Will IFRS9 set the right standard?

The standard itself gives makes clear (35B), that it expects IFRS7 disclosures under IFRS9 to enable users of financial statements to understand the effect of credit risk on the amount, timing and uncertainty of future cash flows. To enable this, banks must disclose the following information:

(a) Information about an entity’s credit risk management practices and how they relate to the recognition and measurement of expected credit losses, including the methods, assumptions and information used to measure expected credit losses.

(b) Quantitative and qualitative information that allows users of financial statements to evaluate the amounts in financial statements arising from expected credit losses, including changes in the amount of expected credit losses and the reasons for those changes.

(c) Information about an entity’s credit risk exposure (that is, the credit risk inherent in an entity’s financial assets and commitments to extend credit), including significant credit risk concentrations.

It also emphasises the need for banks to consider (35D) how much detail to disclose, how much emphasis to place on different aspects of the disclosure requirements, the appropriate level of aggregation or disaggregation, and whether users of financial statements need additional explanations to evaluate the quantitative information disclosed.

If the bank considers that the information explicitly requested in the standard is not sufficient to enable users to understand the financial position (35E), the onus is on them to provide additional information to meet that objective.

I think the intent is clear, but it generates two further questions:

1. How do banks provide this information in a way that is consistent and, with enough detail, to enable it to be understood?

2. Do the users of financial statements have enough experience with the practicalities of impairment calculation and reporting, and the advanced credit risk modelling techniques required to produce these numbers under IFRS9 to enable them to understand the disclosures?

Key items for banks to disclose

The standard identifies a number of items to help users interpret the quantitative disclosure templates:

• Transfer criteria from stage one to stage two.

• Default definition, transfer to stage three (the expectation is that default and impaired are aligned)

• The point at which assets are written off and the policy around any subsequent recovery activity

• The assumptions and estimation techniques used to identify when risk has increased significantly and calculate 12m expected loss and lifetime expected loss.

• How forward-looking information has been incorporated into the estimation techniques above.

These items are key to understanding the basis for the final numbers and how the banks’ assets are performing. If financial institutions define these criteria and develop the underlying assumptions and estimation techniques in isolation they will not be applied consistently across the industry.