ESMA issued the annual statement that sets out the common enforcement priorities for the 2020 annual financial reports of listed companies. The 2020 enforcement priorities for financial statements, prepared in accordance with International Financial Reporting Standards (IFRS), reflect the need to provide adequate transparency about the consequences of the COVID-19 pandemic; this is expected to affect several areas of the 2020 annual financial reports. The key areas include the application of IFRS 9 on financial instruments and IFRS 7 on disclosures related to financial instruments, including general considerations for risks arising from financial instruments, focus on liquidity risk, and specific considerations related to the application of IFRS 9 for credit institutions when measuring expected credit losses (ECL). The statement also highlights the requirements to disclose non-financial information about the impact of the COVID-19 pandemic on non-financial matters and risks related to climate change, taking into account physical and transition risks.
In the statement, ESMA highlighted the importance of fulfilling the disclosure objective in IFRS 7 and, to this end, of preparing the required disclosures in relation to risks arising from financial instruments and, in particular, those related to liquidity risk and the sensitivities to market risks. ESMA reminded issuers to disclose how financial risks arise and how they are managed, taking into account the specific objectives, policies, and processes put in place to address those risks. Issuers shall also be required to disclose the financial risk concentrations, including quantitative information required by IFRS 7 and information on how such concentrations are measured. Such qualitative disclosures shall accompany quantitative information to enable users of financial statements to get an overall picture of the nature and extent of risks arising from financial instruments. ESMA also highlighted that, in the context of liquidity risk disclosures, issuers should provide transparency of any arrangements that take the form of supply chain financing or, more specifically, reverse factoring transactions which may give rise to liquidity risks. ESMA reminded issuers that have benefitted from forbearance or payment moratoria measures that this fact should be clearly disclosed, along with the features of any such measures to enable users to understand any risks that may stem from their discontinuation.
Additionally, ESMA reminded issuers that, when measuring ECL in accordance with IFRS 9, issuers shall reflect in an unbiased way the significant uncertainty that characterizes the current economic environment by taking into account all reasonable and supportable information about past events, current conditions, and forecast of future economic conditions that is available without undue cost and effort. In the current context and, most notably, when ECL models are subject to changes in response to changing circumstances, issuers should focus on the specific disclosure requirements on their approach to measuring ECL. ESMA also noted that, when post-model adjustments are used in the estimate of ECL, transparency should be provided on the rationale and methodology underlying these adjustments, their impact on the ECL estimate, and the specific risks they aim at capturing which were not, in full or in part, factored in the ECL model. ESMA reminded issuers to explain the changes in loss allowance by classes of financial instruments compared to the previous period. ESMA also noted that issuers shall explain how significant changes in the gross carrying amount of financial instruments contributed to changes in the loss allowance.
ESMA highlighted the importance of providing disclosures on credit risk exposures and on the related risk concentrations. In particular, issuers should provide granular information on their exposures and their quality. In doing so, ESMA emphasizes the importance of providing separate explanation of any exposures, concentrations, and any significant variations linked to COVID-19 as well as to other specific factors or events. ESMA recommended that credit institutions disclose the basis on which support measures, for example debt moratoria, have been granted to borrowers or debtors and their effects in the financial statements. ESMA also reminded issuers that IFRS 7 requires the disclosure of information on the financial effect of credit enhancements and the extent to which it has mitigated credit risk. It is important to perform and, where relevant, disclose the sensitivity analyses of staging and calculation of ECL that is representative of the credit risk profile of financial instruments.
Keywords: Europe, EU, Banking, Accounting, Disclosures, COVID-19, IFRS 9, Financial Instruments, IFRS 7, Climate Change Risk, ESG, Liquidity Risk, Credit Risk, ECL, ESMA
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