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30/07/2017 06:37 AST
Most Omani banks have completed their half-yearly reporting obligations. It is now advised that banks should focus on the looming deadline of January 1, 2018 for adoption of IFRS 9 Financial Instruments. Earlier this year, Central Bank of Oman (CBO) issued a circular for implementing IFRS 9.
Importantly, the circular mandates banks to comply with the Basel Committee Guidance on credit risk and accounting for expected credit losses. Banks should start by performing a gap assessment with this guidance.
IFRS 9 is an all pervasive accounting and regulatory requirement that is likely to impact several aspects of the banks’ business, including in areas, such as accounting, risk management, capital management, regulatory reporting, data collection, governance framework, processes, IT systems, investment decisions, product structuring decisions and hedging decisions.
Classification
Classification is critical since it determines whether the financial asset so classified will be measured at an amortised cost or fair value. The CBO circular recognises that judgment has to be exercised during classification, and therefore, has mandated banks to document the basis of classification of financial assets. The circular also clarifies that any changes in the conclusion is to be approved by the Board of Directors.
Also, sales, if any, from the ‘Hold to Collect’ category are required to be justified and approved by the board. This mechanism is expected to limit opportunistic selling from the ‘Hold to Collect’ portfolios.
Classification of financial assets within IFRS 9 is quite nuanced. Our experience suggests that banks, while drafting the classification documents, need to consider multiple possibilities and scenarios that are likely to occur over the portfolio life cycle. We have seen significant challenges on classification, when regional banks had earlier adopted this as part of the standard.
The circular requires banks to document the methodology for determining fair value within the framework of the IFRS 13 Fair Value Measurements for such instruments and submit it to CBO in instances where the inputs into the valuation models of investments measured at fair value are unobservable and significant.
Documenting the fair valuation methodology involves significant judgment in key areas, including determining the level of aggregation and significance and observability of key inputs.
Impairment
Impairment represents the most significant aspect of IFRS 9. As per IFRS 9, impairment is recognised, based on the Expected Credit Loss (ECL) method for financial assets that are not measured at fair value. Banks are required to recognise lifetime ECL on financial assets that exhibit a significant increase in credit risk. In other cases, 12-months ECL are recognised.
We expect sophisticated banks to develop robust ECL models. Further, the CBO circular requires banks to validate the models periodically. Changes to these models are required to be justified by the chief risk officer and approved by the board.
In our experience, it would be appropriate to include relevant model validation expertise within the IFRS 9 teams.
IFRS 9 permits banks to formulate their own definitions of key issues, e.g., significant increase in credit risk, default, upgradation (curing) criteria, and incorporating forward looking assumptions, among others. These are internally defined and are likely to be diverse in practice. Hence, CBO has provided guidance on these issues to bring about uniformity and standardisation.
Disclosure, regulatory reporting
Finally, the CBO circular urges banks to apply the disclosure and fair value measurement requirements in letter and spirit. Banks are also required to prepare pro forma financial statements, which are to be reviewed by the auditors.
While critics may state that
Times of Oman
Ticker | Price | Volume |
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SABIC | 114.77 | 5,915,941 |
SAMBA | 26.98 | 1,138,683 |
DARALARKAN | 13.47 | 74,648,349 |
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