After an eventful year here at Ozrisk and in the real world, I am going on holiday arounf New Zealand until just before Christmas, so do not expect much in the way of postings from me here until the new year. Others may decide to post a bit, though

I am taking all of the recently released standards and BIS documents with me to read while I have some time (no comments on that, please – I know it is great holiday reading) so I should have some better considered analysis on them all in the new year.

In the meantime, have a happy Christmas and control those risks carefully over the break. Remember – markets tend to trade more thinly, so look for a little more volatility.

If I do not post before that, see you in the new year.

Once for the real financial accounting for financial instruments nerds*.

IFRIC 19 Extinguishing Financial Liabilities with Equity Instruments was released a few days ago. This is the interpretation designed to cover debt for equity swaps, where an entity gives up some equity in exchange for the extinguishment of some or all its liabilities.

There will be no surprises in the final decision(s) – when you issue equity then that equity forms part of the consideration for the extinguishment, the shares issued are measured at fair value unless fair value cannot be measured, in which case they are measured as a residual amount on the liabilities (which are measured at fair value) and any resulting differences are put through P&L in the current period.

All of this follows what was expected and, to be honest, good sense.

The more astute of you may look at this and note that I am supporting the measurement of financial liabilities at fair value in this case – and you would be right, I normally do not. In this case, though, the liabilities are being extinguished, rather than being measured, so using fair value is appropriate.

The questions I would like to ask from a theoretical view is on the equity side – IFRIC 19 is clearly canvassing a situation where equity instruments cannot be fair valued, yet the new IFRS 9 says they must be.

Am I the only one to see a conflict here? I would guess this IFRIC will lapse on full implementation of IFRS 9.

Oh – and if the AASB can get a version of both of these up there soon I (and many others) would appreciate it.


*I like it that “financial” can be in there twice. I tried to work out how to get rid of it, but I did not try too hard.

Following a suggestion I have been reading a book by Naomi Lamoreaux on the development of banking in New England1. It is called Insider Lending: Banks, Personal Connections, and Economic Development in Industrial New England.

She makes a number of excellent points in the book, and, to me, anyone with an interest in the development of modern banking should give it a look. Quite a few of the points she makes relate to the way that the improving understanding of credit risk, and the development of modern risk management, was, to a large extent, responsible for the development of modern, large banks.

I would argue, consistent with my earlier post on regulation, that it was not solely this, as an increase in regulation did play a major part, but I think it was more of a virtuous (or perhaps vicious) circle – with an increase in the size of banks, and an increasing ability to lend to whoever happened to turn up to the bank driving further regulation – which then effectively forced the smaller banks to grow or perish – creating more regulation.

The central point of the book is simple – early banking in the US (and, she presumes, elsewhere) was severely hampered by an inability to assess credit risk, so what happened was when a bank was founded it generally had several directors, men (and they were all men) of substance who effectively both lent their names to the bank and risked a large part of their fortunes in the venture.

In return, what they got was access to the banks funds, with a typical bank lending between 20 and 50% of its funds either to the directors or family members of the directors – the “insiders” of the title. They were, to an extent, protected from unlimited liability by the bank’s charter, but  this protection was often more illusory than real as to default would normally not only spell the end of the bank, but also the reputation of the individual directors.

The result was that the directors typically had an overwhelming say in the allocation of the bank’s lending, and they often lent to themselves or to others they knew well.

While today this may be looked on askance (and as possible criminal activity) then it was considered normal business for the reasons set out above. The difficulty of assessing credit risk meant that only lending to people you knew well (and, presumably trusted) was reasonably safe and, as you effectively had your own money on the line, you wanted to be really safe.

This had several effects – most people were effectively locked out of the banking system until they reached a point where they were rich enough to either own their own bank or to know someone who did. The second was that banks tended to be small – really small – with around 6 directors each and few employees. They also tended to have really high capital and liquidity ratios and charge really big margins. This then locked still more people out of the borrowing market.

The development of modern risk management practice, in all fields but particularly credit risk management, put paid to this model. While a few micro banks lingered into the modern era (and a few unit banks survive in the US) the bulk either went out of business or were bought out in the period up to the first world war.

The simple fact is that bigger banks, once you can overcome the difficulty of finding the good risks to lend to, are much, much more efficient2. If you can lend to more people, and people you do not personally know, you do not need your (comparatively expensive) directors to take every decision. You can directly obtain diversification benefits, cutting down losses per dollar lent. You can also, as a consequence, reduce your liquidity and capital ratios so you can drive more lending off the same amount of deposits (not, of course, that you can lend more than you have in deposits) and you can generally make more money.

For those campaigners for “social equity” it also makes a clear point – without modern risk management the poor are effectively locked out of the banking system entirely – so if they want (or need) to borrow funds they need to go to the loan sharks to get one. Personally, I would prefer to pay 6 to 10 percent to a bank than 20 to 50 percent to a loan shark. The bank also tend to not threaten to break my legs for non-payment. Banks can be funny that way.

The directors also become much more removed from the day-to-day operations,becoming more like the modern directors of a bank, able to reduce the risk to their own personal assets that may result from a bank collapse.

I would encourage readers to have a look for this book and give it a read, as it fills in a hole often left in the discussions on the development of modern banking.


1. For those not familiar with the term, or who may be thinking of another New England as there are several, she means the US states to the north east of New York.

2. They can also, as I pointed out earlier, deal with the regulation better, and they can lobby government more effectively – i.e. be more efficient rent seekers.

Following on from the recent discussion regarding bank logos, this post (from this week’s cavalcade) made me think that perhaps we could do something with Australian bank names.

In the spirit of French Connection UK, then, suggestions are requested for bank names relevant to Australia (or New Zealand) that would have as big an impact as the name FCUK did.

The best entry will be close to an existing name, have real impact and would be legal to put on the outside of a bank branch.

Warning, though – anything outright obscene will be summarily deleted.

WestpacThese votes have now closed and, using a highly unscientific method, I can proclaim that Westpac has the best bank logo in Australia and that the ANZ has the worst.

ANZThe vote in favour of Westpac was very tight, but the ANZ was a clear loser.

I should add that I remember when Westpac’s new logo came out it was widely derided – along with the adoption of that name in place of “The Bank of New South Wales” – so there may be hope for the ANZ yet. Perhaps it will take just a new round of even sillier logos for the majors for the ANZ’s choice to not look that bad.

Perhaps I should add a special mention in the international category for this one – commenters variously had it as being a brassiere, a representation of tenpin bowling or, bizarrely, two reptilians talking to each other. Personally I think it looks more like two thumbs up or, perhaps what was originally intended, two people talking to each other.
Anyway, congratulations Westpac and commiserations to the ANZ. Perhaps you can get a little of the money back from the image consultants that you no doubt paid a lot.

The “final” released standard on classification and measurement as released today is – not final. This is for the simple reason that financial liabilities have been specifically scoped out. The reason for this is simple – the IASB cannot figure out what do do about “own credit risk” on liability instruments. If you want a full(er) discussion on this, please have a look at my last post on this topic, here. Suffice to say they seem to have recognised that this is a problem they were not going to be able to solve in the time they had given themselves, so they dropped it.

I am not sure how they can claim to have completed the first phase when they have dropped part of it, but, given the number of projects I have been involved in that have had to drop deliverables to meet a self-imposed deadline I cannot say I am surprised.

Normally at this point I would link to the finished standard and then talk about it. This, however, I cannot do as the IASB, in line with normal practice, wants you to pay to get to the standard. So instead what I will do is copy the summary of significant decision and then talk about each one in order. Once I have a hard copy of the standard I will give a more rounded response. I am too cheap to pay for my own copy when I can get one in a day or so for nothing. Read the rest of this entry »

I don’t normally advertise new blogs, but this one looks like it is worth a look. It looks like “nzriskmanager” is going to develop into a useful resource. Give it a go.

There is a heck of a lot in this, so I have split this into two posts – one on the exposure draft (ED) on amortised cost (AC) and impairment and one on the (now released) “final” standard on classification and measurement – which is also long and will take a day or so. If you want to know why that is in scare quotes, go there when it appears.

As you can tell from the title, this is the one on amortised cost and impairment.

To read what the IASB has to say on this, go here for the press release and here for the content. As previously advised, I would suggest sticking to the basis for conclusions (BCs) as they are more readable, but if you want to submit a comment, you will need the exposure draft.

Having now read this a couple of times and listened to the webcast, I am still uncertain in a number of areas. I think this is going to take some work over the next couple of weeks to get sorted out and then the (now) three years’ implementation period to get roughly right.

That’s right – three years. As part of the release of this section the Board said that the earliest date for mandatory adoption will be 1 January 2013 – with early adoption permitted. This is apparently as they realise the complexity of this (I feel like saying no and a certain four letter word at this point) and to align with the prospective new insurance contracts standard. It may even be delayed past 2013 if that standard is delayed. In the webcast to night they were at pains to say they did not want to have insurance companies unduly inconvenienced by having a double change of standards.

I will work through the ED in the order in the BCs  as I have advised reading those. Where there is something in the ED that I find interesting I will cover it even if it is not mentioned in the BCs. Read the rest of this entry »

As I believe we are allowed to call it now, the IASB will be hosting another webcast tonight (Australian time). I will be attending to keep up, as prompted by bruce in comments. If you are interested in the standard, and can stand listening to discussions on accounting standards by highly technical accountants late at night, I would suggest attendance.

I will be holding back on a full summary of this part of the new standard until after that webcast as, to be frank, some of the parts of the draft standard look very odd, and I want to make sure I understand them properly before I rush to judgement. At first glance, though, it looks like being even more technical than the existing, with an enormous amount more disclosure – some of which is likely to be counterproductive. The stress-testing disclosures could fall into this category, for example.

Many other things about it appear, ummm, very “interesting”. One thing in particular is the likely mandatory date – some time in 2013, with early adoption permitted. I cannot see many choosing early adoption if it is as I understand it to be – something actually acknowledged in the BCs.

If this goes ahead as it is I think it will be a(nother) feeding frenzy for the accounting firms. I might try and get back in.

Oh – and if you want to get a copy for yourself, it is here. Unless you particularly like reading standards, I suggest downloading the BCs as they are a touch more readable and cover their actual reasons for the decisions.

OK – here is the (slightly) nastier one – the one for the worst logo.

While I do not particularly like the new ANZ one, I am not sure it is the worst, so have a go and see if you think there are worse one, or ones.

Voting in both these polls will end at the end of this week, so go for it.

Worst Bank Logo (Poll Closed)

Just to remind you – here are the (current) contenders in this poll.

Usefull links

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