3. SUMMARY OF MATERIAL ACCOUNTING POLICIES
3.1 Recognition of interest income
A. EIR method
Under Ind AS 109, interest income is recorded using
the effective interest rate method for all financial
instruments measured at amortised cost and financial
instrument measured at FVOCI. The EIR is the rate that
exactly discounts estimated future cash receipts through
the expected life of the financial instrument or, when
appropriate, a shorter period, to the net carrying amount
of the financial asset.
The EIR (and therefore, the amortised cost of the asset)
is calculated by taking into account any discount or
premium on acquisition, fees and costs that are an
integral part of the EIR. The Company recognises interest
income using a rate of return that represents the best
estimate of a constant rate of return over the expected
life of the financial instrument.
If expectations regarding the cash flows on the financial
asset are revised for reasons other than credit risk,
the adjustment is booked as a positive or negative
adjustment to the carrying amount of the asset in the
balance sheet with an increase or reduction in interest
income. The adjustment is subsequently amortised
through Interest income in the statement of profit
and loss.
B. Interest income
The Company calculates interest income by applying EIR
to the gross carrying amount of financial assets other
than credit impaired assets. When a financial asset
becomes credit impaired and is, therefore, regarded as
'stage 3', the Company calculates interest income on
the net basis. If the financial asset cures and is no longer
credit impaired, the Company reverts to calculating
interest income on a gross basis.
3.2 Financial instrument - initial recognition
A. Date of recognition
Debt securities issued are initially recognised when they
are originated. All other financial assets and financial
liabilities are initially recognised when the Company
becomes a party to the contractual provisions of the
instrument.
B. Initial measurement of financial instruments
The classification of financial instruments at initial
recognition depends on their contractual terms and the
business model for managing the instruments (Refer
note 3.3(A)). Financial instruments are initially measured
at their fair value (as defined in para 3.8), except in the
case of financial assets and financial liabilities recorded
at FVTPL, transaction costs are added to, or subtracted
from this amount.
C. Measurement categories of financial assets and
liabilities
The Company classifies all of its financial assets based
on the business model for managing the assets and the
asset's contractual terms, measured at either:
i) Amortised cost
ii) FVOCI
iii) FVTPL
3.3 Financial assets and liabilities
A. Financial assets
Business model assessment
The Company determines its business model at the level
that best reflects how it manages groups of financial
assets to achieve its business objective. The Company's
business model is not assessed on an instrument-by¬
instrument basis, but at a higher level of aggregated
portfolios and is based on observable factors such as:
a. How the performance of the business model and
the financial assets held within that business model
are evaluated and reported to the Company's key
management personnel.
b. The risks that affect the performance of the business
model (and the financial assets held within that
business model) and, in particular, the way those
risks are managed.
c. Managers of the business are compensated (for
example, whether the compensation is based on
the fair value of the assets managed or on the
contractual cash flows collected).
d. The expected frequency, value and timing of
sales are also important aspects of the Company's
assessment.
The business model assessment is based on reasonably
expected scenarios without taking 'worst case' or 'stress
case' scenarios into account. If cash flows after initial
recognition are realised in a way that is different from
the Company's original expectations, the Company does
not change the classification of the remaining financial
assets held in that business model, but incorporates such
information when assessing newly originated or newly
purchased financial assets going forward.
SPPI test
As a second step of its classification process, the
Company assesses the contractual terms of financial
assets to identify whether they meet SPPI test.
'Principal' for the purpose of this test is defined as the
fair value of the financial asset at initial recognition and
may change over the life of financial asset (for example,
if there are repayments of principal or amortisation of
the premium/ discount).
The most significant elements of interest within a
lending arrangement are typically the consideration
for the time value of money and credit risk. To make
the SPPI assessment, the Company applies judgement
and considers relevant factors such as the period for
which the interest rate is set. In contrast, contractual
terms that introduce a more than minimum exposure
to risks or volatility in the contractual cash flows that are
unrelated to a basic lending arrangement do not give
rise to contractual cash flows that are solely payments
of principal and interest on the amount outstanding.
In such cases, the financial asset is required to be
measured at FVTPL.
Accordingly, financial assets are measured as follows:
i) Financial assets carried at amortised cost ("AC")
A financial asset is measured at amortised cost if it
is held with in a business model whose objective is
to hold the asset in order to collect contractual cash
flows and the contractual terms of the financial
asset give rise on specified dates to cash flows that
are solely payments of principal and interest on the
principal amount outstanding.
ii) Financial assets measured at FVOCI
A financial asset is measured at FVOCI if it is
held within a business model whose objective is
achieved by both collecting contractual cash flows
and selling financial assets and the contractual
terms of the financial asset give rise on specified
dates to cash flows that are solely payments of
principal and interest on the principal amount
outstanding. Since, the loans and advances are
held to sale and collect contractual cash flows, they
are measured at FVOCI.
iii) Financial assets at fair value through profit or
loss ("FVTPL")
A financial asset which is not classified in any of the
above categories are measured at FVTPL.
iv) Investment in subsidiaries
The Company has accounted for its investments in
subsidiaries at cost.
B. Financial liability
i) Initial recognition and measurement
All financial liabilities are initially recognized
at fair value. Transaction costs that are directly
attributable to the acquisition or issue of financial
liability, which are not at fair value through profit
or loss, are adjusted to the fair value on initial
recognition.
ii) Subsequent measurement
Financial liabilities are carried at amortized cost
using the effective interest method.
3.4 Reclassification of financial assets and liabilities
The Company does not reclassify its financial assets
subsequent to their initial recognition, apart from the
exceptional circumstances in which the Company
acquires, disposes of, or terminates a business line.
Financial liabilities are never reclassified.
3.5 Derecognition of financial assets and liabilities
A. Derecognition of financial assets due to substantial
modification of terms and conditions
The Company derecognises a financial asset, such as
a loan to a customer, when the terms and conditions
have been renegotiated to the extent that, substantially,
it becomes a new loan, with the difference recognised
as a derecognition gain or loss, to the extent that
an impairment loss has not already been recorded.
Where the substantial modification is because of
financial difficulties of the borrower and the old loan was
classified as credit-impaired, the new loan will initially be
identified as originated credit-impaired financial asset.
On satisfactory performance of the new loan, the new
loan is transferred to stage I or stage II of ECL.
B. Derecognition of financial assets other than due to
substantial modification
i) Financial assets
financial asset (or, where applicable, a part of a
financial asset or part of a group of similar financial
assets) is derecognised when the contractual
rights to the cash flows from the financial asset
expires or it transfers the rights to receive the
contractual cash flows in a transaction in which
substantially all of the risks and rewards of
ownership of the financial asset are transferred
or in which the Company neither transfers nor
retains substantially all of the risks and rewards
of ownership and it does not retain control of the
financial asset. On derecognition of a financial asset
in its entirety, the difference between the carrying
amount (measured at the date of derecognition)
and the consideration received (including any
new asset obtained less any new liability assumed)
is recognised in the statement of profit and loss.
Accordingly, gain on sale or derecognition of
assigned portfolio are recorded upfront in the
statement of profit and loss as per Ind AS 109.
Also, the Company recognises servicing income
as a percentage of interest spread over tenure of
loan in cases where it retains the obligation to
service the transferred financial asset. As per the
guidelines of RBI, the company is required to retain
certain portion of the loan assigned to parties in
its books as Minimum Retention Requirement
(“MRR"). Therefore, it continues to recognise the
portion retained by it as MRR.
ii) Financial liability
A financial liability is derecognised when the
obligation under the liability is discharged,
cancelled or expires. Where an existing financial
liability is replaced by another from the same
lender on substantially different terms, or the terms
of an existing liability are substantially modified,
such an exchange or modification is treated as
a derecognition of the original liability and the
recognition of a new liability. The difference
between the carrying value of the original financial
liability and the consideration paid is recognised in
the statement of profit and loss.
3.6 Impairment of financial assets
A. Overview of ECL principles
In accordance with Ind AS 109, the Company uses ECL
model, for evaluating impairment of financial assets
other than those measured at FVTPL. Expected credit
losses are measured through a loss allowance at an
amount equal to:
i) The 12-months expected credit losses (expected
credit losses that result from those default events
on the financial instrument that are possible within
12 months after the reporting date); or Full lifetime
expected credit losses (expected credit losses that
result from all possible default events over the life
of the financial instrument) Both LTECLs and 12
months ECLs are calculated on collective basis.
Based on the above, the Company categorises its loans
into Stage 1, Stage 2 and Stage 3, as described below:
Stage 1: When loans are first recognised, the Company
recognises an allowance based on 12 months ECL.
Stage 1 loans includes those loans where there is no
significant credit risk observed and also includes facilities
where the credit risk has been improved and the loan has
been reclassified from stage 2 or stage 3.
Stage 2: When a loan has shown a significant increase
in credit risk since origination, the Company records an
allowance for the life time ECL. Stage 2 loans also
includes facilities where the credit risk has improved and
the loan has been reclassified from stage 3.
Stage 3: Loans considered credit impaired are the loans
which are past due for more than 90 days. The Company
records an allowance for life time ECL.
Loan commitments: When estimating LTECLs for
undrawn loan commitments, the Company estimates
the expected portion of the loan commitment that will
be drawn down over its expected life. The ECL is then
based on the present value of the expected shortfalls in
cash flows if the loan is drawn down.
B. Calculation of ECLs
The mechanics of ECL calculations are outlined below
and the key elements are, as follows:
PD Probability of Default (“PD") is an estimate of
the likelihood of default over a given time horizon.
A default may only happen at a certain time over the
assessed period, if the facility has not been previously
derecognised and is still in the portfolio.
EAD Exposure at Default (“EAD") is an estimate of the
exposure at a future default date, taking into account
expected changes in the exposure after the reporting
date, including repayments of principal and interest
LGD Loss Given Default (“LGD") is an estimate of the loss
arising in the case where a default occurs at a given time.
It is based on the difference between the contractual
cash flows due and those that the lender would expect to
receive, including from the realisation of any collateral.
It is usually expressed as a percentage of the EAD.
The Company has calculated PD, EAD and LGD to
determine impairment loss on the portfolio of loans
and discounted at an approximation to the EIR. At every
reporting date, the above calculated PDs, EAD and
LGDs are reviewed and changes in the forward looking
estimates are analysed.
The mechanics of the ECL method are summarised
below:
Stage 1: The 12 months ECL is calculated as the portion
of LTECLs that represent the ECLs that result from default
events on a financial instrument that are possible within
the 12 months after the reporting date. The Company
calculates the 12 months ECL allowance based on the
expectation of a default occurring in the 12 months
following the reporting date. These expected 12-months
default probabilities are applied to a forecast EAD and
multiplied by the expected LGD and discounted by an
approximation to the original EIR.
Stage 2: When a loan has shown a significant increase
in credit risk since origination, the Company records an
allowance for the LTECLs. The mechanics are similar to
those explained above, but PDs and LGDs are estimated
over the lifetime of the instrument. The expected cash
shortfalls are discounted by an approximation to the
original EIR.
Stage 3: For loans considered credit-impaired, the
Company recognises the lifetime expected credit losses
for these loans. The method is similar to that for stage 2
assets, with the PD set at 100%.
C. Loans and advances measured at FVOCI
The ECLs for loans and advances measured at FVOCI
do not reduce the carrying amount of these financial
assets in the balance sheet, which remains at fair value.
Instead, an amount equal to the allowance that would
arise if the assets were measured at amortised cost
is recognised in OCI as an accumulated impairment
amount, with a corresponding charge to profit or loss.
The accumulated loss recognised in OCI is recycled to
the profit and loss upon derecognition of the assets.
D. Forward looking information
In its ECL models, the Company relies on a broad range
of forward looking macro parameters and estimated the
impact on the default at a given point of time.
i) Gross fixed investment (% of GDP)
ii) Lending interest rates
iii) Deposit interest rates
3.7 Write-offs
Financial assets are written off when the Company
has stopped pursuing the recovery. If the amount to
be written off is greater than the accumulated loss
allowance, the difference is first treated as an addition
to the allowance that is then applied against the gross
carrying amount. Any subsequent recoveries are credited
to impairment on financial instruments in the statement
of profit and loss.
3.8 Determination of fair value
Fair value is the price that would be received to sell an
asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date,
regardless of whether that price is directly observable
or estimated using another valuation technique.
In estimating the fair value of an asset or a liability, the
Company has taken into account the characteristics of
the asset or liability if market participants would take
those characteristics into account when pricing the
asset or liability at the measurement date. In addition, for
financial reporting purposes, fair value measurements
are categorised into Level 1,2, or 3 based on the degree
to which the inputs to the fair value measurements are
observable and the significance of the inputs to the fair
value measurement in its entirety, which are described
as follows:
• Level 1 financial instruments: Those where
the inputs used in the valuation are unadjusted
quoted prices from active markets for identical
assets or liabilities that the Company has access to
at the measurement date. The Company considers
markets as active only if there are sufficient trading
activities with regards to the volume and liquidity
of the identical assets or liabilities and when there
are binding and exercisable price quotes available
on the balance sheet date;
• Level 2 financial instruments: Those where the
inputs that are used for valuation and are significant,
are derived from directly or indirectly observable
market data available over the entire period of the
instrument's life. Such inputs include quoted prices
for similar assets or liabilities in active markets,
quoted prices for identical instruments in inactive
markets and observable inputs other than quoted
prices such as interest rates and yield curves, implied
volatilities, and credit spreads; and
• Level 3 financial instruments: Those that include
one or more unobservable input that is significant
to the measurement as whole.
3.9 (I) Recognition of other income
Revenue (other than for those items to which Ind AS 109
- Financial Instruments are applicable) is measured at fair
value of the consideration received or receivable. Ind AS
115 - Revenue from contracts with customers outlines a
single comprehensive model of accounting for revenue
arising from contracts with customers and supersedes
current revenue recognition guidance found within Ind
ASs. The Company recognises revenue from contracts
with customers based on a five-step model as set out in
Ind AS 115:
Step 1: Identify contract(s) with a customer: A contract
is defined as an agreement between two or more parties
that creates enforceable rights and obligations and sets
out the criteria for every contract that must be met.
Step 2: Identify performance obligations in the contract:
A performance obligation is a promise in a contract with
a customer to transfer a good or service to the customer.
Step 3: Determine the transaction price: The transaction
price is the amount of consideration to which the
Company expects to be entitled in exchange for
transferring promised goods or services to a customer,
excluding amounts collected on behalf of third parties.
Step 4: Allocate the transaction price to the performance
obligations in the contract: For a contract that has more
than one performance obligation, the Company allocates
the transaction price to each performance obligation in
an amount that depicts the amount of consideration to
which the Company expects to be entitled in exchange
for satisfying each performance obligation.
Step 5: Recognise revenue when (or as) the Company
satisfies a performance obligation
A. Dividend income
Dividend income (including from FVOCI investments)
is recognised when the Company's right to receive
the payment is established, it is probable that the
economic benefits associated with the dividend will
flow to the Company and the amount of the dividend
can be measured reliably. This is generally when the
shareholders approve the dividend.
B. Income from assignment transactions
Income from assignment transactions i.e. present value
of excess interest spread is recognised when the
related loan assets are de-recognised. Interest income
is also recognised on carrying value of assets over the
remaining period of such assets.
C. Other interest income
Other interest income is recognised on a time
proportionate basis.
D. Other Charges in Respect of Loans
Income in case of late payment charges are recognized
when there is no significant uncertainty of regarding its
recovery.
3.9 (II) Recognition of other expense
A. Borrowing costs
Borrowing costs are the interest and other costs that
the Company incurs in connection with the borrowing
of funds. Borrowing costs that are directly attributable
to the acquisition or construction of qualifying assets are
capitalised as part of the cost of such assets.
A qualifying asset is an asset that necessarily takes a
substantial period of time to get ready for its intended
use or sale. All other borrowing costs are charged to the
statement of profit and loss for the period for which they
are incurred.
3.10 Cash and cash equivalents
Cash comprises cash on hand and demand deposits with
banks. Cash equivalents are short-term balances (with an
original maturity of three months or less from the date
of acquisition), highly liquid investments that are readily
convertible into known amounts of cash and which are
subject to insignificant risk of changes in value.
3.11 Property, plant and equipment
Property, plant and equipment (“PPE") are carried at
cost, less accumulated depreciation and impairment
losses, if any. The cost of PPE comprises its purchase
price net of any trade discounts and rebates, any import
duties and other taxes (other than those subsequently
recoverable from the tax authorities), any directly
attributable expenditure on making the asset ready
for its intended use and other incidental expenses.
Subsequent expenditure on PPE after it purchase is
capitalized only if it is probable that the future economic
benefits will flow to the enterprise and the cost of the
item can be measured reliably. Depreciation is calculated
using the straight line method to write down the cost
of property and equipment to their residual values
over their estimated useful lives which are in line with
as specified under schedule II of the Act. Land is not
depreciated. The estimated useful lives are, as follows:
i) Buildings - 60 years
ii) Vehicles - 8 years
iii) Office equipment - 5 years
iv) Furniture and fixtures - 10 years
Depreciation is provided on a pro-rata basis from
the date on which such asset is ready for its intended
use. The residual values, useful lives and methods of
depreciation of property, plant and equipment are
reviewed at each financial year end and adjusted
prospectively, if appropriate. PPE is derecognised
on disposal or when no future economic benefits
are expected from its use. Any gain or loss arising on
derecognition of the asset (calculated as the difference
between the net disposal proceeds and the carrying
amount of the asset) is recognised in other income /
expense in the statement of profit and loss in the year
the asset is derecognised. Change the useful life of Office
Equipment to 5 years to make it in line with Schedule II
3.12 Intangible assets
The Company's intangible assets include the value of
software. An intangible asset is recognised only when its
cost can be measured reliably and it is probable that the
expected future economic benefits that are attributable
to it will flow to the Company.
Intangible assets acquired separately are measured on
initial recognition at cost. Following initial recognition,
intangible assets are carried at cost less any accumulated
amortisation and any accumulated impairment losses.
Amortisation is calculated to write off the cost of
intangible assets less their estimated residual values
over their estimated useful lives (five years) using the
straight-line method, and is included in depreciation and
amortisation in the statement of profit and loss.
3.13 Impairment of non-financial assets - property,
plant and equipment and intangible assets
The carrying values of assets / cash generating units at
each balance sheet date are reviewed for impairment.
If any indication of impairment exists, the recoverable
amount of such assets is estimated and if the carrying
amount of these assets exceeds their recoverable
amount, impairment loss is recognised in the statement
of profit and loss as an expense, for such excess amount.
The recoverable amount is the greater of the net selling
price and value in use. Value in use is arrived at by
discounting the future cash flows to their present value
based on an appropriate discount factor. When there
is indication that an impairment loss recognised for an
asset in earlier accounting periods no longer exists or
may have decreased, such reversal of impairment loss is
recognised in the statement of profit and loss.
3.14 Corporate guarantees
Corporate guarantees are initially recognised in
the standalone financial statements (within “other
non-financial liabilities") at fair value, being the notional
commission. Subsequently, the liability is measured at
the higher of the amount of loss allowance determined
as per impairment requirements of Ind AS 109 and the
amount recognised less cumulative amortisation.
Any increase in the liability relating to financial
guarantees is recorded in the statement of profit and
loss. The notional commission is recognised in the
statement of profit and loss under the head other
income as Income on Financial Guarantee given to banks
on behalf of Subsidiary on a straight line basis over the
life of the guarantee.
3.15 Retirement and other employee benefits Defined
contribution plans
The Company's contribution to provident fund and
employee state insurance scheme are considered
as defined contribution plans and are charged as an
expense based on the amount of contribution required
to be made and when services are rendered by the
employees.
Defined benefit plans
The Company pays gratuity to the employees whoever
has completed five years of service with the Company at
the time of resignation / retirement. The gratuity is paid
@15 days salary for every completed year of service as
per the Payment of Gratuity Act, 1972.
The gratuity liability amount is contributed by the
Company to the Life insurance Corporation of India who
administers the fund of the Company.
The liability in respect of gratuity and other
post-employment benefits is calculated using the
Projected Unit Credit Method and spread over the period
during which the benefit is expected to be derived from
employees' services. As per Ind AS 19, the service cost
and the net interest cost are charged to the statement
of profit and loss. Remeasurement of the net defined
benefit liability, which comprise actuarial gains and
losses, the return on plan assets (excluding interest) and
the effect of the asset ceiling (if any, excluding interest),
are recognised in OCI.
Short-term employee benefits
All employee benefits payable wholly within twelve
months of rendering the service are classified as short-term
employee benefits. Benefits such as salaries, wages etc.
and the expected cost of ex-gratia are recognised in
the period in which the employee renders the related
service. A liability is recognised for the amount expected
to be paid when there is a present legal or constructive
obligation to pay this amount as a result of past service
provided by the employee and the obligation can be
estimated reliably. The cost of short-term compensated
absences is accounted as under:
(a) in case of accumulated compensated absences, when
employees render the services that increase their
entitlement of future compensated absences; and
(b) in case of non-accumulating compensated
absences, when the absences occur.
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