Israel Security Authority
FAQ 14: Disclosure Required in the Report of the Board of Directors concerning
Impairment of Financial Assets
October 2008
Definitions
Financial assets available for sale, impairment of financial assets, and fair value – as
defined in International Accounting Standard No. 39 "Financial Instruments: Recognition and
Measurement" (hereinafter, "IAS 39" or "the Standard").
Background
According to the provisions of IAS 39, a financial asset available for sale is measured, after
initial recognition, at fair value. Any gains or losses stemming from a change in the fair value
of an asset available for sale are recognized directly in the company's shareholders' equity,
with the exception of impairment losses.
Paragraph 58 of IAS 39 determines that an entity is required to assess at each balance sheet
date whether there is any objective evidence of impairment of a financial asset. The
Standard lists events which, separately or cumulatively, constitute objective evidence of
impairment of a financial asset.
If such evidence exists regarding a financial asset available for sale, the cumulative
impairment, recognized in previous periods directly in shareholders' equity, is transferred
from shareholders' equity and is recognized in profit and loss.
Pursuant to Paragraph 108 of International Accounting Standard No. 1 "Presentation of
Financial Statements" and Paragraph 21 of International Financial Reporting Standard No. 7
"Financial Instruments: Disclosures" (hereinafter, "IFRS 7"), an entity is required to disclose,
in its significant accounting policies, the basis of measurement it used to draft the financial
statements and any additional accounting policies apllied that are relevant to an
understanding of the financial statements.
In the appendix of mandatory application guidance of IFRS 7, which is an integral part of this
standard, Paragraph B5(f) determined that disclosures of said accounting policies shall
include the following, among others: "the criteria used by the entity to determine whether
there is objective evidence that an impairment occurred."
Question:
Is a reporting entity, which recognized in its financial statements losses in respect of
financial assets available for sale directly in shareholders' equity, required to include in the
Report to the Board of Directors explanations about the evidence that was available to it
when determining said accounting treatment, and the manner in which such evidence was
taken into consideration. If yes, what is the required format of the disclosure?
Answer:
Regulation 10(a) of the Securities Regulations (Periodic and Immediate Reports) 5730-1970
(hereinafter, "the Regulations") determines that "A directors' report shall be made of the
state of the corporation's affairs in the reporting period, containing explanations of the
board of directors on the state of the corporation's business, the results of its operations, its
shareholders' equity, and its cash flows; The explanations should refer to the manner in
which events affect the data in the financial statements…whether the effect is significant,
and the reasons that caused the changes that occurred…"
It is the opinion of the ISA staff that when a corporation holds a financial asset available for
sale, and losses in respect thereof were charged directly to shareholders equity in the
reporting period rather than being charged to the profit and loss statement, the corporation
should include in the directors' report explanations concerning this matter. The explanations
should be provided separately for each financial asset classified as available for sale and
which a significant loss in respect thereof was recognized directly in shareholders' equity.
Said explanations should include all the information necessary to understand the accounting
treatment used and its underlying foundation, and at least –
(a) Details of the reasons for not recognizing the impairment of the financial asset
available for sale in profit and loss, and;
(b) The evidence on which the corporation relied in its determination that no
impairment occurred.
It is the opinion of the ISA staff that in this frame, the corporation should also at least refer
to all the indications mentioned in the Standard that may constitute objective evidence for
impairment, and explain why each indication separately or all indications collectively do not
constitute objective evidence of impairment.
Needless to state, said explanation should also be given with respect to the general criteria
that are used by the corporation to examine the existence of objective evidence of
impairment, and that are specified in the financial statements.
Furthermore, Paragraph 61 of the Standard determines that, with respect to equity
instruments, the corporation should also take into consideration "significant changes in the
technological, economic, or legal, or market environment in which the issuer operates,
which have an adverse effect…" (hereinafter, "the environmental changes"). This Paragraph
further provides that "…a significant or prolonged decline in the fair value of an investment
in an equity instrument below its cost also constitutes objective evidence of impairment."
(emphasis added)
The Standard does not specify the environmental changes that are considered significant,
and does not define minimum quantitative levels for determining that the decline in fair
value is significant or prolonged.
In this context, the ISA staff believes that a corporation should at least refer to the following
indications, among other things. It is clarified that this list does not constitute a closed,
exhaustive list, and in any case a corporation should examine the specific circumstances and
apply discretion in determining the details to be disclosed.
A. Difference between the fair value of the financial asset and its original cost - In
this context disclosure should be made of the cumulative difference, previously
recognized directly in equity, between the fair value of the asset and its original cost,
and the percentage that this different constitutes of the total original cost, and why
it does not constitute, either separately or collectively with other indications,
objective evidence of impairment. An examination of the difference should also
address the standard deviation of the share price in the most recent reporting
period.
B. Length of time the fair value of the financial asset was lower than its original cost –
In this context, disclosure should be made of the cumulative duration, since the
initial recognition of the asset, in which the fair value of the financial asset was
lower than its original cost, irrespective of the materiality of the deviation from its
cost, and the disclosure should include the relative share that said duration
constitutes of the total holding period of the financial asset held for sale.
Furthermore, explanations should be included of why said duration does not
constitute, either separately or collectively with other indications, objective
evidence of impairment.
C. Environmental changes – In this context, the directors' explanations should include
reference to, among others, the following factors that may indicate an anticipated
worsening of the operations of the corporation that issued the financial instruments
to the company, and should note why they do not constitute, either separately or
collectively with other indications, objective evidence of impairment:
 Structural changes in the market relevant to the operations of the issuing
corporation. For example: changes in the structure of competition in the
market, changes in manufacturing technologies in the market, and
significance changes in modes of marketing.
 Significant changes in the scope of demand for the issuer's products,
whether due to changes in consumers' preferences, an increase in the
number of substitute products, or product obsolescence.
 Changes in the legal environment in which the issuer operates, including
entry into effect of legal provisions that impose various obligations on the
issuer, for example: licensing requirements, tax obligations, obligations
relating to the environment, and obligations relating to restrictions on the
issuer's business operations.
 Changes in the issuer's financial position, based on the following factors,
among others: changes in the issuer's liquidity or profitability, changes in
financial ratios that are relevant to the issuer, changes in the cash flows
stemming to the issuer from current operations, and changes in the rating of
debt instruments previously issued by the issuer. Further evidence of a
decline in the issuer's situation can be based on the share price underlying
the transactions performed by the company shortly prior to the date of the
financial statements, such as capital raising, and off-exchange sales, and on
the derivative yields of the debt instruments issued by the issuer.
The information required in the Directors' Report includes details and explanations
designed to offer readers of the reports additional tools to understand the financial
statements, and therefore, and also pursuant to the provisions of Regulation 10(b) of
the Regulations, it is not sufficient to merely include a factual list of the data and the
information contained in the financial statements, and it is not necessary to repeat in
the Directors' Report the information contained in the financial statements.
In this context we note that, pursuant to the provisions of IFRS 7, a corporation should
provide full disclosure in its financial statements of, among other things, the method
used to determine the fair value of financial assets or liabilities measured at fair value;
the fact of whether this method is based on prices quoted in an active market or on
other various assessment methods; the underlying assumptions used to determine the
fair value; and a sensitivity analysis of the fair value data in the books with respect to a
change in any of the underlying assumptions.
In view of the above, a corporation is not required to include the above information in
its Directors' Report. Nonetheless, a corporation that wishes in its Directors' Report to
address matters as it is so required according to the provisions of IFRS 7, may add a
reference from the Directors' Report to the information contained in the financial
statements.
It is clarified that nothing in the contents of this publication limits the disclosure
instructions that apply to a corporation by the power of any law. Specifically, a
corporation must adopt clear criteria to determine whether a decline in fair value
should be considered significant and prolonged, and to describe such criteria in the
accounting policy note, and implement them consistently. Furthermore, pursuant to
the provisions of Section 10(5) of the Regulations, in its Directors' Report a corporation
must also refer to all the indications mentioned above with reference to the period
after the balance sheet date, to the extent that the event is mentioned in the financial
statements.
Finally, it is clarified that the disclosure format described in detail above also applies to
Directors' Reports on interim periods, with the necessary changes. Pursuant to the
provisions of Regulation 48 to the Regulations, in the event that change occurs in an
interim period and in the cumulative period from the end of the most recent reporting
year until the date of the interim report, in the fair value of a financial asset available
for sale that was charged to equity, and the change has an extremely significant effect
on the interim financial report data, the director's report should include complete
information as is necessary to understand the accounting treatment that was applied
and its underlying basis, using the format described above, with the necessary changes.