Firms, auditors seek more clarity on ICAI move

One week after the accounting body the Institute of Chartered Accountants of India (ICAI) announced that firms need to disclose and provide for the losses on their derivative trades, companies and auditors are still trying to seek clarifications and form a view on how to treat these losses.

On March 30, the ICAI asked all companies to disclose and/or provide for all losses on derivative contracts, except for forward contracts where a company needed to comply with accounting standard AS11.

So far, Indian companies were not required to declare their gains or losses on derivatives; the ICAI's new accounting standard AS30 required them to reveal these gains or losses from April 1, 2011, a deadline it advanced by three years.

"The technical view emerging is that it is not mandatory for companies to disclose these losses. We are waiting for our auditors to form a view on the issue, which should come by Wednesday," said the chief financial office (CFO) of a Mumbai-based textile major.

"There is some confusion. We have written to the ICAI seeking more clarification. Whatever the legal obligation, we will abide by it and make disclosures. In fact, we have already made a disclosure," said Amtek Auto CFO Santosh Singhi.

Firms also said it is not very clear if they can set off losses on some derivative trades with gains on others. So they are not sure if they need to report their losses net of gains. Similarly, it is not clear how the tax authorities will treat these losses.

On Friday, the Confederation of Indian Industry organised a seminar in Bangalore on currency trends and these were some of the questions that came up for discussion.

"I have received around two dozen calls from people wanting to clarify these issues," said an accounting expert with a consultancy.

The ICAI's Technical Director Avinash Chander, however, said no company has come forward to seek any clarification.

"If there is a need, we could look into it. Every principle is open to different interpretations. One should go by the spirit of the principle," Chander added.

The issues of "spirit" and "principle" arise because of the global standards to which India is moving. Unlike the US GAAP (Generally Accepted Accounting Principles, followed by US companies and those listed on US exchanges), which is rule-based, the International Financial Reporting Standard or IFRS, a standard now followed by 120 countries which India will adopt by 2011, is more principles-based.

"In a principle-based standard it is not always possible to give clarifications on everything. We don't want everything to be rule-based," said Chander.

In other words, in principle-based standard, you have to go by the spirit of it. "The principle is very clear: if you are sitting on losses on derivatives, it's better to be transparent and provide for it. But there's a need for more clarity," said Sunder Iyer, partner, PricewaterhouseCoopers, and an expert on standards.

"What the ICAI has said is that companies can go ahead and adopt AS30 early. If they decide not to implement the AS30, then they need to mark their losses on derivatives to market," said Farrokh Tarapore, partner (risk advisory services), Ernst & Young.

If companies don't disclose these losses, auditors will have to do so.

On the question of how losses are treated, an accounting expert said the authorities are likely to go by precedence.

"In the past, if the gains or losses have been treated in a certain way, they will follow the same criteria, provided these are genuine business transactions," the expert said.

Globally, accounting for derivatives is very simple: it should be on the balance-sheet at fair (market) value and the gains and losses should be taken to the profit and loss account.

This has come through by the adoption of IS39 under IFRS which is followed by 120 countries in Europe, Australia and Singapore while Japan, China and South Korea are moving towards it.

Forex experts estimate that corporate India may be sitting on losses of Rs 12,000 crore to Rs 20,000 crore on its exposure to forex derivatives.

CFOs fear that the losses could significantly impact their Q4 earnings and stock markets, already bogged down by concerns on rising inflation and economic slowdown at home and abroad.

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THE DERIVATIVES DILEMMA: THE STORY SO FAR

Adverse currency movements (the decline of the dollar against the Japanese yen or the Swiss Franc) have soured many Indian companies' derivative deals

Forex consultants estimate that Indian companies are sitting on notional losses of $3 billion to $5 billion (Rs 12,000 crore to Rs 20,000 crore) on derivative deals

More than half-a-dozen companies have gone to court alleging that banks mis-sold them derivatives or certain products were not appropriate for them

The ICAI asks companies to disclose and provide for all losses on derivative contracts, except for forward contracts

CFOs and analysts fear that losses could significantly impact Q4 earnings and stock markets, already down on concerns of rising prices and demand slowdown

A week later, companies seek more clarity on the ICAI's announcement and how to account for these losses

The ICAI says every principle is open to different interpretation and one should go by the spirit of the principle