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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