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Raising the report standard.

Summary: Sayantan Banerjee, Head of Risk Management Practice for Middle East and Africa at SAS, discusses how the new standard for financial reporting will impact bank's statements

The International Financial Reporting Standard 9 (IFRS 9) replaces International Accounting Standard 39 (IAS 39), and will impact the banks' financial statements and loss calculations the most. IFRS 9 will cover financial institutions across Europe, Middle East, Asia, Africa, and Oceania, with January 2018 as the compliance deadline for all the banks in those regions. Sayantan Banerjee discusses what that means for most institutions.

What exactly is IFRS 9's mandate and how has it changed from the existing IAS39?

IFRS 9 addresses three main aspects: first, classification of assets; second, measurement of the losses; and third, hedge accounting. In the recent changes, IFRS 9 will align classification and measurement of the losses with its business model, cash flows and future economic scenarios. For hedge accounting, IFRS 9 mandates newer disclosure requirements to connect the accounting part with the banks risk management activities in greater detail.

How will classification of assets impact banks in the region? [According to the IFRS website], classification will determine how financial assets and financial liabilities are accounted for in the financial statements and, in particular, how they are measured on an ongoing basis. IFRS 9 introduces a logical approach for the classification of financial assets based on the cash flow characteristics and the business model in which an asset is held. This single, principle- based approach will eventually replace the existing complex rule-based requirements that are difficult to apply. The new model also means that there will be a single impairment model which will be applied to all financial instruments. This will remove a source of complexity associated with previous accounting requirements.

In terms of measurement of losses, how does the IFRS 9 come into play?

The methods of recognising impairments or booking losses as provisions have been under the scanner since the financial crisis. [According to the IFRS website] the delayed recognition of credit losses on loans and other financial instruments was identified as a weakness in existing accounting standards, especially when there were enough economic and predicative indicators to show that the future cash flows are not exactly how they seem. As part of IFRS 9, the IASB has introduced a new, Expected Credit Loss [ECL] impairment model that will require more timely recognition of losses. Specifically, the new Standard requires entities to account for ECL from when financial instruments are first recognised and it lowers the threshold for recognition of full lifetime expected losses.

Every asset will now pass through three stages in their credit life cycle. [There is] stage one, where they are normal accounts with satisfactory repayment performance; stage two, where they show significant deterioration in their credit quality; and stage three, where they are recognised as non-performing exposures. The new standard will require the banks to account for a 12 month ECL for Stage 1 and a Life time ECL for Stage 2. These estimates must be forward looking and probability weighted.

How will this transition impact the banks in the region?

Given the IFRS 9 requirements in terms of classification, measurement, and impairment calculation and reporting, banks should expect to be required to make some changes to the way they do business, allocate capital, and manage the quality of loans and provisions at origination. Banks will face data, modelling, reporting, and infrastructure challenges in terms of enhancing coordination across their finance, risk, and business units; integration and reconciliation of risk and finance data; gathering and maintaining historic data that will be required for modelling for the expected losses; lack of reliable macroeconomic indicators in [the region] that can be used for modelling, and the main aspect of modelling the losses at the facility level itself, mostly in terms of methodology and complexity.

What is your outlook?

Addressing these challenges effectively will enable boards and senior management to make better- informed decisions, proactively manage provisions and effects on capital plans, make forward-looking strategic decisions for risk mitigation in the event of actual stressed conditions, and help in understanding the evolving nature of risk in the banking business. In the end, a thoughtful, repeatable, consistent capital planning and impairment analysis should lead to a more sound, lower-risk banking system with more efficient banks and better allocation of capital.

The methods of recognising impairments or booking losses as provisions have been under the scanner since the financial crisis.

-- Sayantan Banerjee, Head of Risk Management Practice for Middle East and Africa at SAS

The basics of IFRS 9

When the new requirements were first announced, Hans Hoogervorst, Chairman of the IASB, said that, "The reforms introduced by IFRS 9 are much needed improvements to the reporting of financial instruments and are consistent with requests from the G20, the Financial Stability Board and others for a forward-looking approach to loan-loss provisioning.

"The new standard will enhance investor confidence in banks' balance sheets and the financial system as a whole," he said. There are four principles the IFRS highlighted that will shape balance sheets in the future.

E[pounds sterling] Classification and measurement

The new model of classification in IFRS 9 replaces complex existing requirements with a single, principle-based approach and a single impairment model.

E[pounds sterling] Impairment

The new impairment model will require more timely recognition of expected credit losses. The IASB has also announced its intention to create a transition resource group to support stakeholders in the transition to the new requirements.

E[pounds sterling] Hedge accounting

The new model represents a significant overhaul of hedge accounting including increased disclosure requirements for risk management activity that will in turn better reflect risk on financial statements.

E[pounds sterling] Own credit

IFRS 9 also removes the volatility in profit or loss that was caused by changes in the credit risk of liabilities elected to be measured at fair value. This change in accounting means that gains caused by the deterioration of an entity's own credit risk on such liabilities are no longer recognised in profit or loss.

Source: IFRS Foundation and IASB

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Publication:Banker Africa
Date:May 30, 2016
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