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IFRS for banksBenny Verhelst
Bangkok, July 2009
Agenda
29 October, 2009© 2009 finarch. All rights reserved. 2
Topics start endIntroduction to IFRS and categories of financial instruments 13h30 14h45
break 14h45 15h15exposure draft on classification, revenue recognition and exposure draft on fair value 15h15 16h30
Introductionto IFRS/IAS
IASBPrinciple-based standards
IFRS International Financial Reporting Standards
Standards
IAS International Accounting Standards
IFRIC International Financial Reporting Interpretations Committee
Interpretation of standards
SIC Standards Interpretation Committee
Newest standards
IFRS (newest standards)IFRS 1 First-time Adoption of International Financial Reporting Standards IFRS 2 Share-based Payment IFRS 3 Business Combinations IFRS 4 Insurance Contracts IFRS 5 Non-current Assets Held for Sale and Discontinued Operations IFRS 6 Exploration for and evaluation of Mineral Resources IFRS 7 Financial Instruments: Disclosures IFRS 8 Operating Segments
Older standards
IAS 1 Presentation of Financial Statements IAS 26 Accounting and Reporting by Retirement Benefit Plans IAS 2 Inventories IAS 27 Consolidated and Separate Financial Statements IAS 7 Statement of Cash Flows IAS 28 Investments in Associates IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors IAS 29 Financial Reporting in Hyperinflationary Economies IAS 10 Events After the Balance Sheet Date IAS 31 Interests in Joint Ventures IAS 11 Construction Contracts IAS 32 Financial Instruments: Presentation IAS 12 Income Taxes IAS 33 Earnings per Share IAS 16 Property, Plant and Equipment IAS 34 Interim Financial Reporting IAS 17 Leases IAS 36 Impairment of Assets IAS 18 Revenue IAS 37 Provisions, Contingent Liabilities and Contingent Assets IAS 19 Employee Benefits IAS 38 Intangible Assets IAS 20 Accounting for Government Grants and Disclosure of Government Assistance IAS 39 Financial Instruments: Recognition and Measurement IAS 21 The Effects of Changes in Foreign Exchange Rates IAS 40 Investment Property IAS 23 Borrowing Costs IAS 41 Agriculture IAS 24 Related Party Disclosures
IAS (older standards)
IFRS Framework notions
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Objective of financial statements=provide information on the financial position, performance and changes in financial position
Framework sets out conceptsthat underlie the preparation and presentation of financial statements
the IASB likes to achieve transparency through:
1.Fair Value
2.Disclosures
IFRS Framework notions
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Accrual basis:effects of transactionsare recognised when they occur+ reported in the periods to which they relate
Going concern: Entity will continue operation in the foreseeable future
Understandability
Underlying assumptions
Qualitative characteristics
Relevance
Materiality
Reliability
Faithful representation
Substance over form
Neutrality
Prudence
CompletenessComparability
True and fair view
Timeliness
Talk the talk
to RECOGNISE:incorporate in the balance sheet or income statement
Assets Liabilities
Equity
LiabilityAssets
Statement of financial position
Resource controlled by the entity as a result of past events and from which future economic benefits are expected
Present obligation of the entity arising from past events, the
settlement of which is expected to result in an outflow of resources
Residual interest in the assets of the
entity after deducting all its
liabilities
Expense Income
Comprehensive income(P&L)
Expenses Income
to DERECOGNISE:removal of a previously recognised asset or liability from the statement of financial position (balance sheet)
to DISCLOSE:give details on (text and/or figures)
Increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases in liabilities that result in increases in equity,
other than those relating to contributions from equity participants
Decreases in economic benefits during the
accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases
in equity, other than those relating to distributions to equity
participants
USGaaprules-based standards
• FASB: issues United States Generally Accepted Accounting Principles (USGaap)
• Short-term/long-term convergence projects with IFRSe.g. IFRS 8 is almost copy/paste of SFAS 131
• Memorandum of Understanding (2008) sets out priorities and milestones to be achieved on major joint projects by 2011
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What to remember?
IFRS/IAS notionsConvergence with USGaap
Where can I get more information?
www.iasb.orgwww.fasb.org
Categories of financial instruments
July, 2009
Scope
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IAS 39
all types of financial instruments:
•loans
•deposits
•bonds
•shares (except when you have significant influence)
•derivatives (except weather derivatives)
SubsidiariesIAS 27
AssociatesIAS 28
Joint venturesIAS 31
LeasesIAS 17
Employee benefitsIAS 19
InsurancecontractsIFRS 4
Agenda
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1. Financial instruments
2. Financial assets
3. Financial liabilities
Financial instruments
Financial instrument:
Any contract that gives rise to a financial asset of one entity and a financial liability or equityinstrument of another entity
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Assets Liabilities
Equity
DebtAssets
Statement of financial position
examples:
Cash (financial asset for holder/ financial liability for central bank)
Shares/ baskets of shares (financial asset for owner/ equity for issuing company)
Contractual right to receive cash or other financial asset; e.g. Loans, bonds (financial asset for owner/ debt for issuer)
Contractual right to exchange financial assets/liabilities under conditions that are potentially unfavourablee.g. Derivatives (options, futures, swaps)
(asset if positive fair value/ liability for counterparty, and vice versa)
Financial instruments
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Contract that may be settled in the entity’s own instruments(financial asset for holder/ financial liability for central bank)
Non- derivativefor which the entity may be obliged to receive a variable number of the entity’s own equity instruments
e.g. Convertible bonds
(financial asset for owner of convertible bond/ financial liability for issuing company)
Derivative(financial asset for holder/ financial liability for issuing bank)
e.g. Warrants (options where new shares are created)
Trade date/settlement date
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Trade date: date an entity commits to purchase or sell an asset
Settlement date date an asset is delivered to or by the entity
IAS 39 allows trade date or settlement date accounting for regular way purchase or sale of financial assets
EXCEPT for DERIVATIVES: always trade date accounting!
delivery of assets is required within the timeframe established by regulation or convention in the market place concerned
Agenda
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1. Financial instruments
2. Financial assets
3. Financial liabilities
Categories
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Financial ASSETS
Loans and receivables
Held-to-Maturity
Investments(HTM)
Financial assets@ fair valueThrough P&L
Held for trading
Fair valueoption
AvailableFor Sale
(AFS)
Mixed measurement
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Loans and receivables
Held-to-Maturity
Investments(HTM)
Financial assets@ fair valueThrough P&L
AvailableFor Sale
(AFS)
INITIAL SUBSEQUENT
FairValue
+Transaction
costs
Amortisedcost
Fair valueThrough P&L
Fair valueThrough equity
Fair Value+
Transactioncosts
Fair Value
if you include transaction costs in this
category they would disappearin P&L at the
first revaluation
fair value at initial recognition
=normally
transaction price
Loans and receivables
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Loans and receivables
Amortisedcost
Tempting to put things in there
because no volatility in fair value is shown
Non-derivative financial assets with fixed or determinable payments that are not quoted in an active market other than:a.Those that the entity intends to sell immediately or in the near term, which shall be classified as held for trading, and those that the entity upon initial designates at fair value through p&l;
b.Those that the entity upon initial designation designates available for sale; or
c.Those for which the holder may not recover substantially all of its initial investment, other than through credit deterioration, which shall be classified as available for sale
What can I put in there?Mortgages, loans, unlisted bonds...
No derivatives, no shares (because
payments not determinable), no bonds listed in an active market, no loans that you intend to sell in the near future...
Categories
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Financial ASSETS
Loans and receivables
Held-to-Maturity
Investments(HTM)
Financial assets@ fair valueThrough P&L
Held for trading
Fair valueoption
AvailableFor Sale
(AFS)
Held-to-maturity
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Amortisedcost
Tempting to put things in there
because no volatility in fair value is shown
Non-derivative financial assets with fixed or determinable payments and fixed maturity that an entity has the positive intent and ability to hold to maturity other than:a.Those that the entity upon initial designation designates as at fair value through p&l;
b.Those that the entity upon initial designation designates as available for sale;
c.Those that meet the definition of loans and receivables
No derivatives, no shares (because
payments not determinable + no maturity), no loans, no bonds you intend to sell before maturity
Held-to-Maturity
Investments(HTM)
What can I put in there?Treasury bills and bonds that the bank intends to hold until maturity(ALM might put part of its portfolio here)
Held-to-maturity
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Tainting rules
During year or 2 previous years, the entity sells, reclassifies, transfers or exercises put options on more than an insignificant portion of the HTM category
Held-to-Maturity
Investments(HTM)
Penalty
1.Reclassification of ALL HTM to available for sale
2.Cannot classify other assets as HTM during the year of disposal and next 2 years
P&L impactcould be
significant
Held-to-maturity
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No tainting when
−Sale close to maturity, with minimal effect on fair value
−Sale occurs after collection of substantially all original principal
−Isolated non-recurring event beyond the entity’s control such as:
o Sale right after significant unexpected deterioration of the issuer’s creditworthiness
o Change in tax lax or regulatory environment
o Business combination that triggers the need for selling the HTM portfolio
Held-to-Maturity
Investments(HTM)
How to calculate amortised cost
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Amortisedcost
Amount @initial
recognition
Principalrepayments
Cumulativeamortisationof difference
between initial amount and
maturity amount
= - +/-
write-downfor
impairmentor un-
collectability
-
use effectiveinterest rate
method
How to calculate amortised cost
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Calculate the amortised cost:
−We buy a bond above par for 102
−the bond will be repaid in 3 years at 100
−the bond pays 6% interest
102 Fair value + transaction costs=
101,37 102 0 - 0,63= - +/- 0-1
0
0 1 2 3
-102 6 6 106
effective yield (IRR in excel)= 5,2620%
102 x 5,2620% = 5,3672 = revenue recognised in P&L for year 1
Debit current account 6
Credit bond 0,63
Credit interest income 5,37
Debit bond 102
Credit current account 102
How to calculate amortised cost
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100,70 101,37 0 - 0,67= - +/- 0-2
0 100,70 100 - 0,70= - +/- 0-3
effective yield (IRR in excel)= 5,2620%
101,37 x 5,2620% = 5,3340 = revenue recognised in P&L for year 2
Debit current account 6
Credit bond 0,67
Credit interest income 5,33
101,371
effective yield (IRR in excel)= 5,2620%
100,70 x 5,2620% = 5,2989 = revenue recognised in P&L for year 3
Debit current account 106
Credit bond 100,70
Credit interest income 5,30
What makes this complex?
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Principal repayments (partial)
prepayment
Receipt of reinvestment fee from client
Daycount conventions(360/365...)
ImpairmentFloating interest rates
Step-up interest rates
Adjustments to contractual interest rate
Accordeon-loans (changing maturities)
Full amount of debt drawn spread over a period
Categories
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Financial ASSETS
Loans and receivables
Held-to-Maturity
Investments(HTM)
Financial assets@ fair valueThrough P&L
Held for trading
Fair valueoption
AvailableFor Sale
(AFS)
Held for trading
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a. acquired principally for the purpose of selling or repurchasing in the near term
b. part of a portfolio managed together + evidence of pattern of short-term profit-taking
c. derivative(except guarantee or hedging)
What can I put in there?Derivatives, shares, bonds,
even loans you intend to trade...(typically the trading portfolio
of a bank, merchant bank/global markets)
Fair valueThrough P&L
Held for trading
Fair value option
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designated upon initial recognition as at fair value through P&L
− The instrument contains significant embedded derivative(s) that would otherwise need to be separated (IAS 39.11a)
− If it results in more relevant information:
− reduces accounting mismatch
− group of assets that are managed/evaluated on fair value basis
Why would you want this?
−alternative to hedge accounting−alternative to consolidation of certain private equity investments−avoid bifurcation of embedded derivatives−for unit-linked contracts (measurement matching for insurance)
Fair valueThrough P&L
Fair valueoption
Fair value hierarchy
Active Market
1.quoted prices are readily and regularly available2.prices represent actual an regularly occurring
market transactions on an arm’s length basis
Fair Value = amount for which
– an asset could be exchanged, – a liability settled, or – an equity instrument granted could be exchanged,
between knowledgeable, willing parties in an arm’s length transaction.
Cost
Quoted Prices in Active Market
Valuation Techniques
Subject to change by new draft IFRS
on fair value measurement
Categories
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Financial ASSETS
Loans and receivables
Held-to-Maturity
Investments(HTM)
Financial assets@ fair valueThrough P&L
Held for trading
Fair valueoption
AvailableFor Sale
(AFS)
Available for sale
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Those non-derivative financial assets that are designated as available for sale or are not classified asa.Loans and receivables
b.held-to-maturity investments
c.financial assets at fair value through P&L
No derivatives
AvailableFor Sale
(AFS)
Fair valueThrough equity
What can I put in there?Shares, bonds,...(typically the ALM portfolio
of a bank)SUNDRY
Impact of revaluations is shown in equity (other comprehensive income), and not in P&L (comprehensive income)
AFSUnquoted equity instruments
Investments in equity instruments
1. that do not have a quoted market price in an active market and
2. whose fair value cannot be determined
(+ derivatives linked to such unquoted instruments)
shall be measured at cost
CostAvailableFor Sale
(AFS)
What if you should be revaluing something but you are unable
to calculate a fair value?
Held for trading
Loans and receivables
Held-to-Maturity
Investments(HTM)
Held for trading
Fair valueoption
AvailableFor Sale
(AFS)
NOTALLOWED NOT
ALLOWED
NOTALLOWED
Tainting rule(all other HTM securities
must be reclassified as AFS)
From AFSor trading
From AFS(or trading in rare
circumstances only)
From HTMbut tainting rule applies
(or trading in rare circumstances only)
To HTMor loans andreceivables
To AFS, HTMor loans andreceivables
reclassificationsIN
reclassificationsOUT
Agenda
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1. Financial instruments
2. Financial assets
3. Financial liabilities
Categories
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Financial LIABILITIES
Other liabilities
Financial liabilities
@ fair valueThrough P&L
Held for trading
Fair valueoption
Measurement
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Financial liabilities
@ fair valueThrough P&L
INITIAL SUBSEQUENT
Fair Value+
Transactioncosts
Amortisedcost
Fair valueThrough P&LFair Value
Otherliabilities
Liabilities @ Fair value
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Financial liabilities
@ fair valueThrough P&L
Held for trading
Fair valueoption
idem as asset side
Changes in credit risk of the liability should be included in the fair value
1. you have issued convertible bonds and put them into fair value option
2. your credit rating deteriorates
3. this has a positive impact on the fair value of your convertible bonds (market value goes down which is an unrealised gain for you)
4. you need to disclose this
e.g. negativefair values ofderivatives
e.g. bonds containingan embeddedderivative that
would otherwise need to be separated
Other liabilities
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Other liabilities
Amortisedcost
All non-derivative financial liabilities that are not classified as trading or at fair value through P&L
Client deposits,savings accounts,
...
Reclassifications
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Other liabilities
Held for trading
Fair valueoption
NOTALLOWED
NOTALLOWED
reclassificationsIN
reclassificationsOUT
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What to remember?
different categoriesyour intentions matter + labels you give are very stickyclassification has an impact on revenue recognition
Where can I get more information?
IAS 32IAS 39
Intermission
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Exposure Draft:Financial Instruments:
Classification and Measurement
July, 2009
Replacing IAS 39
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− Two measurement categories (fair value and amortised cost)
− Characteristics of instrument drive measurement− Elimination of tainting rules− One impairment method
(now same bond has more severe impairment if it is in AFS than if it is HTM)
− Single classification approach (simplified accounting for ‘embedded derivatives’)
− All equity investments at fair value (through P&L or other comprehensive income/equity)
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Implications
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− Not mandatory before 2012, but early application permitted at the end of 2009;
− A lot more bonds will be classified at amortised cost
− Only shares can be revalued through equity (no more available for sale bonds)
− Clearer guidance on calculation methods for amortised cost or present value techniques
− Significant impact on disclosures to be expected
New classification
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Financial ASSETS
Amortised costFinancial assets
@ fair valuethrough P&L
Held for trading
Fair valueoption
Equity investments @
fair value through equity
Amortised cost
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Amortised cost
instrument has onlybasic loan features
managed on a contractual yield basis
contractual terms that give rise on specified dates to cash flows that are payments of principal and interest on theprincipal outstanding.
only if they are managed, and their performance evaluated on the basis of the contractual cash flows that are generated when held or issued
• held for trading• acquired at a discount that
reflects incurred credit losses.
financial asset or financial liability that does not meet these conditions shall be measured at fair value (profit or loss or other comprehensive income)
New classification
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Financial ASSETS
Amortised costFinancial assets
@ fair valuethrough P&L
Held for trading
Fair valueoption
Equity investments @
fair value through equity
Held for trading
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a. acquired principally for the purpose of selling or repurchasing in the near term
b. part of a portfolio managed together + evidence of pattern of short-term profit-taking
c. derivative(except guarantee or hedging)
What can I put in there?Derivatives, shares, bonds,
even loans you intend to trade...(typically the trading portfolio
of a bank, merchant bank/global markets)
Fair valueThrough P&L
Held for trading
Fair value option
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designated upon initial recognition as at fair value through P&L
Only if it eliminates or significantly reduces a measurement or recognition inconsistency (‘accounting mismatch’)
Why would you want this?
−alternative to hedge accounting−alternative to consolidation of certain private equity investments−for unit-linked contracts (measurement matching for insurance)
Fair valueThrough P&L
Fair valueoption
New classification
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Financial ASSETS
Amortised costFinancial assets
@ fair valuethrough P&L
Held for trading
Fair valueoption
Equity investments @
fair value through equity
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Equity investments @
fair value through equity
• irrevocable election to present in other comprehensive income subsequent changes in the fair value of investments in equity instruments (not held for trading)
• dividends from those investments recognise in other comprehensive income (when the entity’s right to receive payment is established)
• No recycling of gains and losses to profit or loss is allowed
• No impairment requirements are necessary
Reclassifications
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NOTALLOWED
NOTALLOWED
reclassificationsIN
reclassificationsOUT
Amortised cost
Financial assets@ fair valuethrough P&L
Equity investments @
fair value through equity
Categories
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Financial LIABILITIES
Other liabilities
Financial liabilities
@ fair valueThrough P&L
Held for trading
Fair valueoption
Reclassifications
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Other liabilities
Held for trading
Fair valueoption
NOTALLOWED
NOTALLOWED
reclassificationsIN
reclassificationsOUT
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What to remember?
New categoriesReclassifications possible in 2009
Where can I get more information?
Exposure draft on Financial Instruments: Classification and measurement
IAS 39
IAS 18 Revenue:interest
July, 2009
Revenue shall be recognised when
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Recognition in profit or loss
Risks and rewardshave been transferred
Seller retains no continuing managerial involvementor effective control over goods sold
Amount can be measured reliably
Economic benefits of transaction will flow to the entity
Costs incurred fortransaction can bemeasured reliably
Interests, royalties, dividends
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What? IFRS definition Revenue recognition
interest charges for the use of cash or cash equivalents or amounts due
recognised using effective interest method (IAS 39.9 + AG5-AG8)
royalties charges for the long-term assets (e.g. patents, trademarks, copyrights, and computer software)
recognised on accrual basis
dividend distributions of profits to holders of equity investments in proportion to their holdings
when shareholder’s right to receive payment is established (different treatment for investment in associates IAS 28)
Financial service fees
PURPOSE determines accounting:
1. Fees part of the effective interest rate
2. Fees earned as services are provided
3. Fees earned on the execution of a significant act
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Recognised in P&L as services are provided
SPREAD fee as adjust-ment to effective interest
rate (except (held for) trading)
Recognised in P&L when significant act
is completed
In which periodshould I show this fee
in P&L?
Fees part of effective interest rate
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ORIGINATION FEESreceived relating to creation of financial ASSET
Deferred because they generate an involvementwith the resulting financial instrumente.g. fee for evaluating borrower condition, for evaluating and recording guarantees,
collateral and other security arrangements, negotiating terms of instrument,preparing and processing documents, and closing the transaction
COMMITMENT FEESreceived to originatea loan (loan commitment outside IAS 39)
Fee for loan commitmentFEE = compensation for ongoing involvementIf the commitment expires (e.g. client decided not to draw on the credit line), the commitment fee can be taken into P&L on expiry
ORIGINATION FEESreceived on issuingfinancial LIABILITIES(at amortised cost)
Generates involvement with the financial liabilityCommitment fee and related transaction costs included in the initial carrying amount of the financial liability
Fees EARNEDas services are provided
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Fees for SERVICING a loan
Recognised as revenue as services are provided
COMMITMENT FEESreceived for unsuc-sessful originations(loan commitment outside IAS 39)
When unlikely that lending arrangement will be entered into, fee recognised as revenue ona time proportion basis over commitment period
Investment management fees
Fees charged for managing investments recognised as revenue as services are provided(except if incremental costs can be identified seperately + measured reliably +probable that they will be recovered, then recognised as asset + amortised)
Fees EARNEDon execution of SIGNIFICANT ACT
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Commision on allotment of shares
Recognised as revenue when shares have been allotted
Placement feesfor arranging a loan between a borrower and an investor
Recognised as revenue when loan has been arranged
Loan syndication fees
1. arranging entity retains no part of loan: recognised as revenue when syndication is completed
2. arranging entity retains a part for itself:a. if same interest rate as other participants:
recognise as revenue when syndication is completed
b. if different interes rate: amortise as part of effective interest rate
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What to remember?
What to spread and what not
Where can I get more information?
IAS 18IAS 39
Fair Value considerations
July, 2009
Agenda
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1. Current definitions
2. Future IFRS
3. Fair value hierarchy
4. Valuation techniques
5. Cost
DefinitionIFRS 2.A
amount for which
– an asset could be exchanged, – a liability settled, or – an equity instrument granted could be
exchanged, between knowledgeable, willing parties in an arm’s length transaction.
Assets Liabilities
Equity
DebtAssets
Statement of financial position Fair Value
Problems current standards
Lack of guidance when to go from one level to another, and when to go back ...
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Valuation Techniques
Cost
Quoted Prices in Active Market
?
?
Significant impact on what price to use for revaluing portfolios
When is a market no
longer active?
Agenda
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1. Current definitions
2. Future IFRS
3. Fair value hierarchy
4. Valuation techniques
5. Cost
Future IFRS on Fair Value
• Single source of guidance for all fair value measurements
• Clarification of definition of fair value• Convergence with USGAAP standard
SFAS 157• Enhanced disclosure:
• extent of use of Fair Value • inputs used
Exposure draft for new IFRS
new definition
price that would be
received to sell an asset or
paid to transfer a liability
in an orderly transaction betweenmarket participants at the measurement date.
amount for which
– an asset could be exchanged, – a liability settled, or – an equity instrument granted could
be exchanged, between knowledgeable, willing parties in an arm’s length transaction.
Fair Value Fair Value
newIFRS on
Fair Value
PRICE
Transaction
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A transaction that assumes exposure to the market for a period before the measurement date to allow for marketing activities that are usual and customary for transactions involving such assets or liabilities
it is not a forced transaction(e.g. a forced liquidation or distress sale).
orderly transaction
absence of an actual transaction
assume a hypothetical transaction considered from the perspective of a participant who holds the asset or owes the liability
Transaction
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most advantageous market
•market that maximises the amount that would be received to sell the asset or •minimises the amount that would be paid to transfer the liability,
after considering transaction costs and transport costs.
= principal market
market with the greatest volume and level of activity for the asset or liability.
(provided entity can access that market)
orderly transaction
takes place in most advantageous market
presumed to be the market in which the entity would normally enter into a transaction
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Buyers and sellers in the most advantageous market for the asset or liability that are:
independent of each other, i.e.
not relatedparties (IAS 24)
knowledgeable, i.e. sufficiently informed to
make an investment decision and are
presumed to be as knowledgeable as the
reporting entity about the asset or liability
able to enter into a transaction for the asset or liability; and
willing to enter into a transaction for the asset or liability, i.e. they are motivated but not forced or otherwise compelled to do so.
market participants
Agenda
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1. Current definitions
2. Future IFRS
3. Fair value hierarchy
4. Valuation techniques
5. Cost
Fair Value Hierarchy
Cost
Level 3
Level 2
Level 1
quoted prices in active markets for the same instrument (i.e. without modification or repackaging)
quoted prices in active markets for similar assets or liabilities or other valuation techniques for which all significant inputs are based onobservable market data
valuation techniques for which any significant input
is not based on observable market data.
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A market in which transactions for the asset or liability take place with sufficient frequency and volume to provide pricing information on an ongoing basis.
active marketactive market
1.quoted prices are readily and regularly available
2.prices represent actual an regularly occurring market transactions on an arm’s length basis
new
NOT active markets
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indicators
significant decrease in
volume/ level of activity
quotations vary substantially over
time or among market makers
few recent transactions
price quotations not based on current
information
previously highly correlated indices now uncorrelated
significant increase in implied liquidity premiums, yields or performance indicators
wide bid-ask spread
significant decline for new issues
little information released publicly
if market is not active, a change in valuation technique may be appropriate
NOT orderly
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indicators not orderly
there was a usual and customary marketing period, but the seller marketed the asset or liability to a single market participant
there was not adequate exposure to the market for a period before the measurement date to allow for marketing activities that are usual and customary
Even if a market is not active, it is not appropriate to conclude that alltransactions in that market are not orderly (i.e. are forced or distress sales)
seller is in or near bankruptcy or receivership (i.e. distressed) or the seller was required to sell to meet regulatory or legal requirements (i.e. forced)
transaction price is an outlierwhen compared with other recent transactions for the same or similar asset or liability
Initial recognition
Transaction price = best evidence of fair valueUnless...
• Transaction is between related parties• Transaction under duress/ seller is forced to accept the
price in the transaction• Different unit of account• Market is different than the most advantageous
market
But if…
transaction price differs from fair value, the entity recognises the resulting gain or loss in profit or loss unless IFRS requires otherwise
Day One Profit or Lossnew IAS 39.AG76A
Day one profit or loss: fair value at initial recognition differs from the transaction price
fair value +
transaction costs that are directly attributable (for financial instruments not held at fair value)
According to the classification
Fair value is evidenced by •comparison with other observable current market transactions in the same instrument or•based on a valuation technique whose variables include only data from observable markets
Level 2
Level 1
e.g. below market loans to employees:
difference recognised in p&l as employee benefit
Day One Profit or Lossnew IAS 39.AG76A
Day one profit or loss: fair value at initial recognition differs from the transaction price
defer the difference between the fair value at initial recognition and the transaction price
recognise that deferred difference as a gain or loss only to the extent that it arises from a change in a factor (including time) that market participants would consider in setting a price.
Fair value is NOT evidenced by •comparison with other observable current market transactions in the same instrument or•based on a valuation technique whose variables include only data from observable markets
Level 3
Liabilities
Fair value of a liability
• if no observable market price, use same methodology as corresponding asset
• adjust the observed price for the asset for features that are present in the asset but not present in the liability
• If no corresponding asset, use present value techniques to estimate price market participants would demand to assume liability
• Do not ignore information about market participants that is reasonably available
• Fair value reflects non-performance risk = risk that an entity will not fulfil an obligation (includes credit risk)
• Restrictions on ability to transfer do not affect fair value of a liability
Spread : amount by which the ask price exceeds the bid
BIDprice a buyer is willing to pay for a
security
ASKprice a seller is willing to accept for a security, also known as the offer
price
≤
• price within the bid-ask spread that is most representative of fair value shall be used to measure fair value, regardless of where the input is categorised in the fair value hierarchy.
• New IFRS does not preclude the use of mid-market pricing as a practical expedient for fair value measurements within a bid-ask spread.
• If a bid-ask spread is not observable directly or indirectly (similar asset or liability), an entity need not undertake exhaustive efforts to estimate a bid-ask spreadLevel 1
Agenda
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1. Current definitions
2. Future IFRS
3. Fair value hierarchy
4. Valuation techniques
5. Cost
Valuation Technique
establish what the transaction price wouldhave been in an arm’s length exchange motivated by normal business considerations
Valuation Techniques
Valuation Techniques
estimate the price at which an orderly transaction would take place between market participants at the measurement date
new
Level 3
Level 2
highest and best use
highest and best use
use of an asset by market participants that would maximise the value of the asset or the group of assets and liabilities (eg a business) within which the asset would be used.
in-usevaluation premiseA basis used to determine the fair value of an asset that provides maximum value to market participants principally through its use in combination with other assets and liabilities as a group.
in-exchangevaluation premise
A basis used to determine the fair value of an asset that provides maximum value to market participants principally on a stand-alone basis.
To be used for fair value of financial asset
or
Physically possible
Legally permissible
Financially feasible
Valuation Technique
Valuation Techniques
uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities
market approach income approach cost approach
uses valuation techniques to convert future amounts (e.g. cash flows or income and expenses) to a single present (discounted) amount.
Value indicated by current market expectations about those future amounts. e.g. present value techniques, option pricing models (Black-Scholes-Merton)
reflects the amount that would currently berequired to replace the service capacity of an asset (current replacement cost)
inputs
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unobservable inputs
1.Inputs for which market data are not available and 2.that are developed on the basis of the best information available about the assumptions that market participants would use when pricing the asset or liability.
observable inputs
1.Inputs that are developed on the basis of available market
data and 2.reflect the assumptions that market participants would use
when pricing the asset or liability.
Level 3
Level 2
Agenda
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1. Current definitions
2. Future IFRS
3. Fair value hierarchy
4. Valuation techniques
5. Cost
Cost Unquoted equity instruments IAS39.AG80-81
Investments in equity instruments
1. that do not have a quoted market price in an active market and
2. whose fair value cannot be determined
(+ derivatives linked to such unquoted instruments)
shall be measured at cost
Cost
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What to remember?
Fair value hierarchyDay one profit or lossdraft new IFRS
Where can I get more information?
IAS 39Exposure draft IFRS 7Exposure draft new IFRS on Fair Value Measurement
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