On 15 January 2015, the Swiss National Bank (SNB) ended its three-year-long cap of 1.20 Swiss franc per euro, triggering a record surge in the Swiss franc against the euro, resulting in the Swiss franc’s highest gain in more than three years versus the US dollar. At the same time, the SNB lowered the interest rate on sight deposit account balances that exceed a given exemption threshold by 0.5 percentage points to −0.75%. The SNB is moving the target range for the three-month Libor further into negative territory, to between –1.25% and −0.25%, from the previous range of between −0.75% and 0.25%. The SNB’s decision will undoubtedly cause a number of additional challenges to Financial Institutions.
Measurement of assets and liabilities in the financial statements 2014
Overall, there is no immediate impact on the measurement of assets and liabilities in the financial statements for the year ended 31 December 2014 if these were prepared in accordance with IFRS or any other local GAAP (Swiss banking accounting rules, Swiss Code of Obligations) as long as the going-concern assumption is appropriate. The abandonment of the EUR/CHF cap represents a non-adjusting event after the balance sheet date.
Impact on goodwill impairment tests prepared before year-end
The question arises how the decrease in the EUR/CHF exchange rate impacts the recoverable amount of e.g. Goodwill determined for an impairment test when the cash generating unit with functional currency CHF creates cash flows in EUR. In such a case, IFRS (IAS 21.25, IAS 36.54) require the EUR cash flows to be discounted using a EUR discount rate and the resulting present value to be translated into CHF using the spot exchange rate at the date of the calculation. Therefore the decrease in the EUR/CHF exchange rate also has no impact on an impairment test. The impairment test does not need to be redone based on a revised budget for the year ended 31 December 2014, however the FX effects might be considered in the sensitivity analysis of reasonable possible changes in key assumptions and their effect on the recoverable amount.
Additionally, the FX turmoil and the resulting cash flows / net operating profits that are lower than originally budgeted could represent a triggering event indicating that Goodwill may be impaired. In this instance, an indicator-based impairment test in the first quarter / half year 2015 might be required.
As an immediate consequence, Financial Institutions need to assess whether and how the measurement of assets is impacted. Aspects to consider are:
- Unexpected increase in credit and market risk exposure, including potential jumps in defaults in the loan books
- Collateral shortfalls and failed margin calls.
- Increased credit risks in trading of financial instruments, in particular derivatives and structured products-
Financial Institutions that identify material losses between the reporting date and the date when the financial statements are authorized for issue, must disclose the nature of the event and provide an estimate of the financial effect of material non-adjusting events after the reporting period.
Sensitivity analysis for market risks of financial instruments:
IFRS and Swiss banking accounting rules require quantitative information and a sensitivity analysis for each type of market risk to which an entity is exposed. Financial Institutions should consider amplifying the disclosures for the foreign currency risk so that the quantitative effect of the decrease of the EUR/CHF exchange rate after the balance sheet date becomes evident. Additional disclosures on interest rate risk, especially on the impact of negative interest, might be helpful to the reader of the financial statements.
Impact on dividend distribution
Financial institutions should also consider whether negative currency implications could influence planned distribution of dividends. For example, significant (foreign exchange) losses incurred by the Financial Institutions during the subsequent interim period may have wiped out or significantly reduced retained earnings existing at 31 December 2014 . Consequently a dividend appropriation based on the profits of 2014 might no longer comply with Swiss law as the entity might not have any available retained earnings left after taking into consideration the losses identified subsequent to the reporting date.
There is no immediate impact on the measurement of assets and liabilities in the financial statements 2014. However, the situation will have to be re-assessed for the year 2015 to better understand the impact of the SNB decision on a Financial Institution’s business resilience, earnings and dividend potential, legal and regulatory risks and capital, solvency and liquidity ratios.