the lender after the reporting date.

The lender has the right to request early payment, subject to a short notice period, at the time of review.

The staff are of the opinion that this example is different to examples (a) and (b) above and the entity only has the right to defer settlement to the date of the review. However, the IASB’s proposals do not need to be amended for such circumstances.

The IASB was asked whether they agree with the staff’s conclusion in this regard.

Board discussion and decision

The primary points raised by the Board during their discussion centred around example (a) and example (b) above.

Regarding example (a), there was a lively discussion around the conditions and the rights of the lender to demand payment. Some Board members highlighted that breaches of conditions are not necessarily equal, in other words, not all breaches would lead to the lender demanding repayment of the loan.  However, other Board members highlighted that if the lender has an enforceable right to demand repayment, this should be reflected in the financial statements. Therefore, each right should be considered.

The US GAAP proposed treatment of similar circumstances was also discussed, compared and contrasted to the IFRS proposals.  The US GAAP proposals allow for the effect of any subsequent remedy actions associated with a breach to be back-dated and considered when classifying liabilities.  One Board member felt that this approach may well be better than current IFRS proposals given the boiler-plate nature of many loan contracts entered into by smaller entities.

However, many Board members felt that such a change would be a major change from existing IFRS requirements and would lead to major impacts on, IAS 1, the classification of assets and issues considered in IAS 10. 

Regarding example (b), there was concern raised by some board members about the meaning of signed financial statements in this context.  If a condition could only be confirmed by financial statements about which an audit report had been issued, then compliance with a condition could not be treated as an adjusting event, as suggested by staff, as the financial statements could no longer be adjusted.  Instead, it was agreed that compliance should be assessed using numbers that had been audited as inputs into the testing process.

When asked to vote, 13 Board members agreed with the staff’s analysis and conclusions reached in the paper.

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