Companies that use Payables Finance arrangements (also known as Supply Chain Finance or Reverse Factoring) may soon see the introduction of additional disclosure requirements in financial statements under a new work plan being proposed by the International Accounting Standards Board (IASB).
This comes in response to a rising tide of calls from rating agencies and investors for further and more prescriptive financial statement disclosures with respect to these arrangements. Their concern is around the level of default risk and liquidity risk a company is subject to should funders pull these arrangements with minimal warning, given their short-term, uncommitted nature.
This concern has been exacerbated by the high-profile cases of Abengoa, Carillion, and most recently, Greensill. While some have called for radical measures such as the reclassification of these arrangements from trade payables to bank debt, Demica believes our job, as an industry, is to show these extreme examples as they are – events to learn from which help identify future red flags when assessing and implementing effective Payables Finance programmes.
The IASB’s recommendations were published in a staff paper, and the IASB Board decided during the meeting of June to add a “narrow-scope standard-setting project”to address these recommendations. The scope of the project will be limited to disclosure requirements only (in the Notes section of the financial statements) and the Board’s key tentative decisions are as follows:
- To develop disclosure requirements for Payables Finance arrangements specifically (i.e., not arrangements to fund receivables or inventory).
- To add the following quantitative information to help users of financial statements determine the effects of payables finance on an entity’s financial position and cash flows:
- aggregate amount of payables that are part of the arrangement;
- aggregate amount of payables disclosed under (2.1) for which suppliers have already received payment from the finance provider;
- range of payment terms of payables disclosed under (2.1);
- range of payment terms of payables that do not form part of the arrangement
- To add the following qualitative information to help users of financial statements understand the risks that arise from payables finance:
- key terms and conditions of the arrangement
- To add “sign-posts” to the liquidity risk disclosure requirements in IFRS 7 Financial Instruments: Disclosures to explicitly refer to the liquidity risks that arise from Payables Finance arrangements.
On the whole, we support the stance IASB has taken thus far and the general recommendation for greater disclosures in financial statements. This will allow investors and other stakeholders, who rely on credit and equity valuations, to be better informed of Payables Finance programmes and attract more into the market.
One potential point of contention, however, is the recommendation to disclose the amount for which suppliers have received payment from the finance provider, as buyers should be separated from the financing activity, or risk the potential reclassification in accounting treatment to bank debt. It would be interesting to see how auditors assess this specific point, perhaps taking into consideration that this is not information buyers are exposed to on an ongoing basis and would only receive from the finance provider for the purpose of preparing financial statements.
Our previous blog, “Reverse Factoring: Risk Management”, highlights some other considerations and best practice when assessing the accounting treatment of Payables Finance arrangements. It’s important for the industry to continue to take appropriate measures as the world evolves and improve transparency around risks. In this increasingly uncertain environment, many companies, in particular SMEs, are turning to Payables Finance arrangements as a fuel for growth, and we only expect its adoption to increase in the future. As such, we have, and must continue to, avoid the knee-jerk reactions to negative events which may involve Payables Finance as one source of liquidity. A positive outcome from the recent spotlight on the product has shown that, whilst reigniting the debate and discussion around risks, there was also increased visibility on the benefits this product has provided as a source of lifeblood during the pandemic, and its potential to help the economy in the recovery and beyond.
For more information about our Payables Finance products, visit our Payables Finance page below:
Maurice joined Demica in October 2017 from Wells Fargo where he was CEO, Commercial Distribution Finance, responsible for a $3.0bn of receivables assets and over 400 people. Maurice joined Wells from GE Capital where he held a number of senior positions including Chief Commercial Officer of GE Capital International. Prior to GE, Maurice worked as a senior investment banker at Lehman Brothers, Bankers Trust and Paribas.