CONCEPTUAL FRAMEWORK AND ACCOUNTING STANDARDS

Lesson 12.1 – PFRS 9: Financial Instruments

PFRS 9 establishes the financial reporting principles for financial assets and
financial liabilities, its classification and measurement.
- Financial assets and financial liabilities are recognized only when the entity
becomes a party to the contractual provisions of the instrument.
- Financial assets are classified as subsequently measured at:
o Amortized cost – when the following conditions are met:
 Hold to collect business model – objective is to hold the financial
asset to collect contractual cash flows. However, it still remains
appropriate even when some sales occur or expected to occur in the
following circumstances:
 Sales of financial assets due to increase in credit risk
 Sales of financial assets with insignificant value even when
such sales are frequent
 Sales of financial assets that are infrequent, even when the
sales have significant value
 Sales made close to the maturity when sales proceeds
approximate the collection of the remaining cash flows.
 Solely payments of principal and interest (SPPI) – the terms give
rise on specified dates to cash flows.
o Fair value through other comprehensive income (FVOCI) - when the
following conditions are met:
 Hold to collect and sell business model – this is appropriate when
the entity’s objective is
 To manage everyday liquidity needs
 To maintain a particular interest yield profile
 To match the duration of the financial assets to the duration
of the liabilities that those assets are funding.
  Solely payments of principal and interest (SPPI) – the terms give
rise on specified dates to cash flows.
o Fair value through profit or loss (FVPL) – if the conditions for
amortized cost or fair value through profit or loss is not met, except –
 Election to measure investments in equity securities that are not held
for trading at FVOCI
 Option to designate financial assets to be measured at FVPL if doing
so significantly reduces or eliminates accounting mismatch.
- Basis of classification of financial assets:
o The entity’s business model for managing the financial assets
o The contractual cash flow characteristics of the financial assets.

- Measurement of financial assets –

o Initial measurement – measured at fair value plus transaction costs,
except FVPL, which is measured at fair value only.
Transaction costs include fees and commissions paid to agents, advisers, brokers,
dealers, levies by regulatory agencies, security exchanges and transfer taxes and
duties, are expensed outright. It does not include debt premiums or discounts,
financing costs or internal administrative or holding costs.
o Subsequent measurement – see above.
Summary:
Statement Statement of
Initial Subsequent
Classification Composition of financial comprehensive
measurement measurement
position income
Changes in fair
Debt or
Current value are
FVPL equity Fair value Fair value
assets recognized in
securities
P/L
Changes in fair
Current or Fair value plus value are
FVOCI Equity
non-current transaction Fair value recognized in
(election) securities
assets costs OCI (without
recycling)
FVOCI Debt Current or Fair value plus Fair value - Changes in
(mandatory securities non-current transaction fair value are
assets costs recognized in
OCI (with
recycling)
 - Interest
income
computed using
effective
interest method
recognized in
P/L
- Impairment
gains/losses are
recognized in
P/L (with offset
to OCI)
- Interest
income
computed using
effective
Amortized
Current or Fair value plus interest method
Amortized Debt cost less
non-current transaction recognized in
cost securities impairment
assets costs P/L
allowance
- Impairment
gains/losses are
recognized in
P/L

- Reclassification – financial assets are reclassified only when the entity

changes its business model for managing financial assets.
o It is applied prospectively from the reclassification date
 Reclassification date is the first day of the first reporting period
following the change in the business model that results in an entity
reclassifying financial assets.
o Gains, losses or interests recognized in the prior periods are not restated.
o Only debt instruments can be reclassified, not equity instruments.

- Impairment – the standard uses an expected credit loss model to recognize

impairment losses on debt-type financial assets.
o ECL model 3 approaches depending on the type of asset or credit
exposure, summarized as follows:
Type of Asset/Exposure Approach
Trade receivables, contract assets and Simplified approach
lease receivables
 Originated or purchased credit- Changes in lifetime expected credit
impaired financial assets losses approach
Other assets/exposures General approach (3-stage approach)
General Approach: This is based on 3 stages which are intended to reflect the
credit deterioration and improvement of financial instrument.
Stage 1 Stage 2 Stage 3

 Credit risk has not

increased Credit risk has increased
significantly since Credit risk has significantly since initial
initial recognition increased significantly recognition plus there is
since initial recognition objective evidence of
 Low credit risk’ impairment
expediency
Recognize 12-month Recognize lifetime Recognize lifetime
expected credit losses expected credit losses expected credit losses
Interest revenue is Interest revenue is Interest revenue is
computed on the gross computed on the gross computed on the net
carrying amount of the carrying amount of the carrying amount of the
asset. asset. asset.
Change in credit risk since initial recognition
IMPROVEMEN DETERIORATION

Loss allowance – allowance for expected credit losses on financial assets within the
scope of the impairment requirements of the standard
Expected credit losses the weighted average of credit losses with the respective risks
of a default occurring as the weights
Credit loss – the difference between all contractual cash flows due to entity in
accordance with the contract and cash flows the entity expects to receive discounted
at the original effective interest rate.
12-month expected credit losses – portion of lifetime expected credit losses that
represent the expected credit losses that result from default events on a financial
instrument that are possible within 12 months after the reporting date
Low credit risk expediency – an entity may assume that the credit risk has not
increased significantly since initial recognition
Lifetime expected credit losses – the expected credit losses that result from all
possible default events over the expected life of a financial instrument.
- Derecognition – financial assets are derecognized when
o The contractual rights to the cash flows expire (collected, cancelled or
become uncollectible).
o The financial assets are transferred if the entity
 Transfers the contractual rights to receive cash flows of the financial
asset or
 Retain the contractual rights to receive cash flows but assumes an
obligation to remit the collections to a recipient in an arrangement
that meets all the following conditions:
 The entity is not obligated to pay the recipients unless it
collects an equivalent amount from the original asst.
 The entity is prohibited from selling or pledging the original
asset except as security in favor of the recipient
 The entity is obligated to remit collections to the eventual
recipients without material delay.
o If the entity transfers substantially all the risks and rewards of ownership
of the financial asset.
- Financial liabilities classification and subsequent measurement – at
amortized cost except the following:
o Financial liabilities at FVPL and derivative liabilities (subsequently
measured at fair value.
o Financial liabilities that arise when a transfer of a financial asset does not
qualify for derecognition (subsequently measured on the basis that
reflects the rights and obligations the entity has retained)
o Financial guarantee contracts and commitments to provide a loan at a
below market interest rate, subsequently measured at the higher of
 The amount of the loss allowance and
  The amount initially recognized less the cumulative amount of
income recognized.
o Contingent consideration recognized by an acquirer in a business
combination, subsequently measured at FVPL
Reclassification of financial liabilities after initial recognition is prohibited.
- Measurement of financial liabilities –
o Initial measurement – at fair value minus transaction costs, except
financial liabilities at FVPL wherein transaction costs are expensed
outright.
o Subsequent measurement:
 Financial liabilities classified as amortized cost – at amortized costs
 Financial liabilities classified as held for trading – at fair value
with changes in fair values recognized in profit or loss
 Financial liabilities designated at FVPL – at fair value with
changes in fair values recognized as follows:
 When attributable to changes in the credit risk – other
comprehensive income
 The remaining amount of change in the fair value – profit or
loss.
Lesson 12.2 PFRS 7 Financial Instruments: Disclosures
PFRS 7 prescribes the disclosure requirements for financial instruments that are
classified as follows:
- Significance of financial instruments to the entity’s
o Statement of financial position – carrying amounts of
 Financial assets measured at FVPL showing separately
 Those that are designated
 Those that are mandatorily measured at FVPL
 Financial assets measured at amortized cost
 Financial assets measured at FVOCI showing separately
 Those that are mandatorily classified as such
 Those that are elected to be classified as such
 Financial liabilities at amortized cost
 Financial liabilities at FVPL showing separately
 Those that are designated
 Those that meet the definition of held for trading
Disclosures required:
Financial assets and financial liabilities measured at FVPL -
 The financial asset’s exposure to credit risk and the change in fair
value attributable to changes in credit risk
 Change in the fair value that is attributable to changes in credit
risk
 Any cumulative gain or loss that were transferred within the
equity or were realized
 Financial assets measured at FVOCI
 Investments in equity securities should be disclosed and the
reason for the election
 Dividends recognized during the period
 Any transfers of cumulative gain or loss within the equity
 If any were disposed of,
o the reason for the disposal,
o the fair value on the derecognition date
o the cumulative gain or loss on disposal
Reclassification of financial assets
 date of reclassification
 explanation of the change in business model
 amount reclassified between categories
 if reclassifies from FVOCI or FVPL to amortized cost or from
FVPL to FVOCI or amortized cost -
o fair value gain or loss that would have been recognized in
profit or loss or OCI if it had not been reclassified.
Offsetting financial assets and financial liabilities –
 the gross amounts of those assets and liabilities
 amount that were set off
 the net amounts presented in the statement of financial position
 description of the related legal right of set-off
Collateral –
 carrying amount of the financial assets pledged as collateral for
liabilities
 terms and conditions of the pledge
  if the entity holds the collateral that is permitted to sell or
repledge
o the fair value of such collateral
o if has been sold or repledged –
 whether the entity has an obligation to return it
 the terms and conditions associated with the
entity’s use of collateral
Other disclosures:
 Allowance account for credit losses
 Defaults and breaches relating to loans payable –
o carrying amount of those loans payable, the principal, interest,
sinking fund or redemption terms
o whether the default was remedied or if the terms were
renegotiated before the financial statements were authorized
for issue
 Statement of comprehensive income
 Items of income, expense, gains or losses
 Net gains or losses on
o Financial assets and financial liabilities measured at
FVPL showing separately those relating to designated
and mandatorily measured at FVPL
o Financial assets measured at amortized cost
o Financial liabilities measured at amortized cost
o Financial assets measured at FVOCI showing separately
those relating to elected and mandatorily measured at
FVOCI
 Total interest revenue and total interest expense using
effective interest method
 Fee income and expense
 - The nature and extent of risks arising from financial instruments to which the
entity is exposed, and how the entity manages those risks.
o Credit risk – will cause a financial loss of one party by failing to
discharge an obligation
o Liquidity risk – difficulty in meeting obligations associated with
financial liabilities
o Market risk – when the fair value of financial instrument will fluctuate
because of the changes in market prices, which consists of the following
types of risk –
 Currency risk – due to the changes in foreign exchange rates
 Interest rate risk – due to the changes in market interest rates
 Other price risk – due to changes in market prices other than
arising from interest rate risk or currency risk.
The entity shall provide both qualitative and quantitative disclosures for each type of
risks.