June 8, 2017 – By Sufyan Khan, Regional Product Manager – IFRS 9, AxiomSL EMEA
With just over six months to go until the International Financial Reporting Standard 9 (IFRS 9) enters into force across more than 130 countries, firms should already be aware of its impact on their operational and technology practices and be making the requisite changes to their risk and account systems in order to comply. This article serves to highlight some of the key considerations that firms should be aware of and how AxiomSL is helping these same firms to comply with this Standard.
It was only a few months ago, in December 2016, that the Autorité des marchés financiers (AMF) made recommendations that companies proceed with an in-depth analysis of the principles of the standard in light of potential changes to IT and risk management systems.
Phase 2 implementation
Similar to other banks across Europe, French banks are currently working on implementing phase 2 of IFRS 9, known as the Impairment phase. The purpose of the impairment requirements is to provide users with more useful information about an entity’s expected credit losses on financial instruments. The model requires an entity to recognise expected credit losses at all times and to update the amount of expected credit losses identified at each reporting date to reflect changes in the credit risk of the financial instruments.
Here banks need to ensure they have a Point-in-Time (PIT) model in place for probability of default (PD) generation, taking into account the different macro-economic factors. Those banks that are using an Internal Ratings Based (IRB) approach will most likely transition their Through the Cycle (TTC) TC PD models to PIT PD models. However, those banks who are adopting a standardised approach will have to create a model from scratch to ensure the IFRS 9 process is robust. In addition, the models need to incorporate macro-economic factors when generating a PD. The forward looking approach of IFRS 9 approach is considerably different from the current method, IAS 39, which is based on an incurred loss model approach.
Furthermore, before banks run the expected credit loss (ECL) calculation process, they need to ensure the assets are broken down into different stages (Stage 1, 2 and 3) and a forward looking approach is in place. ECL calculations need to be computed on a contract level to project future expected losses across multiple macroeconomic scenarios. This will require the processing of a large amount of granular data which will need to be aggregated and consolidated in a user friendly way. Contract level information and the different macro-economic scenarios will also need to be archived; however, the ability to create snapshots of the end to end process can be a challenge for banks if the right governance and auditability processes aren’t put into place.
Effective implementation depends on successful integration
The successful implementation of each phase of IFRS 9 will significantly depend on the ability of risk and finance departments to work together to reconcile data to ensure a single version of the truth. Traditionally, however, these functions have operated in silos and, over the years, have developed very different frameworks. Finance must produce highly accurate and auditable figures which, among other things, inform investors about the performance of a firm. As a result, finance is defined by many detailed rules, and accounts are produced in a highly structured and controlled environment. Risk, on the other hand, must be able to envision the future and respond quickly in fast-changing situations. As a result, risk is based on principles rather than hard-and-fast rules.
From a technology perspective, the IFRS 9 requirement to converge risk and finance environments is more essential now than ever. Duplication of work, such as parallel processes making the same set of calculations without coordination with other teams, should be minimised and processes should be automated to improve the soundness and reliability of calculations. The best way for firms to overcome this challenge is by using a single calculation and reporting platform, which can provide both the structured production environment required by finance, and the flexibility required by risk. The platform should not impose constraints on the location of the data, nor should it require duplication or double storage. It should be possible for both IT and business users to understand the logic that is being used. Data lineage information will also be important for establishing trust in the platform.
How can AxiomSL help?
AxiomSL’s solution supports all key aspects of IFRS 9. It aggregates the necessary data, including financial, risk and macro-economic data from our clients’ systems without going through an ETL process. It then applies validation checks to ensure high standards of data quality. User control functionality facilitates collaboration between different functions, such as risk and finance, and supports sound data governance practices. Once a firm’s data has been aggregated, the solution automatically feeds it through the business rules of the AxiomSL’s platform to complement the end-to-end process towards ECL calculation and reporting. Proprietary or third-party models can be easily integrated into the solution to calculate the ECL the way each bank wants to.
Once calculations have been completed, the solution can present the results in accordance with the IFRS taxonomy and produce both standard IFRS and management information (MI) reports. The unparalleled transparency offered by AxiomSL includes the ability to drill down from the final report values to the source data, and allows users to make manual adjustments if required. The flexibility of the solution allows them to do scenario testing, exploring how their provisioning requirements will be impacted by different scenarios and business rules. The entire process is end to end within AxiomSL, with the user having the flexibility to audit every stage of the process
AxiomSL is able to support a variety of financial institutions from both the buy and sell-side. In France, we are currently consulting and providing support to a wide range of tier two and three banks who, unlike much larger tier one banks, do not operate using large infrastructure in terms of quantitative modelers and disparate IT systems to process huge volumes of data.
Preparing for the long term
Banks should see the implementation of IFRS 9 as a part of a larger set of regulatory and accounting requirements, including stress testing, BCBS 239 and regulatory capital calculations, leading them to re-engineer their data processes and technology infrastructures. To find out how AxiomSL can help, get in touch today.