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Nexia Ebner Stolz


Effects of the Low-Interest Phase on Annual Financial Statements

Per­sis­tently low mo­ney mar­ket in­te­rest ra­tes are also af­fec­ting com­pa­nies’ ac­coun­ting and an­nual fi­nan­cial state­ments, at least in­di­rectly.

In­te­rest ra­tes have now re­mai­ned at a his­to­ri­cally low le­vel for al­most a de­cade, as a con­se­quence of the ex­pan­sio­nary mo­ne­tary po­licy ad­op­ted by cen­tral banks. Since com­pa­nies use in­te­rest ra­tes to cal­cu­late the time va­lue of mo­ney, for ex­am­ple when mea­su­ring re­ceivab­les, and to pre­sent the re­sults of pro­fi­ta­bi­lity cal­cu­la­ti­ons in their ac­coun­ting and their an­nual fi­nan­cial state­ments, the in­te­rest rate le­vel has a not in­si­gni­fi­cant ef­fect on the mea­ning­ful­ness of these re­por­ting in­stru­ments. Even though there is no di­rect cau­sa­lity bet­ween mo­ney mar­ket in­te­rest ra­tes and dis­count ra­tes, lo­wer mo­ney mar­ket in­te­rest ra­tes ef­fec­tively cause dis­count ra­tes to fall as well.

© Fotolia

Write-downs due to impairment testing to become less likely

In IFRS con­so­li­da­ted fi­nan­cial state­ments, an­nual im­pair­ment tes­ting is pa­ra­mount for the mea­su­re­ment of good­will and tra­de­marks, which are not amor­ti­zed (im­pair­ment-only ap­proach). In im­pair­ment tests, the car­ry­ing amount of the as­sets in ques­tion is com­pa­red with the pre­sent va­lue of the fu­ture cash flows ex­pec­ted to be de­ri­ved from these as­sets, with a dis­coun­ted cash flow (DCF) me­thod being used to cal­cu­late the pre­sent va­lue. The lo­wer the in­te­rest rate used to dis­count the cash flow that is re­le­vant for the mea­su­re­ment, the hig­her the pre­sent va­lue and the more un­li­kely im­pair­ment los­ses be­come. The cause-and-ef­fect re­la­ti­ons­hip out­li­ned above af­fects all as­sets re­por­ted on the as­sets side of the state­ment of fi­nan­cial po­si­tion whose mea­su­re­ment is ba­sed on a cal­cu­la­tion of the pre­sent va­lue. Ex­cept for the as­sets that are usually mea­su­red at fair va­lue in IFRS ac­coun­ting (for ex­am­ple, in­vest­ment pro­perty), the up­per li­mit for the mea­su­re­ment is the (amor­ti­zed) cost of the as­set in ques­tion. 

Appreciation of retirement benefit obligations merely deferred

Low dis­count ra­tes also im­pact on the mea­su­re­ment of lia­bi­li­ties and pro­vi­si­ons car­ried at their sett­le­ment amount. It is nor­mally long-term re­ti­re­ment be­ne­fit ob­li­ga­ti­ons that are af­fec­ted to the grea­test ex­tent by in­te­rest ra­tes. Pen­sion pro­vi­si­ons rise by an aver­age of around 15% when the dis­count rate falls by one per­cen­tage point. 

Law­ma­kers took ac­count of the ex­pec­ted—and in some ca­ses di­sastrous—fi­nan­cial char­ges ari­sing from the per­sis­tently low in­te­rest rate le­vel, re­sol­ving on Fe­bru­ary 18, 2016 to change the way in which the ac­tua­rial in­te­rest rate is cal­cu­la­ted for dis­coun­ting pen­sion pro­vi­si­ons re­co­gnized in ac­cor­dance with the Ger­man Com­mer­cial Code: This now uses the aver­age in­te­rest rate for the last ten years ra­ther than for the last se­ven years. As a re­sult, the re­le­vant dis­count rate as of De­cem­ber 31, 2016 is now 4.01% (ten-year aver­age) in­stead of 3.24% (se­ven-year aver­age). The drain on equity im­pe­ded by po­li­cy­ma­kers that re­sults from the lon­ger cal­cu­la­tion pe­riod is sub­ject to a re­stric­tion on dis­tri­bu­tion, howe­ver.

This mea­sure me­rely ser­ves to de­fer the in­te­rest rate-re­la­ted app­re­cia­tion of the re­ti­re­ment be­ne­fit ob­li­ga­ti­ons; it does not neu­tra­lize it. As­su­ming in­te­rest ra­tes re­main con­stant in the fu­ture, pen­sion pro­vi­si­ons re­co­gnized in ac­cor­dance with the Ger­man Com­mer­cial Code will con­ti­nue to rise be­cause the aver­age in­te­rest rate for the last ten years will ne­vert­he­less fall over time. This ef­fect may be de­layed fur­ther if po­li­cy­ma­kers again ex­tend the pe­riod for cal­cu­la­ting the aver­age in­te­rest rate.

In IFRS fi­nan­cial state­ments, howe­ver, no cor­re­spon­ding in­te­rest rate-re­la­ted char­ges are re­co­gnized be­cause the dis­coun­ting is still per­for­med on the ba­sis of prime fi­xed-in­come mar­ket yields.

Defined contribution plans lead to planning reliability

To li­mit the costs of re­ti­re­ment be­ne­fit plans and re­gain plan­ning re­lia­bi­lity, in the fu­ture com­pa­nies could eit­her ex­er­cise grea­ter res­traint in awar­ding new con­tracts for pen­sion funds or in­cre­asin­gly move over to de­fi­ned contri­bu­tion plans in which the em­ployer ma­kes a fi­xed contri­bu­tion to the com­pany pen­sion. Un­like in a de­fi­ned be­ne­fit plan, a spe­ci­fied pay­out is not gua­ran­teed, which gi­ves the en­ter­prise plan­ning re­lia­bi­lity in re­la­tion to fu­ture pen­sion costs.

Accounting policies may lead to distorted presentation in the annual financial statements

A low or fal­ling in­te­rest rate le­vel does not af­fect the as­sets and lia­bi­li­ties si­des of the state­ment of fi­nan­cial po­si­tion in equal mea­sure. On the one hand, the pre­sent va­lues of ex­pec­ted cash out­flows in­crease, lea­ding to hig­her pro­vi­si­ons that are re­co­gnized as an ex­pense but do not af­fect the cash po­si­tion. On the other hand, apart from cer­tain ex­cep­ti­ons un­der IFRSs, the ri­sing pre­sent va­lues of ex­pec­ted cash in­flows as a con­se­quence of fal­ling in­te­rest ra­tes are not per­mit­ted to be shown th­rough (amor­ti­zed) cost. This af­fects com­pa­nies be­cause, all other things being equal, the si­tua­tion pre­sen­ted in the fi­nan­cial state­ments un­der Ger­man com­mer­cial law wor­sens and, for in­stance, fi­nan­cial co­ven­ants are lin­ked to fi­nan­cial ra­tios even though the de­te­rio­ra­tion in the si­tua­tion is not ne­ces­sa­rily a re­flec­tion of the as­sess­ment of the com­pany’s po­si­tion from a com­mer­cial per­spec­tive.

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