Pensions

As reported previously in Inside Track, the ASB is undertaking a major research project into accounting for pensions. The ASB is being assisted in this project by a Pensions Advisory Panel appointed by the Board and a pan-European Working Group selected by EFRAG under the PAAinE initiative. Meetings of the Panel have been held in November and December, and of the EFRAG Group in December.

The advisory groups are continuing to discuss measurement of assets and liabilities. They believe a future accounting standard needs a measurement objective, or premise of value. It would be preferable if the same measurement principles were used for all types of post-employment obligations. This would avoid the need to invent ad hoc solutions for each type of promise and would remove the emphasis on distinguishing plans as defined contribution or defined benefit. It would also be preferable if such principles were consistent with principles used in other accounting standards. A view that is often heard is that pensions do not deserve a unique accounting solution. Instead there should be read-across to accounting standards on other liabilities, because pension obligations are simply one form of long-term corporate debt and the accounting should be similar. The review is therefore considering the principles used elsewhere – these include current settlement value, fair value, present value – and how they should apply to pensions.

This approach should also help us to understand what we are trying to achieve by measuring a stream of future cash payments; present value is not a very useful measurement basis unless we know what the present value that results from the calculation is intended to represent.

A particularly complex and contentious issue concerns the credit risk of liabilities. There is a risk to the beneficiary that the promised pension will not be paid, in the event that the sponsor becomes insolvent. This is particularly so if the liability is unfunded. On the face of it, the higher is the risk of default the lower is the value of the pension promise to the beneficiary. In the context of a present value measurement of a liability, the effect of including credit risk would be to increase the discount rate. Accounting standard setters have taken the view in some recent pronouncements that credit risk should be reflected in the measurement of liabilities. But credit risk is not reflected in the requirements of IAS 19, IAS 37, FAS 87 or FAS 106. Various viewpoints are held on whether or not measurement of the liability should reflect credit risk, including the implications for the going concern concept.

The groups have discussed the reporting of changes in assets and liabilities. They believe that corridor and deferral mechanisms, as allowed by IAS 19, are inappropriate. They have also challenged both the special accounting treatment given to actuarial gains and losses and the concept of recognising only the ‘expected’ return on assets in the profit and loss account.

The ASB has agreed that its discussion paper should explore an approach in which all gains and losses relating to assets and liabilities, apart from service costs, are reported as a single line item in the profit and loss account. The results of the project will be published later this year as a full discussion paper. The IASB has now agreed to take a project on pensions accounting onto its agenda and the hope is that the ASB’s work will contribute to the development of improved international accounting standards, which may provide a suitable basis to replace FRS 17.

Borrowing Costs

During late 2006 the IASB started considering the responses from constituents on its amendment to IAS 23 ‘Borrowing Costs’, proposing removal of the option to expense all borrowing costs relating to the period of production of an asset. A large number of constituents opposed the amendment raising concerns with its trivial nature, extent and timing. At its December meeting the IASB decided that senior staff will conduct further consultations with the SEC on whether it would require reconciliation of amounts of interest capitalised under IFRS (at the moment, these amounts must be reconciled when material). Subject to this consultation the IASB tentatively decided to press ahead with issuing the amendment in IFRS form during the first quarter of 2007.

Amendment to FRS 20 ‘Sharebased payment’

The ASB will consider making an amendment to FRS 20, based on the exposure draft issued in March 2006, relating to the treatment of cancellation of share options by the holder (such as the decision by a participant in a Save-As-You-Earn scheme to cease contributions) once the IASB has finalised the amendment to the corresponding international standard, IFRS 2.

Leasing

The membership of the working group for the joint IASB/FASB project on leasing has been announced. The working group will hold its first meeting in London on 15 February 2007. The ASB, jointly with the Finance Leasing Association (FLA) will be hosting a roundtable on 26 February. Details of the event and how to register to attend can be found on our website at the following link: http://www.frc.org.uk/asb/about/pub1216.html.

Financial Statement Presentation

The IASB is continuing to develop its thinking on the presentation of information in the performance statement, within the overall context of financial statement presentation. It has also commenced redeliberation of the proposals from the first stage of this project, as set out in the exposure draft issued in 2006.

Insurance

The IASB is expecting to issue its discussion paper on insurance contracts in the first quarter of 2007, although it is still deliberating some issues.

Earnings per share

The IASB is still considering issues relating to the modification of the treasury stock method of calculating diluted earnings per share, which are also being deliberated by the FASB. An exposure draft of a limited amendment to IAS 33 ‘Earnings per Share’ is expected shortly.

Limited Amendment to FRS 3 ‘Reporting Financial Performance’

The ASB is to propose a limited scope amendment to FRS 3 in order remove a potential conflict with FRS 26 ‘Financial Instruments: Recognition and Measurement’, relating to the treatment of gains and losses on certain financial instruments, for entities within the scope of FRS 26. This follows a discussion by the UITF at its meeting in December 2006.

FRS 26 specifies the treatment of gains and losses on revaluation and derecognition of financial instruments. Paragraphs 13, 21, 26 and 31A of FRS 3 specify the treatment of such gains or losses for all assets and liabilities. It has been suggested that there is a conflict. For example, unrealised gains and losses on Available for Sale financial assets of insurance entities within the scope of FRS 26 are required to be recognised in the statement of total recognised gains and losses and recycled through the profit and loss account on realisation. Paragraph 31A of FRS 3, on the other hand, requires that these be included as part of the investment return in the profit and loss account. More generally, FRS 3 does not permit recycling of gains and losses.

There is a related issue for entities complying with the requirements of FRS 23 ‘The effects of changes in foreign exchange rates’. The proposal will exempt entities from following certain provisions of FRS 3 where another accounting standard explicitly permits or requires an alternative treatment.

Half-Yearly Financial Reports

The Board is considering the issue of an Exposure Draft of a statement to update the existing statement ‘Interim Reports’ to reflect the legal and regulatory changes that have taken place since 1997, in particular the issue of the EU Transparency Directive and its implementation into UK law through the Financial Services Authority’s (FSA’s) Disclosure and Transparency Rules.