Transportation & Logistics: Your gateway to industry information 

Update on Hong Kong Financial Reporting Standards (HKFRS): Are you ready?
  
Introduction: HKFRS 7 - Financial Instruments: Disclosures
  
The standard requires companies to provide the financial statements readers with more information to evaluate the significance of financial instruments to an entity's financial position and performance.  It requires disclosure of the nature and extent of risks arising from the use of financial instruments and how those risks have been managed.
  
HKFRS 7 is a comprehensive disclosure standard that applies to all companies.  It is applicable for annual periods beginning on or after 1 January 2007, with prior year comparatives required.
  
Key disclosure requirements
  
Balance sheet

• Carrying amounts of each of the six categories of financial assets and financial liabilities
• Components of the fair value movement for financial assets and financial liabilities classified as fair value through profit and loss
• Reasons for any reclassification of financial assets and financial liabilities and the amounts reclassified into and/or out of each category
• Carrying amounts of financial assets transferred out but not qualified for derecognition and the associated risks and rewards
• Carrying amount and fair value of collateral held
• Reconciliation of allowance for credit losses for each class of financial assets
• Existence of compound financial instruments with multiple embedded derivatives, if any
• Details of default and breaches

Income statement

• Disclosure of certain income, expenses, gains or losses

Financial risk management

• Qualitative disclosures about each type of risks arising from financial instruments and the strategies used to manage them
• Quantitative disclosures about the potential impacts of each type of risks based on information provided to key management personnel
• Liquidity risk - maturity of financial liabilities and risk management approach
• Credit risk - maximum amount of exposure, details of collateral held, credit quality of financial assets, analysis of financial assets past due or impaired
• Market risk - sensitivity analysis

Other disclosures

• Details of valuation technique, assumptions and reference to quoted marker prices if fair value is determined based on value technique
• Accounting policies for financial instruments
• Information about hedge accounting

Note: One of the key changes brought by the new standard is the expanded quantitative disclosure of risks and the introduction of sensitivity analysis.
  
Market risk: sensitivity analysis
  
Paragraph 40 of HKFRS 7:
 
"... [I]t shall disclose: (a) a sensitivity analysis for each type of market risk to which the entity is exposed at the reporting date, showing how profit or loss and equity would have been affected by changes in the relevant risk variable that were reasonably possible at that date; ..."
  
Certain financial derivatives, e.g. freight forward agreements, bunker forward contracts, interest rate swap and foreign currency forward contracts etc., are normally employed by companies in transportation and logistic industries for risk management.  Below are some illustrative disclosures of a shipping company.
  
Illustrative disclosures
  
Market freight rate risk
  
The freight rates of the Group's shipping business are very sensitive to economic fluctuations.  The revenues and cost of services of the Group will increase (decrease) if there is an increase (a decrease) in the freight rates for the vessel charter-in or charter-out transactions.
  
The Group uses freight forward agreements ("FFA") transacted with shipping agents and/or brokers to manage the market freight rate risk arising from future transactions.  The Group's associated risk management policy is to hedge less than xx% anticipated transactions for the subsequent 12 months.
  
As at 31 December 2007, the Group has derivative financial assets and liabilities in respect of FFA of $xxx and $xxx respectively which are all subject to market freight rate risk.
  
With all other variables held constant, if the average forward freight rate for vessels charterhire transactions was xx% higher/lower, the net derivative financial assets in respect of FFA will increase/decrease by approximately $xxx and accordingly, the Group's post-tax profit and equity is estimated to be increased/decreased by approximately $xxx and $xxx respectively.
  
Tips for tax
  
Possible change in China dividend withholding tax policy
  
Effective from 1 January 2008, dividend distributed by foreign invested enterprises will be subject to possibly a 10% withholding tax (could be mitigated to 5%, e.g. through interposing a Hong Kong incorporated treaty holding company).
  
Arrangement between the mainland of China and Hong Kong for the avoidance of double taxation
  
Income and profits derived by an enterprise of one side from the international operation of ships, aircraft or land transport vehicles in shipping, air and land transport in the other side shall be exempt from tax (including business tax on the Mainland of China) in that other side.
  
PwC 2007 event
  
"Challenges in applying new China Accounting Standards" seminar was held on 29 May 2007 in Hong Kong for over 70 financial reporting personnel.
  
Topics covered include:

• Practical application
• Challenges towards application of fair values accounting

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