IASB Proposes Improvements to Hedge Accounting

The International Accounting Standards Board (IASB) has published for public comment an exposure draft (ED) on the accounting for hedging activities. The exposure draft proposes requirements that will enable companies to reflect their risk management activities better in their financial statements, and, in turn, help investors to understand the effect of those activities on future cash flows.

The proposed model is principle-based, and will more closely align hedge accounting with risk management activities undertaken by companies when hedging their financial and non-financial risk exposures. The proposals also include enhanced presentation and new disclosure requirements.

Sir David Tweedie, chairman of the IASB, said: “These proposals sweep away the existing rule-based, complex and inflexible hedge accounting requirements and replace them with a simple, principle-based approach. The result, if adopted, will be a much simpler model that better reflects risk management practices while providing more useful information to investors.”

The exposure draft hedge accounting is open for comment until 9 March 2011.

Financial risk management solutions provider Reval believes that the ED more realistically reflects the strategies companies use to hedge commercial risk, enabling them to hedge more risk.

“The proposed rules provide greater flexibility in the types of hedge relationships that will qualify for hedge accounting treatment,” said Blaik Wilson, Reval solutions consultant and vice chairman of Reval’s Hedge Accounting Technical Taskforce (HATT). “The more hedges that qualify for hedge accounting treatment, the more risk a company can hedge.”

According to Reval, the ED is broad in nature, allowing companies to:

• Apply hedge accounting treatment to net positions to better reflect real hedging strategies.
• Consider derivatives as hedged items so more hedging scenarios qualify for hedge accounting.
• Narrow commodity exposures to the hedged component (hedge the aluminium component in the aluminium can).
• Adjust their existing hedge relationships and their effectiveness methodologies to accommodate unexpected hedge ineffectiveness, without the need to de-designate and re-designate.

These features are not available in the recently released FASB ED, which Reval believes tweaks rather than overhauls existing hedge accounting rules.

“Even in areas where the FASB and IASB agree on issues such as the current ‘bright line’ effectiveness criteria, the response from each board has been very different,” Wilson added. “The FASB is essentially making the bright line broader, while the IASB has moved away from any kind of benchmark effectiveness level, looking instead to align effectiveness objectives with the company’s risk management policy. Either way, from Reval’s perspective, Reval supports companies reporting under both FASB and IASB standards.”

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