IFRS17 Presentation and Disclosure

Transcript

Nazmira

Hello and welcome back to our podcast series “On the top shelf”, where we aim to bring you the latest IFRS issues that impact clients operating in the retail and consumer industry.

My name is Nazmira Ebrahim and I am a Senior Manager in PwC’s Corporate Reporting Services.

Today we will be focussing on the hot topic for the year- the new insurance standard IFRS 17. This year, being the first year that the standard has been effective, there have been many buzzing questions around on the impact of IFRS 17 especially for corporates who are not insurers.

I am joined today by Corine Smit, an Associate Director in PwC’s Corporate Accounting Services division and one of our Insurance experts. Welcome to our podcast!

Corine

Thank you Nazmira, I am excited to be here. 

Being the new accounting standard for this year, IFRS 17 has definitely been a part of many important conversations that clients have been recently having. Everyone is eager to understand how IFRS 17 will impact their accounting and the disclosure in their annual financial statements.

Nazmira

Exactly! In our previous podcast that we hosted on IFRS 17, we identified that the main area that corporates should keep an eye out for are cell captive arrangements. We discussed how to identify whether the entity has accepted significant insurance risk, unpacked the different structures that could exist and what the accounting implications of those would be. 

Today I want to focus specifically on third party cell captive arrangements that would typically be in the scope of IFRS 17 and chat about what we should be seeing in the financial statements if an entity has appropriately applied the standard. In other words, the burning question from many corporates is how are each of the primary statements going to be impacted by the IFRS 17 requirements?

Corine

Sure. Before we look at the different statements, there’s just an important point I want to share regarding the numbers the corporate will use when compiling their financial statements. What would sometimes happen in practice is that a company would receive a cell statement each month from the cell insurer. It is very important to take note that the Company can’t just use the IFRS 17 numbers provided by the cell insurer in its financial statements. 

One of the main reasons that the IFRS 17 numbers could differ for each party, is that the corporate entity is a reinsurance contract issuer, and the cell insurer is a reinsurance contract holder, and they therefore apply different IFRS 17 measurement principles. 

Another reason for this is that the cell insurer will not have all the information available that would be relevant to the corporate. Suppose the corporate has an employee that has been appointed solely for activities relating to the cells. The salary of this employee is directly attributable to the cell captive arrangement but the cell insurer would not have this included in their statement as they would not have had knowledge of this. There are many other reasons but I am just highlighting two of the reasons.

Nazmira

That is a very valid point. I think it could be so common for companies to assume that the statement from the cell insurer is all the data that they need to incorporate into their IFRS 17 assessments.

Now, assuming that a company has a third party cell structure and they have obtained the necessary data, what could one expect to see in the financial statements? Is there going to be a major change?

Corine

Ok, let’s take this question statement by statement.

We’ll be starting by looking at the Statement of Comprehensive Income.

Previously under IFRS 4, the previous accounting standard for insurance contracts,  there were no required line items that had to be presented for a cell captive arrangement. Entities could form their own accounting policies and it was therefore permitted to only present one line item on the Statement of Comprehensive Income showing all movements relating to cell captives on a net basis if this aligned with their policy on the adoption of IFRS 4. This could mean that the cell captive arrangement was previously considered to be immaterial on this net basis and no additional disclosures were provided.

Under IFRS 17, there are required line items that have to be presented. IAS 1, the presentation standard, specifies that insurance revenue, an insurance service expense line item, as well as a line item for insurance finance income and expenses should be presented.

This means that the movements related to the cell captive are shown on the statement of comprehensive income in gross amounts and could therefore be a lot more material to the statement of comprehensive income than they previously were.

Nazmira

That is interesting, so we are definitely expecting a relatively material impact on the statement of comprehensive income, especially if the gross amounts relating to the cell captive are material. Is there a specific section in the Statement of Comprehensive Income for this to be presented?

Corine

Chances are good that a cell captive is not the corporate’s main operation, as they are a corporate entity, not an insurer. There is no prescribed way in which the above mentioned line items should be disclosed.

A corporate entity would still show Revenue, Cost of Sales and Gross profit separately, in order to provide useful information to the users relating to their main business. A good example of how they could present the insurance line of their business is to have a separate section for the Insurance Service Results consisting of insurance revenue, and insurance service expenses. The remainder of the Income Statement will remain the same, with the exception of the line item “Insurance finance income or expenses” which would either be part of P/L, or shown in OCI - there is an accounting policy choice available in IFRS 17.

Nazmira

That sounds like a great example of how a company can incorporate their IFRS 17 results in the income statement. It will help a user make the distinction between the insurance part of the corporate’s business and then the rest of their core activities. 

Do we expect to see a similar impact on presentation in the Statement of Financial Position as well?

Corine

IFRS 17 requires that on the statement of financial position, an entity presents separately the carrying amount of portfolios of :

• Insurance Contracts issued that are assets (an insurance contract asset) or
• Insurance Contracts issued that are liabilities (an insurance contract liability) 

IFRS 17 is prescriptive in that only these line items are permitted for Insurance contracts. Any other lines that were previously allowed under IFRS 4, like Premium debtors, or Premium receivables, will now be modeled into these 2 lines and are no longer separate items on the Statement of financial position, or in the notes. For example, we can’t include premium debtors as part of “Trade and other receivables”.

Under IFRS 4, a lot of cell captive owners had an ‘Investment in cell captives’ shown on the SoFP, measured at fair value through profit and loss.  Under IFRS 17 the cell captive is no longer measured at fair value through profit and loss but now measured under IFRS 17, using the measurement principles in IFRS 17, as part of the insurance contract asset.

Nazmira

Hmm, I think I see where you are going with this. Could we perhaps unpack a bit more of what is meant by ‘portfolios’ of insurance contracts?

Corine

Sure. Portfolio’s are defined in IFRS 17 as “contracts subject to similar risks and managed together”.

Let me try and explain this through an example. Let’s assume that Cell A and Cell B are separate portfolios under IFRS 17. They relate to completely different products- one covers funeral policies and the other credit life policies. Both of these products have the same risk, being mortality risk and do have the same risk profiles, but they are managed separately as management considers their results separately. They will each be their own portfolio.  

If a portfolio is in an asset position at the reporting date, it will be recognised as an insurance contract asset. Similarly, if a portfolio is in a liability position at reporting date, it will be recognised as an insurance contract liability. 

If both are in an asset position, which is most likely with a cell captive, we would add them together in the “Insurance contract Asset” line. If a corporate did have a portfolio in a liability position, it cannot be offset against the asset but should be presented separately.

For a cell owner, there is more likely to be an insurance contract asset on their Statement of Financial Position, because the capital within the cell will eventually be paid out to that cell owner either as a dividend or as capital if the cell is wound up in future. We therefore expect to see cell owners with an insurance contract asset on their Statement of Financial Position. 

Another item to take note of, is that a cell could potentially sell more than one type of insurance product, for example credit life insurance and funeral policies both being sold from Cell A. We would however consider this to be one portfolio, which needs to be shown together on the SoFP. The shareholders agreement between the corporate and the cell insurer is the contract that gives rise to the insurance risk. In terms of IFRS 17, this would be the unit of account and most likely one would not disaggregate the contract further into components. Both the credit life and funeral policies will be covered by this one shareholders agreement. As there is only one contract, we can conclude that the underlying products in the cell are managed together and have similar risks, therefore it would be one portfolio.

Nazmira

That makes sense. It almost sounds as if the concept of ‘portfolios’ is simplified for cell captive arrangements as each cell would be its own portfolio.

My next question links to the balance sheet- there has been a lot of talk on the reconciliations that IFRS 17 requires for insurance contract assets and/or liabilities that has proven to be quite onerous for big insurers themselves.

Can we perhaps touch on this and how relevant that would be for a corporate entity? Considering that these clients are not insurers, would there be the same extent of disclosure as required for insurers?

Corine

You are right! IFRS 17 has multiple disclosure requirements, requiring various reconciliations to be disclosed. This disclosure is a lot more detailed, and data intensive than what would previously have been shown under IFRS 4. 

The two larger recons that I’ll focus on are both relating to the insurance contract asset on the Statement of Financial Position. The recons both reconcile the insurance contract asset opening balance to closing balance. However, it should be noted that all of the IFRS 17 recons are not applicable to both General Measurement Model (GMM) and Premium Allocation Approach (PAA) contracts, and it needs to be considered which ones are relevant in which situations. In the previous cell captive podcast the difference between these measurement models were described, but in short, the general measurement model is the default measurement model in IFRS 17. The GMM consists of different building blocks: the fulfillment cash flows (which includes discounting), a risk adjustment for non-financial risk and the contractual service margin (CSM or unearned profit).  The PAA is a simplified measurement model that is optional and may be applied to short term contracts where the coverage is less than a year. 

Paragraph 95 and 96 of IFRS 17 requires all the disclosures to be provided at a level that is disaggregated information in a manner that is useful and not obscured by grouping amounts together that have different characteristics. 

Practically this means that all the disclosure requirements in IFRS 17, would need to be provided separately for Cell A and Cell B in our example. Now this gets a bit tricky since the Statement of Financial Position only shows one total, for example if both Cell A and Cell B are in an asset position, they would be combined into the insurance contract asset line item. 

This is where a summary table at the very beginning of the Insurance notes would be useful, to tie the two cell captive amounts (disclosure groups) back to the balance on the SoFP.

Nazmira

Basically, it sounds like each cell should have its separate set of reconciliations which make sense if each of them are seen to be its own portfolio. 

You mentioned that the two larger recons focus on reconciling the opening balance of the insurance contract assets and/or liability to its closing balance. Is there specific guidance on the details that should be included in these reconciliations?

Corine

Yes, IFRS 17 has specific disclosure paragraphs that will help guide clients in understanding the details that are required. 

The first recon we can chat about is in terms of paragraph 100 and 103 of IFRS 17. This requires an entity to provide reconciliations showing how the opening balance of insurance contract assets reconciles to the closing balance, as a result of cash flows which happened in the period, and income and expenses recognised in the statement of comprehensive income in the period. This recon is required for contracts measured under both PAA and GMM.

The second recon we’ll look at is the recon required by paragraph 101 and 104 of IFRS 17. This requirement only applies to GMM contracts. 

The recon we are looking at here again shows a reconciliation of the opening balance of the insurance contract asset to the closing balance. This recon however shows the movement based on detailed valuation numbers (or the building blocks of measurement in IFRS 17), where the first one shows the movement based on income statement movements. The recons are still reconciling the same insurance contract asset balance.

PwC has Illustrative financial statements for IFRS 17. These are quite comprehensive, as they are used for insurance companies, but the same disclosure principles that apply to insurers, will apply to a cell captive. These will be useful to take a look at to understand how the reconciliations will look.

Nazmira

This is very helpful. I can easily see how much additional disclosure IFRS 17 requires just from this discussion which is different to what we’re used to seeing in the past.

We haven’t yet touched on the statement that we have all grown to love- the Statement of Cash Flows? What should corporates look out for here?

Corine

IFRS 17 changes a lot of things, but luckily it can not change the definition of what cash and cash equivalents is in IAS 7, so the actual cash flows received and paid for a cell captive arrangement should not be restated. 

Something we need to remember is that fulfillment cash flows is used for the purposes of IFRS 17 modeling of the Insurance asset or liability, but is not necessarily the actual cash flow that hits the bank statement as defined in IAS 7. We need to be careful to not confuse the two.

We also need to remember that the cash flows in the Cell Captive are not Cash flows for our Corporate entity. Within the Cell Captive, there will be premiums received from third party customers, claims paid to third party customers and possibly some other income and expenses. None of these amounts will directly be received or paid in the Corporate entity’s bank account, these are paid by or to the cell insurer directly. 

Even though the cash would not change, there would be a change in wording used in the notes to the cash flow statement. For e.g. one should remember that the line items that the corporate would present in the income statement relating to their cell captives, would be non-cash in nature. There should be consistency in referring to these in the cash flow notes to the wording used in the statement of comprehensive income.

Furthermore, any cash flows from the cell captive agreement should also be classified in operating activities or investing activities, based on judgment, and the nature of the entity.

Nazmira

That makes sense. It is definitely a relief to know that cash is still cash haha. 

So maybe perhaps in closing the loop on what we have discussed today- as IFRS 17 is a new standard, what disclosures would entities be required to provide and what is required on transition?

Corine

We’ve seen now that IFRS 17 requires a lot of additional disclosure, and will also drastically change the amounts and line items in the Statement of Financial Position and Statement of Comprehensive Income.

• IFRS 17 should be applied using the full retrospective approach. This is in line with IAS 8 when there is a change in accounting policy. This basically means that all previous amounts will need to be restated, as though IFRS 17 has always been applicable. This includes restating the opening balance of the Statement of Financial Position for the previous year for the affected line items, where material. However, disclosure is not required to show line by line the impact from IFRS 4 to IFRS 17, even though this would provide useful information.
• If, and only if, applying the fully retrospective approach is impracticable, an entity may choose to either use the modified retrospective approach or fair value approach on transition. Additional information about these approaches can be found in IFRS 17 and additional disclosure in paragraph 114 would need to be provided for this. This is also only available on transition, and IFRS 17 will need to be applied in full going forward.
• PwC released an IFRS 17 Transition in-brief that is a good document to refer to when determining what transition disclosures would be required.

Nazmira

Thanks for the input Corine.

Taking a step back, we have discussed what the impact should be expected on the presentation and disclosures in each of the primary financial statements for a corporate who has a third party cell captive arrangement. The level of disclosure is extensive in comparison to what was required under IFRS 4 and all companies should ensure that they have the relevant and appropriate data required to reflect this appropriately in the year of adoption and going forward.

Is there anything you would like to add to that Corine?

Corine

IFRS 17 is a complex standard and should not be underestimated, even if you are not an insurer. The last thing that I want to add is the disclosure of qualitative and quantitative information that IFRS 17 also requires.

A company should disclose information about the following 3 areas:

(a) the amounts recognised in its financial statements for insurance contracts, which we discussed as part of the reconciliation disclosure

(b) the significant judgements, and changes in those judgements, made when applying IFRS 17. Requirements to disclose Significant judgements are similar to IFRS 4 but now just much more prescribed ; and lastly 

(c) the nature and extent of the risks from insurance contracts, which would not have changed from IFRS 4.

Nazmira

I think that sums it up quite nicely. This year marks the first year that IFRS 17 is effective and it is important that the requirements are applied appropriately and consistently here onwards.

Thank you for joining us today in the studio Corine! Your insights were truly valuable and the new IFRS 17 standard does appear to be much less daunting now that our corporate clients understand what to expect from a presentation and disclosure perspective. 

Corine

Thank you for having me on today’s podcast Nazmira and I hope to join you again soon in an attempt to simplify some more of the IFRS accounting standards.

Nazmira

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