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Notes from the March 2007 IFRIC meeting days 2 and 3

  • IFRIC (International Financial Reporting Interpretations Committee) (blue) Image

10 Mar 2007

The International Financial Reporting Interpretations Committee (IFRIC) met at the IASB's offices in London on Thursday and Friday 8-9 March 2007. Also, on the afternoon of Wednesday 7 March 2007, a meeting was held, for those IFRIC members wishing to attend, to discuss the drafting of future recommendations for the IFRIC agenda.

This meeting replaced the former IFRIC Agenda Committee. Presented below are the preliminary and unofficial notes taken by Deloitte observers at the meeting on 8 and 9 March.

Notes from the IFRIC Meeting -- 8-9 March 2007

Thursday 8 March 2007

  D20 Customer Loyalty Programmes

The IFRIC continued their redeliberations of the proposed Interpretation in light of comments received during the exposure of Draft IFRIC Interpretation D20 Customer Loyalty Programmes.

Allocation of consideration

D20 paragraph 6 proposed that the fair value of the consideration received or receivable should be allocated to the identifiable components of the sale transaction with reference to the relative fair values of the components. Several commentators objected to the proposal. Some thought that the IFRIC was being too restrictive in an area in which IAS 18 permitted different methods; others thought that other allocation methods could produce more relevant information; and others were concerned that the restriction could be applied by analogy to situations in which such an approach was inappropriate.

The IFRIC discussed this issue at length. They were sympathetic to the argument that to restrict the allocation method was perhaps not ideal, but they were almost unanimous in opposing permitting the use of a residual value method in which the residual fair value was equated with the residual (marginal) cost of providing future services, which many saw as an invitation to avoid recognising the obligation at all. The aim of the allocation was to determine the fair value of the remaining performance obligation. The IFRIC seemed receptive to an approach that would permit an entity to perform the allocation of fair value either on the basis of measuring the fair value of what has been delivered or what remains to be delivered, provided that an entity measured the fair value of the relevant goods or services, not their cost of delivery.

The staff was asked to consider the IFRIC's views and present revised proposals at a subsequent meeting.

Whether fair value will be reliable

The IFRIC agreed that the fact that there will be cases where no market price will readily be observable for the goods and services granted within loyalty programmes does not justify the use of alternative methods not based on the fair value of the rights.

Proposed guidance

Positioning

The IFRIC agreed that the guidance in D20 paragraph 7 should be retained but that it should be moved to a separate section for Implementation guidance. In addition, guidance explaining that other methods may be used should be added, for example, by utilising the arguments currently in D20 paragraph BC10. Discounting The IFRIC noted that D20 paragraph 7 was confused and confusing. 'Discount' was used to mean a reduction of the price that would otherwise apply, rather than in a financing context. When combined with the comment about the 'time value of money' in paragraph 7(c), it was understandable that commentators were confused about what the IFRIC intended. The problems were even more acute when the English was translated into other languages. The IFRIC agreed that there should be no specific reference to the time value of money and that D20 paragraph 7 should be redrafted to clarify its meaning.

The staff was asked to present revised proposals at a subsequent meeting.

Expected forfeiture rate

The IFRIC agreed to retain the guidance in D20 that the fair value of the award credits should take into account expectations regarding forfeiture rates. However, material would be added to the Basis to emphasise that the method used in IFRS 2 Share-based Payment with respect to expected forfeitures is a modified fair value method and was adopted only for practical purposes in that Standard and should not be applied by analogy to customer loyalty schemes.

The staff was asked to consider preparing an illustrative example of this issue.

Revenue recognition

The need for guidance in the Interpretation

The IFRIC agreed that guidance on revenue recognition similar to that in D20 paragraph 8 should be included in the Interpretation.

The IFRIC saw no inconsistency between the requirements proposed in the Consensus and the objectives set out in the Basis for Conclusions. The IFRIC agreed that the Basis for Conclusions should include an explanation that the change in estimate of the award credits expected to be redeemed does not affect the measurement of the initial obligation, and should be recognised on a prospective basis.

Should there be Implementation Guidance?

There was general agreement that the Interpretation should include Implementation Guidance in the form of an example similar to that included in Observer Note 2(ii) paragraph 7.

Awards supplied by third parties

Revenue: gross or net

The IFRIC agreed to re-write the requirements in D20 paragraph 8 specifically to link the revenue recognition with the gross or net presentation. In doing so, the IFRIC noted that the scope of the Interpretation might need to be clarified to make it clear that loyalty schemes such as those operated by credit cards are third party award schemes within the scope of D20.

Classification of expense in gross presentation

The IFRIC agreed that the Interpretation should not address expense classification. Implementation Guidance for third party awards The IFRIC agreed that a short example illustrating revenue recognition when a third party supplies the awards should be provided.

Other issues

Customer relationship intangible assets

The IFRIC agreed to delete D20 paragraph 11 and to include a brief explanation in the Basis for Conclusions (as part of the discussion of changes made to D20). The IFRIC agreed that awards are unlikely to qualify for recognition under IAS 38 Intangible Assets and that the issue was peripheral to the Interpretation.

Transitional Arrangements

The IFRIC agreed to change the transitional provisions such that the general requirements of IAS 8 will apply.

Effective date

The IFRIC did not conclude on the effective date, but did state that it was likely that the Interpretation would be issued in time for it to be effective for financial years beginning on or after 1 January 2008.

Other changes

The IFRIC agreed various drafting changes proposed by the staff. These drafting changes were not available to Observers.

Next steps

The staff will bring a revised draft Interpretation to the next meeting (3 and 4 May) with the intention that the IFRIC approve it at that meeting.

  IFRS 5 Non-current Assets Held for Sale and Discontinued Operations – Plan to Sell the Controlling Interest in a Subsidiary

The IFRIC held a preliminary but extended discussion of a potential agenda topic. The IFRIC had been asked to provide guidance on applying IFRS 5 Non-current Assets Held for Sale and Discontinued Operations when an entity is committed to a plan to sell the controlling interest in a subsidiary. After the sale, the entity would retain a non-controlling interest in its subsidiary, taking the form of either an investment in an associate, an interest in a joint venture or a financial asset.

The held for sale criteria

A majority of the IFRIC seemed to support the notion that committing to a plan involving loss of control over an asset or a group of assets is the triggering event for the classification as held for sale in IFRS 5. The nature of the asset represented by any non-controlling interest retained is different. If the loss of control happens in a situation in which there is not a sale that transaction was outside the scope of IFRS 5. However, other IFRIC members thought that this was not clear in the Standard and that, if the IFRIC was to agree that this was the principle, it was up to the IASB to amend the Standard.

Some IFRIC members were concerned that US GAAP would not permit sale treatment in the situation in which a significant portion of the investment was retained (for example, an associate). The SEC Observer noted that diversity in practice had been seen in US GAAP. However, an IFRIC member noted that this was a presentation issue in US GAAP-continuing involvement prevented presentation of the disposal group as a discontinued operation, but not the classification as held for sale.

It was also noted that the FASB was developing a Staff Position, FSP FAS 144-c on a related but much narrower point.

The IFRIC asked the staff to consider the various points raised in the discussion, to track developments on FSP FAS 144-c and to consider whether the issue could be resolved more efficiently through an amendment of IFRS 5. What should be classified as held for sale once the criteria are met?

The IFRIC noted that the classification issue was directly linked to the previous discussion. If loss of control is the triggering event for the purpose of IFRS 5, then the whole of the investment should be classified as held for sale. However, some IFRIC members had seen a treatment in which the portion to be retained was accounted for using the equity method from the date that the portion to be disposed of was classified as held for sale. No conclusion was reached on this issue and the staff will perform additional analysis.

Other issues

The IFRIC discussed the following issues very briefly:

  • During the held for sale period, how should the subsidiary's assets and liabilities be measured?
  • Is classification as discontinued operations relevant when the entity plans to retain a significant influence over its former subsidiary after the sale?
  • After the sale of the controlling interest, how shall the remaining investment be measured?
  • What information should be disclosed in the notes to the consolidated financial statements?

The IFRIC noted that many of these issues were inter-related and depended on the conclusions reached on the fundamental issue.

The IFRIC did not make any decision about whether the issue should be added to the agenda. The staff will present its extended analysis and recommendations at a subsequent meeting.

  IAS 18 Revenue – Sales of Real Estate

The IFRIC considered a revised draft of a Draft Interpretation addressing the decisions and suggestions made by the IFRIC at the November 2006 meeting.

Application of IAS 11 Construction Contracts and IAS 18 under the Draft Interpretation

In November IFRIC members raised concern regarding the wording in paragraph 9 of the draft Interpretation outlining under which circumstances a sale agreement would meet the definition of a construction contract and hence be within the scope of IAS 11. The IFRIC members suggested to describe a construction contract as one in which the seller provided construction services 'to the buyer's specifications' (rather than 'to the buyer's directions') but acknowledged that further guidance may be needed to clarify the meaning of this term. Two options were discussed in this context.

Option 1

Include in the Draft Interpretation examples of indicators of when a contract would be within the scope of IAS 11, including one that stated that the buyer obtains ownership rights over the work in progress as construction progresses (typically because the buyer owns the land to which the work in progress attaches). Any contract that was not within the scope of IAS 11 would be an agreement of purchase and sale and would fall within the scope of IAS 18.

Option 2

Restrict the scope of the draft Interpretation to sales of units within multiple-unit developments. In this case it would not be necessary to give a general interpretation of the term construction contract that is applicable to all real estate sales. Accordingly, the guidance on the applicable standard would be significantly simpler.

The IFRIC decided to proceed with Option 1 and there seemed to be a consensus that the indicators were helpful. Some IFRIC members were concerned about the term 'ownership' outlined in indicator noted above. They thought that this term might be problematic in some jurisdictions, particularly where buyers cannot obtain ownership of land. It appeared that the IFRIC will rephrase this indicator by addressing the question of which entity carries the risk and rewards of the asset under construction ('Whose asset is it?', 'Who has the asset under IAS 16?'). No final decision was made but the Chairman asked the IFRIC members to provide wording suggestions to the staff.

In addition, the IFRIC decided:

  • to move parts of the consensus dealing with the application of IAS 11 and IAS 18 to a separate section for application guidance.
  • that no specific transitional arrangements are included and that the standard 3-month lead in time is proposed

Revisions to example 9 in the appendix of IAS 18

The IFRIC decided to propose to supersede Example 9 in the appendix of IAS 18. Paragraphs 1 and 2 of Example 9 will be included in the draft Interpretation. The IFRIC proposes to delete paragraph 3 of Example 9 without replacement since it was considered that the paragraph does not follow from the requirements of IAS 18 itself.

  D19 IAS 19 – The Asset Ceiling: Availability of Economic Benefits and Minimum Funding Requirements

The IFRIC discussed a variety of amendments to D19 reflecting the proposals in the comment letters received. The following decisions were made with regard to the major issues (in all cases no final wording was agreed in the meeting):

Title of the Interpretation

No changes will be made to the title but the scope in paragraph 5 of D19 will be clarified. A revised wording will be considered by the staff.

Availability of an economic benefit (paragraph 7 and 8 of D19)

Some respondents noted that there are cases when the realisability of the asset is not within the control of the entity. For example, an entity may be required to make application to the trustees of the fund or a regulatory body in order to access the surplus in accordance with the rules of the fund. Some respondents inferred that, in these cases, a refund is not available.

The IFRIC had a thorough discussion on this issue and noted that availability requires the entity to have an established, unconditional right to the refund, that is, from the entity's perspective 'there has to be evidence that the asset is the Fund's'. The staff was directed to investigate this issue further, including an analysis on recognition and measurement. IFRIC members were asked to agree a revised wording with the staff offline before the May meeting.

Definition of 'contractual minimum funding requirements'

D19 will be amended to clarify that minimum funding requirements do not include contributions that are part of the benefit promise made to employees (benefit-related promises) but only contributions that are set as a requirement to fund that promise.

In addition, it will be clarified that only the minimum funding requirements that give rise to statutory or contractual contribution obligations are within the scope of the Interpretation.

Clarification of the use of the term 'substantive enactment'

Some respondents pointed out that the term substantive enactment is normally applied to statutory obligations only and not to contractual obligations and that the requirement for substantive enactment should apply to the economic benefits available as a refund as well as a future contribution reduction.

A sentence similar to that in paragraph 14 will be added to paragraph 7 of D19 outlining that no allowance shall be made for expected changes in the terms and conditions of the minimum funding requirement that are not substantively enacted at the balance sheet date or not yet contractually agreed.

Time value of money

Paragraph 11 of D19 will be amended to clarify that 'in the rare cases, when the refund is a fixed nominal (or absolute) amount to be paid in the future, the entity shall make an allowance for the time value of money using IAS 19 assumptions.'

Reduction in future contributions

Future demographic changes (paragraph 15 of D19)

Some respondents noted that calculating service costs for future periods requires assumptions that are not required in the calculation of the defined benefit obligation (DBO). In particular, the assumptions underlying the present value of the DBO calculation do not include an explicit assumption for new entrants. Other respondents noted that the assumption in respect of future new entrants can have a significant effect and would, in particular, seem reasonable when there is an expectation of a declining membership. In such a case this should be incorporated in the calculation of the asset available as a reduction in future contributions.

The IFRIC had a thorough discussion on this issue and mixed views were expressed. It appeared that a majority does not want to take future reductions into account but that the assumptions should be same for both the calculation of service costs for future periods and the DBO. One IFRIC member noted that planned reductions reflected in the entity's budgets or forecasts should be taken into consideration.

No final decision was made and the staff was asked to reconsider the current guidance in D19 to reflect the views expressed during this meeting.

Minimum funding contributions

Some respondents noted that the attribution of benefits between past and future service, as shown in Illustrative Example 3, may not be straightforward as it is possible to have a minimum funding requirement (MFR) that does not attempt to identify past and future service.

The IFRIC noted that in this case professional judgement must be applied and that no further guidance will be included in D19.

Assumptions

One respondent questioned whether the future minimum funding contributions are to be calculated using the MFR or IAS 19 assumptions.

The IFRIC pointed out that MFR contribution obligations should be determined based on the MFR assumptions rather than the IAS 19 assumptions and that the calculation of the MFR future contribution obligation should incorporate the expected MFR funding level. All other amounts used in applying the Interpretation should be derived using IAS 19 assumptions. It appeared that no further guidance would be included with regard to this issue.

Term of the calculation

Some respondents questioned what treatment is required when the expected life of the plan is greater than the expected life of the entity. An amendment will be made to clarify that the economic benefit available as a future contribution reduction should be calculated over the expected life of the plan or the expected life of the entity, whichever is the shorter.

Liability recognition and consistency with the framework

Some respondents disagreed with, or asked for further clarification of the rationale for, the requirement to adjust the defined benefit asset or liability before the contribution is paid into the plan (paragraph 18 of D19). The IFRIC noted that there is no inconsistency with the framework. It appeared that the increase in the net defined benefit liability is considered to be a liability in accordance with IAS 37 Provisions, Contingent Liabilities and Contingent Assets. A fuller explanation of the rationale for the approach will be included in the Basis for Conclusions.

Illustrative examples

The Illustrative Examples will be amended to clarify that contributions payable are not recognised on the balance sheet unless they would be unavailable after they are paid. In addition an arithmetical error will be corrected.

Transition requirements

The Interpretation will require application from the beginning of the first period presented, that is, no full respective application.

The staff was directed to present a revised Draft Interpretation at the May 2007 meeting.

  IAS 38 Intangible Assets – Advertising and Promotional Expenditure and Catalogues

Amendments to IAS 38

At its meeting in January 2007 the IFRIC decided not to develop an Interpretation on this issue but to propose amendments to paragraph 70 of IAS 38 to remove the incompatibility of language between IAS 38.69 and 70. The IFRIC decided to also include future training activities.

The proposed amendment states that paragraph 68 of IAS 38 does not preclude recognising as an asset prepayments made for future training or advertising and promotional activities until those activities take place. It seemed that the term 'take place' was not finally agreed but that the staff should investigate whether there are other generic terms that meet the objective in a better way. There seemed to be a consensus to include additional guidance to clarify when the activities in question have 'taken place', for example, first distribution of advertising.

Consequential amendments to SIC 32

The IFRIC agreed to proposed consequential amendments to SIC 32 Intangible Assets – Web Site Costs. The current version of SIC 32 requires expenses to be recognised when incurred. The term incurred will be replaced by something like 'when the website is first made available to the public'.

The staff was asked to redraft the amendments accordingly for approval at a future meeting. The IFRIC intends to present the amendments to the Board for inclusion in the Annual Improvement Process which is intended to be issued on 1 October 2007 effective for periods beginning 1 January 2009.

Friday 9 March 2007

  IAS 21 Foreign Exchange: Hedging a Net Investment in a Foreign Operation

The IFRIC continued their discussion of the accounting for a hedge of a net investment in a foreign operation (See January 2007 IASPlus Report). The discussion at this meeting concentrated on two main issues: (1) where within a group can the hedging instrument be held; and (2) which net investment risk is eligible to be hedged?

Where can the hedging instrument be held?

The IFRIC agreed that a hedging instrument can be held by any entity within the group, provided that the instrument is considered effective, that is, the functional currency of the net investment and the functional currency of the parent are the same currencies as those on which the hedging instrument's value is based.

Which risk is eligible to be hedged?

There was no interest among IFRIC for adopting the restrictions in US GAAP, which states that an entity can only hedge its direct exposure to a net investment in a foreign operation. Instead, the IFRIC thought that the accounting should reflect economic reality. The IFRIC concluded that, at the consolidated level, the hedgeable risk created by a net investment could be any risk between the net investment in a foreign operation and any immediate, intermediate or ultimate parent in the chain. This is commonly called the 'bottom up approach'.

There was some discussion about how best to communicate IFRIC's consensus, whether an Interpretation should be issued or through developing Implementation Guidance for IAS 21. The staff was asked to return at the next meeting with a recommendation.

  Review of Tentative Agenda Decisions Published in January 2007 IFRIC Update

  • IAS 17 Leases – Sale and leasebacks with repurchase agreements

The IFRIC confirmed their tentative decision not to take this item to the Agenda. A final Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  • IAS 19 Employee Benefits – Special wage tax

The IFRIC confirmed their tentative decision not to take this item to the Agenda. A final Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  • IAS 36 Impairment of Assets – Identifying cash generating units in the retail industry

The IFRIC confirmed their tentative decision not to take this item to the Agenda. A final Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  • IAS 39 Financial Instruments: Recognition and Measurement – Written options in retail energy contracts

The IFRIC confirmed their tentative decision not to take this item to the Agenda. However, several IFRIC members noted that the wording of the Tentative Agenda Decision was cryptic and was not useful in its current form. Some suggested that an explanation as to why many retail arrangements would not meet the 'ability to settle net' would not be met (and were therefore not within the scope f IAS 39) should be added. Others thought that to expand the Agenda Decision at all would stray into Interpretation territory.

IFRIC seemed to agree that the final Agenda Decision would state that the contract being assessed would have to be capable of being settled on a net basis. The final Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  • IAS 39 Financial Instruments: Recognition and Measurement – Assessing hedge effectiveness of an interest rate swap in a cash flow hedge

The IFRIC confirmed their tentative decision not to take this item to the Agenda. A final Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  Staff Recommendations for Tentative Agenda Decisions

  • IFRS 3 – Reassessments in a business combination

The IFRIC tentatively decided not to provide guidance on whether, and in what circumstances, a business combination triggers a reassessment of the acquiree's classification or designation of assets, liabilities and contracts acquired or assumed in a business combination. A Tentative Agenda Decision will be published in the March 2007 issue of IFRIC Update. IFRIC members asked that the staff provided both financial instrument and non-financial instrument (for example, whether to reassess the classification of a lease) examples in the Tentative Agenda Decision.

  • IAS 1 and IAS 39 – Current or non-current presentation of derivatives that are not designated as hedging instruments in effective hedges

The IFRIC discussed a tension/inconsistency between IAS 39 and the balance sheet presentation requirements in IAS 1. IAS 39 paragraph 9 requires derivatives that are not designated as hedging instruments under IAS 39 to be classified as held for trading and be measured at fair value through profit or loss. IAS 1 requires an item to be classified as current if it is 'held primarily for the purpose of being traded'. It was noted that some constituents are reading these two paragraphs to imply that, because a derivative is classified as held for trading for the purposes of IAS 39, it must be a current asset. (The IFRIC observed that the classification in IAS 39 drives the measurement of the instrument and is not intended to affect presentation.) It was noted that derivatives are often held to hedge long-term positions (for example, interest rate swaps on long-term debt) and that current classification is not sensible nor does it reflect economic substance.

The IFRIC tentatively decided not to provide guidance on whether derivatives that are not designated as hedging instruments under IAS 39 should be presented as current or non-current on the face of the balance sheet. Such derivatives may be settled more than one year after the balance sheet date. The IFRIC agreed to ask the Board to clarify IAS 1 such that the internal conflict highlighted by this issue is resolved. A Tentative Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  • IAS 16 – Sale of assets held for rental

The IFRIC considered a request to provide guidance on the treatment of sales of assets held for rental. As part of their business, companies such as motor vehicle dealerships, with a rental division, regularly purchase assets (vehicles in this case) and hold these assets for rental to third parties. Many of these entities are in fact in the business of selling these assets, as well as renting them. This dual intention is part of their business model, sales of such assets may occur on a regular basis and the renting and selling activities may be undertaken by separate divisions.

The IFRIC noted that the issues in the submission were beyond the scope of an interpretation. They included both matters of presentation and classification as well as recognition and measurement. As such, the issue was much better addressed by the Board.

The IFRIC tentatively decided not to take this issue to the Agenda. Rather, they will refer the issue to the Board for consideration. A Tentative Agenda Decision will be published in the March 2007 issue of IFRIC Update.

  • IAS 19 – Curtailments and negative past service cost

The IFRIC considered a request to interpret IAS 19 to distinguish between curtailments and negative past service costs. In IAS 19, plan amendments that reduce existing benefits may fall within the definition of either curtailments or negative past service cost. The ambiguity in the definitions means that entities can, in effect, choose how to treat those plan amendments. When curtailments occur, they are recognised immediately, together with any related actuarial gains and losses that had not previously been recognised. Negative past service costs are recognised over the remaining service lives of the employees.

The IFRIC tentatively decided not to take this issue to the Agenda. Rather, they will refer the issue to the Board asking that it be considered as part of its ongoing projects related to employee benefits. A Tentative Agenda Decision will be published in the March 2007 issue of IFRIC Update.

Scroll down for notes from day 1 of the IFRIC meeting.

This summary is based on notes taken by observers at the IFRIC meeting and should not be regarded as an official or final summary.

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