Mr. Andreas Barckow, Chair
International Accounting Standards Board
Columbus Building
7 Westferry Circus
Canary Wharf
London, E14 4HD
United Kingdom

Dear Mr. Barckow,

Invitation to Comment - Climate-related and Other Uncertainties in the Financial Statements Exposure Draft (IASB/ED/2024/6)

The Canadian Bankers Association (“CBA”)¹ would like to thank the International Accounting Standards Board (“IASB” or the “Board”) for the opportunity to comment on the Climate-related and Other Uncertainties in the Financial Statements Exposure Draft (the “ED”). We understand that the Board is publishing this ED to seek the views of stakeholders on its proposals to improve the application of IFRS Accounting Standards, particularly in relation to the disclosure of climate-related risks in the financial statements. This is an important next step, following the latest publication of the educational materials on “Effects of climate-related matters on financial statements” (“the educational materials”) in July 2023, to assist preparers in assessing the impact of sustainability-related topics in their financial statements. We appreciate the Board’s efforts to identify and address stakeholders’ concerns on climate-related disclosures in the financial statements, and the collaboration between the Board and the International Sustainability Standards Board (“ISSB”) on this topic.

In this letter, we highlight the IASB proposals that we support as well as our key areas of concern and recommendations to address them. As such, we have not provided individual responses to the consultation questions in the ED, as we believe our comments contained herein provide coverage.

Application of the principles in IAS 1 – Presentation of Financial Statements (IAS 1)

We recommend that the Board reconsider the proposed approach to the application of IAS 1 (and the corresponding sections in IFRS 18 – Presentation and Disclosure in Financial Statements (IFRS 18)) in the illustrative examples (“IE”), particularly with respect to IE1, IE2 and IE5.

Scenarios where compliance with the IFRS Accounting Standards is insufficient
Paragraph 31 of IAS 1 has historically been interpreted as a backstop to ensure there is a mechanism to provide appropriate disclosures where the specific requirements in the IFRS Accounting Standards are not sufficient, given that the IFRS Accounting Standards are principles-based and cannot anticipate or address all circumstances. Entities would typically apply this paragraph where transactions, events or other conditions occur that would be material to an entity’s financial position or performance. IE1 appears to take this a step further and suggest that an entity should be actively monitoring for scenarios where there is a lack of effect (i.e., where the resulting disclosures would indicate that there is no material impact to the entity’s financial performance or position). The illustrative examples note that this would be done through monitoring factors such as the entity’s reporting outside of its financial statements and the industry in which it operates.

Given that BC15 identifies that “the principles and requirements illustrated apply equally to other types of uncertainties”, this approach would extend beyond climate-related risks and an entity may need to develop extensive processes to monitor for what is ultimately immaterial information. We are concerned that this approach would create a significant compliance burden for entities, while reducing the usefulness of information for users by co-mingling information that is material and immaterial in the financial statements.

We therefore recommend that the Board remove IE1.

Information proposed for disclosure under IAS 1
While we recommend that IE1 be removed, to the extent that the Board decides to proceed with this example, we suggest that the Board reconsider the disclosures that would be provided by entities that have a similar fact pattern to IE1.

Disclosure of “why” the effect of an uncertainty is not material Paragraph 1.9 of IE1 notes that the entity would not only disclose that its transition plan has no effect on its financial position and financial performance, but also explain why.

We are concerned by the proposal in IE1 to “explain why” an entity has reached a conclusion that the impact on its financial position or performance is not material. Other guidance typically does not require an entity to “explain why” when it determines that information is not material, and instead encourages entities to omit significant but immaterial disclosures so as not to obscure material information. Given the comments in paragraph BC15 that “the principles and requirements illustrated apply equally to other types of uncertainties”, this would seem to suggest that this explanation of “why” is not isolated to this particular fact pattern involving immaterial information about an entity’s climate transition plan, and therefore has the potential to significantly expand the volume of an entity’s disclosures.

As well, based on the fact pattern provided in IE1, it is unclear what incremental value is provided by disclosing an explanation of “why” the impact is not material, and why users would not already have access to this information in the financial statements, if it were material. Paragraph 1.3 of IE1 notes that the entity concludes that there is no effect on its financial position and financial performance from its transition plan, including because the relevant assets are nearly fully depreciated and the recoverable value of its affected cash-generating units significantly exceed their carrying amounts. Paragraph 1.7 then notes that users could be influenced by a lack of understanding of these factors because “for example, users of the entity’s financial statements might expect that some of its assets might be impaired because of its plans”. To the extent that information about these assets is material, it should generally already be available to users in the financial statements under the applicable IFRS Accounting Standards disclosure requirements (e.g. the disclosure requirements in IAS 16 – Property, plant and equipment (IAS 16) and IAS 36 – Impairment of assets (IAS 36)), or under other proposed illustrative examples (e.g. IE4 which addresses disclosure considerations for climate-related assumptions for non-current, definite life assets). If there are concerns that entities are not applying the existing IFRS Accounting Standards disclosure requirements appropriately to identify material climate-related risks, this is better addressed through illustrative examples for those specific requirements, similar to the approach the Board has taken with IE3, IE4, IE6, IE7 and IE8, rather than the application of IAS 1.

We therefore recommend that the Board remove the requirement to “explain why” when an entity determines that the impact of an uncertainty on its financial position and financial performance is not material.

Disclosure that there is “no effect” from an uncertainty We suggest the Board also revisit the disclosure conclusion in paragraph 1.9 of IE1, where the entity discloses that its transition plan “has no effect on its financial position and financial performance”. We believe that many entities with similar fact patterns as IE1 would not be able to disclose with certainty that climate transition plans have “no effect” on their financial position and financial performance, as there could always be some impact on the financial statements given the transverse nature of climate risk. To address these concerns, entities may disclose generic statements identifying the possible impacts a climate transition plan can have on the financial statements. We question the usefulness of such information. Therefore, we recommend that the Board amend IE1 to incorporate the concept of materiality and permit an entity to omit disclosure about the effect of an uncertainty on its financial position and financial performance if the impact is not material.

Consideration of information asymmetry with primary users
We are also concerned that the assessment of paragraph 31 of IAS 1 does not sufficiently consider primary users’ level of sophistication in understanding uncertainties, particularly for IE5. IE5 addresses a scenario where a regulation has been announced that could restrict an entity’s ability to operate in a particular region, and could therefore impact the profits required to support the entity’s deferred tax assets, but where the regulation will not be enacted for at least another two years (i.e., it extends beyond the entity’s next financial year-end), and will not become effective until after the entity expects to have been able to utilize the full amount of its unused tax losses.

In IE5, the entity applies paragraph 31 of IAS 1 and determines that information on the announced regulation would be material to its users on the basis that “the decisions users of the entity’s financial statements make could reasonably be expected to be influenced by a lack of understanding that the announced regulation could have resulted in a material write-down of the deferred tax asset (and a related deferred tax expense) had the entity assumed the announced regulation would become effective earlier”, as discussed in paragraph 5.10 of IE5.

We disagree with the fact patterns used to support a conclusion that an entity in a similar circumstance would need to disclose additional information in accordance with paragraph 31 of IAS 1. How preparers may interpret the fact patterns described in paragraphs 5.2 and 5.3 of IE5 will be different depending on the legislative process applicable to the jurisdiction in which they reside. Primary users would generally be expected to understand the general legislative process of regions that are material to the entity, since that is a key element of the environment in which the entity operates. For example, in Canada, a mere announcement of a proposed regulation from the government would not automatically lead to a reasonable expectation that such regulation will be enacted within the next financial year. In particular, if the government in power is a minority government, then an announcement alone may not create a reasonable expectation that such regulation will be enacted at all. For Canadian entities, the fact patterns described in paragraphs 5.2 and 5.3 may lead them to conclude that the users of their financial statements would not expect the regulation to be enacted before the entity has been able to utilise the unused tax losses. Consequently, the disclosure requirement in IAS 1.31 would not be applicable. Therefore, we propose revisiting paragraphs 5.2 and 5.3 and describing conditions in which there is a clear expectation gap and significant information asymmetry between the preparer and the user of the financial statements.

In particular, we recommend that the example focus on a scenario where the regulation has been enacted but is not yet effective, rather than a scenario where there has only been an announcement. As well, in keeping with the climate-related scenarios addressed in the other proposed examples, we suggest that the example be limited to environmental regulations.

Application of the principles in IFRS 7 – Financial Instruments: Disclosures (IFRS 7)

While we agree that climate-related risks should be incorporated into credit risk disclosures in a manner commensurate with its materiality, we are concerned that IE6 is overly simplified and not sufficiently practical.

The example details a scenario where an entity can identify two discrete portfolios where physical climate risk could affect a customer’s credit risk and the value of the property that is pledged as collateral. In practice, for well-diversified financial institutions, physical climate risk will have a varying degree of impact across the various loans, customers and collaterals within a portfolio, and will not necessarily be isolated to discrete portfolios. As well, the example does not appear to fully consider the implications of climate risk being a transverse risk. Paragraph 6.3 of IE6, which identifies the factors the entity considered in concluding that climate-related risks have a material impact on a portfolio’s exposure to credit risk, notes that an entity would consider “the significance of the effects of climate-related risks on the entity’s exposure to credit risk compared to other factors affecting that exposure”. It is unclear how an entity would approach this in practice, since it is not necessarily possible to isolate and attribute the losses to climate risk relative to other elements of credit risk . Finally, the factors identified in the example do not consider the mitigants that may be in place, such as insurance on properties treated as collateral or higher margins that may be earned on loans where there is a higher risk rating. Therefore, considering all the concerns described, we suggest that the Board revise the example to incorporate a more realistic fact pattern.

Climate financial data and modelling are still emerging, with significant amounts of uncertainty due to the forward-looking nature of climate risk, as well as the need for non-traditional credit risk data that involves significant judgements and assumptions. We therefore recommend that any disclosures proposed in IE6 be qualitative. Quantitative disclosures, or qualitative disclosures requiring quantitative analysis, should be deferred until measurement methodologies reach maturity, which will enable entities to develop sufficient capacity and capabilities to provide reliable measurements for the financial statements.

Approach of providing illustrative examples

We agree with the Board’s approach of providing this interpretive guidance through accompanying illustrative examples, rather than by amending the related IFRS Accounting Standards. While climate risk is a multi-faceted and transverse risk, it has many commonalities with more mature risks types, and as such can generally be appropriately disclosed in the financial statements under the existing IFRS Accounting Standards’ disclosure requirements that address estimates, assumptions and judgments.

As it relates to the climate-related illustrative examples, we agree with the proposal in paragraph BC45 to group the examples and publish them as a single document. We also suggest supplementing the existing educational materials with these examples, or cross-referencing to them in the educational materials, to enable connectivity across the Board’s publications and increase awareness of these illustrative examples.

Climate-related and other uncertainties are constantly evolving. Consequently, the proposed illustrative examples may lose their relevance over time or additional illustrative examples may be warranted. We therefore recommend that the Board develop guiding principles for the development and modification of these illustrative examples, similar to guidance such as the “Guidance for developing and drafting disclosure requirements in IFRS Accounting Standards”. As part of this, we suggest that the Board include a process for periodically reviewing and either updating or removing less relevant illustrative examples and replacing them with more relevant illustrative examples. We also suggest that the Board emphasize in this guidance the need for content that is detailed, specific and practical. Further, we suggest that examples be more representative of realistic fact patterns to increase the usefulness of applying them.

Interaction with the IFRS Sustainability Disclosure Standards

As discussed above, we believe that information about uncertainties that do not have a material impact on an entity’s financial position and financial performance should be excluded from the financial statements. Conversely, to the extent those impacts are material, we agree that those impacts should be disclosed in the financial statements, under the relevant IFRS Accounting Standards disclosure requirements, regardless of what disclosures are made in an entity’s sustainability reporting.

We are concerned that paragraph BC32 appears to suggest that IE1 and IE2 only apply if an entity is not applying the IFRS Sustainability Disclosure Standards, and that once the IFRS Sustainability Disclosure Standards are applied these disclosures would be made in the context of that reporting framework, which may be located outside of the financial statements, depending on the jurisdiction-specific requirements.

We are concerned by the apparent dependency in paragraph BC32 on an entity’s sustainability reporting approach to determine what disclosures would be provided in the financial statements. While many jurisdictions, including Canada, are moving towards the adoption of the IFRS Sustainability Disclosure Standards, they remain separate and distinct guidance from the IFRS Accounting Standards, and an issuer that applies the IFRS Accounting Standards may not apply the IFRS Sustainability Disclosure Standards. As such, the conclusions of what disclosures an entity provides in their financial statements should not be impacted by its sustainability reporting until the IASB and the ISSB engage further on developing integrated reporting. We recommend that the Board remove paragraph BC32 and that the examples be agnostic to an entity’s sustainability reporting approach.

Thank you for considering our comments. We would be pleased to discuss our response at your convenience.

Sincerely,

Darren Hannah

¹The CBA is the voice of more than 60 domestic and foreign banks that help drive Canada’s economic growth and prosperity. The CBA advocates for public policies that contribute to a sound, thriving banking system to ensure Canadians can succeed in their financial goals. www.cba.ca.