As many of our readers will be painfully aware, FRS102 has particularly significant repercussions for financial instruments. We all face numerous challenges including the potential for some or all of the following: fair value reporting, some of the movements in fair value going through the income and expenditure account (I&E), consequent increased volatility, hedge accounting and detailed disclosure requirements.

As a result, some RPs have invested time in exploring what the impact might be, including undertaking analysis of their loan instruments to see whether they are classified as basic under the complex rules set out in paragraph 11.9 of the FRS102 standard, and in some cases exploring hedge accounting under section 12.

Sadly, much of this may have been a waste of time.

Bad (or actually good) news

As we have flagged previously, sections 11 and 12 have been on the point of being changed quite significantly to reflect the different hedge accounting principles that will be included in IFRS9 Financial Instruments. We now know that proposals to amend the standard are being set out in an exposure draft (FRED51). Since these changes are likely to go through relatively quickly, it will mean that the current version of hedge accounting set out in section 12 is unlikely to ever be applied unless RPs choose to adopt FRS102 early. The good news is that the new rules are much more permissive and should allow hedge accounting to be applied to a wider range of circumstances. Equally, the important option of deeming certain instruments that are basic to be reflected at fair value through profit or loss (and therefore in effect achieve hedge accounting without documentation) is going to be widened. Even worse (or actually even better) news

However, there are discussions currently underway which may result in the Financial Reporting Council (FRC) making changes to section 11. In particular greater clarity is expected to be provided as to whether debt instruments are classified as basic or other. While the outcome cannot be anticipated with certainty at this stage it is probable that many instruments where it previously appeared likely they would be classified by RPs as 'other' could now fall into the basic category.

Next steps?

If you have not done anything in respect of financial instruments yet, it could be argued you may have demonstrated admirable forward thinking! However, it is worth investing time now in understanding the broad principles of financial instruments accounting. In practice, if you do not have a complex hedging strategy it is likely that the outcome may be predicted with some confidence; your loan agreements are very likely to be classified as basic in nearly all cases, although there will be some exceptions. The uncertainty over hedge accounting and classification may well therefore not be significant for you.

On the other hand, if you have done quite a bit already, you may well need to start again. Some of the previous work may of course be useful but it is quite likely that parts of the more complex items of work will now be redundant.

Whatever position you are in, this area is a minefield. It remains of huge significance to RP financial statements. Equally, it is hard to navigate to the final resting place when the standard itself is shifting. Consequently all RPs will need to consider how best to respond; all should be investing time now in understanding the overview but will also need to fine- tune the detail once the position becomes clearer.

Fortunately, we are in an excellent position to advise on the changes and the expected final outcome which should help RPs to decide on that balance. Please do ask us to help you understand the requirements before spending lots of time on it at this stage.

We have taken great care to ensure the accuracy of this newsletter. However, the newsletter is written in general terms and you are strongly recommended to seek specific advice before taking any action based on the information it contains. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. © Smith & Williamson Holdings Limited 2014. code 13/051 exp: 31/07/14