Aktuarielles Controlling I Presentation of Other Comprehensive Income · 2014-11-13 · Aktuar. Contr. I Presentation of OCI Dr. Ruprecht Witzel; HS 14 5 Presentation of Other Comprehensive

aktuariat-witzel

Aktuarielles Controlling I Presentation of Other Comprehensive Income

Universität Basel

Herbstsemester 2014

Dr. Ruprecht Witzel

[email protected]

www.aktuariat-witzel.ch

Aktuar. Contr. I Presentation of OCI Dr. Ruprecht Witzel; HS 14 2

Presentation of Other Comprehensive Income

• This presentation is an amendment to the presentations

– Basics of US GAAP for Life Insurers

and

– Basics of IFRS 4 for Life Insurers

• We will illustrate the new presentation of Other Comprehensive Income using the Consolidated Financial Statements of the Annual Report 2013 of Swiss Life

• Zurich Insurance Group and Baloise are using the same concept; the wording is sometimes a little bit different

• We will use the same wording as Swiss Life



• Since reporting year 2013, there are new rules in force in US GAAP and IFRS concerning the presentation of Other Comprehensive Income (OCI)

• The relevant statements are the same or nearly the same in US GAAP and IFRS

• The concept of OCI is– part of US GAAP and IFRS and of several local

accounting systems– but is not known (or not yet known) in the local

accounting systems for example of Switzerland, Germany and Austria



• The Balance Sheet (BS) and the Profit and Loss Account (P&L) of a company are connected via the fact that a profit increases equity and a loss reduces equity

– These changes of equity are denoted as income statement-related (“erfolgswirksam”)

• The P&L is often also called “Statement of Income”

• The difference between total income and total expenses after taxes, i.e. the result of the P&L after taxes, is often called “net profit” or “net income”



• The items of the OCI

– induce changes of equity which are denoted as not effecting net income, i.e. they do not impact profit or loss after taxes of the P&L (“erfolgsneutral”)

and in addition

– are not due to transactions with shareholders as capital reductions or capital injections which are also not effecting net income



• This implies that in US GAAP/IFRS there are three ways to change equity:

– via net income of P&L which is denoted as income statement-related

– via OCI which is denoted as not effecting net income

– via transactions with shareholders which are also denoted as not effecting net income

• In the local accounting systems of Switzerland, Germany and Austria only the first way and third way to change equity are (up to now) known



• Examples of items required to be presented as OCI are:

– changes in the market values of assets classified as available for sale (afs-assets)

– foreign currency translation adjustments on foreign subsidiaries

– changes in the fair value of cash flow hedge instruments

– revaluations of property equipment and intangible assets

– adjustments regarding pension liabilities



• These items are presented under the title “Other Comprehensive Income” as part of the so called “Statement of Comprehensive Income”

• The corresponding result after taxes is called “Net Other Comprehensive Income”

• The sum of

– Net Profit and

– Net Other Comprehensive Income

is called “Total Net Comprehensive Income”

• In the following, we will consider in more detail only afs-assets



• Characteristic for afs-assets is the fact that in the BS they are valued at market values and in the P&L different model-values are used to determine the

corresponding investment income

• The impact of changes in the market values of afs-assets on equity is presented in the presentation Basics of US GAAP for Life Insurers in the chapter 9. Shadow Adjustments



• For example a share classified as available for sale is valued

– in the BS at market value

– in the P&L at cost value, as long there is no impairment and the share is not sold

• This implies

– that investment income is equal only to the dividend payments

and

– the changes in the market value have not yet

been recognized in the P&L



• At valuation date, the difference between market value and cost value

– is denoted as unrealized gain or loss

and

– is part of the Accumulated Other Comprehensive Income (AOCI) which is part of equity

• Keep in mind that the items of

– OCI are flows and of

– AOCI are stocks

• In chapter 9. of the US GAAP presentation this is illustrated with the following example



• Example: Share, available for sale, not sold during the yearCost value End of previous year 100 End of year 100Market value End of previous year 110 End of year 120

• In the BS on the asset side, the share has the values 110 resp. 120

• In the BS on the liability side, the AOCI shows 10 resp. 20 unrealized capital gains as part of shareholders’ equity

• In the P&L, only the dividends paid are recognized as current investment income

• The increase in the market value is not recognized in the P&L as part of investment income



• If no adjustments would be made, shareholders’ equity would be overstated

• If for example, the unrealized capital gains would be realized, not the total amount would belong to shareholders

– At least, for example, taxes have to be paid

• By means of the Shadow Adjustments, one try to determine that part of the unrealized capital gains or losses which “really”



• The Shadow Adjustments are determined by capturing all consequences of an assumed realization of the unrealized capital gains or losses

• It is a virtual calculation using the assumption: “what would happen, if all unrealized capital gains or losses would be realized?”

• The effects are only shown as Shadow Adjustments in the Balance Sheet

• The Profit & Loss Account is not affected



Examples of different shadow adjustments are:

• The taxes on unrealized capital gains or losses are normally not classified as shadow adjustments, although it is the same issue

• The unrealized gains or losses are disclosed net of taxes which implies a corresponding tax position

• If unrealized capital gains would be realized, a special amortization of DAC or PVFP would be the consequence for FAS 97 and FAS 120 products, but not for FAS 60 products

– This is captured by the shadow DAC or shadow PVFP

• In analogy the URL and DPL has to be treated, so there is also a shadow URL and shadow DPL



• On all shadow adjustments, the corresponding taxes are to be recognized

• According to the new presentation rules these items are now published in the so called “Consolidated Statement of Comprehensive Income”



• In contrast to this, if the share would be classified as trading then these issues would not arise because then the share would be valued in the BS and the P&L (to determine investment income) at market values

• In this case, changes in the market value of the share would effect equity income statement-related

• The increase of the market value of the share by 10 in the reporting year could imply for example:

– an additional amortization of the DAC of FAS 120 products because of a true up effect and

– corresponding tax effects



• The following slides present the

– Consolidated Statement of Income

– Consolidated Statement of Comprehensive Income

– Consolidated Balance Sheet

of the Annual Report 2013 of Swiss Life for the years 2012 (restated) and 2013



















• Concerning the Consolidated Statement of Income no special comments seem to be necessary

• The result is the Net Profit which amounts in 2012 to mCHF 99 and in 2013 to mCHF 784

• These Net Profits are the basis to calculate Earnings Per Share which amounts in 2012 to CHF 3.06 and in 2013 to CHF 24.45



• The Consolidated Statement of Comprehensive Incomestarts with Net Profits of mCHF 99 respectively mCHF784

• The block Other Comprehensive Income consists of the following two parts:

– Items that may be reclassified to the Income Statement

– Items that will not be reclassified to the Income Statement



Items that may be reclassified to the Income Statement:

• In the years 2012 and 2013, the two most important items are related to

– financial assets available for sale (mCHF 3’816 respectively mCHF -5’161) and cash flow hedges(mCHF 408 respectively mCHF -656)

and

– the corresponding adjustments (nearly mCHF -3’209 respectively mCHF 3’865)

• The results of this part of the OCI are mCHF 1’167 respectively mCHF -1’855



Items that will not be reclassified to the Income Statement:

• The impact of these items is in both years negligible

• Net Other Comprehensive Income amounts in 2012 to mCHF 1’215 and in 2013 to mCHF -1’856

• This implies a Total Comprehensive Income in 2012 of mCHF 1’313 and in 2013 of mCHF -1’072



• Concerning the Assets and Liabilities (without Equity) of the Consolidated Balance Sheet no special comments are necessary, except the following hint:

– In the BS end of 2012 and 2013 the afs-assets amount to mCHF 81’176 respectively to mCHF 81’071 which is nearly half of the total assets



• In Equity the tremendous changes in Net Other Comprehensive Income are reflected in the corresponding changes of the item Accumulated Other Comprehensive Income as part of Equity (all figures in mCHF):

– AOCI begin of 2012: 530

– NOCI of 2012: +1’215

– AOCI end of 2012: 1’745

– NOCI of 2013: -1’856

– AOCI end of 2013: -112



• Typical examples of afs-assets are bonds and shares

• In the following, we consider the year 2013 and assume that in 2013 all afs-assets are bonds or shares



• If all these afs-assets would be classified as trading, then the changes in their market values of mCHF -5’161 would be recognized as investment income in the P&L and would directly impact Net Profit and Equity

– In this case bonds and shares are valued in the P&L and the BS at market values

• The question arises which part of the adjustments of mCHF 3’326 (= 3’222 + 104) would still remain?



All afs-assets classified as trading (cont.):• If all of these adjustments would remain, it follows:

– That there would be hit in the P&L due to the investment losses about mCHF -1’800 (-1’835 = -5’161 +3’326)

• The adjustment of mCHF 3’222 is under the title “Policyholder participation” which is a hint that it is due to a reduction of the shadow DBR of this amount

• For trading assets, the question arises whether the DBR could be lowered by mCHF 3’222 without becoming negative, because normally a negative DBR is not allowed

– A negative DBR would be an asset



All afs-assets classified as trading (cont.):

• If nothing of these adjustments would remain, it follows that the tax relief would be higher

– If we assume a tax rate of 22.5%, the unrealized losses of mCHF -5’161 would imply a tax credit of mCHF1’161

– In this case, the hit in the P&L due to the investment losses would be about mCHF -4’000



• If all the afs-bonds would be classified as held to maturity, then the changes in their market values would

– neither be recognized in the P&L as investment income

– nor in the OCI

– nor in the BS

• In this case bonds would be valued in the P&L and the BS at amortized cost values

– Changes in the market values have no impact in the BS and in the P&L

• The corresponding unrealized losses would not been shown in the BS, but would still exist



• It is not usual to classify bonds as held to maturity, because in this case the insurance companies are normally not allowed to sell these bonds

• Bonds classified as held to maturity are blocked

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Aktuarielles Controlling I Presentation of Other Comprehensive Income · 2014-11-13 · Aktuar. Contr. I Presentation of OCI Dr. Ruprecht Witzel; HS 14 5 Presentation of Other Comprehensive