Assurance Gazette – March 2024 Edition

We are thrilled to present the Assurance Gazette for March 2024. This edition offers comprehensive guidance regarding the presentation and disclosure of a channel financing arrangement within the financial statements of the supplier, including an analysis of a recent opinion issued by the EAC (Expert Advisory Committee) concerning the same topic. We aim to provide you timely information on recent accounting and auditing related updates in a lucid manner. 

Presentation of “Channel Financing Arrangements in Financial Statements”: 

Introduction: 

Channel financing – financial arrangement that extends working capital loans to channel partners, such as distributors, dealers, or buyers, who are involved in contracts to procure goods or services from a corporate entity.  

The arrangement encompasses three distinct entities: a company responsible for supplying the goods or services or supplier, a channel partner engaged in the acquisition of said goods or services or the Distributor, and a financial institution or Bank. Ordinarily, this framework facilitates the expeditious receipt of payment by the supplier company from the financial institution, occurring prior to the settlement of payment by the channel partner with the same financial institution.  

In the process of accounting for the funds received from the financial institution, the supplier is tasked with determining whether to offset the received amount against the receivable sum from the distributor or to establish a new liability. In addressing this decision, the supplier is required to adhere to the principles governing the derecognition of financial assets outlined in Ind AS 109, Financial Instruments.  

The Expert Advisory Committee (EAC) of the Institute of Chartered Accountants of India (ICAI) has discussed how to classify and present amounts received by an entity under a channel financing arrangement. 

Background of case scenario: 

The supplier company predominantly specializes in the sale of household appliances to dealers and distributors, with customary payment terms set at 30 days. Distributors availing themselves of early payment within 1-3 days are eligible for a 2% discount, while those exceeding the stipulated 30-day period are subject to overdue interest charges.  

Despite the established payment terms, numerous distributors encounter cash flow constraints, impeding their ability to remit immediate payments to the supplier. In response, the supplier has implemented a channel financing system in collaboration with banks. This system furnishes distributors with working capital, facilitating upfront payment to the supplier for their procurements. 

Under this arrangement, the bank assesses the creditworthiness of the distributor and extends a credit limit secured against their assets. Any interest, penalties, or ancillary charges associated with this credit fall within the purview of the distributor’s responsibility. The supplier’s involvement is confined to proffering a recommendation letter to the bank concerning the distributor’s creditworthiness, without direct involvement in the contractual agreement between the bank and distributor.