IFRS: Derivative Accounting Direction

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There has been almost no activity by US standard setters with regards to derivative accounting since 2010 the IASB has reached a series of conclusions that they plan to issue before July as IFRS definitive guidance on Derivative and Hedge Accounting. In this session we will review the IASB direction, comparing and contrasting those conclusions with both current guidance under ASC815 and the FASBs proposed changes. This will result in substantial differences for entities preparing separate financials for their international entities.

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IFRS: Derivative Accounting Direction

  1. 1. IFRS:Derivative Accounting Direction April 17th, 2012Presented by:Helen Kane, President
  2. 2. International Financial Reporting Standard • IAS were issued 1973 – 2001 by IASC • In 2001, the IASB replaced IASC • Standards IASB issued are called IFRS • 110 countries have either adopted or allow IFRS © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 2 rendering of accounting advice and is not a substitute for such professional advice or services.
  3. 3. Background • August 2008, the SEC proposed that IFRS replace U.S. GAAP: phase-in by 2014 • July 2011 …the issue and the decision about potentially incorporating IFRS into the U.S. reporting regime is a major decision for this agency…must carefully consider and deliberate whether incorporating IFRS into our financial reporting system is in the best interest of U.S. investors and of U.S. markets. • Commission directed the staff to execute a work plan • Nov 2011, the SEC staff prepared a comparison of US GAAP and IFRS © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 3 rendering of accounting advice and is not a substitute for such professional advice or services.
  4. 4. Current Events - IASB Project exists to replace IAS 39 with IFRS 9 • Phase 1-- Classification and Measurement • Phase 2-- Amortized Cost and Impairment, • Phase 3-- Issued Hedge Accounting Exposure Draft, 6/11 To be applied prospectively for annual periods beginning on or after 1/1/15 with early application permitted (for all of IFRS 9) • Staff draft released to web Q2 2012 • Release of Hedge Accounting Guidance 2nd half 2012 © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 4 rendering of accounting advice and is not a substitute for such professional advice or services.
  5. 5. Current Events - FASB Project exists to replace Financial Instruments Guidance including Hedge Accounting • ASU Issued on Derivatives & Hedge Accounting Exposure Draft, 5/2010 • ………………………………………………. © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 5 rendering of accounting advice and is not a substitute for such professional advice or services.
  6. 6. Exposure Draft ObjectivesIFRS: • A comprehensive review of hedge accounting requirements, to establish a more objective- based approach to hedge accounting and align it with an entitys risk management processesFASB: • Simplify hedge accounting to improve compliance • Make financial reporting of hedge activities useful and transparent © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 6 rendering of accounting advice and is not a substitute for such professional advice or services.
  7. 7. Comparison Flow IFRS 9 Preliminary Conclusions © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 7 rendering of accounting advice and is not a substitute for such professional advice or services.
  8. 8. Comparison FlowASC 815 ASC 815 Current GuidanceASC- ED ASC-Proposed Update Exposure Draft May 26, 2010 © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 8 rendering of accounting advice and is not a substitute for such professional advice or services.
  9. 9. “Virtual Derivatives” - IFRS• Normal Purchase Normal Sale is Assumed • “Own Use” contracts may take the fair value option under IFRS 9 • Only if doing so eliminates or significantly reduces an accounting mismatch © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 9 rendering of accounting advice and is not a substitute for such professional advice or services.
  10. 10. “Virtual Derivatives” – US GAAPASC 815• Documentation required to scope out normal purchase/normal sale contracts from Derivative Accounting requirements• Climatic/geological contracts scoped outASC- ED• No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 10 rendering of accounting advice and is not a substitute for such professional advice or services.
  11. 11. Qualifying Hedge Instruments - IFRS • Nonderivative financial assets and liabilities measured at fair value in P&L eligible as hedging instrument • Interco balances can be designated for FX risk only • Combination of written and purchased option purchased as single or multiple contracts (cannot be net written option) © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 11 rendering of accounting advice and is not a substitute for such professional advice or services.
  12. 12. Qualifying Hedging Instrument – US GAAPASC 815• Non derivative financial instruments are not permitted to be a hedging instrument (except as FX hedges of Net Investment or Fair Value)ASC- ED No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 12 rendering of accounting advice and is not a substitute for such professional advice or services.
  13. 13. Qualifying Hedged Risks- IFRS• “something other than the entire fair value change or cash flow variability of an item, i.e. a component” • Separately identifiable and reliably measured • For financial and non-financial items • New non-financial examples • Inflation: with warnings and examples of when inflation does/does not qualify © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 13 rendering of accounting advice and is not a substitute for such professional advice or services.
  14. 14. Qualifying Hedged Risks – US GAAPASC 815• Hedged risk limited to: • Benchmark interest rates • Foreign Exchange • Credit • OverallASC- ED No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 14 rendering of accounting advice and is not a substitute for such professional advice or services.
  15. 15. Hedged Items - IFRS• Equity Investments designated at fair value through OCI under IFRS 9 • Note: Under currency accounting gains and losses on AFS securities are recorded in P&L, therefore special hedge accounting not required to align currency earnings effect of hedge with security• Layer-based designation of a hedged item • Limitations if hedged item is prepayable © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 15 rendering of accounting advice and is not a substitute for such professional advice or services.
  16. 16. Qualifying Hedged Risks – US GAAPASC 815• Cash flow or fair value accounting permitted to align currency related earnings effect of hedge and AFS Security• Fair value and net investment underlying designated as proportionASC- ED No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 16 rendering of accounting advice and is not a substitute for such professional advice or services.
  17. 17. Hedged Items - IFRS• Groups/Net Positions • Designation of an aggregated exposure permitted • Longs & shorts may be aggregated • Grossed up for tracking • Netting may equal nil position • Cash flow hedges of net positions would available only for hedges of foreign currency risk • No alignment required on timing of aggregated exposures in income • Gains & losses on net positions to a separate line item in the income statement • Not the line items affected by the transactions © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 17 rendering of accounting advice and is not a substitute for such professional advice or services.
  18. 18. Qualifying Hedged ItemsASC 815• Groups of similar items can be hedged together• Back to back hedging allows centralized treasury to hedge netted exposures from different entitiesASC- ED No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 18 rendering of accounting advice and is not a substitute for such professional advice or services.
  19. 19. Effectiveness Testing - IFRS• Expectation of other than accidental offset and meets objective of strategy • Meet 2 criteria • There is an economic relationship between the hedged item and the hedging instrument • The effect of credit risk on the hedge instrument does override the economic relationship• No retrospective testing• No “bright lines” © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 19 rendering of accounting advice and is not a substitute for such professional advice or services.
  20. 20. Hedge Effectiveness Testing – US GAAPASC 815• Prospective and retrospective testing required at inception and each reporting date • Short-Cut, Matched Terms, critical term comparison, dollar-offset analysis, regression• “Highly Effective” ExpectationASC- ED • Inception evaluation with limited additional testing • Qualitative Evaluation • Reasonably Effective • No Short-Cut • No Matched Terms• © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 20 rendering of accounting advice and is not a substitute for such professional advice or services.
  21. 21. Effectiveness Testing - IFRS• Balancing/Rebalancing • Ensure that hedge relationship does not produce and unbiased result: reduce ineffectiveness • Precludes balancing to achieve an accounting outcome • Rebalance required when notional on instrument or hedged item changes in response to changes in hedge ratio• The replacement or rollover of a hedge instrument is not an expiration (dedesignation) if contemplated in documentation © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 21 rendering of accounting advice and is not a substitute for such professional advice or services.
  22. 22. Hedge Effectiveness Testing – US GAAPASC 815• No prohibition against deliberate mismatch of hedge item and derivative to create over or under hedging• Changes in any of the critical terms of the instrument or hedged item would require dedesignationASC- ED No significant change in mismatch Adjustments to derivative notionals will require amendment of inception documentation, not dedesignation © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 22 rendering of accounting advice and is not a substitute for such professional advice or services.
  23. 23. Time Value Accounting - IFRS• Options • Time value reclass to income depends on transaction type: • Amortizes “rationally” over the life of the existing asset/liability • Recorded when hedged transaction impacts earnings• Forwards • Amortize forward points at designation “rationally over time”• Offset to OCI• No geography discussion © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 23 rendering of accounting advice and is not a substitute for such professional advice or services.
  24. 24. Time Value Accounting – US GAAPASC 815• For hedges of intrinsic value record option time value changes in P&L to reflect market changes• For hedges of total changes under G20 concepts effective time value is reclassified to P&L with hedged itemASC- ED Option premium expense to amortized to income in “rational way” Offset to OCI Nothing specific on geography © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 24 rendering of accounting advice and is not a substitute for such professional advice or services.
  25. 25. Cash Flow Accounting - IFRS• Values in OCI will be reclassed to balance sheet rather than held until earnings impact © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 25 rendering of accounting advice and is not a substitute for such professional advice or services.
  26. 26. Qualifying Hedged Items – US GAAPASC 815• Values in OCI will be reclassed to income when the hedged item impacts earningsASC- ED No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 26 rendering of accounting advice and is not a substitute for such professional advice or services.
  27. 27. Voluntary Dedesignation- IFRS• No voluntary dedesignation when strategy and objective have not changed • Proactive rebalancing available • Guidance will expand to highlight hedge relationships that “automatically convert to a natural hedge” (FX) • Change in hedge objective can terminate relationship © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 27 rendering of accounting advice and is not a substitute for such professional advice or services.
  28. 28. Voluntary Dedesignation – US GAAPASC 815 Company permitted to dedesignate hedge relationship Automatic dedesignation of fx recognizedASC- ED No voluntary dedesignation Compensating contract must be documented to cease hedge relationship © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 28 rendering of accounting advice and is not a substitute for such professional advice or services.
  29. 29. Qualifying Hedged ItemsASC 815 IAS 39FX risk on firm or anticipated FX risk on firmly committed acquisition of business not a acquisition of business qualifying hedged item qualifies for special hedge accounting • Gain/loss reclassed to income with impairment or disposal of entityASC- ED IASB-ED No significant change No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 29 rendering of accounting advice and is not a substitute for such professional advice or services.
  30. 30. Hedge Accounting for Cash Flow ExposuresASC 815 IAS 39Gains/losses on anticipated Gains/losses on anticipated transactions possible but transactions stay in OCI until no not probable of occurring longer expected to occur stay in OCI until probable No specified 2-month extension of not to occur hedge period2 additional months for hedged item to occurASC- ED IASB-ED No significant change No significant change © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 30 rendering of accounting advice and is not a substitute for such professional advice or services.
  31. 31. Hedge Accounting for Net InvestmentASC 815 IAS 39Gains/losses on Net Investments Gains/losses on Net Investments in remain in OCI/CTA until OCI/CTA reclassified upon substantial liquidation of disposal or partial disposal of subsidiary foreign operationASC- RECENT ED IASB-ED Gains/losses on Net No significant change Investments in OCI/CTA reclassified upon disposal or partial disposal of foreign operation © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 31 rendering of accounting advice and is not a substitute for such professional advice or services.
  32. 32. Resources
  33. 33. IASB Exposure DraftFASB Invitation to Comment: Background Questions (from FASB) for Respondents High Level Comparison Original IASB Exposure Drafthttp://www.fasb.org/cs/ContentServer?site=FASB&c=Document_C&pagename=FASB% 2FDocument_C%2FDocumentPage&cid=1176158233827 IASB Exposure draft direct: Guidance, Basis for Conclusions, Illustrationshttp://www.ifrs.org/Current+Projects/IASB+Projects/Financial+Instruments+A+Replacement+of+I AS+39+Financial+Instruments+Recognitio/Phase+III+-+Hedge+accounting/edcl/ed.htm © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 33 rendering of accounting advice and is not a substitute for such professional advice or services.
  34. 34. Additional resources • Deloitte (http://www.iasplus.com) • IASB (www.iasb.org) • FASB (www.fasb.org) • Securities and Exchange Commission (www.sec.gov) © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 34 rendering of accounting advice and is not a substitute for such professional advice or services.
  35. 35. ASC Update Reference ParagraphsASC- Proposed Update Derivative & Hedging Guidancehttp://www.fasb.org/cs/BlobServer?blobcol=urldata&blobtable=MungoBlobs&blobkey=id&blobwher e=1175823559151&blobheader=application%2FpdfQuestions from FASB on hedging • Questions 56-58 and 61-64Proposed guidance: ¶110-128Implementation guide: ¶IG172-180Background/conclusions: ¶ BC216-235http://www.fasb.org/cs/ContentServer?c=Document_C&pagename=FASB%2FDocumen t_C%2FDocumentPage&cid=1176156904144 © 2012 Hedge Trackers, LLC This publication contains general information and does not represent the 35 rendering of accounting advice and is not a substitute for such professional advice or services.
  36. 36. Questions
  37. 37. Answers hkane@hedgetrackers.com Hedge Trackers, LLCSilicon Valley, Chicago, Los Angeles (408) 350-8580 www.hedgetrackers.com

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