International Accounting Standard Board
30 Cannon Street
London EC4M 6XH
14 June 2010
Dear Sir or Madam,
Financial Instruments: Amortised Cost and Impairment (Exposure Draft ED/2009/12)
We are responding to your invitation to comment on the exposure draft Financial Instruments:
Amortised Cost and Impairment on behalf of the IFRS Committee of the Slovak Auditing Oversight
Authority (UDVA).
Following the discussion at the April and May 2010 meetings of the IFRS Committee of UDVA this
response letter summarises the consensus views of the nine member committee on the Exposure
Draft.
Overall comments
We welcome the opportunity to comment on the Exposure Draft. Measurement of financial instruments
at amortised cost, net of impairment, is an important aspect of financial reporting.
We welcome the move towards the expected loss model based on the probability-weighted possible
outcomes. It will make accounting for assets more consistent with that of liabilities, eg measurement
using the best estimate of expenditure to settle a provision under IAS 37 paragraph 36.
We would welcome changes in the proposed standard with respect to its certain aspects, as follows:
(a) The approach to variable interest instruments is complex and assumes that a market yield curve
exists that covers the entire life of the instruments. This is frequently not the case, in particular in
emerging markets. In our opinion, the IASB should provide guidance for variable interest
instruments for which market yield curves do not exist for the entire life of the instrument.
(b) We would welcome more guidance on methods and sources of assumptions in determining the
expected cash flows. For example, in perfectly efficient financial markets, an entity could not
expect a long-term effective rate from a large portfolio to exceed risk-free rate of return. Could
entities consider market inefficiencies that result in positive long-term margins above risk-free
rates? Providing guidance on methods of estimation of expected cash flows would likely achieve
greater comparability of results among reporting entities.
As an example, let’s consider a five year loan with equal monthly interest and principal payments
(60 equal monthly payments in total). After six months, we should measure this loan because of
interim reporting. The proposed ED would require us to estimate amount and timing of the
remaining 54 monthly cash flows. We should consider the value and timing of each of these 54
cash flows. This estimated cash flow inputs should be probability weighted possible values of each
particular cash flow (expected values) which, in our opinion, would extremely increase the volume
of data to be considered (the data volumes would exponentially grow with the number of
alternative outcomes to be considered) and would in practice be very complex. When the debtor
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gets into arrears, it creates other additional cash flows, such as default interest payments or fees.
In our opinion, it would be practically impossible to estimate, with sufficient reliability, the amount
and timing of cash flows in the next years. In our opinion, reliable estimates are in most cases
possible for a maximum one year time horizon; in our example it means the next 12 monthly
payments. The standard should be enhanced to give practical expedients how to estimate the next
42 instalments, for example assuming a stable credit quality (stable equal expected credit losses
in the more distant future) or extrapolating results of the past short-term trends, on an individual
loan basis.
As an alternative, an entity could use observed patterns of deviation from contractual amounts and
timing of cash flows on portfolio basis, but this would be information about past behaviours of
debtors and past experience is sometimes not a reliable basis for predicting the future. This
method’s disadvantage is that it uses historical portfolio data and therefore its outcomes are based
in history of the relevant portfolio (which may not be stable over time). We note that this method
may sometimes not be practicable, because there may not be sufficient past data..
We believe that the outcomes of these two methods (individual vs portfolio basis) are of different
quality. Therefore, we do not find appropriate to allow changing the basis for estimate during the
life of a financial asset as explained in the Draft Application Guidance paragraph B4. Assessing
the amortised cost and impairment of a financial asset during its life by using various methods
(individual vs collective basis) would not lead to consistent reporting and could be prone to
manipulation.
The problem of cash flow estimation extends to initial recognition of the financial asset, because
based on the ED the entity should estimate the expected credit losses on that asset over its entire
life.
(c) We would welcome more guidance on estimating cash flows from restructured assets, eg what
practical expedients could be used to estimate cash flows from a defaulted loan that became due
on demand as a result of the default? We would also welcome guidance on when a restructured
loan should be considered impaired and when it would be considered as not impaired as that
could affect approach to and method of estimating expected cash flows.
(d) Many retail banks incur credit losses already at loan inception due to fraud by customers.
Standard should avoid any misuse by preparers. We would welcome application type guidance,
explaining whether day 1 losses are appropriate in such cases and if they are not, why not.
Our answers to the specific questions in the exposure draft are attached in the appendix to this letter.
If you have any questions in relation to this letter please do not hesitate to contact us at Urad pre
dohlad nad vykonom auditu (UDVA /Auditing Oversight Authority), Slovanská 1, P.O.BOX 63,
810 05 Bratislava 15, Slovak Republic, e-mail: udva@stonline.sk, tel.: +421 2 5726 7511,
fax:+421 2 5726 7500.
Yours sincerely,
Ing. Ingrid Melicherova
Executive Director of UDVA
Ing. Richard Farkaš, PhD.
Chairman of the IFRS Committee of UDVA
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APPENDIX
Question 1
Is the description of the objective of amortised cost measurement in the exposure draft clear? If not,
how would you describe the objective and why?
In our opinion, the objective of amortised cost measurement is sufficiently defined in the exposure
draft.
However, we are not clear how that objective is applied to retail banks that incur credit losses already
at loan inception due to fraud by customers. We would welcome application type guidance explaining
whether day 1 losses are appropriate in such cases.
Question 2
Do you believe that the objective of amortised cost set out in the exposure draft is appropriate for that
measurement category? If not, why? What objective would you propose and why?
In our opinion, the objective of amortised cost measurement is appropriate for that measurement
category.
However, the approach to variable interest instruments is complex and assumes that a market yield
curve exists that covers the entire life of the instruments. This is frequently not the case, in particular in
emerging markets. In our opinion, the effective interest rate should be fixed at inception and long-term
instruments should not be treated as a series of short-term ones.
Question 3
Do you agree with the way that the exposure draft is drafted, which emphasizes measurement
principles accompanied by application guidance but which does not include implementation guidance
or illustrative examples? If not, why? How would you prefer the standard to be drafted instead, and
why?
We would welcome implementation guidance illustrative examples, in particular (a) in the area of
application of the probability-weighted possible outcomes to determine expected cash flows and (b)
disclosure requirements.
We would also welcome more guidance on methods and sources of assumptions in determining the
expected cash flows. For example, in perfectly efficient financial markets, an entity could not expect a
long-term effective rate from a large portfolio to exceed risk-free rate of return. Could entities consider
market inefficiencies that result in positive long-term margins above risk-free rates? Providing
guidance on methods of estimation of expected cash flows would likely achieve greater comparability
of results among reporting entities.
Question 4(a)
Do you agree with the measurement principles set out in the exposure draft? If not, which of the
measurement principles do you disagree with and why?
We agree with the measurement principles set out in the exposure draft.
Question 4(b)
Are there any other measurement principles that should be added? If so, what are they and why
should they be added?
We do not see additional measurement principles that need to be added to the exposure draft.
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Question 5(a)
Is the description of the objective of presentation and disclosure in relation to financial instruments
measured at amortised cost in the exposure draft clear? If not, how would you describe the objective
and why?
In our opinion, the objective of presentation and disclosure is clearly defined in the exposure draft.
Question 5(b)
Do you believe that the objective of presentation and disclosure in relation to financial instruments
measured at amortised cost set out in the exposure draft is appropriate? If not, why? What objective
would you propose and why?
In our opinion, the objective of presentation and disclosure in relation to financial instruments
measured at amortised cost set out in the exposure draft is appropriate.
Question 6
Do you agree with the proposed presentation requirements? If not, why? What presentation would you
prefer instead and why?
We agree with the proposed presentation requirements.
Question 7
Do you agree with the proposed disclosure requirements? If not, what disclosure requirement do you
disagree with and why? What other disclosures would you prefer (whether in addition to or instead of
the proposed disclosures) and why?
We agree with the proposed disclosure requirements. It may also be useful information if an entity
explained differences between the amortised cost measurement and disclosed fair values of such
financial instruments. Such differences should generally be attributable only to changes in market level
of interest rates after initial recognition. Other factors, if any, should be separately disclosed.
Question 8
Would a mandatory effective date of about three years after the date of issue of the IFRS allow
sufficient lead-time for implementing the proposed requirements? If not, what would be an appropriate
lead-time and why?
We believe that a mandatory effective date of three years after the date of issue of the IFRS allows
sufficient lead-time for implementing the proposed requirements.
Question 9
(a) Do you agree with the proposed transition requirements? If not, why? What transition approach
would you propose instead and why? (b) Would you prefer the alternative transition approach
(described above in the summary of the transition requirements)? If so, why? (c) Do you agree that
comparative information should be restated to reflect the proposed requirements? If not, what would
you prefer instead and why? If you believe that the requirement to restate comparative information
would affect the lead-time (see Question 8) please describe why and to what extent.
We agree with the proposed transition rules. We support restatement of comparatives in the year of
transition to the revised IFRS, in order to achieve comparable presentation of information.
Question 10
Do you agree with the proposed disclosure requirements in relation to transition? If not, what would
you propose instead and why?
We agree with the proposed disclosure requirements in relation to transition.
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Questions 11 and 12
Do you agree that the proposed guidance on practical expedients is appropriate? If not, why? What
would you propose instead and why? Do you believe additional guidance on practical expedients
should be provided? If so, what guidance would you propose and why? How closely do you think any
additional practical expedients would approximate the outcome that would result from the proposed
requirements, and what is the basis for your assessment?
We would welcome expanding the practical expedients guidance to cover estimation of expected cash
flows. In particular, what methods are appropriate and what simplifications may be appropriate in
estimating the expected cash flows of impaired assets.
For example, we would welcome more guidance on estimating cash flows from the assets. Please
refer to the main body of the comment letter for more detailed discussion.
Guidance could also be provided on estimating cash flows from restructured assets, eg what practical
expedients could be used to estimate cash flows from a defaulted loan that became due on demand
as a result of the default?
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