Actualia IFRS November/december 2018

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1 Actualia IFRS 2018 November/december 2018

2 Agenda Registration & opening Developments in IFRS Coffee break IFRS 16 Leases Closing 2

3 IFRSs endorsed in the EU 2018 EU endorsed IFRS 2018 EU endorsed Amendments 1 FRS 15 & Clarifications to IFRS 15: Revenue from Contracts with Customers 1 Amendments to IAS 40: Transfers of Investment Property 2 IFRS 9: Financial Instruments 2 Amendments to IFRS 2: Classification and Measurement of Share-based Payment Transactions 3 IFRIC 22: Foreign Currency Transactions and Advance Consideration 3 Annual Improvements to IFRSs Cycle 4 Amendments to IFRS 4: Applying IFRS 9 Financial Instruments with IFRS 4 Insurance Contracts 2019 EU endorsed IFRS & Amendment 1 FRS 16: Leases 2 Amendments to IFRS 9: Prepayment Features with Negative Compensation 3

4 IFRSs not yet endorsed by EU IASB effective date Narrow-scope amendments New standards Amendment to IAS 28: Long-term Interests in Associates and Joint ventures Annual Improvements to IFRS Standards Cycle Amendments to IAS 19: Plan Amendment, Curtailment or Settlement Amendments to References to the Conceptual Framework in IFRS Standards IFRS 17 Insurance Contracts IFRIC 23 Uncertainty over Income Tax Treatments 4

5 IFRIC 23 Uncertainty over Income Tax Treatments What is the key question? Analysing uncertain tax treatments 5

6 IFRIC 23 Uncertainty over Income Tax Treatments What is the impact? Analysing uncertain tax treatments IMPACT 6

Top 5 questions IFRS 9 & IFRS 15 1 2 3 4 5 #1 Under IFRS 9, how should I account for modification of amortised cost loan cash flows? #2 Under IFRS 9, how can I measure expected credit losses (ECLs)?

7 Top 5 questions IFRS 9 & IFRS #1 Under IFRS 9, how should I account for modification of amortised cost loan cash flows? #2 Under IFRS 9, how can I measure expected credit losses (ECLs)? #3 How to eliminate ECLs on intercompany receivables in combi-3 parent company financial statements? #4 Under IFRS 15, can shipping and handling activities be a separate performance obligation (step 2)? #5 Can FRS 15 have impact on the capitalisation of borrowing costs? 7

8 IFRS 9 and modification of amortised cost loan cash flows (1) IFRS 9 changes common practice under IAS 39 for accounting for modifications of loan cash flows FINANCIAL ASSETS Accounting for modification of financial assets and liabilities should be consistent (IASB clarification, October 2017). Recalculating the carrying amount is required as PV of renegotiated or modified cash flows at the original EIR. FINANCIAL LIABILITIES 8

9 IFRS 9 and modification of amortised cost loan cash flows (2) NO Cash flows changed based on existing contract conditions? YES Does modification result in derecognition? (substantial modification) YES NO Non-substantial modification DERECOGNISE Gain or loss on derecognition in P&L Recognise new financial asset/liability at fair value FIXED RATE COMPONENT Modification gain/loss directly in P&L FLOATING RATE COMPONENT Prospectively adjust effective interest rate No P&L impact on modification date! 9

10 Modification of amortised cost loan cash flows EXAMPLE Facts Company X has financial liability (loan), amount 100, measured at amortised cost. Modifications: (year end 2016) 1. repayment date extended from 2019 (old) to 2021 (new); and 2. fixed interest rate reduced from 5% (old) to 3% (new) Cash flows Carrying amount modified loan Year end Old New IAS 39 IFRS PV , ,9 Interest expense (P&L) IAS 39 (EIR 3%) IFRS 9 (EIR 5%) ,5 3 4, ,2 3 4, ,0 3 4, ,9 Total 12 19,1 Non-substantial modification (100 to 91,3 is less than 10%). Applying IFRS 9 retrospectively, the change (gain) in carrying amount at transition date (1/1/2018) of 7,1 (100 to 92,9) is recognised in retained earnings 10

11 IFRS 9 approaches to measuring ECL Approach General Has there been a significant increase in credit risk (SICR)? No Loss allowance = 12-months ECL Simplified Yes Loss allowance = lifetime ECL Choice applies to Trade receivables and contract assets with a significant financing component Lease receivables Choice does not apply to other financial assets i.e. Regular receivables like loans granted to group companies and joint-ventures Scope exemption... Low credit risk (LCRE) 11

12 Example Simplified Approach: Provision matrix Current 1 30 days past due days past due days past due More than 90 days past due Loss rate 0.3% 1.6% 3.6% 6.6% 10.6% Provision matrix based on: historical loss rates over the expected life of the trade receivables, based on analysing actual losses and payment behaviour of clients adjust for forward-looking estimates Calculation of impairment using the provision matrix: Outstanding (A) Loss rate (B) Loss allowance (A x B) Current EUR 15,000, % EUR 45, days past due EUR 7,500, % EUR 120, days past due EUR 4,000, % EUR 144, days past due EUR 2,500, % EUR 165,000 >90 days past due EUR 1,000, % EUR 106,000 EUR 30,000,000 EUR 580,000 12

13 Example General Approach: PD/LGD/EAD Facts Company X has granted a loan to an affiliated company Y 10-year term for The interest is paid annually The loan s coupon and EIR are 5% General approach 12- month ECLs is used If internal historical loss/default data are not available PD: Probability of default LGD: Loss given default EAD: Exposure at default ECL = PD * LGD * EAD ,218% 60%

ECLs in combi-3 parent company financial statements IFRS IFRS 9 expected credit loss to be recognised for intercompany receivables Impairment loss (P&L) DT 5 Receivable (B) CR 5 This creates a

14 ECLs in combi-3 parent company financial statements IFRS IFRS 9 expected credit loss to be recognised for intercompany receivables Impairment loss (P&L) DT 5 Receivable (B) CR 5 This creates a difference between consolidated and parent company equity and P&L RJ RJ Editie 2018 provide an accounting policy choice to eliminate intercompany effect of ECL s recognised on intercompany receivables Participating interest (B) DT 5 Impairment loss (P&L) CR 5 Receivable (B) DT 5 Impairment loss (P&L) CR 5 14

15 IFRS 15 Identify performance obligations (step 2) IFRS 15 five-step model: Step 1 Identify the contract Step 2 Identify performance obligations Step 3 Determine the transaction price Criterion 1: Capable of being distinct Can the customer benefit from the good or service on its own or together with other readily available resources? and Criterion 2: Distinct within the context of the contract Is the entity s promise to transfer the good or service separately identifiable from other promises in the contract? Step 4 Allocate the transaction price Step 5 Recognize revenue Distinct Performance Obligation (PO) Yes No Not distinct combine with other goods and services 15

16 Shipping and handling activities EXAMPLE Facts On December 1, 2017 S entered into contract with its overseas customer X to sell coal. S arranges the transport with carrier between the two ports Control transfers at 15 December 2017 based on Incoterms: Cost Insurance Freight (CIF) Q Are the shipping and handling activities after control has been transferred to the customer a separate performance obligation? A Yes The selling contract contains two promises (coal goods and service of delivery) that are both capable of being distinct and distinct within the context of the contract. 16

17 IFRS 15 Revenue recognition over time (step 5) IFRS 15 five-step model: A performance obligation is satisfied over time if either (IFRS 15.35): Step 1 Identify the contract Step 2 Identify performance obligations Step 3 Determine the transaction price Step 4 Allocate the transaction price Step 5 Recognize revenue Customer simultaneously receives and consumes the benefits as the entity performs Routine or recurring services The customers controls the asset as the entity creates or enhances it Asset built on customer s site The entity s performance does not create an asset for which the entity has an alternative use and there is an enforceable right to payment for the performance completed to date Asset built to order 17

18 Continuous transfer of control & borrowing costs EXAMPLE Facts Ship builder S enters into a contract with a customer to construct a ship. S borrows to finance the construction, which takes a substantial period of time. The contract contains a single performance obligation and meets the criteria in IFRS 15.35(c) for revenue to be recognised over time. Since the performance obligation is satisfied over time, S does not recognise work in progress (the ship) on its balance sheet from the start to completion Instead, S recognizes a contract asset (or receivable) Q Does the ship meets the definition of a qualifying asset under IAS 23? A No IAS 23: qualifying asset = asset that necessarily takes a substantial period of time to get ready for sale Ship under construction continuously ready for sale (contract asset) 18

19 Transfer of control at a point in time & borrowing costs EXAMPLE Facts Same as issue 1, except that the contract does not meet the criteria in IFRS 15.35(c) for revenue to be recognised over time. S does not borrow finance for the construction, but the customer pays the full consideration upfront S has concluded that: revenue from sale of ship is recognised at a point-in-time upon delivery; the ship under construction is a qualifying asset; and the contract contains a significant financing component. Q Should interest accrued on contract liabilities be capitalised under IAS 23? A Yes Imputed interest (due to the significant finance component on the contract liability) represents the cost to the entity of borrowing funds for the qualifying asset 19

20 AFM priorities 2018 Disclosures on transition to IFRS 9 and IFRS 15 IAS 8.30 disclosures, i.e. of (expected) impact IFRS 16 Non-Financial Information (NFI) 20

21 21

22 IFRS 16 Leases Business Impact Treasury Covenants Credit rating Discount rates Strategy Lease vs buy Lease structuring Sale and leasebacks Other impacts Management reporting Management remuneration Training IFRS 16 accounting change Systems & Processes System solution ERP integration Future process design Finance Transition options Data collection Tax KPIs Investor relations External communication Analyst queries 22

23 Project work streams Data and systems Processes and controls PMO Change management Accounting and reporting 23

24 IFRS 16 transition options Apply lease definition Practical expedient: only new contracts? Modified retrospective with practical expedients for operating leases Apply recognition exemptions? Short term/low value Select transition approach Full retrospective no practical expedient Apply IAS 8 1 On a lease-by-lease basis Date of equity adjustment IAS 17 IFRS 16 1 January

25 Impact assessment modelling transition options P&L expense under each option B/S asset on transition B/S liability on transition 25

Top 5 questions IFRS 16 1 #1 Is it a lease?

26 Top 5 questions IFRS 16 1 #1 Is it a lease? 2 #2 Which recognition exemptions can I use? Short-term lease how long can it be? Low-value lease how to operationalise it? 3 #3 How long is the lease? 4 #4 Which payments do I include in the lease liability? 5 #5 Can I use a single discount rate for all my leases? 26

27 IFRS 16 Question #1? Is it a lease?

28 Lease definition Identified asset? No Yes Lessee obtains substantially all of the economic benefits? No Yes Lessee directs the use? No Yes Contract is or contains a lease Contract does not contain a lease (= service, expense as incurred) 28

29 Transport is it a lease? Case A Contract specifies the goods to be transported. Supplier operates and maintains the truck, is responsible for safe passage of goods. Trucks painted in colours/logo of supplier Case B Retailer decides whether and what goods will be transported (planning) and when the transport will be done. Retailer determines the truck, supplier operates and maintains the truck, is responsible of safe passage of goods in the truck. Trucks painted in colours/logo of retailer A 29

30 IFRS 16 Question #2? Which recognition exemptions can I use?

31 Recognition exemptions for lessees Short term leases Leases of low value items 12 months and no purchase option USD5,000 (for example) and not subject to a sublease 31

events Five-year arrangement Agreement covers June,

of 12 months Lessee can purchase asset after 12 months

32 Is the lease a short-term lease? Stadium Promoter has right to stage concerts and other events Five-year arrangement Agreement covers June, July and August each year Digger Non-cancellable term of 12 months Lessee can purchase asset after 12 months Lessee is not reasonably certain to exercise the purchase option A No. (5 years * 3 months per year = 15 months > 12 months) A No. (purchase option is included; exercise not relevant) 32

33 What if the lease term changes? Building #1 Non-cancellable term of 12 months Renewable for a further 12 months by giving 1 month notice Lessee initially not reasonably certain to renew, BUT then gives notice to renew Building #2 Non-cancellable term of 12 months Renewable for a further 12 months by giving 1 month notice Lessee initially reasonably certain to renew BUT then confirms it will not renew A Short-term lease at commencement date. Notice results in lease no longer qualifying as short-term lease. A Not a short term-lease at commencement date. Confirmation does not change that qualification. 33

34 What does low value mean? Does materiality matter? Can I choose a different amount? What about inflation? What about second hand assets? Leases of low value items USD5,000 (for example) and not subject to a sublease What if exchange rates change? 34

35 Examples that may (not) qualifying for the exemption Possibly qualifying leases Office furniture, such as chairs, desks etc Personal IT equipment such as tablets, laptops etc Printers, photocopiers etc Non-qualifying leases Real estate: both office building and warehouse Company cars, both for sales personnel and senior management or varying quantity, specification and value Trucks and vans for delivery 35

36 IFRS 16 Question #3? How long is the lease?

optional termination date if lessee reasonably certain not to

37 Lease term Non-cancellable period Lease term Optional renewal periods if lessee reasonably certain to exercise Periods after optional termination date if lessee reasonably certain not to exercise Lessor-only options are ignored Reassessment at each balance sheet date 37

38 How long is the lease of the building? Lease commencement: Commencement Year 5 Lessee renewal option (not reasonably certain to be exercised) A Year 10 5 years, as lessee renewal option is not reasonably certain to be exercised. One year later: i.e. Leasehold improvements Commencement Year 1 Reassess lease term Year 5 Lessee renewal option (??? ) A Year 10 Change to remaining 9 years if leasehold improvements result in option to be reasonably certain to be exercised 38

39 Interpretation of penalties Q How long is the lease below? Commencement Year 5 Year 10 Lessee termination option End of lease term & Lessor termination option A Depends on whether the lessee and the lessor terminate without a significant economic penalty. What constitutes a penalty? Significant leasehold improvements integral to the building Costs related to terminating the contract (e.g. finding a replacement lease, negotiations and relocation costs) The importance of the building to the lessee s operations Damage of market reputation and customer relationships schwalbe 39

40 IFRS 16 Question #4? Which lease payments do I include in the lease liability?

41 Lease payments to include in the lease liability Fixed payments (including renewals, if reasonably certain) Residual value guarantees (expected amount payable) Termination penalty (if termination is reasonably certain) Purchase options (exercise price if reasonably certain) Reassess likelihood options each BSD But which variable lease payments are included in the lease liability? Expense as incurred (= service ) Payments based on an index or rate Other variable payments, i.e. payments based on sales or usage In-substance fixed payments Payments for non-lease components[*] [*] unless practical expedient applied to non-lease components 41

42 Lease payments based on CP-index (1/2) Consumer Price Index (CPI) Five year lease Starting rent of 2,500 per annum Rent increases annually by change in CPI CPI = 100 on lease commencement CPI = 105 at end of year 1 (= inflation 5%) Discount rate = 5% Year On lease commencement 1 2, , , , ,500 PV 10,825 Commencement date Debet Credit ROU-asset (B) 10,825 Lease liability (B) 10,825 Year 1 Debet Credit Depreciation (P&L) (10,825/5) 2,165 ROU-asset (B) 2,165 Lease liability (B) 1,959 Interest (P&L) (5%*10,825) 541 Cash (B) 2,500 42

43 Lease payments based on CP-index (2/2) Consumer Price Index (CPI) Five year lease Starting rent of 2,500 per annum Rent increases annually by change in CPI CPI = 100 on lease commencement CPI = 105 at end of year 1 (=inflation 5%) Discount rate = 5% Commencement date Debet Credit ROU-asset (B) 443 Lease liability (B) [1] 443 Notes: [1] 10,825 Y0 -/- 1,959 change lease liability Y1 -/- 9,309 end Y1 [2] 10,825 Y0 -/- 2,165 depreciation Y1 +/+ 443 correction end Y1 Year Rentals to include in lease liability On lease commencement Year 2 Debet Credit Depreciation (P&L) (9,103/4) [2] 2,275 ROU-asset (B) 2,275 Lease liability (B) 2,160 Interest (P&L) (5%*9,309) 465 At end of Y1 1 2, ,500 2, ,500 2, ,500 2, ,500 2,625 PV 10,825 9,309 Cash (B) 2,625 43

44 Are these payments variable or in-substance fixed? #1 Wind farm Lessee pays for wind farm based on usage (wind) No requirement to pay minimum lease payments Expected case = 1,000 Extreme low case = 700 #2 Plant hire Lessee pays a standby rate of 100 a day if the plant is idle Lessee pays a daily rate of 200 if the plant is used at any point in the day #3 Retail store Lessee pays an annual rent of 1,000 if sales for the year are below 1,000 Lessee pays annual rent of 100,000 if sales for the year are 1,000 or higher A1 Variable. (not included in the lease liability) A2 In-substance fixed. (included in the lease liability) A3 In-substance fixed. (included in the lease liability) 44

45 VAT paid by the lessee Q Should VAT that the lessee pays to the lessor be included in the lease liability? No. A VAT is a tax that is levied on the lessee and collected by the lessor who is acting as an agent for the tax authority. The lessee accounts for such VAT under IFRIC 21 Levies, and in many cases, the obligating event is the issue of each invoice by the lessor, and the lessee will recognise a liability for each VAT payment on each invoice date (and therefore not on lease commencement). 45

46 IFRS 16 Question #5? Can I use a single discount rate for all my leases?

47 Lessee discount rate two possibilities The rate implicit in the lease, if readily available OR The lessee s incremental borrowing rate WACC Why is the discount rate important? Discount rate Lease liability (5 year lease x 10,000 per annum) 3% 46,000 5% 43,000 7% 41,000 10% 38,000 Risk-free rate 47

48 Lessee Incremental Borrowing Rate (IBR) IFRS 16 key considerations/elements in IBR determination Lessee Term Amount of Borrowing Security Economic Environment Rate of interest over a Similar nature and quality similar term the underlying asset Company specific rate that reflects the credit worthiness of the company Funds necessary to obtain an asset of a similar value to the right-of-use asset Encompassing jurisdiction, currency and the date at which lease is entered into Mechanics of determining the IBR (per underlying asset) I B R To capture the economic environment in which the lease has been granted and term of the lease To capture the lessee s credit risk Risk free rate for the estimated (remaining) lease term Country risk factors (CRP and inflation differential) Credit risk spread of the lessee To capture the nature of the specific asset(s) Asset specific premium / discount (e.g. guarantees, nature of asset (i.e. discount for collateralized real estate vs. premium for customized equipment)) 48

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