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IFRS Academy, July 2010: Global Approach to Financial Reporting and Accounting for Financial Instruments

IFRS Academy, July 2010: Global Approach to Financial Reporting and Accounting for Financial Instruments

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Tokyo, July 2010 Tokyo, July 2010 Presentation Transcript

  • INTERNATIONAL IFRS ACADEMY
    • Set up in 1960, the EBF is the voice of the European banking sector (European Union & European Free Trade Association countries)
    • It represents the interests of some 5000 European banks: large and small, wholesale and retail, local and cross-border financial institutions
    • It is committed to supporting EU policies to promote the single market in financial services in general and in banking activities in particular
    • It advocates free and fair competition in the EU and world markets and supports the banks' efforts to increase their efficiency and competitiveness.
    Tokyo, 28-29 July 2010
    A global approach to financial reporting and accounting for financial instruments
    Roger KaiserEuropean Banking Federation
    1
  • GLOBAL APPROACH TO FINANCIAL REPORTINGNeed for Cross-border Transparency of Financial Statements
    • To enhance corporate performance’s comparability
    • To improve quality of financial reporting
    • To enhance investors’ protection
    • To increase the possibilities to raise capital
    • To create efficient, deep and liquid securities markets and enhance their international competitiveness
    • Need for adopting a single set of accounting standards for companies willing to raise capital …
    2
  • GLOBAL APPROACH TO FINANCIAL REPORTINGKey Players in Accounting Standard-Setting
    3
    INTERNATIONAL
    e.a. EU
    NATIONAL
    US
    IAS / IFRS
    Local GAAP
    e.g. J-GAAP
    US-GAAP
    ACCOUNTING
    STANDARDS
    N’al Std-Setter
    (NSS)
    e.g. ASBJ
    IASB
    FASB
    STANDARD-SETTERS
    EC
    JFSA
    SEC
    REGULATORS
  • GLOBAL APPROACH TO FINANCIAL REPORTING US Convergence Strategy
    4
    INTERNATIONAL
    e.a. EU
    NATIONAL
    US
    IAS / IFRS
    Local GAAP
    e.g. J-GAAP
    US-GAAP
    ACCOUNTING
    STANDARDS
    N’al Std-Setter
    (NSS)
    e.g. ASBJ
    IASB
    FASB
    STANDARD-SETTERS
    EC
    SEC
    JFSA
    REGULATORS
    Convergence on Accounting Standards
  • GLOBAL APPROACH TO FINANCIAL REPORTING US Mutual Recognition Strategy
    5
    INTERNATIONAL
    e.a. EU
    NATIONAL
    US
    IAS / IFRS
    Local GAAP
    e.g. J-GAAP
    US-GAAP
    ACCOUNTING
    STANDARDS
    N’al Std-Setter
    (NSS)
    e.g. ASBJ
    IASB
    FASB
    STANDARD-SETTERS
    EC
    SEC
    JFSA
    REGULATORS
    Mutual Recognition on Accounting Standards
  • GLOBAL APPROACH TO FINANCIAL REPORTING
    EU Strategy Towards a Single Set of Accounting Rules
    Modernisation Directive
    IAS Regulation
    Fair Value Directive
    EC Communication
    “EU Financial reporting strategy: the way forward”
    Lisbon European Council
    4th and 7th AccountingDirectives
    March 2000
    June 2000
    July 2002
    2003
    1978-1983
    Sept. 2001
    6
  • GLOBAL APPROACH TO FINANCIAL REPORTING
    EU Strategy : IAS Regulation & Modernisation Directive
    Regulation (EC) No 1606/2002
    unlisted companies
    listed companies
    individual accounts
    consolidated accounts
    individual accounts
    consolidated accounts
    IAS/IFRS permitted (optionality for member states)
    IAS/IFRSrequired
    Directive 2003/51/EC: Modernization & updating of accounting rules
    7
  • GLOBAL APPROACH TO FINANCIAL REPORTING
    EU Strategy: Endorsement process for IFRS
    SARG
    EFRAG
    technical level
    ARC
    political level
    EUROPEAN COMMISSION
    Regulations
    EUROPEAN
    PARLIAMENT
    IASB
    IFRIC
    Endorsementprocedure
    MEMBER STATES
    transposition
    MonitoringBoard
    8
  • 9
    GLOBAL APPROACH TO FINANCIAL REPORTING Japan’s Strategy: Convergence Process
    (Oct ‘02) Norwalk Agreement of IASB-FASB
    EU’s Actions 
     Japan’s Actions
    Adoption of EU Directives  (‘03, ‘04)
    (Jan ‘05)  ASBJ – IASB launched joint program for convergence
    CESR Advice  (Jul ‘05)
    (Jul ‘06)  BAC(*) report “Towards International Convergence of Accounting Standards”
    (Oct ‘06) ASBJ published the project plan
    Establishment of Japan-EU Monitoring  (Nov ‘06)
    Meeting
    (Aug ‘07)  Tokyo Agreement
    (Dec ‘07)  ASBJ published the revised project plan based on the Tokyo Agreement
    Decision on Equivalence of Japanese (Dec ‘08)
    GAAP with IFRSs
    (*) BAC (Business Accounting Council) is an advisory body on accounting matters to the JFSA
    Tokyo Agreement  ASBJ agreed with IASB to accelerate convergence between J-GAAP and IFRSs
    • Eliminate the major differences or provide compatible accounting standards for the items which CESR advised in 2005, by 2008
    • Set a target date of 30 June 2011 for resolving other issues
    • Enhance cooperation to facilitate Japan’s greater contribution to the international standard-setting process
    Source: JFSA
  • 10
    GLOBAL APPROACH TO FINANCIAL REPORTING Japan’s Strategy: Roadmap for IFRS Application
    Voluntary Application
    Minimum 3 years
    Scope: Certain listed companies whose financial or business activities are conducted internationally
    Applied to: Consolidated Financial Statements
    From: Fiscal year ending 31 March 2010
    Decision on Mandatory Application
    Possible Start of Mandatory Application
    • Around 2012: Decision regarding mandatory application of IFRSs
    • Preparation period: Minimum 3 years
    • 2015 or 2016: Beginning of mandatory application (if decided in 2012)
    Publication of Japan’s Roadmap (June 30, 2009)
    Source: JFSA
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSKey accounting issues highlighted during the crisis
    • The G20 reaffirmed in June the need for a single set of high quality improved global accounting standards
    • Key accounting issues highlighted during the crisis:
    • Lack of transparency in financial statements and issues relating to the accounting for off-balance sheet structures
    -> addressed through disclosure requirements
    • Difficulties, uncertainties and pro-cyclicality associated with classification and measurement of financial instruments
    -> IFRS 9 Phase 1
    • Insufficient provisioning model (“too little, to late”)
    -> IFRS 9 Phase 2
    • Shortcomings of the hedge accounting rules -> IFRS 9 Phase 3
    11
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSCriticisms of Classification & Measurement in IAS 39
    • Complexity
    • Categories of financial instruments
    • Held-for-trading (HFT)
    • Held-to-maturity (HTM)
    • Loans and receivables (L&R)
    • Available for sale (AFS)
    • Mixed measurement
    • HFT  FV through P&L
    • HTM + LAR  amortized cost
    • AFS  FV through other comprehensive income (OCI)
    • Impairment rules
    • HTM and tainting rules
    12
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSClassification & Measurement of Assets in IFRS 9
    • Basically two categories and Mixed measurement maintained:
    • Amortised cost for assets held for contractual cash flows and managed on this basis
    • Fair value for everything else
    • Financial instrument characteristics and business model to shape boundary between categories
    -> Too restrictive definition of basic loan feature
    • Fair Value changes through P&L
    • Elimination of bifurcation of embedded derivatives in hybrid financial assets (on the asset side only)
    -> risk of measurement mismatches resulting in artificial volatility
    • No recycling of gains & losses equity instruments not held for trading
    13
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSLiabilities under IFRS 9
    • Liabilities scoped out of IFRS9-phase 1 because of difficulties with own credit risk
    • Exposure Draft on Fair Value Option for Financial Liabilities
    • No recognition of changes in credit spread of own debt instruments
    • Option to recognize the full change in fair value of financial liability if that reduces a measurement mismatch
    • EBF calls for non inclusion of subsequent changes in own credit through P&L
    • Frozen credit spread approach
    • Alternative solution: isolation of credit element of FV changes and posting through OCI
    14
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSCriticisms of Impairment in IAS 39
    • IFRS currently allow provisioning on actual losses incurred
    • IFRS currently do not allow provisioning on expected losses
    • The Basel II framework has been perceived as pro-cyclical and has led to calls for through-the-cycle provisioning starting at the point when loans are originated
    • EBF agrees on the “too little, to late” argument
    • EBF considers that new provisioning model under IFRS should be:
    • more forward-looking
    • consistent with risk management practices
    • based on information generated for regulatory purposes
    • cost efficient
    • aligned with the other components of the revised IAS 39
    15
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSCriticisms of Impairment in IFRS 9 (Expected Cash Flow Method)
    • Significant conceptual concerns of the Expected Cash Flow Model (ECFM)
    • Inclusion of expected credit losses in Effective Interest Rate (EIR)
    • Inconsistency with risk management practices and inapplicability of the model on open portfolios
    • Asymmetrical treatment of original estimations of expected losses and changes in expectations
    • Significant operational concerns of the ECFM
    • extremely complex proposal
    • implementation costs would significantly outweigh the perceived benefits
    •  Exacerbation of pro-cyclicality
     
    16
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSAlternative Impairment Model proposed by EBF
    • The EBF has developed the Expected Loss over the Life of the Portfolio (ELLP) model
    • Determination of expected loss on a portfolio level
    • New model should not change the definition of amortized cost or the EIR calculation
    • It should separate the methodology for the recognition and presentation of interest income and credit losses
    • It should exclude credit losses from the application on the EIR
    • Methodology based on expected loss over the life of each portfolio
    • Treatment of impaired loans as in the current IAS 39
    • Impairment allowances built up to be used (not simply buffers)
    • Impairment allowances must be properly considered in the capital framework
    • ELLP model: a credible alternative to ECFM
    17
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSCriticisms of Hedge Accounting in IAS 39
    • The hedge accounting rules contained in IAS 39 are not in line with ALM practices used in many European countries
    • In particular, they do not enable banks to designate core/demand deposits as hedged items
    • Complex and restrictive effectiveness testing
    • EU hedge carve-out motivated by:
    • disproportionate and costly changes to ALM and accounting systems
    • resulting unwarranted volatility
    • Carve-out does not prohibit application:
    • individual companies may apply the ‘carved out’ provisions
    • EU Member State may make these provisions domestically mandatory
    18
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSHedge Accounting in IFRS 9
    • Crucial need for Hedge accounting principles to reflect consistently ALM practices and economic impact of hedging activities
    • Not yet a clear view of IASB proposals
    • Splitting approach
    • general hedging and financial items
    • portfolio hedge accounting and non-financial hedged items
    • Bifurcation by risks
    • Tentative “full” cash flow hedge accounting approach
    • A number of simplifications (documentation, etc) under examination
    19
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSUS-GAAP Update in a Nutshell
    • FASB has published a proposed Accounting Standards Update
    • Full Fair Value for all financial instruments with limited options for amortized cost
    • with FV changes reported in P&L or OCI
    • with OCI method differing from OCI under IFRS
    • Incurred loss + Allowances for credit losses to be applied to loans and debt securities held for long-term investment and to be estimated based on "expected losses“
    • Hedge accounting allowing hedging of specific risks
    • “Reasonably effective" hedging instrument
    • Qualitative analysis of effectiveness at inception
    20
  • ACCOUNTING FOR FINANCIAL INSTRUMENTSClosing Remarks
    • Impairment and hedging likely to be delayed under IFRS
    ⇨ Is 2011 a realistic deadline for IASB?
    • Fragmented approach in development of IFRS 9 (3 phases)
    ⇨ EU endorsement process should commence only when
    all phases are complete
    ⇨ Need for appropriate lead-time for companies to start implementing
    systems
    ⇨ IASB should ensure as simple transition as possible
    • IASB and FASB announced revised convergence strategy and work plan
    ⇨ Convergence may not be sustainable in the short term
    • IASB and FASB are going in different directions and at different speeds
    ⇨ Need for equivalence and mutual recognition and
    acceptance by stock exchanges
    21