Hedge Accounting
If IFRS or US-Gaap accounting standards are applied, changes of value can
be booked that it doesn’t affect the net income and has therefore significant impact!
Following explanations refer to Hedge Accounting according the International Accounting Standards (IAS)
Up until the beginning of this century Hedge Accounting was practice only in the US according SFAS 133. Meanwhile, the International
Accounting Standards consider Hedge Accounting as well as a common practice. Hence, article IAS 39 was born who integrates himself
harmoncially in the existing accounting standards, but in practice often considered as controversial and complex. IFRS let’s mostly no choice
whether to adopt any rule or not. But in case of IAS 39 it is optional to acknowledge it.
Permanent Change
Accounting standards, especially IFRS, may change often the contents. That’s also the case for IAS 39, who should be replaced by IFRS 9. For
the current status regarding Hedgee Accounting please review often the IFRS Bulletin. The following explanations refer to the well established
and adopted process according IAS 39.
Basic Principles
Values, regardless whether they are in the current ledger or occur just in the future, are subject to regular changes because of multiple reasons.
A quite frequent reason is the change of value because of currency movements. This may be the case because of investments (=translational)
or future cash flows (=transactional). Those variations are considered in the common accounting principles as effective in the income
statement. In consequence, it leads to unwanted side-results which have a significant impact to the profit or loss in a company. Especially
currency deviations can be shaked out with countertrades (hedge) to the operational basic trade (underlying). Nevertheless the result of those
deviations are still considered in the income statement, as long no Hedge Accounting is applied.
Because the subject matter of measurement and correct assignment of hedging instrument to the underlying may become quite complex, the
key question of Hedge Accounting is rather not the correct booking of items from income statement to general ledger. It is more in the question
of how to identify and measure both trades correct.
Overview about relevant Hedge Accounting contents
That means, someone need to be aware how the underlying shall be classified and also how the hedging instrument relates to the underlying. If
those characteristics meet symmetrical, currency deviations can be considered instead of in the income statement now without income effects
in the equity.
Requirements for Hedge Accounting
•
The hedge must be highly effective (up to date at least 80%, maximum 125% -> but is in review by the IFRS board).
•
High possibility of occurance for the underlying and that this undlerying represents a risk for the company.
•
A hedge must be effective during the whole lifetime of the underlying.
•
It needs a detailed documentation which describes the purpose and reason for the hedging transaction.
Example for a Cash Flow Hedge
•
Reliability of the budget / finance- or liquidity plan must be reviewed.
•
Financial and operational capability of the projected activities must be given.
•
The likelihood of impact for the underlying must be quite save.
•
Duration of the hedge need to be considered: as longer an event is in the future, as more unlikely his occurance is.
Example for a Cash Flow Hedge Documentation
Company:
Test-Holding abc
Hedge-Ref.:
test123
Date:
30.06.xx
Underlying:
Purchase of Company xyz as per 31.01.yy for the amount of CHF 10’000’000
Hedge Instrument:
Forward Outright sale USD/CHF for CHF 10’000’000 at Citi Bank New York, Ref. 56789
Hedging-Type:
Cash Flow Hedge
Description:
“On 20.06.xx the companies Test-Holding abc and Company xyz agreed that Test-Holding takes over 55% of the xyz-shares for the price of
CHF 10’000’000. The financing happen by own liquid funds of USD. In order that the calculated purchase price in the functional curreny of Test-
Holding is not changing anymore until the settlement date, the exchange rate has been fixed until that date. This represents a perfect hedge
and the effectiveness is given during the whole duration.”
This example shows a 1:1 hedge. But there is also the possibility to summarize underlyings and hedges in portfolios. But this requires that the
correlation within the portfolio is given with a high degree and that the hedging instruments match the risk-content of the underlying.
Not everything can be considered for Hedge Accounting
Hedging Instruments
Basically only instruments are allowed for hedging which are also feasible for it. Not allowed are for instance obligations like sold (written)
Options, Short Positions and Equity Instruments (all with very rare exemptions, especially in SFAS). Also not applicable are trades within a
corporate group, because they would not offset the risk on consolidated level. If a subsidiary would like to apply Hedge Accounting it must give
the evidence that the hedge is at the end of the day made with a third party, even this happen in a second or third step throught the goup’s
treasury service center. Last but not least, instruments which do not cover the whole lifetime of the risk do not qualify.
Undleryings
For underlyings it is postulated that they contain similar values. For example cash flows from future purchases cannot be netted with cash flows
from future sales and then hedged with one single instrument. It should be clear that underlyings can be identified without a doubt and the
effectiveness of the hedge is traceable and also that a classification can be made.
Summary
Hedge Accounting can be a very good technique to monitor deviations in values without effect to the incoment statement. Thus, the net-result of
a company can be reduced by unwanted side-effects and is therefore more related to operational items. But the requirements are quite strong
and my change from time to time. Therefore it is strongly recommended to ask for competent support by introducing Hedge Accounting and it is
also recommended to review the hedging process periodically by an independent party. That means, competence must be given not only in
terms of accounting matters, it needs also a strong understanding of the hedging process.
Up until the beginning of this century Hedge Accounting was practice only in the US according SFAS 133. Meanwhile, the International
Accounting Standards consider Hedge Accounting as well as a common practice. Hence, article IAS 39 was born who integrates himself
harmoncially in the existing accounting standards, but in practice often considered as controversial and complex. IFRS let’s mostly no choice
whether to adopt any rule or not. But in case of IAS 39 it is optional to acknowledge it.
Permanent Change
Accounting standards, especially IFRS, may change often the contents. That’s also the case for IAS 39, who should be replaced by IFRS 9. For
the current status regarding Hedgee Accounting please review often the IFRS Bulletin. The following explanations refer to the well established
and adopted process according IAS 39.
Basic Principles
Values, regardless whether they are in the current ledger or occur just in the future, are subject to regular changes because of multiple reasons.
A quite frequent reason is the change of value because of currency movements. This may be the case because of investments (=translational)
or future cash flows (=transactional). Those variations are considered in the common accounting principles as effective in the income
statement. In consequence, it leads to unwanted side-results which have a significant impact to the profit or loss in a company. Especially
currency deviations can be shaked out with countertrades (hedge) to the operational basic trade (underlying). Nevertheless the result of those
deviations are still considered in the income statement, as long no Hedge Accounting is applied.
Because the subject matter of measurement and correct assignment of hedging instrument to the underlying may become quite complex, the
key question of Hedge Accounting is rather not the correct booking of items from income statement to general ledger. It is more in the question
of how to identify and measure both trades correct.
Overview about relevant Hedge Accounting contents
That means, someone need to be aware how the underlying shall be classified and also how the hedging instrument relates to the underlying. If
those characteristics meet symmetrical, currency deviations can be considered instead of in the income statement now without income effects
in the equity.
Requirements for Hedge Accounting
•
The hedge must be highly effective (up to date at least 80%, maximum 125% -> but is in review by the IFRS board).
•
High possibility of occurance for the underlying and that this undlerying represents a risk for the company.
•
A hedge must be effective during the whole lifetime of the underlying.
•
It needs a detailed documentation which describes the purpose and reason for the hedging transaction.
Example for a Cash Flow Hedge
•
Reliability of the budget / finance- or liquidity plan must be reviewed.
•
Financial and operational capability of the projected activities must be given.
•
The likelihood of impact for the underlying must be quite save.
•
Duration of the hedge need to be considered: as longer an event is in the future, as more unlikely his occurance is.
Example for a Cash Flow Hedge Documentation
Company:
Test-Holding abc
Hedge-Ref.:
test123
Date:
30.06.xx
Underlying:
Purchase of Company xyz as per 31.01.yy for the amount of CHF 10’000’000
Hedge Instrument:
Forward Outright sale USD/CHF for CHF 10’000’000 at Citi Bank New York, Ref. 56789
Hedging-Type:
Cash Flow Hedge
Description:
“On 20.06.xx the companies Test-Holding abc and Company xyz agreed that Test-Holding takes over 55% of the xyz-shares for the price of
CHF 10’000’000. The financing happen by own liquid funds of USD. In order that the calculated purchase price in the functional curreny of Test-
Holding is not changing anymore until the settlement date, the exchange rate has been fixed until that date. This represents a perfect hedge
and the effectiveness is given during the whole duration.”
This example shows a 1:1 hedge. But there is also the possibility to summarize underlyings and hedges in portfolios. But this requires that the
correlation within the portfolio is given with a high degree and that the hedging instruments match the risk-content of the underlying.
Not everything can be considered for Hedge Accounting
Hedging Instruments
Basically only instruments are allowed for hedging which are also feasible for it. Not allowed are for instance obligations like sold (written)
Options, Short Positions and Equity Instruments (all with very rare exemptions, especially in SFAS). Also not applicable are trades within a
corporate group, because they would not offset the risk on consolidated level. If a subsidiary would like to apply Hedge Accounting it must give
the evidence that the hedge is at the end of the day made with a third party, even this happen in a second or third step throught the goup’s
treasury service center. Last but not least, instruments which do not cover the whole lifetime of the risk do not qualify.
Undleryings
For underlyings it is postulated that they contain similar values. For example cash flows from future purchases cannot be netted with cash flows
from future sales and then hedged with one single instrument. It should be clear that underlyings can be identified without a doubt and the
effectiveness of the hedge is traceable and also that a classification can be made.
Summary
Hedge Accounting can be a very good technique to monitor deviations in values without effect to the incoment statement. Thus, the net-result of
a company can be reduced by unwanted side-effects and is therefore more related to operational items. But the requirements are quite strong
and my change from time to time. Therefore it is strongly recommended to ask for competent support by introducing Hedge Accounting and it is
also recommended to review the hedging process periodically by an independent party. That means, competence must be given not only in
terms of accounting matters, it needs also a strong understanding of the hedging process.
Contact us, we would be glad to show you the possible opportunities!
Hedge Accounting
If IFRS or US-Gaap accounting standards are applied, changes of
value can be booked that it doesn’t affect the net income and
has therefore significant impact!
Following explanations refer to Hedge Accounting according the
International Accounting Standards (IAS)
Up until the beginning of this century Hedge Accounting was practice
only in the US according SFAS 133. Meanwhile, the International
Accounting Standards consider Hedge Accounting as well as a
common practice. Hence, article IAS 39 was born who integrates
himself harmoncially in the existing accounting standards, but in
practice often considered as controversial and complex. IFRS let’s
mostly no choice whether to adopt any rule or not. But in case of IAS
39 it is optional to acknowledge it.
Permanent Change
Accounting standards, especially IFRS, may change often the
contents. That’s also the case for IAS 39, who should be replaced by
IFRS 9. For the current status regarding Hedgee Accounting please
review often the IFRS Bulletin. The following explanations refer to the
well established and adopted process according IAS 39.
Basic Principles
Values, regardless whether they are in the current ledger or occur just
in the future, are subject to regular changes because of multiple
reasons. A quite frequent reason is the change of value because of
currency movements. This may be the case because of investments
(=translational) or future cash flows (=transactional). Those variations
are considered in the common accounting principles as effective in
the income statement. In consequence, it leads to unwanted side-
results which have a significant impact to the profit or loss in a
company. Especially currency deviations can be shaked out with
countertrades (hedge) to the operational basic trade (underlying).
Nevertheless the result of those deviations are still considered in the
income statement, as long no Hedge Accounting is applied.
Because the subject matter of measurement and correct assignment
of hedging instrument to the underlying may become quite complex,
the key question of Hedge Accounting is rather not the correct
booking of items from income statement to general ledger. It is more
in the question of how to identify and measure both trades correct.
Overview about relevant Hedge Accounting contents
(For a better view of this Mind Map please review it on a Desktop-
Screen, because this site is optimized for Smartphones and Tablets)
That means, someone need to be aware how the underlying shall be
classified and also how the hedging instrument relates to the
underlying. If those characteristics meet symmetrical, currency
deviations can be considered instead of in the income statement now
without income effects in the equity.
Requirements for Hedge Accounting
•
The hedge must be highly effective (up to date at least 80%,
maximum 125% -> but is in review by the IFRS board).
•
High possibility of occurance for the underlying and that this
undlerying represents a risk for the company.
•
A hedge must be effective during the whole lifetime of the
underlying.
•
It needs a detailed documentation which describes the purpose
and reason for the hedging transaction.
Example for a Cash Flow Hedge
•
Reliability of the budget / finance- or liquidity plan must be
reviewed.
•
Financial and operational capability of the projected activities
must be given.
•
The likelihood of impact for the underlying must be quite save.
•
Duration of the hedge need to be considered: as longer an
event is in the future, as more unlikely his occurance is.
Example for a Cash Flow Hedge Documentation
Company:
Test-Holding abc
Hedge-Ref.:
test123
Date:
30.06.xx
Underlying:
Purchase of Company xyz as per 31.01.yy for
the amount of CHF 10’000’000
Hedge Instrument:
Forward Outright sale USD/CHF for CHF
10’000’000 at Citi Bank New York, Ref. 56789
Hedging-Type:
Cash Flow Hedge
Description:
“On 20.06.xx the companies Test-Holding abc and Company xyz
agreed that Test-Holding takes over 55% of the xyz-shares for the
price of CHF 10’000’000. The financing happen by own liquid funds of
USD. In order that the calculated purchase price in the functional
curreny of Test-Holding is not changing anymore until the settlement
date, the exchange rate has been fixed until that date. This
represents a perfect hedge and the effectiveness is given during the
whole duration.”
This example shows a 1:1 hedge. But there is also the possibility to
summarize underlyings and hedges in portfolios. But this requires
that the correlation within the portfolio is given with a high degree and
that the hedging instruments match the risk-content of the underlying.
Not everything can be considered for Hedge Accounting
Hedging Instruments
Basically only instruments are allowed for hedging which are also
feasible for it. Not allowed are for instance obligations like sold
(written) Options, Short Positions and Equity Instruments (all with
very rare exemptions, especially in SFAS). Also not applicable are
trades within a corporate group, because they would not offset the
risk on consolidated level. If a subsidiary would like to apply Hedge
Accounting it must give the evidence that the hedge is at the end of
the day made with a third party, even this happen in a second or third
step throught the goup’s treasury service center. Last but not least,
instruments which do not cover the whole lifetime of the risk do not
qualify.
Undleryings
For underlyings it is postulated that they contain similar values. For
example cash flows from future purchases cannot be netted with
cash flows from future sales and then hedged with one single
instrument. It should be clear that underlyings can be identified
without a doubt and the effectiveness of the hedge is traceable and
also that a classification can be made.
Summary
Hedge Accounting can be a very good technique to monitor
deviations in values without effect to the incoment statement. Thus,
the net-result of a company can be reduced by unwanted side-effects
and is therefore more related to operational items. But the
requirements are quite strong and my change from time to time.
Therefore it is strongly recommended to ask for competent support by
introducing Hedge Accounting and it is also recommended to review
the hedging process periodically by an independent party. That
means, competence must be given not only in terms of accounting
matters, it needs also a strong understanding of the hedging process.
Contact us, we would be glad to show you the possible
opportunities!
International Accounting Standards (IAS)
Up until the beginning of this century Hedge Accounting was practice
only in the US according SFAS 133. Meanwhile, the International
Accounting Standards consider Hedge Accounting as well as a
common practice. Hence, article IAS 39 was born who integrates
himself harmoncially in the existing accounting standards, but in
practice often considered as controversial and complex. IFRS let’s
mostly no choice whether to adopt any rule or not. But in case of IAS
39 it is optional to acknowledge it.
Permanent Change
Accounting standards, especially IFRS, may change often the
contents. That’s also the case for IAS 39, who should be replaced by
IFRS 9. For the current status regarding Hedgee Accounting please
review often the IFRS Bulletin. The following explanations refer to the
well established and adopted process according IAS 39.
Basic Principles
Values, regardless whether they are in the current ledger or occur just
in the future, are subject to regular changes because of multiple
reasons. A quite frequent reason is the change of value because of
currency movements. This may be the case because of investments
(=translational) or future cash flows (=transactional). Those variations
are considered in the common accounting principles as effective in
the income statement. In consequence, it leads to unwanted side-
results which have a significant impact to the profit or loss in a
company. Especially currency deviations can be shaked out with
countertrades (hedge) to the operational basic trade (underlying).
Nevertheless the result of those deviations are still considered in the
income statement, as long no Hedge Accounting is applied.
Because the subject matter of measurement and correct assignment
of hedging instrument to the underlying may become quite complex,
the key question of Hedge Accounting is rather not the correct
booking of items from income statement to general ledger. It is more
in the question of how to identify and measure both trades correct.
Overview about relevant Hedge Accounting contents
(For a better view of this Mind Map please review it on a Desktop-
Screen, because this site is optimized for Smartphones and Tablets)
That means, someone need to be aware how the underlying shall be
classified and also how the hedging instrument relates to the
underlying. If those characteristics meet symmetrical, currency
deviations can be considered instead of in the income statement now
without income effects in the equity.
Requirements for Hedge Accounting
•
The hedge must be highly effective (up to date at least 80%,
maximum 125% -> but is in review by the IFRS board).
•
High possibility of occurance for the underlying and that this
undlerying represents a risk for the company.
•
A hedge must be effective during the whole lifetime of the
underlying.
•
It needs a detailed documentation which describes the purpose
and reason for the hedging transaction.
Example for a Cash Flow Hedge
•
Reliability of the budget / finance- or liquidity plan must be
reviewed.
•
Financial and operational capability of the projected activities
must be given.
•
The likelihood of impact for the underlying must be quite save.
•
Duration of the hedge need to be considered: as longer an
event is in the future, as more unlikely his occurance is.
Example for a Cash Flow Hedge Documentation
Company:
Test-Holding abc
Hedge-Ref.:
test123
Date:
30.06.xx
Underlying:
Purchase of Company xyz as per 31.01.yy for
the amount of CHF 10’000’000
Hedge Instrument:
Forward Outright sale USD/CHF for CHF
10’000’000 at Citi Bank New York, Ref. 56789
Hedging-Type:
Cash Flow Hedge
Description:
“On 20.06.xx the companies Test-Holding abc and Company xyz
agreed that Test-Holding takes over 55% of the xyz-shares for the
price of CHF 10’000’000. The financing happen by own liquid funds of
USD. In order that the calculated purchase price in the functional
curreny of Test-Holding is not changing anymore until the settlement
date, the exchange rate has been fixed until that date. This
represents a perfect hedge and the effectiveness is given during the
whole duration.”
This example shows a 1:1 hedge. But there is also the possibility to
summarize underlyings and hedges in portfolios. But this requires
that the correlation within the portfolio is given with a high degree and
that the hedging instruments match the risk-content of the underlying.
Not everything can be considered for Hedge Accounting
Hedging Instruments
Basically only instruments are allowed for hedging which are also
feasible for it. Not allowed are for instance obligations like sold
(written) Options, Short Positions and Equity Instruments (all with
very rare exemptions, especially in SFAS). Also not applicable are
trades within a corporate group, because they would not offset the
risk on consolidated level. If a subsidiary would like to apply Hedge
Accounting it must give the evidence that the hedge is at the end of
the day made with a third party, even this happen in a second or third
step throught the goup’s treasury service center. Last but not least,
instruments which do not cover the whole lifetime of the risk do not
qualify.
Undleryings
For underlyings it is postulated that they contain similar values. For
example cash flows from future purchases cannot be netted with
cash flows from future sales and then hedged with one single
instrument. It should be clear that underlyings can be identified
without a doubt and the effectiveness of the hedge is traceable and
also that a classification can be made.
Summary
Hedge Accounting can be a very good technique to monitor
deviations in values without effect to the incoment statement. Thus,
the net-result of a company can be reduced by unwanted side-effects
and is therefore more related to operational items. But the
requirements are quite strong and my change from time to time.
Therefore it is strongly recommended to ask for competent support by
introducing Hedge Accounting and it is also recommended to review
the hedging process periodically by an independent party. That
means, competence must be given not only in terms of accounting
matters, it needs also a strong understanding of the hedging process.
Contact us, we would be glad to show you the possible
opportunities!
