The Securities and Exchange Commission of Brazil (CVM) has issued Opinion 37 to clarify that economic essence should prevail over legal form in Brazilian accounting. The document aims to organize the countless interpretations that emerged when the International Financial Reporting Standards (IFRS) came into effect.

One of the international standard’s main qualities is that it allows accountants to apply a certain subjectiveness in their assessments. The objective is to avoid bogging down the bookkeeping process with rules that neglect economic essence. But given that subjectiveness can also make room for accounting based on convenience, the regulator decided to shorten the reins and issue formal guidance to the market.

"We adhered to the international standard precisely so that accounting will translate reality", emphasizes CVM director Alexsandro Broedel Lopes. "Subjectivity cannot become an excuse for diversions from economic essence", he says. In cases where the IFRS and the best economic representation do not coincide, the opinion clarifies that the latter should prevail.

The document mentions an example: when there is doubt on whether to classify a given financial instrument as an asset or a liability, "Booking something as a liability requires a contractual obligation to deliver cash or some other financial asset, or an obligation to exchange such assets. One must analyze the essence of the instrument and the type of obligation it creates for the issuer", the director explains.

Energisa’s case was allegedly not the reason why the opinion was drafted, but it fits the situation that the regulator describes. In January, the company completed an international offering of "hybrid" securities. The reason for the nickname is that these hybrids are debt instruments bearing some of the properties of equity. They are perpetual bonds that allow the issuer to postpone interest payments according to the company’s operating results. In other words, they have no maturity date and pay an interest that is defined a posteriori in accordance with the issuer’s net earnings. Hence Energisa understood that the bonds could be booked as assets. In its quarterly report, the pertinent R$ 330.8 million (around US$ 185.8 million) appear as an integral part of the company’s net equity, in an account entitled "funds raised from perpetual securities".

The CVM opened an ongoing proceeding in March to "analyze company information", but the regulator doesn’t comment on specific cases. According to the Fitch and Moody’s rating agencies, the bonds are unquestionably liabilities.