2. A Standard for financial instruments
2
Classification and measurement of financial assets and financial
liabilities
Impairment
Hedge accounting
IFRS
9
3. Scope
3
Can the contract be settled net in cash or
another financial instrument, or by exchanging
financial instruments, as if the contract was a
financial instrument?
Has the contract been entered into and continues to
be held for the purpose of the receipt or delivery of a
non-financial item in accordance with the entity’s
expected purchase, sale or usage requirements (own
use exemption)?
Has the entity chosen to irrevocably designate the
contract at fair value through profit or loss in order to
eliminate or significantly reduce a recognition
inconsistency (accounting mismatch)?
Outside the scope of IFRS 9
Apply
IFRS 9
Yes No
Yes
Yes
No
No
4. Scope
IN or OUT (IFRS 9)?
Loan to
Related Party
Revenue from
Sales of
Inventories
Loan to Staff
Trade
Receivable
Lease of Cars
Hire Purchase
Purchase of
PPE
Purchase of
Bonds
Issue of
Commercial
Paper
4
5. Initial recognition
Principle
• recognize a financial asset or financial liability
when, and only when, the entity becomes a party
to the contractual provisions of the instrument
Trade date or settlement date accounting
• accounting policy choice by class of asset – but
apply same method consistently (treating assets
mandatorily at fair value through profit or loss,
assets designated at fair value through profit or
loss and investments in equity instruments for
which fair value is presented in other
comprehensive income as a separate classes)
• only for ‘regular way’ purchases or sales (contract
must not permit net settlement)
5
• Trade date → date an entity commits itself to purchase or sell an asset
• Settlement date → date an asset is delivered to or by an entity
7. Classification Financial assets
7
Cash flows are solely
payments of
principal and
interest (SPPI)
Business
model = hold
to collect
Business
model = hold
to collect and
sell
Other
business
models
Other types of cash
flows
Amortised cost FVOCI*
FVTPL FVTPL
FVTPL
FVTPL
*Excludes investments in equity instruments. An entity can elect to present FV changes in OCI.
Step 1
Step 2
8. Classification of financial assets
Fair value through profit or loss (FVTPL)
Residual category
If a financial asset does not
fit in another category it is
automatically FVTPL
Fair value option
Designated at initial
recognition - eliminates or
reduces accounting
mismatch
Note: the option to
designate is irrevocable
8
9. Classification of financial assets
Fair value through other comprehensive income
Requirements for investments in equity instruments
• Irrevocable election for particular investments in equity instruments that would
otherwise be measured at FVTPL
• Condition: neither held for trading nor contingent consideration (IFRS 3)
Held for trading (definition)
• Acquired or incurred principally for the purpose of selling or repurchasing it in the
near term
• Part of a portfolio of identified financial instruments that are managed together and
for which there is evidence of a recent actual pattern of short-term profit-taking
• Derivative (except for a derivative that is a financial guarantee contract or a
designated and effective hedging instrument)
9 Election made on an instrument-by-instrument basis
10. Contractual cash flow characteristics (step 1)
Financial assets with contractual cash flows that are solely payments of principal
and interest (SPPI) are measured at amortised cost or FVOCI depending on the
business model in which the asset is held.
Principal = amount transferred by holder (fair value at initial recognition)
Interest is consideration for:
◦ time value of money and credit risk;
◦ other lending risks (for example, liquidity risk);
◦ other associated costs (for example, administrative costs); and
◦ a profit margin
10
11. Contractual cash flow characteristics (step )
Exception for regulated rates
◦ government or regulatory authority sets interest rates where the time value of money (TVM)
element does not provide consideration for only the passage of time
◦ the regulated interest rate may be a proxy for the TVM element if the rate provides
consideration that is broadly consistent with the passage of time and does not provide
exposure to risks or volatility that is inconsistent with a basic lending arrangement
Simplified the test for a modified economic relationship:
◦ the TVM element is not perfect, for example, the rate is periodically reset to an average of
short- and long-term rates
◦ assess modification of the TVM element to determine whether contractual cash flow
represent SPPI
◦ qualitative or quantitative assessment of TVM element
11
12. Contractual cash flow characteristics (Case Studies)
Solely payments of principal and interest on the principal amount outstanding?
12
Instrument A
•Instrument A is a bond with a stated maturity
date.
•Payments of principal and interest on the
principal amount outstanding are linked to an
inflation index of the currency in which the
instrument is issued.
•The inflation link is not leveraged and the
principal is protected.
Instrument B
•Instrument B is a variable interest rate
instrument with a stated maturity date that
permits the borrower to choose the market
interest rate on an ongoing basis.
•For example, at each interest rate reset date,
the borrower can choose to pay three-month
LIBOR for a three-month term or one–month
LIBOR for a one-month term
Instrument C
•Instrument E is issued by a regulated bank
with a stated maturity date.
•Pays a fixed interest rate and all contractual
cash flows are non-discretionary.
•Issuer subject to legislation that permits or
requires a national resolving authority to
impose losses on holders of particular
instruments, including Instrument E, in
particular circumstances.
•For example, the national resolving authority
has the power to write down the par amount
of Instrument E or to convert it into a fixed
number of the issuer’s ordinary shares if the
national resolving authority determines that
the issuer is having severe financial
difficulties, needs additional regulatory capital
or is ‘failing’.
13. Types of business model (step 2)
•Realise cash flows by collecting contractual payments over the life of the instrument
•Typically involve lower frequency and value of sales
•Measurement: amortised cost
Holding assets in order to
collect contractual cash
flows
• Both collecting contractual cash flows and selling – sale integral to achieving the
objective of the business model
• Typically involve greater frequency and value of sales
•Measurement: FVOCI
Both collecting contractual
cash flows and selling
financial assets
•Neither held to collect nor held to collect and for sale
•Collection of contractual cash flows is incidental to the objective of the model
•Measurement: FVTPL
Other business models
13
14. Business Model (Case Studies)
What’s the business model?
14
Instrument A
• Entity A holds investments to collect their contractual cash
flows.
• Entity A performs credit risk management activities – to
minimise credit losses.
• In the past, sales have typically occurred when the financial
assets’ credit risk has increased, i.e. credit criteria specified in
the entity’s documented investment policy no longer met.
• Infrequent sales have occurred as a result of unanticipated
funding needs.
• Reports to key management personnel focus on the credit
quality of the financial assets and the contractual return.
• Entity A also monitors fair values of the financial assets,
among other information.
Instrument B
• A financial institution holds financial assets to meet its
everyday liquidity needs.
• The entity seeks to minimise the costs of managing those
liquidity needs and therefore actively manages the return
on the portfolio.
• Return = collecting contractual payments + gains and
losses from the sale of financial assets.
• The entity holds financial assets to collect contractual
cash flows and sells financial assets to reinvest in higher
yielding financial assets or to better match the duration
of its liabilities.
• In the past, this strategy has resulted in frequent sales
activity of significant value.
• This activity is expected to continue in the future.
15. Classification: Financial liabilities
1. At fair value through profit or loss
• Held for trading, including
derivative liabilities that are not
accounted for as hedging
instruments
• Derivative liabilities that are
accounted for as hedging
instruments
• Fair value option — designated at
inception
2. Amortised cost
15
16. Reclassification: Conditions
Financial assets
• When, and only when, an entity changes its business
model for managing financial assets – expected to be very
infrequent
Financial liabilities
• An entity shall not reclassify any financial liability
16
Reclassification shall be applied prospectively from the reclassification date.
18. Measurement at Initial Recognition
18
Initial
carrying
amount
Measured at
FVTPL
Initial
carrying
amount
Measured at
other than
FVTPL
Fair value
Adjusted for
transaction Costs
Asset
Asset or Liability Liability
18
Initial
carrying
amount
=
Measured at
other than
FVTPL
19. Fair value versus transaction price
Best evidence of the fair value of a financial instrument at initial recognition is normally the transaction
price.
If fair value at initial recognition differs from transaction price:
◦ If fair value is evidenced by a quoted price in an active market for an identical asset or liability or based on valuation
technique that uses only data from observable markets
◦ Recognise the difference between the fair value at initial recognition and the transaction price as a gain or loss
◦ In all other cases:
o At initial recognition: defer the difference
o After initial recognition: recognise that deferred difference as a gain or loss only to the extent that it arises from a change in a
factor that market participants would take into account
•If part of the consideration might not be for the financial instrument itself, eg
◦ ‘Interest free’ loan to a subsidiary
◦ Providing below-market interest rate loan for rebates or minimum purchase volume regarding other items
o In the cases above, an entity measures the fair value of the financial instruments
19
20. Fair value versus transaction price (Case Studies)
20
Bond Purchased @
Discounted Price
• ABC Company bought 200 units
of MMM Bond @ a discounted
price of $95 (face value - $100). A
fee of $120 was paid to MMM at
purchase date (fee must be paid
before the bond is sold to clients).
• How much should I recognise as
fair value at initial recognition
Below market rate loan from
Parent to subsidiary
• ABC Company (Parent) availed DCB
Company (a subsidiary of ABC
Company) an interest free loan of $1
million repayable (equal repayment
amount) over 5 years. DBC pays a yearly
repayment of $200,000. Market
interest rate is 21%. ABC hopes to
leverage on the client list of DCB to
create and move its new line of
business over the next 10 years.
• You are required to:
• Advise management on the
accounting entries to pass at initial
recognition.
Below market rate loan
Staff Loan
• ABC availed a loan of $500,000 to
Jack (an employee of ABC) at a
below market rate of 1% (average
commercial bank rate is 20%) for
a period 5 years, he is expected to
pay $8,546.87 every month for
the next 60 months.
• How much should I recognise as
fair value at initial recognition
21. Subsequent measurement of financial asset
Amortised cost
Statement of financial
position
Amortised cost
Profit or loss
Interest revenue using effective
interest method
Impairment
Foreign exchange gains & losses
Gain or loss on derecognition
Other Comprehensive
Income
Nil
21
22. Amortised cost
Effective interest method is the method that is used in the calculation of the amortised cost of a financial
asset or a financial liability and in the allocation and recognition of the interest revenue or interest expense
in profit or loss over the relevant period.
Effective interest rate is the rate that exactly discounts estimated future cash payments or receipts through
the expected life of the financial asset or financial liability to the gross carrying amount of a financial asset or
to the amortised cost of a financial liability.
22
Amount at
initial
recognition
Principal
repayments
Cumulative amortisation
using effective interest
method of any difference
between initial amount
and maturity amount
- +/-
-
Loss
allowance for
financial
assets
Amortis
ed cost
=
23. Amortised cost (Case Study)
23
Bond Purchased @
Discounted Price
• ABC Company bought 200 units
of MMM Bond @ a discounted
price of $95 (face value - $100). A
fee of $120 was paid to MMM at
purchase date (fee must be paid
before the bond is sold to clients).
• How much should I recognise in
month 1 and 2
Below market rate loan from
Parent to subsidiary
• ABC Company (Parent) availed DCB
Company (a subsidiary of ABC
Company) an interest free loan of $1
million repayable (equal repayment
amount) over 5 years. DBC pays a yearly
repayment of $200,000. Market
interest rate is 21%. ABC hopes to
leverage on the client list of DCB to
create and move its new line of
business over the next 10 years.
• You are required to:
• Advise management on the
accounting entries to pass at the end
of year 1
Below market rate loan
Staff Loan
• ABC availed a loan of $500,000 to
Jack (an employee of ABC) at a
below market rate of 1% (average
commercial bank rate is 20%) for
a period 5 years, he is expected to
pay $8,546.87 every month for
the next 60 months.
• How much should I recognise in
month 1 and 2
24. Amortised cost (Case Study)
The FC of Chavelet Plc. has asked you to interest income for the period ending 31 December 2021 and the balance on the instruments
held by the company at the same date. Calculate the interest income and amortized cost balance @ 31 December 2021The instruments
are listed below:
24
N Bank/ Issuer Face value Discounted value Value date Maturity date
1 First Bank Of Ghana Plc 230,000,000.00 206,781,027.40 03 April 2021 03 April 2022
2 First City Monument Bank Plc 55,000,000.00 50,905,890.41 05 July 2020 01 January 2021
3 First Bank Of Nigeria Plc 50,000,000.00 46,242,294.52 07 May 2020 07 May 2021
4 First Bank Of Zambia Plc 50,000,000.00 47,430,821.92 10 February 2021 10 February 2022
5 First City Monument Bank Plc 80,000,000.00 75,153,315.07 03 April 2021 30 September 2021
6 First Bank Of America Plc 100,000,000.00 95,331,506.85 05 July 2020 05 July 2021
7 First Bank Of London Plc 20,000,000.00 19,125,479.45 07 May 2020 07 May 2021
8 First Bank Of Israel Plc 100,000,000.00 94,171,095.89 10 February 2021 09 August 2021
9 First Bank Of Nigeria Plc 500,000,000.00 477,643,835.60 03 April 2021 03 April 2022
25. Subsequent measurement of financial asset
Fair value through OCI (debt instruments)
Statement of
financial position
Fair value
Profit or loss
Interest revenue using
effective interest method
Impairment
Foreign exchange gains &
losses
Other Comprehensive
Income
Fair value change other
than those recognised in
profit or loss
(amounts accumulated
are recycled to P&L upon
derecognition)
25
26. Subsequent measurement of financial asset
Fair value through OCI (investments in equity instruments)
Statement of
financial position
Fair Value
Profit or loss
Dividends
Other Comprehensive Income
Changes in fair value and
foreign exchange component
(amounts accumulated never
reclassified to P&L → may be
transferred within equity)
26
27. Subsequent measurement of financial asset
Fair Value through Profit or Loss
Statement of financial
position
Fair value
Profit or loss
Changes in
Fair value
Gain or los on
derecognition
Other Comprehensive
Income
Nil
27
28. Dividends
28
• the entity’s right to receive payment of the dividend is established;
• it is probable that the economic benefits associated with the dividend
will flow to the entity; and
• the amount of the dividend can be measured reliably.
Dividends are recognised in profit or loss only when:
29. Measurement- Financial liabilities
MEASUREMENT AT INITIAL RECOGNITION
Fair value*—the price that would be paid to transfer a liability in an orderly transaction between market
participants at the measurement date.
SUBSEQUENT MEASUREMENT
It depends:
- amortised cost using the effective interest method;
- fair value through profit or loss: derivatives, liabilities accounted for under the fair value option and
other financial liabilities
29
31. Expected Loss Model
ECL = PD * LGD * EAD
Expected Loss = Probability of Default (PD) * Loss Given Default (LGD) * Exposure at Default (EAD)
◦ Probability of Default (PD): This is the probability that a counterparty would default on his loan/facility.
◦ Loss Given Default: Ratio of loss on an exposure due to default of a counterparty to the amount outstanding
◦ Exposure at Default: EAD is the amount of loss that a entity may face due to default.
Compliant with:
- Basel II
- Basel III
- Solvency II
31
33. Expected Loss Model
33
• Internal data
• External data
• Expert
judgement
(for direction)
PREPARE
DATA
• Application
scorecard
• Behavioural
scorecard
CREATE
MODEL
• Risk rating
definition
• PD
Calibration
DEFINE
RATING &
CALIBERATE
LGD MODELING
PD MODELING
EAD MODELING
- Application Score Card- Used
to score new credit
applications. To determine if
credit should be granted or not
- Behavioural Score Card- Used
for ongoing monitoring of
credit
- Expert Judgement gives
some level of direction
while forecasting expected
credit loss
- Calibrate Macro
economics
- Technique
- PD: Logistic Regression
- LGD: Linear Regression
- Internal data from credit
- External score from FICO,
Credit Bureau Score
- Technic
- Linear Regression
35. Expected Loss Model- PD
Probability of Default (PD)
◦ This is the probability that a counterparty would default on his loan/facility. Ranging between 0 and I.
◦ Two broad techniques for calculating PD: Empirical and Market-based (also known as structural or reduced-form) models
◦ Empirical approach uses historical default data to characterize counterparties that default. This is calculated with logit or
probit regressions to define a score :
◦ Z (Logit) = β0+ β1*x1 + β2*x2 + β3*x3 + β4*x4 + β5*x5 + β6*x6……….. + βk*xk
◦ β0= Intercept
◦ β1 – βk = Slopes along independent variables
◦ X1 – xk = Independent variables (values from variables from the score card)
◦ PD=
𝑒𝑧
1+ 𝑒𝑧 (EXP(CF6)/(1+EXP(CF6)))
◦ Market-based approach uses current market data about debt and/or equity to “back out” a market-driven measure of PD.
This method was developed by Merton (1974) and popularized by the company KMV (now owned by Moody’s).
35
36. Expected Loss Model- PD
1. Design Credit Score Card (Per Category)
• e.g. Product
2. Apply Credit Score Card to Historic Portfolio
3. Calculate PD (point in time)
4. Calibrate PD (point in time) with Forward Looking Information to estimate time
based PD
• Macro Economics
5. Estimate PD(12 months) and PD (LifeTime)
36
37. Expected Loss Model- LGD
Loss Given Default (LGD)
◦ Ratio of loss on an exposure due to default of a counterparty to the amount outstanding
◦ Ranging between 0 and I
◦ LGD is the percentage of the EAD that is lost in the event of a default
37
38. Expected Loss Model- LGD
1. Design LGD Sheet (Per Category)
•e.g. Product
2. Calculate LGD (point in time)
3. Calibrate LGD (point in time) with Forward Looking
Information to estimate time based PD
•Macro Economics
4. Estimate LGD(12 months) and LGD (LifeTime)
38
39. Exposure At Default
EAD = Total Drawn + (CCF * Total Undrawn)
◦ CCF= Credit Conversion Factor
◦ CCF = {Out (t)-Out (t-1)}/{L(t-1)-Out(t-1)}
◦ Out (t) – Outstanding at default at time t
◦ Out (t-1) – Outstanding at a date one year prior to default
◦ L (t-1) – Limit to the borrower at a date one year prior to default
39
41. Expected Loss Model- Incorporating Scenarios into
Expected Credit Loss
“An entity shall measure ECL of a financial instrument in a way that reflects an unbiased and probability weighted amount that is
determined by evaluating arrange of possible outcomes.” (5.5.17)
“When measuring ECL, an entity need not necessarily identify every possible scenario. However, it shall consider the risk of
probability that a credit loss occurs by reflecting the possibility that a credit loss occurs and the possibility that no credit loss
occurs, even if the possibility of a credit loss occurring is very low.” (5.5.18)
ECL= ∑ [( 𝑃𝐷𝑠1 *𝑆𝑊1 * 𝐿𝐺𝐷𝑠1) ……………….. ( 𝑃𝐷𝑠𝑘 *𝑆𝑊𝑘 * 𝐿𝐺𝐷𝑠𝑘)] * EAD
Legends
𝑃𝐷𝑠1= Probability of Default using Scenario 1
𝑆𝑊1 = Weight of Scenario 1
𝐿𝐺𝐷𝑠1= Loss Given Default using Scenario 1
𝑃𝐷𝑠𝑘 = Probability of Default using Scenario k
𝑆𝑊𝑘 = Weight of Scenario k
𝐿𝐺𝐷𝑠𝑘= Loss Given Default using Scenario k
42. GODP
Explore Courses
INFO@GODP.CO.UK, TRAINING@GODP.CO.UK ,TRAININGS@GMAIL.COM, WWW.GODP.CO.UK
N Description of Course Days Prerequisite Stream 1 Stream 2
1 IFRS 17 for Insurance 2 • N/A • Date: 12-13 April 2022
• Location: Physical and Virtual
• Date: 7 -8 July 2022
• Location: Physical and Virtual
2 IFRS Master Class 2 • N/A • Date: 14-15 April 2022
• Location: Physical and Virtual
• Date: 12-13 July 2022
• Location: Physical and Virtual
3 Ms. Excel: Advance 1 Master Class 2 • N/A • Date: 19-20 April 2022
• Location: Physical and Virtual
• Date: 14-15 July 2022
• Location: Physical and Virtual
4 IFRS 9: Advanced Financial
instruments
2 • N/A • Date: 21-22 April 2022
• Location: Physical and Virtual
• Date: 22-23 June 2022
• Location: Physical and Virtual
5 Basel II and III Masterclass
For Banks and Other financial Services
3 • N/A • Date: 26-28 April 2022
• Location: Physical and Virtual
• Date: 28-30 June 2022
• Location: Physical and Virtual
6 ECL Modeling Class 3 • IFRS 9: Advanced Financial
instruments
• Ms. Excel: Advanced Master Class 1
• Date: 9 -11 May 2022
• Location: Physical and Virtual
• Date: 28-30 July 2022
• Location: Physical and Virtual
7 Stress Testing for Banks and Other
Financial Institutions
3 • Ms. Excel: Advanced Master Class 1 • Date: 19 -20 May 2022
• Location: Physical and Virtual
• Date: 13 -14 Sept 2022
• Location: Physical and Virtual
8 Basic Financial Modeling 2 • Ms. Excel: Advanced Master Class 1 • Date: 7-8 June 2022
• Location: Physical and Virtual
• Date: 15 -16 Nov 2022
• Location: Physical and Virtual
9 Understanding Enterprise Risk 2 • N/A • Date: 26 -27 May 2022
• Location: Physical and Virtual
• Date: 29 -30 Sept 2022
• Location: Physical and Virtual