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IFRS 9 — Physical settlement of contracts to buy or sell a non-financial item

Date recorded:

IFRS 9 Financial Instruments—Physical settlement of contracts to buy or sell a non-financial item (Agenda Paper 3)

Background

The Committee received a submission about how an entity applies IFRS 9 Financial Instruments to particular contracts to buy or sell a non-financial item in the future at a fixed price. The submitter asks whether, in accounting for that physical settlement, it is appropriate for an entity to (a) reverse the accumulated gain or loss previously recognised in profit or loss on the derivative, and (b) recognise a corresponding adjustment to either revenue (in the case of a sale contract) or inventory (in the case of a purchase contract). The Committee received responses from accounting firms and other accounting bodies and noted that there is a diversity in practice.

Staff analysis

The staff analysed that the additional journal entry on reversal of fair value gain or loss on derivative, which reflected the changes of mark-to-market in previous years, effectively negates the requirement in IFRS 9 to account for the contract as a derivative because it would reverse the accumulated fair value gain or loss on the derivative without any basis to do so. The additional journal entry would also result in the recognition of income or expenses that do not exist. The Committee also observed that the accounting for contracts that do not meet the own use scope exception in IFRS 9 is different from the accounting for contracts that meet that exception. Similarly, the accounting for contracts designated in a hedging relationship for accounting purposes is different from the accounting for contracts that are not designated in such relationships. Those differences reflect differences in the respective accounting requirements. IFRS 9 neither permits nor requires an entity to reassess or change its accounting for a derivative contract solely because that contract is ultimately physically settled.

Staff recommendation

The staff did not recommend to add this matter to its standard-setting agenda since the staff think the existing IFRS Standards provide an adequate basis for such accounting treatment. Instead, the staff recommended that the Committee publish a tentative agenda decision that outlines the application of IFRS 9.

Discussion

Most committee members agreed with staff analysis and conclusion. Before going into further discussion, some committee members were discussing about the gross or net revenue accounting or whether the revenue and change in derivative financial instruments must be separately presented. Staff had reiterated that the purpose of the staff paper is addressing the additional journal entry. In the meeting, it was generally agreed that IFRS 9 is clear in this aspect and the second entry results in the recognition of income or expenses that do not exist. All Committee decided not to add this matter to the Committee's standard-setting agenda but to publish an Agenda Decision.

Before coming to the vote in respect of the wording of the tentative Agenda Decision, there were some comments from the Committee members: the tentative agenda decision should explicitly state that (i) the contract does not meet own use exception and does not apply; (ii) derivative is part of the consideration for the settlement of the sale; (iii) purchase is not discussed in this case and (iv) should highlight that the Committee concluded that IFRS 9 does not permit or require the additional journal entry. All Committee decided not to add this matter to the Committee's standard-setting agenda but to publish an Agenda Decision.

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