Although non-financial items fall outside the scope of IFRS 9, if those contracts can be settled net in cash, then they are within the scope of IFRS 9 (subject to an exception). This is because these contracts meet the definition of a derivative.
The exception is where, despite the ability to settle net, the entity meets what is termed the ‘own use’ exemption. This applies where the purpose of entering into the contract is to meet the entity’s expected purchase, sale or usage requirements.
In practice, this exemption is applied restrictively and care is needed in determining whether it applies.
ABC Ltd enters in to a contract to buy 50 tonnes of copper for $6.500/tonne.
The contract permits ABC Ltd to take physical delivery of the copper at the end of 6 months or to settle net in cash, based on the difference between the spot price in 6 months’ time and $6.500/tonne.
ABC Ltd has a practice of settling net in cash.
The entity has a practice of settling the contract net therefore the ‘own use’ scope exemption does not apply.
Consequently, the contract is within the scope of IFRS 9. The contract contains a derivative.
ABC Ltd applies derivative accounting for this contract and accounts for the contract at FVTPL.
Same facts as Example 1, except that ABC Ltd:
- Is a company that manufactures copper wire; and
- Has a practice of taking delivery of the copper and using it to manufacture copper wires.
The ‘own use’ scope exemption applies because:
- ABC Ltd is an entity that manufactures copper wires; and
- Has a practice of taking delivery of copper and using it for manufacture, so the contract is for its own use requirements.
Same facts as Example 2, except that:
- After 4 months, there was a storm; and the warehouse and factory area were flooded.
- ABC Ltd cannot take delivery of the copper and so it net settles the contract.
Whether the ‘own use’ scope exemption applies for such contracts in the future requires judgment; and consideration may need to be given to:
- The entity’s business and its intention of entering into the contract;
- The entity’s historical behavior;
- Reasons for net settlement; and
- Relative frequency of net settlement.
In this example, it may be possible to qualify for the own use scope exemption if the storm is a one-off unexpected event.