Investments - Alternative accounting Options for Managing a substantial Balance Sheet Item

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Investments - Alternative accounting Options for
Managing a substantial Balance Sheet Item
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Accounting for Investments

• A credit union may invest any of its funds
• in securities in which trustees are authorised by
  law to invest
• shares deposits or loans to another credit union
• shares of Industrial and Provident Societies
• other investments as may be prescribed by the
  central Bank
• Other funds on current account with a credit
  institution
• Other non-permitted investments to be disposed of
  within 2 years

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Accounting for Investments

• Investment prescribed by Central Bank
• Irish and EMU State Securities
• Accounts in Authorised Credit Institutions (Irish
  and Non-Irish based).
• Bank Bonds
• Investment in Equities
• Collective Investment Schemes

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Realised profits
The Credit Union Act
only surpluses realised at the balance sheet
date shall be included in the income and
expenditure account all income and charges
shall be taken into account without regard to the
date of receipt of payment..
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Realised profits
The Guidance

• Realised means received in
• Cash
• An asset that is readily convertible to cash
  (traded in an active market)
• accrual of investment income in 2

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Realised profits Practical examples

• Short term deposits all realised
• Long term deposits encashment value realised
• Long term deposits nominal value - unrealised
• Government bonds - realised (active market)
• Bank bonds - active market - realised
• Bank bonds in-active market - not realised
• Bank bonds encashment value realised
• Equities realised
• Collective Investment Schemes - encashment value
  realised
• Collective Investment Schemes - nominal value
  not realised

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Spanish Government Bonds Extract from investor
analysis At a current price of c. 100.45, the
bond yields c. 2.95 and matures in January
2016. ? As a comparison, three year Irish
Government bonds yield c. 2.10 and a three year
deposit with AIB will pay c. 2.05. ? This bond
pays a coupon of 3.15 annually which can be
distributed. This will diversify counterparty
exposure to sovereign risk and reduce the
pressure on domestic bank counterparty exposures
Over the life of the investment investing in this
Spanish Government bond will generate additional
income versus a similar 3 year deposit with AIB
yielding 2.05 of c. 13.6k
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Accounting for Investments 1/5

• Irish and EMU State Securities - criteria
• Maturity not more than 10 years
• 30 max in 7 year bonds
• Not more than 70 of CU portfolio

• Held to maturity
• Yield profit
• Capital gains and losses ignored
• Check for impairment

• Amortised Cost
• Yield profit
• Capital gains and losses booked

• Fair value
• Yield profit
• Capital gains and losses booked

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Accounting for Investments
Irish and EMU State Securities - amortised
accounting cost model
Issued 0.95
Redeemed 1
Yield coupon (1-0.95)/6 periods
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Accounting for Investments
Irish and EMU State Securities - amortised
accounting cost model
Redeemed 1
Credit downgrade
Issued 0.95
Held to maturity ignore downgrade (but consider
impairment) Cost and fair value book downgrade
increased yield in future years
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Accounting for Investments

• Irish and EMU State Securities - purchase at a
  premium
• Nominal value 1.0m
• Coupon 5.5
• Yield 2.556 (monthly yield)
• Cost to purchase (_at_111.6) 1,111,600
• Redeemed in 2017 for 1m

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Accounting for Investments

• Irish and EMU State Securities - purchase at a
  premium
• Nominal 1.0m, Coupon 5.5, Yield 3.8 (simple)
• Cost 1,111,600 Redeemed in 2017 for 1m

Opening Yield Coupon Closing year
1111 7.0 55 1063 2013
1063 40.4 55 1048 2014
1048 39.8 55 1033 2015
1033 39.3 55 1018 2016
1018 38.7 55 1000 2017
2 month to coupon date
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Accounting for Investments
Irish and EMU State Securities
Redeemed 1
2014
Credit downgrade
2013
2016
Issued 1.11
2015
Held to maturity ignore downgrade (but consider
impairment) Cost and fair value book downgrade
increased yield in future years
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Accounting for Investments 2/5

• Irish and EMU State Securities - purchase at a
  premium
• Lets be really clear
• Purchase a 1m bond for 1.1m
• Investment is 1.1m (not 1m)
• There is not an expenses of 100k
• Coupon is a cash flow number and irrelevant to
  the income statement
• Yield (to maturity) is the key number

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Spanish Government Bonds Extract from investor
analysis At a current price of c. 100.45, the
bond yields c. 2.95 and matures in January
2016. ? As a comparison, three year Irish
Government bonds yield c. 2.10 and a three year
deposit with AIB will pay c. 2.05. ? This bond
pays a coupon of 3.15 annually which can be
distributed. This will diversify counterparty
exposure to sovereign risk and reduce the
pressure on domestic bank counterparty exposures
Over the life of the investment investing in this
Spanish Government bond will generate additional
income versus a similar 3 year deposit with AIB
yielding 2.05 of c. 13.6k
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Accounting for Investments 2/5

• Accounts in Authorised Credit Institutions
• Maturity not more than 10 years
• 50 max in 5 year deposits
• 20 max in 7 year deposits
• Credit rating of A
• Not more than 25 of CU portfolio

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Accounting for Investments
Accounts in Authorised Credit Institutions

• Cost and fair value - short term
• Interest is income

• Held to maturity
• Interest is income
• Early encashment penalty is non distributable
• Check for impairment

• Cost - long term deposits
• Interest less encashment penalty as income

• Fair value - long term deposits
• Interest income gains and losses due to
  credit risk changes

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Accounting for Investments 3/5

• Bank Bonds
• Traded on a regulated market
• Maturity not more than 10 years
• 30 max in 7 year deposits
• Credit rating of A (institute not bond)
• Not more than 70 of CU portfolio

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Accounting for Investments
Bank bonds active market

• Held to maturity
• Book yield as profit
• Capital gains and losses ignored
• Check for impairment

• Amortised Cost Fair value
• Book yield as profit
• Capital gains and losses booked

Must have an active market for gains to be
realised
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Accounting for Investments
Bank bonds inactive market

• Held to maturity
• Book yield as profit
• Encashment value in excess of cost realised
  income, balance unrealised
• Check for impairment

• Amortised Cost
• Encashment value in excess of cost income

• Fair value
• Yield capital gains and losses income
• Only encashment excess is distributable

Possibly Illegal
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Accounting for Investments 4/5

• Investment in equities
• Euro denominated, traded on regulated EU market
• Market capitalisation of .5bln
• Not more than 5 of CU portfolio (total)
• Not more than 1 of CU portfolio (any one share)

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Accounting for Investments 4/5

• Investment in equities

Cost and fair value Dividend and gains losses
as profit (gains not distributable)
Held to maturity n/a
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Accounting for Investments 5/5

• Collective Investment Schemes
• No property schemes
• Financial Regulator Authorised schemes only
• Underlying investments meet requirements in 1-4

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Accounting for Investments 5/5

• Collective Investment Schemes

• Held to maturity
• Book yield as profit
• Encashment value in excess of cost realised
  income, balance unrealised
• Check for impairment

• Amortised Cost
• Encashment value in excess of cost income

• Fair value
• Yield capital gains and losses income
• Only encashment excess is distributable

Possibly Illegal
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Investments - key questions

• Is it on the list of authorised investments for
  credit unions
• Is there a deep and liquid market for the product
• Credit rating of the issuer
• Credit rating of the bond
• Will this product be accounted for as a simple
  financial instrument under Chapter 11 of FRS 102
• Or Will this product be accounted for as an other
  financial instrument under Chapter 12 of FRS 102

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Investments - myths debunked

• Spanish Government bonds are allowed
• (2.9 yield but be careful of volatility and
  default)
• Junk/subordinated bonds from an A credit rated
  bank are allowed
• (10 yield but good chance of default)
• When referring to investment products, the word
  guaranteed is an single word oxymoron

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CONTACT aidan.clifford_at_accaglobal.com 01
4988907 www.accaglobal.com
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