5 Speedbreakers on the highway of Ind AS Implementation

Speedbreakers on the highway of Ind AS Implementation

Financial reporting in India is passing through very remarkable moments owing to adoption of Indian accounting standards (Ind AS). For companies covered under Phase – 1 of mandatory Ind AS Financials, 1st April 2015 is the transition date. Few months are left for listed companies covered under the phase to publish their first Ind AS financials for the quarter ended 30th June 2016 with comparative for 30th June 2015. Ind AS Implementation has very wide impact on the organization so companies should assess carefully impact on growth, strategies, joint ventures and tax planning. There are many challenges in implementation of Ind AS however this blog/ article focuses on 5 major challenges:

Financial instrument (Ind AS 32, 109) :-

There are no mandatory standards applicable under Ind GAAP, Ind AS provide the detailed guidance on accounting of classification, measurement, derecognition and impairment of financial assets and financial liabilities. The financial asset is classified based on entity’s business model for managing financial asset and contractual cash flow characteristics of the financial asset. Under an Indian GAAP, the classification of financial liability or equity is largely governed by legal form of the instrument and under Ind AS 32 the same is based on substance of the contractual agreement rather than its legal form. This may create the major changes in net worth as well as net income due to reclassification.

Key Differences:

  • Classification of liability and equity in case of compound financial instruments like convertible bonds, redeemable preference shares, compulsory convertible debentures etc.

  • Re-classification of dividend and interest in profit & loss account due to reclassification of liability and equity.

  • Expected loss model for Impairment of financial assets

  • All derivative instrument to be carried at fair value, unless hedge accounting requirements met

  • Investments to be categorized – Fair value through profit or loss, Fair value through other comprehensive income and amortized cost

Impact:-

Accounting Standards (AS) – 30, 31 and 32 are issued but not notified as there are constant changes in the accounting of financial instruments in International GAAP. ICAI has recently issued Guidance note on Accounting for derivatives. However, there is a significant diversity in the practice. The implementation of Ind AS 32, 109, disclosure requirements of Ind AS 107 and applying fair value measurement of Ind AS 113 would be the most challenging during Ind AS Implementation.

Control /Consolidation (Ind AS 110) :-

Under prevailing accounting standard control is assessed on the basis of more than one-half of the voting power or control on the composition of board however as Ind AS is principle based standard, it explains the control in detail and Ind AS 110 provides a single control model.

As per Ind AS 110, “An investor controls an investee if and only if the investor has all the following:

(a) power over the investee;

(b) exposure, or rights, to variable returns from its involvement with the investee; and

(c) the ability to use its power over the investee to affect the amount of the investor’s returns”

 The determination of who controls whom is the critical when we mover from existing Indian GAAP to Ind AS.  The universe of entities that get consolidated could potentially different under both the frame works. The application of control definition would change the line items of Consolidated financials in Ind AS.

 Key Differences:

  • Consolidation based on new definition of control

    -Veto right with minority share holders

    -Potential voting rights

    -Structured entities

    -De facto control

  • Deferred tax on undistributed reserve

  • Deferred tax on intercompany elimations

  • Mandatory use of uniform accounting policy

 Impact:-

With the introduction of new definition several entities that are not currently consolidated may get included and vice-versa and it will be a challenge for Corporate India and professionals.

Revenue recognition (Ind AS 115):-

Ind AS 115, Revenue recognition from contract with customers, introduce a single revenue recognition model, which applied to all type of contracts with customers, including sale of goods, sale of services, construction arrangements, royalty agreements, licensing agreements etc. In contrast under existing Indian GAAP, there is separate guidance that applies to each of these type of contracts. Ind AS brings five-step model which determines when and how much revenue is to be recognized.

Key Differences:

  • 5 step revenue recognition model

  • Timing of recognition of revenue (Right of return, dispatch Vs. delivery) based on satisfaction of performance obligation

  • Detailed Guidance on

    • Incentive schemes

    • Service concession arrangements

    • Customer loyalty programs

  • Time value of money to be considered

  • Separation of contracts in case of linked transactions 

Impact:-

India is the first major jurisdiction to implement this standard earlier than many others, this standard is globally to be implemented from 2018. NACAS has recommended to defer the application of Ind AS 115. Ministry of Corporate Affairs is yet to provide any announcement on deferment of Ind AS 115. Till than it will be challenging for the Corporate to study the implication of the new standard on their top line.

Business combinations (Ind AS 103):-

Currently there are no comprehensive standard which wholly addressing accounting  for business combination, currently it is done by form of transaction like Merger, Acquisition etc. Under Ind AS 103, all business combinations are accounted for using the purchase method that considers the acquisition date fair values of all assets, liabilities and contingent liabilities.

 Key Differences:

  • Acquisition date is the date when control is transferred – not just a date mandated by court or agreement

  • Mandatory use of purchase method of accounting and fair value

  • Post-acquisition amortization of asset based on the acquisition date fair values

  • Transaction cost charged to the profit and loss account

  • Goodwill to be tested at least annually for impairment

  • Common control transactions are accounted using pooling of interest method

Impact:-

With the adoption of new requirements on business combinations, it will result into consistency over the period. Companies which are in progress of negotiation regarding acquisition, need to pay kind attention to the requirement of the standard. Fair valuation of asset on the date of acquisition and resultant goodwill are major areas to look after under new Ind AS.

Deferred taxes (Ind AS 12) :-

As per Indian GAAP deferred taxes are recognized on timing difference between accounting income and taxable income for the year and it is known as income statement approach whereas under Ind AS, deferred taxes are recognized for future tax consequences of temporary differences between carrying value of assets and liabilities in their books and their respective tax base and known as balance sheet approach.

Key Differences:

  • Ind AS is based on balance sheet approach whereas AS 22 is based on income statement approach

  • Disclosure requirements are more detailed in Ind AS compare to AS

  • Deferred tax on revaluation, undistributed profit by subsidiaries/associates, intercompany elimination

  • The concept of virtual certainty does not exist in Ind AS 12  

Impact:

Whole method of calculation of deferred tax provision has changed so we have to carefully assess the impact on the financial statement. On transition to Ind AS, the deferred tax on reconciliation with Ind AS, deferred tax on components of Other Comprehensive Income (OCI) and during consolidation will be challenging during implementation.

 

The above mentioned are some of the major challenges in implementation of Ind AS. The other areas of challenges are application of Ind AS 101 First time adoption, determination of functional currency under Ind AS 21, preparation of Statement of Changes in Equity and accounting of components of Other Comprehensive Income. Corporate India and professionals have to be cautious while dealing with transformation process to ensure smooth and effective convergence.   

About Chintan Patel FCA, CPA(USA), Cert.IFRS(ICAI), CISA (USA), DISA, DIRM

CA Chintan Patel is a partner of Naresh J. Patel & Co. Chartered Accountants (www.nareshco.com). Key Professional Contributions: Immediate Past Chairman of Ahmedabad Branch of WIRC of ICAI, Co-author of book on Ind AS & ICDS published by Taxmann, Trainer/Faculty at more than 300 seminars/conferences. He has over 15 years of post qualification experience working with SMCs, MNCs on International GAAP, Companies Act, 2013, GST and other advisory.
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7 Responses to 5 Speedbreakers on the highway of Ind AS Implementation

  1. Nirav Parikh says:

    excellent article.

  2. HEMANG SHAH says:

    Appendix C of IND AS 115 :
    6. Infrastructure used in a public-to-private service concession arrangement for its entire useful life (whole of life assets) is within the scope of this Appendix if the conditions in
    paragraph 5(a) of this Appendix are met.
    5. This Appendix applies to public-to-private service concession arrangements if:
    (a) the grantor controls or regulates what services the operator must provide with the
    infrastructure, to whom it must provide them, and at what price; and
    Q. – if assets useful life is 30 years & period of agreement is for 10 years. Grantor will pay book wdv value to operator after agreement period.
    Assuming other conditions required under para AG1 to AG 8 are complied with, whether considering agreement period (10 years) compared to useful life period(30 years) of the assets, can it be said that service concession arrangements will not be applicable .

    • Chintan Patel FCA, CPA(USA), Cert.IFRS(ICAI), CISA (USA), DISA, DIRM says:

      The paragraph 5 of Appendix C of Ind AS 115 provides two conditions for applicability:
      (a) the grantor controls or regulates what services the operator must provide with the
      infrastructure, to whom it must provide them, and at what price; and
      (b) the grantor controls—through ownership, beneficial entitlement or otherwise—
      any significant residual interest in the infrastructure at the end of the term of the
      arrangement.

      The condition (b) specifies that the grantor controls significant residual interest in the infrastructure at the end of the term of arrangement.
      Therefore, even if the term of arrangement (10 years) is less than useful life of the asset (30 years), as the Grantor controls residual interest hence Service Concession Arrangement is applicable.
      In majority of the cases, agreement period is lesser than useful life. Hence, paragraph 6 clarifies that even if agreement period is for its entire useful life, still this is applicable provided conditions in paragraph 5(a) is met.

      Therefore in my view, Appendix C is applicable in all cases where agreement period is shorter than useful life if the significant residual interest is controlled by grantor. And even if it is for whole life, still it is applicable as referred in paragraph 6.

  3. NITISH U. KIRTIKAR says:

    Dear Chintanbhai,

    Thanks a lot for sharing this fantastic article. You are a great source of inspiration to me. I was your student when I did my IND AS course. Venue:- Mirador hotel. May / June 2013. I am now a IND AS faculty like you.

    Best Regards
    CA Nitish Kirtikar
    +91 9820754798 / 8451804640

  4. Mukesh Heda says:

    Hi Chintan,
    very nicely categorised. yes I agree that these would be challenges. Apart from these, to my mind, Service concession arrangement (IFRIC 12), Embedded lease (IFRIC 4) etc. would also through lot of challenges to corporate India and professional to take a call on the same.
    thanks for your nice compilation.

    Best Regards,
    Mukesh

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