Corporate response to ICAI move

Corporate response to the Institute of Chartered Accountants of India's (ICAI's) March 30 guideline asking companies to disclose and provide for derivative losses would depend on where they stand, and how much are the losses going to burn a hole on their bottomline.

''The companies which will be hit hard by the losses will cry the most. Most big companies will embrace it. They have smarter people in treasuries; it's unlikely that they will have exposures which are naked,'' said Viren Mehta, director, Ernst & Young India.

''I don't think overall there's any heartburn that the guidance has created. On the larger companies, the impact will not be material and they will not have a problem in reporting and providing for losses on derivative products,'' added Mehta.

Even if the larger companies have over-extended themselves, experts feel their mark-to-market (MTM) liabilities after knocking-off the unrealised gains on the underlying will not be much.

But if smaller companies have over-extended themselves and entered into speculative deals, they will take a hit on their profit and loss account.

Bankers say there are two types of clients who entered into these contracts. First types are those who understand these products and have been dabbling in them for years together, and have the situation under control. The second types are those who jumped into the fray without understanding these products.

''If they have an underlying which is covered, irrespective of how large the MTM is, they will not have a net loss on their P&L,'' said an accounting expert, who didn't wish to be quoted. What he means is that if the company is sitting on a loss on the derivative, the value of the underlying (say, import payables) might have gone up.

Consider a company which has taken a dollar loan, when the rupee was at Rs 43 to the US dollar but is today trading at Rs 40. The company, which has taken a derivative on this loan (a currency swap involving the yen or Swiss Franc), maybe sitting on a mark-to-market loss on the same but this will be offset by the revaluation of the loan.

''Corporate response will be governed by the quantum of losses and its intentions. You see a herd approach in the way companies are going to the courts, much the same way they jumped for these derivatives,'' said Farrokh Tarapore, partner, Ernst & Young.

''Going to court could be a good defence to take, claiming that the contracts the banks sold them were not legal or appropriate for us. But if these were legal or not is debatable; the arguments have not been tested,'' added Tarapore.