Financial Instruments And The Banking Crisis

Many commentators have suggested that the current approach to the fair value measurement of financial instruments has had a destabilising effect on some entities. Furthermore, a significant number of commentators have raised concerns that financial statements under the existing standards do not provide enough transparency, particularly when it comes to complex financial instruments and fair values. As a consequence the International Accounting Standards Board (IASB) is taking a number of steps to address the accounting requirements for financial instruments.

Improving financial instrument disclosures

'Improving disclosures about financial instruments – amendments to IFRS 7 Financial Instruments: Disclosures' has been issued in response to the concerns about transparency of financial instrument disclosures. The main aim of the amendments is to enable the user of financial statements to have a better understanding of the measurements and judgements that underpin the fair values of financial instruments in the accounts.

The revised version of IFRS 7 will require entities to analyse their financial instruments held at fair value across a three level hierarchy.

Level 1 – fair values are measured using quoted prices. Level 2 – fair values are measured using inputs that are derived from observable market data. Level 3 – fair values are measured using inputs that are not based on observable market data. Instruments will be categorised based on the lowest level of input that is significant to their fair value.

The entity will also have to disclose how the financial instruments in the statement of financial position (the new term for balance sheet) are spread across the three levels and give information about the fair value gains and losses that relate to each of those levels.

The amendments also affect the disclosure of liquidity risk. There are new rules clarifying how, and if, derivatives should be disclosed as part of the contractual maturity analysis already required by the standard. In addition, there are required disclosures about any uncertainties in the timing or amount of cash flows shown in the contractual maturity analysis. Also, under the revised standard, entities should provide, where appropriate, a maturity analysis for financial assets that are used to manage liquidity risk.

The effective date of these amendments is for annual periods beginning on or after 1 January 2009. In the first year of application, comparative disclosures will...