Debt arrangements often contain provisions that protect a creditor by allowing it to accelerate the repayment of funds when certain conditions occur. These provisions often include material adverse change clauses, subjective acceleration clauses, or change in control clauses.
Paragraph 69 of IAS 1, Presentation of Financial Statements, contains general guidance about the presentation of financial liabilities and states that a financial liability is classified as current when the reporting entity does not have an unconditional right to defer settlement of the liability for at least 12 months after the reporting date.
Under IFRS, it is necessary to determine whether a debt covenant breach exists at the reporting date. Covenant tests that are based on information as of a date after the reporting date are not taken into account when assessing the classification of the financial liability at the reporting date, even if the entity assesses the likelihood of a breach at the future date as probable.
When the creditor has the right to call the loan as of or before the reporting date because a material adverse change has occurred or a subjective acceleration clause has been activated, the loan is presented as a current financial liability. Conversely, when the lender does not have the legal or contractual right as of or before the reporting date to call the loan for at least 12 months based on all of the facts and circumstances as of the reporting date, the loan is classified as a noncurrent financial liability. Similarly, the existence of a change in control clause as of the reporting date does not cause current liability classification until a change-in-control event occurs.
The presentation conclusion under U.S. GAAP might be different from the conclusion under IFRS. For example, when a debt agreement that otherwise is a long-term obligation contains a subjective acceleration clause, the debtor determines the effect of that provision on classification of the debt based on its evaluation of the likelihood that the creditor will accelerate the debt by invoking the subjective acceleration clause:
- If the likelihood of acceleration is remote, the debtor is neither required to classify the debt as a current liability nor to disclose the existence of the subjective acceleration clause. The likelihood of acceleration is remote, for example, if the creditor has not previously accelerated due dates of loans that contained similar clauses, the entity is not aware of a reason why the creditor would accelerate the due date, and the financial condition and prospects of the entity otherwise support the assessment.
- If the likelihood of acceleration is reasonably possible, the debtor should evaluate the facts and circumstances to determine the proper classification of the debt obligation and appropriate disclosures. The debtor should consider disclosing the nature and terms of the subjective acceleration clause, the amount of the debt that would be due within one year of the balance sheet date, and the date on which the debt would be due assuming the creditor accelerates the due date of that debt.
- If the likelihood of acceleration is probable, the debtor should treat the debt as a short-term obligation. The debtor should disclose the nature and terms of the subjective acceleration clause, the amount of the debt that may be due within one year of the balance sheet date, and the date on which the debt would be due if the creditor accelerates the due date of that debt.