Ind AS 39 Financial Instruments

Transcription

1 Ind AS 39 Financial Instruments Contents 1. Definition 2. Classification 3. Measurement 4. Reclassification 5. Derivatives and Embedded derivatives 6. Impairment 7. Hedge Accounting 1

2 Definition Definition Financial instrument is Any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument of another entity. 2

3 Definition (Contd.) Financial asset is cash an equity instrument of another entity a contractual right: to receive cash or another financial asset from another entity to exchange financial assets or financial liabilities under favourable conditions a contract that will or may be settled in the entity's own equity instruments and is a non-derivative for which the entity is or may be obliged to receive a variable number of the entity's own equity instruments; or a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the entity's own equity instruments Definition (Contd.) Financial liability is A contractual obligation to deliver cash or other financial assets to another entity to exchange financial assets/ liabilities under potentially unfavourable conditions; or a contract that will or may be settled in the entity s own equity instruments and is: a non-derivative for which the entity is or may be obliged to receive a variable number of the entity s own equity instruments; or a derivative that will or may be settled other than by the exchange of a fixed amount of cash or another financial asset for a fixed number of the entity s own equity instruments 3

4 Examples 1. Shares of subsidiary companies- Yes. However, investment in subsidiary is not covered under Ind AS Advance given for purchase of goods No. There is no contractual right to receive cash/ other financial assets 3. Perpetual debt carrying interest at fixed rate Yes. Instrument contains contractual right to receive interest at stated rate 4. Prepaid expense No. There is no contractual right to receive cash/ other financial assets 5. Deferred tax asset No. Not arising because of contractual arrangement Examples 1. CENVAT credit receivable No. Not arising because of contractual arrangement 2. Lease deposit paid Yes. Lessee has contractual right to receive deposit at the end of term 3. USD-INR option held by the entity. The entity is buyer of the option Yes. Financial instruments also include derivatives instruments. Since the entity is option buyer, it is potentially favourable to the entity 4. Tax liability No. Tax liability arises as per the law and not contractually 5. Liability for damages under a lawsuit No. Not arising out of contractual arrangement 4

5 Classification Financial assets - categories At fair value through profit or loss Trading Designated at inception Available for sale 4 categories Loans and receivables Held to maturity 5

6 Financial assets requirements for classification Category Condition for classification At fair value through profit or loss Held for trading Designated at inception Held to maturity Non-derivative financial assets. Fixed or determinable payments & fixed maturity. No intention of trading Intention and ability to hold to maturity. Loans and receivables Non-derivative financial assets Fixed or determinable payments Not quoted No intention of trading Available for sale All equity securities not classified in FVTPL category. All financial assets not in another category. Example At fair value through profit or loss Held to maturity Available for sale Loans and receivables Equity shares traded frequently T bills/ Bonds / FDs Equity shares / bonds / mutual funds Fixed interest loan Deposits and receivables 6

7 Financial liabilities - categories At fair value through profit or loss 2 categories Other financial liabilities Trading Designated at inception: fair value option NB: Different rules apply if the above financial instruments are part of a hedging relationship Example At fair value through profit or loss Other financial liabilities Floating rate loans taken Bonds, deposits, payables, etc. 7

8 Measurement Recognition and measurement Initial recognition: An entity must recognise a financial asset or liability on its balance sheet when and only when it becomes a party to the contractual provisions of the instrument Initial measurement: items measured at FVTPL: fair value other assets/liabilities: fair value plus/minus transaction costs Subsequent measurement: derivatives and held for trading: FVTPL AFS: FV with gains/losses in OCI HTM, loan and receivables, most liabilities: amortised cost 8

9 Initial measurement transaction costs Transaction costs Financial instruments carried at amortised cost & AFS securities Financial assets Financial liabilities To be added to the amount originally recognised. To be deducted from amount originally recognised. Financial instruments Measured at FVTPL Immediately recognised in profit or loss on initial recognition Transaction costs are incremental costs that are directly attributable to the acquisition or issue or disposal of a financial asset or financial liability. Example of transaction cost are regulatory and registration fees, loan processing fees, brokerage, etc. Note : Transaction costs expected to be incurred on a financial instrument's transfer or disposal are not included in the financial instrument's measurement. Subsequent measurement - financial assets Subsequent measurement - financial assets At fair value through Profit or loss Loans and Receivables Held to Maturity Available for Sale Carried at fair value, changes taken to income statement Carried at amortised cost Carried at amortised cost Carried at fair value, changes taken to OCI 9

10 Subsequent measurement - financial liabilities Subsequent measurement - financial liabilities At fair value through Profit or loss Other Liabilities Carried at fair value, changes taken to income statement Carried at amortised cost Ind AS carve out for financial liabilities measured at fair value, any change in fair value consequent to changes in the entity s own credit risk shall be ignored The concept of amortised cost financial assets Amortised cost Unamortised Principal = Cash paid - +/- premiums or - repayments discounts Impairment Effective interest rate is the rate that exactly discounts the expected stream of future cash payments or receipts through maturity to the net carrying amount at initial recognition. No option to use straight line method 10

11 The concept of amortised cost financial liabilities Amortised cost Unamortised Principal = Cash paid - +/- premiums or - repayments discounts Impairment Use effective interest method No option to use straight line method Applying effective interest rate (EIR) in practice On 1 January 2015, entity A took a loan of INR 1 million for 5 year at 10% coupon rate Entity A paid INR 25,000 non-refundable loan fees to the lender Microsoft Excel Worksheet 11

12 Amortised cost change in expectations When there is a change in estimates of payments or receipts Adjust the carrying amount of the financial asset and recognise adjustment in profit or loss. Recalculate the carrying amount of the financial asset by: computing the present value of the revised estimated future cash flows but use the original effective interest rate Reclassifications From category To category Held-for-trading Designated at fair value Loans and receivables Held-to-maturity Available-for-sale Held-for-trading Not applicable Not allowed Yes Yes Yes Designated at fair value Loans and receivables Not allowed Not applicable Not allowed Not allowed Not allowed Not allowed Not allowed Not applicable Not allowed Yes Held-to-maturity Not allowed Not allowed Not allowed Not applicable Yes Available-for-sale Not allowed Not allowed Yes Yes Not applicable 12

13 Accounting for reclassified financial assets Reclassifications from HFT or AFS into L&R FV at reclassification is new 'deemed cost' any embedded derivatives must be reassessed for separation post-reclassification improvement in recoverability of cash flows dealt with prospectively by adjusting EIR Reclassifications from AFS: previous gains/losses booked in OCI: amortised to P&L using effective interest method if asset has fixed maturity (but taken to P&L if asset becomes impaired) taken to P&L on disposal (or impairment) if no fixed maturity Extensive disclosures on reclassified assets required under Ind AS 107 Derivatives and Embedded derivatives 13

14 Definition of a derivative 'underlying' value changes in response to the change in a specified interest rate, financial instrument price, commodity price, foreign exchange rate, index of prices or rates, credit rating or credit index, or other variable exception for a non-financial variable that the variable is not specific to a party to the contract initial net investment future Settlement requires: no initial net investment; or initial net investment smaller than would be required for other types of contracts that would be expected to have a similar response to changes in market factors settled at a future date Underlying examples An interest rate (e.g. LIBOR) A security price (e.g. the price of share of XYZ entity equity share listed on a regular market) A commodity price (e.g. price of a bushel of wheat) A foreign exchange rate (e.g. EURO/ USD spot rate) An index (e.g. a retail price index) Other variables (e.g. sales volume indices specifically created for settlement of derivatives) 14

15 Embedded derivatives - Example Derivative contract Underlying variable Notional amount Share option Share price Number of shares Currency forward Exchange rate Number of units of currency Commodity future Commodity price Number of units of commodity Index forward Share index Number of units of index Interest rate swap Interest rate Principal amount specified in contract A contract requiring payment of INR 10 million if BSE index increases 35,000 mark by March 31, 2015 has BSE index has underlying. However, there is no notional amount Commodity contracts normal purchase/ sale exemption A derivative may have an underlying which non-financial variable not specific to party to the contract. Whether all forward contracts for purchase/ sale of non-financial items need to be accounted as derivative? Consider the following examples whether the same needs to be accounted as derivatives under Ind AS 39 Forward for purchase of land Option to buy raw material at future date Agreement to supply goods after one month Ind AS 39 applies only to those contracts to buy or sell a non-financial item which can be settled net in cash or another financial instrument Except: contracts were entered into and continue 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 15

16 Embedded derivatives Combination of a Host Contract and a Derivative to form a Hybrid Instrument The recognition and measurement of a derivative cannot be avoided by embedding the derivative in a host contract unless the derivative is closely related to the host contract. Embedded derivatives that are not closely related must be separated from the host contract and accounted for at fair value with changes in fair value recognised in the income statement. When must embedded derivatives be separated? An embedded derivative to be separated from its host contract and accounted for as a derivative when: Characteristics and risks of the embedded derivative are not closely related to the host contract; a separate instrument with the same terms would meet the definition of a derivative; and the hybrid instrument is not measured at fair value with changes recognised in profit or loss 16

17 Embedded derivatives when to separate Is the contract carried at fair value through earnings? No Would it be a derivative if it was freestanding? Yes Is it closely related to the host contract? No Yes No Yes Do not split out the embedded derivative Split and account separately Embedded derivatives - where can they arise? Host Embedded + = derivative Hybrid instrument Contracts may not meet the definition of a derivative on standalone basis, but may have features of both financial instruments as well as embedded derivatives. An embedded derivative is a component of a hybrid financial instrument that includes both a derivative and a host contract For example Convertible bond Host contract The bond Embedded derivative Call option on shares Effect of embedded derivatives Some of the cash flows of the combined instrument vary in a similar way to a stand-alone derivative. 17

18 Embedded derivatives common clauses Terms Pricing based on a formula The right to purchase/sell additional units Premium/strike/limits The right to cancel/extend/repurchase/ return Details In this case the price of a product is based on a formula that may be linked to an underlying such as index or commodity price. The contract provides a volume flexibility feature whereby the entity may have an option to purchase minimum quantity or any amount as per the requirements of the buyer at a pre determined price. In this case the price of the product is linked to its market price at the time of payment, but there is an upper or a lower limit on the final price to be paid for the product. As entity may have the right to cancel the contract subject to payment of penalty whereby the penalty is linked to the market price of the goods (or any other variable) on the date of cancellation of the contract. How to separate embedded derivatives An embedded non-option derivative (such as an embedded forward or swap) is separated from its host contract on the basis of its stated or implied substantive terms, so as to result in it having a fair value of zero at initial recognition An embedded option-based derivative (such as an embedded put, call, cap, floor or swap option) is separated from its host contract on the basis of the stated terms of the option feature. The initial carrying amount of the host instrument is the residual amount after separating the embedded derivative. 18

19 Closely related test debt prepayment options a call, put or prepayment option in a host debt instrument is closely related only if: the exercise price of the option and the amortised cost of host debt are approximately equal on each exercise date or exercise price of a prepayment option reimburses lender for lost interest on the host loan Separating embedded derivatives debt prepayment options 10 year fixed rate bank loan with option to repay early 10 year bank loan Host contract no repayment option Embedded derivative option to pay exercise price and receive future loan repayments value at inception = difference between FV of loan and a similar loan with no repayment option 19

20 Closely related test foreign currency contracts an embedded foreign currency derivative in host contract that is not a financial instrument is closely related if (and only if): contract currency is the functional currency of any substantial party to the contract or the goods/services to be delivered are routinely denominated in the contract currency or the contract currency is commonly used in the economic environment in which the transaction takes place Separating embedded derivatives foreign currency contracts Foreign currency (FC) purchase order (PO) for an entity with CU functional currency for delivery in 6 months Host contract - local currency (CU) purchase order - translate from FC to CU at the 6 month forward rate Embedded derivative - forward contract to pay FC and receive CU at the estimated date of delivery - zero fair value at inception 20

21 Impairment Impairment - reminder of basic model Assess all financial assets for impairment (except FVTPL) at end of each reporting period Stop No Is there evidence that financial asset is impaired? Yes Measure impairment loss 21

22 Evidence of impairment other than equity instruments Significant financial difficulty of the issuer High probability of bankruptcy Granting of a concession to the borrower Disappearance of an active market because of financial difficulties Breach of contract, such as default or delinquency in interest or principal Adverse change in payment status or factor (e.g. unemployment) Evidence of impairment equity instruments Adverse effect in the technological, market, economic or legal environment Significant or prolonged decline in the FV of an investment below its cost 22

23 Measuring impairment - amortised cost items Measure impairment loss Step 1: Items that are individually significant or for which separate evidence exists assessed Step 2: If no impairment exists for an individually assessed financial asset, includes asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment Assets carried at amortised cost e.g. loans, receivables, held to maturity items Compare carrying amount to present value of future cash flows discounted at the asset s original EIR. Loss to income statement. Losses reversed only if reversal can be objectively linked to an event occurring after the date of the original impairment. Reversal to income statement Measuring impairment - cost items Measure impairment loss Assets carried at cost e.g. unquoted equity instrument for which fair value cannot be reliably measured Compare assets carrying amount to present value of future cash flows discounted at the current market rate for similar financial assets Loss to income statement Losses cannot be reversed 23

24 Measuring impairment - AFS assets Measure impairment loss Interest income postimpairment calculated based on rate used to measure impairment loss (i.e. current market rate) Available for sale assets Any losses arising on change in fair value of such items first taken to OCI On impairment cumulative loss is transferred to P&L Losses reversed for debt instruments only - if reversal can be objectively linked to an event occurring after the date of the original impairment Reversal to P&L Example Impairment of AFS assets Dorrit Inc. holds two assets in the AFS category: a 20 year government bond purchased 5 years ago for INR 5,000. The bond was AA-rated at purchase and currently. However, its FV has declined to INR 3,000 due to an increase in market interest rates equity shares in Merdle Corporation purchased 3 years ago for INR 10,000. The shares have fluctuated in value but 12 months ago FV declined sharply to INR 6,000 and remained around this level since. Which asset(s) is (are) impaired in accordance Ind AS 39: a) both b) neither c) the government bonds d) the shares in Merdle Corporation 24

25 Example - solution Impairment of AFS assets For debt assets evidence of impairment is essentially credit deterioration (i.e. default or an increased risk of default). For AFS debt assets, assess cause(s) of decline in fair value: general interest rates, creditworthiness of the issuer or both? For AFS equity assets, deciding whether a fall in FV below cost is significant or prolonged can require significant judgement In our view a 40% decline in FV below cost for 12 months is 'significant or prolonged' so the shares are impaired. The bonds are not impaired because, despite the fall in FV, their credit quality is the same as when they were acquired. Answer = (d) Derecognition 25

26 Asset derecognition model Liability derecognition General principle Derecognise liability only on extinguishment ie when obligation: - cancelled (legal release) - settled - expires - repurchased Modification/ exchange of financial liability Accounted for as an extinguishment if revised terms are substantially different to original terms 26

27 Debt for equity exchanges and Appendix E, Extinguishing Financial Liabilities with Equity Instruments Appendix E requires for the borrower that: equity instruments issued to lender to extinguish all/part of a financial liability are consideration paid in accordance with Ind AS 39 equity instruments measured at fair value unless not reliably measurable if equity instruments' value not reliably measurable use fair value of the liability difference between the carrying amount of the financial liability extinguished and the consideration paid recognised in profit or loss Hedge Accounting 27

28 Hedge accounting meaning In simple terms hedge accounting is a voluntary accounting route that modifies the normal basis for recognising gains and losses (or revenues and expenses) on associated hedging instruments and hedged items so that both are recognised in earnings in the same accounting period. Hedge accounting thus allows entities the opportunity to eliminate or reduce the income statement volatility that otherwise would arise if the hedged items and hedging instruments were accounted for separately. Hedge accounting is considered a privilege and not a right since it requires several conditions to be met including extensive documentation. Hedge accounting types of hedge Fair value hedge Cash flow hedge Net investment hedge Hedge of exposure to changes in fair value of a recognised asset or liability; an unrecognised firm commitment; or an identified portion of any of the above two, that is attributable to a particular risk. E.g. An entity with fixed rate debt converts the debt into a floating rate using an interest rate swap. Hedge of exposure to variability in cash flows that is attributable to a particular risk associated with a recognised asset or liability or a highly probable forecast transaction and could affect profit or loss. E.g. An entity with floating rate debt converts the rate on the debt to a fixed rate using an interest rate swap. Hedge of a net investment in a foreign operation (including a hedge of a monetary item that is accounted for as part of the net investment), as defined in Ind AS 21 - The effect of changes in foreign exchange rates is accounted for similarly to a cash flow hedge. 28

29 What can be hedged Highly probable forecast transaction Firm commitment Asset / Liability Single item Group of similar items (sharing the same risk) Net investment in foreign operations Proportions of an item Types of hedge and financial statements impact Measurement of derivative instrument Fair value Fair Value Hedge Changes in FV Cash Flow Hedge and net investment hedge (3) Measurement of derivative instrument Fair value Effective Changes in FV Equity Measurement of hedged item Fair value with respect to risk being hedged (1) P&L (2) P&L (1)This applies even if a hedged item is otherwise measured at FV with FV changes recognised in equity or if hedged item is measured at cost (2) Based on timing of earnings impact of hedged item (3) Net investment hedge is for Group FS only, and include intra-group loans not repayable in the foreseeable future 29

30 Criteria for applying hedge accounting Reliable measurement of effectiveness formal hedge documentation + risk management policy Formal designation The hedge is expected to be and is highly effective Hedge effectiveness Hedge relationship must be expected to be highly effective at inception and in subsequent periods Hedge effectiveness criteria - highly effective at inception - satisfy % effectiveness back test No hedge accounting 125% Hedge accounting; ineffectiveness in P&L 100% Hedge accounting; ineffectiveness in P&L 80% No hedge accounting Different notional and principal amounts for the derivative and hedged item Basis differentials Different maturity and re-set dates Currency differences Credit differences Inclusion of time value Any ineffectiveness must be recognised in P&L even if hedge relationship is effective 30

31 Hedge effectiveness testing THE HEDGE IS EXPECTED TO BE AND HAS BEEN HIGHLY EFFECTIVE Prospective test (highly effective) At inception X At each reporting date X AND Retrospective test ([80-125%]) X Discontinuance Criteria for hedge accounting are no longer met (documentation, effectiveness testing ) The hedging instrument expires, is sold, terminated or exercised Revocation of the designation (management s decision) 31

32 Thank you! Thank you! 32

33 Ind AS 32 - Financial Instruments: Presentation Liabilities vs. equity objective, rationale and scope Objective Lays down the principles for classification of financial instruments into equity and debt Scope Only standard which deals with accounting for equity instruments. Core principle Emphasis on contractual rights and obligations arising from the terms of the instrument Probabilities of those contractual rights and obligations leading to an outflow of cash/ other resources are disregarded Key definitions Equity instrument 33

34 Ind AS 32 - Equity or liability distinction Why does it matter? Presentation in statement of financial position Initial and subsequent measurement (scope of Ind AS 39) Treatment of payments, repurchases etc Definition - Equity Equity Any contract that evidences a residual interest in net assets of an entity Examples Ordinary shares Share warrants Mandatorily convertible preference shares in other words, contracts that are not liabilities 34

35 Equity and liability classification Financial instrument is an equity instrument only if both criteria are met: There is no obligation to deliver cash or another financial asset or to exchange financial assets or financial liability; and The issuer will exchange fixed amount of cash or another financial asset for a fixed number of its own equity instruments. Does the entity have an unavoidable contractual obligation? Yes Liability No Equity Equity and liability classification Features of a liability: Obligation to pay cash Mandatory redemption Puttable NAV Only a conditional right to avoid Indirect obligation Settled in a variable number of shares Contingent settlement provisions Features of equity: Discretion over cash payments (i.e. no obligation) Fixed amount of cash for a fixed amount of shares the fixed-for-fixed criteria Not dependent on: Ability to make distributions Intention to make distributions Negative impact on ordinary shares Amount of issuer s reserves Expectation of profits for the period 35

36 Examples Type of instrument Liability Equity Non-redeemable shares with discretionary dividends ('ordinary shares') Shares that are redeemable at the option of the holder ('puttable shares') Shares that are redeemable at the option of the issuer ('callable shares') Irredeemable preference shares with contractual dividends p.a. Ordinary shares issued in a jurisdiction where company law requires companies to pay dividends of at least 10% of profits Compound instruments Compound instruments: Instrument whose terms indicate that it contains both a liability and an equity component 'split accounting' liability component equity component must meet the definition of equity calculated as a residual 36

37 Compound instruments - Example Instrument Liability Component Equity Component 1) Preference shares with discretionary dividends Principal redemption liability 2) Convertible bonds Principal redemption and interest payment liability Discretionary dividend Convertibility option to the holder Issuer of a non-derivative fin. instrument to evaluate the terms of the fin. instrument to determine whether it contains both a liability and an equity component. If such components are identified, they must be accounted for separately as fin. liabilities, fin. assets or equity, and the liability and equity components shown separately on the balance sheet. Compound instruments Separation The liability component is determined by fair value of expected cash flows (for future interest payments and for principal payment). This expectation made as if the instruments will be redeemed as per its terms and conditions Discount rates used for fair valuation is the interest rate that would have been payable on plain debt instrument, without convertibility option, for raising substantially the same quantum of funds. The residual is allocated to the equity component. The transaction costs are allocated to the liability and equity components in the same proportion as above. 37

38 Compound instruments Separation Convertible Debt Liability: Fair value using rate for non-convertible debt + Equity: Balancing figure Compound instruments - Example Amansaaksh PLC issues 2,000 convertible bonds. The bonds have a 3 year term, and are issued at par with a face value of Rs.1,000 per bond, giving total proceeds of INR 2,000,000. Interest is payable annually in arrears at a nominal annual interest rate of 6% (i.e. INR.120,000 per annum). Each bond is convertible at any time up to maturity into 250 ordinary shares. When the bonds are issued, the prevailing market interest rate for similar debt without conversion options is 9% per annum. The entity incurs issue costs of INR 100,000. How should Amansaaksh PLC classify the bond? 38

39 Compound instruments - Example Year Particulars Cash flow (INR) Discount Factor (@9%) NPV of cash flows 1 Interest 120,000 1/ ,092 2 Interest 120,000 1/1.09^2 101,002 3 Interest & principal 2,120,000 1/1.09^3 1,637,029 Total liability component 1,848,122 Total equity component (balance) 151,878 Total proceeds 2,000,000 Compound instruments - Example The issue cost Rs.100,000 is would be allocated to the liability and equity components on a pro-rata basis i.e. Rs.92,406 (100,000 X 18,48,122 / 2,000,000) towards debt and; balance Rs.7,594 towards equity. Rs.144,284 (151,878 minus 7,594) credited to equity is not subsequently remeasured. On the assumption that the liability is not classified as at fair value through profit or loss the Rs.1,755,716 liability component would be accounted for under the effective interest rate method. The effective interest rate is not the 9% used to determine the gross value of the liability component, but at its EIR 39

40 Contingent Settlement Provisions An entity may issue a financial instrument where manner of settlement depends on: - Occurrence or non occurrence of uncertain future event; or - The outcome of uncertain circumstances, When these events are beyond the control of issuer and holder, the instrument is a liability For example, - Change in a stock market index or consumer price index, - Change in interest rate - Change in Tax law - The issuer s future revenues, net income, etc, Contingent Settlement Provisions Contingent Settlement Event Commencement of war Issue of a subordinated security that ranks equally or in priority to the securities Issue of an IPO Prospectus prior to the conversion date Execution of an effective IPO Change in credit rating of the issuer Disposal of all or substantially all of the issuer's business undertaking or assets Issuer makes a distribution on ordinary shares Within the Issuer's control? No Yes Yes No No Yes Yes 40

41 Economic compulsion Certain instruments may have no settlement requirement, but the issuer may feel compelled to settle, as not doing so would impose significant negative economic consequences. Economic compulsion is not relevant to the classification of a financial instrument. For example - Entitty A has issued Class A Equity and Class B optionally redeemable shares. Option is with the company. - 10% dividend on class B shares is payable only if dividend on class A shares is paid - if class B shares not redeeemed within 3 years, dividend rate will increase to 25%. The instrument should be classified as equity as there is no compulsion to pay dividend or redeem the shares. Case study 1 See case study 1: Classification of Shares 41

42 Carve-out: Ind AS classification for FCCBs Ind AS 32 considers the equity conversion option embedded in a convertible bond denominated in foreign currency to acquire a fixed number of entity s own equity instruments as an equity instrument if the exercise price is fixed in any currency. This exception is not provided in IAS 32. Thank you! 42

43 Ind AS 107- Financial Instruments Disclosures Contents 1. Overview 2. Risk management disclosures 3. Liquidity risk disclosures example 4. Fair value disclosures 5. Offsetting related disclosures 43

44 Overview of Ind AS 107 disclosures Extent of disclosures Will depend on the way management manages financial risks Will depend on the extent of use of financial instruments There is no choice of presenting Ind AS 107 minimum disclosures or figures used to manage risk. Risk management disclosures Liquidity risk Liquidity analysis How the risk is managed Credit risk Fully performing Past due Market risk Interest rate Foreign currency Impaired Other price risks Sensitivity analysis Numbers and Notes Balance sheet and income statement Categories of Financial Assets & Financial Liabilities Reclassification, derecognition, collateral, reco. of credit losses, defaults and breaches Other disclosures Accounting policies Hedge accounting Fair value Risk management disclosures Liquidity risk disclosures Market risk disclosures Items covered Interest rate risk All recognised financial assets and liabilities Foreign currency risk No exceptions Non-monetary items not included Loan commitments Items in functional currency Contractual amounts for derivatives Other price risk Credit risk disclosures Sensitivity analysis -equity -P/L Fully performing Past due Impaired Carrying amount Description of collateral held Credit quality Aging analysis Analysis of impaired assets Renegotiated FA Fair value of collateral held Reconciliation of allowance 44

45 Liquidity risk disclosures - example As at 31 st March XX Borrowings Finance Lease Liabilities Trade and Other Payables Financial Guarantee Contracts <1 year 1-2 Years 2-5 Years Over 5 Years Total Fair value disclosures Three level hierarchy when disclosing fair value Level 1 Quoted price in active markets for identical assets or liabilities Level 2 Observable inputs other than quoted prices included above Level 3 Unobservable inputs for the asset or liability Disclosures required Required for each class of financial instruments carried at fair value Any change in the method for determining fair value and the reason for the change Reconciliation from beginning balance to closing balance for Level 3 hierarchy Description 31 Dec 20XX Level 1 Level 2 Level 3 Financial assets at fair value through profit or loss Available-for-sale financial assets Equity investments Total (Note: For liabilities, a similar table might be presented) 45

46 Offsetting related disclosures Qualitative and quantitative disclosures relating to gross and net amounts of recognised financial instruments that are: set off in the statement of financial position identifying and explaining related amounts in the financial statements subject to enforceable master netting arrangements and similar agreements, even if not set off Gross amounts before offsetting (A) Gross amounts set off (B) Net amounts presented in balance sheet (C) Other amounts in scope but not set off in balance sheet (D) Net amounts (E) [same for all preparers] [depends on offsetting model] [depends on offsetting model] [depends on offsetting model] [same for all preparers] Thank you! 46

47 Ind AS 38 Intangible Assets Contents 1. Overview and Scope 2. Recognition 3. Initial Measurement 4. Subsequent Measurement 5. Internally generated assets 6. Useful life 7. Amortisation 8. Retirements and Disposals 9. Disclosures 47

48 Overview and Scope Overview and Scope Objective Sets out the accounting treatment for intangible assets Scope Intangible Assets Intangible assets except: those within the scope of another standard financial assets as per Ind AS 32 mineral rights and reserves (oil, gas and similar items) exploration and evaluation assets (in the scope of Ind AS 106) An intangible asset is an Identifiable non-monetary asset without physical substance. Core principle the initial measurement of intangible assets is at cost subsequent measurement of intangible assets: cost or revaluation model 48

49 Overview and Scope (Cont'd) Examples Is goodwill acquired in a business combination covered by Ind AS 38? Ind AS 38 does not apply as this is within scope of Ind AS 103 Business Combination Are deferred tax assets covered by Ind AS 38? Ind AS 38 does not apply to DTA as this is within scope of Ind AS 12 Income taxes Recognition 49

50 Recognition An intangible asset is recognized when it satisfies the following recognition criteria: Identifiable Control it is separable (capable of being separated and sold, transferred, licensed or exchanged either individually or as part of a contract); or it arises from contractual or other legal rights. Power (or legal rights) to obtain the future economic benefits from the underlying resource and to restrict the access of others to those benefits. Future economic benefits Include revenue from the sale of products or services, cost savings, or other benefits resulting from the use of the asset. Recognition (Cont'd) Recognition criteria Probable that the expected future economic benefits will flow Cost of the asset can be measured reliably Expenditure on an intangible item shall be recognised as an expense when it is incurred unless: it forms part of the cost of an intangible asset that meets the recognition criteria or the item is acquired in a business combination and cannot be recognised as an intangible asset. If this is the case, it forms part of the amount recognised as goodwill at the acquisition date Expenditure on an intangible item that was initially recognised as an expense shall not be recognised as part of the cost of an intangible asset at a later date. 50

51 Recognition: Example A pharmaceutical company has two key resources: the drug formulas the knowledge and expertise of its chemists. The chemists are required to provide one month's notice should they choose to resign. Which of these, if any, can be recognised as intangible asset under Ind AS 38? The drug formulas: Recognise intangible asset if the entity has the power to obtain the future economic benefits and it is able to restrict the access of others to those benefits (e.g. registered patent) The chemists' knowledge and expertise: Can not be recognised as intangible asset since the entity does not have control over their knowledge. Initial Measurement 51

52 Initial Measurement: Specific Situation Recognise at cost Recognise if the fair value can be reliably measured Various ways an intangible asset can be recognised by an entity? Do not recognise unless strict criteria are met Recognise at fair value or nominal amount plus any directly attributable expenditures Recognise at fair value, or the carrying amount of the asset given up Subsequent Measurement 52

53 Subsequent Measurement After initial recognition entities may choose either: as their accounting policy. If revaluation model is selected All other intangible assets in its class shall use the revaluation model (unless no active market exists). Asset is carried at fair value at the date of the revaluation. Fair value is reduced by any subsequent accumulated amortisation and subsequent accumulated impairment losses. Internally Generated Assets 53

54 Internally Generated Assets Internally generated goodwill: Cannot be recognised as an asset since it is NOT an identifiable resource that can be measured reliably at cost Internally generated intangible assets: Intangible assets are NOT recognised during this phase Expense as incurred Recognise if and only if all can be demonstrated: 1. Technical feasibility 2. Management's intention and ability to complete & use/sell the asset 3. Probability of future economic benefit 4. Adequate resources to complete the development of the asset 5. Reliable measurement of the expenditures Internally Generated Assets: Example Whether internally generated brands, mastheads, titles, lists can be recognised as intangible asset under Ind AS 38? Internally generated brands, mastheads, titles, lists should not be recognised as intangible assets as the expenditure on these assets cannot be distinguished from the cost of developing the business as a whole. 54

55 Useful Life Useful Life Useful life: period over which an asset is expected to be available for use; or number of production or similar units expected to be obtained from the asset. The entity shall assess whether useful life of an intangible asset is finite or indefinite. The assessment is done based on: expected usage of asset and the asset could be managed efficiently by another management team typical product life cycles for asset technical, technological, commercial or other types of obsolescence stability of industry expected actions by competitors or potential competitors period of control over asset and legal or similar limits on use of asset Whether useful life of asset is dependent on useful life of other assets. level of maintenance expenditure required to obtain the expected future economic benefits and the entity s ability and intention to reach such a level 55

56 Amortisation Amortisation Definite useful lives Amortisation Systematic allocation of the depreciable amount of an intangible asset over its useful life. Depreciable amount Cost of an asset, or other amount substituted for cost, less its residual value. Residual value Amount that would be obtained from disposal of asset, after deducting the estimated costs of disposal, if the asset is already of the age and in the condition expected at the end of its useful life. 56

57 Amortisation (Cont'd) Indefinite useful lives Intangible asset not to be amortised but tested for impairment: annually OR when there are indicators that the asset may be impaired Useful life of intangible needs to be reviewed each period. If there is a change from indefinite to finite then the entity should account for it as a change in accounting estimates in accordance with Ind AS 8. Further, this might be an indicator for impairment under Ind AS 36 Amortisation (Cont'd) Indefinite useful lives - Example The entity acquired an broadcasting license which is renewable (indefinitely at little cost) every 10 years. if the entity provides at least an average level of service to its customers and complies with the relevant legislative requirements. the entity intends to renew the license indefinitely. no compelling challenge to the license renewal. technology used is not expected to be replaced by new one in the foreseeable future. the license is expected to contribute to the entity's net cash inflows indefinitely. The broadcasting license treated as having an indefinite useful life as it is expected to contribute to the entity's net cash inflows indefinitely. Therefore, the license should not be amortised. The license would be tested for impairment annually and whenever there is an indication that it may be impaired. 57

58 Retirements and Disposals Retirements and Disposals An intangible asset is derecognised on disposal or when no future economic benefits are expected from it use or disposal proceeds from disposal direct costs of disposal carrying amount gain or loss on disposal recognised in profit or loss Note: Ind AS 17 applies to disposal by a sale and leaseback. 58

59 Disclosures Disclosures For each class of Intangible asset: useful lives - indefinite or finite, amortisation rates or useful lives the amortisation methods used for intangible assets with finite useful lives the gross carrying amount and any accumulated amortisation (including accumulated impairment losses) at the beginning and end of the period the line item(s) of the statement of comprehensive income in which amortisation is included a reconciliation of the carrying amount at the beginning and end of the period which would show additions, assets classified as held for sale or disposals, revaluations, impairment losses, amortization, exchange differences, etc. for intangible asset with indefinite useful life, their carrying amount and reasons supporting the assessment of an indefinite useful life 59

60 Disclosures (Cont'd) a description, carrying amount and remaining amortisation period of any material intangible asset; for intangible assets acquired by way of a government grant, fair value initially recognised, carrying amount and method selected for subsequent measurement; the existence and carrying amounts of restricted or pledged intangible assets; the amount of contractual commitments for the acquisition of intangible assets; For assets carried at revalued model, by class of assets, disclose: the effective date of the revaluation, the carrying amount of revalued intangible assets, the carrying amount, if asset was valued under cost model, the amount of the revaluation surplus and its reconciliation; aggregate amount of research and development expenditure recognised as an expense during the period. Ind AS 38 requires additional disclosure in respect of the methods and significant assumptions applied in estimating the assets fair values Thank you! 60

61 Ind AS 102: Share based payments Contents 1. Overview and scope 2. Definitions 3. Equity settled share based payment transaction 4. Cash settled share based payment transaction 5. Choice of settlement 6. Vesting / non vesting condition 7. Modification / cancellation 8. Fair value models 9. Disclosures 61

62 Overview & Scope Objective Scope Scope exclusion Sets out accounting treatment for share-based payment (SBP) transactions Equity-settled SBP transactions Cash-settled SBP transactions Transactions where the entity receives/ acquires goods/ services and both the parties have a choice to settle the transaction in cash (or other assets) or by issuing equity instruments To an entity who receives goods/ services when another entity in the group (or shareholder of any group entity) is under obligation to settle the SBP transaction or vice versa except when the transaction is not for goods or services supplied to the entity receiving them All share-based payment transactions except transactions: with employees or others in their capacity as equity instrument holders involving business combinations (Ind AS 103) under contracts within the scope of Ind AS 32 or Ind AS 39 Scope quiz Scenario Share appreciation rights that entitle employees to cash payments based on increase in the market price of an entity s shares. An entity makes a rights issue of shares to all shareholders, including employees who are shareholders. Share ownership plans where employees receive an entity s shares in exchange for their services A supplier providing goods in return for shares in the entity Equity shares issued on acquisition of business unit Bonus entitlement made to employees based on profits earned by the company Covered under Ind AS 102 Yes No Yes Yes No No 62

63 Definitions Share-based payment (SBP) transaction Equity-settled SBP transaction Cash-settled SBP transaction A transaction in which the entity: receives goods or services from the supplier (incl. an employee) in a SBP arrangement, or incurs an obligation to settle the transaction with the supplier in a SBP arrangement when another group entity receives those goods or services A SBP transaction in which the entity receives goods or services: as consideration for its equity instruments has no obligation to settle the transaction with the supplier A SBP transaction in which the entity acquires goods or services by incurring a liability to transfer cash or other assets to the supplier for amounts that are based on the price (or value) of equity instruments of the entity or another group entity Definitions Nature Grant Date Intrinsic Value Vesting period Vesting Conditions Measurement date Definition The date at which the entity and another party (including an employee) agree to a share based payment arrangement. At grant date the entity confers on the counterparty the right to cash, other assets, or equity instruments of the entity, provided the specified vesting conditions, if any, are met. Difference between the fair value of the shares to which the counterparty has the right to subscribe and the price (if any) the counterparty is required to pay for those shares. The period during which all the specified vesting conditions of a SBP arrangement are to be satisfied The conditions that determine whether the entity receives the services that entitle the counterparty to receive cash, other assets or equity instruments of the entity under a SBP arrangement The date at which the fair value of the equity instruments granted is measured for the purposes of this Ind AS 63

64 Example 1 Equity-settled SBP transaction Cash-settled SBP transaction The issue to employees of options that give them the right to purchase the entity s shares at a discounted price in exchange for their services. Share appreciation rights that entitle employees to cash payments based on the increase in the employer entity s share price. Equity settled share based payment transaction 64

65 Equity-settled SBP transactions Equity-settled SBP Non employees Employees When (ie the measurement date) How The goods are obtained or as service are rendered Fair value of the goods/services received (*) As services are rendered (see the forthcoming slides) Fair value of the equity instruments at the grant date (**) Debit entry Other Ind ASs Other Ind ASs (***) Credit entry Equity Equity (*) unless fair value is not reliably measurable (**) grant date: the date at which the entity and another party agree to a SBP arrangement (***) in practice, often recognised as employee benefits expenses. Example 2 - Equity-settled SBP transactions Employees & providers of similar services on 1 January 20X5, Entity A grants 80 shares to each of its 100 employees the shares vest immediately Entity A estimates that the fair value of each share on 1 January 20X5 is INR 50 The shares vest immediately thus the presumption is that services rendered by the employees have been received. The accounting entry on 1 January 20X5 is as follows: Year 1 Debit Credit Expense: 100 employees*80 shares* INR 50 = INR 400,000 Equity INR 400,000 65

66 Cash settled share based payment transaction Cash-settled SBP transactions 1 When The goods are obtained or as services are rendered 2 What Fair value of the liability at initial recognition. Remeasure the fair value of the liability at each reporting period and until the date of settlement with any changes recognised in P&L. 66

67 Example 3 Cash-settled SBP transactions Employees & providers of similar services Entity A grants 50 cash share appreciation rights (SARs) to each of its 100 employees, on condition to be in employment for the next 2 years during year 1, 10 employees leave. Entity A estimates that another 15 employees will leave during year 2 during year 2, 5 employees leave. At the end of year 2: all SARs held by the remaining employees vest 50 employees exercise their SARs the remaining 35 employees exercise their SARs at the end of year 3. set out below the year end fair value and the intrinsic value of the SARs: Year Fair value Intrinsic value 1 INR 10 2 INR 20 INR 18 3 INR 30 What are the accounting entries for the years 1-3? Solution Cash-settled SBP transactions Employees & providers of similar services Year Calculation of liability Cumulative expense Expense for period 1 75 employees*50 SARs*INR 10* 1/2years= INR 18,750 INR 18, employees*50 SARs*INR 20= INR 35,000 INR 16, employees INR 0 (INR 35,000) Year Calculation of Cash Cash Expense for period 1 0 employees INR 0 INR employees*50sars*inr 18= INR 45,000 INR 45, employees*50sars*inr 30= INR 52,500 INR 52,500 67

68 Solution Cash-settled SBP transactions Employees & providers of similar services Year 1 Debit Credit Expense INR 18,750 Liability INR 18,750 Year 2 Debit Credit Expense INR 61,250 Liability INR 16,250 Cash INR 45,000 Year 3 Debit Credit Expense INR 17,500 Liability INR 35,000 Cash INR 52,500 Choice of settlement 68

69 Share-based payment transactions with cash alternatives The entity has the choice of settlement Present obligation to settle in cash YES NO Cash-settled SBP Equity-settled SBP (*) (*) The entity has a present obligation to settle in cash: 1. if the choice of settlement in equity instruments has no commercial substance (eg because the entity is legally prohibited from issuing shares) 2. the entity has a past practice or a stated policy of settling in cash or 3. the entity generally settles in cash whenever the counterparty asks for cash settlement. Share-based payment transactions with cash alternatives The counterparty has the choice of settlement Settling the SBP transaction in cash or equity instruments at the counterparty's choice Compound financial instrument The Debt component Cash-settled SBP The Equity component Equity-settled SBP The settlement Equity Cash Ind AS 102's requirement Transfer the liability to equity i.e. the liability is the consideration for the equity instruments issued No further accounting is required except the payment 69

70 Vesting / non-vesting conditions Equity-settled SBP transactions Employees & providers of similar services: Vesting conditions Vesting conditions The conditions that determine whether the entity receives the services that entitle the counterparty to receive cash, other assets or equity instruments of the entity Performance conditions Require the counterparty: to complete a specified period of service (i.e. a service condition) and to meet specified performance targets Service conditions Require the counterparty to complete a specified period of service Market condition The eligibility is related to the market price/value of the equity instruments of the entity/other group entity NON MARKET PERFORMANCE CONDITIONS 70

71 Example 4 - Equity-settled SBP transactions Vesting conditions- service conditions Entity A grants 800 share options to each of its 70 employees each grant is conditional upon the employee working for Entity A over the next two years Entity A estimates that the fair value of each share option is INR 5 during year 1, 10 employees leave. At the end of year 1 Entity A estimate 20% of employees will leave over the two-year period during year 2, a further 8 employees leave. What are the accounting entries for the years 1-2 in accordance with Ind AS 102? Solution - Equity-settled SBP transactions Vesting conditions- service conditions Year Calculation Cumulative expense Expense for period options*(70*80%) employees * INR INR 1,12,000 INR 1,12,000 5*1/2years options*( ) employees*inr 5*2/2 INR 2,08,000 INR 96,000 Year 1 Debit Credit Expense INR 1,12,000 Equity INR 1,12,000 Year 2 Debit Credit Expense INR 96,000 Equity INR 96,000 71

72 Equity-settled SBP transactions Non-vesting conditions The entity should recognise the services as they are rendered as follows: 1 When During the estimated vesting period, adjust the number of equity instruments expected to vest & the vesting period 2 How The fair value of the equity instruments granted at the grant date. The fair value should include the effects of non-vesting conditions Modifications and cancellations 72