新的《國際財務報告準則》第9號對沖模式----財務報告更新(德勤加拿大) (The new IFRS 9 hedging model - Financial Reporting Update (Deloitte Canada))

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Welcome to the Deloitte Financial Reporting Update, our webcast series for important issues
and developments related to accounting frameworks. Today, we present the new IFRS 9 hedging model.
My name is Steve Aubin and I am an Advisory Partner in the Calgary office. I will be your
host for today’s webcast and I will be joined by others from the Canadian practice. A couple
of items before I tell you about the agenda and introduce our speakers. In the lower right-hand
corner of the screen are the webcast links, which include the link to download and print
out today’s slides, links to the webcast assistance, the links to the Deloitte updates
of upcoming sessions as well as the links to the archive sessions. If you have a pop-up
blocker on your computer, you will need to disengage it in order to download the slides
or participate in our polling questions. For those of you who know of colleagues who could
not attend today’s live event, they can simply register at any time for the event
the same way that you just did and they will be able to view the archived webcast within
48 hours after this event. So, please feel free to invite your colleagues to take advantage
of this feature afterwards. In addition, although you are on a listening mode only, you can
ask questions to our presenters during the session in the box at the bottom of the screen
and click submit. We will do our best to respond to your questions and comments during the
presentation. We also have interactive polling questions that will appear throughout the
webcast on your screen. Again, we invite you to participate by simply answering these questions
on your screen. A summary of the results will be provided on the screen shortly afterwards.
Now, let me introduce our speakers and discuss the agenda. First, you will hear from Kerry
Danyluk, who will provide us with an overview of the new standard and some additional information
on eligible hedging and hedged items under the standard. After Kerry, Kiran Khun-Khun
will update us on the hedge effectiveness requirements of the new standard as well as
the accounting and disclosure of consideration. She will finish with some important matters
to consider on transition and finally, we will conclude the session with a brief Q&A
session. You can read the bios of our presenters and access the agenda and technical support
in the navigation areas on your screen. Please keep in mind that it is a lot of material
for a 90-minute webcast, so we will need to keep the discussion at a fairly high level.
As I mentioned earlier, if timing permits, we will conclude with a question and answer
period. I would like to remind our viewers that our comments on this webcast are our
own views and do not constitute official interpretive accounting guidance from Deloitte. Indeed
as you know before taking any actions on any of these issues, it is always a good idea
to check with a qualified advisor. Before we kick it off, let us start with our
first polling question. We are going to ask everyone on the line to participate in this
webcast with our first polling question and please note that your response will remain
anonymous. Here is the first question: Are you considering early adopting IFRS 9
to take advantage of the new hedging standards? a. Yes
b. Probably not c. Maybe
While we are waiting for the results of the polling question, I would like to remind you
that today’s webcast maybe counted towards your continuing professional education. If
you stay with us for the whole webcast, you can credit yourself with one and a half hours
towards your annual total. This applies to those in public practice and those working
in industry. We do not issue certificates for the webcast, but your email registration
and confirmation can form part of your documentation in support of your attendance.
Let us look at the results of the first question.
We have about 5% of the people, 6% that are considering it and 65% probably not. I would
say that is probably consistent with the discussion I had with a lot of companies out there over
the last six months. Having said that a lot of people are starting to consider the benefits
and the advantages, we have to keep in mind that this is a fairly new standard that just
came out in December and I truly think that people are just starting to really understand
the benefits. Now, I would like to welcome our first speaker
for today’s webcast, Kerry Danyluk. Kerry Danyluk is a Partner in Deloitte’s National
office in Toronto. She specializes in a number of areas of IFRS, ASPE and not-for-profit
accounting. She has worked with entities in a number of sectors of IFRS implementation
and complex accounting issues including Crown corporations, financial services and public
utilities. So Kerry, I will now turn it over to you.
Thanks Steve. Before we get into meat I guess of the hedging standard, I just wanted to
give a little overview about IFRS 9. As you all know, I am sure, IFRS 9 in the hedging
instalment that we are going to be talking about today is part of a larger project and
so, all these pieces of IFRS 9 have been in development for a number of years and we got
a little schematic on the slide here of sort of all the various pieces and where we sit
with them. There are currently a number of parts of IFRS 9 that are available for early
adoption and today we are going to focus our comments on the general hedge accounting standard,
which was just released late last year and this is the latest instalment in the IFRS
9 story I guess. In terms of other pieces of the standard, we expect the new impairment
standard to be finalized later this year and macro hedging is still at a much earlier phase.
It is still at sort of the discussion paper phase. We currently expect that all the pieces
of IFRS 9 will be mandatory for fiscal years starting on or after January 1, 2018. If you
have been following the project, you probably will remember that there was a thought at
one point that parts of IFRS 9 would be mandatory as early as 2013. So, we have really seen
a fair bit of slippage, I guess probably due just to the overall complexity and controversy
of this project. So as I mentioned, there are various parts of IFRS 9 that are available
for early adoption and as we will see on the next slide, there is a bit of complexity in
the order to which these parts may be adopted. The first piece of IFRS 9 to be released related
to classification and measurement of financial assets. This part of the standard sets out
the parameters for measuring financial assets at cost or fair value. There are currently
some proposed changes to the standard out for comment right now, but we do have an existing
version of the standard. We expect resolution of the exposure process later this year. So,
there may be some more changes to the classification and measurement of financial assets to come.
In the meantime, the current version of IFRS 9 on classification and measurement of financial
assets is available now for early adoption and this part of the standard could actually
be adopted by itself and in fact a number of companies have adopted this standard, not
financial institutions because the regulated ones have not been allowed to by the regulators,
but we have seen companies in other industries who have early adopted parts of IFRS 9.
The next thing we got was guidance on classification and measurement of financial liabilities in
2010. This part of the standard can also be early adopted, but must be adopted with classification
and measurement of financial assets. If for some reason you wanted to adopt the financial
liabilities part of the standard, you would also adopt the financial assets part that
came out in 2009. In 2013, there was a more limited amendment that was released that deals
with re-measurement gains and losses related to a company’s own credit risk when financial
liabilities are recorded at fair value to profit and loss. This standard requires that
gains and losses related to changes in own credit risk should be recorded in other comprehensive
income and not profit and loss. This part of the standard, just to make it
even more confusing, can actually be adopted all by itself without any of the other pieces.
So if you had something under IAS 39, a financial liability, that you were classifying, carrying
at fair value through profit and loss, so maybe it was a liability that had a complex
embedded derivative or something like that and you opted to mark it to fair value, then
you could adopt this part of the standard that talks about what to do with gains and
losses on the fair value re-measurement. Also in 2013, and this is the subject what we are
going to talk about today, we got the amendments related to hedge accounting. If the hedge
accounting standards are early adopted, then what you must do is adopt all the other pieces
of IFRS 9 that came before, so you need to adopt all those at the same time. If you do
decide to adopt the hedge accounting rules, just recognize that, that means that other
things need to happen as well such as making sure to classify your financial assets and
liabilities under the new standard. On the next slide, we just thought we should
point out some of the things that have not changed from IAS 39, so applying hedge accounting
remains a choice. The main objective behind the new IFRS 9 changes on hedge accounting
was to allow the accounting to more closely reflect risk management strategies and also
simplification was an objective as well. There were a lot of concerns that hedge accounting
was very complicated and did not reflect the way people actually are or the way the companies
are actually hedging their risks. So really trying to deal with both of those things in
the new standard and I guess it remains to be seen how well they have achieved that as
we get through our implementation of this new standard. Let us just look at that. There
are a number of things about IFRS 9 that are not changing. They did want to make it simpler
and more closely match up with risk management strategies, but they did leave some certain
principles in place. First of all, hedge accounting is still a
choice. What that means is if you are doing hedging, economic hedging I will say where
you are not applying hedge accounting, you do not need to and there is nothing in IFRS
9 that would say that you would need to apply hedge accounting. You could continue with
economic hedges and not seek hedge accounting and in fact, really the only way to trigger
your hedge accounting is to comply with all the pieces of IFRS 9 including designation
and documentation, which is another feature of hedge accounting that we are quite familiar
with from IAS 39 that the hedges must be designated at inception of the hedge relationship and
there is documentation requirements that need to be met. Also there is no change under IFRS
9 in the kinds of hedges for accounting purposes. If you are familiar with hedge accounting
now, you will know that there are fair value hedges, cash flow hedges, and hedges of net
investment in a foreign currency entity. There is no change in the basic types of hedges
and really a lot of similarities are pretty much the same in the mechanics of how those
different hedges would be accounted for. This next slide presents a good, more complete
overview, of the new hedge accounting standard and highlights some of the areas of difference
that we will go through in more detail through the presentation. As under IAS 39 just to
get some of the terminology down, we will refer to hedging instruments, what kinds of
things can you use to hedge an exposure, as well as hedged items, so these are the exposures
that are eligible for hedge accounting. These two elements work together to form the hedging
strategy for designation and documentation and accounting purposes. There have been some
changes in what can be a hedging instrument as well as changes in what are eligible hedged
items. We are going to go through these in a bit more detail shortly and then Kiran is
going to talk about in more detail about the effectiveness assessment process. This is
another area where hopefully the standard has become a little bit more user-friendly
and somewhat more judgement based than what we have seen in the past and then as well
Kiran is going to touch on the disclosure requirements, which have been increased in
the new standard. First on to eligible hedging items. This first
slide sort of presents, so on here we are going to focus you in on what you can now
consider to be hedging instruments under IFRS 9 and there are a couple of areas of difference
that we are going to touch on. Under IAS 39, non-derivatives could be used as hedging instruments
only related to hedging foreign currency risk. For example you could use US dollar debt to
hedge a net investment in a US dollar foreign operation, so that is an example of using
something that is not a derivative, being the debt, to hedge an exposure, but now this
has been broadened out a bit more under IFRS 9 as we will see. Let us look at an example.
An example, as the slides says, it is now possible to use non-derivatives in more cases
to hedge exposures and one of the examples that is given is a financial instrument measured
at fair value through profit and loss could now be a hedging instrument. What would be
an example of that? There is a company that has a highly probable forecast gold purchase
and so they know that they have got this exposure to the price of gold, what could they use
to hedge that? Under this new feature of IFRS 9, they could, in fact go out and purchase
units of a gold fund that holds physical gold and those would be a financial instrument
because it is units of a fund and those units also under IFRS 9, would be carried at fair
value through profit and loss and that could be a hedge, you could consider those units,
that investment, as a hedge of the highly probable gold purchase.
Then on the right hand side of the slide, we are touching on the new guidance on using
options and forwards as hedging instruments. It is a somewhat more complicated discussion,
which we will go through, but it does kind of open the door and make the accounting a
little bit more friendly in that area. Let us move right on to that then, on the next
slide. Let us consider options for a moment, as under IAS 39, an option that you purchased
would be recorded at fair value under IFRS 9. The fair value of an option consists of
the intrinsic value and time value. Intrinsic value of course, as a little bit of a review
here of some of the terminology, is the difference between the fair value of the underlying option
and the strike price. If the instrument is an option to buy stock, then the intrinsic
value is the difference between the option exercise price and the fair value of the actual
stock that you could buy. Then there is also time value and time value includes volatility
and can be somewhat volatile in your P&L. Under IAS 39, companies doing hedge accounting
for strategies involving options would often exclude the time value from the hedging relationship
because that would give you better effectiveness in your hedge relationship, but it meant that
the volatile time value element needed to be included in the profit and loss. So what
have they done under IAS 9? For option-based hedging strategies, there will be the ability
to exclude the time value from the hedging relationship. We have that already, so what
is different? In the case of IFRS 9, a portion of the time value would be deferred in OCI.
How much time value gets deferred in OCI depends on how perfectly matched the terms of the
option are to the hedged exposure. This is referred to in the standard as the aligned
time value, which gets deferred in OCI. If the terms of the option are not a perfect
match, then some portion of the time value may have to be recorded in profit and loss
and this is what I am calling the residual on my slide, so that falls to the P&L. The
time value deferred in other comprehensive income would be recycled to profit and loss
in a way that depends on whether the hedged exposure is transaction-based or time-based,
so there is some different guidance depending on the kind of hedge that you are dealing
with. An example of a transaction-based exposure would be the purchase of an inventory let
us say like a commodity or something and your hedging price risk and time-based exposure
maybe seen in the interest rate hedging strategy.
So what about forwards? Well here they take a similar approach and let us look at the
value of a forward. The value of a forward contract includes a forward element, which
is the difference between the forward price and the spot price of the underlying. Under
IFRS 9, it will now be possible to exclude the forward element from the hedging strategy
similar to what we went through in options and either recorded immediately in P&L or
defer in OCI. We have a choice here to put it to the P&L or to the other comprehensive
income, whereas under the option discussion it was only to other comprehensive income
if you decided to exclude the time value from the hedging relationship. So you deferred
in OCI and again that is to the extent that the terms of the forward match the hedged
exposure. Again, we have this idea of aligned forward element and being deferred in OCI
and then recycled back into the profit and loss and then the residual would go to P&L.
In IFRS 9, just to summarize, the option, time value and the forward element are referred
to as the cost of hedging and under IAS 39, these elements would have been a potential
source and effectiveness is included in the hedging strategy. If you exclude them under
IAS 39, then they would have fallen straight to P&L. IFRS 9 is kind of giving a little
bit of a better of both worlds in the sense that these costs can be excluded from the
hedging strategy probably increasing its effectiveness by giving some ability to defer some of that
volatility into other comprehensive income, so less volatility in the P&L.
Let us move on, that is a discussion sort of, of the hedging instruments and some of
the things that have changed on that front and let us move on to eligible hedged items.
On this first slide, the top row is showing all the things that are eligible hedged items
now under IAS 39. IFRS 9 is going to include all of these and adds the items that you see
on the bottom row. We will talk about each of these in the coming slides. The non-qualifying
items are listed at the bottom of the slide. These would also not have qualified under
IAS 39. For example, an entity cannot hedge any of its equity instruments, so it is issued
equity. Also hedge accounting cannot be achieved related to firm commitments to acquire a business,
so if you have an upcoming business combination. Equity-method investments also cannot be hedged
or at least you could economically hedge some of these things, but you would not be achieving
hedge accounting. This is probably one of the areas that is of interest to a number
of people looking at whether or not they would really adopt IFRS 9 and this deals with risk
components of non-financial items. Let us look at an example about what this could mean.
This sort of hedging strategy, hedging a risk component, starts with a consideration of
whether there is a risk component that is separately identifiable and reliably measurable.
Is there something in there that is a separate risk that you can identify and reliably measure
and hedge? If you have that, then it is possible that you could develop a hedge accounting
strategy that achieves a hedge of just that risk component. So that was not possible under
IAS 39 in the past except for in the case of just foreign currency hedging. Here now
we are able to look at different elements of risk and possibly create hedging strategies
that would achieve hedge accounting. So this example, the coffee example on the slide is
actually we developed it straight from one that appears in IFRS 9. We have entity B and
they are buying Arabica coffee for their own use and for delivery. They need it for their
business. In order to mitigate the risk of price changes, B enters into exchange traded
futures contracts for what is referred to as the benchmark quality of coffee, so that
is the standard futures contract that is trading on the futures exchange. It is not the Arabica
that B purchases for its use, but a different quality of coffee for which the exchange traded
futures maybe obtained. These contracts go out 15 months into the next harvest year.
B has entered into coffee contracts to purchase the Arabica coffee for delivery from the current
harvest, so they have secured basically their supply with these contracts. The contracts
include a pricing formula, which includes the price of the benchmark quality coffee.
You can see on the slide, it says the purchase
price basically, as specified in the contract, includes an element that reflects, at any
point in time when they take delivery of their coffee, part of the price would be related
to the coffee benchmark quality price per the futures exchange and then the quality
premium. So the difference between today’s price for that benchmark quality coffee compared
to the Arabica coffee, which is a different quality, that we are actually buying plus
transportation charges because they need to actually get the coffee to where they need
it. So we got this pricing formula within the contracts.
Beyond the current harvest, there are no contracts yet. So B does not really have any secured.
They do not have a contractually determined pricing formula yet for beyond the current
harvest, but they do have a highly probable future purchases for Arabica for the foreseeable
future that is part of their business, they need that coffee and they know that, that
will continue. The question that is asked on the slide is to what extent B can hedge
on a risk components basis? Let us look at the next slide, which outlines some of B’s
considerations. First of all, for the purchases during the current harvest, B has Arabica
supply contracts that include a pricing formula. In that formula, the price of the benchmark
quality coffee is separately identifiable risk component and B considers it to be reliably
measurable. This is kind of their conclusion on this question. Therefore, they conclude
that they can use the purchased coffee futures to hedge the risk component in the Arabica
contracts and that risk component is the price of benchmark quality coffee. What about the
period beyond the current harvest? And so remember they have no contracts right now.
They do not really know what those contracts for the purchases of Arabica, say into next
year, are going to be. However, they do have their highly probable purchases, so that is
potentially an exposure that would meet the condition of being a highly probable purchase,
which would be the same kind of threshold that we would have seen under IAS 39 in terms
of probability. Since there is no contract, B needs to analyze the market structure and
pricing to determine if the price of the benchmark quality coffee is separately identifiable
and reliably measurable risk component. Based on their experience with the market and how
their contracts for Arabica are eventually priced, B concludes that the price of the
benchmark coffee is separately identifiable and reliably measurable and so concludes that
this is a risk component that can also be hedged with the coffee futures.
Under IAS 39, just to reiterate, the benchmark quality price could not have been hedged by
itself and this hedging strategy would have been very unlikely to achieve hedge accounting
or this sort of hedging strategy where you are just hedging a component. So that is just
a little summary of how we can consider the door is opened up a little bit more in terms
of hedging risk components. In terms of what does this mean, we now think of hedge accounting
being available for many more risk management strategies and non-financial risks potentially.
As noted on the slide, any kind of risk management strategies that you are currently involved
in using derivatives related to agricultural products, energy, precious metals, basically
commodities, as I said, that is one of the places where if people are thinking of really
adopting IFRS 9 may be because they have these kinds of purchases and hedging strategies
or they would like to do that sort of thing and get hedge accounting. The next I am going
to talk about is a little bit different, but there are some changes in IFRS 9 as well.
It may be possible now to combine an exposure and a derivate to create an aggregated exposure,
for which hedge accounting maybe achievable. Let us look at an example on the next slide.
Consider entity A, which has the Canadian dollar as functional currency. A enters into
Canadian dollar floating rate loan and then enters into a pay US dollar floating and receive
Canadian dollar floating cross currency interest rate swap. This swap or payer of instruments
that we can see on the slide, the Canadian dollar floating rate loan and the US dollar
interest rate swap, you would not achieve hedge accounting for that because we are not
offsetting a risk, we are actually creating one, in fact, economically we have changed
the Canadian dollar floating rate loan to be almost as if it is an US dollar exposure.
Effectively, what we have done is created a US dollar floating rate exposure as I said
and under IFRS 9, this exposure can be hedged by another derivative and the hedging relationship
would be eligible for hedge accounting, so you would not have been able to do this under
IAS 39. This is another area to think whether: is there anything in your risk management
strategies and so on where something like this would be attractive since it is now possible
under IFRS 9 to get hedge accounting in these kinds of situations.
The next thing I want to talk about is groups and net positions. This is a potentially complex
area, but another one where we can see some more avenues opening up to apply hedge accounting.
The ability to get hedge accounting would require that the items be managed together
on a group or a net basis, beyond that there are other parameters impacted by whether or
not it is a net position that you are looking at or a group or whether it relates to foreign
currency exposure. It does get into a fair bit of complexity in the standard and I guess
the other thing to point out about reading the standard is there is the front part of
the standard, IFRS 9 itself, and then it refers you oftentimes into appendix B, which is where
a lot of the guidance actually sits. So, do not forget about that appendix B when you
are looking at IFRS 9, that is where a lot of the examples and in some cases, whatever
guidance there is, appears in appendix B. Let us look at an example, just one of many
possibilities as it comes to group and net positions. Consider a Canadian dollar functional
currency entity with highly probable forecasted transactions consisting of purchases in three
months’ time of $300,000 US dollars and sales of $500,000 US dollars. Basically, they
have a line of business where they are selling into the US and they have some US expenses
as well. One of the conditions for hedge accounting
on a group basis is that the items be individually eligible for hedge accounting. What does this
mean? In our case, because it is future forecasted transactions, we think about: Are they highly
probable? Would they individually meet the conditions for hedge accounting? Could I have
hedged them on their own? Here we are told in the facts of the case that these purchases
and revenue are highly probable of occurring so that condition would be met. We are also
told that the exposure is managed on a net basis. This is another requirement and this
is something that would have to be sort of observable and would be a question of fact,
are you actually managing this exposure on a net basis. If you can say yes to that and
you met the highly probable conditions, then potentially it is possible that you could,
as this company has done, take a foreign currency forward for the net, being the $200,000 maturing
in three months’ time, and use that to hedge the net position. And that is the question:
Can we make that work? On the next slide, we see the answer is yes, for managing the
risk on a net basis, we were given that in the facts of the case. So, you have to think
about what that would mean and how you would demonstrate that in your particular circumstances
and as well as I mentioned individually, they are all highly probable transactions and so
they would potentially be eligible for hedging in the way described using this $200,000 US
dollar forward, which represents basically the net exposure. When you do this, then the
fair value of the change that the entire population designated as hedged items is taken into account
on a gross basis in assessing effectiveness. Fair value gains and losses on the hedging
derivative so the $200,000 forward is recycled from equity when each of the US dollar sales
and purchases hits income, obviously you have to find a reasonable rationale way to allocate
those gains and losses as the hedge transactions occurred. With that Steve, I think I am done.
Thank you very much Kerry. Let us move on to our next polling question. Our second polling
question for today’s webcast is:
Which of the new features of IFRS 9 hedging are of most interest to you and your company
for future hedge accounting? a. Ability to achieve hedge accounting for
hedges of risk component b. Changes related to accounting for the cost
of hedging when hedging with options or futures c. Ability to have an aggregated exposure
as a hedged item d. Ability to achieve hedge accounting for
hedges of a group or net position e. Some or all of the above
f. Not sure yet Kerry, while we are waiting for the audience
to answer the question, I would like to ask you one question. Currently, there is an IASB
project that relates to hedging in dynamic risk management strategies. What is the difference
between that project and hedge accounting standard that we are talking about today?
Steve, it is a good question, that project is one that people also call it sometimes
the macro hedging project, that’s what it has been called. I think it seems to have
gotten a fancier name lately and those are really the more complex hedging strategies
often used probably more so by financial institutions where what they have is dynamic portfolio
where the exposures are sort of constantly changing and so the hedging strategy itself,
like as the title suggests, needs to be much more dynamic. What that project is looking
at is: how could the hedge accounting principles apply in such situations? And I think you
can see that, that is a more complicated series of questions and maybe a more specialized
area of hedge accounting. They did not want to slowdown the process of getting some new
hedge accounting guidance out for the more general hedging strategies and what they did
was a couple of years ago was they decoupled these projects and said ok we are going to
go with a more simple, general hedge accounting project and we’re going to take more time
on the macro hedging and that is where they are at the discussion paper stage right now,
so that is even actually before we even have an exposure draft, where they are still kind
of in their fact finding and developing their positions mode, so that is basically a little
bit of an overview of the difference between those two projects. It sounds like that project
really would align the hedge accounting a little bit more with the risk management policy
of a lot of companies. I guess that is the hope especially for those like financial institutions
with those very complex strategies. Good, so let us go back to our polling question.
I see the results here. I think all of the above are 35% and not sure yet 40%. I am not
surprised with some or all of the above because from my experience in working with some companies
adopting the new standard and be reminded that I have focused much more with companies
that deal with commodities, but the ability to hedge the risk components has been a huge
factor on those companies early adopting especially in a commodity world and the other thing as
well that was a huge benefit for some of the companies was really the ability to defer
the time value of the options in OCI and we saw that very relevant to the oil and gas
industry given that in this industry a lot of companies will use costless collars to
go and hedge their exposure, so that would be consistent with the results here.
Now, I would like to welcome our next speaker, Kiran Khun-Khun. Kiran Khun-Khun is a Partner
in the Accounting Advisory Group in Toronto with over 15 years of experience with Deloitte.
As the Accounting Advisory Group is part of a National and worldwide practice, Kiran is
involved in complex accounting across various number of topics with a specialty in the area
of financial instruments, hedging and valuation. So Kiran, I welcome and I turn it over to
you.
Thank you Steve. What I will be doing today, I am just going to be picking up from Kerry
and spending the next session going through hedge effectiveness, that has been an area
of significant change in IFRS 9, going through the accounting disclosure along with transition
impacts and questions to think about in determining whether early adoption makes sense to you,
why, who is doing it, what are folks thinking about. So let us kick it off with hedge effectiveness.
So you will see on your screen, you have it right there, you have got the requirements
that must be met to demonstrate hedge effectiveness. So from the left to the right:
1. There must be an economic relationship between the hedged item and the hedging item.
2. The risk you are trying to manage and the derivative product that you are using to manage
that risk. 3. The effect of credit risk cannot dominate
the relationship and the hedge ratio must be established.
So, three parameters, I will talk to each in turn. Because hedge ratio is the last item
to the right on your screen, because the hedge ratio is the newer concept in this hedge effectiveness
test, I will be spending a couple slides diving deeper into what that means. From an economic
relationship perspective that means that generally the fair values of the item or the risks that
you are trying to manage, must move in the opposite direction as the derivative that
you have taken out to manage that risk. What that has done, as Kerry mentioned, is it has
opened the doors to be able to hedge variables that are economically related to each other.
From a commodity perspective, you may have a Brent-based derivative from an oil pricing
perspective that is being used to economically manage the price risk of a WTI, which is a
different index for oil, a WTI forecasted sale for example. Under old GAAP, it was very
difficult to be able to establish hedge accounting in that scenario. Under this test, all that
would need to be done is that one would need to establish that an economic relationship
does exist between the WTI price risk and the Brent price risk.
Credit risk, this one is sort of a concept tossed in just to make sure that as the fair
values move between the item you are trying to manage the risk of and the related derivative
product that there are no other movements that are frustrating the relationship. From
a derivative valuation perspective, there is a piece of the derivative fair value that
we term in accounting the credit valuation adjustment. That credit valuation adjustment
or that reflection of the credit quality of the counterparty to the contract cannot frustrate,
significantly impact the movement in fair value of the derivative such that it stops
from doing a good job at providing the economic offset with a risk it has been identified
to or transacted to hedge. Hedge ratio, this concept essentially says
you can only put into the hedge relationship the quantity of the derivative that you have
transacted from a risk management perspective to offset the risk exposure you would like
to hedge. It is very important. This is a new concept. There is documentation required
to establish what the hedge ratio is for each hedge relationship and what it does is it
guides on a go forward basis, what to do if there is an imbalance in the hedge relationship.
I will get back to that and talk to that in a bit more detail. The main benefit or the
biggest benefit from this revised hedge effectiveness requirement, we got the three pillars laid
across your screen, if I focus on the economic relationship, because we are establishing
an economic relationship between the item we are hedging and the derivative we have
transacted, there is no mandatory 80-125 rule. You will see that there is nothing on this
slide across the top part of the screen that says that the hedge relationship quantitatively
needs to be between the traditional 80-125 range, so that has been dropped. The test
can be qualitative or quantitative. The standard does not prescribe what type of test to do
in either scenario and the additional benefit is that retrospective testing has been dropped
as well.
So we end up having a day one test like we have always done at inception of each new
hedge relationship performed. So that is our day 1 inception test, it is our look forward
effectiveness assessment and then an ongoing minimum quarterly basis we are doing a continual
look for the prospective test. So that is a new piece of testing requirement with an
IFRS 9. One of the key takeaways that I have been seeing from clients early adopting is
keeping in mind that even though a test maybe qualitative, even though it may not be as
robust quantitatively as it would have been under IAS 39 because of that 80-125 rule,
the amount of noise in a relationship is still required to be measured, so that ineffectiveness
still is required to be quantified because we are still doing financial reporting, we
still need to identify for cash flow hedges how much is able to go into OCI for example.
On to the next slide, I do want to spend some of our discussion just talking about what
factors to consider when we are deciding whether a qualitative or a quantitative test makes
sense for a hedge accounting relationship. I had a lot of people say Kiran that 80-125
rule is gone, we can view qualitative testing, this is great, we can simplify our math, we
no longer have to do regressions, does that make sense to you, do you agree. In the spectrum
of looking or to helping to determine whether a qualitative or quantitative test makes sense,
I think it really gets back into being able to support whether an economic relationship
exists. And to that point, you have to really be able to be comfortable that as the derivative
changes in fair value that it will economically offset the change in risk that you are trying
to hedge. Now, this can be met qualitatively, for example, if your critical terms, meaning
the key terms in your derivative that influence its cash flows and then therefore influence
its fair value, if those key terms and conditions are perfectly without exception mirrored in
the risks that are trying to be hedged. For example, if you have got a floating rate liability
Canadian dollars, it is based on three months bankers’ acceptance and matures December
31, let us say 2014 and we go out and trade a derivative today that is receive float three
months bankers’ acceptance, pay fixed, it also matures on December 31, 2014, its payment
dates, its reset dates match perfectly with the debt. There is the opportunity to say
what qualitatively I can get there, I can demonstrate qualitatively that there is an
economic offset between my derivative and my debt because the terms that influence fair
value changes match perfectly. Once you move away from that scenario in terms
of perhaps there is a mismatch, perhaps the derivative is not three months bankers’
acceptance, receive three months bankers’ acceptance, maybe it has received one month’s
bankers’ acceptance for example, perhaps the payment dates are not aligned. Once these
move away from the critical terms being perfectly aligned, there is an increased level of uncertainty
in being able to say that there is an economic relationship between the derivative and the
hedge item without having to crunch some numbers. So, this slide is illustrating as you move
from the critical terms matching exactly and all the way up to significant mismatches,
you are starting to get into a quantitative world and then how much a quantitative world
is necessary really depends on how different the key terms are between the derivative and
the hedged item. We talked about effectiveness, let us talk
more about the hedge ratio concept. These ones are quite interesting. It was really
introduced to simplify the world of discontinuing hedge relationships. Under IAS 39 when we
have a situation where the hedged item changes, the derivative notional changes, hedge effectiveness
falls out of 80-125 parameter, those three scenarios call for an automatic de-designation
under IAS 39.
One of the criticisms of IAS 39 is and was that when you have these de-designations,
it creates a complex accounting environment simply because you need to be able to track
or keep track of all the discrete hedge accounting adjustments you have made and be able to pull
that into P&L when appropriate throughout the life or the original life of the hedge
relationship. Because of that cumbersome type of accounting and the folks saying that they
want to simplify hedge accounting, this concept of hedge ratios was identified. What hedge
ratios are meant to illustrate is based on the risk management objective of a particular
hedge relationship once the derivative notional has been put into relationship and once the
corresponding risk has been put into the relationship, as long as that economic relationship exists
in the beginning, if that economic relationship is altered throughout the life of the hedge
relationship, there is the opportunity to rebalance or readjust how much of the derivative
is contained in the relationship and/or how much of the item that is being hedged is contained
in the relationship. This concept does not apply to the scenarios
where, for example, I forecasted I would have revenues of a million on December 15, 2014
and I end up having revenues of zero on December 31, 2014 or end up having 50% of the revenues
I thought I would have on December 31, 2014. In those scenarios, you would get into the
de-designation world because the hedge item does not exist. The rebalancing accommodation
or concept would not help those scenarios because there has been no change in economic
price relationship between the derivative and the hedge exposure. An example, the standard
does talk about and illustrate this concept is if for example you had a foreign currency
exposure in currency A and took out a derivative that was pegged to A via foreign currency
B, so you got an environment where the exchange rate is pegged to different currencies. Once
you have established that economic relationship at the beginning, you have documented it.
If something was to happen during the hedge relationship maybe the overseeing committee
who sets the time bands, the pegged rate, changed or adjusted that pegged relationship,
in those situations because an economic relationship between two variables foreign currency A and
B that was established at inception has now changed, this is the way to adjust the amount
of the foreign currency A and foreign currency B in the relationship without triggering an
automatic de-designation. Because you can rebalance both scenarios, you are allowed
to continue hedge accounting. You just need to be able to update your hedge documentation
and then continue forward, but like I mentioned it is not meant to accommodate or to facilitate
the continuation of hedged relationship where there has been a change in the fair values
of the derivative and the hedged item that have nothing to do with an economic relationship,
one example of that would be credit valuation adjustments.
Just to illustrate the concept of rebalancing or hedge ratios first actually before we get
into rebalancing, an illustration on rebalancing, what I wanted to do is identify or walk through
three scenarios that can occur that we do see in practice, walk through each of those
three scenarios and then talk through what the hedge ratio would be in each of those
scenarios. We have example 1, where we have got an entity producing fridges and they need
to purchase copper in order to facilitate the production of those fridges. They forecasted
that they will purchase a 1,000 tonnes of copper in three months. To do so based on
the risk management objective, they are going to be entering into 800 tonnes of copper forecasted
forward purchases via a forward contract so that would be a derivative because they would
cash settle on that forward contract. The risk management objective is to manage the
price risk of 80% of their forecasted copper purchases. Based on this relationship, entity
X would establish that its hedge ratio is 800 tonnes for the derivative hedging 80%
of the 1,000 forecasted copper purchases, so that would be established at day one in
the hedge documentation and that would be the hedge ratio for this relationship.
Example 2, we have got entity Y, they have
got forecasted foreign currency revenues USD and they are projecting it is going to be
97 million dollars. Based on the risk management objective and the market sizing, the lots
that can be purchased for forward contracts, they can only purchase one, in this example
100 million USD forward contract. Because the risk management objective is to purchase
100 million, they also have a constraint to purchase, they are only able to purchase 100
million based on the lot sizes they are from a hedge ratio perspective putting in the 100
million of USD forward contract in full in a hedge relationship for the 97 million USD
forecasted FX revenue. Example 3 is a common one and I did want to
highlight this one. In this example, we have an entity that has fixed rate loans. It has
got a nominal principal amount of 200 million Canadian. They would like to be able to manage
the risk of their interest rate risk, fair value hedge of their fixed rate loan by entering
into, from a risk management perspective, a hedge of 100 million via a derivative, an
interest rate swap. They established that they would like to hedge 50% of their interest
rate risk exposure arising from their 200 million Canadian debt. The entity has run
some numbers and perhaps the credit valuation adjustment on the derivative is a bit high.
There could be some differences between for example the terms of the derivative or the
terms of the debt and what they would like to do to minimize the differences and better
the hedge effectiveness results, they would like to put in the 100 million interest rate
swap into a hedge with 105 million CAD exposure on their debt side. IFRS 9 would only permit
designation of a 100 million of the fixed rate loans even though entities that would
like to put 105 million of the CAD loan into the relationship to prevent it from doing
so because from a risk management perspective the derivative was only transacted to hedge
50% of the risk exposure. This is one hedge ratio example where I do tend to see some
adjustments as we are going through into IFRS 9. Once we have established that rebalancing
makes sense, the next step is how do we do the balancing act (if you will). This slide
just illustrates for us that once we have noticed or identified that the hedge ratio
needs adjustment and, which in my mind is a bigger interpretive area, when is the hedge
ratio adjustment appropriate, how it is done is quite simple, you simply would either adjust
the quantum of the hedged item or the quantum of the hedging instrument in the relationship
depending on where the economic relationship has moved and what is necessary to reset the
relationship. When that is done, it is documented and any P&L impacts from that rebalancing
are taken immediately to the income statement. Moving on to the next slide into the de-designation
/ discontinuation world, just to round out the hedge ratio discussion, again, if hedge
ratio rebalancing is appropriate for hedge relationship, it does not trigger a de designation
/ discontinuation. What does trigger can be discontinuation / de-designation is on your
screen it is of the three middle green items. The middle one is consistent to IAS 39, if
the derivative has been terminated, sold, the relationship stops and no longer continues.
The top criteria and the bottom criteria are new under IFRS 9 and it is really getting
back into the purpose for transacting the derivative. Has the risk management objective
changed? If it has not changed, then you will continue hedge accounting for the relationship.
If the risk management objective has changed for that particular hedge accounting relationship,
then it actually triggers an automatic de designation even if you have perfect hedge
effectiveness test results. If there has been a change in the risk management objective,
there is no spectrum of how much of a change will trigger a de designation, any change
in the objective will trigger de-designation for the hedge relationship. Also, the bottom
condition, if there is no longer an economic relationship or if the credit risk dominates,
so you will notice that these are the two conditions to establish hedge effectiveness.
If either these two items no longer are met, no longer an economic relationship, credit
risk now dominates, then there is an automatic discontinuation. You will see again that hedge
ratio is not on here, so if there has been a change to the hedge ratio, the hedge relationship
will continue. There is not an automatic de-designation. The one item I do want to make particular
note of which some folks were not happy with is you are not allowed to voluntarily stop
hedge accounting under IFRS 9. There is no ability to do that. We can under IAS 39, that
ability was removed under IFRS 9 simply again going back to the observations at the accounting
for discontinuation of hedge relationships was too cumbersome under IAS 39.
We have summed up to this point, effectiveness testing, the hedge ratio, what decisions will
help us or what thought process will help guide whether we do a qualitative or quantitative
test. I want to spend the next part of the session talking through accounting disclosure
and transition. The good news is that the accounting, fair value hedge accounting, cash
flow hedge accounting, the mechanics of the accounting are untouched, not altered by IFRS
9. Kerry did talk about the accounting for time value of options and the time value associated
with forwards, that is the area that has changed from a hedge accounting perspective, but the
traditional concepts around the use of OCI for cash flow hedges and doing adjustment
to the hedged item in fair value hedges has not changed, that remains consistent.
From a disclosure perspective, significant increased disclosure. In my mind, it is slotted
into three different buckets: Why are you doing hedge accounting? (That is the risk
management strategy - what is it all about?) What is the effect on cash flows? and How
is it impacting our financial statements? You will see the center actually does have
a template that they have identified on how to organize the information. From a tracking
perspective, I think this will be the area where folks will just need to step back because
all the information actually is meant to be recorded in a note or cross referencing amongst
notes just to provide or use the ability for readers to understand the hedge accounting
activities of an entity. I think there will be time to spend sitting back and reflecting
on where all the information is contained in the notes of financial statements and just
organizing the information in a clear way to facilitate compliance with IFRS 9 requirements.
From an illustrative perspective, as I mentioned, IFRS 9 has some examples provided on how one
must present the information for the derivatives and it is a tabular format and answers the
question of: How have you reflected your derivative hedging activity in your financial statements?
So, there is the organization by the type of hedge, cash flow, fair value, type of derivative,
terms of the derivative, and what line items on the financial statements are these items
impacting. Similarly on the other side, the hedged item side, there is similar tabular
disclosure, where we will have identified by hedge relationships cash flow and/or fair
value, for example, the types of items and hedges in each bucket, what the carrying amounts
are, the balance sheet adjustments, so that a reader can easily identify the numerical
amount of the hedged items, what it relates to and where to find it in the financial statements
as well. From a transition perspective, IFRS 9 is a
prospective standard and this slide just captures the impacts of existing hedge strategies on
adoption. Where we have a hedge relationship, the first bucket on the top of your screen,
which was compliant with IAS 39 and it continues to sit well within IFRS 9. IFRS 9 would permit
the continuation of the hedge relationship, it would just reset the hedge ratio as applicable
and that hedge ratio would establish the starting point for the continuous movement from IAS
39 to IFRS 9 from a hedging perspective. If you had IFRS 9 compliant hedge documentation
already in place, there is the opportunity to have that seamless movement through. For
relationships where IAS 39, the qualifying criteria was not met under IAS 39, so hedge
accounting was not pursued. IFRS 9, as long as the qualifying criteria for hedge accounting
is met, you are moving forward from a prospective scenario and in rare cases you may have situations
where you have had established hedge relationship under IAS 39 does not comply, the qualifying
criteria are not met under IFRS 9 and then there would be a mandatory discontinuation
of that hedge relationship and this category is expected to be rare.
So, prospective accounting there, there is a concept of retrospective adjustment and
it is isolated and only applies to the two elements that Kerry had talked about in her
presentation and that is the time value of the options and forward points as it relates
to forward contracts, for example, for time value of options this is a mandatory retrospective
application. If you have hedge relationship, you use options, you excluded the time value
from those relationships under IAS 39, then the accounting to use OCI for the time value
is pushed back based on the population existing at the earliest opening balance sheet date
and for the forward contract that retroactive pushback is optional and if it is selected
it is done for all hedging relationships for which the forward points were excluded.
So, aside from the numbers, the numerical transition, some things to think about on
transitioning from IAS 39 to IFRS 9, so planning for early adoption. If you are in a scenario
where you would like to make sure that you achieve hedge accounting for your current
strategies when you move into IFRS 9, so you want to be in that first column, the seamless
move through from a hedge accounting perspective. It is a good idea now to revisit your hedge
relationship, make sure that they comply with IFRS 9, if they do not, is there an opportunity
to be IFRS 9 compliant, plan for having documentation that would suit both standards that is possible.
So that is our strategy for dual designations having designations that are IAS 39 compliant
and IFRS 9 compliant currently as we move into IFRS. Demonstrating the economic relationships,
I think this will be really important where we are in the world of hedging risk components,
so being able to demonstrate an economic relationship does exist between two different variables.
Rebalancing: is it applicable to every situation? That is going to be the area where I think
it will apply to some scenarios and not others and likely in scenarios where you have had
to spend a lot of time thinking about the economic relationship and again managing interpretive
areas of IFRS 9. There is a lot of opportunity in IFRS 9 for increased hedging, which will
lead to questions as to how should the relationship you established, what should the testing look
like and how do I calculate my hypothetical derivative for example? We have talked to
this point on about the numbers. I do just want to highlight this from a documentation
requirement standard, IFRS 9 is still a documentation standard. So the documentation, the word that
you are used to still exists under IFRS 9. What I have done on this slide is just highlight
for you what has gone away and what has come on and that is in light blue. You will see
that there is not much that has gone away. We will need to strike the one little item
in your third bucket and that relates to performing and documenting the retroactive effectiveness
assessment. What has come on are the two items I have added in blue in your middle section
there and that is documenting the hedge ratio once it has been determined and also analyzing
the source of any hedge ineffectiveness, which is required under the standard.
So, knowing the adoption for fiscal years starting January 1, 2018, will occur for sure
when we do get there from a mandatory adoption perspective. Just some helpful hints to think
about as you are thinking through whether early adoption does make sense for you? As
I mentioned, there are more opportunities for hedging under IFRS 9, Kerry talked to
the fact that if IFRS 9 hedging is early adopted and must be adopted in conjunction with the
other pieces of the finalized standard of IFRS 9, so that something that keep in mind.
There is significant documentation from an IFRS 9 perspective, but again if you have
got strategies that are leveragable from what you have now that is something that can be
managed. Interpretive issues, whenever you are adopting any standard first there is always
the opportunity to have interpretive issues and be the one that is dealing with those
issues versus your peers who may be adopting the standard at the mandatory adoption date.
Going forward to the next slide, this is just
a slide we put together that is taking the lessons that we have been learning as we have
been moving with clients through their early adoption, from a strategy perspective and
an organization perspective, for what to think about in terms of next steps if you are thinking
about early adopting. Risk management documentation, understanding what exists, what strategies
are driving and transacting hedge relationships and derivatives is key, that is the basis
of IFRS 9 and there is a requirement to be able to link and document the linkage between
established hedge accounting relationships and related risk management objectives. The
dialogue between treasury and accounting is extremely important in this regard and that
just flows right through to the identification of the risk, and financial setup of the type
of quantitative effectiveness assessment that must be completed, any tag on effects from
a control process and communicating new hedging relationships and the results of those new
hedging relationships to management as well. So, from early adoption perspective, some
other things we have noticed (just from a driving force perspective), what has driven
some folks to move towards early adoption, the standard came out in November and these
are the reasons we have seen entities early adopt. Currently the hedge relationships from
a risk management objective perspective under IAS 39 are not achievable for hedge accounting,
but are so far for IFRS 9. Kerry talked about risk component hedging that is one of the
main areas where people have seen IFRS 9 to be of benefit. We have got significant amount
of commodity hedging, so we have an opportunity now to use the economic relationship guidance
under IFRS 9 to establish those derivatives and hedged items into relationships strictly
by the guidance on economic relationships for the hedge effectiveness assessments. Managing
FX risk on a natural group basis and as Steve had mentioned when we have got clients who
have options, costless collars, etc., they have seen that the standard is also beneficial
from early adoption perspective. Perfect Karen, thank you very much. I think
we can probably move on to the final polling question and then need to come back with a
few questions for you, but let us go with a polling question #3.
Thinking back to our first question about early adoption. Have you changed your mind?
So, since the beginning of this session here, have you changed your mind?
a. Yes. b. No.
c. You were planning to early adopt and still thinking, you will.
d. I thought we might be early adopting, but we are probably changing our mind.
e. I am not sure, I still need more information. So while the audience here is responding to
question, Kiran I would like to bring a question from the audience here for you. The question
is as follows. We apply cash flow hedging using the hypothetical
derivative method. Does that concept still exist under IFRS 9?
Yes. That is a really good question and it’s funny, I had a client and we were having a
conversation talking about using the qualitative assessment approach and it made sense for
their particular strategy. They were in line with the example I had where everything matched,
but they still needed to use a hypothetical derivative method to be able to quantify to
do the accounting. So, you could run into a scenario where perhaps you are not crunching
the numbers from a quantitative effectiveness assessment perspective any longer, but that
does not mean that we still do not need to quantify what that hypothetical derivative
looks like for accounting because there was still requirement to measure ineffectiveness.
Let us move on to the result here. I am just looking back at the answers. At the beginning
of the session 6% say that they will go for it. 65% states that they will not go for it.
So, it went down by almost 18 points here and we had earlier question of 29 of maybe.
It looks like the official information perhaps that we provide here give some good food for
thought. So, that is good. I guess what I want to do right now is that we will finish
formal portion of the webcast before we begin the question and answer period. We would appreciate
your feedback and kindly ask that you complete our survey. You should expect to see a pop-up
survey appearing on your screen shortly and this survey assists in our developments of
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want to make sure we keep it up. If we do not, have that all that time to address your
question today, especially if the question is regarding specific fact patterns of your
organization. I would recommend that you discuss these questions with your Deloitte Partner
or Deloitte Contact so that they can help you resolve the questions or concerns you
may have. So, as I just finished the formal portion, I would like to go through the Q&A
and I am just going to pull out here the second question that came from the audience and so,
the question goes as follows and Kerry I think that would probably be a question for you.
Did you mention that adopting IFRS 9 is optional? Meaning that the choice to remain on IAS 39
is possible, but disclosures are mandatory regardless as of January 1, 2019?
That is a good question Steve, and it is complicated, so it is worth going back over that and clarifying.
So, for now, we have all the pieces of IFRS 9, some of which can be early adopted by themselves
as I went through that one slide, but if you wanted to adopt the IFRS 9 hedge accounting
now, you could and you would have to adopt all the standard that exists. Now, when I
say adopted now, I guess that is important as well too because you have to remember because
since it is a documentation standard, you cannot start hedge accounting before you have
the documentation, so you cannot start hedge accounting until you decided and put your
strategies in place and documented them. So in that sense, it is somewhat prospective,
so we can adopt it now and if you do not adopt it now then you would stay in IAS 39 for hedge
accounting, but by 2018 or whenever it is that the standard finally becomes mandatory,
you would have to adopt all of it. So, the new hedge accounting standard, all the related
disclosures, all the rest of IFRS 9, I guess the other point to make though is that you
do not have to ever actually do hedge accounting, you can do economic hedging without doing
hedge accounting - if that is part of what the question was asking, hedge accounting
is optional as you never have to do hedge accounting and that will still be true under
IFRS 9, but the whole standard must be adopted by January 1, 2018. Thanks for the clarification.
Kerry, let’s keep going with you here and let’s go with another question. Can you
confirm if the ineffective portion of the hedge still goes directly through the income
statement only, under IFRS 9? Yes. That is true and essentially it goes back to the idea
that a lot of the mechanics of actual hedge accounting have not changed. If there is ineffectiveness,
and as Kiran talked about, she emphasized that even though we are going to a more qualitative
way perhaps of being able to assess whether or not your hedge is effective, you still
need to measure (if it is not perfectively effective) ineffectiveness, and so we need
to know how much that is, especially for cash flow hedges because it will dictate how much
of the gains or losses on the hedging instrument to go other comprehensive income. So, effectively
the ineffective part of the hedge will still fall to P&L, generally speaking. I guess the
only exception would be if you are hedging an equity investment, so an investment in
a share, which under another part of IFRS 9, you might have said I am going to record
gains and losses on that equity investment through OCI. Then, in that case, it may be
a different answer, but generally speaking for most hedges, ineffectiveness would go
to P&L. Kiran, maybe one question for you here. In
the absence of credit risk being a factor in the determination of hedging, do we still
have to account for credit value adjustments? The answer is yes and that has not gone away,
so IFRS 9 does not touch the requirement that derivatives need to appropriately capture
all of its credit qualities, so adjustments to the swap curve, so that will continue untouched
under IFRS 9. I have another question on ineffectiveness
here. It goes back to slide #28, in the example #1 of slide 28, why is 80% designated as the
hedged item instead of 800 tons. I do not know if the operator can turn back to slide
28, that might be helpful. So, I recall that illustration. So, the hedge documentation,
whenever we have a forecasted transaction and it is a sort of first dollars based, we
always say that it is first x% from the documentation perspective, just in case we require a notional
change. So, you could have 7,000 tonnes come in the door, you can have more than 1,000
tonnes, so the documentation should say the first 80% of 1,000, either way the documentation
could say the first 800 of the projected cash flows for the first 80% of the defined. So,
either way as long this is clear in the documentation then it would establish what one should expect
and that is really the guiding principle for identifying your hedged items because you
need to specifically identify that the hedge item has occurred in the quantity that you
say that it would. Perhaps let us go back with Kerry here for
one question. Kerry, does this standard mandates how to determine if the risk component is
separately identifiable and reliably measurable. If not, is there a suggested approach. Okay,
Steve thanks. So, the standard does not mandate that, in the example that we looked at, the
coffee example, it was clear in the contract, so that is a really good way to observe that
it is separately identifiable and then measurement maybe another issue. If you do not have that
and you do not have it specified in your contract like that, which I guess often we will not,
then you need to look at prior experience, i.e. can you observe a relationship between
that risk component and how the ultimate purchase price is determined and now we are getting
a little bit judgmental. But I think it will be based on the way the example went through
it which was looking at past experience, pricing conventions, so I guess in terms of guidance
and the standard, as I mentioned, a lot is in appendix B, there are some examples and
so you can kind of read those examples and really infer what an approach could be or
things that you could look at. The standard has a lot of areas of judgment in application
and not as many bright lines or hard and fast rules. And in some ways I think that is what
the Board was setting out to do, was to try and make it a more judgmental standard, but
in some ways it makes a little bit harder too because the exercise of judgment can often
be quite tricky I guess as we have seen with all sorts of areas of IFRS.
Thank you for that. Maybe one more Kerry I think for you here. It goes as follows: Regarding
options and forwards, you talk about being able to defer an amount related to the aligned
time value and aligned forward element in OCI. This concept sounds a bit like the old
shortcut or critical times match concept. Is that correct? Yeah. I think Steve that
is a good way to look at it. I remember back to when I was talking about options and forwards,
and the aligned time value or forward element, was the amount that you were able to defer
in the OCI and keep out of the P&L and what that was really getting at is how much time
value would be in the perfect hedging derivative, so if you did not have a perfect hedging derivative,
how much of your time value would relate to one that is perfect. So, in a sense it almost
makes us think again the hypothetical derivative type of approach that people have taken and
so it is very similar. It is kind of basically saying you could differ the amount that relates
to a hedge that would perfectly match your exposure, so in that sense it is kind of like
the critical terms match or even hypothetical derivative approach.
Let us go back to Kiran. Kiran are you still
there? I am. Good. Here is the question. Are there any numeric thresholds to meet the hedge
accounting and I am assuming the person is making reference to the 80% to 125% ratio
we were looking at in the past to qualify for hedge accounting.
No more numeric threshold; it’s not contained in IFRS 9. IAS 39 had a specific requirement,
embedded right in the standard that said you needed to meet that range and that is no longer
around in IFRS 9, so a bit more flexibility. So, that really goes back to the concepts
of economical range that you are talking earlier during the session.
Yes, that is most important. You really do need to understand economically the why, why
have you transacted this derivative to manage the risk and exposure, how do they economically
move together. We have had clients going back in time and understanding the economic relationship
especially when the derivative is priced off of a different risk exposure as compared to
the hedged item so that is a big basis on which the hedge effectiveness testing qualifying
criteria is based on. Maybe one last question here. It goes as follows.
Can my current hedge effectiveness assessment testing be retained? Good question. Hopefully,
for example some of my clients do regressions for their hedge effectiveness testing. If
that relationship is plain vanilla, for example, managing the interest rate risk, floating
rate debt, fixed rate debt, nothing fancy about it and you are using regression, there
is no reason that that regression testing cannot continue into IFRS 9. IFRS 9 does not
tell you what type of test to use, it does not tell you, you cannot do a quantitative
test, so that is actually something that think about in terms of the level of effort to go
through when you do have transactions and trying to support qualitative, it may just
be from a process control perspective, it may just make sense to continue what you are
doing for those particular hedge strategies, but it is an opportunity to revisit what you
are currently doing to see if you can better streamline, demystify or simplify the current
hedge testing that you are doing. That is great. So, I think that completes
our Q&A section here and I would like to thank our speakers, Kerry and Kiran. We really hope
that you found the webcast helpful and informative. If you want additional information, please
visit our website at www.deloitte.ca and to all the people viewing our webcast today,
thank you very much for joining us and this concludes our webcast on the new IFRS 9 hedging
model. Thank you very much.