Auditors: Market concentration and their role - Economic Affairs Committee Contents

Supplementary memorandum by the IASB/IFRS Foundation (ADT 50)



  1.  At the request of the Group of 20 (G20) Leaders, the Financial Stability Board, European Finance Ministers and others, the work programme of the IASB continues to be guided by the twin priorities of completing its comprehensive response to the financial crisis, and the completion of its joint work with the US Financial Accounting Standards Board (FASB) to improve International Financial Reporting Standards (IFRSs) and US generally accepted accounting principles (GAAP) and to bring about their convergence.

2.  The G20 has called for convergence in global accounting standards to be completed by the end of 2011, as a precursor to the establishment of global accounting standards. The boards remain on track to achieve this goal.

3.  IFRSs are now required or permitted by more than 120 countries. By 2012, two-thirds of G20 members will have mandated the use of IFRSs, with the remaining members having established time lines to adopt or converge with IFRSs.

  4.  This remainder of this summary provides a brief overview of the projects on the technical agenda of the IASB related to the global financial crisis.


  5.  In particular, the IASB was asked to accelerate the review of aspects of the standards related to:

    (a) financial instruments accounting, and in particular the complexity of IAS 39 Financial Instruments: Recognition and Measurement;

    (b) the effectiveness of the incurred loss model for loan provisions;

    (c) off balance sheet risks in particular related to securitisations (derecognition) and special purpose vehicles (consolidation); and

     (d) fair value measurement (otherwise known as mark-to-market accounting) of assets especially when markets became illiquid.


  6.  In order to undertake a comprehensive review of the accounting for financial instruments, while dealing with the most urgent issues in a timely manner, the IASB split the project to replace IAS 39 into three main phases—classification and measurement, impairment accounting (provisions) and hedge accounting.

Phase 1: Classification and measurement

7.  In November 2009 the IASB finalised new requirements for the classification and measurement of financial assets by issuing IFRS 9 Financial Instruments. Although the mandatory application date for IFRS 9 is 1 January 2013, it was made available for earlier application from when it was published. Many jurisdictions have already made IFRS 9 available for use by their registrants, including Australia and New Zealand, Brazil, Hong Kong, Japan (for those applying IFRSs from 2010) and South Africa. IFRS 9 has not yet been endorsed for application in Europe, which prevents European entities that want to apply the new requirements from doing so.

8.  The IASB did not address the accounting for financial liabilities in IFRS 9. Most respondents to the exposure draft preceding IFRS 9 told us that the accounting for financial liabilities worked well except for one aspect—the volatility in net income that arises when an entity's own debt is measured at fair value. In such cases, changes in the creditworthiness of the issuer give rise to net income volatility (the "own credit" question). There is particular concern that as an entity's credit quality deteriorates, the entity reports accounting gains, which is counter-intuitive.

  9.  In May 2010 the IASB published an exposure draft proposing a solution to the own credit question. The comment period ended in mid-July and the proposals were well received. The IASB finalised and added these requirements to IFRS 9 in November 2010, with an application date of 1 January 2013 (although earlier application is permitted).

Phase 2: Impairment

  10.  In June 2009 the IASB sought views on moving to a more forward-looking expected loss impairment/provisions model. In November 2009 it published an exposure draft outlining such a model. Recognising the significant challenges of moving to such a model, the exposure draft had a long comment period of eight months, ending on 30 June 2010. During the comment period, the IASB set up a panel of credit and systems experts—the Expert Advisory Panel (EAP)—to advise the IASB on the operational issues associated with introducing an expected loss impairment model. Prudential regulators were active participants in the EAP, and the IASB and its staff have maintained an active dialogue with prudential supervisors, including regular meetings with the Accounting Task Force of the Basel Committee on Banking Supervision.

11.  The IASB received broad support for a move to an expected loss impairment model. However, a number of operational challenges were identified, and the EAP has suggested solutions for many of them.

  12.  The IASB and FASB have been considering their impairment proposals. In doing so each board began to develop a model for impairment accounting that was a variant of its original proposal. However, both boards are committed to enhancing comparability internationally in the accounting for financial instruments. In particular, they are committed to seeking a common solution to the accounting for the impairment of financial assets. The importance of achieving a common solution to this particular issue has been stressed to the boards by the G20, regulators and others.

  13.  On 31 January 2011 the boards jointly published a supplement to the December 2009 exposure draft. This supplement presents an impairment model that the boards believe will enable them to satisfy their individual objectives for impairment accounting while achieving a common solution to impairment. The objective remains to complete this phase by 30 June 2011.

Phase 3: Hedge accounting

  14.  On 9 December 2010 the IASB published an exposure draft of proposals to revise hedge accounting. The proposals address hedge accounting for both financial and non-financial exposures. Of all the phases of this project, this phase is of the greatest relevance to (non-financial) corporate stakeholders. Comments are due by 9 March 2011. The FASB has plans to invite comments on the IASB document.

  15.  The IASB expects to publish proposals on portfolio hedging in the summer.

Other developments: Balance sheet netting of derivatives and other financial instruments

  16.  In response to stakeholders' concerns (including those of the Basel Committee on Banking Supervision and the Financial Stability Board), the IASB and FASB expanded the scope of the joint project on financial instruments to address the netting or offsetting of financial assets. This is the single largest source of difference between the statements of financial position (balance sheets) of financial institutions using US GAAP and those using IFRSs. A common solution would be of great assistance to regulators and other users of financial statements.

17.  On 28 January 2011 the boards published a joint exposure draft proposing changes to IFRSs and US GAAP that would align the reporting of offsetting financial assets and liabilities. The changes would be more significant for those entities currently applying US GAAP because, for some US banks, it would result in reporting significantly more assets and liabilities on their balance sheets. The boards have heard consistently from the G20, regulators and others that a common solution is preferable. The boards are aiming to finalise the proposals in the first half of 2011.



  18.  At the time that the financial crisis developed, the requirements in IFRSs and US GAAP in relation to derecognition were different. US GAAP had an emphasis on legal isolation and also had a concept called a "qualifying special purpose entity" (QSPE) that was often used for securitisation arrangements. The IFRS approach is based on a combination of risks and rewards, control and continuing involvement. The financial crisis forced the FASB to make short-term amendments to its existing requirements (SFAS 140 and FIN46R) and improve the related disclosures. As a consequence, the FASB reduced the opportunities to move assets and liabilities off balance sheets by tightening the requirements and eliminating the concept of a QSPE.

19.  At the same time as the FASB was making its changes, the IASB developed and exposed proposals aimed at improving the assessment of when a financial asset should be derecognised and also at providing users of financial statements with more and better information about an entity's risk exposure. The overwhelming preponderance of the responses was that the existing requirements had stood up well during the crisis and that fundamental changes to the IASB derecognition criteria were not needed. However, the responses highlighted the need for improved disclosure to assist investors.

  20.  Even though some differences remain between the boards' derecognition requirements, they thought that it would be more appropriate to conduct a post-implementation review of the FASB's new requirements before conducting any additional work in this area. Instead, the IASB refocused its efforts on improving derecognition-related disclosures for both transferred assets that remain on the balance sheet and for those that are derecognised. The IASB completed and issued those improvements in October 2010 and they are effective for periods beginning on or after 1 July 2011.


  21.  In 2008, as part of its comprehensive review of off balance sheet activities, the IASB published an exposure draft of a comprehensive replacement of the consolidation requirements, including a new definition of control of an entity that would apply to all entities and that would be more difficult to evade by special structuring. The exposure draft also proposed enhanced disclosures about securitisation and investment vehicles (such as special purpose entities and structured investment vehicles) that an entity has sponsored (or with which it has a special relationship) but does not control.

  22.  In June 2009, the FASB completed a project that amended and improved US GAAP to address reporting issues in standards for consolidation of variable interest entities (and related disclosures). Those issues had been highlighted by the financial crisis.

  23.  In October 2010 the FASB, in conjunction with the IASB, held round-table meetings to consider a staff draft of the new Consolidations IFRS. The aim of the public meetings was to help the FASB to decide whether it should publish an exposure draft based on the IASB's forthcoming IFRS, as a first step towards aligning the requirements for what US GAAP refers to as voting interest entities.

  24.  In the light of the responses, the FASB has decided to expose the principal-agent sections of the IFRS model. The IASB modified some wording in the staff draft to address matters raised at the round table. The IASB is now finalising what will become IFRS 10 Consolidated Financial Statements, which it plans to issue in late February in conjunction with IFRS 11 Joint Arrangements and IFRS 12 Disclosure of Interests in Other Entities.

  25.  Some small differences will remain in relation to voting interest entities. US GAAP will continue to allow some entities controlled by votes not to be consolidated. The FASB chose not to implement the full IFRS model now, but to review application of IFRS 10. Despite this gap, the changes made by both boards align the recognition and disclosure requirements for the areas that caused the greatest concern during the financial crisis.


  26.  The objective of this project is to develop a common definition of fair value and common implementation guidance between the FASB and the IASB, such as guidance on measuring fair value when markets are illiquid. Achieving convergence of the definition of fair value is necessary to achieving full convergence of any standards that require a fair value measurement. The IASB standard will not, and the FASB standard did not, introduce any new requirements about when to use fair value. The fair value standards are concerned only with how to measure fair value.

  27.  In June 2010 the FASB published exposure drafts proposing minor amendments to the wording of the US GAAP requirements and the IASB exposed a proposal to clarify one disclosure requirement. The boards have considered the responses to those proposals and plan to finalise the new standard, which will be IFRS 13 Fair Value Measurement, early in the second quarter.

31 January 2011

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