IASB Exposure Draft on Classification and Measurement: Limited Amendments to IFRS 9

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1 28 March 2013 International Accounting Standards Board 30 Cannon Street London EC4M 6XH United Kingdom Dear Sir/Madam, IASB Exposure Draft on Classification and Measurement: Limited Amendments to IFRS 9 Standard Chartered Bank PLC is an international banking group, listed on the London, Hong Kong and Bombay stock exchanges. It operates in 68 markets principally in Asia, Africa and the Middle East. We welcome the opportunity to comment on the above Exposure Draft (ED). While we support the greater clarity provided with regard to a modification of terms we believe that more should be done to provide clarity over IFRS 9 as a whole and would encourage the International Accounting Standards Board (IASB) to create an implementation group to issue specific implementation guidance similar to what was done for IAS 39. We do not support the creation of the Fair Value through Other Comprehensive Income (FVOCI) category as we do not find that the information created under this category would be more useful than amortised cost. We believe that IFRS 9 should be revised to place greater emphasis on the business model and the relevance of the information created and less emphasis on subjective criteria such as frequency and reason for disposals. Additionally, while we support the ability to early adopt the own credit requirements of IFRS 9 prior to the issuance of the final standard, we would strongly encourage the IASB to instead revise IAS 39 so as to facilitate endorsement of this amendment by the EU as they have made it clear that they will not consider the endorsement of IFRS 9 as a whole until the final standard is issued. We would also recommend that the IASB act promptly to address the issue of whether IFRS 9 will become mandatory in Rather than providing another date that may subsequently deferred, we believe that the IASB should establish that the standard s mandatory adoption date will be a minimum period (at least 18 months) after the standard is finalised. This allows companies sufficient time to prepare for the significant changes that lie ahead, without undertaking activities in a rushed or inefficient manner. We provide our detailed responses to the questions posed in the ED in the attached Appendix. Please do not hesitate to contact us should you wish to discuss our comments further. Yours sincerely, Chris Innes-Wilson Group Chief Accountant Standard Chartered Bank 1 Basinghall Avenue, London EC2V 5DD Tel: +44(0) Standard Chartered Bank is incorporated in England with limited liability by Royal Charter 1853 Reference number ZC18 The Principal Office of the company is situated in England at 1 Aldermanbury Square, London EC2V 7SB Standard Chartered Bank is authorized and regulated by the Financial Services Authority under FSA register no

2 Appendix Question 1 Do you agree that a financial asset with a modified economic relationship between principal and consideration for the time value of money and the credit risk could be considered, for the purposes of IFRS 9, to contain cash flows that are solely payments of principal and interest? Do you agree that this should be the case if, and only if, the contractual cash flows could not be more than insignificantly different from the benchmark cash flows? If not, why and what would you propose instead? We basically agree with the clarifications made in the contractual cash flow characteristics assessment. However, we are not convinced that there is sufficient clarity for entities to assess whether there is a modified economic relationship and whether cash flows are more than insignificantly different from benchmark cash flows. We are also concerned that such an assessment may not result in financial instruments qualifying for amortised cost treatment despite the fact that an amortised cost measurement would provide more useful information than measurement at fair value. We are particularly concerned where there is no obvious modification or benchmark because the instrument s terms are those that are either the only terms available in that market or are the only terms available for that particular type of instrument. We suggest that the analysis of whether there is a modification should be based on the legal terms and conditions that are required or that are typical for that type of transaction in the relevant jurisdiction. The language in the standard should explicitly indicate that factors mandated by parties external to the agreement, such as regulators, should not impact the determination of whether the instrument s cash flows are only principal and interest. An example of this situation would be the constant maturity rate loans in China. In this case, it would only be possible to try to compare the actual instrument to a hypothetical instrument which does not exist and may not even be legally possible in the relevant jurisdiction. Chinese loans, including mortgage loans, are made in a rate-regulated market: interest rates and maturities are set by the People s Bank of China (PBOC). When the official rates are changed, the interest rates on all loans and deposits will change, but to prescribed rates and not a rate determined by the market. To illustrate, a five-year loan which has three years remaining will reprice according to the new rate set for five- year loans, not three year loans. Strictly reading the definition and guidance that are provided in the ED, this kind of loan would appear to need to be classified at Fair Value Through Profit or Loss (FVTPL) as there is no available benchmark instrument for a floating rate loan in China that does not have the constant maturity feature, so it will be difficult to assess the significance of the difference from an instrument that does not have this feature. Other than this constant maturity feature, these loans and deposits would be plain vanilla and therefore be consistent with the notion of time value of money and credit risk required for amortised cost treatment. We therefore see a need for the IASB to clarify whether in such a situation a regulated rate that establishes a market rate for a specific instrument meets the criteria for amortised cost. Page 2 of 5

3 In addition, we would also encourage the IASB to clarify the definition of interest in IFRS 9 to include other components of an interest rate such as liquidity, effort (the cost recovered related to originating a loan) and profit margin that are known within the industry to be common components. We believe that the definition of interest should be revised to clarify whether it includes other components that are inherent in any theoretical definition of interest and to state explicitly in the standard that liquidity risk is one of those components rather than placing this only in paragraph BC4.22 of IFRS 9 (2010). Question 2 Do you believe that this Exposure Draft proposes sufficient, operational application guidance on assessing a modified economic relationship? If not, why? What additional guidance would you propose and why? Question 3 Do you believe that this proposed amendment to IFRS 9 will achieve the IASB s objective of clarifying the application of the contractual cash flow characteristics assessment to financial assets that contain interest rate mismatch features? Will it result in more appropriate identification of financial assets with contractual cash flows that should be considered solely payments of principal and interest? If not, why and what would you propose instead? No, we do not believe that this ED proposes sufficient, operational application guidance on assessing a modified economic relationship. Nor do we believe that this proposed amendment to IFRS 9 will achieve the IASB s objective of clarifying the application of the contractual cash flow characteristics assessment to financial assets that contain interest rate mismatch features. These issues should be dealt with specifically in implementation guidance as is the case under IAS 39 so that there is clarity over specific situations, products or features of a product. While the underlying standard should be principle based, we need more detailed implementation guidance for complex issues such as this where broad-brush language will simply not provide the needed clarity. Question 4 Do you agree that financial assets that are held within a business model in which assets are managed both in order to collect contractual cash flows and for sale should be required to be measured at fair value through OCI (subject to the contractual cash flow characteristics assessment) such that: (a) interest revenue, credit impairment and any gain or loss on derecognition are recognised in profit or loss in the same manner as for financial assets measured at amortised cost; and (b) all other gains and losses are recognised in OCI? If not, why? What do you propose instead and why? We do not support the introduction of a third business model as a third category undermines the original business model principle. The IASB has stated that the clarifications to the hold to collect business model are not intended to narrow the scope of this category when compared to that in the original standard. However, we note that IFRS 9 BC4.45, states that Sales or transfers of financial instruments before maturity would not be inconsistent with a business model with the objective of collecting contractual cash flows, as long as such transactions were consistent with the business model, rather than with a business model that has the objective of realising changes in fair value. Page 3 of 5

4 The exposure draft, by putting a far greater emphasis on the volume of sales rather than on the reasons for those sales appears to narrow the scope of the amortised cost category. We believe that the business model is more a matter of fact than a matter of judgement. Where the main purpose of a portfolio and its underlying business model is to hold to collect, and sales are incidental to the business model, it should not fall into the FVOCI category simply because of concerns about the actual or potential volume of sales. We also believe that the underlying determinant of whether a financial asset is measured at amortised cost or fair value should be the decision-usefulness of the information created. For portfolios that are primarily realised through the collection of principal and interest it is clear that amortised cost is a superior measure to fair value, as fair value provides exit pricing which is not as useful in terms of the probable manner in which the asset will be realised. Therefore, it is our view that a better solution would be to maintain two classifications while putting a greater emphasis on the objectives of the business model, how such portfolios are managed and the reasons for sales being within the objective of the business model. We would also add that the inclusion of a FVOCI category serves to complicate IFRS 9 while bringing it closer to what we currently have in IAS 39. This calls into question the need for IFRS 9, when the objective was to simplify IAS 39. Question 5 Do you believe that the Exposure Draft proposes sufficient, operational application guidance on how to distinguish between the three business models, including determining whether the business model is to manage assets both to collect contractual cash flows and to sell? Do you agree with the guidance provided to describe those business models? If not, why? What additional guidance would you propose and why? Assuming that the FVOCI classification is adopted, an outcome we oppose, we believe that further work is needed in order to more clearly delineate between the three categories. Establishing a clear boundary between FVOCI and amortised cost is most important, but the boundary between FVOCI and fair value through profit or loss also should be made clearer. The basis for conclusions explains that the difference between items that are classified at amortised cost and those that are categorised at FVOCI is the frequency and significance of past sales made out of the relevant portfolio. The body of the standard indicates that if such sales are infrequent (even if significant) or insignificant both individually and in aggregate (even if frequent) then the objective of collecting the contractual cash flows would not be met. This could be made clearer by simply stating that the sales for which good reason is not evident must be both frequent and significant and then aligning the basis of conclusion with this so that the language is clear and consistent. The basis for conclusion goes on to state that it is consistent with an objective of collecting contractual cash flows to sell a financial asset when concerns are raised about the collectability of those cash flows. Still, it is unclear just how the frequency or significance of sales should be assessed to determine whether a portfolio fails to meet the hold to collect criteria. While B4.1.3 goes on to state that in determining whether cash flows are expected to be collected from contractual cash flows, the level of sales activity, as well as the reason for any sales, must be considered, there is no clarity with regard to what would be deemed significant. We are not suggesting a bright-line, but further guidance in relation to whether significant would be based on notional amounts, number of instruments, or both factors and an indication Page 4 of 5

5 whether significant would be aligned with a concept such as a material amount or a relative percentage and if a percentage would it be aligned with the concept of materiality. We would also benefit from clarity with regard to whether all portions of loans originated in a loan syndication business, where the originator intends to hold a portion of each individual loan and sell the remainder, would be within the FVOCI category. We believe that it should be appropriate to treat the portion of the loan intended to be retained at amortised cost and the portion of the loan intended for sale would be at FVPL. Therefore, it would be helpful to clarify that the business model can be applied to portions of financial instruments in such situations. Question 6 Do you agree that the existing fair value option in IFRS 9 should be extended to financial assets that would otherwise be mandatorily measured at fair value through OCI? If not, why and what would you propose instead? Yes, we agree with this provision as long as the use of the fair value option reduced or eliminated accounting mismatches. Question 7 Do you agree that an entity that chooses to early apply IFRS 9 after the completed version of IFRS 9 is issued should be required to apply the completed version of IFRS 9 (ie including all chapters)? If not, why? Do you believe that the proposed six-month period between the issuance of the completed version of IFRS 9 and when the prohibition on newly applying previous versions of IFRS 9 becomes effective is sufficient? If not, what would be an appropriate period and why? Yes, we agree that you should not be able to early adopt the partial standard once a more substantial version is available. Question 8 Do you agree that entities should be permitted to choose to early apply only the own credit provisions in IFRS 9 once the completed version of IFRS 9 is issued? If not, why and what do you propose instead? Yes, we agree that they should be able to early adopt but would prefer that instead IAS 39 be amended to facilitate regulatory approval of the provision prior to the issuance of a complete IFRS 9. We note that the IASB previously decided not to amend IAS 39 for the own credit issue, but have since issued an exposure draft in regard to novations. As a result, a timely amendment to IAS 39 would not be inconsistent with this action and we urge that this action now be taken. Amending IAS 39 would also facilitate endorsement of the amendment by the EU, as they will be able to consider this amendment separately from IFRS 9 (where they have indicated that the endorsement process would not start until all phases of IFRS 9 have been completed). Assuming the EU endorsed this amendment, it would enable EU based financial institutions to adopt the amendments much sooner. Question 9 Do you believe there are considerations unique to first-time adopters that the IASB should consider for the transition to IFRS 9? If so, what are those considerations? No comment. Page 5 of 5