Impact of IFRS on Housing Finance Companies

1. Impact of IFRS on Housing Finance Companies 29th CEO’S Meeting of HFCs Presentation By Mr Keki Mistry March 17, 2010

2. Fundamental difference between IFRS and Indian Accounts Proposed Convergence Path Regulatory Alignment Significant Impacts for HFCs Contents

3. Indian Accounts are prepared on the basis of historical cost and prudence IFRS reports certain item of Assets and Liabilities at Fair Value and not at Original Cost Fundamental Differencebetween IFRS and Indian Accounts

4. Commencement date 1st April 2011 reiterated by MCA Phases suggested by MCA for convergence Phase 1: Nifty 50 and Sensex 30 companies, Companies listed outside India, Companies with over Rs 1000 crorenetworth Phase 2: All companies (listed and unlisted) with networth between Rs 500 crores and Rs 1000 crores Phase 3: All listed companies with networth below Rs 500 crores Changes proposed in Companies Act sent to MCA 2 set of Accounting Standards suggested 1st set that converge with IFRS 2nd set that carries the existing standards Proposed Convergence Path

5. Income Tax Act Treatment of Fair Value gains and losses Impact of Fair Value changes for Asset Based Taxation NHB Regulations Guidelines on provisioning and income recognition Companies Act Amendments suggested for Schedule VI and XIV Certain Sections are also being amended Accounting Standards Most significant change in the standard on Financial Instruments Derivatives Investments – Fixed Income and Equity Regulatory Alignment

6. Changes in the Companies Act - 1 Dividend (Section 205) Allows Dividends out of PROFITs for the year Under IFRS certain PROFITs may go to Reserves Legal confirmation for certain transactions Amalgamation and Reconstruction require ratification by the courts/ tribunals (Sections 391 to 394) before they can be incorporated into the accounts Under IFRS, date of acquiring the control is the trigger point

7. Changes in the Companies Act - 2 Funding growth thru debt (Section 78) Premium on Redemption of Debentures is allowed to be debited to Share Premium Under IFRS this has to be debited to P&L Treasury Stock Buyback of its own stock leads to reduction in the capital of the company (Section 100) Under IFRS this is permitted to be held as Treasury Stock

8. Other Comprehensive Income This concept does not exists in Indian Accounting Under IFRS, certain Income and Expenses are recognised directly in Shareholder’s equity under the head Other Comprehensive Income e.g. Fair value changes in equity/ derivatives Changes in the Companies Act - 3

9. Changes in Schedules (under Companies Act) Depreciation (Schedule XIV) Useful life is limited by the Act, higher life not allowed Under IFRS, useful life is a management estimate Presentation of Income Statement (Schedule VI) Currently as per specified format Under IFRS no format is prescribed Presentation of Balance Sheet (Schedule VI) Formats specified. Specific formats for Banks and Insurance Under IFRS, items are classified into Current and Non Current

10. Derivatives have to be Fair Valued (FV) MTM Gains and Losses recognised in PL unless proved as hedge Hedge is proved if [Change in FV of Underlying ÷ Change in FV of derivative] lies between 0.80 and 1.25 Mathematical proving may be difficult even though economically valid If effectiveness proved: Net difference between FV of Underlying and Derivatives is taken to PL If not proved : MTM effect of Derivatives taken to PL, Underlying remain at Amortised Cost This can cause huge unwarranted volatility Intention to hold the derivative till maturity does not have an impact Accounting for Derivatives

11. Example of Forward Contract • A company borrows USD 100 mio @ Rs 48/ USD (Rs 480 crores) for a 5 year period • Loan hedged on same day through a forward contract at Rs 53.00 (Forward premia Rs 5) • Currently Rs 5 is amortised over the life of the loan @ Rs 10 crores per year • Under IFRS this would happen: • As on next reporting date : • USD/INR spot rate : 45.50 • Forward Rate for balance to maturity period : 49.00 • Gain on Loan Revaluation (100 mio * 2.50) : Rs 25 crores • Mark to Market Loss on Forward Contract (100 mio * 4.00) : Rs 40 crores • Mathematical ratio 0.625 (25 ÷ 40) does not prove effectiveness on the reporting date • Net Ineffectiveness : Rs 15.00 crores debit to Profit and Loss Account in this method • The total debit to PL will be Rs 50 crores over 5 years under both methods • The periodic allocation under current accounting is smooth • While the periodic allocation under IFRS is volatile

12. Amortisation of loans to be done based on effective rate Loan Fees and Costs (e.g. DSA commission) would get deferred Impairment General impairment based on Statistical models of Default Probability and Expected Loss Specific impairment for significant items based on present value of expected Cash Flow Impairment amounts likely to be lower than current regulatory guidelines Amortisation and Impairment

13. Investments in Equity Shares Other than Subsidiaries and Associates These would be Fair Valued Fair Value differences can be either through PL or into Reserves If routed into Reserves, the final gain/ loss would also go into Reserves Investment in Subsidiaries and Associates Either the above method can be used or these can be valued at cost Capital Requirements Volatility due to changes in Fair Valuation Credits to Reserves – are these Tier 1 capital ? Investments and Capital Requirement

14. These would get Fair Valued using the market rates This would adversely impact the 1st year PL Staff Loans

15. ESOPS The option would get Fair Valued and charged as a Cost Option of Intrinsic value is not available Interest Free Deposits (for Rent etc.) Similar to Staff Loans – would get fair valued with initial loss ESOPs and Interest Free Deposits

16. Thank You