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Overhaul of IAS 39: Revolution or simplification?

by François Masquelier, Head of Corporate Finance and Treasury, RTL Group, and Honorary Chairman, EACT

The butt of frequent criticism in recent months, fair value has been singled out by shareholders and banks alike as the perfect scapegoat for the financial crisis with which we have been confronted. But we know, of course, that the responsibility lies elsewhere, albeit shared rather than attributable to a single cause. Notwithstanding all the criticism, fair value is actually enshrined in what will be the future standard on financial instruments, the son of IAS 39. Like father like son, so they say, and this proverb might very well apply in this case too.

Despite being divided into three separate phases, this overhaul of IAS 39 in relation to financial instruments is on the right track. The International Accounting Standards Board (IASB) had planned to publish three Exposure Drafts (EDs) in the third and fourth quarters of 2009 and in the first quarter of 2010, a trilogy-type approach which does not exactly lend itself to comment on the individual or successive draft(s) due to the lack of the necessary overview. Codenamed IFRS 9, the first part was published on 12 November 2009, thus completing their first phase of reform ( IFRS 9 takes a unique approach to establish whether an asset is to be measured in terms of its amortised cost or its fair value, thereby replacing the various rules from IAS 39. The approach adopted by IFRS 9 centres on the manner in which the company manages its financial instruments (its overall business model) and the contractual cash flows which characterise the financial assets. Also opting for a unique method to be used for impairments, the new measure’s effective date of entry into force will be 1 January 2013, with early adoption possible from the end of 2009.

Need for in-depth reform of IAS 39

Pushed by the European Commission to react to international pressure, the IASB had no choice but to agree to undertake a reform of its most controversial accounting standard. Sir David Tweedie acknowledged that it was necessary to rework it in order to tackle this recurring problem for once and for all. Regardless of the reform implemented, the one cast-iron certainty is that it will not totally satisfy anyone and will come in for plenty of criticism, an unfortunate fact for which the IASB is fully prepared. The three phases cover classification and measurement; dynamic provisioning; and hedge accounting. The second ED is also based on the idea that the EC has sought to identify the reasons why some banks proved to be more resilient than others. Why have Spanish banks withstood the shock waves relatively well, even though their economy has been suffering serious problems, most notably in the property market? Is it simply down to the practice of ‘dynamic provisioning’? IAS 39 is an accounting monster (we prefer to compare it to a sort of hydra) consisting of nearly 300 pages. According to Philippe Danjou, a French member of the IASB, “Overhauling IAS 39 is akin to renovating the Château of Versailles”. But is this truly an appropriate comparison? Not really, as the classical spirit of this château, albeit adorned with some baroque touches, constitutes the zenith of French art and nobility, with a sun-drenched aspect that, in our humble opinion, has little in common with the IAS 39. We would, however, concur with the view that it amounts to a colossal undertaking.

The foundation stones of this renovation, on classification and measurement, were laid in the summer in the exposure draft (ED 14 July 2009), closed at the end of September 2009, through the 250 or so responses and comments submitted. The aim of Sir David and his acolytes was wherever possible to  simplify the measures taken. The measurement of financial instruments has thus been reduced to two methods (amortised cost and fair value) and the number of classes has also been cut.