2013 pwc ireland next steps ifrs december
TRANSCRIPT
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Financial Instruments:
Expected Credit Losses
www.pwc.ie/banking
Impairment briefing
December, 2013
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Agenda
1. Accounting Implications2. Practical Implications and next steps
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Accounting Implications Timeline
Nov 2009
IASB issuesED onimpairment
Jan 2011
FASB and IASB issuesupplementary document onimpairment
2017
Effective datenot before
Slide 3
March 2013
IASB re-exposesimpairment
H1 2014
Final Standard
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Expected loss model.
Responsive to changes in information that impact creditexpectations.
It is inappropriate to recognise full lifetime losses on initialrecognition of financial instruments priced at market.
Significant increase in the credit risk leads to recognition of lifetimelosses.
Slide 5
Accounting Implications - General model
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Accounting Implications - General model (cont)
Slide 6
Effective interest ongross carrying amount
Lifetime expectedcredit losses
12 month expectedcredit losses
Recognition of expected credit losses
Interest revenue
Change in credit quality since initial recognition
Stage 1 Stage 2 Stage 3Initial recognition* Assets with significant
increase in credit risk since initial recognition*
Credit impaired assets
*except for purchased or originated credit impaired assets
Lifetime expectedcredit losses
Effective interest ongross carrying amount
Effective interest onamortised cost carrying
amount (i.e. net of creditallowance)
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12-monthexpected creditlosses
The expected credit losses that result from those defaultevents that are possible within the 12 months after thereporting date.
Lifetime
expected creditlosses
The expected credit losses that result from all possible
default events over the life of the financial instrument.
Credit Loss The present value of the difference between all principaland interest cash flows that are due to an entity inaccordance with the contract and all the cash flows theentity expects to receive.
Expected CreditLosses
The weighted average of credit losses with the respectiveprobabilities of default as weights.
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Accounting Implications - General model (cont)
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Accounting Implications - General model (cont)
Basis for an estimate of expected credit losses:
An entitys estimate of expected credit losses shall reflect:
a) the best available information;
b) an unbiased and probability-weighted estimate of cashflows associated with a range of possible outcomes(including at least the possibility that a credit lossoccurs and the possibility that no credit loss occurs);and
c) the time value of money.
Various approaches can be used.
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Accounting Implications - General model (cont)
Assessment whether credit risk has increased significantly:
An entity shall base this assessment on change in probability of adefault rather than the change in expected credit losses.
An entity shall compare the probability of a default occurring over
the remaining life of a financial instrument as at the reporting date with the probability of a default occurring on the financialinstrument over its remaining life as at initial recognition.
A simple comparison of the absolute probabilities of a defaultoccurring is not sufficient.
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Information to be considered when determining whetherthe recognition of lifetime expected losses is required:
Changes in external market indicators of credit risk;
Changes in credit ratings (external or internal);
Changes in internal price indicators of credit risk;
Existing or forecast changes in the business, financial or economicconditions;
Changes in operating results of the borrower.
Delinquencies (rebuttable presumption: the criteria for recognitionlifetime expected losses is met when contractual payments are morethan 30 days past due);
Other qualitative inputs.
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Accounting Implications - General model (cont)
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Discount rate for calculating the expected credit losses:
Exposure draft provided a choice of discount rate - any rate between, and including, the risk-free rate and the effective interestrate.
Board now agreed that effective interest rate must be used.
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Accounting Implications - General model (cont)
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Some loan commitments and financial guarantee contracts are inscope.
Consider the maximum contractual period when estimating expectedcredit losses.
The usage behaviour shall be factored into the calculation of expectedcredit losses.
Discount rate: should reflect the current market assessment of thetime value of money and the risks that are specific to the cash flow.
Board now agreed EIR must be used for drawn and undrawn
portions of rollovers.
Slide 13
Accounting Implications - Loan commitmentsand financial guarantees
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Robust disclosure requirements.
Overall principle: an entity should disclose information thatidentifies and explains:
- The amounts in the financial statements that arise from expectedcredit losses; and
- The effect of deterioration and improvement in the credit risk of financial instruments that are within the scope of the ED.
Slide 14
Accounting Implications - Disclosures
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The Board have yet to decide on the effective date, but haveconfirmed it will not be before 1 January 2017.
Retrospective application by using the credit risk at initialrecognition is required except:
If on transition such application requires undue cost or effort, then
loss provision shall be determined only on the basis of whether thecredit risk is low at each reporting period.
No requirement to restate comparatives.
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Accounting Implications - Effective date and transition
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2. Practical Implications
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Deterioration CriteriaThe IASB proposed some methods and information to assess the deterioration criteria:
Probability of Default Models Using the 1 year PD as a proxy for lifetime PD to assess the transfercriterion
Prices for credit Credit spread that would result if a proxy instrument were newlyoriginated or issued at the reporting date
External/internal credit ratingand scores
If internal, should be mapped to external or supported by default studies
Delinquencies Rebuttable presumption that the credit risk on a financial asset hasincreased when contractual payments are 30 DPD
Qualitative Assessment Qualitative factors (e.g., business, technological, economic, and political factors) that may affect loss rates or other lossmeasurements
Rates or terms of existinginstruments
Significantly different if issued at reporting date (e.g. Morestringent covenants, increased collateral, or higher incomecoverage)
Operating results of the borrower
Significant changes including declining revenues or margins,increasing operating risks, and increased balance sheet
Value of collateral or reductionof financial support
Expected to reduce the borrowers economic incentive to makescheduled contractual payment
Expected performance and behaviour of the borrower
e.g. An increase in the expected number of credit card borrowerswho are expected to approach or exceed their credit limit
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Challenges Considerations
Gaining an understanding of new standard Training programme Gaining insights from IASB
Impact on profit and capital Initial assessment using simulation tool Understand what the results are sensitive to Impact on both back book and front book volumes
with knock-on impact on lending and restructuringpolicies
Pricing implications
Definitions default/significant Judgmental considerations May consider what your peers are doing Policy will be required
Using existing suite of models Key adjustment required Forward looking assumptions e.g. future collateral
values Dealing with data gaps. Fit for purpose assessment
Financial results and disclosure impact Extensive disclosure requirements
Organisational impact Appropriate skills Ownership of models Interaction between finance, risk and credit
Key stakeholder (both internal and external)messaging
Need to manage message to stakeholders Changes to key MIS Forecasting results
Challenges
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Project Outline
Roadmap for IFRS 9
Assessment phase
Undertaking the new orproposed accounting
standards. Establish steering committee
and governance
Communicate to the key stakeholders (consider bothinternal and external
Consider using a simulatorto assess potentialquantative impact andunderstand the key factors.
Use simulator to assess datarequirements.
Consider resourcing impacts.
Detailed assessment
Agree key definitions fordefault /significant.
Consider detailed model(both IAS39 and Basel)inventory and assess whichmodels to leverage
Assess the financialreporting implications.
Agree model point in timeadjustments.
Consider estimatedpotential impact.
Communicate with key.
stakeholders and considerimpact on credit policy andpricing. Consider other key projects.
Implementation andtransition phase
Model and data validation.
Implement technology changes.
Finalise control designincluding key reconciliations.
Perform validation onresults.
Training and handoverfrom steering to business
as usual.
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Contacts
John McDonnell Partner Ronan Doyle Partner
[email protected] [email protected]
+353 1 792 8559 +353 1 792 6559
Oonagh Carroll Director Robert Lacey Senior manager
[email protected] [email protected]
+353 1 792 8163 +353 1 792 8131
Fidelma Boyce Senior manager
+353 1 792 8938
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