01/02/2019 - EFRAG Comment Letter on the IASB DP/2018/01 on the distinction between liabilities and equity
EFRAG has published its comment letter in response to the IASB's Discussion Paper 2018/1 Financial Instruments with Characteristics of Equity (the 'DP') which welcomes the IASB's efforts to address the issues that arise from IAS 32 Financial Instruments: Presentation but suggests the IASB to focus at this stage on targeted improvements to IAS 32.
EFRAG acknowledges the various challenges that arise from the application of IAS 32 Financial Instruments: Presentation, including the risk of inconsistent application in some areas and the limited information provided to users of financial statements. EFRAG also appreciates the IASB's efforts to address the identified challenges by developing proposals relating to classification, presentation and disclosure.
EFRAG does not support the IASB's preferred approach to classification as a way forward to address the identified challenges as it introduces completely new terminology (which is likely to cause some disruption), it uses an amount feature on liquidation for classification purposes (which is inconsistent with the going concern principle) and any benefits of the preferred approach to classification are unlikely to outweigh the associated costs.
Presentation and Disclosures
EFRAG acknowledges the inherent limitations of any binary debt-equity split and welcomes the IASB's efforts to improve the presentation and disclosure requirements to provide additional information to users. Nonetheless, EFRAG does not support the proposed attribution of total comprehensive income to subclasses of equity and suggests that the IASB instead considers targeted improvements to IAS 33 Earnings per Share. EFRAG is also not convinced that expanding the use of OCI for financial liabilities with equity-like returns is the most appropriate way forward and suggests that the IASB instead considers enhanced disclosures.
As a way forward
At this stage, EFRAG suggests that the IASB focuses on targeted improvements to current requirements in IAS 32 and other standards (including IAS 33), particularly on improvements to disclosure requirements and the classification guidance on complex instruments with contingent settlement provisions.
EFRAG also suggests that some of the proposed supporting guidance could usefully be incorporated into IAS 32 as it could help address challenges identified in the application of IAS 32 in areas such as the fixed-for-fixed condition and the role of economic compulsion when the entity has alternative settlement options without replacing IAS 32 or introducing completely new terminology.
EFRAG acknowledges that some constituents are calling for a more conceptual and less rule-based approach to distinguishing debt from equity. However, at this stage EFRAG has not identified any consensus among those constituents on how to achieve this in a reasonable timeframe. Therefore, developing a more conceptual and less rule-based approach is going to be very challenging and any alternative that results in widespread classification changes is likely to prove controversial (as with previous approaches discussed by the IASB and EFRAG).
Accordingly, EFRAG suggests that the IASB reconsiders whether to continue a comprehensive FICE project (e.g. as part of its next agenda consultation) which would consider, in a longer term, the different approaches referred by the respondents to the DP.