10 TH European IFRS power and utilities roundtable

Transcription

1 10 TH European IFRS power and utilities roundtable Victor Chan, Partner, EY 29 November 2016

2 European IFRS Power and Utilities roundtable IFRS 16 Leases: the journey so far November 2016

3 Agenda Overview Definition of a lease Variable lease payments and discount rate Transition Practical considerations Page 3

4 Overview Key changes primarily affecting lessees Recognise assets and liabilities for most leases New presentation and disclosure requirements Lessors Accounting substantially the same New standard will be effective for annual periods beginning on or after 1 January 2019 with limited early adoption permitted Page 4

5 Agenda Overview Definition of a lease Variable lease payments and discount rate Transition Practical considerations Page 5

6 Definition of a lease There is an identified asset (consider substitution rights) Lease The contract conveys the right to control the use of the identified asset for a period of time in exchange for consideration Could the last mile of a network be an identified asset? Page 6

7 Definition of a lease (cont.) Right to control the use of the identified asset Right to obtain substantially all of the economic benefits AND Right to direct the use Customer has the right to direct how and for what purpose the asset is used: Can change how and for what purpose. For example, what the asset is used for, when it is used, whether it is used and how much it is used. OR Relevant decisions about how and for what purpose the asset is used are predetermined, AND The customer has the right to operate the asset without the supplier having the right to change those operating instructions. OR The customer designed the asset in a way that predetermines how and for what purpose the asset is used. Page 7

8 Definition of a lease: portions of assets A capacity portion of an asset is an identified asset if it is physically distinct Example: a floor of a building The capacity portion of an asset is not an identified asset unless it represents substantially all the capacity of the entire asset Example: contract for a portion of the capacity of a power plant Page 8

9 Definition of a lease: illustrative example fact pattern A utility company (Customer) enters into a contract with a power company (Supplier) to purchase all of the electricity produced by its wind farm for five years. Supplier Customer Designed and constructed the wind farm Has no substitution rights Operates and maintains the wind farm and retains certain rights to protect its interest Cannot determine or change the amount of output during the contract Will pay a fixed capacity charge and a variable charge based on actual production Question: Does the arrangement contain a lease? Page 9

10 Definition of a lease: illustrative example analysis and conclusion The wind farm is an identified asset as it is explicitly identified and Supplier has no substitution rights Customer has the right to obtain substantially all the economic benefits as it has the right to 100% of the ouput However, Customer does not have the right to direct how and for what purpose the asset is used The decisions about how and for what purpose the asset is used are predetermined The supplier operates the asset Conclusion: the arrangement does not contain a lease Page 10

11 Definition of a lease: illustrative example additional consideration How would the analysis be affected by the following individually? Customer is getting less than substantially all of the capacity output Supplier may deliver energy from any power plant or purchase from any third party Customer determines (i.e., changes) the amount of output during the contract Customer designed the asset in a way that pre-determined how and for what purpose the asset is used Customer operates the asset Customer pays a fixed amount per unit of output for the arrangement The analysis is sensitive to facts and circumstances Page 11

12 Agenda Overview Definition of a lease Variable lease payments and discount rate Transition Practical considerations Page 12

13 Measurement of lease liability by a lessee Determine LEASE TERM Non-cancellable period Extension options Termination options Reasonably certain assessment Identify LEASE PAYMENTS Fixed payments during the lease term Including in-substance fixed payments Less lease incentives receivable Variable lease payments Based on an index or a rate Residual value guarantee amount expected to be payable by the lessee Exercise price of purchase options (if included) Termination penalties (if included) Apply DISCOUNT RATE Rate implicit in the lease, if readily determinable Otherwise, incremental borrowing rate Page 13

14 Variable lease payments Variable lease payments that depend on an index or rate are: Included in lease payments at the commencement date Measured using the index or rate at that date Remeasured when there is a change in the cash flows Variable lease payments that do not depend on index or rate are: Not included in lease payments at the commencement date Recognised in profit or loss in the period in which the event which triggers the payment occurs Example: payments based on usage of the asset Lease payments based on the actual solar power plant output considered variable as sunshine could be fairly predictable? Page 14

15 Discount rate for a lessee Lease payments are discounted using: Interest rate implicit in lease, if readily determinable Otherwise use lessee s incremental borrowing rate Lessee s incremental borrowing rate: Rate of interest that a lessee would have to pay to borrow over a similar term, and with similar security, the funds necessary to obtain an asset of similar value to the right-of-use asset in a similar economic environment Page 15

16 Agenda Overview Definition of a lease Variable lease payments and discount rate Transition Practical considerations Page 16

17 Transition Full retrospective or modified retrospective approach for lessees apply consistently to all leases Full retrospective approach as if IFRS 16 had always applied There are a number of practical expedients available Specific disclosures required for expedients used Practical expedient: permitted to not reassess whether contracts are, or contain, a lease Must be applied to all contracts ongoing at the date of initial application and disclose that fact Page 17

18 Selected transition requirements If the modified retrospective method is adopted, for leases previously classified as operating leases Recognise a right-of-use asset at the date of initial application Or As if the standard had been applied (discounted using the lessee s incremental borrowing rate at the date of initial application) An amount equal to the lease liability, adjusted by the amount of any prepaid or accrued lease payments Disclose, at the date of initial application The weighted average lessee s incremental borrowing rate applied an explanation of any difference between Discounted operating lease commitments disclosed applying IAS 17 And Lease liabilities recognised in the statement of financial position Page 18

19 Agenda Overview Definition of a lease Variable lease payments and discount rate Transition Practical considerations Page 19

20 Definition of a lease: practical considerations Entities need internal processes, controls and systems in place to verify the completeness of their portfolio of leases Does the entity use a standard lease/service contract or do the form and content vary? Does the entity operate in a decentralised or centralised environment? evaluate whether a contract is or contains a lease What type of arrangements does an entity have that could be affected by the revised definition of a lease? How does an entity plan to identify any necessary changes? Will management be required to make more judgements when evaluating contracts? Page 20

21 Measurement of lease liability: practical considerations Entities need internal processes, controls and systems in place to evaluate items to be included in lease payments What are the factors affecting the decisions to renew, extend or terminate a lease arrangement? Are any payments in-substance fixed payments? evaluate the appropriate discount rate Term specific Security specific Right-of-use asset specific Economic environment specific May need professional valuation assistance Page 21

22 Other practical considerations Understand how the standard may affect the business, especially customers behaviour Whether arrangements are or contain a lease Fixed vs variable payments Understand how the standard will affect KPIs and covenants Keep stakeholders (boards, shareholders, analysts) informed Consider interpretation and views from regulators, standard setters, practitioners and peers Seek advice when necessary Page 22

23 10 TH European IFRS power and utilities roundtable 29 November 2016