Preparers of financial reports in India experience major challenges as they grapple with new accounting standards based on IFRS Standards. Chetan Hans FCCA reports
This article was first published in the June 2019 International edition of Accounting and Business magazine.
The financial reporting landscape in India has undergone significant change in recent years as the government has worked to bring local standards closer to global arrangements. Indian Accounting Standards (Ind AS) are now harmonised with IFRS Standards, with modifications to suit Indian market conditions. There are separate roadmaps for corporates, banks, non-banking financial companies (NBFCs) and insurance companies.
The 2015 corporate regulations for Ind AS were rolled out on the basis of net worth and listing status. All companies, listed and unlisted, with net worth of INR500 crore (US$70m) or more were required to comply from financial years beginning on or after 1 April 2016. For companies whose equity and/or debt securities are listed (or are in the process of being listed) on any stock exchange in India or abroad, and for unlisted companies with net worth between INR250 crore and INR500 crore (US$35m–US$50m), the effective date was financial years beginning on or after 1 April 2017.
Transition to the new standards has thrown up a number of accounting challenges for companies, as the predecessor standards, Indian GAAP (still valid for companies outside the above parameters), were significantly different from IFRS. Let’s look at some of those differences.
The accounting for financial instruments (Ind AS 109) has undergone comprehensive change. Balance sheet ratios are affected (as a result of changes in classification of instruments as liability or equity), as is the fair-valuation of financial instruments. Recognition of fair-value changes and adjustments to interest costs arising from the effective interest rate method also affect some operational performance measures. Companies will need to be very cautious in drafting financing contracts in order to avoid undesirable accounting implications.
Present accounting practices involve book values, but Ind AS 103, Business Combinations, mandates the recognition of assets acquired and liabilities assumed at fair value on the acquisition date. What’s more, the new accounting standard requires seeing through an acquisition transaction to identify hidden or unsaid elements, which further complicates the accounting. Companies typically have to engage valuers to identify and apply a fair value to assets (including hidden ones such as customer contracts and brand) and liabilities to meet the stringent requirements of the standard.
Ind AS 18 and Ind AS 11 introduced changes on transition, including accounting for multiple-element arrangements, identification of principal-agent relationships, and accounting for rebates and incentives for customers. Ind AS 115, Revenue from Contracts with Customers, now introduces even more requirements, and revenue contracts will need to be carefully drafted to avoid unintended negative impacts on the income statements, and will require input from business development teams.
The impact of transitioning to Ind AS 17 Leases, was restricted to few industries. However Ind AS 116, effective from 1 April 2019, eliminates the operating lease model for lessees and requires all leases to be recognised on the balance sheet as a lease liability (similar to the finance lease model today) with the corresponding right-of-use assets. This will have a more widespread impact. The change affects balance sheet and performance ratios due to the recognition of an additional liability and an interest charge on this liability.
Ind AS rollout
NBFCs started implementing Ind AS from 1 April 2018. In addition to the challenges above, the key area of impact on transition comes from the requirement of Ind AS 109, Financial Instruments (equivalent to IFRS 9), to apply a three-stage impairment model for calculating expected credit losses on loans. As NBFCs in India used regulatory guidelines prescribed by the Reserve Bank of India for loan-loss provisioning, the challenge is to develop an expected credit-loss model that complies with Ind AS 109 but does not unduly affect the financing company’s financial performance. As a result, Ind AS transition for banks has been deferred until further notice. Ind AS transition for insurance companies has been deferred until April 2020 to align with the global adoption of IFRS 17.
Chetan Hans FCCA is director, Financial Reporting Advisory Services, at Grant Thornton Singapore.
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|IFRS Standards||Ind AS carve-outs|
|IAS 21, The Effects of Changes in Foreign Exchange Rates, requires recognition of exchange differences arising on translation of monetary items from foreign currency to functional currency directly in profit or loss.||Ind AS 21 permits an option to recognise exchange differences arising on translation of certain long-term monetary items from foreign currency to functional currency directly in equity instead of profit or loss.|
|IAS 28, Investment in Associates, requires the difference between the reporting period of an associate and that of the investor to be no more than three months.||The phrase ‘unless it is impracticable’ has been added to the relevant Ind AS requirement.|
|IAS 32, Financial Instruments: Presentation||Ind AS 32 includes an exception to the definition of ‘financial liability’ to consider the equity conversion option embedded in a convertible bond denominated in a foreign currency to acquire a fixed number of the entity’s own equity instruments as an equity instrument if the exercise price is fixed in any currency.|
|IFRS 3, Business Combinations, requires bargain purchase gains arising on a business combination to be recognised in profit or loss.||Ind AS 103 requires the same to be recognised in other comprehensive income and accumulated in equity as a capital reserve and in some circumstances directly in equity as a capital reserve.|
|IFRS 1, First-time Adoption of International Financial Reporting Standards:
1. Held for sale assets have no exemption under IFRS.
2. Foreign currency gains/losses on translation of long-term monetary items have no exemption under IFRS.
3. Use of previous GAAP values for the cost of property, plant and equipment, intangible assets and investment property on the date of transition are not permitted under IFRS on first-time adoption.
|1. Ind AS 101 provides transitional relief while applying Ind AS 105, Non-current Assets Held for Sale and Discontinued Operations. An entity may use the transitional date circumstances to measure such assets or operations at the lower of carrying value and fair value less cost to sell.
2. On the date of transition, if there are long-term monetary assets/liabilities mentioned in paragraph 29A of Ind AS 21, an entity may spread the unrealised gains/losses over the life of the assets/liabilities.
3. The entity may use carrying values of all assets as on the date of transition in accordance with previous GAAP as an acceptable starting point under Ind AS.
"Revenue contracts must be carefully drafted to avoid unintended negative impacts on the income statements"