4.1. Amendments to published Standards and Interpretations as adopted by the EU that are effective from 1 January 2016
Changes IN IAS 1 Presentation of the financial statements
The amendments to IAS 1 clarify that materiality applies to both the primary financial statements and the explanatory notes and show that only material information needs to be presented. A similar position was presented in ESMA documents with regard to disclosures for financial statements. The Group reviewed the financial statements paying attention to materiality and the reasonableness of the disclosure of information, and immaterial disclosures were not presented even if they constituted part of the requirement of a given standard. Selected items of the income statement or the statement of financial position were also aggregated to make the financial statements more useful. Furthermore, the presentation of financial data in millions of Polish zlotys (PLN) with one place after the decimal point was introduced in place of the presentation in thousands of Polish zlotys used so far. In addition, to ensure a better understanding of the financial statements for the user, the accounting policies as well as major estimates and assessments were presented in the notes to the individual items of the income statement and the statement of financial position.
Other amendments to standards and annual improvements
The remaining amendments to published standards and interpretations, i.e. to IAS 16, 19, 28, 38 and IFRS 10, 11 and 12 and IFRS Improvements 2010-2012 and 2012-2014, which came into force on 1 January 2016 did not affect the financial statements.
4.2. New standards, interpretations and amendments to published standards, that were published and adopted by the EU, but did not come into force yet and were not introduced by the Group
The Management Board does not expect the adoption of the new standards, their changes and interpretations to have a significant impact on the accounting policies applied by the Group with the exception of IFRS 9. The Group intends to apply them in the periods indicated in the relevant standards and interpretations (without early adoption), provided adoption by the EU.
IFRS 9 Financial instruments
IFRS 9 Financial Instruments was published in July 2014 and endorsed for application in the EU Member States on 22 November 2016 by Commission Regulation (EU) 2016/2067. It is mandatory for financial statements prepared for the financial years starting on or after 1 January 2018 (with the exception of insurance companies, which may apply the standard from 1 January 2021). The standard replaces IAS 39 Financial Instruments: Recognition and Measurement. The amendments cover the classification and measurement of financial instruments, recognition and calculation of impairment and hedge accounting.
Classification and measurement:
IFRS 9 defines 3 measurement categories of financial instruments:
- amortized cost calculated using the effective interest rate method (hereinafter ‘amortized cost’);
- fair value through other comprehensive income (hereinafter ‘FVOCI’); and
- fair value through profit or loss (hereinafter ‘FVP&L’).
The above corresponds to the measurement methods known from IAS 39, but the principles of classifying items to the individual categories are completely different.
In the case of debt instruments, classification of financial assets is based on the entity’s business model and the characteristics of cash flows generated by those assets.
The business model test determines whether a given instrument is maintained to obtain contractual cash flows or to realize fair value changes before the maturity date. There are three groups distinguished within the business model: ‘hold to collect’, ‘hold to collect and sell’ and ‘sell’.
The test of the cash flow characteristics establishes whether contractual cash flows are solely payments of principal and interest defined as consideration for the time value of money and risks related to the value of the exposure in a given period (hereinafter ‘SPPI’).
If both these tests are satisfied, debt assets are classified as measured at amortized cost, with the exception of the possibility of classifying to FVP&L the instruments in case of which such measurement eliminates the accounting mismatch in the measurement method.
The standard introduced a new measurement category of fair value through other comprehensive income (FVOCI) which will include debt instruments used under a business model assuming both obtaining contractual cash flows and selling financial assets. The condition is that the SPPI test must be satisfied. In the case of FVOCI measurement, all fair value changes are recognized in other comprehensive income. Whereas, changes related to impairment, interest income and foreign exchange differences are recognised in profit or loss.
If debt financial assets do not satisfy any of the above-mentioned criteria, they are classified and measured as FVP&L.
Classification of financial instruments is performed as at the moment of first-time adoption of IFRS 9, i.e. as at 1 January 2018 and at the moment of initial recognition of an instrument. Changes in the classification are only possible in case of a significant change of the business model and should occur very rarely.
In the case of equity instruments, instruments as held for trading are classified as FVP&L, and in the case of the remaining instruments, the Bank is able to elect to either classify and measure them as FVP&L or as FVOCI. In the case of FVOCI, the entity recognises fair value changes in other comprehensive income, with the exception of dividends, impairment losses, accrued interest or foreign exchange differences – which are recognised in profit or loss. Fair value changes thus recognised in other comprehensive income would never be transferred to profit or loss which makes a difference compared to similar measurement of available-for-sale financial assets (AFS) under current IAS 39. Although the valuation changes may be transferred between the categories of equity.
Financial liabilities are measured according to the former provisions of IAS 39, with the exception of the obligation to recognise in other comprehensive income a part of the fair value measurement arising from changes in own credit risk – in the case of financial liabilities to which the fair value option was applied.
In 2016, the Group in cooperation with an external advisor executed the first stage of the preparation for implementing the standard. Work performed in the area of classification and measurement comprised identifying changes in accounting policies introduced by IFRS 9, initial assessment of business models for the individual asset categories and initial assessment of the products in terms of cash flow characteristics.
The analysis performed with regard to classification and measurement comprised aspects such as verifying the lending products in terms of the cash flow characteristic test (SPPI test), verifying the adopted business models and performing a simulation of the effect of implementing IFRS 9 in the form of a transposition matrix presenting the change in classification of financial instruments taking into account the effect on the Group’s financial statements.
The analyses performed led to the following conclusions:
- The most significant potential change in the classification may concern the portfolio of cash loans with an embedded financial leverage mechanism, i.e. loans with clauses of automatic interest rate change by the multiple of a change in the reference rate which, failing the SPPI test, may be classified for measurement at fair value. The question of measurement of such instruments in the context of the provisions of IFRS 9 is being discussed on the market, and as of today no unified position has been reached on the market;
- The potential change in the classification may also concern the measurement at FVOCI of the portfolio of housing loans which will be subject to sale to PKO Bank Hipoteczny as part of the so-called pooling. Such classification will be maintained for the purpose of preparing the Bank’s standalone financial statements. From the perspective of the consolidated financial statements, the adjustment will not apply because the loans subject to pooling will meet the business model criterion of ‘hold to collect’ within the Group;
Other adjustments (the fair value measurement of reverse-repo/buy-sell-back transactions, split of the liquidity portfolio) will not have a material impact on the Group’s financial statements;
IFRS 9 distinguishes a new asset category – POCI (purchased or originated credit impaired), i.e. impaired assets acquired or originated, which will be measured using the effective interest rate taking into account credit risk throughout the lifetime of the instrument. The triggers for classification as POCI include: acquisition of an impaired portfolio, granting a loan to a non-performing entity, and a significant change in the lending terms for impaired loans.
A fundamental change in the area of impairment is that IAS 39 is based on the concept of incurred losses, whereas IFRS 9 is based on the concept of expected losses.
In line with the general principle, impairment will be measured as 12-month expected credit losses or lifetime expected credit losses. The measurement basis will depend on whether credit risk increased significantly from the moment of initial recognition. Loans will be allocated to 3 categories (stages):
Not impaired portfolio (IBNR according to IAS 39)
Stage 1 (assets with low credit risk) - 12-month expected credit losses
Stage 2 (increase in credit risk) - lifetime expected credit losses
Impaired loans (the portfolio includes purchased or originated credit-impaired assets – POCI)- lifetime expected credit losses
The Group identifies the evidence of a significant increase in risk based on the comparison of the probability curves over the life of an exposure as at the date of initial recognition and as at the reporting date. For each reporting date, only the parts of the original and current insolvency probability curves which correspond to the period starting from the reporting date to the maturity of the exposure are compared. The comparison is based on the value of the average probability of default in the analysed period, adjusted for the current and forecasted macroeconomic ratios.
In order to identify other evidence of a significant increase in credit risk, the Group makes use of the full quantitative and qualitative information available, including:
restructuring measures involving granting concessions to the debtor due to its financial difficulties – forbearance;
- a delay in repayments of more than 30 days;
- early warning signals identified as part of the monitoring process, indicating an increase in credit risk;
- a dispute in progress with a customer;
- an assessment by an analyst as part of the individualized analysis process;
- no credit risk assessment available for an exposure as at the date of initial recognition, preventing the Group from assessing whether credit risk has increased.
- The loss expected both during the life of an exposure and in a 12-month period is the total of the losses expected in the individual periods, discounted using the effective interest rate. The Group assumes one month to be the base period. In order to properly recognise an asset as at the default date in a given period, the Group adjusts the parameter which determines the amount of the exposure as at the default date for future repayments.
As regards the portfolio analysis, the impact of macroeconomic scenarios is included in the levels of the individual parameters. In determining the methodology of calculation of the individual risk parameters, the Group examines the dependence of the levels of these parameters on macroeconomic conditions based on historical data. For calculating an expected loss, similarly to the case of identification of the evidence of a significant increase in risk, macroeconomic scenarios are used. The ultimate expected loss is the average of losses expected in the individual scenarios, weighted with the probability of the scenarios occurring. The Group ensures the consistency of the macroeconomic scenarios used for calculating risk parameters with the macroeconomic scenarios used in credit risk budgeting processes.
At the time of initial recognition, all loans are recognised in stage 1, excluding the POCI portfolio.
In 2016, in cooperation with an external advisor, the Group completed the first stage of the preparations for the implementation of the standard, i.e. the gap analysis. The work performed with regard to impairment comprised: the identification of the evidence of a significant increase in credit risk, methodology of building models estimating an expected loss over a 12-month period as well as over the lifetime of an exposure, methodology of building models which make an expected loss dependent on the current and forecasted macroeconomic conditions, and the concepts of recognition of interest income in the gross carrying value of an exposure.
IFRS 9 increases the range of items that can be designated as hedged items, as well as allows designating as a hedging instrument financial assets or liabilities measured at fair value through profit or loss. The obligation of retrospective measurement of hedge effectiveness together with previously applicable threshold of 80%-125% were eliminated (the condition to the application of hedge accounting is the economic relationship between the hedging instrument and the hedged item). In addition, the scope of required disclosures regarding risk management strategies, cash flows arising from hedging transactions and the impact of hedge accounting on the financial statements was extended.
Due to the fact that the standard is still being worked on to introduce amendments relating to accounting for macro hedges, entities have a choice of applying hedge accounting provisions: entities can either continue to apply IAS 39 or apply the new IFRS 9 standard with the exception of fair value macro hedges relating to interest rate risk.
In 2016, the Group in cooperation with an external advisor conducted a gap analysis of the requirements.
Currently, the Group has not yet decided whether it will apply the new standard, or continue to apply the provisions of IAS 39.
Disclosures and comparative data
In the Group’s opinion, the application of IFRS 9 requires making considerable changes to the manner of presentation and the scope of disclosures concerning the area of financial instruments, including in the first year of its application, when extensive information about the opening balance and restatements made is required. The Group intends to use the IFRS 9 provisions which exempt entities from the obligation to restate the comparative data for the prior periods with regard to changes resulting from classification and measurement as well as impairment. Differences in the carrying amounts of financial assets and liabilities resulting from the application of IFRS 9 will be recognised in undistributed profits/accumulated losses, in equity as at 1 January 2018.
As described above, in 2016 the ‘IFRS 9 Gap analysis’ project was conducted, which comprised a business analysis of gaps in the preparation of the Group for the implementation of IFRS 9. The project was split into two areas: 1) classification and measurement, including hedge accounting and reporting and tax issues, and 2) impairment. The first area was managed by the Accounting Division, and the second by the Risk Division. Additionally, the Bank established a Steering Committee whose task was to take key decisions and control the conduct of the project. The Steering Committee comprised the Directors of the Accounting Division, Risk Division and the following Departments: Credit Risk, Accounting and Reporting, Management Information and Development of Transactional Applications. The Steering Committee was supported by the Project Sponsors: the Vice-President of the Management Board responsible for Risk Management and the Vice-President of the Management Board responsible for Finance and Accounting. Apart from the accounting and reporting area, tax and risk area employees, the business, settlements and IT department employees were also involved in the project. Additionally, representatives of PKO Bank Hipoteczny (accounting and risk area) participated in the project.
In 2017, the second stage of the project will be carried out, aimed at implementing the changes resulting from IFRS 9. Similarly as in the first stage, which covers gap analysis, it will be divided into two cooperating areas: 1) classification and measurement, including hedge accounting and reporting and tax issues, and 2) impairment. The second stage of the project will cover, i.a.:
- developing the optimum solutions in IT systems, and their implementation;
- determining business models and developing new business processes, including in the areas of: SPPI tests, benchmark tests and modifications of cash flows;
- amendments to the Bank’s internal regulations;
- calculating opening balance adjustments (as at 1 January 2018) resulting from implementing IFRS 9, including those which will be recognised in the Bank’s equity as at 1 January 2018.
The completion of implementing changes in respect of IFRS 9 is planned for Q4 2017.
Quantification of the impact of IFRS 9 on the financial position and equity
Due to the methodological work in progress, mainly in respect of the area of impairment, the lack of a developed position in the banking market on cash loans with embedded financial leverage, and the lack of information on the directions of change in tax regulations (including mainly the recognition of deferred tax due to impairment allowances on loan exposures) in the Group’s opinion, presentation of preliminary quantitative data would not increase the informational value of the financial statements for the readers. Taking the above into consideration, the Group presented qualitative information which enables assessing the impact of IFRS 9 on the Group’s financial position and equity management.
The Group assumes that the introduction of a new impairment model based on the concept of expected loss and, as a result, the early recognition of a loss will have an impact, in particular, on the amount of impairment allowances on the exposures classified into stage 2. As regards the impact of IFRS 9 on capital requirements, according to the draft CRRII / CRD V published on 23 November 2016, the Group will have the right to temporarily include an additional component of own funds in Tier 1, relating to the implementation of IFRS 9. The aim of the additional component of own funds is to take into account gradually (i.e. over 5 years, on a straight line basis at 20% p.a.) the impact of a significant increase in allowances on the equity level. The additional component of own funds would be calculated as the difference in the amount of allowances in respect of an expected credit loss over the life of an exposure and an expected 12-month credit loss for loans with a significant increase in credit risk. According to the draft CRRII, the Group will have the right to recognise 100% of this difference as a component of own funds in 2018, in 2019 it will be possible to recognise 80% of this value; in the following years, it will be 60%, 40% and 20% respectively. The entire drop in own funds resulting from the horizon for calculating allowances being changed from the loss identification period (the LIP parameter) to 12 months will already be included in the calculation of capital adequacy as at the moment of implementation of IFRS 9. A quantitative assessment of the impact of changes in impairment on financial statements is not yet available mainly due to the work currently in progress, related to the implementation of the assumptions made on the project on gap analysis in credit risk models.
In addition, in the case of classification of the portfolio of cash loans with an embedded financial leverage mechanism into the portfolio measured at fair value through profit or loss, as at 1 January 2018 the Group will recognise an adjustment in respect of fair value measurement, which will be recognised in the income statement in future periods. Similarly, in the case of the portfolio of mortgage loans subject to pooling the Group will measure this portfolio at fair value, considering the result of this adjustment will be recognised in other comprehensive income.
IFRS 15 Revenue from contracts with customers
IFRS 15 replaces IAS 11 Construction contracts, IAS 18 Revenue, IFRIC 13 Customer Loyalty Programmes, IFRIC 15 Agreements for the construction of real estate, IFRIC 18 Transfers of Assets from Customers, SIC 31 Revenue – barter transactions involving advertising services.
Main principle is to recognize revenue in such way as to reflect the transaction transfer of goods or services in the amount that reflects the value of remuneration, which the company expects in exchange for those goods or services. For the purpose of recognizing revenue at the appropriate moment and amount, the standard presents five-level analysis model, consisting of: the identification of an agreement with a customer and binding commitment, the determination of transaction price, its appropriate allocation and the recognition of revenue when the obligation is met.
Taking into consideration the structure of the Group and the share of non-financial entities in the Group, it is assessed that the impact on the Group financial statements should not be material.
4.3. New standards and interpretations and amendments, which have been published but not yet approved by the European Union
IFRS 16 Leases
Application date of IFRS 16 is 1 January 2019. The new standard will replace the current IAS 17, Leases. Under the new standard lessee are obliged to recognise the right to use the asset and liabilities (the obligation to pay for that right, that is, financing) in the balance sheet for all lease contracts (and not as so far). The exceptions are short-term lease agreements with a term of up to 12 months and lease contracts for assets of minor value. In the Group’s opinion, the new standard will not have a significant impact on the consolidated financial statements of the Group.
IAS 7 statement of cash flows
Application date of amendments to IAS 7 is 1 January 2017. The amendments have been introduced to improve the quality of disclosures in the financial statements and are related to the requirement of making disclosures enabling the users of the financial statements to assess changes in liabilities arising from financial activity, including changes arising from both cash and non-cash flows. The amendments will be of presentation nature.
- Amendments to IAS 12 clarify the recognition of deferred tax assets in connection with debt instruments measured at fair value. Amendments to IFRS 10 and IAS 28 concern the sale or contribution of assets between an investor and its joint venture or associate. The Group does not expect the impact of the amendments to IAS 12, IAS 28 and IFRS 10 to be material. The impact of the amendments to IFRS 4 (connected with IFRS 9) on the insurance activities within the Group has not yet been estimated.
- Amendments to IAS 40 and improvements to IFRS 2014-2016 (IFRS 1, IAS 28) will have no impact on the financial statements of the Group.