Above-par instruments and current/non-current distinction

All topics related to IFRS Standards.
Post Reply
pub_acco
Trusted Expert
Posts: 251
Joined: 19 Mar 2020, 16:40

Above-par instruments and current/non-current distinction

Post by pub_acco »

Consider a zero-coupon bond issued at $150 and repaid at $100 after five years (or if it sounds too unrealistic, assume that the carrying amount ends up at $150 when the fair value hedge is discontinued). Assume that by applying the effective interest rate method, $10 is recognized in PL within the next 12 months.

My question is: is the $10 portion classified as a current liability (if an entity issues it) or as a current asset (if an entity invests in it)?

In my view, the $10 portion is not a current liability because no economic resource is transferred to the counterparty and thus it is not "settled" as newly clarified by IAS 1.76A. I am not fully confident though because in many situations where a liability is extinguished through PL, the current portions are classified as current. Also, if the same logic holds, the deferred revenue recognized at acceptance of government grant will never be classified as current, which to me is somewhat counter-intuitive.

Similarly, the $10 portion is not a current asset because it is not "realised". I am not confident here either because IAS 1 does not define the term "realise".
DJP
Trusted Expert
Posts: 80
Joined: 26 Jun 2020, 15:57

Re: Above-par instruments and current/non-current distinction

Post by DJP »

Realise means conversion in cash or cash equivalents (as implicitly stated in IAS 1.68).

My view is that if the asset will be realised (converted into C&CEs), the timing of the cash flow should indicate whether the asset is current or non-current. If no cash flow is involved in the future (e.g. deferred income for a service or good that has already been paid for), then the asset should be classified as current or non-current depending on when it will hit P&L -- but also depending on the type of asset. For example, if we are talking about a PP&E item, I would not classify the next 12 months of depreciation as current; the asset should always be reported as non-current even though part of it will be "consumed" in the coming 12 months.

I see the current vs non-current classification mostly as a liquidity indicator and, therefore, realisation (timing of cash flow) should drive this classification.

That said, I think that your zero-coupon bond should be classified as current or non-current depending on the maturity of the bond because that's when the cash flow will happen.
JRSB
Trusted Expert
Posts: 575
Joined: 01 Mar 2020, 01:10
Location: UK

Re: Above-par instruments and current/non-current distinction

Post by JRSB »

It's an interesting question, conceptually. Conceptual Framework aside, everything about the bond points to non-current for me. But then suppose there were annual repayments as in a typical loan... is the current portion just the actual cash that will be received...
Student of IFRS.
DJP
Trusted Expert
Posts: 80
Joined: 26 Jun 2020, 15:57

Re: Above-par instruments and current/non-current distinction

Post by DJP »

It should be the actual cash to be received discounted at the EIR
pub_acco
Trusted Expert
Posts: 251
Joined: 19 Mar 2020, 16:40

Re: Above-par instruments and current/non-current distinction

Post by pub_acco »

In practice, I state all the amount as non-current, but I am struggling to find out a basis for this in the standards, for assets in particular. It's a good point that the meaning of "realise" may vary depending on the type of asset.

It is also a conceptually interesting question. The above-par portion is accounted for as part of debt but economic resource flows to the debtor. Because of this, many provisions about assets and liabilities do not directly apply. Even the definition of asset and liability in the conceptual framework does not unless we presume negative assets and liabilities exist.

Btw, do you reclassify the bond from non-current to current when it reaches its final twelve months to maturity? I do so in practice and it's clear in IAS 1 for liabilities, but for assets, I am actually confused by IFRS 5.3 that says a non-current asset shall not be reclassified unless it is deemed held for sale and by IAS 1.68 that mentions "the current portion of non-current financial assets". It's confusing also because IFRS 5 does not exclude financial assets from its scope.
DJP
Trusted Expert
Posts: 80
Joined: 26 Jun 2020, 15:57

Re: Above-par instruments and current/non-current distinction

Post by DJP »

It's not really about negative assets or negative liabilities, I think. An asset with such a huge premium like in the example is basically an asset with a negative return (pretty much like a EUR deposit these days). Surely whoever buys this asset has an economic objective that will meet the conditions for an asset in the conceptual framework.

As for the current/non-current classification, what is key is the timing of the cash flows. For assets it is a matter of expectations of when the assets will be converted into cash (a long-term bond may be classified as current if I plan to sell it within 12 months). For liabilities it is a matter of being able to avoid settlement within 12 months. But it's all about cash settlement. Let's keep in mind that the current and non-current classification is in essence a liquidity indicator. Analysts will use this classification to calculate liquidity ratios.

IFRS 5 does not apply to financial assets covered by IFRS 9 (IFRS 5.5(c))
User avatar
Marek Muc
Site Admin
Posts: 1627
Joined: 15 Oct 2018, 17:21
Location: Warsaw, Poland

Re: Above-par instruments and current/non-current distinction

Post by Marek Muc »

I agree with DJP.

Plus: paragraphs IAS 1.68 and 72 say that the split for current and non-current portion is done only for financial assets and liabilities, that's why we don't classify a portion of e.g. a piece of PP&E as a current asset.
pub_acco
Trusted Expert
Posts: 251
Joined: 19 Mar 2020, 16:40

Re: Above-par instruments and current/non-current distinction

Post by pub_acco »

DJP wrote: 08 May 2021, 11:18 whoever buys this asset has an economic objective
That's a good point! Economic resource does flow into the investor.
pub_acco
Trusted Expert
Posts: 251
Joined: 19 Mar 2020, 16:40

Re: Above-par instruments and current/non-current distinction

Post by pub_acco »

IFRS 5's measurement provisions do not apply to financial assets, but its classification and presentation requirements do cover non-current financial assets as stated in the basis for conclusions. So, I think IAS 1 and IFRS 5 provide conflicting guidance about financial assets that were originally considered non-current and are now expected to be realized (but not sold) within 12 months.

In practice, I reclassify the portion of long-term debt investments due within 12 months from non-current to current, and I think I should do so given the nature of current assets as a liquidity indicator. But, I am not able to find a reliable resource that resolves the conflict of IAS 1 and IFRS 5, which makes me more or less anxious.
User avatar
Marek Muc
Site Admin
Posts: 1627
Joined: 15 Oct 2018, 17:21
Location: Warsaw, Poland

Re: Above-par instruments and current/non-current distinction

Post by Marek Muc »

I don't see any conflict here. Financial assets (or their portions) due within 12 months are no longer non-current assets and therefore you don't need to satisfy IFRS 5 criteria to classify them as current.
pub_acco
Trusted Expert
Posts: 251
Joined: 19 Mar 2020, 16:40

Re: Above-par instruments and current/non-current distinction

Post by pub_acco »

I think IFRS 5.3 reads that Assets (once) classified as non-current shall not be (subsequently) reclassified as current assets until they meet the criteria to be classified as held for sale. BC10 also says assets are not reclassified as current simply "because they reached their final twelve months of expected use by the entity." It's weird to use the word "expected use" for financial assets, but anyway if I interpret IFRS 5.3 literally, it sounds like suggesting that a long-term debt investment will never be reclassified as current unless it's classified as held for sale.
User avatar
Marek Muc
Site Admin
Posts: 1627
Joined: 15 Oct 2018, 17:21
Location: Warsaw, Poland

Re: Above-par instruments and current/non-current distinction

Post by Marek Muc »

Actually IFRS 5.3 makes a reference to IAS 1, so there's no conflict here: "Assets classified as non‑current in accordance with IAS 1 shall not be reclassified as current assets until they meet the criteria to be classified as held for sale in accordance with this IFRS".

So the portion (or entirety) of a long-term term investment that becomes due within 12 months is no longer a non-current asset under IAS 1, therefore IFRS 5.3 no longer applies. The reference to "expected use" in BC10 relates to non-financial assets IMO (e.g. PP&E) that should not be reclassified to current assets even if their remaining useful life no longer exceeds 12 months.
JRSB
Trusted Expert
Posts: 575
Joined: 01 Mar 2020, 01:10
Location: UK

Re: Above-par instruments and current/non-current distinction

Post by JRSB »

Interesting points, thanks. I was just thinking about current/non-current concept, and really it is arbitrary in understanding a company, since a year as a unit of time is of varying significance, though its there for comparability. I suppose current/non-current is not strictly based on a year, eg 'normal trading cycle' etc but normally is observed as such. I was thinking about having current/non-current as an option based on that company's circumstances, eg 6 months or 3 years. A mess, I know. But the above points out that current/non-current doesn't give the information some users might interpret it as. We talked before about deferred tax always being non-current (unless its the only noncurrent item), as another example.
Student of IFRS.
pub_acco
Trusted Expert
Posts: 251
Joined: 19 Mar 2020, 16:40

Re: Above-par instruments and current/non-current distinction

Post by pub_acco »

Marek Muc wrote: 12 May 2021, 18:06 So the portion (or entirety) of a long-term term investment that becomes due within 12 months is no longer a non-current asset under IAS 1, therefore IFRS 5.3 no longer applies.
If we give precedence to IAS 1, we can also say like "PP&E and intangibles consumed within the next normal operating cycle are no longer non-current under IAS 1, so IFRS 5 does not apply." I think IFRS 5.3 is intended to override IAS 1 and thus is technically conflicting with it in terms of financial assets. I do split a non-current financial asset into current and non-current portions in practice, but as long as IFRS 5.3 exists, it sounds possible not to do that as an accounting policy.

It might be interesting (though messy :lol:) if IFRS allows a more flexible current/non-current distinction as JRSB suggests. It seems that, no matter how each of us reads the standards, we share some common understanding and expectation about current items (e.g. as a liquidity indicator, closeness to fair value, for current asset/liability ratio). It would be interesting if IASB can establish such a principle-based definition of current assets and liabilities (IAS 1.65 may be exactly one though).
JRSB
Trusted Expert
Posts: 575
Joined: 01 Mar 2020, 01:10
Location: UK

Re: Above-par instruments and current/non-current distinction

Post by JRSB »

For a loan asset held at fair value (because of mandatory, but variable, repayments in years 1,2,3) is it still appropriate to split between current and non-current? It seems an obvious question but looking for the relevant reference.
Student of IFRS.
DJP
Trusted Expert
Posts: 80
Joined: 26 Jun 2020, 15:57

Re: Above-par instruments and current/non-current distinction

Post by DJP »

Cash flows should dictate this classification. Is part of the loan being repaid within 12 months? If so, that part should be classified as current. Or... do you plan to sell the loan within 12 months, or is there an expectation that the borrower will prepay the loan? If so, the entire loan should be classified as current.
JRSB
Trusted Expert
Posts: 575
Joined: 01 Mar 2020, 01:10
Location: UK

Re: Above-par instruments and current/non-current distinction

Post by JRSB »

It is required to, and expected to, be paid annually over 3 years. Just checking on the principle of splitting a FV asset between current and non-current, thanks!
Student of IFRS.
DJP
Trusted Expert
Posts: 80
Joined: 26 Jun 2020, 15:57

Re: Above-par instruments and current/non-current distinction

Post by DJP »

cash flow. cash is king :p
User avatar
Marek Muc
Site Admin
Posts: 1627
Joined: 15 Oct 2018, 17:21
Location: Warsaw, Poland

Re: Above-par instruments and current/non-current distinction

Post by Marek Muc »

Yep, you need to split the current and non-current portion unless it's held for trading:
Current assets also include assets held primarily for the
purpose of trading (examples include some financial assets that meet the definition of held for trading in IFRS 9) and the current portion of non-current financial assets.
JRSB
Trusted Expert
Posts: 575
Joined: 01 Mar 2020, 01:10
Location: UK

Re: Above-par instruments and current/non-current distinction

Post by JRSB »

Great
Student of IFRS.
Post Reply