Presentation and disclosure (ias 32/ifrs 7) - Risk disclosur...

Learning Outcomes

After reading this article, you will be able to explain the requirements of IAS 32 and IFRS 7 with respect to risk disclosures in financial statements. You will know how to distinguish between credit, liquidity, and market risk, identify mandatory disclosure items, and apply these standards to practical ACCA exam scenarios. You will also be able to critically assess disclosures for relevance and compliance.

ACCA Strategic Business Reporting (SBR) Syllabus

For ACCA Strategic Business Reporting (SBR), you are required to understand the presentation and disclosure of risks related to financial instruments and the corresponding requirements in IAS 32 and IFRS 7. Focus your revision on:

• Presentation principles of financial instruments under IAS 32
• Disclosure objectives and detailed requirements of IFRS 7
• The definitions and practical distinctions between credit risk, liquidity risk, and market risk
• Disclosure of qualitative and quantitative information about risk exposures and risk management policies
• How disclosures impact users' assessment of financial statements
• Application of risk disclosure requirements to exam scenarios

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. What are the three principal types of risk that must be disclosed under IFRS 7 by entities holding financial instruments?
2. For each risk type, name one key disclosure requirement under IFRS 7.
3. True or false? Sensitivity analysis is required for all significant types of market risk.
4. Briefly explain the difference between qualitative and quantitative risk disclosures as required by IFRS 7.

Introduction

Financial statements must not only present values and classifications of financial instruments but also provide transparent information on risks faced by entities. IAS 32 sets out rules on the presentation and classification of financial instruments as liabilities or equity, while IFRS 7 specifies detailed risk disclosure requirements. These risk disclosures enable users to evaluate an entity’s exposure to credit, liquidity, and market risks, and to make informed decisions.

Key Term: Credit risk
The risk that one party to a financial instrument will cause a financial loss for the other party by failing to discharge an obligation.

Key Term: Liquidity risk
The risk that an entity will have difficulty meeting obligations associated with financial liabilities as they fall due.

Key Term: Market risk
The risk that the fair value or future cash flows of a financial instrument will fluctuate due to changes in market prices, including interest, currency, and other price risks.

Presentation Requirements (IAS 32)

IAS 32 requires issuers to classify instruments based on contractual terms as financial assets, financial liabilities, or equity. The classification impacts where related disclosures and risk exposures are shown in the financial statements.

• Financial assets and liabilities must not be offset except in strictly limited circumstances.
• All disclosures relating to risks must be linked to the line items presented as required by IAS 1.

Key Term: Financial instrument
Any contract that gives rise to both a financial asset of one entity and a financial liability or equity instrument of another entity.

IFRS 7: Objectives and Scope

IFRS 7 applies to all entities that hold financial instruments. Its main aim is to require disclosures that help users evaluate:

• The significance of financial instruments for the entity’s financial position and performance
• The nature and extent of risks arising from those financial instruments

These disclosures must cover both the qualitative (nature and management of risks) and quantitative (exposure amounts) aspects.

Disclosure Requirements: Overview

Qualitative Disclosures

Entities must describe:

• The nature of each risk arising from financial instruments (credit, liquidity, market)
• Risk management objectives, policies, and processes

Quantitative Disclosures

Entities must disclose:

• Summary numerical data about exposure to each risk at the reporting date, based on information provided to key management personnel
• Information on concentrations of risk

Key Term: Qualitative disclosure
Narrative information explaining the nature of risks and how they are managed.

Key Term: Quantitative disclosure
Data expressing the magnitude of risk exposures, often in tables or sensitivity analyses.

Credit Risk Disclosures

Entities must disclose:

• Maximum exposure to credit risk at the reporting date (excluding collateral)
• Information about credit quality of financial assets, including credit risk grading and impairment
• Details about collateral and credit enhancements, if relevant
• Information about past due and impaired financial assets, including aging analysis

Worked Example 1.1

An entity holds $2 million of trade receivables, all unsecured, with $150,000 overdue by more than 60 days. The entity’s credit policy does not require collateral.

Required: What credit risk disclosures are required under IFRS 7?

Answer:
The entity must disclose that its maximum exposure to credit risk is $2 million. It should provide an aging analysis, showing $150,000 is past due by more than 60 days, and describe any relevant credit risk management policies, even if no collateral is held.

Liquidity Risk Disclosures

Entities must disclose:

• A maturity analysis for financial liabilities, showing remaining contractual maturities
• How the liquidity risk is managed, such as policies for maintaining sufficient cash and credit lines
• The process for monitoring liquidity

Worked Example 1.2

A company has a $5 million loan due in three years, a $1 million payable in six months, and a $500,000 overdraft payable on demand.

Required: How should these be presented for liquidity risk purposes?

Answer:
The company must prepare a table showing undiscounted expected cash outflows for each liability based on their contractual maturities: $500,000 “on demand”, $1 million “within 1 year”, $5 million “after 2–3 years”, plus future interest payments if significant.

Market Risk Disclosures

Entities must separately disclose exposures to:

• Interest rate risk
• Currency risk
• Other price risks (e.g., equity price risk)

Entities must disclose:

• Sensitivity analysis showing the impact of reasonably possible changes in each relevant market variable (e.g., a 100 basis point increase/decrease in interest rates)
• Methods and assumptions used for sensitivity analysis
• Changes in methods or assumptions, if any

Worked Example 1.3

Delta Plc has $3 million in floating-rate loans and $2 million in EUR-denominated investments. The company assesses that a 1% increase in market interest rates would increase finance costs by $30,000. A 10% change in EUR/USD rate would change profit by $50,000.

Required: What market risk sensitivity disclosures are required?

Answer:
Delta Plc must show the effect of a 1% movement in interest rates ($30,000 cost increase/decrease) and a 10% movement in the exchange rate ($50,000 profit impact), along with an explanation of calculation methods.

Exam Warning

The most frequent error in exams is omitting the sensitivity analysis for significant market risks, or failing to explain the basis of the analysis. Always specify the variables, assumptions, and units used in calculations.

Other Disclosure Considerations

• For each risk, disclose concentrations, such as major counterparties, geographical regions, or instrument classes.
• Highlight any changes in exposures, risk management strategies, or methods since the last reporting period.
• Entities should explain any instances where risks appear unusually elevated (e.g., large receivables from a single customer).

Revision Tip

Tables can make maturity and sensitivity analyses clearer for the examiner. Practice drafting concise, well-labeled tables for presenting liquidity and market risk data.

Summary

Comprehensive risk disclosures in accordance with IAS 32 and IFRS 7 are essential for helping users understand the uncertainty associated with financial instruments. Entities must distinguish clearly between credit, liquidity, and market risks, and provide both qualitative narratives and quantitative data—especially maturity analyses and sensitivity calculations—covering all significant exposures.

Key Point Checklist

This article has covered the following key knowledge points:

• Explain the importance and objectives of risk disclosures under IAS 32 and IFRS 7
• Define and differentiate credit risk, liquidity risk, and market risk
• Identify and describe mandatory qualitative and quantitative disclosures for each risk type
• Prepare required maturity and sensitivity analyses for exam scenarios
• Recognize common examiner pitfalls when discussing risk disclosures

Key Terms and Concepts

• Credit risk
• Liquidity risk
• Market risk
• Financial instrument
• Qualitative disclosure
• Quantitative disclosure