The amendments to IAS 1 on classification of liabilities as current or non-current apply to annual periods beginning on or after 1 January 2024. Gulf borrowers with covenant-heavy facilities should read them carefully.
Key takeaways
- Only covenants that must be complied with on or before the reporting date affect classification at that date.
- Covenants tested after the reporting date do not affect classification but require disclosure when non-compliance is possible.
- A waiver obtained after the reporting date does not restore non-current classification for a breach at the reporting date.
The IASB's amendments to IAS 1, issued in 2020 and 2022 and effective for annual periods beginning on or after 1 January 2024, clarify when a liability is classified as current. The core principle is unchanged: a liability is non-current if the entity has the right at the reporting date to defer settlement for at least twelve months. What the amendments settle is how covenants affect that right.
Covenants tested at or before the reporting date
Where a covenant must be complied with on or before the reporting date, the entity's right to defer settlement depends on compliance at that date. If the covenant is breached at the reporting date and the lender can demand repayment, the loan is current, even if the lender has not called it and even if a waiver is obtained after the reporting date. The waiver is a non-adjusting event; it is disclosed, but the classification stands. This is the point that catches Gulf borrowers most often, because covenant breaches are frequently resolved through post-year-end waivers negotiated with relationship banks.
Covenants tested after the reporting date
Covenants that must be complied with only after the reporting date, for example a leverage ratio tested at 30 June for a 31 December year-end, do not affect classification at the reporting date. However, where the entity classifies the liability as non-current and it is subject to such covenants, the amendments require disclosure of information that enables users to understand the risk that the liability could become repayable within twelve months: the nature of the covenants, when compliance is assessed, and facts and circumstances indicating that compliance may be difficult, such as headroom at the reporting date.
Practical steps
- List every borrowing facility with its covenants, the testing dates and the reporting date. Determine for each whether the test date is at or before the reporting date.
- For covenants tested at or before the reporting date, obtain the compliance certificate or compute the ratio using the audited figures. Where there is a breach, classify as current and disclose any subsequent waiver.
- For covenants tested after the reporting date, prepare the new disclosure with headroom analysis.
- Revisit the going concern assessment where reclassification to current changes the liquidity picture.
Entities with December year-ends applied the amendments for the first time in the 2024 financial statements. In several cases we reviewed, the outcome was a reclassification of term loans to current that had not been anticipated, with consequences for lending covenants elsewhere. The time to run the analysis is before the year-end, when a covenant reset can still be negotiated.