The IASB continued its discussion on an early draft of sections of a Discussion Paper on the Conceptual Framework, addressing:
a. presentation and disclosure, including other comprehensive income (OCI);
b. additional guidance on constructive obligations and economic compulsion, to support the definition of liability;
d. the boundary between liabilities and equity;
e. the definitions of income and expense; and
f. capital maintenance.
Presentation and disclosure (Agenda reference 5A)
The existing Conceptual Framework does not include any guidance on presentation and disclosure.
The IASB tentatively agreed to propose the following in the Discussion Paper:
a. Financial statements comprise the primary financial statements and the notes to the financial statements. The primary financial statements are:
i. the statement of financial position;
ii. the statement(s) of profit or loss and other comprehensive income (or the statement(s) of income and expenses);
iii. the statement of changes in equity; and
iv. the statement of cash flows.
b. The primary financial statements convey summarised information that communicates a financial picture of the entity. They are not complete in themselves and are supported by notes to the financial statements.
c. No primary financial statement has primacy over the other primary statements. They should be looked at as a group.
d. Presenting the primary statements in such a way that users can understand the linkage between the items in the individual statements makes the information more useful.
e. In order to provide information that is useful to users, classification and aggregation into line items and sub-totals should be based on similar properties (for example, the nature, function or measurement basis of the item).
f. Because offsetting aggregates dissimilar items, offsetting will generally not provide the most useful information for assessing an entity’s prospects for future net cash inflows. However, the IASB may choose to require offsetting where such a presentation provides a more faithful representation of a particular position, transaction or other event.
g. The purpose of the notes to the financial statements is to supplement and complement the primary financial statements and to provide any additional information to meet the objective of the financial statements.
h. Notes to the financial statements would focus on information about an entity’s existing resources and obligations, and about changes in them. If an entity discloses information about the resources and obligations it may have in the future, it would disclose that information outside of the financial statements, for example in management commentary.
Presentation in the statement of comprehensive income – profit or loss and OCI (Agenda reference 5B)
Currently, there is no principle in IFRS that determines the presentation of income and expense in the statements(s) of profit or loss and OCI.
The IASB tentatively agreed that the Discussion Paper will not propose to equate financial performance with either ‘comprehensive income’ or ‘profit or loss’ or any other total or sub-total. Instead, the Discussion Paper will propose that all recognised items of income and expense shall provide information about an entity’s financial performance.
A majority of IASB members expressed support for an approach to communicating financial performance that builds on the understanding that profit or loss is widely used as the main indicator of an entity’s performance.
The approach discussed focuses on two questions:
a. What distinguishes recognised items of income and expense that are presented in profit or loss from other recognised items of income and expense, ie those presented in OCI?
b. What items (if any) presented in OCI in one period should be reclassified (recycled) into profit or loss in the same period or a later period, and why?
Principles for presentation in profit or loss or OCI
The IASB tentatively agreed that the Discussion Paper should propose a set of principles for determining whether a recognised item of income or expense should be presented in profit or loss or in OCI. The principles are:
a. Principle 1: Items presented in profit or loss communicate the primary picture of an entity’s financial performance for a reporting period.
b. Principle 2: All items of income and expense should be recognised in profit or loss unless presenting an item in OCI provides a better depiction of the financial performance.
c. Principle 3: An item that has previously been presented in OCI should be reclassified (recycled) to profit or loss if the reclassification results in relevant information about financial performance in that period.
Following on from these principles, the Discussion Paper will identify two groups of income and expense that would be eligible for presentation in OCI:
a. Bridging items:
i. Bridging items arise when the IASB has determined that a recognised asset or liability should have two different measurement bases (one, not based on cost, for use in the statement of financial position, and one for use in profit or loss). An example of a bridging item is the IASB’s proposal that some debt instruments should be measured at fair value in the statement of financial position but should be measured at amortised cost for presentation in profit or loss. (See Exposure Draft Classification and Measurement: Limited Amendments to IFRS 9.)
ii. In line with Principle 3, the amounts in OCI should be recycled into profit or loss in a manner (timing and amount) that is consistent with the measurement basis presented in profit or loss.
b. Mismatched remeasurements:
i. Mismatched remeasurements arise when an item of income or expense represents an economic phenomenon so incompletely that presenting that item of income or expense in profit or loss would provide information that has little or no relevance for assessing the entity’s financial performance in that period. Therefore, presenting the item in OCI results in a better depiction of financial performance in that period. An example of a mismatched remeasurement would be the gain or loss arising on the remeasurement of a derivative in a qualifying cash flow hedging relationship.
ii. Amounts in OCI relating to mismatched remeasurements should be recycled into profit or loss at the time when they can be presented together with income and expense that arises from the related transaction.
The IASB also discussed an approach to communicate the financial performance that makes no distinction between profit or loss and OCI. This approach builds on the view that identifying a single number within comprehensive income as the primary indicator of financial performance oversimplifies the performance of an entity. The IASB tentatively decided that the Discussion Paper should also describe this approach, although a majority of IASB members do not favour it.
The IASB instructed the staff that the next draft of the Discussion Paper should:
a. explain why items presented in profit or loss communicate the primary picture of financial performance; and
b. consider whether there could be another group of OCI items that would not be recycled because recycling those items does not produce information that is relevant to the entity’s financial performance during the period.
Additional guidance on constructive obligations and economic compulsion, to support the definition of liability (Agenda reference 5C)
The IASB continued its discussion on the meaning of the term ‘obligation’. In particular, the IASB discussed the role of economic compulsion in identifying obligations, and the difference between economic compulsion and a constructive obligation. The IASB noted that problems relating to economic compulsion arise in two different contexts:
a. distinguishing constructive obligations from economic compulsion; and
b. evaluating the effect of economic compulsion on contractual options.
Distinguishing constructive obligations from economic compulsion
The IASB tentatively agreed to propose to add in the Discussion Paper adding guidance to the Conceptual Framework to help distinguish constructive obligations (that result in a liability) from economic compulsion (that does not result in a liability). This guidance would state that, for an entity to have a constructive obligation:
a. the entity must have a duty or responsibility to another party. It is not sufficient that an entity will be economically compelled to act in its own best interests or in the best interests of its shareholders;
b. the other party must be one who would benefit from the entity fulfilling its duty or responsibility, or suffer loss or harm if the entity fails to fulfil its duty or responsibility; and
c. as a result of the entity’s past actions, the other party can reasonably rely on the entity to discharge its duty or responsibility.
Evaluating the effect of economic compulsion on contractual options
Questions have arisen as to whether an entity should look beyond the terms of the contract and take into account other facts and circumstances that result in the entity being economically compelled to exercise its contractual rights in a particular way. The IASB noted that several Standards provide guidance on the factors that an entity should consider in assessing the substance of contractual rights and obligations. The IASB tentatively decided that the Discussion Paper should propose including in the Conceptual Framework the following general principles:
a. an entity should report the substance of a contract;
b. a group or series of contracts that achieves, or is designed to achieve, an overall commercial effect should be viewed as a whole;
c. all terms – whether explicit or implicit – should be taken into consideration;
d. terms that have no commercial substance should be disregarded;
e. one situation in which a right (including an option) has no commercial substance is the situation in which it is clear from the inception of the contract that the holder will not have the practical ability to exercise the right; and
f. if, after disregarding options with no commercial substance, an option holder has only one remaining option, which is in substance a requirement.
The Discussion Paper will also discuss whether economic compulsion should be considered in determining whether a claim against an entity is a liability or part of equity.
Measurement (Agenda references 5D and 5Da)
In February 2013, the IASB discussed different measurement bases and when they might be appropriate. At that meeting, the IASB focused on cost and fair value. At the March 2013 meeting, the IASB discussed measurements other than cost or fair value.
The IASB tentatively agreed that the Conceptual Framework Discussion Paper should include a discussion of the factors that should be considered in constructing a cash-flow-based measure. The IASB suggested the following questions that would need to be addressed in constructing a cash-flow-based measure:
a. Should cash-flow-based measures reflect the uncertainties in the amount and timing of cash flows, or a single possible amount?
b. Should measures of liabilities reflect the possibility that an entity may not be able to settle its liabilities when they are due (the entity’s own credit)?
c. Should cash-flow-based measures be discounted and if so, at what rate or rates?
d. Should cash-flow-based measures reflect the amount that market participants would charge for bearing the risk embodied in uncertain cash flows?
e. Should cash-flow-based measures reflect the effects of other factors such as illiquidity premiums or discounts if they are identifiable?
f. Should the estimates and assumptions underlying cash-flow-based measures reflect the reporting entity’s perspective or market participants’ perspectives?
g. Should all of the above estimates be updated at each reporting date or should some or all of them be locked in (ie not updated)?
The IASB noted that, when addressing these questions it would need to consider whether the benefits associated with a particular approach to measurement would be justified by the costs of providing that information.
Boundary between liabilities and equity (Agenda references 5E and 5F)
In February 2013, the IASB discussed a new approach for distinguishing liabilities from equity. At this meeting, the IASB discussed some examples to illustrate how that approach would apply to written put options on its own shares.
Definition of income and expense (Agenda reference 5G)
The existing Conceptual Framework states that the elements of the statement(s) of profit or loss and comprehensive income are income and expense.
The IASB noted that there are few problems with the existing definitions of income and expense and agreed that the Discussion Paper should not propose amending these definitions (except for any drafting changes needed as a consequence of any amendments to the definitions of the other elements). In addition, the IASB tentatively decided that the Discussion Paper should not propose defining separate elements for:
a. gains, revenue, losses and expenses; and
b. income (expenses) that should be reported in profit or loss and income (expenses) that should be reported in OCI.
Capital maintenance (Agenda reference 5H)
Concepts of capital maintenance are important because income that is earned in excess of the amounts needed to maintain capital may only be regarded as profit. The Conceptual Framework describes two types of capital maintenance: financial capital maintenance and physical capital maintenance.
The Discussion Paper will propose not to change the existing descriptions and discussion on capital maintenance until such time that any standards-level project on accounting for high inflation indicates a need for change.
In April 2013, the IASB expects to discuss a revised draft of the Discussion Paper that will reflect comments received at the February and March 2013 meetings. The IASB will also discuss the following topics in April:
a. materiality; and
b. the form of disclosure requirements.
In addition, the Conceptual Framework will be a topic for discussion at the first meeting of the Accounting Standards Advisory Forum, to be held at the IASB’s office on 8 and 9 April 2013.