Extracting value Issue 8 - Resource Super Profits Tax (RSPT)
Financial reporting considerations for the current reporting period
The Federal Government’s announcement of the proposed implementation of a ‘Resource Super Profits Tax’ (RSPT) has certainly created a lot of ‘interest’ from resources sector companies, both in Australia and globally.
Notwithstanding the lack of even draft RSPT legislation, there are a number of immediate financial reporting challenges which will need to be considered by resources companies in their financial reports, including June 2010 reports.
In this edition of Extracting Value, we explore:
- Background to the proposed RSPT
- Other considerations, including the impact on fair values, disclosure considerations and the interaction of the proposed RSPT transitional provisions with past accounting policies.
You can download a PDF version of this document at the bottom of the page.
On 2nd May 2010, the Federal Government announced, as part of its response to the Henry review of taxation, its intention to implement a ‘Resource Super Profits Tax’ (RSPT).
The initial proposals include the following features:
- RSPT is proposed to be levied at a rate of 40% on taxable profits from the extraction of non-renewable resources, applying on a project by project basis
- Capital costs would be recovered over a period of time (effectively a depreciation deduction) and undeducted costs will be permitted an interest allowance (special transitional provisions will permit a deduction in relation to existing projects, generally by reference to the carrying amounts of assets in the last audited financial statements prior to the Government’s announcement)
- A refundable credit would be provided for State royalties paid by the company.
RSPT liabilities will be deductible and RSPT refunds assessable for corporate income tax purposes. Undeducted costs in respect of a project will be transferable to other projects. Where undeducted costs are not able to be used or transferred and a project is abandoned, it is proposed that a refundable credit equal to 40% of the undeducted costs would be provided.
The Federal Government is undertaking consultation on the structure of the proposed tax. While it is intention of the Federal Government to proceed with the RSPT, at this stage it is still unknown as to what form it will finally take. Consultation has commenced and the Government’s intention is to continue this process with the objective of tabling draft legislation in Parliament in late 2011.
|Current and deferred tax accounting
Based on the details available to date, it appears likely the proposed RSPT will be considered an ‘income tax’ under Australian Accounting Standards, and so impact effective tax rates reported in financial statements. However, the refundable nature of certain amounts (State royalties and undeducted costs in some cases) may potentially introduce elements of government grant accounting. The final accounting approach for the proposed RSPT can only be determined once enabling legislation is finalised.
As with other legislative changes, there will be no need to directly account for the proposed RSPT until such time as it is ‘substantively enacted’ within the meaning of Accounting Standards.
Possible indicators of impairment
The potential introduction of the RSPT may give rise to ‘indicators’ of impairment under AASB 136 Impairment of Assets, requiring the company to perform a recoverable amount test of its Australian resources assets. Depending upon the outcome of these tests, impairment charges may result, which may have flow on impacts in such areas as reported profits and earnings per share, dividend planning and key ratios, and so on.
Relevant ‘indicators’ in AASB 136 include:
|AASB 136 indicators (summarised)||RSPT considerations|
|During the period, an asset’s market value has declined significantly more than would be expected as a result of the passage of time or normal use||The share price movements of affected resources companies potentially indicates a drop in value of resources projects in general.|
|Significant changes with an adverse affect on the company have taken place during the period, or will take place in the near future, in the technological, market, economic or legal environment||The Federal Government’s intention to introduce the RSPT may be considered to meet this criterion|
|Market interest rates or other market rates of return on investments have increased during the period, and those increases are likely to affect the discount rate used in calculating an asset’s value in use||The significant share price movements experienced by resources companies since the announcement of the proposed RSPT may potentially reflect a market view that returns required from resources companies has increased in light of the proposed RSPT|
|The carrying amount of the net assets of the company is more than its market capitalisation||This factor may potentially come into play for certain listed resources companies. This area is one where the Australian Securities and Investments Commission (ASIC) is known to focus|
|Significant changes with an adverse effect on the company have taken place during the period, or are expected to take place in the near future, in the extent to which, or manner in which, an asset is used or expected to be used (including an asset becoming idle, being abandoned, restructured, sold or a reduction in the useful life of the asset)||There have been reports of resources projects being deferred as a result of the announcement of the proposed RSPT. The extent to which these possible actions are ultimately implemented will only become clear as individual companies further investigate the effects of the proposed RSPT|
Impairment testing considerations
Even though an indicator of impairment might exist as a result of the proposed RSPT, this does not mean an impairment loss is inevitable. The impairment outcome will depend on a large number of factors and will vary with the facts and circumstances of each company and project. It is likely that significant judgement will be required, particularly when the exact scope and operation of the proposed RSPT is unknown in these early stages of its possible implementation.
Given the uncertainty, it is clear the recoverable amount calculation should not assume a ‘worse case’ scenario, i.e. it would not be appropriate to rework a value in use model to include the full effects of the announced RSPT before it is even enacted. However, it would equally be inappropriate to exclude consideration of the possible RSPT from the recoverable amount calculation in its entirety.
|From a corporate governance perspective, the need to consider ‘worse case’ scenarios may well be a key consideration in responding to the possible RSPT. Consult your local Deloitte adviser for assistance in modelling the impacts for your business.|
The matters to consider in calculating recoverable amount include:
- Reflecting changes in the timing of estimated cash flows to reflect any possible deferral of expenditure, or changes in expenditure
- Adjustments to forecast cash flows to take the possible RSPT into account (directly or through determining the pre-tax discount rate) – such adjustments would need to be considered by reference to possible probabilities assigned to particular outcomes
- Adjusting the discount rate used in discounted cash flow analyses to reflect additional risk and financing premiums, possible changes in optimal debt to equity ratios, market factors and other factors
- Considering how the possible rebate of State royalties may impact cash flows – this factor will need to be adjusted in a consistent manner with the proposed RSPT itself
- Indirect impacts on factors such as reserve and resources estimates
- The effect of other legislative changes linked by the Federal Government to the introduction of the RSPT, including the reduction in the general corporate income tax rate and the increase in compulsory superannuation contributions.
Care needs to be taken to ensure impacts are only taken into account once in the process. For example, it would not be appropriate to perform a weighted probability analysis of possible tax outcomes including the RSPT and then also include a specific adjustment in the discount rate for additional risk associated with the RSPT. Equally, scenario analysis including RSPT but not adjusting for the royalty rebate would also not be appropriate.
Additional considerations for exploration and evaluation assets
The testing of exploration and evaluation assets is performed in the context of modified indicators of impairment under AASB 6 Exploration for and Evaluation of Mineral Resources. These indicators may come into play in circumstances such as:
- The company decides to discontinue exploration and evaluation activities on a particular area of interest. Care needs to be taken in making this assessment as a period of ‘holding’ may not necessarily trigger a need to test for impairment – this will be facts and circumstances dependent
- A particular exploration and evaluation project is well advanced but the potential impacts of the RSPT mean it may become uneconomic to exploit or its value on sale has significantly diminished.
Future impairment reversals?
As the uncertainty surrounding the RSPT is gradually resolved over the coming months, the possibility of a reversal of any impairment losses recognised may arise. It should be noted the reversal of impairment losses is a mandatory requirement under AASB 136 for all but previous goodwill impairments.
This factor may come into play if the eventual shape and form of the RSPT is more favourable than is currently evidenced from market reactions and industry expectations. The reversal of previous impairment losses may also be relevant where the economics of some marginal projects previously impaired are improved by the introduction of the RSPT and the rebating of royalties.
|The reversal of impairment losses would not extend to exploration and evaluation expenditure that was previously directly expensed under the company’s accounting policy.|
The considerations in relation to fair value share much in common with the discussion on impairment above.
Fair value considerations largely arise in relation to business combinations, as the use of ongoing fair value measurement for resources related assets is not widespread in practice.
The impact of market uncertainty on fair values determined in relation to mergers and acquisitions occurring in the near term will need to be carefully managed. In some cases, the uncertainty may reduce assigned fair values of assets (including ‘blue sky’) below the consideration paid. In addition to normal factors, any premium paid may effectively represent the possibility of a more favourable outcome occurring as the RSPT regime is implemented, or a more favourable view of its implementation of the acquirer when compared to the market in general. Accordingly, the ‘more favourable view’ may be reflected in higher goodwill as distinct from the assets themselves which are measured by reference to their fair values and market conditions.
|The interaction of the resolution of an uncertainty with the ‘measurement period’ requirements of AASB 3 Business Combinations (2008) will require careful consideration. It is often stated “fair value is fair value”, i.e. determined at a point in time in light of market facts and circumstances at the time. Although a favourable outcome in relation to the RSPT may increase the fair value of assets after the date of a business combination, whether this is an adjustable event under AASB 3 will require significant professional judgement.|
There are numerous disclosure requirements which need to be considered as a result of the uncertainty surrounding the introduction of the RSPT:
AASB 101 Presentation of Financial Statements requires companies to disclose “information about the assumptions it makes about the future, and other major sources of estimation uncertainty at the end of the reporting period, that have a significant risk of resulting in a material adjustment to the carrying amounts of assets and liabilities within the next financial year”.
The possible introduction of the RSPT would clearly fall within the scope of this requirement and resources companies should carefully consider the nature of the disclosures that it will make at 30 June 2010 in complying with this requirement. ‘Boilerplate’ disclosure should be avoided where possible, in favour of transparent disclosure about the way in which the RSPT has been taken into account in preparing the financial statements.
AASB 136 also requires extensive disclosure about impairment losses in general and in relation to cash generating units containing goodwill or intangible assets with indefinite useful lives. These disclosures, particularly the need for sensitivity analyses in some cases, will again require significant professional judgement.
For half-year reports, AASB 134 Interim Financial Reporting has numerous disclosure requirements which may be triggered by the circumstances surrounding the RSPT. Whilst not as extensive as those outlined above, it would still be considered best practice for affected companies to make transparent disclosure about the impacts of RSPT in interim reports.
Finally, the various corporate governance disclosures required under ASX Listing Rules, Corporations Act 2001 and so on may be impacted.
|In the politically charged environment surrounding the RSPT, the nature and content of disclosures will require careful and detailed consideration by the company’s audit committee and board of directors.|
RSPT transitional provisions
The proposed transitional provisions for the introduction of the RSPT partially rely on the accounting book value of existing project assets as at the most recent audited financial report at the time of the announcement. The book value will be required to reflect a value consistent with Australian Accounting Standards. Market value will be used where audited accounting book values are not available.
The book value so determined is proposed to be inflated and permitted as an accelerated deduction on commencement of the regime.
Accordingly, taken on face value, a company’s past accounting policy will impact the amount of the future RSPT deduction available. For instance:
- Whether (and how) the company capitalises or expenses exploration and evaluation costs
- Whether the revaluation or historical cost basis has been used to measure assets in the past
- Previous policy on the capitalisation of interest costs into qualifying assets (when capitalisation was not mandatory)
- Projects which may have been impaired in the past (particularly ‘marginal projects’ the RSPT seeks to encourage to proceed).
|This may become a key area requiring clarification if the RSPT proposals are to proceed. It seems equitable to ensure all companies are placed on a ‘level playing field’ regardless of past accounting policies.|
- Henry Review – Deloitte’s perspective
- Between a rock and a hard place - Some practical issues with the resources super profits tax for the mining industry