The Hindu Business Line : Derivatives: ‘ICAI should advance the implementation of AS-30’

The recent direction of the Institute of Chartered Accountants of India (ICAI), requiring companies to provide for losses arising from measurement of derivatives at market value, has left many questions unanswered. At least, that’s what experts feel. Furthermore, companies are less likely to want to adopt accounting rules that require higher disclosure, or the application of which results in presentation of lower profit or assets.

Should the ICAI have made the disclosure norm compulsory immediately, instead of adopting a ‘go-soft’ stance?

But as questions fly thick and fast, there is little by way of clarifications coming. “I am confused about one issue. Why AS-30, ‘Financial Instruments: Recognition and Measurement,’ should be made recommendatory from April 1, 2009 and mandatory from April 1, 2011? And then what does it mean to encourage companies to adopt the accounting standard earlier than the stipulated dates,” asks Mr Asish K. Bhattacharyya, Professor of Finance and Control, Indian Institute of Management - Calcutta.

In an e-mail interaction with Business Line, the educator, and former Technical Director of the ICAI, shares his opinion on the matter and why its is ‘perplexing’ that a gap of two years is allowed between the date when the AS-30 will be recommendatory and the date when it will be mandatory.

Excerpts.

Your first take on the derivatives issue and the ensuing regulations by ICAI…

The decision of the ICAI requiring companies to provide for losses arising from measurement of derivatives at market value is welcome. But the context is unfortunate.

But the context was inevitable with media reports raising hue and cry. Was it not?

From the media report it appears that banks could sell exotic foreign exchange derivatives to companies in SME (small and medium enterprise) sectors without explaining the downside risks associated with those transactions.

With the weakening of the dollar against major currencies, the companies, which entered into such contracts, have suffered losses. At this time the losses are notional on open contracts. But they may crystallise in future.

Is India Inc falling behind in best practices, in this regard?

Corporate best practice requires disclosure of the exposure of the company through such derivative contracts and the kind of risk management system that is installed in the company.

Media reports that many companies are feeling cheated by banks.

This provides evidence that those companies have neither the expertise nor the system to understand the full financial implications of those contracts.

This also brings out the fact that India is yet to build capabilities in handling complex financial instruments. However, this episode should not slow down the liberalisation of the financial market. Rather, India should build those capabilities fast. The Government, ICAI, business schools and other institutes offering specialised courses in finance have a huge responsibility to train managers.

You were talking about some confusion. Tell us about the same.

I am confused about one issue. Why the AS-30 should be made recommendatory from April 1, 2009 and mandatory from April 1, 2011? And then what does it mean to encourage companies to adopt the accounting standard earlier than the stipulated dates. If the financial market and economy is developing fast the development of new accounting rules should not lag behind.

But could it be otherwise, given the problems in enacting a rule right away?

Delay in formulation and implementation of new rules is a disservice to investors and other stakeholders. It may be argued that it is necessary to allow sufficient time to understand complex accounting rules and to build capabilities for their implementation. But this argument is not tenable.

The present episode shows that with globalisation, financial innovations in developed countries find their way to emerging markets quickly without waiting for capability building.

Therefore, it does not make sense to delay implementation of rules for appropriate accounting for such innovative and complex transactions.

So, that means, the gap could have been avoided?

It is perplexing that a gap of two years is allowed between the date when the AS-30 will be recommendatory and the date when it will be mandatory.

After all, IAS-39 (the International Accounting Standard, on which AS-30 is based) has been with us for quite some time, and we all knew that the Indian GAAP would be benchmarked with IAS-39. Companies that planned to enter into derivative contracts must have understood the accounting rules stipulated in IAS-39. Therefore, the time gap is unwarranted.

Everything said and done, what is the immediate thing that the ICAI should do?

The encouragement clause in the accounting standard is a mere rhetoric. Companies do not want to adopt accounting rules that require higher disclosure or the application of which results in presentation of lower profit or assets.

The next logical step for ICAI will be to bring forward the date for the implementation of AS-30. Let the capital market not suffer from uncertainties as to the risk exposure of companies listed in stock exchanges.

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