Published On - Jan 22, 2024
Disclosure of accounting policy information – Material updates
Disclosure of accounting policy information – Material updates
On 31 March 2023, the Ministry of Corporate Affairs (MCA) notified the Companies (Indian Accounting Standards) Amendment Rules, 2023, whereby amendments have been notified to __ Ind AS including Ind AS 1 Presentation of Financial Statements. In particular, the amendments to Ind AS 1 aim to help entities in providing accounting policy disclosures that are more useful by:
- Replacing the requirement for entities to disclose their ‘significant accounting policies’ with a requirement to disclose their ‘material accounting policy information’, and
- Adding guidance on how entities apply the concept of materiality in making decisions about accounting policy disclosures.
These amendments to Ind AS are aligned to similar amendments in IAS 1. The amendments are applicable for annual periods beginning on or after 1 April 2023. In this Article, we provide an overview of the amendments and related application guidance.
Replacement of the term ‘significant’ with ‘material’
Ind AS 1 previously required the disclosure of significant accounting policies comprising the measurement basis (or bases) used in preparing the financial statements and the other accounting policies used that are relevant to an understanding of the financial statements.
Now, according to the revised Ind AS 1, material accounting policy information needs to be disclosed. ‘Material’ is a defined term in Ind AS and is commonly understood by the users of financial statements.
How we see it
In assessing the materiality of accounting policy information, both quantitative and qualitative aspects need to be considered.
Guidance in applying the materiality definition
As per the amended Ind AS 1, “Accounting policy information is material if, when considered together with other information included in an entity’s financial statements, it can reasonably be expected to influence decisions that the primary users of general-purpose financial statements make on the basis of those financial statements.” In our view, accounting policy information would rarely be assessed as material when considered in isolation, since accounting policy information on its own is unlikely to influence the decisions primary users make based on the financial statements. However, accounting policy information could be material when considered together with other information in the financial statements. We believe that to apply new requirement, an entity will need to first identify material accounting policies. After identification, the entity will need to determine information requiring disclosure under each policy.
Identification of material accounting policy information
To assess whether accounting policy information is material, an entity needs to consider whether primary users of the entity’s financial statements need that information to understand other material information in the financial statements. This assessment involves the use of judgement and requires consideration of both qualitative and quantitative factors.
Quantitative factors
In assessing whether information is quantitatively material, an entity considers not only the size of the impact that it recognizes in its primary financial statements, but also any unrecognized items that could ultimately affect primary users’ overall perception of the entity’s financial position, financial performance and cash flows (e.g., contingent liabilities or contingent assets).
Qualitative factors
Qualitative factors are characteristics of an entity’s transactions, other events or conditions, or of their context, that, if present, make information more likely to influence the decisions of the primary users of the entity’s financial statements. While it will not necessarily make information material, the presence of qualitative factors is likely to increase the primary users’ interest in that information. An entity considers both entity-specific and external qualitative factors.
Entity-specific qualitative factors include the involvement of related parties, uncommon or non-standard features in transactions, other events or conditions, and unexpected variations or changes in trends. External qualitative factors include geographical locations, industry sector, and the state of the economy in which the entity operates. Sometimes, the absence of an external qualitative factor is relevant. For example, if the entity is not exposed to a certain risk to which many other entities in its industry are exposed, information about that lack of exposure could be material information.
In the Ind AS 1 amendment, specific guidance has been added to help entities determine when accounting policy information is material and, therefore, needs to be disclosed. Refer below diagram illustrating how entities incorporate different factors in materiality assessment.
The first step in the diagram considers whether the related transaction, other event or condition is material due to its size, nature, or a combination of both (in the current or comparative period) before assessing the materiality of the accounting policy information. If the related transaction, other event or condition is immaterial, the accounting policy information is also immaterial and does not need to be disclosed.
Although a transaction, other event, or condition to which the accounting policy information relates could be material, it does not necessarily mean that the corresponding accounting policy information is also material to the entity’s financial statements. In assessing the materiality of the accounting policy information, an entity considers the list of indicators as stated below:
1. A choice of accounting policy is permitted by the Ind AS: Where an Ind AS provides preparers with an accounting policy choice on how to account for a material class of transactions, other events or conditions (e.g., Ind AS 16 Property, Plant and Equipment provides entities option to measure property, plant and equipment using either historical cost or revaluation model), the disclosure of accounting policy information indicating the choice selected by the entity is normally material. This is because a primary user would require the information to understand the other material information provided about the related amounts and balances in the financial statements.
2. An entity develops an accounting policy in accordance with Ind AS 8, Accounting Policies, Changes in Accounting Estimates and Errors in the absence of an Ind AS specifically applies. Since an accounting policy developed under Ind AS 8 is, by nature, not a policy prescribed by Ind AS accounting standard, a primary user normally needs further information about the chosen policy in order to understand the related accounting impacts.
3. It is needed to provide context for a change of accounting policy that had a material effect on the information in the financial statements. If an entity has changed an accounting policy, in the current reporting period, that resulted in a material change to the information in the financial statements, the related accounting policy information is normally material as it provides the context a primary user would likely need to understand the other material information in the financial statements (e.g., under Ind AS 8.28-29) related to the impact of the change. This information could be easier to access if disclosed along with the change in accounting policy information rather than separately in the general accounting policies disclosures.
4. It is needed to provide a context to significant judgements and estimates which are disclosed under Ind AS 1. Accounting policy information that relates to areas for which the entity is disclosing significant judgements or estimates (e.g., under Ind AS 1.122 and Ind AS 1.125) are more likely to be required in order for a primary user to understand the other material information in the financial statements as these provide context to the significant judgements and estimates being made. However, the fact that an entity discloses significant judgements and estimates does not automatically mean that the related accounting policy information is also material. In some instances, this accounting policy information is most useful if presented with the significant estimate disclosure, rather than in a separate accounting policy information note.
5 The required accounting (recognition, measurement, presentation, disclosure) is complex and users would otherwise not understand the material transaction, other event, or condition (e.g., when more than one Inc AS is applied). Although entity-specific accounting policies information is generally more useful, but in case the accounting is complex, the disclosure of standardized accounting policy information could also be material. This is the case since primary users are less likely to understand the complex accounting treatment without being provided with the standardized information in the same context.
6. There are other qualitative factors that make the accounting policy information material (e.g., entity-specific facts require the application of the accounting policy in some entities, but not others. For example, an entity could act as a principal in some classes of transactions and as an agent in other similar transactions depending on whether it controls the goods or services before transferring them to the customer or not. In such instances, in addition to the disclosures about significant judgements (see above), a primary user could require accounting policy information explaining the two situations and the accounting policy differences to understand the related information in the financial statements.
Determination of information requiring disclosure for material accounting policies
The amended standard highlights that accounting policy information which explains how an entity has applied the requirements of Ind AS to its own circumstances, provides entity-specific information that is generally more useful to users than standardized information which simply repeats what the applicable Ind AS generally requires. The entity-specific accounting policy information is particularly useful when it relates to an area where the entity has exercised judgement, e.g., when an entity applies an Ind AS accounting standard differently from similar entities in the same industry. Tailoring accounting policy information is particularly relevant when judgement is applied.
Disclosure of standardized information
Entities often disclose information describing how they have applied the requirements of a specific standard and provide “standardized information, or information that only duplicates or summarizes the requirements of the Ind AS” sometimes referred to as ‘boilerplate disclosures.’ Generally, such information is less useful to users than entity-specific accounting policy information. However, in some circumstances, standardized accounting policy information could be needed for users to understand other material information in the financial statements. In those situations, standardized accounting policy information is material, and must be disclosed. Give below are examples where standardized information can also be relevant:
The information is necessary for the users to understand other material information provided in the financial statements.
The users of the financial statements are in a jurisdiction outside India who may not be familiar with Ind AS requirements.
Complex accounting is required by Ind AS and the standardized information is needed to understand the accounting (e.g., where more than one Ind AS is applied).
Disclosure of immaterial accounting policy information
The amended Ind AS 1 requires that if an entity decides to disclose accounting policy information that is not material, it needs to ensure that immaterial information does not obscure material information. For example, an entity could obscure material accounting policy information by giving the immaterial accounting policy information more prominence or presenting immaterial information with material information such that the reader is unable to distinguish the two.
How we see it
While the amended Ind AS 1 implicitly acknowledges that disclosure of immaterial accounting policy information could be acceptable, it is clear that entities must ensure that such immaterial information does not obscure material accounting policy information.
Immaterial accounting policy information could be removed from the accounting policies disclosures (or relocated) to avoid obscuring material accounting policy information.
For illustrative purposes, the section below explains certain consideration which may be relevant for changes in the accounting policy information:
|
Existing policy |
Updated policy |
Points Considered |
|
Revenue from contract with customer Revenue from sale of equipment is recognized at the point in time when
control of the asset is transferred to the customer, generally on delivery of
the equipment. The normal credit term is 30 to 90 days upon delivery.
The entity considers whether there are other promises in the contract
that are separate performance obligations to which a portion of the
transaction price needs to be allocated (e.g., warranties, customer loyalty
points). In determining the transaction price for the sale of equipment, the
Group considers the effects of variable consideration, the existence of
significant financing components, (if any). |
Revenue from sale of equipment is recognized at the point in time when
control of the asset is transferred to the customer, generally on delivery of
the equipment at the customer premise. The normal credit term is 30 to 90
days from the delivery date. Warranty obligations The Group typically provides warranties for general repairs of defects
that existed at the time of sale, as required by law. These assurance-type
warranties are accounted for as warranty provisions. Refer to the accounting
policy on warranty provisions in section xx Provisions. The Group also provides a warranty beyond fixing defects that existed at
the time of sale. These service-type warranties are sold either separately or
bundled together with the sale of fire prevention equipment. Contracts for
bundled sales of equipment and service-type warranty comprise two performance
obligations because the equipment and service-type warranty are both sold on
a stand-alone basis and are distinct within the context of the contract.
Using the relative stand-alone selling price method, a portion of the
transaction price is allocated to the service-type warranty and recognized as
a contract liability. Revenue for
service-type warranties is recognized over the period In which the service is
provided based on the time elapsed. Rights of return A majority of sales contract generally provide customer a right to
return an item for a limited period of time. Returned goods are exchanged
only for new goods and no cash refunds are allowed. Revenue is recognized
when goods are delivered at the customer's premise and have been accepted by
the customer. For contracts permitting the customer to return an item,
revenue is recognized to the extent that it is highly probable that a
significant reversal in the amount of cumulative revenue recognized will not
occur. Thus, the amount of revenue recognized is adjusted for expected
returns, which are estimated based on
the historical data for a specific type of customer, equipment, area, etc. In
these circumstances, a refund liability and a right to receive returned goods
(and corresponding adjustment to cost of sales) are recognized. The entity
measures right to receive returned goods at the carrying amount of the
inventory sold less any expected costs to recover goods. The refund liability
and return assets (right to receive returned goods) is presented separately
on the face of the Balance Sheet. The Group reviews its estimate of expected
returns at each reporting date and updates the amounts of the asset and
liability accordingly.
|
Management revises its accounting policy to include more entity specific
details related to : ·
Warranty obligations ·
Right of return
|
|
Contract assets Contract assets represent entity’s right to consideration in exchange
for goods or services transferred to the customer such that right is
conditional on events ad circumstances other than the passage of time.
Contract assets are subject to impairment requirements of Ind AS 109
Financial Instruments.
|
A contract asset is initially recognized for revenue earned from
installation services because the receipt of consideration is conditional on
successful completion of the installation. Upon completion of the
installation and acceptance by the customer, the amount recognized as
contract assets is reclassified to trade receivables. Contract assets are subject to impairment assessment. Refer to
accounting policies on impairment of financial assets in section XX
Financial instruments – initial recognition and subsequent measurement.
|
The existing policy on contract assets primarily summarizes requirements
of Ind AS 115 and does not cover entity specific aspects. These aspects are
more clearly highlighted in the revised policy.
|
|
Leases – Entity as a lessor Finance leases, which effectively transfer to the company substantially
all the risks and benefits incidental to ownership of the leased item, are
capitalized at the inception of the lease term at the lower of the fair value
of the leased property and present value of minimum lease payments. Lease
payments are apportioned between the finance charges and reduction of the
lease liability so as to achieve a constant rate of interest on the remaining
balance of the liability. Finance charges are recognized as finance costs in
the statement of profit and loss. Lease management fees, legal charges and
other initial direct costs of lease are capitalized. A leased asset is depreciated on a straight-line basis over the useful
life of the asset. However, if there is no reasonable certainty that the
company will obtain the ownership by the end of the lease term, the
capitalized asset is depreciated on a straight-line basis over the shorter of
the estimated useful life of the asset or the lease term. Leases, where the lessor effectively retains substantially all the risks
and benefits of ownership of the leased item, are classified as operating
leases. Operating lease payments are recognized as an expense in the
statement of profit and loss on a straight-line basis over the lease term. |
Policy deleted |
· Amounts in the financial statements for leasing
activities where the entity is acting as a lessor are immaterial · There was no change in accounting policy during the
year · The accounting policy described earlier was merely
summarizing Ind AS 116 requirement, and · Leasing transactions entered by the entity are
relatively simple and there are no entity specific aspects requiring
explanation in policy
Please note: Whilst entity has deleted leases accounting policy, it may
still be required to give disclosures required by Ind AS 116 in notes.
|
Current versus non-current
classification
The Entity presents
assets and liabilities in the balance sheet based on current/ non-current
classification. An asset is treated as current when it is:
► Expected to be realised or intended to be sold or consumed in normal
operating cycle, ► Held primarily for the purpose of trading, ► Expected to be realised within twelve months after the reporting period,
or ► Cash or cash equivalent unless restricted from being exchanged or used
to settle a liability for at least twelve months after the reporting period.
All other assets are classified as
non-current.
A liability is current when: ► It is expected to be settled in normal operating cycle ► It is held primarily for the purpose of trading ► It is due to be settled within twelve months after the reporting period,
or ► There is no unconditional right to defer the settlement of the liability
for at least twelve months after the reporting period
The terms of the liability that could,
at the option of the counterparty, result in its settlement by the issue of
equity instruments do not affect its classification.
The Group classifies all other
liabilities as non-current.
Deferred tax assets and liabilities
are classified as non-current assets and liabilities.
The operating cycle is the time
between the acquisition of assets for processing and their realization in
cash and cash equivalents. The group has identified twelve months as its
operating cycle.
|
Based on the time involved
between the acquisition of assets for processing and their realization in
cash and cash equivalents, the group has identified twelve months as its
operating cycle for determining current and non-current classification of
assets and liabilities in the balance sheet. |
The requirement of current
versus non-current primarily repeat the requirements of Ind-AS 1
Presentation of Financial Statements and Schedule III to the Companies
Act, 2013 (as amended). Hence, they may not represent material accounting
policy information. However, the duration of the operating cycle may vary
based on industry in which the entity operates and, therefore, is considered
material accounting policy information. |
Way forward
The replacement of ‘significant’ with ‘material’ accounting policy information in Ind AS 1 and the corresponding new guidance in Ind AS 1 may impact the accounting policy disclosures of entities. Determining whether accounting policies are material or not requires greater use of judgement. Therefore, entities are encouraged to revisit their accounting policy information disclosures to ensure consistency with the amended standard.
The use of boilerplate disclosures for accounting policy information has been observed in practice. Entities should carefully consider whether “standardized information, or information that only duplicates or summarizes the requirements of the Ind AS” is material information and, if not, whether it should be removed from the accounting policies disclosures to enhance the usefulness of the financial statements.
Entities should appreciate that drafting tailor made policies and taking a decision on which policies not to disclose on grounds of materiality would need extensive time and effort. Also, these tailor-made policies may end up disclosing information which earlier was not explicitly mentioned. Companies in competing industries would also end up reading these policies in finer detail, which obligates the right level of management attention to this exercise.
