Can IFRS 9 prevent Greek tragedy?
IFRS 9, the global accounting standard on financial instruments, is among the most heavily scrutinised projects of the International Accounting Standards Board.
Recent events in Greece have dragged it further into the spotlight as some claim early adoption will help ease the burden of EU members' sovereign debt, while others insist changing accounting rules is not the answer.
Speaking at a recent conference, new chairman of the IASB Hans Hoogervorst said the standard - which is not yet finished - would "give us a little bit more leeway in terms of Greek government bonds", claiming for this reason, many at the European Commission "think we should adopt it quickly".
IFRS triptych
IFRS 9 Financial Instruments is made up of three parts, of which impairment accounting is most relevant for sovereign debt. During the financial crisis, the current incurred loss model attracted much criticism, as it was felt only recognising losses after the event crippled banks' ability to make provision for bad assets, effectively meaning there was no early warning system in place.
As a result, some called for a move to an expected loss model, a more forward-looking plan that takes into account current financial positions, as well as what can reasonably be expected to happen in the future.
An IASB spokesman said since the crisis, there has been great pressure on the standard setters to resolve the issue, and Hoogervorst's call for adoption of IFRS 9 is one part of their response.
However, some stakeholders have balked at a straight switch to IFRS 9, despite a recent survey by Deloitte indicating the majority of big banks think the global standard is an improvement on its predecessor, IAS 39.
Policymakers in Europe are loathe to officially adopt the standard before it is completed; the hedge accounting and asset/liability offsetting arms have yet to be finalised, and these two issues are in themselves among the knottiest problems in accounting standards.
In late 2009 Charlie McCreevy, then European Commissioner for internal market and services, wrote to the IASB saying "changed financial outlook and market improvements" meant IFRS 9 would not be adopted at that time. With sovereign debt tightening its stranglehold on member states, will politicians reconsider?
Barnier says no. Successor to McCreevy, he told a recent meeting: "I do not believe this will be the first solution to the problems we face in Europe at the moment," insisting that the Commission must see the other components of IFRS 9 before making a decision.
Transparency fears
Investors will be relieved, according to the CFA Institute, which warned Hoogervorst's plan will allow account preparers to avoid recognising losses and is "antithetical to the objective of transparent information".
The proposed IFRS 9 would allow some assets to be held at cost price and some at fair value - known as a mixed model - and proponents say this could support stricken banks that would otherwise see the value of their assets go through the floor.
The CFA Institute wants accounts to be prepared solely under fair value, otherwise known as mark-to-market, which would see assets valued at current market prices. For Greece and similar struggling economies this could be disastrous, as today's asset prices can be significantly lower than cost, leading to a "cliff effect" where balance sheet bottom lines plummet alarmingly.
CFA senior policy analyst Vincent Papa said investors want to see losses when they occur, and the proposed mixed model of impairment accounting "gives preparers too much freedom to present accounts as they see fit - a pure fair value model will take away this freedom".
Papa warned current proposals would present a "false plateau" and undermine investor confidence in the numbers, concluding: "The only way to solve this crisis is to tell it as it is."
Unsurprisingly, the IASB does not agree. Where IAS 39 used fair value measurement, IFRS 9 is based on expected cash flows, meaning if the holder of an asset is confident it will continue to bring in cash over its lifetime, it might not have to be written down to the extreme lows dictated by market prices.
To trade, or not to trade
Here, the purpose of the asset also comes into consideration. If, for example, a bank plans to hold a loan for its full term, it makes more sense to value it at cost, thereby avoiding recording huge losses derived from a current market price that is irrelevant to an asset that will never be sold.
Assets that will be held to full term and never sold are entered into the banking book, while those intended for sale go into the trading book. Under the IASB's mixed model, banking book assets (such as mortgages) would be valued at cost price, while trading book assets would be marked to market, and therefore run the risk of devaluing.
Here, the accounting standards become still more complicated. While banking book assets are recorded at cost price, which does not change, they may nevertheless be marked down (impaired) if the holder suspects they will not achieve the returns they hoped for when buying the asset.
In the case of Greece, this means lenders can value loans to the country at cost price - thereby avoiding the cliff effect of marking them to market - but may still be forced to write their value down if they think the debtor will not be able to repay the full amount.
Recent emergency meetings on sovereign debt indicated that the appropriate credit impairment might only be 21%, meaning lenders could reasonably expect to recover 79% of the value of loans to Greece. Under mark to market, this figure might be closer to 50%, illustrating Hoogervorst's point on IFRS 'easing the pain' of the current crisis.
Impair Vs. market
However, there are some who say the difference between IFRS 9 and IAS 39 is academic, given that the jury is out on the level of Greek debt that will be recoverable. If, for example, markets decide little debt will be recoverable, lenders would be forced to record significant impairment on it, and the cliff edge would still be precipitous.
Kathryn Cearns, technical accountant at Herbert Smith, said banks must remain convinced the debt is recoverable to justify valuing it at or near cost price. If they decide the asset return will be poor, they must write down its value (impair it) accordingly, and set aside provisions to cover expected losses. Additionally, bank regulators can choose to force a full write-down to market value simply for regulatory purposes, again meaning capital could be lost.
Iain Coke, head of financial services at the ICAEW, had similar words of warning. "There is much market uncertainty surrounding sovereign debt and impairment," he said. Many people believe Greek debt is heavily impaired and should be written down. This would hit balance sheets hard and could potentially have a similar effect as marking to market, if the impairment is so great as to wipe 50% off asset value.
Coke said holding assets at cost could in fact create a bigger one-off hit for banks as they would be forced to impair assets in one lump sum, rather than tracking a more gradual decline as market prices fall.
Mixed model
Despite this, the institute supports the IASB's mixed model, as do many other prominent voices in the market. Cearns said accounting under IFRS 9 is "simpler", while Coke described it as "more intuitive" and most respondents to Deloitte's survey think it will improve financial statements.
A dogmatic response to the complexities of sovereign debt has few fans, it would seem. While rushing headlong into adoption of the unfinished IFRS 9 could potentially alleviate sharp shocks, it might do little to stem Greece's freefall if the market has made up its mind that impairment is inevitable. At the same time, sticking with the old fair value-friendly IAS 39 has made it harder for banks to recognise the impact of recent developments in the Eurozone, even though some investors consider it a more truthful representation of market reality.
One thing is for sure - the IASB has a few months left to complete the standard, as no debt crisis seems to be enough to nudge the EU into adopting IFRS 9 in its half-baked state.
© Incisive Media Investments Limited 2011, Published by Incisive Financial Publishing Limited, Haymarket House, 28-29 Haymarket, London SW1Y 4RX, are companies registered in England and Wales with company registration numbers 04252091 & 04252093
LG Electronics (LG) has become the first company to be certified by a recognized authority for its flicker-free 3D notebook display. TUV Rheinland, one of the world's leading technical, safety and certification services and Europe’s highest authority on standards, has recognized the LG A530 notebook as being the first 3D notebook PC to offer a flicker-free viewing experience.
An American woman has refused to return a severance check for more than a half-million dollars she received by mistake from Viagra maker.
And now her former employer, drug giant Pfizer, is whining that she's playing "finders keepers, losers weepers".
Company VP Janet Rodriguez, 54, had worked for Pfizer for 16 years before being let go in December 2009 amid a round of layoffs.
On March 31, 2010, Pfizer issued Rodriguez from Bronx a check for 517,140.24 dollars.
But three and half months later, the manufacturer claimed it was all a big misunderstanding.
The company then fired off four letters and hired a collection agency as they sought to recoup 411,288.49 dollars, the amount it claimed Rodriguez was overpaid.
But she ignored Pfizer - so the company filed a lawsuit in Manhattan Supreme Court last week.
"By virtue of the fact that they bring this claim so late in the game, so long after their alleged mistake, [it] is just a cheap bullying tactic that we expect the court to see right through," New York Post quoted her lawyer, Saul Zabell as saying. (ANI)
News Highlights - Week of 24 - 28 October 2011
Japan's exports of goods increased 2.4% year-on-year (y-o-y) in September, following a 2.8% increase in August. The growth rate turned positive in August for the first time since the 11 March earthquake and remained in positive territory in September. Merchandise exports from Hong Kong, China fell 3.0% y-o-y in September, following 6.8% growth in August, largely due to declining shipments to the People's Republic of China (PRC) and the United States (US). The Republic of Korea's current account surplus rose to US$3.1 billion in September from US$290 million in August. Also last week, Viet Nam reported export growth in October of 4.5% month-on-month (m-o-m).
*Advance estimates showed the Republic of Korea's real GDP grew 0.7% quarter-on-quarter (q-o-q) and 3.4% y-o-y in 3Q11. Consumer sentiment in the Republic of Korea also improved in October. In September, Singapore's manufacturing output increased 12.8% y-o-y, while retail sales in Japan declined 1.2% y-o-y.
*Singapore's consumer price inflation eased to 5.5% y-o-y in September from 5.7% in August amid price hikes in food, housing, and transport. Viet Nam reported its October estimate for consumer price inflation at 21.6% y-o-y.
*Last week, Tenaga Nasional issued MYR4.85 billion of Islamic bonds and RHB Bank sold MYR250 million of medium-term notes in Malaysia. ICBC Asia priced the first Basel III-compliant CNH subordinated bond worth CNH1.5 billion and Dalian Port priced CNH400 million of 3-year bonds in Hong Kong, China.
*Bank of East Asia priced a US$500 million 10.5-year bond, the Government of Indonesia raised IDR11 trillion from its retail bond sale, the Republic of Korea's KT Corporation sold a total of KRW420 billion worth of dual-tranche bonds, and KDB priced a US$1 billion 5.5-year bond. Finally, PLDT plans to sell PHP5 billion of fixed-rate notes.
*The Bank of Japan (BOJ) decided last week to expand the size of its asset purchase program by JPY5 trillion and kept the uncollateralized overnight call rate between zero and 0.1%. The BOJ revised downward its growth forecast for Japan in fiscal years 2011 and 2012 from an earlier forecast made in July.
*The BOJ and the Bank of Thailand (BOT) announced their collaboration in implementing a THB lending facility, with Japanese government securities serving as collateral, to aid companies in Thailand affected by recent flooding. Also last week, Indonesia passed a bill to create the Financial Services Supervisory Authority (OJK), while Viet Nam released a decree on regulations governing corporate bond issuance.
*The Philippines posted a fiscal deficit of PHP18.5 billion in September after registering a surplus of PHP9.2 billion in the previous month. The fiscal deficit for January-September amounted to PHP53.0 billion.
*Government bond yields fell last week for all tenors in the Philippines and for most tenors in Indonesia and Thailand. Yields rose for all tenors in Republic of Korea and Singapore and for most tenors in the PRC; Hong Kong, China; Malaysia; and Viet Nam. Yield spreads between 2- and 10-year tenors narrowed in Republic of Korea and Viet Nam while spreads widened in most other emerging East Asian markets.
In Ahmedabad Gujarat from the beginning of new year, all HP petrol pumps have hiked CNG prices by more than 8 rupees and selling it at 50 rupees. It will be considered a strange move as nobody has expected such. Already people are struggling from high cost of living and inflation. There is not even single month relief from government authorities as every month there has been one or the another price hike announced.
It was been quite a month since the last newsletter (just as well I was on extended travel schedule!) , culminating in the events of this past week with the announcement of the Euro rescue package. These are uncertain times with markets fluctuating frenetically between the "risk-on" and "risk-off" trade, and it is important during times like these to re-evaluate (and stay with) the "big picture" view on global markets and economies. Few investment greats do that better than Bill Gross and Mohammed El-Erian , co-CEOs of the world's largest and one of the most successful bond fund managers – PIMCO. They were both interviewed recently by Counselo Mack of Wealth Track , and I have summarised below the key points:
-US growth is likely to average 0 to 1% over the next 12 to 18 months. This is because of weak consumer demand (which is 65-70% of total growth) arising from real wages being unable to keep pace with the growth of profits and other metrics.
-The struggles in the Eurozone, being the biggest economic region in the world, has serious negative implications and has brought the world to the brink of a systemic crisis.
-Europe needs two things to begin resolving this crisis – a circuit breaker to stop the crisis from spreading further and a clear vision where the Eurozone is heading over the next 3 to 5 years.
-A circuit breaker for the banking sector requires three things: ECB to provide liquidity (which is happening), equity infusion into the banks via the EFSF and improvement of the asset quality of banks.
-Europe will eventually solve the crisis and thereby prevent a downward spiral , but that does not imply that the world will return to the "old normal" as there continue to be serious structural issues facing the developed world which will take a long time to resolve.
-A key structural issue facing the US according to Bill Gross is that "long term profits cannot ultimately grow unless they are partnered with near equal benefits for labour. If main street is unemployed and under-compensated, capital can only travel so far down the prosperity road".
-These type of structural issues, and their solutions or lack thereof, have an impact on markets as they influence growth, government yields and equity prices which discount growth potential.
-Policy actions are having a huge impact on markets today and given the lack of cohesion amongst policy makers the impact is largely negative. Policy actions are also distorting fundamentals making the investing process even more difficult.
-Unfortunately the policy options are limited going forward - for example, on the monetary front with interest rates already very low, the positive impact of further declines in rates is limited.
-Therefore the focus of policy needs to shift from monetary and fiscal solutions, which have worked well in the past, to develop structural solutions to regenerate the economy.
-It is not just about stimulating demand, it is focussing on: 1) reviving housing which is critical to the health of the economy, 2) addressing structural unemployment, 3) get credit flowing again to the small and medium-sized companies, and, 4) increasing investment in infrastructure.
-The current debate between the Republicans and Democrats on whether to reduce the deficit or not is important but it needs to be dealt with later as the immediate priority is for the government's balance sheet be substituted (in a productive way) for the private balance sheet because the private sector is unwilling to take risk.
-Growth is the best way to reduce the debt problem in the developed world but we are unlikely to see growth because of the structural impediments. This has huge implications for investment portfolios.
-Portfolios should be well diversified and weighted in high quality assets in the developed world (government guaranteed bonds like US mortgages, high grade corporate bonds, equities in corporations with good balance sheets), emerging market local currency and $ bonds, diversified currencies, and "tail risk hedge" assets which provide protection against disasters like gold.
Interesting views from two investment greats and very helpful in keeping focus on the "big picture" and not getting swayed by extreme market volatility. The key lesson learnt over the last few months is the critical importance of diversity of assets – in these uncertain times it is almost impossible to predict the short to medium term movement of various asset classes and constructing a portfolio with weightings in cash, longer dated developed world government and high quality corporate bonds, EM local currency and $ bonds, developed world high quality equities, EM equities, commodities and gold should be able to withstand (to a reasonable degree!) market volatility. It is equally important not to overreact to extreme market movements, but use them to perhaps lighten or increase exposure as opposed to panic driven buying high and selling low!
On the European rescue package – it is a step in the right direction and embodies the Angela Merkel "step-by-step" approach rather than the Sarkozy/Cameron "bazooka" approach. Therefore, expect more summits in the future in response to more crises, but also realise that European leaders have shown that they have the resolve to address them (temporarily) and prevent downward market spirals (which is likely to lessen the fear factor in markets). Eventually, they will need to resort to ECB funding to support government bond markets and finally a quasi fiscal union in the form of eurobond issuance. As the above note highlights, the developed world is destined for 1% economic growth for a long while, which when combined with financing costs of 5-6% (for Italy and Spain) on a large debt burden, is not a viable scenario over the medium term.
Honda Motor withdrew its annual earnings guidance in an unusual move on Monday due to uncertainties including currency markets and Thailand's floods just as it was starting to recover from the March earthquake and tsunami.
Honda has been hit the hardest of any of Japan's automakers by both disasters this year, recovering slowly from the supply disruption in northeast Japan and suffering direct damage at its Thai car factory in the Ayutthaya industrial estate.
For the July-September second quarter, Japan's third-biggest automaker posted a 68 percent drop in operating profit to 52.51 billion yen ($693 million) due mainly to a shortage of microchip controllers from quake-hit Renesas Electronics. That was worse than the consensus estimate of 63.5 billion yen in a Reuters survey of 13 analysts.
Net profit, which includes earnings in China, fell 55.5 percent to 60.43 billion yen, also hammered by a sharp rise in the yen.
Honda, also the world's top motorcycle maker, had previously forecast operating profit of 270 billion yen for the year to March 2012, half what it made last year and far below the consensus 360 billion yen.
The maker of the popular Civic and Accord models had been preparing to ramp up overall car production to 125 percent of pre-quake plans in the October-March second half to build up inventory that had fallen after the March 11 disaster.
