In May 2020, the IASB issued a number of narrow scope amendments to IFRSs, including separate amendments to IAS 37, IAS 16 and IFRS 3 and a small collection of amendments resulting from its Annual Improvements to IFRS Standards activities. Subject to EU endorsement, all of the amendments will be mandatory for periods beginning on or after 1 January 2022.
The changes that risk having the most significant effect on companies’ financial statements are those that relate to IAS 37, IAS 16 and IFRS 9:
IAS 37 Onerous Contracts – Cost of Fulfilling a Contract
IAS 37 defines an onerous contract as a contract in which the unavoidable costs of meeting the obligations under the contract exceed the economic benefits expected to be received under it. Until now, there has been a question over which costs can and should be included in this determination. The amendments clarify that the costs of fulfilling a contract include both:
- Incremental costs, such as materials and direct labour; and
- An allocation of costs directly related to fulfilling contracts, such as an allocation of the depreciation charge for an item of property, plant and equipment used in fulfilling that contract among others.
The inclusion of an allocation of direct costs in a company’s assessment of whether a contract is onerous will be a change in approach for some companies and may lead to earlier recognition of a provision and/or larger provisions. The manufacturing, construction and service sectors are expected to be the most affected.
The transitional provisions require a company to apply the amendments to contracts existing at the beginning of the annual reporting period in which it applies the amendments. Comparative information will not be restated and the cumulative effect of initially applying the amendments will be recognised as an adjustment to opening retained earnings. Entities may adopt this amendment early but should disclose if they do so.
IAS 16 Property, Plant and Equipment – Proceeds before Intended Use
Items may be produced and subsequently sold using a piece of property, plant and equipment (PP&E) before it is in the location and condition necessary for its intended use. For example, samples may be produced and sold while the item is being tested.
Previously, paragraph 17(e) of IAS 16 mandated that any such proceeds would be deducted from the costs of testing in arriving at the cost of the PP&E. However, the amended standard will require that these proceeds are recognised in profit or loss in accordance with applicable standards. Likewise, the costs of the items sold would be recognised in line with IAS 2 Inventory. Note that it is the condition of the PP&E when the items are produced and not when the items are sold that is key. Any such proceeds and costs, and the line items in the income statement they are included in, should be disclosed to the extent they are not considered an output of the entity’s ordinary activities.
The treatment will apply retrospectively, but only to those items of PP&E brought to their intended use on or after the start of the earliest comparative period presented. Any transitional adjustment is made to opening retained earnings in the earliest comparative period presented.
The amendment is expected to affect mining and petrochemical companies especially.
IFRS 9 Financial instruments – The treatment of fees in a modification of a financial liability
This amendment has been implemented through the IASB’s Annual Improvements to IFRS Standards activities 2018-2020 project. It clarifies that, for the purpose of the ‘10% test’ for determining whether changes to the terms of financial liabilities are significant, the fees that are taken into account are only those paid or received between the borrower and the lender.
It also clarifies that, for a modification that results in the derecognition and replacement of the original financial liability, any costs or fees are included in the gain or loss on the extinguishment. Conversely, for a modification that is not an extinguishment, they would adjust the liability and would be amortised over the remaining term of the liability.
The treatment will apply to financial liabilities that are modified or exchanged on or after the beginning of the annual reporting period in which the amendment is first applied.
The following minor amendments have been made to other standards:
- IFRS 3: The amendments replace previous references in IFRS 3 to the 2001 Framework with references to the 2018 Conceptual Framework. Wording in respect of provisions, contingent liabilities, contingent assets and levies has also been updated to avoid unintended consequences of this change.
- IFRS 1: An exemption was added for cumulative translation differences such that a subsidiary which becomes a first time adopter later than its parent may measure such differences in its own accounts at the amount that would be recorded in its parent’s accounts based on the parent’s transition date to IFRS.
- IAS 41: The amendment deletes a requirement to exclude taxes from the cash flows used in calculating the fair value of a biological asset. This is because fair value could validly be calculated by using post-tax cash flows combined with a post-tax discount rate.
Read the IASB’s update
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