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December 2012

Revenue recognition will soon be published

The IASB’s re-deliberations of its joint revenue recognition project with the FASB will soon be finished and the final standard should be out before the end of June. The two boards completed discussions of recognition and measurement at the December meeting of the IASB. That leaves disclosures and procedural issues to be discussed in January, before the staff complete the final standard and submit it to secret ballot.

The IASB also started work on rate-regulated industries and bearer biological assets at this meeting. Crop-producing plants will be accounted for at cost. The IASB is to work on an interim standard to allow companies to continue to capitalise regulatory assets and liabilities while using IFRS. Staff also discussed the possible use of the IASB’s ‘macro-hedging’ model for non-financial companies.

The revenue recognition project has been going on for many years. Its primary aim is to sweep away a plethora of different sector-specific rules in the US and produce a single worldwide approach to revenue recognition across all industries. The standard should be published in the first half of 2013 and is likely to have an effective date of 1 January 2015.

The main innovation is that where an entity has a firm contract to supply a good or service it should recognise a contract asset and a liability for a performance obligation – which will be netted in the balance sheet to zero. The impact on most companies will be very limited. However, where they sell bespoke products that are produced after contract, or they deliver goods or services continuously over a period, there may well be changes. In particular the allocation of the contract price across components of a multipart package is specified as being in proportion to the stand-alone price of each part – there is no longer a free choice.

The revenue line is one of the key indicators used by financial statement users, and this is therefore a standard capable of producing significant impacts for companies. When the standard is produced they will, though, have time to study the implications and make whatever systems adjustments are necessary.

Rate-regulated industries

The post-convergence programme of the IASB is supposed to focus at first on narrow-scope changes to give mainstream preparers of IFRS statements a breather. A contentious, but restricted, issue is the recognition of regulatory assets and liabilities.

Canada is the IFRS country that is most affected, although Brazil also had to deal with the problem. The problem arises typically where a private sector company produces power supplies that are sold to consumers subject to prices being controlled by a regulator. The nature of the price control approach is to give rise to corrections from period to period. Where a company has overcharged in one period, it must under-charge in a future period and vice-versa. This over- or under-charge is recognised as a regulatory liability or asset in measuring annual earnings.

The IASB in 2009 published an exposure draft permitting recognition of such assets and liabilities but it was shelved amid opposition that the assets and liabilities did not meet conceptual framework definitions. The IASB has decided to work on a discussion paper to explore the conceptual issues. However, under pressure from Canada, it has also decided that during 2013 it will write an interim standard that will ‘grandfather’ local GAAP. This will allow Canadian utilities companies to move to IFRS while preserving their regulatory assets and liabilities.

Bearer biological assets

The other limited scope project is an amendment to IAS 41 Agriculture. The standard requires all biological assets to be measured at a form of fair value. However, the Malaysian Accounting Standards Board has argued for some time that the standard should distinguish between biological assets that are held to produce crops and the consumable produce itself – i.e. a fruit tree is more like production plant, while its fruit is the consumable result of production.

The IASB has accepted this in principle and agreed tentatively in December that it would work on a special category of ‘bearer biological assets’ that would be measured at amortised cost. It also decided to specify that the assets that qualified for this treatment should have no alternative use (leaving aside scrap) and that livestock would not be eligible. Staff suggested that measurement of livestock would be much more complicated, not least because of a less distinct attribute relating to production versus consumption.

Macro-hedging for commodities

One of the most innovative measures to come out of the wholesale revamp of financial instrument accounting is a new approach to macro-hedging. The staff are still working on this, with a discussion paper due to be published towards the middle of 2013. So-called macro-hedging is mostly undertaken by banks and is not related directly to individual transactions but to overall risk positions.

Banks were very unhappy with the very restrictive approach taken in IAS 39, and the IASB is this time basing its approach on risk management procedures in banks. However, while the main actors in this area are banks, using it to hedge interest rate risk, the staff intend the procedures to be available to any corporate, and produced a paper at the December meeting that looked at how it could be used by non-financial companies.

The staff paper suggested that macro-hedge accounting could be used by corporates that hedged commodity risk on an open portfolio basis. Where an open portfolio was used to stabilise the net margin, or stabilise purchase price, this accounting could be used. However, they suggested that the general transaction hedging model (IFRS 9 will incorporate a new general hedging model) is more likely to be useful for foreign exchange as well as individual commodity hedge transactions.

At the IASB’s September standard-setting meeting it became clear that its most recent target of ending the convergence programme with the US by mid-2013 is doomed already. The leases project and financial instrument impairment will certainly stretch out to 2014 if not later.

The 2007 financial crisis is responsible for a lot of things, but not the least is its disastrous impact on the standard-setting programmes of the FASB and the IASB. Under pressure from the G20 world leaders and their Financial Stability Board (FSB), the two standard-setters agreed to urgently simplify their financial instrument accounting and converge their main standards.

 The target was June 2011, which was also the date at which Sir David Tweedie’s mandate as chairman of the IASB came to an end. As the deadline came nearer, the boards started to jettison excess baggage, as from a leaking balloon, and projects such as financial statement presentation left the programme. The boards focused on leases, revenue recognition, and financial instruments. They were also working together on insurance.

But things dragged on. The FASB are always reluctant to move away from their existing practices, and enthusiasm for international standards has been progressively dwindling amongst their constituents since about 2008. The IASB are reluctant to accept that the US solution is the only one, and so the debates extend, the staff are asked to look for different solutions, and projects do not get to closure.

In June this year FASB chairman Leslie Seidman and IASB chairman Hans Hoogervorst told the G20, via the FSB, that they would complete the main convergence programme by the middle of 2013. But it is already clear that this deadline will also be missed – by some distance.

A key element of the current programme is to agree a new impairment method for financial assets. In July the IASB thought they were ready to start writing the exposure draft but the FASB said their constituents thought the proposals were impossible to implement.

Ms Sideman assured the IASB that her staff would look at this over the summer and the programme would not suffer. However, in the middle of the September meeting the FASB suddenly pulled out of a presentation of their latest findings. It seems they have come up with a significantly revised proposal but they do not want to discuss it till October.

There was more bad news for Mr Hoogervorst when his own staff said they had conducted outreach and found that IASB constituents wanted the original proposal clarified as well. In October the IASB is going to have to decide whether it wants to move to the new FASB proposal or refine the old one and have an unconverted result. Either way, a re-exposure draft will not emerge this year and a final standard will not be possible before 2014 at the earliest.

The leases project also seems to be drifting, albeit for less obvious reasons.  The boards agreed that they would re-expose the draft standard, and the hope was that this would happen before the year-end. In the drafting the staff keep coming up with issues on which they want clarification from the boards. They said at the September meeting that they could not now see the re-exposure draft appearing before 2013. Given the exposure period and re-deliberation, that puts the final standard back again to 2014.

Although the insurance project is not strictly a G20 priority, the IASB has been working on it for fifteen years now. At the September meeting staff said they were sufficiently near the end of the drafting process to consider whether the end product should be a re- exposure draft or the final standard. The proposals have already been through discussion paper and exposure draft stages.

Some board members were keen to avoid re-exposure, the most pessimistic saying that would put the final standard back three to four years. But others were clear – sufficient had changed since the last exposure that constituents should have a chance to comment. So we can expect a re-exposure draft sometime in the first half of 2013. The final standard is anybody’s guess. The insurance contracts project at fifteen years is the longest project the international standard-setter has ever done, just beating IAS 39 on financial instruments.  Some think it could end up taking as long as 20 years.

But some new projects are on the way

It was not all bad news at the September IASB meeting.  Three papers from the post-convergence agenda were also presented. The subjects were bearer biological assets, rate-regulated industries, and the conceptual framework.

The Malaysian Accounting Standards Board, supported by the regional Asian and Oceanian Standard-Setters Group (AOSSG), has been lobbying for a limited scope amendment to IAS 41 Agriculture. They point out that IAS 41 requires all biological assets to be measured at fair value less costs to sell. However, some assets, such as oil palms or dairy cattle, are held in order to produce crops that can be consumed, and are not consumed themselves.

The AOSSG supports the notion that these assets, which they call ‘bearer biological assets’, are more like property, plant and equipment and should be accounted for under IAS 16. Board member Takatsuki Ochi, from Japan, supported the proposal, saying he had visited palm oil plantations and they were just like ‘an open air factory’.

The IASB agreed to pursue this, going straight to an exposure draft on the back of the discussion paper produced by Malaysia and the AOSSG, in the way in which they plan to work in the future. However, all will not be plain sailing. Board member Paul Pacter who wrote IAS 41 said he saw no reason to change it. Another Board member, Patricia McConnell had been on the board that issued IAS 41, and she too said she thought they would end up back at the same position.

The IASB looked at a paper that recommended re-visiting accounting for rate-regulated industries. The Board issued an exposure draft in 2009 at the behest of Canada but then withdrew it in the face of concerted opposition. Staff said they should go back to basics and write a discussion paper – and maybe issue an interim standard. The paper will go the IFRS Advisory Council next month.

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