Corporate Risk Management and Hedge Accounting under the scope of IFRS 9

Overview & Synopsis

Accounting for derivatives has stirred important debate among academics, international standard setters and practitioners over the past decade. On the one hand, standard accounting with fair value measurement makes the use of derivatives more transparent, giving clear insights of the firm's underlying risk exposure. On the other hand, if derivatives qualify for the hedge accounting treatment, the timings mismatch associated with standard accounting is alleviated, so that the temporary income statement volatility may be significantly reduced, and the firm's risk management policy will be better reflected in financial statements. Under IFRS, hedge accounting has been covered by IFRS 9 from January 1, 2018. In this chapter, we study the implications of IFRS 9 hedge accounting requirements from the perspective of non-financial firms that use commodity derivatives. After describing the main advances of IFRS 9, we present appropriate methods to estimate hedge ratios and measure hedge effectiveness. We show that time-varying hedge ratios could be used to rebalance hedges and maximize the benefits of hedge accounting. Finally, we use an illustrative case study to explain how a power firm can report carbon hedges in respect of IFRS 7 disclosure requirements to provide transparent and relevant information in financial statements.