KPMG Accounting and Auditing Update October 2010
32
ACCOUNTING AND AUDITING UPDATE October 2010
-
Upload
rahul-govind-dwivedi -
Category
Documents
-
view
96 -
download
0
Transcript of KPMG Accounting and Auditing Update October 2010
The information contained herein is of a general nature and is not intended to address the circumstances of any particular
individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that
such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one
should act on such information without appropriate professional advice after a thorough examination of the particular
situation.
© 2010 KPMG, an Indian Partnership and a member
firm of the KPMG network of independent member
firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights
reserved.
KPMG and the KPMG logo are registered trademarks
of KPMG International Cooperative (“KPMG
International”), a Swiss entity.
Printed in India
kpmg.com/in
ACCOUNTINGAND AUDITINGUPDATEOctober 2010
Foreword In this issue
It is with great pleasure we bring forth the October edition of the
Accounting and Auditing update.
The history of telephone services in India found its beginning when a 50-
line manual telephone exchange was commissioned in Kolkata in the year
1882. Today, India is the largest market in the world adding up a dramatic
number of about 20 million mobile subscriber lines every month on an
average and qualifies as being the third-largest telecom network in the
world and second-largest among the emerging economies. Such
stupendous growth in this sector has culminated into a wide bouquet of
service offerings which have widespread impact in the financial
statements of a Telecom company. We have in this issue, attempted to
highlight some of the key accounting issues confronting this industry.
Accounting for income taxes, has always been a controversial subject and
was considered to be a 'bitter pill' when it was first introduced in India. As
India progresses towards its planned convergence date with IFRS, an
exposure draft in relation to this subject has been recently published. We
have attempted to provide our perspective on that exposure draft with a
comparison to the existing provisions under Indian GAAP and the
corresponding provisions under US GAAP.
Demystifying the accounting information that is set out in the financial
statements and viewing them from the eyes of the management has
been the crux of the segment reporting requirements. This concept has
been re-emphasized under IFRS with the recently amended IFRS 8 which
has been discussed in this publication.
A recent pronouncement by SEBI requiring media houses to disclose their
financial interests in entities with whom private treaties are entered into a
welcome step to promote transparency and restrict biased journalism.
We hope you enjoy reading these articles. We look forward to receiving
your valuable feedback on what you would like us to cover in our futures
publications at [email protected]
Accounting in the telecommunications
industry
Income Taxes
Operating Segments
Regulatory Updates
Challenge to IFRS convergence
Key communication tool to shareholders
01
10
16
24
Foreword In this issue
It is with great pleasure we bring forth the October edition of the
Accounting and Auditing update.
The history of telephone services in India found its beginning when a 50-
line manual telephone exchange was commissioned in Kolkata in the year
1882. Today, India is the largest market in the world adding up a dramatic
number of about 20 million mobile subscriber lines every month on an
average and qualifies as being the third-largest telecom network in the
world and second-largest among the emerging economies. Such
stupendous growth in this sector has culminated into a wide bouquet of
service offerings which have widespread impact in the financial
statements of a Telecom company. We have in this issue, attempted to
highlight some of the key accounting issues confronting this industry.
Accounting for income taxes, has always been a controversial subject and
was considered to be a 'bitter pill' when it was first introduced in India. As
India progresses towards its planned convergence date with IFRS, an
exposure draft in relation to this subject has been recently published. We
have attempted to provide our perspective on that exposure draft with a
comparison to the existing provisions under Indian GAAP and the
corresponding provisions under US GAAP.
Demystifying the accounting information that is set out in the financial
statements and viewing them from the eyes of the management has
been the crux of the segment reporting requirements. This concept has
been re-emphasized under IFRS with the recently amended IFRS 8 which
has been discussed in this publication.
A recent pronouncement by SEBI requiring media houses to disclose their
financial interests in entities with whom private treaties are entered into a
welcome step to promote transparency and restrict biased journalism.
We hope you enjoy reading these articles. We look forward to receiving
your valuable feedback on what you would like us to cover in our futures
publications at [email protected]
Accounting in the telecommunications
industry
Income Taxes
Operating Segments
Regulatory Updates
Challenge to IFRS convergence
Key communication tool to shareholders
01
10
16
24
Financial reporting
challenges
Such unprecedented innovation and telecom industry faces significant
transformation in the telecom sector, has accounting and business challenges due to
and will continue to create significant complexities in the schemes offered to
business opportunities, spawning entirely customers, distribution arrangements,
new business models and related infrastructure sharing arrangements
challenges. The fourth generation of cellular entered by telecom players, etc.
wireless standards (4G), the movement Unfortunately, neither Indian GAAP nor
toward open mobile and the increasing IFRS provide any industry specific
proliferation of mobile internet devices are guidance. Therefore the only authoritative
transforming the telecommunications source for accounting guidance in this
ecosystem. Emphasis on new product sector that remains is US GAAP, which has
development and business model very specific accounting issues concerning
innovations have lead to faster-than-average this sector. In December 2009, the
operating margin growth, which has research committee of the ICAI had issued
seemingly emulated the accelerated an exposure draft of the 'Technical Guide
growth the industry has been witnessing in on Revenue Recognition for
the recent past. Operators constantly Telecommunication Operators' with a view
reinvent themselves in the search of a to provide guidance on peculiar revenue
sustainable competitive advantage. Equally, recognition issues in the industry which
the financial reporting landscape continues more or less mirrors US GAAP
to evolve with new standards and requirements. This publication attempts to
pronouncements being issued, and highlight few of the peculiar accounting
interpreted by preparers, standard setters, issues relation to Telecom sector.
regulators and auditors differently. In the
wake of such technological transition, the
Company Accounting Basis
Vodafone IFRS
AT&T US GAAP
Verizon US GAAP
SwissCom IFRS
China Mobile IFRS
Telecom Italia IFRS
Sprint Nextel Corp US GAAP
Alcatel–Lucent IFRS
BT Group IFRS
Telenor IFRS
Telefonica IFRS
Deutsche Telekom IFRS
The world economy is currently in a related business, which is set to benefit undertaken by the Government of India
recovery phase from the global economic from the improving global economy, (GOI) such as abolishment of Access
onslaught that was witnessed in the recent making the overall macro-economic outlook Deficit Charge (ADC) charges on
past and it is expected that the buoyant. Further, the recent surge in International calls, downward revision of 1telecommunication industry would be a technological inventions seems to make termination charges, etc .
major driver for the economic recovery for even a mature market like the U.S., highly 1The Indian wireless telecommunications
many countries. The overall economic lucrative for telecom operators. The major market is currently the fastest growing
dynamics is expected to shift in favour of thrust in this sector comes from within the telecommunications markets in the world.
this industry, primarily due to its key industry itself, because of the continuous With the GOI issuing over 120 licenses to
attribute of being a major infrastructure network and product up-gradation by the 1new operators and the number of players
product for both emerging as well as industry players. Increasing demand for going up from 5/6 per circle to 9/10, the
developed nations. Further, the global technically innovative products has been future that lies ahead is surely bright. Also,
telecom industry in itself, is witnessing a the silver lining for the telecommunication the telecom industry is set to witness a
fundamental change in its outlook. industry in an otherwise tough further significant upside from the
environment. Less than a decade ago, the In the past, it was voice calls that brought 3G/BWA (Broadband Wireless Access)
telecom operators in the U.S., Western money to operators, which enabled auctions and the network rollout plans of
Europe, and Japan were upgrading their equipment manufacturers to concentrate successful bidders. Also there has been
existing networks to high-speed 3G on voice-enabled devices. Presently, voice considerable foreign participation in the
technologies. Now the world is taking a backseat, while data and video sector with some of the major foreign
telecommunications industry is talking have become the core focus areas and as telecom players like Vodafone, MTS,
about the installation of the next-generation such, new network standards are being Etisalat, Uninor and DoComo gaining
super-fast 4G (4th Generation) aimed at to ensure faster data connectivity, significant foothold in the Indian market
technologies. India is not far behind in this quick video streaming with high resolution, thereby bringing in a wave of telecom
foray of technological advances Significant and rich multimedia applications. Smart- liberalisation, consequently resulting in cut
landscape changes have been witnessed in 1phones have become the next-generation throat competition .the Indian telecom sector as well, primarily
choice and are increasingly taking over the emanating from the inherently high
market share from basic mobile handsets. subscription base, complemented by
One key attribute in the telecom industry is increasing affordability and the initiatives
that it encompasses a lot of technology-
Accounting in the telecommunications industryIn its universal quest to achieve technological supremacy
Revenue recognition Multiple element offerings
Telecom is a dynamic and evolving sector
where revenue recognition is probably the
most judgmental and complex area of
accounting, as significantly large numbers of
companies provide bundled package offers would in most cases require extensive comprising handsets, prepaid minutes, analysis and prove challenging in the messages, discounts, special offers and other application of revenue recognition principles:incentives to their customers (also known as
‘multiple element contracts’). Demystifying
the underlying business rationale for such
transactions and recording them within a set
accounting framework, would require in-depth
analysis of the transactional basis, coupled
with a clear understanding of the accounting
principles. The decision to account for such
transactions either in entirety or in a
bifurcated manner into various components
could have a significant impact on the
results.For example, separating handset sales
from connection revenues may result in
increased revenues upfront for the sale of
handsets. The following table illustrates few
possible bundled offers by telecoms which
Service offerings Possible questions from a revenue recognition perspective:
Equipment plus services Can the equipment sold be used without the services being delivered? If yes, then how much should be the amount attributed to equipment of the total revenue?
Activation and connection fee
Can activation fee collected from a customer to connect him to the network be bifurcated from the mobile network service? Can it be separable?
Upgrades / downgrade fee Should a separate fee collected from an existing customer in the network for upgrade get recognised as a separate component?
1 KPMG's Accounting and Auditing Update, October 2010
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Source: KPMG's Accounting and Auditing Update, October 2010
Source: Public filings
1
Financial reporting
challenges
Such unprecedented innovation and telecom industry faces significant
transformation in the telecom sector, has accounting and business challenges due to
and will continue to create significant complexities in the schemes offered to
business opportunities, spawning entirely customers, distribution arrangements,
new business models and related infrastructure sharing arrangements
challenges. The fourth generation of cellular entered by telecom players, etc.
wireless standards (4G), the movement Unfortunately, neither Indian GAAP nor
toward open mobile and the increasing IFRS provide any industry specific
proliferation of mobile internet devices are guidance. Therefore the only authoritative
transforming the telecommunications source for accounting guidance in this
ecosystem. Emphasis on new product sector that remains is US GAAP, which has
development and business model very specific accounting issues concerning
innovations have lead to faster-than-average this sector. In December 2009, the
operating margin growth, which has research committee of the ICAI had issued
seemingly emulated the accelerated an exposure draft of the 'Technical Guide
growth the industry has been witnessing in on Revenue Recognition for
the recent past. Operators constantly Telecommunication Operators' with a view
reinvent themselves in the search of a to provide guidance on peculiar revenue
sustainable competitive advantage. Equally, recognition issues in the industry which
the financial reporting landscape continues more or less mirrors US GAAP
to evolve with new standards and requirements. This publication attempts to
pronouncements being issued, and highlight few of the peculiar accounting
interpreted by preparers, standard setters, issues relation to Telecom sector.
regulators and auditors differently. In the
wake of such technological transition, the
Company Accounting Basis
Vodafone IFRS
AT&T US GAAP
Verizon US GAAP
SwissCom IFRS
China Mobile IFRS
Telecom Italia IFRS
Sprint Nextel Corp US GAAP
Alcatel–Lucent IFRS
BT Group IFRS
Telenor IFRS
Telefonica IFRS
Deutsche Telekom IFRS
The world economy is currently in a related business, which is set to benefit undertaken by the Government of India
recovery phase from the global economic from the improving global economy, (GOI) such as abolishment of Access
onslaught that was witnessed in the recent making the overall macro-economic outlook Deficit Charge (ADC) charges on
past and it is expected that the buoyant. Further, the recent surge in International calls, downward revision of 1telecommunication industry would be a technological inventions seems to make termination charges, etc .
major driver for the economic recovery for even a mature market like the U.S., highly 1The Indian wireless telecommunications
many countries. The overall economic lucrative for telecom operators. The major market is currently the fastest growing
dynamics is expected to shift in favour of thrust in this sector comes from within the telecommunications markets in the world.
this industry, primarily due to its key industry itself, because of the continuous With the GOI issuing over 120 licenses to
attribute of being a major infrastructure network and product up-gradation by the 1new operators and the number of players
product for both emerging as well as industry players. Increasing demand for going up from 5/6 per circle to 9/10, the
developed nations. Further, the global technically innovative products has been future that lies ahead is surely bright. Also,
telecom industry in itself, is witnessing a the silver lining for the telecommunication the telecom industry is set to witness a
fundamental change in its outlook. industry in an otherwise tough further significant upside from the
environment. Less than a decade ago, the In the past, it was voice calls that brought 3G/BWA (Broadband Wireless Access)
telecom operators in the U.S., Western money to operators, which enabled auctions and the network rollout plans of
Europe, and Japan were upgrading their equipment manufacturers to concentrate successful bidders. Also there has been
existing networks to high-speed 3G on voice-enabled devices. Presently, voice considerable foreign participation in the
technologies. Now the world is taking a backseat, while data and video sector with some of the major foreign
telecommunications industry is talking have become the core focus areas and as telecom players like Vodafone, MTS,
about the installation of the next-generation such, new network standards are being Etisalat, Uninor and DoComo gaining
super-fast 4G (4th Generation) aimed at to ensure faster data connectivity, significant foothold in the Indian market
technologies. India is not far behind in this quick video streaming with high resolution, thereby bringing in a wave of telecom
foray of technological advances Significant and rich multimedia applications. Smart- liberalisation, consequently resulting in cut
landscape changes have been witnessed in 1phones have become the next-generation throat competition .the Indian telecom sector as well, primarily
choice and are increasingly taking over the emanating from the inherently high
market share from basic mobile handsets. subscription base, complemented by
One key attribute in the telecom industry is increasing affordability and the initiatives
that it encompasses a lot of technology-
Accounting in the telecommunications industryIn its universal quest to achieve technological supremacy
Revenue recognition Multiple element offerings
Telecom is a dynamic and evolving sector
where revenue recognition is probably the
most judgmental and complex area of
accounting, as significantly large numbers of
companies provide bundled package offers would in most cases require extensive comprising handsets, prepaid minutes, analysis and prove challenging in the messages, discounts, special offers and other application of revenue recognition principles:incentives to their customers (also known as
‘multiple element contracts’). Demystifying
the underlying business rationale for such
transactions and recording them within a set
accounting framework, would require in-depth
analysis of the transactional basis, coupled
with a clear understanding of the accounting
principles. The decision to account for such
transactions either in entirety or in a
bifurcated manner into various components
could have a significant impact on the
results.For example, separating handset sales
from connection revenues may result in
increased revenues upfront for the sale of
handsets. The following table illustrates few
possible bundled offers by telecoms which
Service offerings Possible questions from a revenue recognition perspective:
Equipment plus services Can the equipment sold be used without the services being delivered? If yes, then how much should be the amount attributed to equipment of the total revenue?
Activation and connection fee
Can activation fee collected from a customer to connect him to the network be bifurcated from the mobile network service? Can it be separable?
Upgrades / downgrade fee Should a separate fee collected from an existing customer in the network for upgrade get recognised as a separate component?
1 KPMG's Accounting and Auditing Update, October 2010
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Source: KPMG's Accounting and Auditing Update, October 2010
Source: Public filings
1
Although the general revenue recognition entities face is whether the components of Once the appropriate level of accounting
criteria under Indian GAAP and IFRS, a single transaction can be technically and has been identified (i.e. combined or
requires revenue to be recognised at the commercially separated, and if so, what separate), the next step relates to
time of transfer of risks and rewards, Indian would be an appropriate accounting application of revenue recognition
GAAP does not currently provide any treatment that should followed to principles to various components of the
specific guidance on revenue recognition recognise revenue. The IFRIC has agreement, provided certain conditions are
for such multiple element contracts and tentatively agreed that the following satisfied.
hence, inconsistent practices exist indicators would suggest that two or more IFRS does not provide detailed guidance on
amongst various telecom entities. IFRS on components of an agreement could be how separate components within an
the other hand requires, in certain linked:arrangement should be identified and
circumstances, to apply the recognition • The transactions are entered into at the recognised for revenue recognition
criteria to separately entered agreements same time or as part of a continuous purposes. An analogy therefore could be
in a combined way and also for identified sequence and in contemplation of one drawn from IFRIC 18, Transfer of Assets
components in a single transaction in order another from Customers, which provides
to reflect the economic substance of the separation criteria in a transaction that
transaction. The questions therefore that • The transactions, in substance, form a involves transfer of assets from customers.
remain are, when and how does one look single arrangement that achieves or is This interpretation states, that for
at bundled arrangements in a 'combined' designed to achieve an overall separation each of the identified
way and when not to? And if they are to be commercial effect components need to have an economic
analysed separately, are there embedded benefit on a 'standalone basis' to the final • One or more of the transactions, components and how should the overall customer and that they can be fair valued considered on its own, does not make contract revenue be apportioned amongst reliably (which can be a highly complex task commercial sense, but they do when such components (known as multiple in a given situation). Interpretation of considered togetherelement contracts)?standalone value depends on facts and
• The contracts include one or more IFRS provides a generic answer to the first circumstances and would entail exercise of options or conditional provisions for question, by stating that recognition criteria judgment. However the underlying which there is no genuine commercial is applied to two or more transactions principle is that the consumer would be in possibility that the options or conditional together, when they are linked in such a a position to use the delivered component provisions will not be exercised or way that the commercial effect cannot be without receiving the other elements of the fulfilledunderstood without a reference to the arrangement. Further, allocation of revenue
series of transactions as a whole. However, amongst the components of the • The occurrence of one transaction is
no specific benchmarking is prescribed so transaction can be based on either the dependent on the other transaction’s
as to allow ease in the determination 'relative fair value' method of the 'residual occurrence.
process. In the absence of such specific method'.
guidance, the key constraint telecom
Following are some of the specific revenue share of the revenues while services being Other factors include an entity's ability to
transactions in the Telecom industry: provided through the network spectrum determine the selling price, control over
operated by the Telecom entity. An area how it completes its part of the
that often gives rise to revenue accounting arrangement and which entity possess the generally entitles the
issues is determination of accounting credit risk, Existence of such factors on a customer obtaining a pre-paid connection
revenues on gross or net basis by the cumulative basis would generally suggest with life-time validity in return for an initial
Telecom operator. Each entity needs to transaction being recognised at the gross upfront payment. During the validity period,
determine the appropriate revenue amount. On the contrary, non-existence he will continue to enjoy incoming services
recognition treatment for its individual may support net reporting, although other without having to make a separate
circumstances. Historically, the factors will often be more important in this payment to enjoy uninterrupted services. In
communications industry has accounted determination process.such transactions, the prepaid vouchers
for traffic flows on a gross basis. From an typically comprise of two components i.e.,
accounting perspective, accounting for a an access fees and a fixed amount of are agreements
transaction gross or net depends on outgoing airtime usage. For example, the that allow operators to transit the traffic on
whether the entity involved is acting as sale of INR 500 voucher could be another operator's network. The operator
principal or agent. However, determining bifurcated into INR 400 recharge fees (or on whose network the call originates pays
this is not so straightforward. IAS 18 states administration charges) and INR 100 terminating charge to the operator on
that 'revenue includes only the gross towards outgoing airtime. Revenue whose network the call terminates. The
inflows of economic benefits received and recognition for airtime services would be accounting challenge is whether to record
receivable by the enterprise on its own recorded by the entity based on the actual such revenue (and also for cost) on gross or
account.' Amounts collected on behalf of usage, whereas the access fees would be net basis. The industry practice is to record
third parties are not economic benefits deferred and recognised over the customer such revenue (and cost) on gross basis
which flow to the enterprise and do not relationship period (also known as the even though there may exist a legal right to
result in increases in equity. In an agency churn rate). However, there are many offset between the operators (legal right to
relationship, the gross inflows of economic operators who recognise access fees offset generally exists among the private
benefits include amounts collected on revenues immediately without deferral on operators only). Further there may be
behalf of the principal which do not result the contention that the corresponding situations, when the operator may enter
in increases in equity for the enterprise. direct cost like customer acquisition into an agreement wherein rates and
Therefore amounts collected on behalf of incurred to acquire the customers are specific units of traffic are to be carried at a
the principal are not revenue. Instead, higher than the one time access fee earned pre-determined price. In such a case,
revenue is the amount of earned from the customer. Further these are non- entities may record the transaction on net
commission. The IASB has, as part of its refundable fees collected. basis as this would represent exchange of
recent improvements included specific similar items. Also, since such entities deal
guidance in relation to identification of an A prevalent with international operators for terminating
entity's role as principal or agent and states practice in the Telecom sector is to provide various international incoming/outgoing
that it is usually dependent on whether the end-to-end services to a customer, such as calls- there would be a possibility of the
entity is the primary obligor in the ringtones, wallpaper, music, game operators transacting with non-local
arrangement and therefore takes on the downloads, etc,. For any individual end-to-currency, necessitating recognition of
gross risks and rewards of the transaction end transaction, a number of different embedded derivatives.
or that the entity has only a net interest. operators may be involved, each earning a
Life time validity prepaid vouchers (for
incoming services) –
Interconnect agreements/Call
termination charges –
Value added services –
“
“
32
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
It is imperative to
have robust systems
and processes to
determine whether two
or more transactions
entered in close
proximity qualify for
being accounted as a
linked transaction
Although the general revenue recognition entities face is whether the components of Once the appropriate level of accounting
criteria under Indian GAAP and IFRS, a single transaction can be technically and has been identified (i.e. combined or
requires revenue to be recognised at the commercially separated, and if so, what separate), the next step relates to
time of transfer of risks and rewards, Indian would be an appropriate accounting application of revenue recognition
GAAP does not currently provide any treatment that should followed to principles to various components of the
specific guidance on revenue recognition recognise revenue. The IFRIC has agreement, provided certain conditions are
for such multiple element contracts and tentatively agreed that the following satisfied.
hence, inconsistent practices exist indicators would suggest that two or more IFRS does not provide detailed guidance on
amongst various telecom entities. IFRS on components of an agreement could be how separate components within an
the other hand requires, in certain linked:arrangement should be identified and
circumstances, to apply the recognition • The transactions are entered into at the recognised for revenue recognition
criteria to separately entered agreements same time or as part of a continuous purposes. An analogy therefore could be
in a combined way and also for identified sequence and in contemplation of one drawn from IFRIC 18, Transfer of Assets
components in a single transaction in order another from Customers, which provides
to reflect the economic substance of the separation criteria in a transaction that
transaction. The questions therefore that • The transactions, in substance, form a involves transfer of assets from customers.
remain are, when and how does one look single arrangement that achieves or is This interpretation states, that for
at bundled arrangements in a 'combined' designed to achieve an overall separation each of the identified
way and when not to? And if they are to be commercial effect components need to have an economic
analysed separately, are there embedded benefit on a 'standalone basis' to the final • One or more of the transactions, components and how should the overall customer and that they can be fair valued considered on its own, does not make contract revenue be apportioned amongst reliably (which can be a highly complex task commercial sense, but they do when such components (known as multiple in a given situation). Interpretation of considered togetherelement contracts)?standalone value depends on facts and
• The contracts include one or more IFRS provides a generic answer to the first circumstances and would entail exercise of options or conditional provisions for question, by stating that recognition criteria judgment. However the underlying which there is no genuine commercial is applied to two or more transactions principle is that the consumer would be in possibility that the options or conditional together, when they are linked in such a a position to use the delivered component provisions will not be exercised or way that the commercial effect cannot be without receiving the other elements of the fulfilledunderstood without a reference to the arrangement. Further, allocation of revenue
series of transactions as a whole. However, amongst the components of the • The occurrence of one transaction is
no specific benchmarking is prescribed so transaction can be based on either the dependent on the other transaction’s
as to allow ease in the determination 'relative fair value' method of the 'residual occurrence.
process. In the absence of such specific method'.
guidance, the key constraint telecom
Following are some of the specific revenue share of the revenues while services being Other factors include an entity's ability to
transactions in the Telecom industry: provided through the network spectrum determine the selling price, control over
operated by the Telecom entity. An area how it completes its part of the
that often gives rise to revenue accounting arrangement and which entity possess the generally entitles the
issues is determination of accounting credit risk, Existence of such factors on a customer obtaining a pre-paid connection
revenues on gross or net basis by the cumulative basis would generally suggest with life-time validity in return for an initial
Telecom operator. Each entity needs to transaction being recognised at the gross upfront payment. During the validity period,
determine the appropriate revenue amount. On the contrary, non-existence he will continue to enjoy incoming services
recognition treatment for its individual may support net reporting, although other without having to make a separate
circumstances. Historically, the factors will often be more important in this payment to enjoy uninterrupted services. In
communications industry has accounted determination process.such transactions, the prepaid vouchers
for traffic flows on a gross basis. From an typically comprise of two components i.e.,
accounting perspective, accounting for a an access fees and a fixed amount of are agreements
transaction gross or net depends on outgoing airtime usage. For example, the that allow operators to transit the traffic on
whether the entity involved is acting as sale of INR 500 voucher could be another operator's network. The operator
principal or agent. However, determining bifurcated into INR 400 recharge fees (or on whose network the call originates pays
this is not so straightforward. IAS 18 states administration charges) and INR 100 terminating charge to the operator on
that 'revenue includes only the gross towards outgoing airtime. Revenue whose network the call terminates. The
inflows of economic benefits received and recognition for airtime services would be accounting challenge is whether to record
receivable by the enterprise on its own recorded by the entity based on the actual such revenue (and also for cost) on gross or
account.' Amounts collected on behalf of usage, whereas the access fees would be net basis. The industry practice is to record
third parties are not economic benefits deferred and recognised over the customer such revenue (and cost) on gross basis
which flow to the enterprise and do not relationship period (also known as the even though there may exist a legal right to
result in increases in equity. In an agency churn rate). However, there are many offset between the operators (legal right to
relationship, the gross inflows of economic operators who recognise access fees offset generally exists among the private
benefits include amounts collected on revenues immediately without deferral on operators only). Further there may be
behalf of the principal which do not result the contention that the corresponding situations, when the operator may enter
in increases in equity for the enterprise. direct cost like customer acquisition into an agreement wherein rates and
Therefore amounts collected on behalf of incurred to acquire the customers are specific units of traffic are to be carried at a
the principal are not revenue. Instead, higher than the one time access fee earned pre-determined price. In such a case,
revenue is the amount of earned from the customer. Further these are non- entities may record the transaction on net
commission. The IASB has, as part of its refundable fees collected. basis as this would represent exchange of
recent improvements included specific similar items. Also, since such entities deal
guidance in relation to identification of an A prevalent with international operators for terminating
entity's role as principal or agent and states practice in the Telecom sector is to provide various international incoming/outgoing
that it is usually dependent on whether the end-to-end services to a customer, such as calls- there would be a possibility of the
entity is the primary obligor in the ringtones, wallpaper, music, game operators transacting with non-local
arrangement and therefore takes on the downloads, etc,. For any individual end-to-currency, necessitating recognition of
gross risks and rewards of the transaction end transaction, a number of different embedded derivatives.
or that the entity has only a net interest. operators may be involved, each earning a
Life time validity prepaid vouchers (for
incoming services) –
Interconnect agreements/Call
termination charges –
Value added services –
“
“
32
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
It is imperative to
have robust systems
and processes to
determine whether two
or more transactions
entered in close
proximity qualify for
being accounted as a
linked transaction
The following flowchart illustrates a snapshot of the steps that would be involved in analysing multiple element contracts in order to apply
the revenue recognition principles appropriately:
Further, application of the recently
pronounced proposed converged revenue
recognition standard in the Telecom
industry could prove challenging and will
require a detailed analysis and mapping of
the principles that are contemplated
therein with the various types of
contracts that Telecoms enter into. The
crux of the standard lies in recognising an
entity's net contractual position with a
customer and attributing a portion of the
consideration received to it, in order to
recognise revenue. The key constraint that
could be encountered in applying such type of customer interface, but is more
principle is determination and separation of about the benefits associated with it.
a performance obligation in a bundled Acknowledging consumer preferences and
offering. Additionally, under the new delivering rewards in real time for their
standard application of residual method for patronage seems to be the order of the
bifurcating revenue amongst components day. Loyalty program can be in the shape of
would be prohibited and will require the presenting specialty discounts for
measurement of fair value in respect of customers along with the sale of telecom
In addition to the customer loyalty each performance obligation that has been services. For example, a telecom may
programs, there are also incentives like identified.award points for amounts spent on airtime
free minutes (talk time) given to an existing and a customer can redeem those points
customer based on their level of usage. for money off their monthly bill or to obtain
Currently, Indian GAAP does not permit the a handset upgrade. From an economic
use of fair valuation as a measurement standpoint, such program provides a
basis for revenue transactions and requires separate revenue generating source for the
revenue to be measured based on the telecom that requires recognition from an
amount of consideration agreed between accounting standpoint to truly reflect the
the parties. IAS 18 however, requires economic reality of the transaction. A
revenue to be measured at the fair value of recent interpretation IFRIC 13, Customer
consideration received or receivable, less loyalty programmes, provides a robust
the amount of any trade discounts and Customer base and its demand for superior framework for accounting programs, which volume rebates allowed. Free minutes that customer service, has been the backbone allow customers to earn points and redeem are offered as part of the initial talk time for this sector's evolutionary process. The them for free or discounted goods or revenue, would be considered as another ever demanding customers in this industry services in future. The IFRIC requires a medium of customer loyalty program and seek high-quality services and are willing to portion of the revenue to be deferred in the above mentioned accounting guidance change the service providers purely based order to account for the service provider's for deferral of revenue as per IFRIC 13 on this yardstick. Efficacious use of such future obligations in respect of loyalty would need to be applied.programs could prove successful in the points awarded. The amount to be deferred
quest for maximum customer retention in could be measured based on either the this industry. There may be myriad relative fair value of the primary underlying promotional offers by telecoms to attract service and the award or could be based on and retain customers and accounting for an estimation technique of the fair value of such arrangements has varied significantly. the award credits (residual method as it is Further extensive analysis has gone into generally known). Such deferred amount is the debate about how and what type of recognised, either as the telecom fulfills its loyalty schemes would be most effective, obligations to provide the underlying free or to enable dynamic interact-action with discounted goods / services or as the customers that could build and maintain obligation period lapses (provided time is of profitable relationships. The basic theory the essence).that emerges is that an effective customer
loyalty program, is not entirely about the
Accounting for free
airtime given to
customers
Customer loyalty
programs and
other retention strategy
Separate components
Sale of goods
Fair values determined based on either:
• Relative fair value method
• Residual method
Rendering of services Construction contracts
Sale of goods Rendering of services Construction contracts
Step 1: Identify
Components
Step 2: Allocate
consideration
Step 3: Recognise
revenue
At completion, upon
or after delivery
Can the outcome of the transaction
be estimated reliably?
Effective
control and
significant
risks and
rewards
passed in
their entirely
Effective control and significant risks and rewards passed on a continuous basis
Recognise revenue to
extent of recoverable
expenses recognised
Recognise revenue by
reference to the stage
of completion
Source: KPMG's Accounting and Auditing Update, October 2010.
4
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
The following flowchart illustrates a snapshot of the steps that would be involved in analysing multiple element contracts in order to apply
the revenue recognition principles appropriately:
Further, application of the recently
pronounced proposed converged revenue
recognition standard in the Telecom
industry could prove challenging and will
require a detailed analysis and mapping of
the principles that are contemplated
therein with the various types of
contracts that Telecoms enter into. The
crux of the standard lies in recognising an
entity's net contractual position with a
customer and attributing a portion of the
consideration received to it, in order to
recognise revenue. The key constraint that
could be encountered in applying such type of customer interface, but is more
principle is determination and separation of about the benefits associated with it.
a performance obligation in a bundled Acknowledging consumer preferences and
offering. Additionally, under the new delivering rewards in real time for their
standard application of residual method for patronage seems to be the order of the
bifurcating revenue amongst components day. Loyalty program can be in the shape of
would be prohibited and will require the presenting specialty discounts for
measurement of fair value in respect of customers along with the sale of telecom
In addition to the customer loyalty each performance obligation that has been services. For example, a telecom may
programs, there are also incentives like identified.award points for amounts spent on airtime
free minutes (talk time) given to an existing and a customer can redeem those points
customer based on their level of usage. for money off their monthly bill or to obtain
Currently, Indian GAAP does not permit the a handset upgrade. From an economic
use of fair valuation as a measurement standpoint, such program provides a
basis for revenue transactions and requires separate revenue generating source for the
revenue to be measured based on the telecom that requires recognition from an
amount of consideration agreed between accounting standpoint to truly reflect the
the parties. IAS 18 however, requires economic reality of the transaction. A
revenue to be measured at the fair value of recent interpretation IFRIC 13, Customer
consideration received or receivable, less loyalty programmes, provides a robust
the amount of any trade discounts and Customer base and its demand for superior framework for accounting programs, which volume rebates allowed. Free minutes that customer service, has been the backbone allow customers to earn points and redeem are offered as part of the initial talk time for this sector's evolutionary process. The them for free or discounted goods or revenue, would be considered as another ever demanding customers in this industry services in future. The IFRIC requires a medium of customer loyalty program and seek high-quality services and are willing to portion of the revenue to be deferred in the above mentioned accounting guidance change the service providers purely based order to account for the service provider's for deferral of revenue as per IFRIC 13 on this yardstick. Efficacious use of such future obligations in respect of loyalty would need to be applied.programs could prove successful in the points awarded. The amount to be deferred
quest for maximum customer retention in could be measured based on either the this industry. There may be myriad relative fair value of the primary underlying promotional offers by telecoms to attract service and the award or could be based on and retain customers and accounting for an estimation technique of the fair value of such arrangements has varied significantly. the award credits (residual method as it is Further extensive analysis has gone into generally known). Such deferred amount is the debate about how and what type of recognised, either as the telecom fulfills its loyalty schemes would be most effective, obligations to provide the underlying free or to enable dynamic interact-action with discounted goods / services or as the customers that could build and maintain obligation period lapses (provided time is of profitable relationships. The basic theory the essence).that emerges is that an effective customer
loyalty program, is not entirely about the
Accounting for free
airtime given to
customers
Customer loyalty
programs and
other retention strategy
Separate components
Sale of goods
Fair values determined based on either:
• Relative fair value method
• Residual method
Rendering of services Construction contracts
Sale of goods Rendering of services Construction contracts
Step 1: Identify
Components
Step 2: Allocate
consideration
Step 3: Recognise
revenue
At completion, upon
or after delivery
Can the outcome of the transaction
be estimated reliably?
Effective
control and
significant
risks and
rewards
passed in
their entirely
Effective control and significant risks and rewards passed on a continuous basis
Recognise revenue to
extent of recoverable
expenses recognised
Recognise revenue by
reference to the stage
of completion
Source: KPMG's Accounting and Auditing Update, October 2010.
4
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
After applying the above mentioned deducting these payments from the total requirement may prove to be more
requirement of IFRIC 4, if an arrangement payments under the arrangement. challenging, especially for telecoms who
has been determined to contain/embed a However, if a purchaser concludes that it is are set to adopt IFRS at the time of their
lease, the parties (provider/receiver) to the impracticable to separate the payments transition or convergence from their
arrangement would have to apply the reliably, it shall: previous GAAP. Further, the ongoing project
requirements of IAS 17, Leases, for the on convergence for lease accounting (a) In case of a finance lease
lease element of the arrangement and between IASB and FASB could enhance Recognise an asset and a liability at an
other applicable accounting literature this challenge as many of the contracts that amount equal to the fair value of the
determined based on the nature of the do end up being concluded as embedding a underlying asset that is subject of the
other component in the arrangement. For lease, could be forming part of the lease. Subsequently the liability shall be
the purpose of applying the requirements statement of financial position as the reduced as payments are made and an
of IAS 17, payments and other concept of 'operating lease' would be imputed finance charge on the liability
consideration required by the arrangement passé.recognised using the purchaser's
shall be separated at the inception of the incremental borrowing rate of interest.
arrangement and those for other elements
on the basis of their relative fair values. In (b) In case of an operating leasesome cases, separating the payments for Treat all payments under the the lease from payments for other arrangement as lease payments for the elements in the arrangement will require purposes of complying with the the purchaser to use an estimation disclosure requirements of IAS 17.technique. For example, a purchaser may
In determining whether an IRU is lease, estimate the lease payments by reference
generally it is not difficult to determine to a lease agreement for a comparable
whether a 'right to use' is being conveyed asset that contains no other elements, or
under the agreement. However, difficulties by estimating the payments for the other
arise in identifying whether a specific asset elements in the arrangement by reference
is being used. Application of this to comparable agreements and then
Capacity
transaction
Telecoms operate in a capital-intensive IRU, an entity purchasing network capacity Further, there can arrangements that do not
industry in which significant set-up costs obtains the exclusive right to use a specify the asset to be used and only state
are incurred in respect of the network specified amount of capacity for a specified that certain amounts of capacity within the
infrastructure that is required to operate, period of time. Some arrangements convey overall infrastructure get conveyed. The
for example setting up of mobile towers, to the customer the right to use a specific fundamental accounting issue related to an
etc. In the telecom industry, entities which identifiable physical asset, for example by IRU is when to recognise revenue. That
possess excess network capacity often buy transferring to the customer rights overall determination can be quite complex but
and sell capacity of each other's networks, of the capacity associated with it. However, can be boiled down to two basic questions:
often referred to as an indefeasible right to there could be complex arrangements Is the IRU a lease? Or is it a service
use (IRU). Expansion of fiber optic wherein arrangements convey to a telecom contract? Under IFRS, guidance for
communications has increased the the exclusive right to use a particular evaluating existence of lease is covered by
frequency of such transactions involving wavelength or a certain amount of strands IFRIC 4, Determining whether an
"sale" of network capacity. Pursuant to an of capacity on a network system to carry Arrangement contains a Lease, the
its traffic on a particular route. following flowchart illustrates application of
the same for such IRU transactions:
Customer
acquisition costs and other incentives paid
the enterprise'. Asset recognition for such be appropriate to capitalise the customer Customer acquisition costs are the direct
costs is therefore permitted, when such acquisition cost. Therefore determination of attributable costs incurred in signing up a
resource are controlled (evidenced by a the appropriate accounting lies in new customer into the network. The costs
contractual arrangement) by the entity and identifying the nature of the contract which of adding subscribers to a company's
it is probable that there will be an inflow of can support the accounting decision. customer base can be substantial and
such resources in future and that the cost Although there may be varied features in a complicated by the type of costs involved,
of the asset is measureable reliably. The contract they can be broadly categorized including incentives being provided to
issue therefore, is whether the operator into either a fixed-term contract (i.e. retailers, commissions paid to external
has the right to control access to future contracts that require a minimum purchase) dealers or agents and sales omission to the
revenue streams (say under an enforceable or an open-ended contract (i.e. no telecom's staff. Accounting for costs
service contract), and if the cost can be obligation being included). Generally, an incurred in such activity are either
reliably measured. If these criteria are not intangible asset is recognised only to the expensed or capitalised provided certain
met, then the customer acquisition costs extent that it arises from a fixed term conditions are met. In order to support
are more akin to a marketing expense and contract that requires minimum capitalisation of costs, both the definition
should be expensed as incurred rather than consideration and in the case of open as well the recognition criteria for an asset
capitalised and amortised over the contract ended contracts, contracts that include a needs to be met. An asset is defined as 'a
life. For example if a customer contract cancellation penalty that the Telecom would resource controlled by the enterprise as a
was not signed at that time, unless it was have the intent and ability to enforce. result of past events and from which future
otherwise legally enforceable, it may noteconomic benefits are expected to flow to
Is a right to use being conveyed, i.e.
Is a specific asset or specific assets being used?
YES NO
Does the customer have
the ability or right to
operate the asset, including
to direct how others should
operate the asset, and at
the same time obtain or
control more than an
insignificant amount of the
asset's output
Does the customer have the
ability or right to the assets,
while obtaining or
controlling more than an
insignificant amount of the
asset's output?
Does the customer pay a
contractually fixed price per
unit of output?
There is an embedded lease
Does the customer pay market price per unit of output?
YES
Is the possibility the another
party will take more than an
insignificant amount of the
asset's output during the
term of the arrangement
remote?
NO
NO
YESYES
NO NO NO
YES
YES
No
further
analysis
required
Source: KPMG's Accounting and Auditing Update, October 2010.
“
“
Indefeasible rights of use
(IRU) are contracts that entitle
companies to buy and/or sell
capacity on networks.
Accounting for IRUs can be
complex and vary based on the
facts and circumstances of
individual contracts. IFRS
conversion will drive a review
of these IRU contracts
76
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
After applying the above mentioned deducting these payments from the total requirement may prove to be more
requirement of IFRIC 4, if an arrangement payments under the arrangement. challenging, especially for telecoms who
has been determined to contain/embed a However, if a purchaser concludes that it is are set to adopt IFRS at the time of their
lease, the parties (provider/receiver) to the impracticable to separate the payments transition or convergence from their
arrangement would have to apply the reliably, it shall: previous GAAP. Further, the ongoing project
requirements of IAS 17, Leases, for the on convergence for lease accounting (a) In case of a finance lease
lease element of the arrangement and between IASB and FASB could enhance Recognise an asset and a liability at an
other applicable accounting literature this challenge as many of the contracts that amount equal to the fair value of the
determined based on the nature of the do end up being concluded as embedding a underlying asset that is subject of the
other component in the arrangement. For lease, could be forming part of the lease. Subsequently the liability shall be
the purpose of applying the requirements statement of financial position as the reduced as payments are made and an
of IAS 17, payments and other concept of 'operating lease' would be imputed finance charge on the liability
consideration required by the arrangement passé.recognised using the purchaser's
shall be separated at the inception of the incremental borrowing rate of interest.
arrangement and those for other elements
on the basis of their relative fair values. In (b) In case of an operating leasesome cases, separating the payments for Treat all payments under the the lease from payments for other arrangement as lease payments for the elements in the arrangement will require purposes of complying with the the purchaser to use an estimation disclosure requirements of IAS 17.technique. For example, a purchaser may
In determining whether an IRU is lease, estimate the lease payments by reference
generally it is not difficult to determine to a lease agreement for a comparable
whether a 'right to use' is being conveyed asset that contains no other elements, or
under the agreement. However, difficulties by estimating the payments for the other
arise in identifying whether a specific asset elements in the arrangement by reference
is being used. Application of this to comparable agreements and then
Capacity
transaction
Telecoms operate in a capital-intensive IRU, an entity purchasing network capacity Further, there can arrangements that do not
industry in which significant set-up costs obtains the exclusive right to use a specify the asset to be used and only state
are incurred in respect of the network specified amount of capacity for a specified that certain amounts of capacity within the
infrastructure that is required to operate, period of time. Some arrangements convey overall infrastructure get conveyed. The
for example setting up of mobile towers, to the customer the right to use a specific fundamental accounting issue related to an
etc. In the telecom industry, entities which identifiable physical asset, for example by IRU is when to recognise revenue. That
possess excess network capacity often buy transferring to the customer rights overall determination can be quite complex but
and sell capacity of each other's networks, of the capacity associated with it. However, can be boiled down to two basic questions:
often referred to as an indefeasible right to there could be complex arrangements Is the IRU a lease? Or is it a service
use (IRU). Expansion of fiber optic wherein arrangements convey to a telecom contract? Under IFRS, guidance for
communications has increased the the exclusive right to use a particular evaluating existence of lease is covered by
frequency of such transactions involving wavelength or a certain amount of strands IFRIC 4, Determining whether an
"sale" of network capacity. Pursuant to an of capacity on a network system to carry Arrangement contains a Lease, the
its traffic on a particular route. following flowchart illustrates application of
the same for such IRU transactions:
Customer
acquisition costs and other incentives paid
the enterprise'. Asset recognition for such be appropriate to capitalise the customer Customer acquisition costs are the direct
costs is therefore permitted, when such acquisition cost. Therefore determination of attributable costs incurred in signing up a
resource are controlled (evidenced by a the appropriate accounting lies in new customer into the network. The costs
contractual arrangement) by the entity and identifying the nature of the contract which of adding subscribers to a company's
it is probable that there will be an inflow of can support the accounting decision. customer base can be substantial and
such resources in future and that the cost Although there may be varied features in a complicated by the type of costs involved,
of the asset is measureable reliably. The contract they can be broadly categorized including incentives being provided to
issue therefore, is whether the operator into either a fixed-term contract (i.e. retailers, commissions paid to external
has the right to control access to future contracts that require a minimum purchase) dealers or agents and sales omission to the
revenue streams (say under an enforceable or an open-ended contract (i.e. no telecom's staff. Accounting for costs
service contract), and if the cost can be obligation being included). Generally, an incurred in such activity are either
reliably measured. If these criteria are not intangible asset is recognised only to the expensed or capitalised provided certain
met, then the customer acquisition costs extent that it arises from a fixed term conditions are met. In order to support
are more akin to a marketing expense and contract that requires minimum capitalisation of costs, both the definition
should be expensed as incurred rather than consideration and in the case of open as well the recognition criteria for an asset
capitalised and amortised over the contract ended contracts, contracts that include a needs to be met. An asset is defined as 'a
life. For example if a customer contract cancellation penalty that the Telecom would resource controlled by the enterprise as a
was not signed at that time, unless it was have the intent and ability to enforce. result of past events and from which future
otherwise legally enforceable, it may noteconomic benefits are expected to flow to
Is a right to use being conveyed, i.e.
Is a specific asset or specific assets being used?
YES NO
Does the customer have
the ability or right to
operate the asset, including
to direct how others should
operate the asset, and at
the same time obtain or
control more than an
insignificant amount of the
asset's output
Does the customer have the
ability or right to the assets,
while obtaining or
controlling more than an
insignificant amount of the
asset's output?
Does the customer pay a
contractually fixed price per
unit of output?
There is an embedded lease
Does the customer pay market price per unit of output?
YES
Is the possibility the another
party will take more than an
insignificant amount of the
asset's output during the
term of the arrangement
remote?
NO
NO
YESYES
NO NO NO
YES
YES
No
further
analysis
required
Source: KPMG's Accounting and Auditing Update, October 2010.
“
“
Indefeasible rights of use
(IRU) are contracts that entitle
companies to buy and/or sell
capacity on networks.
Accounting for IRUs can be
complex and vary based on the
facts and circumstances of
individual contracts. IFRS
conversion will drive a review
of these IRU contracts
76
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Non monetary arrangements (capacity swaps)
Another significant monetisation strategy that is in practice is companies ‘swapping’
network capacity (known as capacity swaps). Leveraging on each other's network
amongst peers has lead to the advent of such exchange transactions. In these situations,
a careful analysis of the specific facts and circumstances surrounding the transaction
would have to be made, in order to appropriate record the same in the financial
statements of both the parties to the arrangement. In general, IFRS requires that the
accounting for the exchange of non-monetary assets be measured based on fair value,
unless the transaction lacks a commercial substance or that neither the fair value of asset
received nor the one given up are reliably measurable.
Commercial substance is assessed by considering the extent to which future cash flows
are expected to change as a result of the transaction, i.e. if the configuration of the cash
flows of the assets received and transferred are different, or if the entity specific value of
the portion of the operations affected by the transaction changes as a result of the
exchange. Most of capacity swaps would presume existence of a commercial substance
in the arrangement; however the determination of the fair value would pose a challenge.
Further simultaneous exchange of non-monetary assets along with equal amounts of
cash consideration between the parties to an exchange could raise significant
"substance" over "form" questions. When cash consideration is exchanged between the
parties to a transaction concurrently with an asset exchange, questions may arise as to
the substance or business purpose of the transaction structure. Capacity swap
transactions likely include complex terms that would require a diligent analysis and
professional judgment to determine the proper accounting treatment.
Asset Retirement
Obligations
In the construction of networks, mobile and
fixed line operators often build assets on
leased land or premises where an obligation
exists (like under the lease agreement) to
reinstate the land or premises at the end of
the agreed term. Provision for such costs is
required under IFRS, where they are
referred to as asset retirement obligations
(AROs). The obligation is accounted for by
including the present value of the estimated
cost of dismantling and removing the asset
as part of the cost of the asset and setting
up a provision for an equivalent amount. The
discounting of provisions is unwound over
the relevant period and is accounted for as
an interest expense.
The complexity involved in accounting for
AROs is that often it may not be evident
from the contractual terms that a legally
enforceable obligation exists. It may also be
that the contract is unclear or silent on
restoration requirements at the end of a
contracted period. Even in such cases,
entities would need to make their 'best
estimate' of the cost involved based on past
experience, by applying the principles of
'constructive obligation' as per IAS 37
Provisions, Contingent Liabilities and
Contingent Assets. For instance, obligations
with respect to cables laid in international
waters on the seabed or on coastal 'landing
stations' may be unclear and inconsistently
enforced.
“ “ Ascertaining the commercial rationale and
determining the fair value will be a formidable
challenge in the area of accounting for exchange of
capacities
8
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Non monetary arrangements (capacity swaps)
Another significant monetisation strategy that is in practice is companies ‘swapping’
network capacity (known as capacity swaps). Leveraging on each other's network
amongst peers has lead to the advent of such exchange transactions. In these situations,
a careful analysis of the specific facts and circumstances surrounding the transaction
would have to be made, in order to appropriate record the same in the financial
statements of both the parties to the arrangement. In general, IFRS requires that the
accounting for the exchange of non-monetary assets be measured based on fair value,
unless the transaction lacks a commercial substance or that neither the fair value of asset
received nor the one given up are reliably measurable.
Commercial substance is assessed by considering the extent to which future cash flows
are expected to change as a result of the transaction, i.e. if the configuration of the cash
flows of the assets received and transferred are different, or if the entity specific value of
the portion of the operations affected by the transaction changes as a result of the
exchange. Most of capacity swaps would presume existence of a commercial substance
in the arrangement; however the determination of the fair value would pose a challenge.
Further simultaneous exchange of non-monetary assets along with equal amounts of
cash consideration between the parties to an exchange could raise significant
"substance" over "form" questions. When cash consideration is exchanged between the
parties to a transaction concurrently with an asset exchange, questions may arise as to
the substance or business purpose of the transaction structure. Capacity swap
transactions likely include complex terms that would require a diligent analysis and
professional judgment to determine the proper accounting treatment.
Asset Retirement
Obligations
In the construction of networks, mobile and
fixed line operators often build assets on
leased land or premises where an obligation
exists (like under the lease agreement) to
reinstate the land or premises at the end of
the agreed term. Provision for such costs is
required under IFRS, where they are
referred to as asset retirement obligations
(AROs). The obligation is accounted for by
including the present value of the estimated
cost of dismantling and removing the asset
as part of the cost of the asset and setting
up a provision for an equivalent amount. The
discounting of provisions is unwound over
the relevant period and is accounted for as
an interest expense.
The complexity involved in accounting for
AROs is that often it may not be evident
from the contractual terms that a legally
enforceable obligation exists. It may also be
that the contract is unclear or silent on
restoration requirements at the end of a
contracted period. Even in such cases,
entities would need to make their 'best
estimate' of the cost involved based on past
experience, by applying the principles of
'constructive obligation' as per IAS 37
Provisions, Contingent Liabilities and
Contingent Assets. For instance, obligations
with respect to cables laid in international
waters on the seabed or on coastal 'landing
stations' may be unclear and inconsistently
enforced.
“ “ Ascertaining the commercial rationale and
determining the fair value will be a formidable
challenge in the area of accounting for exchange of
capacities
8
What is initial recognition
exemption?
As per ED on AS 22, it is proposed
that a deferred tax asset or liability is
not recognised if it arises from the
initial recognition of goodwill or an
asset or liability in a transaction that
is not a business combination and at
the time of the transaction affects
neither accounting profit nor taxable
profit. However, deferred tax
liabilities are recognised in respect
of a subsequent change in the
carrying amount of goodwill for
which amortisation is tax deductible.
For example:
A company acquires an asset that has an economic life of 5 years, Which will be specifically
used for the purpose of R&D activities for a value of USD 100,000. The asset will be solely
recovered through use. Under the tax laws, such assets qualify for 150 per cent deduction in
the year of purchase (i.e., the tax base is USD 150,000). The tax rate is 30 percent.
In this situation under the taxation law, the Company would be eligible to a greater tax
deduction for the differential USD 50,000 as the asset is recovered through use; such
difference in a strict sense is a temporary difference. However, under the ED such differences
would be considered as ‘exceptions’ from the inventory of originating temporary differences.
Accordingly, no deferred tax asset would be recognised for such transactions. This is based on
the presumption that the parties to the transaction have already factored the greater tax
deductibility as part of their negotiations, and the transaction value truly represents the future
economic benefit of the asset (without any value being attached to the acquired temporary
differences).
Income TaxesChallenge to IFRS convergence
Computation of taxable income in Exchange Board of India (SEBI) and
India is governed by the provisions others), convergence with IFRS
of Income Tax Act, 1961. To ensure poses a bigger challenge for India
correct and uniform accounting by Inc. Additionally, these accounting
all companies, the Institute of challenges will have considerable
Chartered Accountants of India tax implications.
(ICAI), had issued AS 22, Accounting In our discussion here, we will try to
for taxes on income, (current AS 22) answer key questions highlighting
which was also notified by the major differences between ED on
National Advisory Committee on AS 22, the current AS 22 and
Accounting Standard (NACAS). To accounting for income taxes as per
achieve convergence with the US GAAP principles. The ED on
International Financial Reporting AS 22 has been carefully drafted and
Standards (IFRS), the ICAI, inter alia, there are no major differences with
has issued Exposure Draft (ED) on the equivalent IAS 12, Income taxes.
AS 22 (Revised 20XX) {ED on AS 22} We will also emphasize on
which is in line with the International significant implementation issues
Accounting Standard (IAS 12), that will arise from adoption of ED
Income taxes, as issued by the on AS 22 by Indian companies.
International Accounting Standards
Board (IASB).
Since, accounting practices in India,
are also based on various
legislations (including Companies
Act, guidelines issued by Reserve
Bank of India (RBI), Insurance
Regulatory and Development
Authority (IRDA), Securities and
Will the approach to accounting of
deferred taxes change?
similar to accounting for income taxes as accounting income nor the taxable The ED on AS 22, like IFRS, is based on per the US GAAP. income; howeverbalance sheet approach as compared to
current AS 22 which is based on income As per the current AS 22 deferred tax is the (b) ED on AS 22: Under the exposure draft,
statement approach. The ED on AS 22 tax effect of timing differences. Timing Company A would have to recognise a
defines tax expense (tax income) as the differences are the differences between deferred tax liability of USD 300 (USD
aggregate amount included in the taxable income and accounting income for 1,000 temporary difference × 30
determination of profit or loss for the a period that originate in one period and are percent), with a corresponding debit
period in respect of current tax and capable of reversal in one or more into the revaluation reserve. This is
deferred tax. Although there is no subsequent periods. because when the carrying amount of
difference between the two standards with an asset (the minimum expected future
respect to the way current tax has to be economic benefits) exceeds its tax base
calculated, there is a prominent distinction During the year, Company A revalues an (the amount that can be deducted for in the way deferred tax has to be calculated item of property, plant and equipment by tax purposes from those future under the two standards. This will also lead USD 1,000 to USD 21,000, recognising the economic benefits), the amount of to recognition of additional items of increase directly in the revaluation reserve taxable economic benefits will exceed deferred tax assets or liabilities e.g., those within equity. However for the tax the amount that will be allowed as a arising from revaluation of assets. purposes such revaluation is not allowed deduction for tax purposes. This
for claiming increased depreciation. difference is a taxable temporary As per ED on AS 22 deferred tax is Assume the tax rate as 30 percent. difference and the obligation to settle recognised in respect of temporary
the resulting income taxes in future differences between the carrying amounts (a) Current AS 22: Under the existing periods is a deferred tax liability.of assets and liabilities for financial standard recognition of such revaluation
reporting purposes and the amounts used of assets do not give rise to a ‘timing
for taxation purposes. This treatment is also difference’ because it neither effects the
For example:
“ “ The converged
standard will expand the
concept of deferred taxation
to areas such as business
combination, equity
transactions, inter company
eliminations, etc.
11
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
What is initial recognition
exemption?
As per ED on AS 22, it is proposed
that a deferred tax asset or liability is
not recognised if it arises from the
initial recognition of goodwill or an
asset or liability in a transaction that
is not a business combination and at
the time of the transaction affects
neither accounting profit nor taxable
profit. However, deferred tax
liabilities are recognised in respect
of a subsequent change in the
carrying amount of goodwill for
which amortisation is tax deductible.
For example:
A company acquires an asset that has an economic life of 5 years, Which will be specifically
used for the purpose of R&D activities for a value of USD 100,000. The asset will be solely
recovered through use. Under the tax laws, such assets qualify for 150 per cent deduction in
the year of purchase (i.e., the tax base is USD 150,000). The tax rate is 30 percent.
In this situation under the taxation law, the Company would be eligible to a greater tax
deduction for the differential USD 50,000 as the asset is recovered through use; such
difference in a strict sense is a temporary difference. However, under the ED such differences
would be considered as ‘exceptions’ from the inventory of originating temporary differences.
Accordingly, no deferred tax asset would be recognised for such transactions. This is based on
the presumption that the parties to the transaction have already factored the greater tax
deductibility as part of their negotiations, and the transaction value truly represents the future
economic benefit of the asset (without any value being attached to the acquired temporary
differences).
Income TaxesChallenge to IFRS convergence
Computation of taxable income in Exchange Board of India (SEBI) and
India is governed by the provisions others), convergence with IFRS
of Income Tax Act, 1961. To ensure poses a bigger challenge for India
correct and uniform accounting by Inc. Additionally, these accounting
all companies, the Institute of challenges will have considerable
Chartered Accountants of India tax implications.
(ICAI), had issued AS 22, Accounting In our discussion here, we will try to
for taxes on income, (current AS 22) answer key questions highlighting
which was also notified by the major differences between ED on
National Advisory Committee on AS 22, the current AS 22 and
Accounting Standard (NACAS). To accounting for income taxes as per
achieve convergence with the US GAAP principles. The ED on
International Financial Reporting AS 22 has been carefully drafted and
Standards (IFRS), the ICAI, inter alia, there are no major differences with
has issued Exposure Draft (ED) on the equivalent IAS 12, Income taxes.
AS 22 (Revised 20XX) {ED on AS 22} We will also emphasize on
which is in line with the International significant implementation issues
Accounting Standard (IAS 12), that will arise from adoption of ED
Income taxes, as issued by the on AS 22 by Indian companies.
International Accounting Standards
Board (IASB).
Since, accounting practices in India,
are also based on various
legislations (including Companies
Act, guidelines issued by Reserve
Bank of India (RBI), Insurance
Regulatory and Development
Authority (IRDA), Securities and
Will the approach to accounting of
deferred taxes change?
similar to accounting for income taxes as accounting income nor the taxable The ED on AS 22, like IFRS, is based on per the US GAAP. income; howeverbalance sheet approach as compared to
current AS 22 which is based on income As per the current AS 22 deferred tax is the (b) ED on AS 22: Under the exposure draft,
statement approach. The ED on AS 22 tax effect of timing differences. Timing Company A would have to recognise a
defines tax expense (tax income) as the differences are the differences between deferred tax liability of USD 300 (USD
aggregate amount included in the taxable income and accounting income for 1,000 temporary difference × 30
determination of profit or loss for the a period that originate in one period and are percent), with a corresponding debit
period in respect of current tax and capable of reversal in one or more into the revaluation reserve. This is
deferred tax. Although there is no subsequent periods. because when the carrying amount of
difference between the two standards with an asset (the minimum expected future
respect to the way current tax has to be economic benefits) exceeds its tax base
calculated, there is a prominent distinction During the year, Company A revalues an (the amount that can be deducted for in the way deferred tax has to be calculated item of property, plant and equipment by tax purposes from those future under the two standards. This will also lead USD 1,000 to USD 21,000, recognising the economic benefits), the amount of to recognition of additional items of increase directly in the revaluation reserve taxable economic benefits will exceed deferred tax assets or liabilities e.g., those within equity. However for the tax the amount that will be allowed as a arising from revaluation of assets. purposes such revaluation is not allowed deduction for tax purposes. This
for claiming increased depreciation. difference is a taxable temporary As per ED on AS 22 deferred tax is Assume the tax rate as 30 percent. difference and the obligation to settle recognised in respect of temporary
the resulting income taxes in future differences between the carrying amounts (a) Current AS 22: Under the existing periods is a deferred tax liability.of assets and liabilities for financial standard recognition of such revaluation
reporting purposes and the amounts used of assets do not give rise to a ‘timing
for taxation purposes. This treatment is also difference’ because it neither effects the
For example:
“ “ The converged
standard will expand the
concept of deferred taxation
to areas such as business
combination, equity
transactions, inter company
eliminations, etc.
11
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
What is the threshold to recognise
deferred tax assets?
Current AS 22
As per current AS 22 deferred tax assets
should be recognised and carried forward
only to the extent that there is a reasonable
certainty that sufficient future taxable
income will be available against which such
deferred tax assets can be realised.
However, where an enterprise has
unabsorbed depreciation or carry forward of
losses under tax laws, deferred tax assets
should be recognised only to the extent that
there is virtual certainty supported by
convincing evidence that sufficient future
taxable income will be available against
which such deferred tax assets can be
realised.
ED on AS 22
As per ED on AS 22, it is proposed that, a
deferred tax asset is recognised only to the
extent that it is probable that taxable profit
will be available, against which the
deductible temporary differences can be
utilised. When an entity has unused tax
losses, this is strong evidence that future
taxable profit may not be available, and
generally the recognition of a deferred tax
asset is limited to available taxable
temporary differences or there is convincing
other evidence that sufficient taxable profit
will be available against which the unused
tax losses or unused tax credits can be
utilised by the entity. ‘Probable’ is not
defined in the ED on AS 22, and
interpretations in practice may vary from
‘more likely than not’ to some higher
threshold.
US GAAP
Under US GAAP, all deferred tax assets are
recognised and a valuation allowance is
recognised to the extent that it is more likely
than not that the deferred tax assets will not
be realised, i.e., deferred tax assets are
recognised on a gross basis with a
corresponding valuation allowance. Under
US GAAP ‘more likely than not’ is defined as
a likelihood of more than 50 percent. Like
IFRSs, the existence of cumulative
accounting losses is negative evidence that
future taxable profit may not be available
that is difficult to overcome, and generally
the recognition of a deferred tax asset is
limited to available taxable temporary
differences in such cases.
How to classify deferred tax assets
and liabilities?
Current AS 22
As per current AS 22 deferred tax assets
and liabilities should be disclosed under a
separate heading in the balance sheet of the
enterprise, separately from current assets
and current liabilities.
ED on AS 22
Like IFRS, as per ED on AS 1 (Revised),
Presentation of financial statements,
deferred tax liabilities and assets are
classified as non-current when a classified
statement of financial position is presented,
even though it may be expected that some
part of the tax balance will reverse within 12
months of the reporting date. Further, the
disclosure requirements proposed in the ED
on AS 22 are more detailed as compared to
current AS 22.
US GAAP
Under US GAAP, unlike IFRSs, deferred tax
liabilities and assets, but not the valuation
allowance are classified as either current or
non-current according to the classification of
the related asset or liability giving rise to the
temporary difference. The valuation
allowance is allocated against current and
non-current deferred tax assets for the
relevant tax jurisdiction on a pro rata basis,
unlike IFRS.
Can deferred tax assets and
liabilities be offset?
Current AS 22
The current AS 22 envisaged same
accounting with respect to offset principles.
ED on AS 22
As per ED on AS 22, like IFRS, deferred tax
liabilities and assets are offset if the entity
has a legally enforceable right to offset and
the deferred taxes relate to income taxes
levied by the same taxation authority in the
case of the
- same taxable entity
- in case of different taxable entities when
the entity intends to settle current tax
liabilities and assets on a net basis or
realise the assets and settle the liabilities
simultaneously for each future periods in
which these differences reverse.
US GAAP
Under US GAAP, deferred taxes for each tax-
paying component of an enterprise in
separate tax jurisdiction should present in
two classifications a net current asset or
liability and a net noncurrent asset and
liability.
Such net presentation is, permitted only if
the deferred tax assets and liabilities relate
to the same tax jurisdictions or for same tax-
paying components of an enterprise in a
specific jurisdiction.
Legal enforceability for offset is not required
under US GAAP.
At what rate deferred tax assets
and liabilities are measured?
Current AS 22
No change proposed
ED on AS 22
As per ED on AS 22, it is proposed that
deferred tax assets and liabilities are
measured based on the expected manner of
recovery (asset) or settlement (liability). The
rate of tax expected to apply when the
underlying asset (liability) is recovered
(settled) is based on rates that are enacted
or substantively enacted at the reporting
date.
US GAAP
However, under US GAAP, deferred tax
assets and liabilities are measured based on
an assumption that the underlying asset or
liability will be settled or recovered in a
manner consistent with its current use in
the business, unlike IFRSs. The rate of tax
expected to apply when the underlying
asset (liability) is realised (settled), is based
on rates that are enacted at the reporting
date, unlike IFRS.
What to do when there is a
subsequent change in tax rate?
Current AS 22
As per the current AS 22 such changes in
tax rates are recognised through P&L
account.
ED on AS 22
As per ED on AS 22, like IFRS, a change in
deferred tax caused by a change in tax rate
is recognised in profit or loss in the period
that the change is substantively enacted,
except to the extent that it relates to an item
recognised outside profit or loss in the
current or in a previous period. The same
general principle applies when an entity's
tax status changes.
US GAAP
Under US GAAP, on initial recognition, the
tax effect of items charged or credited in
other comprehensive income or directly to
equity during the current reporting period is
itself charged or credited in other
comprehensive income or directly to equity.
However, unlike IFRS, subsequent changes
to deferred tax from changes in tax rates,
tax status, or from assessment of the
recoverability of a deferred tax asset are
recognised in profit or loss.
These proposals are new and are not US GAAP, on the other hand, does not have
applicable with respect to current AS 22, an exemption for the initial recognition of
which is based on income statement an asset or liability in a transaction that is
approach. However, the differences not a business combination and at the time
between taxable income and accounting of the transaction affects neither
income for a period that originate in one accounting profit nor taxable profit. Under
period and do not reverse subsequently are US GAAP the deferred tax is determined
defined as permanent differences and no using the ‘simultaneous equation’ method
deferred tax asset and liability is as it is presumed that the consideration
recognised presently with respect to these paid / incurred for the underlying asset /
permanent differences. liability includes an amount that is
attributable to the acquired temporary
differences.
1312
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
What is the threshold to recognise
deferred tax assets?
Current AS 22
As per current AS 22 deferred tax assets
should be recognised and carried forward
only to the extent that there is a reasonable
certainty that sufficient future taxable
income will be available against which such
deferred tax assets can be realised.
However, where an enterprise has
unabsorbed depreciation or carry forward of
losses under tax laws, deferred tax assets
should be recognised only to the extent that
there is virtual certainty supported by
convincing evidence that sufficient future
taxable income will be available against
which such deferred tax assets can be
realised.
ED on AS 22
As per ED on AS 22, it is proposed that, a
deferred tax asset is recognised only to the
extent that it is probable that taxable profit
will be available, against which the
deductible temporary differences can be
utilised. When an entity has unused tax
losses, this is strong evidence that future
taxable profit may not be available, and
generally the recognition of a deferred tax
asset is limited to available taxable
temporary differences or there is convincing
other evidence that sufficient taxable profit
will be available against which the unused
tax losses or unused tax credits can be
utilised by the entity. ‘Probable’ is not
defined in the ED on AS 22, and
interpretations in practice may vary from
‘more likely than not’ to some higher
threshold.
US GAAP
Under US GAAP, all deferred tax assets are
recognised and a valuation allowance is
recognised to the extent that it is more likely
than not that the deferred tax assets will not
be realised, i.e., deferred tax assets are
recognised on a gross basis with a
corresponding valuation allowance. Under
US GAAP ‘more likely than not’ is defined as
a likelihood of more than 50 percent. Like
IFRSs, the existence of cumulative
accounting losses is negative evidence that
future taxable profit may not be available
that is difficult to overcome, and generally
the recognition of a deferred tax asset is
limited to available taxable temporary
differences in such cases.
How to classify deferred tax assets
and liabilities?
Current AS 22
As per current AS 22 deferred tax assets
and liabilities should be disclosed under a
separate heading in the balance sheet of the
enterprise, separately from current assets
and current liabilities.
ED on AS 22
Like IFRS, as per ED on AS 1 (Revised),
Presentation of financial statements,
deferred tax liabilities and assets are
classified as non-current when a classified
statement of financial position is presented,
even though it may be expected that some
part of the tax balance will reverse within 12
months of the reporting date. Further, the
disclosure requirements proposed in the ED
on AS 22 are more detailed as compared to
current AS 22.
US GAAP
Under US GAAP, unlike IFRSs, deferred tax
liabilities and assets, but not the valuation
allowance are classified as either current or
non-current according to the classification of
the related asset or liability giving rise to the
temporary difference. The valuation
allowance is allocated against current and
non-current deferred tax assets for the
relevant tax jurisdiction on a pro rata basis,
unlike IFRS.
Can deferred tax assets and
liabilities be offset?
Current AS 22
The current AS 22 envisaged same
accounting with respect to offset principles.
ED on AS 22
As per ED on AS 22, like IFRS, deferred tax
liabilities and assets are offset if the entity
has a legally enforceable right to offset and
the deferred taxes relate to income taxes
levied by the same taxation authority in the
case of the
- same taxable entity
- in case of different taxable entities when
the entity intends to settle current tax
liabilities and assets on a net basis or
realise the assets and settle the liabilities
simultaneously for each future periods in
which these differences reverse.
US GAAP
Under US GAAP, deferred taxes for each tax-
paying component of an enterprise in
separate tax jurisdiction should present in
two classifications a net current asset or
liability and a net noncurrent asset and
liability.
Such net presentation is, permitted only if
the deferred tax assets and liabilities relate
to the same tax jurisdictions or for same tax-
paying components of an enterprise in a
specific jurisdiction.
Legal enforceability for offset is not required
under US GAAP.
At what rate deferred tax assets
and liabilities are measured?
Current AS 22
No change proposed
ED on AS 22
As per ED on AS 22, it is proposed that
deferred tax assets and liabilities are
measured based on the expected manner of
recovery (asset) or settlement (liability). The
rate of tax expected to apply when the
underlying asset (liability) is recovered
(settled) is based on rates that are enacted
or substantively enacted at the reporting
date.
US GAAP
However, under US GAAP, deferred tax
assets and liabilities are measured based on
an assumption that the underlying asset or
liability will be settled or recovered in a
manner consistent with its current use in
the business, unlike IFRSs. The rate of tax
expected to apply when the underlying
asset (liability) is realised (settled), is based
on rates that are enacted at the reporting
date, unlike IFRS.
What to do when there is a
subsequent change in tax rate?
Current AS 22
As per the current AS 22 such changes in
tax rates are recognised through P&L
account.
ED on AS 22
As per ED on AS 22, like IFRS, a change in
deferred tax caused by a change in tax rate
is recognised in profit or loss in the period
that the change is substantively enacted,
except to the extent that it relates to an item
recognised outside profit or loss in the
current or in a previous period. The same
general principle applies when an entity's
tax status changes.
US GAAP
Under US GAAP, on initial recognition, the
tax effect of items charged or credited in
other comprehensive income or directly to
equity during the current reporting period is
itself charged or credited in other
comprehensive income or directly to equity.
However, unlike IFRS, subsequent changes
to deferred tax from changes in tax rates,
tax status, or from assessment of the
recoverability of a deferred tax asset are
recognised in profit or loss.
These proposals are new and are not US GAAP, on the other hand, does not have
applicable with respect to current AS 22, an exemption for the initial recognition of
which is based on income statement an asset or liability in a transaction that is
approach. However, the differences not a business combination and at the time
between taxable income and accounting of the transaction affects neither
income for a period that originate in one accounting profit nor taxable profit. Under
period and do not reverse subsequently are US GAAP the deferred tax is determined
defined as permanent differences and no using the ‘simultaneous equation’ method
deferred tax asset and liability is as it is presumed that the consideration
recognised presently with respect to these paid / incurred for the underlying asset /
permanent differences. liability includes an amount that is
attributable to the acquired temporary
differences.
1312
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
How should intercompany
transfers of assets (e.g., sales,
contributions, distributions)
between entities of a group, with
different tax jurisdictions that give
rise to a temporary difference be
considered for recognition of
deferred taxes in consolidated
financial statements?
Clarification (GC) – 18/2002, Accounting for
taxes on income in the consolidated
financial statements), no adjustment is
required with respect to tax expenses
appearing in the separate financial
statements of parent and subsidiaries.
Thus, the tax expense to be shown in the
consolidated financial statements will be
the aggregate of the amounts of tax
expenses appearing in the separate
financial statements of the parent and its
subsidiaries.
Like IFRS, as per ED on AS 22 it is As per US GAAP, like IFRSs, intra-group proposed that the intra-group transactions transactions are eliminated upon are eliminated upon consolidation. Any consolidation. However, unlike IFRSs, related deferred tax effects are measured income taxes paid by the seller on intra-based on the tax rate of the purchaser. group profits related to assets that remain However, the tax effects are not eliminated within the consolidated group, including unless the transacting entities are subject the tax effect of any reversing temporary to the same tax rate. differences in the seller's tax jurisdiction,
However, as per current practice under are deferred.
Indian GAAP, (as clarified by General
When should deferred tax with
respect to investment in
subsidiaries recognised?
Under the current AS 22, there exists no A close look at consolidated financial
specific guidance in relation to such statements of a company that has global
differences. US GAAP on the other hand, presence, more often than not reveals that
contains elaborate guidance in relation to significant portion of the Group’s
this area and states that a deferred tax undistributed earnings reside in a
liability needs to be recognised for such component / entity that is has a lower tax
differences, unless certain specified criteria jurisdiction than that of the parent. The
is met. parent would suffer a dividend tax in the
event such earnings are repatriated / In order to not recognise a deferred tax, an
distributed to it or a capital gains tax, in the entity needs to categories’ its investments
event the investment is sold. Identification into the following, as different recognition
of temporary differences (under the ED) thresholds apply for each category:
implicitly requires an entity to reflect its
intent and manner of recovery of the
underlying asset; therefore when an entity
intends to recover such undistributed
earnings in its subsidiary, either by way of
dividend or sale a consequential temporary
difference arises. Such differences are
sometimes called as ‘outside basis’
temporary differences.
However in the case of equity method IFRS does not change such a requirement,
affiliates, since the investors hold less than however it requires that the decision to
a majority of the voting capital and do not either recognise or not to recognise
enjoy majority voting power, generally it is deferred taxes should culminate from
presumed that they cannot control the existence of 'control' amongst the parent
timing and amounts of dividends, in-kind and investor (either subsidiary or
distributions, taxable liquidations, or other associate). It states that temporary
transactions and events that may result in differences in respect of investments in
tax consequences to investors. subsidiaries, branches, associates and joint
Accordingly, a deferred tax liability is ventures are not recognised only if:
generally recognised based on the (a) the investor is able to control the timing
expected means of recovery of such of the reversal of the temporary difference
investments. The only exception relates to
foreign corporate joint ventures where the (b) it is probable that the temporary investors participate in the management of difference will not reverse in the the venture and there exist a mutual foreseeable future.agreement of the investors on the long-
term investment plans of the venture.
Conclusion
As is evident, the ED seems to eliminate
differences between the current AS 22 and
the international GAAP. Although, it is a
step in the right direction and many of the
provisions are broadly similar to that of
IFRS, areas such as accounting for
business combination, undistributed
earnings of subsidiaries and equity method
investees and other consolidation entries
(such as intercompany profit elimination)
would prove to be significant
implementation deterrents at the time of
convergence.
Example: Entity V sells inventory to
fellow subsidiary W for 300, giving rise
to a profit of 50 in V's separate financial
statements. V pays current tax of 15 on
the profit. Upon consolidation the profit
of 50 is reversed against the carrying
amount of the inventory of 300.
Therefore the carrying amount of the
inventory on consolidation is 250.
However, the carrying amount of the
inventory for tax purposes will depend
on the legislation in W's jurisdiction.
Assuming that the carrying amount of
the inventory for tax purposes is 300, a
deductible temporary difference of 50
arises, which should be recognised on
consolidation at W's tax rate, subject to
the general asset recognition
requirements.
Category US GAAP
Domestic subsidiaries No DTL is required if the parent company can recover
such temporary differences in a 'tax free manner'.
Foreign entities (i.e.,
subsidiaries or corporate joint
ventures)
No DTL is recorded, if the parent company's
investment essentially 'permanent in duration' and
will not reverse in the foreseeable future (indefinite
reversal criteria).
Determination of 'foreseeable future' should be
evidenced by specific plans for reinvestment of
undistributed earnings of a subsidiary which
demonstrates that remittance of the earnings will be
postponed indefinitely. Significant judgment would
need to be exercised in determination of such a
period and would need to be considered based on
the individual facts and circumstances.
“
“
The converged
standard eliminates the
simplistic accounting
model for deferred taxation
in the consolidated
financial statements. Inter
company eliminations will
no longer be exempt from
deferred tax accounting
1514
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
How should intercompany
transfers of assets (e.g., sales,
contributions, distributions)
between entities of a group, with
different tax jurisdictions that give
rise to a temporary difference be
considered for recognition of
deferred taxes in consolidated
financial statements?
Clarification (GC) – 18/2002, Accounting for
taxes on income in the consolidated
financial statements), no adjustment is
required with respect to tax expenses
appearing in the separate financial
statements of parent and subsidiaries.
Thus, the tax expense to be shown in the
consolidated financial statements will be
the aggregate of the amounts of tax
expenses appearing in the separate
financial statements of the parent and its
subsidiaries.
Like IFRS, as per ED on AS 22 it is As per US GAAP, like IFRSs, intra-group proposed that the intra-group transactions transactions are eliminated upon are eliminated upon consolidation. Any consolidation. However, unlike IFRSs, related deferred tax effects are measured income taxes paid by the seller on intra-based on the tax rate of the purchaser. group profits related to assets that remain However, the tax effects are not eliminated within the consolidated group, including unless the transacting entities are subject the tax effect of any reversing temporary to the same tax rate. differences in the seller's tax jurisdiction,
However, as per current practice under are deferred.
Indian GAAP, (as clarified by General
When should deferred tax with
respect to investment in
subsidiaries recognised?
Under the current AS 22, there exists no A close look at consolidated financial
specific guidance in relation to such statements of a company that has global
differences. US GAAP on the other hand, presence, more often than not reveals that
contains elaborate guidance in relation to significant portion of the Group’s
this area and states that a deferred tax undistributed earnings reside in a
liability needs to be recognised for such component / entity that is has a lower tax
differences, unless certain specified criteria jurisdiction than that of the parent. The
is met. parent would suffer a dividend tax in the
event such earnings are repatriated / In order to not recognise a deferred tax, an
distributed to it or a capital gains tax, in the entity needs to categories’ its investments
event the investment is sold. Identification into the following, as different recognition
of temporary differences (under the ED) thresholds apply for each category:
implicitly requires an entity to reflect its
intent and manner of recovery of the
underlying asset; therefore when an entity
intends to recover such undistributed
earnings in its subsidiary, either by way of
dividend or sale a consequential temporary
difference arises. Such differences are
sometimes called as ‘outside basis’
temporary differences.
However in the case of equity method IFRS does not change such a requirement,
affiliates, since the investors hold less than however it requires that the decision to
a majority of the voting capital and do not either recognise or not to recognise
enjoy majority voting power, generally it is deferred taxes should culminate from
presumed that they cannot control the existence of 'control' amongst the parent
timing and amounts of dividends, in-kind and investor (either subsidiary or
distributions, taxable liquidations, or other associate). It states that temporary
transactions and events that may result in differences in respect of investments in
tax consequences to investors. subsidiaries, branches, associates and joint
Accordingly, a deferred tax liability is ventures are not recognised only if:
generally recognised based on the (a) the investor is able to control the timing
expected means of recovery of such of the reversal of the temporary difference
investments. The only exception relates to
foreign corporate joint ventures where the (b) it is probable that the temporary investors participate in the management of difference will not reverse in the the venture and there exist a mutual foreseeable future.agreement of the investors on the long-
term investment plans of the venture.
Conclusion
As is evident, the ED seems to eliminate
differences between the current AS 22 and
the international GAAP. Although, it is a
step in the right direction and many of the
provisions are broadly similar to that of
IFRS, areas such as accounting for
business combination, undistributed
earnings of subsidiaries and equity method
investees and other consolidation entries
(such as intercompany profit elimination)
would prove to be significant
implementation deterrents at the time of
convergence.
Example: Entity V sells inventory to
fellow subsidiary W for 300, giving rise
to a profit of 50 in V's separate financial
statements. V pays current tax of 15 on
the profit. Upon consolidation the profit
of 50 is reversed against the carrying
amount of the inventory of 300.
Therefore the carrying amount of the
inventory on consolidation is 250.
However, the carrying amount of the
inventory for tax purposes will depend
on the legislation in W's jurisdiction.
Assuming that the carrying amount of
the inventory for tax purposes is 300, a
deductible temporary difference of 50
arises, which should be recognised on
consolidation at W's tax rate, subject to
the general asset recognition
requirements.
Category US GAAP
Domestic subsidiaries No DTL is required if the parent company can recover
such temporary differences in a 'tax free manner'.
Foreign entities (i.e.,
subsidiaries or corporate joint
ventures)
No DTL is recorded, if the parent company's
investment essentially 'permanent in duration' and
will not reverse in the foreseeable future (indefinite
reversal criteria).
Determination of 'foreseeable future' should be
evidenced by specific plans for reinvestment of
undistributed earnings of a subsidiary which
demonstrates that remittance of the earnings will be
postponed indefinitely. Significant judgment would
need to be exercised in determination of such a
period and would need to be considered based on
the individual facts and circumstances.
“
“
The converged
standard eliminates the
simplistic accounting
model for deferred taxation
in the consolidated
financial statements. Inter
company eliminations will
no longer be exempt from
deferred tax accounting
1514
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Operating SegmentsKey communication tool to shareholders
For entities that operate in a variety of classes of business,
geographical locations, regulatory or economic environments or
markets, segmental information is an essential management tool. It
enables management to monitor performance, allocate resources and
devise business and market strategies.
Determining reportable segments
International Accounting Standards Board how the entity is structured to reflect • Reduced comparability between entities
(IASB) published IFRS 8 ‘Operating the risks and opportunities that because entity-specific measures
Segments’ to replace IAS 14, “Segment management believe are important override ‘normal’ measurement
Reporting”, for annual periods beginning on requirements. But this risk may be • Ability to see segment information
or after 1 January 2009 with earlier offset by the comparability that should 'through the eyes of management'
application permitted. IFRS 8 achieves be gained from entity-wide disclosure enhances users' ability to predict
close convergence with the requirements requirements about products and actions or reactions of management
of the US Accounting Standard SFAS 131 services, geographical areas and major that can significantly affect the entity's
‘Disclosures about Segments of an customers, which have never been prospects for future cash flows
Enterprise and Related Information’. required
• Segment information is more consistent IFRS 8 sets out the requirements for • Potential to highlight sensitive
with information reported elsewhere in disclosure of information of the entity’s information to competitors as well as
the annual report, for example in a operating segments using the other users of financial statements.
management commentarymanagement approach, both in regards to There is no exemption from the
the identification of reportable segments disclosures on the grounds that • Incremental cost of producing segment and the measures disclosed for those management may consider the information is lower because it is based segments. The benefits of adopting segment information sensitive or that on the information already presented to management approach are: its disclosure may cause 'competitive management
harm’.• Consistency between what is reported However, there are some risks resulting
to users and what is reported internally from moving to a management approach to management, enabling users to see such as:
Step 1 - Identify the CODM The identification of the CODM in an entity made about how resources will be
with a complex organisational structure allocated so that other levels of The term CODM refers to a function, rather
might be difficult. Decisions about an management can execute those operating than to a specific title. The function of the
entity's overall resource allocation to the decisions. An entity cannot have more than CODM is to allocate resources to the
different components of the entity normally one CODM.operating segments of an entity and to
are made at the highest level of assess the operating segments The mere existence of an executive
management (e.g., CEO or COO). Certain performance. The CODM usually is the committee, management committee or
operating and resource allocation decisions highest level of management (e.g., CEO or other high-level committee does not
may be made by lower levels of COO), but the function of the CODM may necessarily mean that one of those
management when more detailed be performed by a group rather than by one committees constitutes the CODM.
disaggregated information is provided and person (e.g., board of directors, an
used. However, for the purpose of applying executive committee or a management
IFRS 8, the CODM will be the highest level committee).
of management at which decisions are
The process for determining operating segments and identifying which of those are
reportable separately is summarised in the flow chart below:
Identify the chief operating
decision maker (CODM)
Identify which component of the
businesses are operating
segments
Disclose segment information
using measures reported to
management and reconcile to
financial statements
Identify which operating
segments require separate
disclosure as reportable
segments
Provide entity-wide disclosures
16
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Operating SegmentsKey communication tool to shareholders
For entities that operate in a variety of classes of business,
geographical locations, regulatory or economic environments or
markets, segmental information is an essential management tool. It
enables management to monitor performance, allocate resources and
devise business and market strategies.
Determining reportable segments
International Accounting Standards Board how the entity is structured to reflect • Reduced comparability between entities
(IASB) published IFRS 8 ‘Operating the risks and opportunities that because entity-specific measures
Segments’ to replace IAS 14, “Segment management believe are important override ‘normal’ measurement
Reporting”, for annual periods beginning on requirements. But this risk may be • Ability to see segment information
or after 1 January 2009 with earlier offset by the comparability that should 'through the eyes of management'
application permitted. IFRS 8 achieves be gained from entity-wide disclosure enhances users' ability to predict
close convergence with the requirements requirements about products and actions or reactions of management
of the US Accounting Standard SFAS 131 services, geographical areas and major that can significantly affect the entity's
‘Disclosures about Segments of an customers, which have never been prospects for future cash flows
Enterprise and Related Information’. required
• Segment information is more consistent IFRS 8 sets out the requirements for • Potential to highlight sensitive
with information reported elsewhere in disclosure of information of the entity’s information to competitors as well as
the annual report, for example in a operating segments using the other users of financial statements.
management commentarymanagement approach, both in regards to There is no exemption from the
the identification of reportable segments disclosures on the grounds that • Incremental cost of producing segment and the measures disclosed for those management may consider the information is lower because it is based segments. The benefits of adopting segment information sensitive or that on the information already presented to management approach are: its disclosure may cause 'competitive management
harm’.• Consistency between what is reported However, there are some risks resulting
to users and what is reported internally from moving to a management approach to management, enabling users to see such as:
Step 1 - Identify the CODM The identification of the CODM in an entity made about how resources will be
with a complex organisational structure allocated so that other levels of The term CODM refers to a function, rather
might be difficult. Decisions about an management can execute those operating than to a specific title. The function of the
entity's overall resource allocation to the decisions. An entity cannot have more than CODM is to allocate resources to the
different components of the entity normally one CODM.operating segments of an entity and to
are made at the highest level of assess the operating segments The mere existence of an executive
management (e.g., CEO or COO). Certain performance. The CODM usually is the committee, management committee or
operating and resource allocation decisions highest level of management (e.g., CEO or other high-level committee does not
may be made by lower levels of COO), but the function of the CODM may necessarily mean that one of those
management when more detailed be performed by a group rather than by one committees constitutes the CODM.
disaggregated information is provided and person (e.g., board of directors, an
used. However, for the purpose of applying executive committee or a management
IFRS 8, the CODM will be the highest level committee).
of management at which decisions are
The process for determining operating segments and identifying which of those are
reportable separately is summarised in the flow chart below:
Identify the chief operating
decision maker (CODM)
Identify which component of the
businesses are operating
segments
Disclose segment information
using measures reported to
management and reconcile to
financial statements
Identify which operating
segments require separate
disclosure as reportable
segments
Provide entity-wide disclosures
16
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Start-up operations Despite lack of revenue, a start-up operation may qualify as an operating segment.
Corporate functions If the head office function undertakes treasury function and the revenue earned is more than
incidental to the activities of the entity then it may be treated as an operating segment.
However, if head office function undertakes finance and accounting, information technology and
human resource then it will not be an operating segment.
Components with outputs
transferred exclusively to other
segments
In case the component transfers all its output to another component without charging any
transfer price, it can be identified as operating segment, as long as the other criteria as specified
in Para 5 of IFRS 8 are met.
Research and development (R&D) An R&D activity or function may qualify as an operating segment if the R&D activity is not
incidental to the entity i.e. it is capable of earning external revenues from running projects for
external customers and sufficient and discrete financial information exist and is reviewed by the
CODM.
Interest in Joint Ventures (JV) In case of jointly controlled operations, if the CODM of the investor regularly reviews the results
and performance of the JV to decide the resources to be allocated to the JV and how to manage
the JV, then the JV can be identified as an operating segment.
Interest in associates In an associate, the investor does not control how the resources are used within that associate.
However, if the CODM of the investor reviews the operating results and performance of the
associate to assess whether to hold or sell the investment, it could be argued that this hold or
sell decision meets the resource allocation part of the definition of an operating segment.
Discontinued operations A discontinued operation can meet the definition of operating segment, if it continues to engage
in the business activities during the period it is classified as held for sale.
Post-employment benefit
schemes
These are specifically excluded from being identified as operating segments.
Step 2 - Identify which component of
businesses are operating segments
Consequently, the following components of
business may be identified as operating
segments if discrete financial information is IFRS 8 makes it clear that it is not
available and the operating results are necessary for a component of a business
regularly reviewed by the CODM.to actually earn revenues in order to be
identified as an operating segment. The
component merely needs to be capable of
earning revenue or incurring expenses
either currently or in the future.
A significant amount of judgement is Determine reportable segments combined reported profit of all operating
required when applying the aggregation segments that did not report a loss and IFRS 8 includes quantitative thresholds for
tests. The ability to demonstrate similar (ii) the combined reported loss of all determining the reportable segments.
economic characteristics might provide the operating segment that did report a lossEntity shall report separate information
biggest challenge to management when about an operating segment that meets (3) Assets are 10 percent or more of the
applying the aggregation provisions of IFRS any of the following criteria:combined assets of all operating
8. This is because of the analysis that often segment.(1) Reported revenue (including both sales will be necessary in evaluating economic
to external customers and inter similarity. In addition, in making this Entities must make sure that the total segment sales or transfer) is 10 percent evaluation, management needs to consider external revenue of the identified or more of the combined revenue, the logic for an operating segment being reportable segments constitutes 75 internal and external, of the combined reported separately to the CODM while at percent or more of total consolidated operating segmentthe same time believing that the operating revenue. If not, additional operating
segment is similar enough to be segments are required to be reported (2) The absolute amount of reported profit aggregated with other operating segments separately until at least 75 percent of total or loss is 10 percent or more of the for external financial reporting purposes. consolidated revenue is accounted for by greater, in absolute amount, of (i) the
the reportable segments.
Step 3 - Identify which operating
segments require separate disclosure as
reportable segments
(3) if they are similar in each of the following
respects:
- the nature of the production processes
Aggregate operating segment- the type or class of customer for their
Under IFRS 8, two or more operating products and services
segments may be aggregated into a single
operating segment when the operating - the methods used to distribute their
segments have characteristics so similar products or provide their services
that they can be expected to have - if applicable, the nature of the essentially the same future prospects.
regulatory environment, e.g., banking, Aggregation is permitted only if:insurance or public utilities.
(1) it is consistent with the core principle of
IFRS 8
(2) the segments have similar economic
characteristics
Reporting segment that do not
meet the reportable threshold
If the management believes that information about the segment(s) would be useful to users of
the financial statements, e.g. start up segment that is expected to exceed the threshold in the
future and make a significant contribution to the future success of the entity can be considered
as a separate reportable segment and disclosed.
Combining operating segment
that individually do not meet the
quantitative thresholds
Once the first stage aggregation has been completed and the reportable segments identified, an
entity has a limited further opportunity to aggregate some segments that are not individually
reportable.
An entity may combine information about operating segments that do not meet the quantitative
thresholds for reportable segments with information about other operating segments of the
same status if and only if the operating segments concerned have similar economic
characteristics and share a majority of the aggregation criteria. This new aggregation may be
used to identify additional reportable segments. As noted, for the purpose of combining
segments in these circumstances only a majority of the aggregation criteria need to be met. This
is slightly less restrictive than the first stage aggregation for which all the criteria must be met.
Combining a reportable segment
with a segment that does not
meet the quantitative thresholds
Not permissible unless aggregation is consistent with the core principles, the segments are
economically similar, and meet all of the aggregation criteria.
Combining reportable segment Generally, reportable segment cannot be combined. However, IFRS 8 states that there may be a
practical limit to the number of reportable segments that an entity separately discloses beyond
which segment information may become too detailed. In such a case aggregation may be
needed and only segments that meet the majority of the aggregation criteria can be aggregated.
Single customer satisfies
thresholds for a reportable
segment
Information may be separately reported to the CODM for the business conducted with a major
customer. If the customer qualifies as a reporting segment using the normal IFRS 8 criteria, then
the segment information for this customer should be separately disclosed. The identity of the
customer need not be given but the segment should be appropriately described
CODM is presented with more
than one measure for segment
profitability and/or assets
IFRS 8 does not explicitly state as to which measure of profitability or of assets should be used
for the purpose of the threshold test. However, using the management approach, it would seem
logical to use the measure most relied upon by the CODM for assessing performance and
deciding on the allocation of resources. If this does not give a clear answer, the measure that is
most consistent with the measurement principles used elsewhere in the entity's financial
statements should be used.
CODM uses different profitability
or asset measures for different
segments
In such circumstances management should determine a reasonable and consistent basis to
compare segments for the 10 percent result or asset test.
1918
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Start-up operations Despite lack of revenue, a start-up operation may qualify as an operating segment.
Corporate functions If the head office function undertakes treasury function and the revenue earned is more than
incidental to the activities of the entity then it may be treated as an operating segment.
However, if head office function undertakes finance and accounting, information technology and
human resource then it will not be an operating segment.
Components with outputs
transferred exclusively to other
segments
In case the component transfers all its output to another component without charging any
transfer price, it can be identified as operating segment, as long as the other criteria as specified
in Para 5 of IFRS 8 are met.
Research and development (R&D) An R&D activity or function may qualify as an operating segment if the R&D activity is not
incidental to the entity i.e. it is capable of earning external revenues from running projects for
external customers and sufficient and discrete financial information exist and is reviewed by the
CODM.
Interest in Joint Ventures (JV) In case of jointly controlled operations, if the CODM of the investor regularly reviews the results
and performance of the JV to decide the resources to be allocated to the JV and how to manage
the JV, then the JV can be identified as an operating segment.
Interest in associates In an associate, the investor does not control how the resources are used within that associate.
However, if the CODM of the investor reviews the operating results and performance of the
associate to assess whether to hold or sell the investment, it could be argued that this hold or
sell decision meets the resource allocation part of the definition of an operating segment.
Discontinued operations A discontinued operation can meet the definition of operating segment, if it continues to engage
in the business activities during the period it is classified as held for sale.
Post-employment benefit
schemes
These are specifically excluded from being identified as operating segments.
Step 2 - Identify which component of
businesses are operating segments
Consequently, the following components of
business may be identified as operating
segments if discrete financial information is IFRS 8 makes it clear that it is not
available and the operating results are necessary for a component of a business
regularly reviewed by the CODM.to actually earn revenues in order to be
identified as an operating segment. The
component merely needs to be capable of
earning revenue or incurring expenses
either currently or in the future.
A significant amount of judgement is Determine reportable segments combined reported profit of all operating
required when applying the aggregation segments that did not report a loss and IFRS 8 includes quantitative thresholds for
tests. The ability to demonstrate similar (ii) the combined reported loss of all determining the reportable segments.
economic characteristics might provide the operating segment that did report a lossEntity shall report separate information
biggest challenge to management when about an operating segment that meets (3) Assets are 10 percent or more of the
applying the aggregation provisions of IFRS any of the following criteria:combined assets of all operating
8. This is because of the analysis that often segment.(1) Reported revenue (including both sales will be necessary in evaluating economic
to external customers and inter similarity. In addition, in making this Entities must make sure that the total segment sales or transfer) is 10 percent evaluation, management needs to consider external revenue of the identified or more of the combined revenue, the logic for an operating segment being reportable segments constitutes 75 internal and external, of the combined reported separately to the CODM while at percent or more of total consolidated operating segmentthe same time believing that the operating revenue. If not, additional operating
segment is similar enough to be segments are required to be reported (2) The absolute amount of reported profit aggregated with other operating segments separately until at least 75 percent of total or loss is 10 percent or more of the for external financial reporting purposes. consolidated revenue is accounted for by greater, in absolute amount, of (i) the
the reportable segments.
Step 3 - Identify which operating
segments require separate disclosure as
reportable segments
(3) if they are similar in each of the following
respects:
- the nature of the production processes
Aggregate operating segment- the type or class of customer for their
Under IFRS 8, two or more operating products and services
segments may be aggregated into a single
operating segment when the operating - the methods used to distribute their
segments have characteristics so similar products or provide their services
that they can be expected to have - if applicable, the nature of the essentially the same future prospects.
regulatory environment, e.g., banking, Aggregation is permitted only if:insurance or public utilities.
(1) it is consistent with the core principle of
IFRS 8
(2) the segments have similar economic
characteristics
Reporting segment that do not
meet the reportable threshold
If the management believes that information about the segment(s) would be useful to users of
the financial statements, e.g. start up segment that is expected to exceed the threshold in the
future and make a significant contribution to the future success of the entity can be considered
as a separate reportable segment and disclosed.
Combining operating segment
that individually do not meet the
quantitative thresholds
Once the first stage aggregation has been completed and the reportable segments identified, an
entity has a limited further opportunity to aggregate some segments that are not individually
reportable.
An entity may combine information about operating segments that do not meet the quantitative
thresholds for reportable segments with information about other operating segments of the
same status if and only if the operating segments concerned have similar economic
characteristics and share a majority of the aggregation criteria. This new aggregation may be
used to identify additional reportable segments. As noted, for the purpose of combining
segments in these circumstances only a majority of the aggregation criteria need to be met. This
is slightly less restrictive than the first stage aggregation for which all the criteria must be met.
Combining a reportable segment
with a segment that does not
meet the quantitative thresholds
Not permissible unless aggregation is consistent with the core principles, the segments are
economically similar, and meet all of the aggregation criteria.
Combining reportable segment Generally, reportable segment cannot be combined. However, IFRS 8 states that there may be a
practical limit to the number of reportable segments that an entity separately discloses beyond
which segment information may become too detailed. In such a case aggregation may be
needed and only segments that meet the majority of the aggregation criteria can be aggregated.
Single customer satisfies
thresholds for a reportable
segment
Information may be separately reported to the CODM for the business conducted with a major
customer. If the customer qualifies as a reporting segment using the normal IFRS 8 criteria, then
the segment information for this customer should be separately disclosed. The identity of the
customer need not be given but the segment should be appropriately described
CODM is presented with more
than one measure for segment
profitability and/or assets
IFRS 8 does not explicitly state as to which measure of profitability or of assets should be used
for the purpose of the threshold test. However, using the management approach, it would seem
logical to use the measure most relied upon by the CODM for assessing performance and
deciding on the allocation of resources. If this does not give a clear answer, the measure that is
most consistent with the measurement principles used elsewhere in the entity's financial
statements should be used.
CODM uses different profitability
or asset measures for different
segments
In such circumstances management should determine a reasonable and consistent basis to
compare segments for the 10 percent result or asset test.
1918
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Step 4 - Disclose segment information (c) the total of the reportable segment included in the measure of segment
assets to the entity's assets profit or loss, but the entity's financial Once the reportable segments have been
statements reflect only actual interest determined, specific components of (d) the total of the reportable segment
expense)segment assets, segment liabilities and liabilities to the entity's liabilities
segment operating results are required to (c) amounts reported by the entity in the (e) the total of the reportable segment
be disclosed if they are reported to the group's financial statements for amount for every other material item of
CODM. The amount of each segment item consolidated revenue, consolidated information disclosed to the
disclosed may be determined using profit or loss before income tax, or corresponding amount for the entity.
accounting policies different from those consolidated assets that do not qualify
applied in the financial statements. for inclusion in the ‘all other’ category of Reconciling items usually will result from the segment disclosure (e.g., corporate the following:
IFRS 8 requires reconciliations of:headquarters are unlikely to meet the
(a) different accounting policies used to (a) the total of the reportable segment definition of an operating segment and
determine amounts reported by the revenues to the entity's revenue therefore would not be included in ‘all
operating segment compared to the other’ category)
(b) the total of the reportable segment accounting policies used to prepare the
measures of profit or loss to the entity's entity's financial statements (e.g., FIFO (d) elimination and consolidation profit or loss before tax expense (tax inventory costing for the segment adjustments.income) and discontinued operations. compared to weighted average
However, if an entity allocates to inventory costing for the group)
reportable segment items such as tax (b) allocation methods (e.g., a cost of
expense (tax income), the entity may capital is computed by corporate
reconcile the total of the segments headquarters and charged to each
measures of profit or loss to the entity's operating segment, the amount is
profit or loss after those items
Step 5 – Entity-wide disclosure included already in the segment
disclosures. Additionally, in our view, entity-Entity-wide disclosures about products and
wide disclosures are required only for services, geographical areas and major
annual reporting periods.customers for the entity as a whole are
required, regardless of whether the The entity-wide disclosures should be
information is used by the CODM in based on the same financial information
assessing segment performance. Those that is used to produce the entity's
disclosures apply to all entities subject to financial statements (i.e., not based on the
IFRS 8, including entities that have only management approach). Accordingly, the
one reportable segment. However, revenue reported for these disclosures
information required by the entity-wide should agree to the entity's total revenue.
disclosures need not be presented if it is
Currency in which to report
segment information
Segment information sometimes is reported internally, for use by the CODM, in a currency that
is different from the presentation currency used in the entity's financial statements. In our view,
it would be more useful to the users if segment information is disclosed using the same
presentation currency as the entity's financial statements, even if a different currency is used for
internal management reporting.
Changes in segment measures An entity might change its internal reporting structure such that the segment measures provided
to, and used by, the CODM for purposes of assessing performance and making resource
allocation decisions are different from the segment measures previously provided and used.
IFRS 8 does not explicitly require the entity to restate segment information for previous periods,
including interim periods, for changes in segment measures. To enhance comparability with other
periods presented, when a change in segment measure occurs, the entity could either:
• restate segment information for previous periods, including interim periods, using the new
segment measure
• quantify and disclose the effects of the change in segment measure in the current period and
all future periods until all periods presented use the new segment measure
Restatement of previously
reported information
Operating segments
Segment information for earlier periods, including interim periods, is required to be restated to
conform to the current year presentation in the following circumstances:
• the year of adoption of IFRS 8
• changes in the composition of operating segments
• changes in reportable operating segments.
Entity-wide disclosures
IFRS 8 does not provide guidance on whether prior year amounts in entity-wide disclosures need
to be restated if there is a change in the current year. In our view, the prior year information
should be restated, if practicable, so that the disclosures from year to year are comparable.
“ “
Operating
segment disclosures
provide a bird's eye
view of the information
and communication
process surrounding the
resource allocation
within an enterprise
2120
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Step 4 - Disclose segment information (c) the total of the reportable segment included in the measure of segment
assets to the entity's assets profit or loss, but the entity's financial Once the reportable segments have been
statements reflect only actual interest determined, specific components of (d) the total of the reportable segment
expense)segment assets, segment liabilities and liabilities to the entity's liabilities
segment operating results are required to (c) amounts reported by the entity in the (e) the total of the reportable segment
be disclosed if they are reported to the group's financial statements for amount for every other material item of
CODM. The amount of each segment item consolidated revenue, consolidated information disclosed to the
disclosed may be determined using profit or loss before income tax, or corresponding amount for the entity.
accounting policies different from those consolidated assets that do not qualify
applied in the financial statements. for inclusion in the ‘all other’ category of Reconciling items usually will result from the segment disclosure (e.g., corporate the following:
IFRS 8 requires reconciliations of:headquarters are unlikely to meet the
(a) different accounting policies used to (a) the total of the reportable segment definition of an operating segment and
determine amounts reported by the revenues to the entity's revenue therefore would not be included in ‘all
operating segment compared to the other’ category)
(b) the total of the reportable segment accounting policies used to prepare the
measures of profit or loss to the entity's entity's financial statements (e.g., FIFO (d) elimination and consolidation profit or loss before tax expense (tax inventory costing for the segment adjustments.income) and discontinued operations. compared to weighted average
However, if an entity allocates to inventory costing for the group)
reportable segment items such as tax (b) allocation methods (e.g., a cost of
expense (tax income), the entity may capital is computed by corporate
reconcile the total of the segments headquarters and charged to each
measures of profit or loss to the entity's operating segment, the amount is
profit or loss after those items
Step 5 – Entity-wide disclosure included already in the segment
disclosures. Additionally, in our view, entity-Entity-wide disclosures about products and
wide disclosures are required only for services, geographical areas and major
annual reporting periods.customers for the entity as a whole are
required, regardless of whether the The entity-wide disclosures should be
information is used by the CODM in based on the same financial information
assessing segment performance. Those that is used to produce the entity's
disclosures apply to all entities subject to financial statements (i.e., not based on the
IFRS 8, including entities that have only management approach). Accordingly, the
one reportable segment. However, revenue reported for these disclosures
information required by the entity-wide should agree to the entity's total revenue.
disclosures need not be presented if it is
Currency in which to report
segment information
Segment information sometimes is reported internally, for use by the CODM, in a currency that
is different from the presentation currency used in the entity's financial statements. In our view,
it would be more useful to the users if segment information is disclosed using the same
presentation currency as the entity's financial statements, even if a different currency is used for
internal management reporting.
Changes in segment measures An entity might change its internal reporting structure such that the segment measures provided
to, and used by, the CODM for purposes of assessing performance and making resource
allocation decisions are different from the segment measures previously provided and used.
IFRS 8 does not explicitly require the entity to restate segment information for previous periods,
including interim periods, for changes in segment measures. To enhance comparability with other
periods presented, when a change in segment measure occurs, the entity could either:
• restate segment information for previous periods, including interim periods, using the new
segment measure
• quantify and disclose the effects of the change in segment measure in the current period and
all future periods until all periods presented use the new segment measure
Restatement of previously
reported information
Operating segments
Segment information for earlier periods, including interim periods, is required to be restated to
conform to the current year presentation in the following circumstances:
• the year of adoption of IFRS 8
• changes in the composition of operating segments
• changes in reportable operating segments.
Entity-wide disclosures
IFRS 8 does not provide guidance on whether prior year amounts in entity-wide disclosures need
to be restated if there is a change in the current year. In our view, the prior year information
should be restated, if practicable, so that the disclosures from year to year are comparable.
“ “
Operating
segment disclosures
provide a bird's eye
view of the information
and communication
process surrounding the
resource allocation
within an enterprise
2120
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Summary of major differences between IFRS 8 and AS 17
(Indian GAAP)
Summary of major differences between IFRS 8 and SFAS 131
As part of the convergence programme between IASB and FASB, an attempt has been made to harmonise the two accounting frameworks
(i.e. IFRS and US GAAP). However certain differences still continue conceptually and in practical implementation.
Summary of the major differences between IFRS 8 and IAS 14
Difference IFRS 8 SFAS 131
‘Non-current assets’ versus ‘long-lived assets’
‘Non-current assets’ under IFRSs include intangible assets, therefore they are required to be disclosed if regularly provided to and / or considered by the CODM.
‘Long-lived assets’ implies hard assets that cannot be readily removed, which would appear not to include intangible assets; therefore there is no explicit requirement to disclose intangible assets.
Segment liabilities Segment liabilities are disclosed if regularly provided to and / or considered by the CODM.
No requirement to disclose segment liabilities.
Entities with a matrix form of organisation Operating segments are determined based on the core principle of IFRS 8.
Operating segments are determined based on products and services.
Extraordinary items The concept of extraordinary items was eliminated from IFRSs in 2003.
Extraordinary items are required to be disclosed, if regularly provided to and / or considered by the CODM.
Difference IFRS 8 IAS 14
Reporting segments • Identification of segment based on the manner in which the management views the business - Management approach
• Includes components of entity that sell primarily or exclusively to other components
• Identification of segment based on industry types and geographical areas expected to have differing risk and rewards - Risk and reward approach• Includes those that earn majority of its revenues from sales to external customers
Measurement Measures reported to management Measures used in the financial statements
Disclosure Requires disclosure on an entity-wide basis even in case of entity with a single reportable segment
Requires disclosure of secondary segment information for either industry or geographical segments, to supplement the information given for the primary segment
Difference IFRS 8 AS 17
Reporting segments Identification of segment based on the manner in which the management views the business - Management approach
AS 17 requires entity to identify two sets of segments (business and geographical), using a risk and rewards approach, with the enterprises system of internal financial reporting to key management personnel serving as the starting point for the identification of such segments.
Measurement Measures used while reporting to management
Measures used in the financial statements
Disclosure Requires disclosure on an entity-wide basis even in case of entity with a single reportable segment
Requires disclosure based on classification of segments as primary or secondary. Disclosure requirements for secondary reporting format are less detailed than those required in primary reporting formats.
IFRS 8 warrants a word of caution -
those who regard it as ‘just’ a
disclosure standard may
underestimate the effort needed to
make it part of a coherent set of
financial statements. This standard
requires judgements that are
critical to shaping the disclosures,
in particular, when to aggregate
units into a single ‘reportable’
segment - and when not to. One
must be careful not to
underestimate the thoughts and
efforts required to comply with
IFRS 8.
Conclusion
23
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Summary of major differences between IFRS 8 and AS 17
(Indian GAAP)
Summary of major differences between IFRS 8 and SFAS 131
As part of the convergence programme between IASB and FASB, an attempt has been made to harmonise the two accounting frameworks
(i.e. IFRS and US GAAP). However certain differences still continue conceptually and in practical implementation.
Summary of the major differences between IFRS 8 and IAS 14
Difference IFRS 8 SFAS 131
‘Non-current assets’ versus ‘long-lived assets’
‘Non-current assets’ under IFRSs include intangible assets, therefore they are required to be disclosed if regularly provided to and / or considered by the CODM.
‘Long-lived assets’ implies hard assets that cannot be readily removed, which would appear not to include intangible assets; therefore there is no explicit requirement to disclose intangible assets.
Segment liabilities Segment liabilities are disclosed if regularly provided to and / or considered by the CODM.
No requirement to disclose segment liabilities.
Entities with a matrix form of organisation Operating segments are determined based on the core principle of IFRS 8.
Operating segments are determined based on products and services.
Extraordinary items The concept of extraordinary items was eliminated from IFRSs in 2003.
Extraordinary items are required to be disclosed, if regularly provided to and / or considered by the CODM.
Difference IFRS 8 IAS 14
Reporting segments • Identification of segment based on the manner in which the management views the business - Management approach
• Includes components of entity that sell primarily or exclusively to other components
• Identification of segment based on industry types and geographical areas expected to have differing risk and rewards - Risk and reward approach• Includes those that earn majority of its revenues from sales to external customers
Measurement Measures reported to management Measures used in the financial statements
Disclosure Requires disclosure on an entity-wide basis even in case of entity with a single reportable segment
Requires disclosure of secondary segment information for either industry or geographical segments, to supplement the information given for the primary segment
Difference IFRS 8 AS 17
Reporting segments Identification of segment based on the manner in which the management views the business - Management approach
AS 17 requires entity to identify two sets of segments (business and geographical), using a risk and rewards approach, with the enterprises system of internal financial reporting to key management personnel serving as the starting point for the identification of such segments.
Measurement Measures used while reporting to management
Measures used in the financial statements
Disclosure Requires disclosure on an entity-wide basis even in case of entity with a single reportable segment
Requires disclosure based on classification of segments as primary or secondary. Disclosure requirements for secondary reporting format are less detailed than those required in primary reporting formats.
IFRS 8 warrants a word of caution -
those who regard it as ‘just’ a
disclosure standard may
underestimate the effort needed to
make it part of a coherent set of
financial statements. This standard
requires judgements that are
critical to shaping the disclosures,
in particular, when to aggregate
units into a single ‘reportable’
segment - and when not to. One
must be careful not to
underestimate the thoughts and
efforts required to comply with
IFRS 8.
Conclusion
23
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
directors of the company, any The plant had been constructed by the The committee is of the view that such
management control or other details company under build-own-operate scheme expenditure cannot be said to be
which may be required to be disclosed (‘BOO scheme’). Therefore, in the view of attributable to bringing the plant to its
and which may be a potential conflict of the committee, the provisions related to working condition for its intended use as it
interest for the media group, should self-constructed assets would apply in the is not attributable to the construction
also be mandatorily disclosed. present case (based on interpretation form activity or is in the nature of price
Para 20 read with Para 21 of AS 10 adjustment to the cost of a fixed asset the
Accounting for Fixed Assets). liquidated damages payable cannot be
treated as deferred revenue expenditure to The Committee noted that paragraph 10.1
be amortised over a period of three to five of AS 10 Accounting for Fixed Assets
years after commencement of commercial provides that in arriving at the gross book
production. The committee is of the view value of self-constructed fixed assets, the
that the liquidated damages are more in Summarised below is the opinion given by same principles apply as those described in
the nature of a penalty resulting from non-the Expert Advisor Committee (‘the paragraphs 9.1 to 9.5. The Committee is of
fulfillment of the terms of the agreement, Committee’ or ‘the EAC’) of the Institute. the view that paragraph 9.1 is relevant to
in this case, the target date of the case under consideration which states,
commencement of gas supply. Liquidated “The cost of an item of fixed asset
damages are more in the nature of comprises its purchase price, including
compensation for loss of revenue on import duties and other non-refundable
account of non-supply of gas by the taxes or levies and any directly attributable
company. Accordingly, such expenditure cost of bringing the asset to its working
cannot be capitalised and should be condition for its intended use; any trade
The querist had sought the opinion of the expensed by way of charge to the profit discounts and rebates are deducted in
committee as to whether the amount to be and loss account as no future benefit is arriving at the purchase price. Examples of
paid by the company on account of expected from the same.directly attributable costs are:
liquidated damages due to delay in
commencement of supply of gases to the (I) site preparationcustomer consequent upon delay in
(ii) initial delivery and handling costsbringing their plant to its working condition
on the appointed target commencement (iii) installation cost, such as special
date, be capitalised as an additional cost foundations for plant
attributable to the project. If the liquidated
damages are not allowed to be capitalised (iv) professional fees, for example fees of
whether it can be treated as deferred architects and engineers.
revenue expenditure (amortised over a The cost of a fixed asset may undergo
period of three to five years after the changes subsequent to its acquisition or
commencement of commercial construction on account of exchange
production).fluctuations, price adjustments, changes in
duties or similar factors”
(source: Press release no: PR/3/10-11-PCI issued
by Press Council of India dated 2 August, 2010)
Expert Advisory Committee
(‘EAC’) Opinion
Treatment of liquidated damages
payable for delay in the
commissioning of plant (ICAI
Journal September 2010)
Review of norms for
investment and
disclosure by Mutual
Funds in derivatives
• Exposure due to hedging positions may disclosures on hedging positions
not be included in the above mentioned undertaken through futures, options and
limits subject to certain conditions as swaps, etc.
mentioned in the circular
• Mutual Funds may enter into plain
vanilla interest rate swaps for hedging
purposes. The counter party in such In order to have prudential limits for
transactions has to be an entity derivative investments by mutual funds and
recognised as a market maker by the to bring in transparency and clarity in the
RBI. Further, the value of the notional related disclosure to investors, SEBI vide
principal in such cases must not exceed In view of media groups entering into circular dated 18 August 2010 has modified the value of respective existing assets ‘private treaties’ with listed companies or the norms for investment by mutual funds being hedged by the scheme. Exposure companies coming out with a public offer, in derivatives and its dislosure.to a single counterparty in such SEBI had made recommendations to the
The revised norms come into force with transactions should not exceed 10 Press Council of India regarding disclosure effect from 1 October 2010 for all existing percent of the net assets of the by the media group of its stake in corporate mutual fund schemes and will also be schemes sector.This is probably the first time a applicable to all new mutual fund schemes fiduciary duty has been cast on 'public
• Exposure due to derivative positions launched after 18 August 2010. media', to curb any potential conflicts of
taken for hedging purposes in excess of interest and protect the right to information As per the Circular the key changes in the underlying position against which for the consumer. The Press Council of exposure limits are as follows: the hedging position has been taken, India vide a press release dated 2 August
shall be treated under the limits • The cumulative gross exposure through 2010 has issued the following guidelines:
mentioned for the total exposure equity, debt and derivative positions
related to the option premium. • Disclosures regarding the stake held by should not exceed 100 percent of the the media company should be made in net assets of the schemethe news report/article/editorial in
• Mutual Funds shall not write options or newspapers/television relating to the
The manner of disclosure of derivatives purchase instruments with embedded company in which the media group
position in half yearly portfolio disclosure written options holds such stake
reports has not been specified in the SEBI • The total exposure related to option • Disclosure on the percentage of stake (Mutual Funds) Regulations, 1996 and the
premium paid must not exceed 20 held by media groups in various disclosures being currently made are not percent of the net assets of the companies under such 'private treaties' uniform across the industry. In order to scheme on the website of media groups should ensure uniformity in disclosure of
be madeinvestments in derivative instruments by • Cash or cash equivalents with residual Mutual Funds in various periodic reports maturity of less than 91 days may be • Any other disclosures relating to such (e.g. half yearly / annual), the circular has treated as not creating any exposure agreements such as any nominee of prescribed certain detailed disclosure
the media group on the board of requirements. These include specific
Mandatory disclosures by the
media of its stake in the corporate
sector
Disclosures
(source: Circular No. Cir/IMD/DF/11/2010 issued
by SEBI, dated 18 August, 2010)
Regulatory Updates
2524
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
directors of the company, any The plant had been constructed by the The committee is of the view that such
management control or other details company under build-own-operate scheme expenditure cannot be said to be
which may be required to be disclosed (‘BOO scheme’). Therefore, in the view of attributable to bringing the plant to its
and which may be a potential conflict of the committee, the provisions related to working condition for its intended use as it
interest for the media group, should self-constructed assets would apply in the is not attributable to the construction
also be mandatorily disclosed. present case (based on interpretation form activity or is in the nature of price
Para 20 read with Para 21 of AS 10 adjustment to the cost of a fixed asset the
Accounting for Fixed Assets). liquidated damages payable cannot be
treated as deferred revenue expenditure to The Committee noted that paragraph 10.1
be amortised over a period of three to five of AS 10 Accounting for Fixed Assets
years after commencement of commercial provides that in arriving at the gross book
production. The committee is of the view value of self-constructed fixed assets, the
that the liquidated damages are more in Summarised below is the opinion given by same principles apply as those described in
the nature of a penalty resulting from non-the Expert Advisor Committee (‘the paragraphs 9.1 to 9.5. The Committee is of
fulfillment of the terms of the agreement, Committee’ or ‘the EAC’) of the Institute. the view that paragraph 9.1 is relevant to
in this case, the target date of the case under consideration which states,
commencement of gas supply. Liquidated “The cost of an item of fixed asset
damages are more in the nature of comprises its purchase price, including
compensation for loss of revenue on import duties and other non-refundable
account of non-supply of gas by the taxes or levies and any directly attributable
company. Accordingly, such expenditure cost of bringing the asset to its working
cannot be capitalised and should be condition for its intended use; any trade
The querist had sought the opinion of the expensed by way of charge to the profit discounts and rebates are deducted in
committee as to whether the amount to be and loss account as no future benefit is arriving at the purchase price. Examples of
paid by the company on account of expected from the same.directly attributable costs are:
liquidated damages due to delay in
commencement of supply of gases to the (I) site preparationcustomer consequent upon delay in
(ii) initial delivery and handling costsbringing their plant to its working condition
on the appointed target commencement (iii) installation cost, such as special
date, be capitalised as an additional cost foundations for plant
attributable to the project. If the liquidated
damages are not allowed to be capitalised (iv) professional fees, for example fees of
whether it can be treated as deferred architects and engineers.
revenue expenditure (amortised over a The cost of a fixed asset may undergo
period of three to five years after the changes subsequent to its acquisition or
commencement of commercial construction on account of exchange
production).fluctuations, price adjustments, changes in
duties or similar factors”
(source: Press release no: PR/3/10-11-PCI issued
by Press Council of India dated 2 August, 2010)
Expert Advisory Committee
(‘EAC’) Opinion
Treatment of liquidated damages
payable for delay in the
commissioning of plant (ICAI
Journal September 2010)
Review of norms for
investment and
disclosure by Mutual
Funds in derivatives
• Exposure due to hedging positions may disclosures on hedging positions
not be included in the above mentioned undertaken through futures, options and
limits subject to certain conditions as swaps, etc.
mentioned in the circular
• Mutual Funds may enter into plain
vanilla interest rate swaps for hedging
purposes. The counter party in such In order to have prudential limits for
transactions has to be an entity derivative investments by mutual funds and
recognised as a market maker by the to bring in transparency and clarity in the
RBI. Further, the value of the notional related disclosure to investors, SEBI vide
principal in such cases must not exceed In view of media groups entering into circular dated 18 August 2010 has modified the value of respective existing assets ‘private treaties’ with listed companies or the norms for investment by mutual funds being hedged by the scheme. Exposure companies coming out with a public offer, in derivatives and its dislosure.to a single counterparty in such SEBI had made recommendations to the
The revised norms come into force with transactions should not exceed 10 Press Council of India regarding disclosure effect from 1 October 2010 for all existing percent of the net assets of the by the media group of its stake in corporate mutual fund schemes and will also be schemes sector.This is probably the first time a applicable to all new mutual fund schemes fiduciary duty has been cast on 'public
• Exposure due to derivative positions launched after 18 August 2010. media', to curb any potential conflicts of
taken for hedging purposes in excess of interest and protect the right to information As per the Circular the key changes in the underlying position against which for the consumer. The Press Council of exposure limits are as follows: the hedging position has been taken, India vide a press release dated 2 August
shall be treated under the limits • The cumulative gross exposure through 2010 has issued the following guidelines:
mentioned for the total exposure equity, debt and derivative positions
related to the option premium. • Disclosures regarding the stake held by should not exceed 100 percent of the the media company should be made in net assets of the schemethe news report/article/editorial in
• Mutual Funds shall not write options or newspapers/television relating to the
The manner of disclosure of derivatives purchase instruments with embedded company in which the media group
position in half yearly portfolio disclosure written options holds such stake
reports has not been specified in the SEBI • The total exposure related to option • Disclosure on the percentage of stake (Mutual Funds) Regulations, 1996 and the
premium paid must not exceed 20 held by media groups in various disclosures being currently made are not percent of the net assets of the companies under such 'private treaties' uniform across the industry. In order to scheme on the website of media groups should ensure uniformity in disclosure of
be madeinvestments in derivative instruments by • Cash or cash equivalents with residual Mutual Funds in various periodic reports maturity of less than 91 days may be • Any other disclosures relating to such (e.g. half yearly / annual), the circular has treated as not creating any exposure agreements such as any nominee of prescribed certain detailed disclosure
the media group on the board of requirements. These include specific
Mandatory disclosures by the
media of its stake in the corporate
sector
Disclosures
(source: Circular No. Cir/IMD/DF/11/2010 issued
by SEBI, dated 18 August, 2010)
Regulatory Updates
2524
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
© 2010 KPMG, an Indian Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG
International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
The information contained herein is of a general nature and is not intended to address the circumstances of any particular
individual or entity. Although we endeavor to provide accurate and timely information, there can be no guarantee that
such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one
should act on such information without appropriate professional advice after a thorough examination of the particular
situation.
© 2010 KPMG, an Indian Partnership and a member
firm of the KPMG network of independent member
firms affiliated with KPMG International Cooperative
(“KPMG International”), a Swiss entity. All rights
reserved.
KPMG and the KPMG logo are registered trademarks
of KPMG International Cooperative (“KPMG
International”), a Swiss entity.
Printed in India
kpmg.com/in
ACCOUNTINGAND AUDITINGUPDATEOctober 2010
