Pinners Hall
105-108 Old Broad Street
London EC2N 1EX
tel: + 44 (0)20 7216 8947
fax: + 44 (2)20 7216 8928
web: www.ibfed.org
International Accounting Standards Board
30 Canon Street
London
United Kingdom
14 January 2014
Dear Mr Hoogevoorst,
IBFED RESPONSE TO THE IASB DISCUSSION PAPER CONCEPTUAL
FRAMEWORK
Thank you very much for the opportunity to provide comments on the above Discussion
Paper. The IBFed will be commenting on selected areas that are of most importance for our
members.
Status of the Framework
The IBFed believes that the Conceptual Framework (CF) should be the primary conceptual
source for development of any new requirements and guidance and also used as a tool by
preparers in preparation of financial statements in the absence of a standard addressing a
particular issue. While concepts in the Framework should be sufficiently detailed to be useful
for the IASB as well as others such as the IFRS Interpretations Committee, the CF should
remain principle based and refrain from addressing specific accounting issues which may be
more appropriately addressed at a standards-setting level.
The CF should generally be expected to remain stable. New standards should be developed
on the basis of comply or explain where there is an apparent conflict with the CF. Deviation
from the Framework may arise either because one aspect (principle) is being given more
emphasis in a particular situation or to better meet the primary objectives of financial
reporting. It will be a matter of judgment whether the CF should be amended in such
situation. To enable better understanding of the potential consequences of the proposed
changes to the current Framework, the IASB should, when developing the Exposure Draft,
highlight the consequences, if any, for individual standards as currently it is not clear what is
the IASB trying to address with the amendments.
Registered in London England. Reg. No:5088551 Registered Office: Pinners Hall 105-108 Old Broad Street London EC2N 1EX
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Existing chapters of the CF
Prudence
The IBFed understands the term prudence as requiring more evidence in support of gains and
assets than for losses and liabilities to avoid overestimation of gains/assets and
underestimation of losses/liabilities. Prudence can, on the one hand, be particularly important
when it comes to estimations. On the other hand, over-conservatism in one period would lead
to increased revenues in subsequent periods which would be contrary to our understanding of
the term.
The IBFed believes the concept of prudence is embedded in the standards that contain
adequate safeguards against overoptimistic management estimates and assumptions.
We believe the understanding of the term “prudence” needs to be clarified and the difference
between prudence and prudential considerations explained.
Stewardship
Stewardship is an important element as management must be considered as users of financial
information in the same way as investors and creditors. Basing a measurement on information
that is used in managing the business is key to ensuring that the financial reporting is
relevant, reliable and understandable. It is important that management can report to their
shareholders on past transactions and events of the period to fulfill their fiduciary duties and
stewardship responsibilities. While there is no explicit reference to stewardship in the current
CF, we believe that the wording of OB4 and the paragraph 1.27 of the basis for conclusions
are explicit enough to indicate that the conceptual framework continues to treat information
about stewardship as one of the requirements to meet the objectives of financial reporting.
Reliability
Faithful representation contains neutrality, completeness and freedom from error
characteristics that were also part of the reliability concept. While the substance over form is
missing, paragraph 3.26 of the basis for conclusions explains that the concept is redundant as
faithful representation already implies representing the substance of an economic
phenomenon. It may be helpful to put greater emphasis on this concept.
Definitions of assets and liabilities
The definitions of assets and liabilities would be acceptable on their own. However, the
relationship with the recognition criteria is important. The proposed definitions may increase
the pressure on recognition of assets/liabilities, widening their current scope. While more
items could be defined as assets, in practice they may not be recognized where costs exceed
benefits or where measurement could not be considered faithfully representative. If the
outcome cannot be reliably determined, the measurement may not be sufficiently reliable for
recognition.
Assets and liabilities should be recognized when this provides useful and understandable
information. Criteria that focus on whether the results are cost effective and faithfully
representative may achieve this in a more straightforward manner than defining a probability
threshold. Sufficient weight must be given to the above criteria to prevent measurement
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methods having to be developed for low probability items when it is clear that the cost of the
process will not be out weighted by the benefits.
The IBFed agrees with retaining the existing definition of a liability that encompasses both
legal and constructive obligations.
Concerning the definition of “present obligation” the IBFed supports the view that a present
obligation must have arisen from past events and be practically unconditional. An obligation
is practically unconditional if the entity does not have the practical ability to avoid the
transfer through its future actions.
Distinguishing between equity and liability
Faithful representation cannot be achieved if legal form takes precedence over the
commercial substance. In practice, contracts may be constructed in a way that would allow
for either equity or liability classification under IAS 32 which may not always be in the line
with markets perception of such instruments. The contractual terms of certain instruments
may be based on the need of an entity to receive a certain regulatory treatment.
The IBFed believes that it is important that framework/specific standards explores situations
where the contractual terms are considered so unlikely to occur that they are disregarded in
the initial and subsequent pricing unless and until the terms become relevant.
If it were decided that the debt versus equity classification should depend on more than just
the contractual terms, then management actions and intent as demonstrated by as past
behavior giving rise to expectations on the part of holders may also be relevant.
Remeasuring secondary equity claims and the concept of “a transfer of wealth”
Both the remeasurement of equity claims and the concept of “a transfer of wealth” proposed
under the strict obligation approach, are new concepts to most IBFed members. Presenting
value movements within the statement of changes in equity as a transfer of wealth between
equity holders would result in more complex accounting given the consequential
requirements e.g., to re-measure all equity-settled share based payment awards at the end of
each reporting period. In addition, the usefulness of the information provided by remeasurement is unclear (i.e., showing volatility on equity instruments that may not be issued)
and the CF does not provide any arguments to support it.
Profit and loss definition
While recognizing the difficulties of defining profit and loss, the IBFed believes that
description of the elements for the statement(s) of profit or loss and OCI (income and
expense), statement of cash flows (cash receipts and cash payments) and statement of
changes in equity (contributions to equity, distributions of equity and transfers between
classes of equity) in a way which indicates the link to profit or loss or OCI in a clear way
would be helpful.
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Recognition and derecognition criteria
The IBFed is concerned with the control notion as the solely recognition criterion. Such an
approach has been subject to critical comments by the constituency in the proposed
amendments to IAS 39.
The industry is in particular concerned with the derecognition of repo transactions of liquid
assets that would not be consistent with the economic substance, result in the recognition of
inappropriate profits and losses and fail to reflect risk as hedged items will be derecognized
while risks and rewards would remain. This may be difficult to understand by users and
require the reporting entity to apply complex hedge accounting rules in greater number of
cases as repo hedged items will be derecognized while the transferor would still have its risks
and rewards.
The IBFed therefore believes that risks and rewards are important complement to achieve fair
representation of risks to which the entity is exposed.
Measurement
The IBFed strongly support the mixed measurement model and believes that an entity’s
business model should play a prominent role in determining the relevance of a particular
measurement base. Either fair value or amortised cost can provide the most relevant
information depending on the circumstances, and so using the business model approach to
determine this helps ensure that the primary financial statements are presented on the basis
that best reflects the earnings flows that different types of instrument will achieve.
In circumstances where financial instruments are managed on fair value basis, this
information alone is sufficient for management to explain the business model and
performance of the entity and for users to fully understand the future expected cash flows.
Fair value reflects both the business model and the expected future cash flows for financial
instruments that are actively traded However, the current fair value and the change in fair
value between reporting periods do not always faithfully represent transactions in financial
instruments undertaken or their contribution to sustainable earnings where the business
activity is not based around short-term trading or the instruments are not managed on a fair
value basis.
If the instrument is held for use in the business to generate cash flows with the aim to achieve
a stable income flow earned on an ongoing basis over a certain period, material profit from
short-term market movements will not arise. The future cash flows are readily identifiable
including both the amount and the timing of such cash flows.
Information that will assist in understanding the timing of the potential cash flows and credit
risk will therefore be most relevant and useful for the users of financial statements.
Amortised cost, including any impairment and taking into account the additional details in the
notes, provides investors with more relevant information on potential cash-flow performance
than fair value alone.
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The IBFed believes that the measurement chapter could benefit from further elaboration of
the principles, while the examples provided for illustration purposes could be addressed at a
standard level.
Business model
The inclusion of the business model principle in the CF is essential. The business model
should describe how the entity creates, delivers and captures value, reflecting how the
business is managed. For financial services firms the business model will include a broader
consideration of the relationship between assets and liabilities, and how these are used to
create value. Understanding how financial assets and financial liabilities will be used,
whether individually or managed together to create and deliver value is critical.
In addition to having strategies for using financial instruments in the business, banking
institutions have different strategies for mitigating risks. Financial instruments are complex
instruments containing different risks which are often managed in different ways. It is crucial
to provide transparency of the results of risk mitigation strategies in the financial statements.
While some risk mitigation techniques are focused on reducing volatility in the fair values
reflected on the balance sheet, other techniques are focused on ensuring stability of cash
flows and/or net interest margins.
Recognising the business model in standard setting is that it creates financial information that
is measured on a basis that is more relevant to how the entity operates in its economic
environment and provides a more faithful representation of an entity’s financial position and
performance.
Disclosures
It is crucial to avoid excessive and irrelevant disclosures that could reduce readability and
understandability of financial reports. The discussion on the relevance and location of the
disclosures should take place at the level of CF.
Materiality
The IBFed believes that the concept of materiality is clear although it is acknowledged there
may be differences in practical application. It must be taken into account that materiality is
applied at entity level and involves a degree of professional judgment taking into account not
only entity specific factors but also various macro-economic aspects. Different reporting
outcomes could therefore be the result of application to different circumstances surrounding a
specific item and not necessarily a result of diverging understanding. The concept of
materiality is an entity specific aspect of relevance and cannot be reduced to a set of
prescriptive rules. If necessary, the principle behind materiality could be articulated more
clearly to increase consistency in application and comparability at global level.
Presentation in the statement of comprehensive income—profit or loss and other
comprehensive income
The IBFed agrees that P&L and OCI are separate statements. Recycling should be allowed
where it provides more relevant information. We believe profit and losses well as OCI should
be defined, however we are aware of the difficulties to do this is despite many years’ effort.
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The IBFed supports the broad approach for inclusion of items in OCI. The profit and loss
should include the realization of value changes that may have previously been recognized in
previous periods, not only changes in value of assets and liabilities that have taken place the
current period.
Unit of account
The IBFed believes that it is important that the framework does not define the unit of account
as “the contract level”. There are good arguments for use, in certain circumstances, of a unit
of account that combines individual contracts and sometimes being a part of a single contract
or parts of contracts. The IASB has already recognized this need in single standards.
However the alignment with the Conceptual Framework is important.
Yours sincerely,
Sally Scutt
Managing Director
IBFed
Dirk Jaeger
Chair
IBFed Accounting Working Group
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