SELECTED ELEMENTS OF SUPPORT FOR ACCOUNTANCY
IN BANKS
1. Introduction
In the world of matured
economy of financial sector, increased competition and steady changes in
respect to financial statement principles and standards, the importance of
reliable disclosure on the part of banking organizations and other entities
cooperating with banking industry is growing. Special attention in this respect
must be directed to those elements that are involved in stabilization of those
tools that provide basis for disclosure for decision making processes of
banking industry, above all such issues as IAS/IFRS and XBRL. Challenges posed
before the disclosure system of financial sector result from two dimensions:
external (the obligation for Polish economy to adjust to banking industry
conditions and standards of the European Union, accession of member countries
to eurozone) and internal (such as the processes
involved in accountancy standards improvements and requirements of
knowledge-driven economy). One important issue here is the efficiency in
utilization of information provided by accountancy for decision-making
processes to provide compatibility with managerial needs and clarity for
various target groups. How does the modern financial sector cope with the task,
especially in relation to companies adopting IAS/IFRS, when foreign investors
plan to change the country of financial involvement while simultaneously
addressing the problem of impairment of banking assets? How to address the
issues of real value of bank balance items in financial statements?
2. Basic elements of information system of an economic
entity
One of the accountancy
functions is the provision of various information sets that are necessary for
proper management of an economic entity. Banks also use accountancy to provide
a prospective view on assorted product types offered on the market as part of
their economic activities. The prevailing opinion is that information of
‘better quality’ (i.e. more suited for the purpose) should offer two qualities:
usefulness and credibility. Usefulness of information for accounting purposes
involves its capability to forecast results of past, present and future events
with potential correction of any deviations from expected, forecasted or
modelled prognoses as well as its influence on operational and strategic
decisions (in accordance with IFRS 1). Credibility, on the other hand, is
associated with ‘faithful reproduction’ and ‘neutrality’, since reliability of
a measurement is invariably related to accurate depiction of the measured
value, while at the same time offering the certainty of its representative
character. Another important issue is the selection of format (model, scheme)
to be used in preparation of individual elements of the financial statement by
a self-sustained economic entity of the financial sector. In the competitive
market economy, proper presentation and choice of financial information in
financial statements following the IFRS principles is of great importance for
any potential investor, shareholder or bank customer. In practice, this may
result in creative accounting.
Diagram 1. Accountancy-supported
information system in a company
INPUT
INFORMATION
OUTPUT
Data:
MODEL
INFORMATION
IN
record
non-record
(IN-HOUSE
FINANCIAL
STATEMENTS
Data:
in-house
PROCEDURES)
AND
OTHER REPORTS
external
Source:
own research.
Input data comprises of quantified
information (quantitative and qualitative) reflecting past events and
projecting future events. This information pictures both events and processes
within the bank and material/financial standing of bank’s present and potential
customers as well as investors. The designed information model of a
financial entity will influence the efficiency of future economic decisions
(such as long-term credits granted, fixed-term deposit portfolio of fixed or
flexible interest, etc.). Data processing results in output information
expressed primarily in monetary values, as generated by accounting information
system and presented in the form of various financial reports required by
obligatory regulations as well as other in-house periodic reports prepared for
headquarters or filial units. Data processing procedures typically involve the
following activities:
a) data identification (ob
the basis of source documents);
b) data classification (by
obligatory or facultative algorithms);
c) registration and analysis
of classified and processed data;
d) presentation of processed
information in codified (unified) form of reports, overviews, etc.
For bank management purposes, data is processed in
such a way as to obtain information on: liquidity, solvency, profitability,
credit service capability, financial efficiency.
2.1 Impairment of assets and its role in real data
presentation for reporting purposes
In
line with present regulations, banks listed on Warsaw Stock Exchange (in
Poland) since 2005 have been obliged to prepare their financial reports in the
IAS/IFRS format [8, 9], while retaining the right to choose the form of
financial reporting in respect to in-house reports as well as reports of own
capital group subsidiaries. This right applies also to Poland-based
subsidiaries of foreign companies, if their stocks are authorised on the EU
public market. Adopting the IAS/IFRS format requires the consent from general
meeting of the shareholders. All entities that adopt IAS/IFRS standard of
financial reporting by law, are obliged to use it
exclusively in their reports. In other words, only this format of financial
reporting may be subject to scrutiny by chartered auditor, listed in registry
and published[1][6].
In the case of banks,
important elements of reclassification to IAS/IFRS standards are individual
items or groups of financial assets that have become impaired, resulting in
loss. In such cases, one needs to reliably establish whether the impairment may
be attributed to objective occurrence due to events effected
after the initial entry of the applicable assets in bank registers as well as
assess the impact of impairment on future level of financial flows related to
impaired assets.
Identification of
sources (reasons) for asset impairment is done by the bank on the basis of
objective qualitative and quantitative premises, taking into account the
assessment of customer’s financial standing, history of transactions, as well
as the overall business and legal situation. By analysing the level of banking
risk elements, loss-incurring events (in terms of real premises for impairment)
involve the following:
a)
significant financial problems of the issuer or
debtor;
b)
breach of agreement on the part of transaction party,
such as delayed settling or failure to settle capital dues or interests;
c)
high probability of financial reorganization or
insolvency of creditor;
d)
granting the debtor (e.g. creditor) economically or
legally substantiated credit facilities (or other forms of settlement to the
advantage of the creditor) in response to financial problems, that would
otherwise be deemed unacceptable by the bank;
e)
financial problems of the stock market or general lack
of active market in regard to the given element of financial assets;
f)
forecasted decrease of future financial flows in
respect to the analysed group of financial assets, including assessed prognoses
on:
–
disadvantageous changes of settlement status of the
debtors;
–
economic changes on national or local scale that may
directly or indirectly correlate with bank asset impairment risk.
In such cases, banks distribute the dues to individual
risk categories [4, p.12] as:
1) normal
dues:
a) appraised
individually and deemed with no objective evidence of impairment (in line with
§59 IAS 39), but
subject to portfolio appraisal (to reclaim losses incurred but not
identified);
b) appraised by
group (in line with portfolio assessment) if not deemed impaired dues (no loss
reclaim),
2) dues
under scrutiny include those items that are not deemed as impaired
by individual
3) dues
at risk involve dues appraised individually and
by group, for which objective evidence
of impairment (in accordance with §59 IAS 39) was found[3].
Each individual credit and leasing exposure is then
subject to asset impairment test[4].
In case an impairment loss is recognized (through objective evidence), the loss
is recorded to update the real value of the dues. If no objective evidence of
impairment loss is found, then the applicable credit or loan exposure is
incorporated in the group portfolio and appraised collectively with other
exposures bearing similar credit risk. The consequence of assessing the
financial assets in group portfolio (categorized as loans and receivables,
financial leasing dues or investments held to maturity), is the calculation of allowance
as difference between balance value of the asset element and the current value
of assessed future cash flows (excluding future credit losses that have not
been incurred), discounted using the original effective interest rate calculated
at the initial assessment of the given financial asset element.
EXAMPLE 1 Asset impairment loss
Assumptions: Bank H purchased for 88 million
PLN, effective from 1.01.2001, a company „Z” comprising of three business
lines, being separate economic entities. The economic value of I business line,
on the basis of DCF, is estimated at 24.6 million PLN.
Variant A – Settlement with
option to allocate company value to business lines of the acquired „Z” company.
Impairment calculation for I business line:
Balance
sheet value: 25.2 PLN, economic value 24.6 PLN – permanent asset loss of 0.6
PLN, hence overall loss of value for the company ascribed to I business line.
Variant B – Settlement with no possibility of allocating company value to
individual business lines of the acquired „Z” company by Bank H.
Economic value of the acquired „Z” company is 96.0
million PLN, while economic value of I business line, based on DCF, is estimated at 24.6 million PLN.
Variant
B requires comparison of company „Z” economic value with its balance sheet
value.
Conclusion: The solution in Variant A
brings a value decrease for business line I. Consequently, Bank H balance sheet
notes will show values different than those present in final business line I
value in case of liquidation/resale/transfer in the form of non-cash
contribution. On the other hand, Variant B represents a more ‘gentle’
form of account for value loss results in a given asset item, since a
managerial decision to devalue (by quantity or by value of the business line of
acquired „Z” company) will bear different financial consequences. One should
choose a variant best suited from the bank development perspective, accounting
for any and all aspects of the chosen variant.
Consequences for the financial reporting:
a)
presentation of initial and ‘reversed’ value for
each asset class, isolating capital-bearing
items (and profit and loss account, if needed);
b)
detailed description of: dates, activities,
circumstances of accepting (or reversing) the value
loss;
c)
setting basis for economic value assessment for each
asset class.
3. Role of bank disclosure in
setting goals for strategic management
Current analysis of
financial sector legislature clearly shows the growing importance of
information disclosed by banks to central management bodies and financial
supervision authorities. Since April 1, 2007 , Poland
a) banks that are neither
dominant nor subsidiary, disclose information on individual basis;
b)
banks that are dominant entities in EU legislature
disclose information based on
consolidated data;
c)
banks that are subsidiaries of EU dominant entities in
financial holding disclose
information based on consolidated data of the dominant
entity;
d)
banks that are significant subsidiaries of EU dominant
entity or EU entity dominant in a
financial holding disclose information based on the
highest available level of national
consolidation or (in lack thereof) on the basis of
individual data.
4. Conclusions
To provide greater
stability of banking operation, the accountancy system should not be limited to
provision and transmission of data, but should also offer conceptual analysis
of data. Favourable conditions for this approach are found in optimization of
managerial and accounting staff towards supporting the decision-making
processes and long-term planning via creative accountancy models involved in
the management strategies of the financial sector. One important issue
addressed herein is the problem of appropriate presentation of potential and
real asset impairments in financial reports as well as current appraisal of
this group of report items, especially in the context of bank transition to new
accountancy principles and policies. This is apparently stipulated by present
legislature processes that stress the connection between accountancy and
reliability of information, in the wider view that incorporates elements of
asset impairment. Any negligence in this respect would lead to considerable
loss of the financial sector on micro- and macroeconomic level in future
reporting periods. Thus, improving in-house procedures of the bank information
system in this area is an especially important issue that can be facilitated
with proper accountancy involvement. It must be also noted that there are
certain facultative prospects for preliminary solutions to managerial
decision-making (such as individual appraisal of credit risk categories not
included in asset impairment loss adjustments – in line with IAS 39 principles
addressing identification of gain-producing assets and asset impairment
assessment). Hence, competences and knowledge of banking management as well as
quality of forecast procedures used will ex ante influence future
financial results of the sector and, consequently, the interest of foreign
investors seeking to employ their resources in Poland, with its banking
industry in over 80% owned by foreign capital (as of 2007).
REFERENCES
[1] Gos W.: Części
składowe sprawozdania finansowego według Międzynarodowych Standardów
Rachunkowości, e-Biuletyn Rachunkowości No. 3/2007,
[2] Helin A:
Sprawozdanie finansowe według MSSF, Wydawnictwo C.H. Beck, Warszawa 2006.
[3] Illustrative
consolidated financial statements for banks 2006, PWC 2007, www.pwc.com/ifrs
[4] Instrukcja wypełniania
formularzy sprawozdawczych na potrzeby statystyki monetarnej i nadzorczej dla
banków stosujących MSR, NBP Warszawa 2006
[5] Kwasiborski A.: Stosowanie
MSRF do badania sprawozdań finansowych, „Rachunkowość”, 2006, No. 2 (27).
[6]
Ministry of Finance statutory instrument of Dec. 10 2003 r. on principles of
reserve funds to cover banking operation risks (Official Gazette 2003 No. 218,
pos. 2147, with amendments).
[7]
Decision of Mar. 13 2007 on detailed principles
and forms of banking disclosure of qualitative and quantitative information
addressing capital adequacy, with setting the range of information
subject to disclosure (Official Bulletin of NBP, 2007, No. 3, pos. 8).
[8]
Act of Sept. 29 1994 r. on accountancy
(Official Gazette 2002, No. 76, pos. 694, with amendments)
[9]
Act of Dec. 10 2001 r. on banking
accountancy (Official Gazette 2004, No. 7, pos. 57, with amendments).
[1]It must be noted that some
smaller banks, not listed on the Warsaw Stock Exchange, have been obliged to
adopt IFRS standards as late as for the 2006 financial year.
[2] If, according to criteria set
in the statutory instrument, the receivable is deemed questionable or lost, while the IAS criteria allow to
deem it normal, the IAS ruling is decisive, with the provision that the
receivable be marked under scrutiny [4, p. 12].
[3] Assignment of receivables to individual categories of
risk should be done in accordance with [8].
a)
in relation to individual credit exposures of significant reporting value (e.g.
upwards of 2 million PLN),
b)
in relation to portfolio of individually insignificant
credit exposures.
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