TOMORROW, the Financial Reporting Council will announce the first part of its new code of conduct for corporate governance. It is a welcome step towards ensuring that businesses behave in a responsible way, but more is needed.
It has been striking in recent times that the public and policymakers have blamed business’s failures on ethical lapses. Accounting scandals at Enron and WorldCom, financial crises partly built on questionable financial behaviour and bumper bank bonuses have all been criticised as not just a corporate failures, but moral ones. Bodies like the FRC have a role in encouraging ethical behaviour in business, but other stakeholders do too, not least professional bodies.
But before we look at how they can encourage ethical behaviour, it’s helpful to look at the basics. Ethics in a business context have been defined by Paul Makosz, a former consultant on ethical issues to the World Bank and blue-chip North American corporations, as “principles or norms of behaviour regarded as desirable by the majority of society”. Even if we accept this, it doesn’t help a lot. The second you go any further and actually implement this concept of ethics in real life, everything gets rather complicated.
For a start, we’re immediately confronted with a problem: how do we enforce those ethics? Broadly speaking, there are two approaches to enforcing ethics in business: a rules-based and a principles-based approach.
In a rules-based system, everyone – the regulated, the regulator, and the public – knows exactly what is permitted, and all stakeholders have to do is to follow the rules. Historically-speaking, the rules-based approach has been the most popular. When things have “gone wrong”, the usual response of an authority has been to issue new rules or regulations.
But this system has two problems. Firstly, new rules create new compliance costs for business, which means companies must work harder to increase revenues to cover those costs. Chasing the extra revenue can make companies more willing to bend rules. And that is the second problem: rules can be bent. Rules define what is and isn’t allowed, but there are always plenty of things that are allowed because they aren’t covered by the rules. Worse, “acting within the rules” can allow companies to justify what could otherwise be considered unethical behaviour. Acting within the letter, but not the spirit of the rules can lead to trouble.
BALANCE SHEET
Take, for example, the use of Repo 105 accounting by Lehman Brothers. The investment bank was able to make assets disappear off its balance sheet, simply by picking and choosing which legal jurisdictions it got its legal opinions and accounting standards from. But Lehman never broke the rules. ACCA was one of the first to note that rules-based corporate governance frameworks were an accident waiting to happen. Every bank that failed in the crisis complied with corporate governance requirements.
Anthony Belchambers, chief executive of the Futures and Options Association, argues that “ethics has been replaced by observance of rules. People have outsourced their sense of behavioural responsibility to compliance with external rules”. This is something that the Walker Review noted too, but Walker’s proposed solution is more regulations for banks to comply with.
The alternatives to rules are principles. Importantly, while you can dodge a rule, you can’t dodge a principle. Again, though, there are problems. While rules make sure you know exactly what is and what isn’t allowed, principles leave grey areas. Often, only hindsight clarifies whether something was right or wrong.
Then there’s the fact that principles only work well in a principled environment. In an environment where the prevailing culture is to comply with the letter but not the spirit of the law, and even then only when someone is looking, principles may be a normative aim too far. Besides, according to whose principles should businesses conform?
Expectations of ethical conduct in business must acknowledge that businesses exist to make a profit, and that they have to behave in a way that maximises value for their shareholders. In that case, you could argue that businesses should be allowed to operate in a way that places pure business interest above the public interest. According to Makosz, that would make such behaviour unethical. Social usefulness is paramount. Businesses are a part of society, and cannot be allowed to behave in ways that undermine it.
The International Federation of Accountants (IFAC) certainly takes this view and places the public interest in a position of utmost importance in its code of conduct: “A distinguishing mark of the accountancy profession is its acceptance of the responsibility to act in the public interest”. Businesses must therefore behave in a way that would be considered ethical by society at large. But this returns us to our earlier conundrum: a rules-based or principles-based approach?
As strong supporters of International Financial Reporting Standards (IFRS), we at ACCA are naturally inclined to support a principles-based approach; principles cannot be avoided, as rules can be.
It is encouraging that the Financial Reporting Council’s proposed UK Corporate Governance Code places an emphasis on principles rather than rules. However, there is still the issue that principles work best in a principled environment. Environments are shaped by those that inhabit them. It is the principles of CEOs, CFOs, and other finance professionals that will decide whether a principled approach works or not.
You can’t force people to be ethical, but you can certainly help them. This is why, in 2007, at ACCA we overhauled our syllabuses to place ethics and professionalism at the heart of our qualification. It is up to us and other accountancy bodies to create principled accountants – the CEOs and CFOs of tomorrow – who will place ethical behaviour and the public interest at the top of their priorities.
Ethics and professionalism are assessed in 11 of the 16 ACCA qualification syllabuses. We have an online ethics module – the first of its kind – which takes students and members through various ethical dilemmas to raise their awareness of ethical values, and aims to make it easier for our students and members to exercise good judgement in the future.
Any ACCA affiliate wanting to become an ACCA member must have completed this module. We are committed to training not just people that are good accountants, but accountants who are good people. With principled accountants, a principles-based approach to the enforcement of ethical behaviour can work.
Paul Moxey is head of corporate governance and risk management at ACCA, the Association of Chartered Certified Accountants
Friday, May 28, 2010
Mining Industry in Next Phase of the Boom, Although Short-Term Volatility Remains, Finds New Report from PricewaterhouseCoopers
mmodity prices in the second half as the global economic recovery began to take hold."
"It was a recovering year for commodity prices and global mining giants had to contend with improving their financial strength and operating results – all while managing around a very challenging economic environment that spanned the globe," Ralbovsky continued. "For success moving forward, it is essential that lessons from the past be learned so that the industry can identify potential uncertainties and respond accordingly, allowing the industry to fully extract the benefits of being back to the boom."
The report notes that although the total number of mining deals increased 16 percent from the prior year, activity was largely focused on smaller scale deals of less than $250 million, with average deal values of $52 million, down nearly $72 million from 2008. And while some companies had the resources to execute potential transactions, opportunity gave way to caution and no major deals were consummated.
"With no significant transactions completed during the year, we believe that some companies that had the financial resources available may have potentially missed opportunities to acquire assets," added Ralbovsky. "Although the window was small, it was open. As a result, Chinese investment was at the forefront of transactions and made up 22 percent of all global mining M&A activity and 30 percent of the Top 10 deals by value."
Indications of the Next Phase of the Boom
Despite approximately $200 billion of capital expenditure over the past three years, production remained flat across most commodities. Exploration spending by the top 40 declined significantly, given its discretionary nature. As reserve replacement becomes more challenging, the lack of spend on exploration poses the question of when and where the next world-class mines will be found. Add to that the strong fundamentals on the demand side over the medium and long-term, largely attributed to continued growth from China and other developing nations, and the industry may be in the next phase of the boom, the report found.
What's on the minds of industry CEOs?
While views may differ, almost without exception the number one agenda item is the global economy. Fundamental to success will be the ability to understand the lead demand indicators, particularly obtaining a good read on China and other developing nations. Today's CEO is more focused on other macroeconomic factors, such as foreign exchange rates, the cost of energy and the impact potentially unsustainable government budget deficits will have on interest rates, tax regimes, and the global economy. However, operating cost remains a key value differentiator.
Commodity Prices
Metal prices continued on a downward trend for the first six months of 2009, but recovered sharply along with most commodities in the second half. The upward trend in commodity prices continued into 2010 in many cases. The turnaround in copper prices has been most notable with the 2009 year-end spot price reaching $7,342 per ton. In both iron ore and metallurgical coal markets there has been a recent trend towards short-term contracts, driven by the big miners. Gold, on the back of 7 percent production increases and a 12 percent increase in average price, saw its share of total industry revenue increase from 10 percent to 14 percent in 2009.
After a hiatus, the future is looking bright again for the industry. Although significant short-term volatility remains – the long-term demand fundamentals will drive this cycle.
For a copy of the "Mine-Back to the Boom" report, visit www.pwc.com/mining.
About "Mine-Back to the Boom"
PwC analyzed 40 of the largest listed mining companies by market capitalization. The analysis includes major companies in all parts of the world whose primary business is mining.
The results aggregated in this report have been sourced from the latest publicly available information, primarily annual reports and financial reports available to shareholders. Where 2009 information was unavailable at the time of data collation, these companies have been excluded. Companies have different year-ends and report under different accounting regimes, including International Financial Reporting Standards (IFRS), US Generally Accepted Accounting Principles (US GAAP), Canadian GAAP, and others.
Information has been aggregated for the financial years of individual companies and no adjustments have been made to take into account different reporting requirements and year-ends. As such, the financial information shown for 2009 covers reporting periods from April 1, 2008 to December 31, 2009, with each company's results included for the 12-month financial reporting period that falls into this timeframe
"It was a recovering year for commodity prices and global mining giants had to contend with improving their financial strength and operating results – all while managing around a very challenging economic environment that spanned the globe," Ralbovsky continued. "For success moving forward, it is essential that lessons from the past be learned so that the industry can identify potential uncertainties and respond accordingly, allowing the industry to fully extract the benefits of being back to the boom."
The report notes that although the total number of mining deals increased 16 percent from the prior year, activity was largely focused on smaller scale deals of less than $250 million, with average deal values of $52 million, down nearly $72 million from 2008. And while some companies had the resources to execute potential transactions, opportunity gave way to caution and no major deals were consummated.
"With no significant transactions completed during the year, we believe that some companies that had the financial resources available may have potentially missed opportunities to acquire assets," added Ralbovsky. "Although the window was small, it was open. As a result, Chinese investment was at the forefront of transactions and made up 22 percent of all global mining M&A activity and 30 percent of the Top 10 deals by value."
Indications of the Next Phase of the Boom
Despite approximately $200 billion of capital expenditure over the past three years, production remained flat across most commodities. Exploration spending by the top 40 declined significantly, given its discretionary nature. As reserve replacement becomes more challenging, the lack of spend on exploration poses the question of when and where the next world-class mines will be found. Add to that the strong fundamentals on the demand side over the medium and long-term, largely attributed to continued growth from China and other developing nations, and the industry may be in the next phase of the boom, the report found.
What's on the minds of industry CEOs?
While views may differ, almost without exception the number one agenda item is the global economy. Fundamental to success will be the ability to understand the lead demand indicators, particularly obtaining a good read on China and other developing nations. Today's CEO is more focused on other macroeconomic factors, such as foreign exchange rates, the cost of energy and the impact potentially unsustainable government budget deficits will have on interest rates, tax regimes, and the global economy. However, operating cost remains a key value differentiator.
Commodity Prices
Metal prices continued on a downward trend for the first six months of 2009, but recovered sharply along with most commodities in the second half. The upward trend in commodity prices continued into 2010 in many cases. The turnaround in copper prices has been most notable with the 2009 year-end spot price reaching $7,342 per ton. In both iron ore and metallurgical coal markets there has been a recent trend towards short-term contracts, driven by the big miners. Gold, on the back of 7 percent production increases and a 12 percent increase in average price, saw its share of total industry revenue increase from 10 percent to 14 percent in 2009.
After a hiatus, the future is looking bright again for the industry. Although significant short-term volatility remains – the long-term demand fundamentals will drive this cycle.
For a copy of the "Mine-Back to the Boom" report, visit www.pwc.com/mining.
About "Mine-Back to the Boom"
PwC analyzed 40 of the largest listed mining companies by market capitalization. The analysis includes major companies in all parts of the world whose primary business is mining.
The results aggregated in this report have been sourced from the latest publicly available information, primarily annual reports and financial reports available to shareholders. Where 2009 information was unavailable at the time of data collation, these companies have been excluded. Companies have different year-ends and report under different accounting regimes, including International Financial Reporting Standards (IFRS), US Generally Accepted Accounting Principles (US GAAP), Canadian GAAP, and others.
Information has been aggregated for the financial years of individual companies and no adjustments have been made to take into account different reporting requirements and year-ends. As such, the financial information shown for 2009 covers reporting periods from April 1, 2008 to December 31, 2009, with each company's results included for the 12-month financial reporting period that falls into this timeframe
FASB releases fair value proposal
The US accounting standard setter has released it’s fair value standard, which strives to simplify rules surrounding financial instruments, but jars with international accounting rules, used by it’s neighbouring economies.
The Financial Accounting Standards Board (FASB) waited until US markets closed to release its long awaited reforms to financial instrument accounting, which will expand the use of fair value in a bid to increase transparency.
AdvertisementThe fair value principle forces financial institutions, to measure the value of their assets at market prices, rather than their original purchase price. The provides greater transparency for investors, but has been criticised by regulators, as increasing volatility.
The issue made headlines as the crisis took hold towards the end of 2008, as asset prices plummeted in illiquid markerts.
Under FASB’s proposal, most financial instruments would be measured at fair value in financial statements, but amortised cost would also be disclosed in some instances.
The rule, however, differs, to the International Accounting Standards Board’s (IASB) mixed-measurement model, which allows some assets to be valued at amortised cost.
The issue represents a challenge as both board move towards a June 2011 deadline to converge their accounting codes.
FASB said it would have ideally preferred to issue the proposal jointly with the IASB.
“However, each Board has faced different imperatives that have resulted in different approaches for accounting for certain types of financial instruments, resulting in different timetables for the project,” FASB said in its exposure draft.
“FASB’s main objective is to develop accounting standards that represent an improvement to U.S. financial reporting. What may be considered an improvement in jurisdictions with less developed financial reporting systems applying International Financial Reporting Standards (IFRS) may not be considered an improvement in the United States.”
The standard comes days after Sir David Tweedie, IASB chairman, told a San Diego audience both the FASB and IASB models could be reconciled.
“Say we both stick to our same positions [on classification and measurement], maybe we need to put out something that would say ‘if you want to get the same other comprehensive income as FASB, you have to add this on, which would be the fair value’” he said.
“FASB would do the opposite. If you want to get the FRS number, you deduct this. There are ways to do it.”
The Financial Accounting Standards Board (FASB) waited until US markets closed to release its long awaited reforms to financial instrument accounting, which will expand the use of fair value in a bid to increase transparency.
AdvertisementThe fair value principle forces financial institutions, to measure the value of their assets at market prices, rather than their original purchase price. The provides greater transparency for investors, but has been criticised by regulators, as increasing volatility.
The issue made headlines as the crisis took hold towards the end of 2008, as asset prices plummeted in illiquid markerts.
Under FASB’s proposal, most financial instruments would be measured at fair value in financial statements, but amortised cost would also be disclosed in some instances.
The rule, however, differs, to the International Accounting Standards Board’s (IASB) mixed-measurement model, which allows some assets to be valued at amortised cost.
The issue represents a challenge as both board move towards a June 2011 deadline to converge their accounting codes.
FASB said it would have ideally preferred to issue the proposal jointly with the IASB.
“However, each Board has faced different imperatives that have resulted in different approaches for accounting for certain types of financial instruments, resulting in different timetables for the project,” FASB said in its exposure draft.
“FASB’s main objective is to develop accounting standards that represent an improvement to U.S. financial reporting. What may be considered an improvement in jurisdictions with less developed financial reporting systems applying International Financial Reporting Standards (IFRS) may not be considered an improvement in the United States.”
The standard comes days after Sir David Tweedie, IASB chairman, told a San Diego audience both the FASB and IASB models could be reconciled.
“Say we both stick to our same positions [on classification and measurement], maybe we need to put out something that would say ‘if you want to get the same other comprehensive income as FASB, you have to add this on, which would be the fair value’” he said.
“FASB would do the opposite. If you want to get the FRS number, you deduct this. There are ways to do it.”
Thursday, May 27, 2010
How starter kits meet IFRS - IAS 31
IAS 31 applies in accounting for interests in joint ventures and the reporting of joint venture assets, liabilities, income and expenses in the financial statements of venturers and investors. This blog focuses on how joint-ventures should be included in the consolidated statements.
Proportionate consolidation or equity method
Principles
Joint-ventures (entities that are jointly controlled by the parent and other venturers) are included in the consolidated statements using either proportionate consolidation or the equity method. For more details about the equity method, please refer to the blog dedicated to IAS 28.
As regards proportionate consolidation, the venturer may combine its share of each of the assets, liabilities, income and expenses of the jointly controlled entity with the similar items, line by line, in its financial statements (option 1). Alternatively, the venturer may include separate line items for its share of the assets, liabilities, income and expenses of the jointly controlled entity in its financial statements (option 2).
In the starter kit
In the starter kit, both methods (proportionate consolidation and equity method) are available. As regards proportionate consolidation, the group's share of each item of assets, liabilities, income and expenses is included line by line in the financial statements (option 1 above).
Internal transactions
Principles
IAS 31's requirements are as follows: "when a venturer contributes or sells assets to a joint venture, recognition of any portion of a gain or loss from the transaction shall reflect the substance of the transaction. While the assets are retained by the joint venture, and provided the venturer has transferred the significant risks and rewards of ownership, the venturer shall recognize only that portion of the gain or loss that is attributable to the interests of the other venturers. When a venturer purchases assets from a joint venture, the venturer shall not recognize its share of the profits of the joint venture from the transaction until it resells the assets to an independent party".
IAS 31 is silent when it comes to operations between joint-ventures or between subsidiaries and joint-ventures.
In the starter kit
Automatic rules described in blog # 5 (IAS 27) for subsidiaries apply to joint-ventures. Elimination is weighted with the joint-venture's consolidation rate or with the lowest consolidation rate when transactions take place between joint-ventures.
Changes in investor's ownership interest
Loss of joint control
Principles described in IAS 27 for loss of control over a subsidiary apply when a parent loses joint control over a joint-venture. When the remaining interest, if any, gives significant influence, same principles apply as for a subsidiary becoming an associate (see blog # 6 - loss of control).
Increase / decrease in interest rate
Principles
If a parent increases its interest in a joint-venture without achieving control (which means that the acquiree remains a joint-venture afterwards), IFRSs do not specify how to deal with this operation in the consolidated financial statements.
As regards a decrease in interest rate, IAS 31 states that "if an investor's ownership interest in a jointly controlled entity is reduced, but the investment continues to be a jointly controlled entity, the investor shall reclassify to profit and loss only a proportionate amount of the gain or loss previously recognized in other comprehensive income". It is inferred that a gain or loss should be recognized in the income statement on a partial disposal of a joint-venture.
In the starter-kit
The new interest rate and the new integration rate in the joint-venture (which changes as a consequence) are taken into account with the impact of change posted on flow F04. Additional manual entries are left up to the user (same as for associates, see blog #8).
What's next?
In the next blog, we will focus on IFRS 3 "Business combinations".
Proportionate consolidation or equity method
Principles
Joint-ventures (entities that are jointly controlled by the parent and other venturers) are included in the consolidated statements using either proportionate consolidation or the equity method. For more details about the equity method, please refer to the blog dedicated to IAS 28.
As regards proportionate consolidation, the venturer may combine its share of each of the assets, liabilities, income and expenses of the jointly controlled entity with the similar items, line by line, in its financial statements (option 1). Alternatively, the venturer may include separate line items for its share of the assets, liabilities, income and expenses of the jointly controlled entity in its financial statements (option 2).
In the starter kit
In the starter kit, both methods (proportionate consolidation and equity method) are available. As regards proportionate consolidation, the group's share of each item of assets, liabilities, income and expenses is included line by line in the financial statements (option 1 above).
Internal transactions
Principles
IAS 31's requirements are as follows: "when a venturer contributes or sells assets to a joint venture, recognition of any portion of a gain or loss from the transaction shall reflect the substance of the transaction. While the assets are retained by the joint venture, and provided the venturer has transferred the significant risks and rewards of ownership, the venturer shall recognize only that portion of the gain or loss that is attributable to the interests of the other venturers. When a venturer purchases assets from a joint venture, the venturer shall not recognize its share of the profits of the joint venture from the transaction until it resells the assets to an independent party".
IAS 31 is silent when it comes to operations between joint-ventures or between subsidiaries and joint-ventures.
In the starter kit
Automatic rules described in blog # 5 (IAS 27) for subsidiaries apply to joint-ventures. Elimination is weighted with the joint-venture's consolidation rate or with the lowest consolidation rate when transactions take place between joint-ventures.
Changes in investor's ownership interest
Loss of joint control
Principles described in IAS 27 for loss of control over a subsidiary apply when a parent loses joint control over a joint-venture. When the remaining interest, if any, gives significant influence, same principles apply as for a subsidiary becoming an associate (see blog # 6 - loss of control).
Increase / decrease in interest rate
Principles
If a parent increases its interest in a joint-venture without achieving control (which means that the acquiree remains a joint-venture afterwards), IFRSs do not specify how to deal with this operation in the consolidated financial statements.
As regards a decrease in interest rate, IAS 31 states that "if an investor's ownership interest in a jointly controlled entity is reduced, but the investment continues to be a jointly controlled entity, the investor shall reclassify to profit and loss only a proportionate amount of the gain or loss previously recognized in other comprehensive income". It is inferred that a gain or loss should be recognized in the income statement on a partial disposal of a joint-venture.
In the starter-kit
The new interest rate and the new integration rate in the joint-venture (which changes as a consequence) are taken into account with the impact of change posted on flow F04. Additional manual entries are left up to the user (same as for associates, see blog #8).
What's next?
In the next blog, we will focus on IFRS 3 "Business combinations".
IASB Chairman Outlines Approach for Reconciling IASB and FASB
International Accounting Standards Board Chairman Sir David Tweedie on Tuesday outlined a possible approach for reconciling the divergent IASB and FASB models for financial instruments accounting. With FASB’s comprehensive exposure draft on financial instruments expected any day, Tweedie said during a JofA exclusive interview at the AICPA Council meeting in San Diego that public comments on the boards’ proposals will play a key role in getting their two approaches closer together.
Speaking later to the AICPA Governing Council, Tweedie thanked the AICPA for its longstanding support of the IASB even before international standards were popular. To understand Tweedie’s approach to fixing the financial instruments problem requires some background on where the standards setters diverged. As a result of the subprime mortgage collapse, accounting for loans and securities derived from loans was widely criticized. When the financial crisis started in 2008, this project was already on the active agendas of both standard setters, but the crisis put enormous political pressure on the IASB and FASB to improve their standards as soon as possible.
In a move that was not followed by FASB, the IASB split its project to replace IAS 39, Financial Instruments: Recognition and Measurement, into three parts to deal separately with classification and measurement; impairment; and hedging. FASB decided to deal with all three aspects of financial instruments in a single project and plans to issue its comprehensive exposure draft by the end of this month. Despite intense joint deliberations, FASB and the IASB were unable to agree on a common approach for classification and measurement. The IASB published its approach on Nov. 12, 2009, with the release of IFRS 9, Financial Instruments. IFRS 9 may be adopted early but is not effective until Jan. 1, 2013.
Under what is expected to be the proposed FASB model:
* Most instruments would be measured on the statement of financial position at fair value with changes in fair value reflected in net income, or net income and other comprehensive income;
* A limited amortized cost option would be available for financial liabilities; and
* No reclassification would be permitted between categories.
Under the IASB model (IFRS 9):
* The scope of the standard is limited to assets only;
* Amortized cost is used when it matches the entity’s business model and cash flow characteristics of the asset;
* Fair value is used for equity instruments, most derivatives and some hybrid instruments; and
* Bifurcation of embedded derivatives is not permitted.
To read the complete coverage please visit http://www.journalofaccountancy.com/Web/20102960.htm
Sponsor: Cambridge Consulting Group provides cost containment and risk management services to CFOs at major Fortune 500 Companies. With experience in Corporate Finance and Commercial Real Estate, Cambridge provides specific programs that reduce real estate and operational expenses. For more information please visit their website at www.ccgiweb.com
Speaking later to the AICPA Governing Council, Tweedie thanked the AICPA for its longstanding support of the IASB even before international standards were popular. To understand Tweedie’s approach to fixing the financial instruments problem requires some background on where the standards setters diverged. As a result of the subprime mortgage collapse, accounting for loans and securities derived from loans was widely criticized. When the financial crisis started in 2008, this project was already on the active agendas of both standard setters, but the crisis put enormous political pressure on the IASB and FASB to improve their standards as soon as possible.
In a move that was not followed by FASB, the IASB split its project to replace IAS 39, Financial Instruments: Recognition and Measurement, into three parts to deal separately with classification and measurement; impairment; and hedging. FASB decided to deal with all three aspects of financial instruments in a single project and plans to issue its comprehensive exposure draft by the end of this month. Despite intense joint deliberations, FASB and the IASB were unable to agree on a common approach for classification and measurement. The IASB published its approach on Nov. 12, 2009, with the release of IFRS 9, Financial Instruments. IFRS 9 may be adopted early but is not effective until Jan. 1, 2013.
Under what is expected to be the proposed FASB model:
* Most instruments would be measured on the statement of financial position at fair value with changes in fair value reflected in net income, or net income and other comprehensive income;
* A limited amortized cost option would be available for financial liabilities; and
* No reclassification would be permitted between categories.
Under the IASB model (IFRS 9):
* The scope of the standard is limited to assets only;
* Amortized cost is used when it matches the entity’s business model and cash flow characteristics of the asset;
* Fair value is used for equity instruments, most derivatives and some hybrid instruments; and
* Bifurcation of embedded derivatives is not permitted.
To read the complete coverage please visit http://www.journalofaccountancy.com/Web/20102960.htm
Sponsor: Cambridge Consulting Group provides cost containment and risk management services to CFOs at major Fortune 500 Companies. With experience in Corporate Finance and Commercial Real Estate, Cambridge provides specific programs that reduce real estate and operational expenses. For more information please visit their website at www.ccgiweb.com
IASB - User questionnaire for Fair Value Option
The International Accounting Standards Board (IASB) has produced a questionnaire for financial statement users on its May 2010 exposure draft “Fair Value Option for Financial Liabilities.” This questionnaire is targeted at analysts and forms part of a comprehensive program of outreach activities to IFRS constituents. Comments are requested from all parties, including users of financial statements, by July 16, 2010. (Read the IASB Web announcement and submit a response to the Exposure Draft User Questionnaire.)
The future of UK GAAP: ACCA costs the change
ACCA (the Association of Chartered Certified Accountants) today publishes the first detailed comparison to date of the differences between UK Generally Accepted Accounting Standards (UK GAAP) and the International Financial Reporting Standard for Small and Medium-sized Enterprises (IFRS for SMEs).
ACCA’s new report, entitled The new UK GAAP: how would the numbers look? explores the potential impact on reported profits of companies who currently use UK GAAP and will be affected by proposals issued by the UK Accounting Standards Board (ASB) in 2009. The report can be found at this link: http://www.accaglobal.com/pubs/general/activities/library/financial_reporting/other/tech-afb-nug.pdf
These proposals will result in UK GAAP evolving to reflect the IFRS for SMEs as published by the International Accounting Standards Board (IASB). ACCA’s report focuses on those differences between the two standards which could make reported profits larger or smaller, and the extent to which this would alter the tax payable.
“The intention is that the IFRS for SMEs should replace the current UK accounting standards perhaps from 2012,’” says Richard Martin, ACCA head of financial reporting and the report’s author.
“This report identifies over 50 potential differences between current UK accounting and the international standard. In each case, we have tried to identify whether this might mean that profits would be larger or smaller and if this means paying more or less tax on them.
“Any individual company will not be affected by all of the differences, but we recommend that accountants check to see whether they or their clients might be impacted.”
ACCA’s new report, entitled The new UK GAAP: how would the numbers look? explores the potential impact on reported profits of companies who currently use UK GAAP and will be affected by proposals issued by the UK Accounting Standards Board (ASB) in 2009. The report can be found at this link: http://www.accaglobal.com/pubs/general/activities/library/financial_reporting/other/tech-afb-nug.pdf
These proposals will result in UK GAAP evolving to reflect the IFRS for SMEs as published by the International Accounting Standards Board (IASB). ACCA’s report focuses on those differences between the two standards which could make reported profits larger or smaller, and the extent to which this would alter the tax payable.
“The intention is that the IFRS for SMEs should replace the current UK accounting standards perhaps from 2012,’” says Richard Martin, ACCA head of financial reporting and the report’s author.
“This report identifies over 50 potential differences between current UK accounting and the international standard. In each case, we have tried to identify whether this might mean that profits would be larger or smaller and if this means paying more or less tax on them.
“Any individual company will not be affected by all of the differences, but we recommend that accountants check to see whether they or their clients might be impacted.”
KPMG International > Financial Reporting Matters - 11 May 2010
Financial Reporting Matters - 11 May 2010 IASB releases exposure draft of updates to IAS 19 employee benefits. ASB tentatively proposes delay in adoption of IFRS for SMEs in the UK.
Credible financial statements
When the phased implementation of the International Financial Reporting Standards (IFRS) begins next year, the small and medium enterprises (SME) will be exempt. But large Indian companies will have to compulsorily prepare their financial statements in compliance with IFRS. By 2014, listed companies across all sectors including banking and non-banking financial services will have to cast their accounts as per the IFRS requirement.
The roadmap notified by the government states that the globally-accepted, and rigorous, accounting standards may be adopted by smaller businesses on an optional basis. Given the complexities and costs involved in implementing the new standard, the natural response of the SME sector would be to delay its adoption till it becomes compulsory.
Besides, there is no apparent incentive to adopt IFRS, especially when it involves huge expenditure in training people and overhauling the company's operational and information technology processes. That apart, there are concerns that new accounting standards would depress valuation of businesses.
Yet, that should not deter the SME sector from embracing an accounting standard that is globally accepted and is more rigorous than those followed now. In any case, the International Accounting Standards Board has prescribed a lighter version of IFRS for the SME sector, mostly companies that do not have capital market exposure but need to give users, such as lenders, of their financial statement a fair view of the company's short-term cash flows, liquidity and solvency.
Voluntary adoption of the new accounting standard would make financial statements of the SME sector comparable with those of similar entities elsewhere and more transparent. This would be particularly useful when partnerships are sought to be forged with entities overseas or when businesses need to raise funds.
The rigorous requirements of the IFRS, both the full and lighter version, would also serve to improve a company's credibility, and that could help them access funds at lower cost. Rather than wait for the government to take a view, small businesses with big ambitions should follow the larger companies in adopting the new accounting standard.
The roadmap notified by the government states that the globally-accepted, and rigorous, accounting standards may be adopted by smaller businesses on an optional basis. Given the complexities and costs involved in implementing the new standard, the natural response of the SME sector would be to delay its adoption till it becomes compulsory.
Besides, there is no apparent incentive to adopt IFRS, especially when it involves huge expenditure in training people and overhauling the company's operational and information technology processes. That apart, there are concerns that new accounting standards would depress valuation of businesses.
Yet, that should not deter the SME sector from embracing an accounting standard that is globally accepted and is more rigorous than those followed now. In any case, the International Accounting Standards Board has prescribed a lighter version of IFRS for the SME sector, mostly companies that do not have capital market exposure but need to give users, such as lenders, of their financial statement a fair view of the company's short-term cash flows, liquidity and solvency.
Voluntary adoption of the new accounting standard would make financial statements of the SME sector comparable with those of similar entities elsewhere and more transparent. This would be particularly useful when partnerships are sought to be forged with entities overseas or when businesses need to raise funds.
The rigorous requirements of the IFRS, both the full and lighter version, would also serve to improve a company's credibility, and that could help them access funds at lower cost. Rather than wait for the government to take a view, small businesses with big ambitions should follow the larger companies in adopting the new accounting standard.
Wednesday, May 26, 2010
PHBs look for greater transparency in financial reporting: Grant Thornton
Years of investor and regulator demands for greater transparency in financial reporting amongst listed companies is now affecting attitudes in the world of privately held businesses. More than half of leaders of privately held businesses (PHBs) globally (52%) believe that greater transparency is a key benefit of financial reporting according to latest research from the Grant Thornton International Business Report (IBR) 2010). The research covers the opinions of over 7,400 business owners across 36 economies. In India, around 350 PHBs were surveyed across 6 cities. (Bangalore, Chennai, Delhi, Kolkata, Mumbai and Pune)
Businesses in Ireland, the Philippines and Taiwan were most enthusiastic about greater transparency with 85% of businesses citing greater transparency as a key benefit. 57% of Indian businesses believe that financial reporting would bring about greater transparency in the system followed by 54% who feel this would also lead to easier access to capital.
Said Sai Venkateshwaran , Head - IFRS at Grant Thornton India, “These results indicate that even though PHBs are often under no obligation to report information about their financial results or legal structures, business leaders are increasingly recognising that in order to compete and grow they need to be more transparent and more readily comparable with competitors.”
At the same time, business owners were also asked if they had heard of International Financial Reporting Standards for Small and Medium sized Enterprises (IFRS for SMEs). IFRS for SMEs provides a substantially simplified set of internationally recognised accounting principles specifically for PHBs. "The adoption of IFRS for SMEs will allow PHBs to be more transparent and directly comparable with similar businesses around the world - a global solution to their increasing desire for greater transparency", voices Sai Venkateshwaran.
53% of businesses owners globally said they were aware of IFRS for SMEs. 68% of businesses in India are unaware about IFRS for SMEs compared to 32% who are aware of it.
Asia Pacific is the only area where the percentage of businesses who have never heard about IFRS for SMEs (58%) is higher than the percentage who has heard about these standards (30%). Ireland, Spain and Finland are the countries where businesses are most aware of IFRS for SMEs, 86%, 79% and 78% respectively. On the other end of the scale, 82% in Thailand, 65% in Taiwan and 64% in mainland China have never heard about IFRS for SMEs.
Where business owners were already aware of IFRS for SMEs, they were asked if they would like their country to adopt the standard. Globally 52% of business owners said they would like their country to adopt IFRS for SMEs with businesses in India (79%) that were supportive of adopting the standard. Mexico (89%), the Philippines (85%) and Chile (84%) were most supportive. In some countries plans are already in place to adopt the standard, while in others (including the Philippines) the standard has since been adopted. On the other end of the scale, Finnish businesses have the least enthusiasm to adopt IFRS for SMEs at 62%, followed by Japan (57%) and New Zealand (50%).
Businesses globally, recognise that financial reporting will help them reduce cost (44%) and grow their business with 37% citing easier access to capital as a key benefit. India stands at 28% in terms of reduced cost being a benefit. In Ireland, 89% of businesses cited reduced cost as a benefit, the highest proportion of all countries, followed by Malaysia (85%) and Denmark (80%). Japan (3%) and Botswana (11%) are the least likely to say that reduced cost is a benefit of financial reporting.
Easier access to capital is cited by 37% of businesses globally as a benefit of financial reporting. However only 28% of Indian businesses (less than the global figure) share the same view.
Businesses in Ireland, the Philippines and Taiwan were most enthusiastic about greater transparency with 85% of businesses citing greater transparency as a key benefit. 57% of Indian businesses believe that financial reporting would bring about greater transparency in the system followed by 54% who feel this would also lead to easier access to capital.
Said Sai Venkateshwaran , Head - IFRS at Grant Thornton India, “These results indicate that even though PHBs are often under no obligation to report information about their financial results or legal structures, business leaders are increasingly recognising that in order to compete and grow they need to be more transparent and more readily comparable with competitors.”
At the same time, business owners were also asked if they had heard of International Financial Reporting Standards for Small and Medium sized Enterprises (IFRS for SMEs). IFRS for SMEs provides a substantially simplified set of internationally recognised accounting principles specifically for PHBs. "The adoption of IFRS for SMEs will allow PHBs to be more transparent and directly comparable with similar businesses around the world - a global solution to their increasing desire for greater transparency", voices Sai Venkateshwaran.
53% of businesses owners globally said they were aware of IFRS for SMEs. 68% of businesses in India are unaware about IFRS for SMEs compared to 32% who are aware of it.
Asia Pacific is the only area where the percentage of businesses who have never heard about IFRS for SMEs (58%) is higher than the percentage who has heard about these standards (30%). Ireland, Spain and Finland are the countries where businesses are most aware of IFRS for SMEs, 86%, 79% and 78% respectively. On the other end of the scale, 82% in Thailand, 65% in Taiwan and 64% in mainland China have never heard about IFRS for SMEs.
Where business owners were already aware of IFRS for SMEs, they were asked if they would like their country to adopt the standard. Globally 52% of business owners said they would like their country to adopt IFRS for SMEs with businesses in India (79%) that were supportive of adopting the standard. Mexico (89%), the Philippines (85%) and Chile (84%) were most supportive. In some countries plans are already in place to adopt the standard, while in others (including the Philippines) the standard has since been adopted. On the other end of the scale, Finnish businesses have the least enthusiasm to adopt IFRS for SMEs at 62%, followed by Japan (57%) and New Zealand (50%).
Businesses globally, recognise that financial reporting will help them reduce cost (44%) and grow their business with 37% citing easier access to capital as a key benefit. India stands at 28% in terms of reduced cost being a benefit. In Ireland, 89% of businesses cited reduced cost as a benefit, the highest proportion of all countries, followed by Malaysia (85%) and Denmark (80%). Japan (3%) and Botswana (11%) are the least likely to say that reduced cost is a benefit of financial reporting.
Easier access to capital is cited by 37% of businesses globally as a benefit of financial reporting. However only 28% of Indian businesses (less than the global figure) share the same view.
New norms may hit India Inc's valuations
from direct loss in business, companies also suffer from a loss in intangibles like R&D, intellectual property, loyal customers and customer relations. The modern accounting norms also find it impossible to value such items.
“It’s high-time people realise that valuation of companies have shifted out of the tangibles. Testing the valuation of intangibles is different under IFRS-3. Even Western companies are grappling with the concept and it’s already showing in the way Vodafone wrote down the valuation of its Indian subsidiary,” said Unni Krishnan, MD of Brand Finance, a brand evaluation consultancy.
While Indian accounting norms have also pressed for reporting such impairment, many Indian companies typically took refuge under a small provision in the Companies Act that allows such change in valuations to be adjusted against Reserves. “Also, boards of many companies need to take a call on whether any drop in valuations is typical to that industry,” said KH Viswanathan, an executive director with audit firm RSM Astute.
“If the steel industry, which is a cyclical sector, is going through a low phase, that factor needs to be considered before making any impairment. Such calls are also made by an independent expert,” he said. Aditya Birla group’s Hindalco, that made a big ticket acquisition in 2007 by buying Canada-based Novelis for $6 billion, faced similar prospects when the recession compounded the slowing market situation and exposed a faulty price ceiling contract. This forced Novelis to sell its final products to a select customer at a lower price.
The contract, which existed for three years, affected Novelis’s profitability. In February last year, Novelis posted a net loss of $1.8 billion for the December quarter of 2008 due to asset impairment charge and derivative losses. While the Canadian company has since completed the restrictive price ceiling contract tenure, a Hindalco official said that they are continuing with the audit procedure and can’t comment any further. Hindalco is scheduled to announce its earnings on June 4.
A Novelis statement said: “In accordance with FASB 142 (Financial Accounting Standards Board), we evaluate the carrying value of goodwill for potential impairment annually during the fourth quarter of each fiscal year or on an interim basis if an event occurs or circumstances change that indicate that the fair value of a reporting unit is likely to be below its carrying value.”
The company said that no additional impairment was identified at March 31, 2009, nor in the nine months ended December 31, 2009.
Shareholders and investors in Indian companies are yet to know that there are differences between IFRS and Indian accounting norms. The Indian norms permit reversal of impairment of goodwill when certain conditions are met. This is not there under IFRS. There is also a difference in the types of assets to be tested, with the Indian GAAP including all intangible assets with a useful life of more than 10 years. Under IFRS, only intangible assets with indefinite useful life are taken. However, it also needs to be mentioned that impairment charges don’t necessarily mean a cash drain. It’s only a fallout of stringent accounting rules, say auditors.
“It’s high-time people realise that valuation of companies have shifted out of the tangibles. Testing the valuation of intangibles is different under IFRS-3. Even Western companies are grappling with the concept and it’s already showing in the way Vodafone wrote down the valuation of its Indian subsidiary,” said Unni Krishnan, MD of Brand Finance, a brand evaluation consultancy.
While Indian accounting norms have also pressed for reporting such impairment, many Indian companies typically took refuge under a small provision in the Companies Act that allows such change in valuations to be adjusted against Reserves. “Also, boards of many companies need to take a call on whether any drop in valuations is typical to that industry,” said KH Viswanathan, an executive director with audit firm RSM Astute.
“If the steel industry, which is a cyclical sector, is going through a low phase, that factor needs to be considered before making any impairment. Such calls are also made by an independent expert,” he said. Aditya Birla group’s Hindalco, that made a big ticket acquisition in 2007 by buying Canada-based Novelis for $6 billion, faced similar prospects when the recession compounded the slowing market situation and exposed a faulty price ceiling contract. This forced Novelis to sell its final products to a select customer at a lower price.
The contract, which existed for three years, affected Novelis’s profitability. In February last year, Novelis posted a net loss of $1.8 billion for the December quarter of 2008 due to asset impairment charge and derivative losses. While the Canadian company has since completed the restrictive price ceiling contract tenure, a Hindalco official said that they are continuing with the audit procedure and can’t comment any further. Hindalco is scheduled to announce its earnings on June 4.
A Novelis statement said: “In accordance with FASB 142 (Financial Accounting Standards Board), we evaluate the carrying value of goodwill for potential impairment annually during the fourth quarter of each fiscal year or on an interim basis if an event occurs or circumstances change that indicate that the fair value of a reporting unit is likely to be below its carrying value.”
The company said that no additional impairment was identified at March 31, 2009, nor in the nine months ended December 31, 2009.
Shareholders and investors in Indian companies are yet to know that there are differences between IFRS and Indian accounting norms. The Indian norms permit reversal of impairment of goodwill when certain conditions are met. This is not there under IFRS. There is also a difference in the types of assets to be tested, with the Indian GAAP including all intangible assets with a useful life of more than 10 years. Under IFRS, only intangible assets with indefinite useful life are taken. However, it also needs to be mentioned that impairment charges don’t necessarily mean a cash drain. It’s only a fallout of stringent accounting rules, say auditors.
With only 7 months remaining, half of public companies are less than 60% through their IFRS conversions
Changes in financial reporting will require companies to explain possible changes in earnings per share and increases in pension liabilities
TORONTO, May 26 /CNW/ - With just over a half a year to go before converting to International Financial Reporting Standards (IFRS), many Canadian companies are making good progress, but others continue to lag behind, in a race to meet the January 1, 2011 deadline, according to a survey by the Canadian Financial Executives Research Foundations (CFERF), the research institute of FEI Canada, sponsored by PricewaterhouseCoopers (PwC).
The conversion to IFRS could result in some significant changes. For example, 28% of Canadian companies anticipate a decrease in reported net income, 22% expect earnings per share to fall and 28% expect an increase in pension liabilities in the first year of adoption. CFOs' communication with management, shareholders, analysts and other stakeholders will need to be robust during the next seven months to explain these changes to financial reporting and the transition process.
Canadian firms that are closer to completion include larger public companies and those in rate regulated sectors. Of executives responding from public companies, over half (53%) said their status of completion was 60% or higher. (This compares to last June where 80% of public companies remained short of the halfway mark in their overall conversion process.) Out of the top four industries responding to the survey who say they are more than 60% complete, utilities is the furthest ahead, with 73%, followed by the insurance sector (63%), mining and oil extraction companies (50%) and manufacturing (46%).
According to Diane Kazarian, PwC Canada's National IFRS leader, "The size of the company usually plays a big role in terms of expertise and available resources. Chief Financial Officers in smaller companies often have fewer personnel who are specifically dedicated to the conversion. Larger companies also started earlier due to the complexities of the transition process for them." Additionally, the survey indicates that nearly 30% of companies with revenues of less than $49 million said they did not have the resources required to implement the conversion.
The survey also shows that all respondents with annual revenues of more than $20 billion were more than 60% complete, compared to 41% in the $50-$249 million range who were more than 60% complete. One-third of private companies that will adopt IFRS had completed 60% or more of the transition. "Given that there is not a lot of time left, a number of companies may be challenged to meet the conversion date," adds Kazarian.
As IFRS is a new language of financial reporting, the adoption will directly impact the look and content of the financial statements. "As we move into the latter stages of the conversion, companies will need to spend more time to communicate the key changes," says Ramona Dzinkowski, Executive Director, CFERF. "The numbers, formats and notes that analysts and shareholders will see on financial statements will change and CFOs will have to make communication their priority," she says.
Overall, 51% of respondents say the new reporting will show a change in their company's asset values - either a decrease or an increase. "Under IFRS, greater volatility in financial statements is expected," according to Kazarian.
When asked what external stakeholders had been contacted to discuss the potential impacts of the IFRS conversion, only 23% of respondents said they had spoken to analysts. (A PwC survey of chartered financial analysts in 2009 also found that 74% of respondents to that survey had a poor to fair knowledge of IFRS.) "Clearly, this will have to be a communications priority in the coming months for CFOs and investor relations executives," adds Kazarian.
The survey further indicates that tax departments within respondent companies have begun to consider the potential impacts of IFRS on tax. Overall, 53% have considered the implications of IFRS on Canadian income tax compliance, 24% have looked at foreign income tax compliance, and 39% have discussed tax planning and 23% have considered transfer pricing.
On initial adoption, one year of comparative data is required to be presented on an IFRS basis. Accordingly, the majority of finance executives (61%) expect their preliminary IFRS opening balance sheet to be complete by the end of the second quarter of their 2010 fiscal year.
The survey also shows that close to two-thirds of respondents believe that IFRS conversion will leverage End User Computing (EUC) solutions (i.e. spreadsheets) on a more substantial basis. While spreadsheets can be a viable solution, risks associated with the use of spreadsheets must be understood and managed accordingly.
An important issue facing all companies is the consideration of key debt covenants impacted as a result of IFRS adoption. The survey showed that only 6% of respondents did not have awareness of the IFRS implications on their debt covenants. This included 31% of respondents who said they were extremely aware of the impacts, showing a good knowledge of how IFRS can impact a key external stakeholder group such as lenders.
"Overall, the survey results show that while considerable progress has been made in working towards January 2011 implementation, there is still work to be done with seven months remaining. IFRS can have significant implications on IT systems, processes within the finance department, and many other areas, such as training, communications and the business. Companies need to leave enough time in the transition timetable to prepare for contingencies should they run into unanticipated issues as they move to the conversion date of January 1, 2011," says Kazarian.
The study is a third in a series covering conversion activities in Canada. The results are based on responses from 146 senior financial executives across Canada who completed the survey in March and April of this year.
TORONTO, May 26 /CNW/ - With just over a half a year to go before converting to International Financial Reporting Standards (IFRS), many Canadian companies are making good progress, but others continue to lag behind, in a race to meet the January 1, 2011 deadline, according to a survey by the Canadian Financial Executives Research Foundations (CFERF), the research institute of FEI Canada, sponsored by PricewaterhouseCoopers (PwC).
The conversion to IFRS could result in some significant changes. For example, 28% of Canadian companies anticipate a decrease in reported net income, 22% expect earnings per share to fall and 28% expect an increase in pension liabilities in the first year of adoption. CFOs' communication with management, shareholders, analysts and other stakeholders will need to be robust during the next seven months to explain these changes to financial reporting and the transition process.
Canadian firms that are closer to completion include larger public companies and those in rate regulated sectors. Of executives responding from public companies, over half (53%) said their status of completion was 60% or higher. (This compares to last June where 80% of public companies remained short of the halfway mark in their overall conversion process.) Out of the top four industries responding to the survey who say they are more than 60% complete, utilities is the furthest ahead, with 73%, followed by the insurance sector (63%), mining and oil extraction companies (50%) and manufacturing (46%).
According to Diane Kazarian, PwC Canada's National IFRS leader, "The size of the company usually plays a big role in terms of expertise and available resources. Chief Financial Officers in smaller companies often have fewer personnel who are specifically dedicated to the conversion. Larger companies also started earlier due to the complexities of the transition process for them." Additionally, the survey indicates that nearly 30% of companies with revenues of less than $49 million said they did not have the resources required to implement the conversion.
The survey also shows that all respondents with annual revenues of more than $20 billion were more than 60% complete, compared to 41% in the $50-$249 million range who were more than 60% complete. One-third of private companies that will adopt IFRS had completed 60% or more of the transition. "Given that there is not a lot of time left, a number of companies may be challenged to meet the conversion date," adds Kazarian.
As IFRS is a new language of financial reporting, the adoption will directly impact the look and content of the financial statements. "As we move into the latter stages of the conversion, companies will need to spend more time to communicate the key changes," says Ramona Dzinkowski, Executive Director, CFERF. "The numbers, formats and notes that analysts and shareholders will see on financial statements will change and CFOs will have to make communication their priority," she says.
Overall, 51% of respondents say the new reporting will show a change in their company's asset values - either a decrease or an increase. "Under IFRS, greater volatility in financial statements is expected," according to Kazarian.
When asked what external stakeholders had been contacted to discuss the potential impacts of the IFRS conversion, only 23% of respondents said they had spoken to analysts. (A PwC survey of chartered financial analysts in 2009 also found that 74% of respondents to that survey had a poor to fair knowledge of IFRS.) "Clearly, this will have to be a communications priority in the coming months for CFOs and investor relations executives," adds Kazarian.
The survey further indicates that tax departments within respondent companies have begun to consider the potential impacts of IFRS on tax. Overall, 53% have considered the implications of IFRS on Canadian income tax compliance, 24% have looked at foreign income tax compliance, and 39% have discussed tax planning and 23% have considered transfer pricing.
On initial adoption, one year of comparative data is required to be presented on an IFRS basis. Accordingly, the majority of finance executives (61%) expect their preliminary IFRS opening balance sheet to be complete by the end of the second quarter of their 2010 fiscal year.
The survey also shows that close to two-thirds of respondents believe that IFRS conversion will leverage End User Computing (EUC) solutions (i.e. spreadsheets) on a more substantial basis. While spreadsheets can be a viable solution, risks associated with the use of spreadsheets must be understood and managed accordingly.
An important issue facing all companies is the consideration of key debt covenants impacted as a result of IFRS adoption. The survey showed that only 6% of respondents did not have awareness of the IFRS implications on their debt covenants. This included 31% of respondents who said they were extremely aware of the impacts, showing a good knowledge of how IFRS can impact a key external stakeholder group such as lenders.
"Overall, the survey results show that while considerable progress has been made in working towards January 2011 implementation, there is still work to be done with seven months remaining. IFRS can have significant implications on IT systems, processes within the finance department, and many other areas, such as training, communications and the business. Companies need to leave enough time in the transition timetable to prepare for contingencies should they run into unanticipated issues as they move to the conversion date of January 1, 2011," says Kazarian.
The study is a third in a series covering conversion activities in Canada. The results are based on responses from 146 senior financial executives across Canada who completed the survey in March and April of this year.
MCA note clarifies IFRS road map
Even as the Institute of Chartered Accountants of India (ICAI) finalises accounting standards, the ministry of corporate affairs (MCA) has come up with clarifications on IFRS road map in India.
An MCA note titled released on May 4, responds to several clarifications sou-ght by the industry.
Questions had been raised on the presentation of comparative financial information by Phase 1 companies in the first year of adopting the converged accounting standards. The MCA has now clarified that the opening balance sheet prepared on April 1, 2011 and the financial statements for the year ending March 31, 2012 shall be in accordance with the converged accounting standards; but comparative period figures (i.e., for the year ending March 31, 2011) shall continue to be reported as per the non-converged accounting standards.
A company may choose to report comparative period figures as per the converged accounting standards as an additional column in the financial statements. The opening balance sheet for companies in such a case shall be at April 1, 2010.
An MCA note titled released on May 4, responds to several clarifications sou-ght by the industry.
Questions had been raised on the presentation of comparative financial information by Phase 1 companies in the first year of adopting the converged accounting standards. The MCA has now clarified that the opening balance sheet prepared on April 1, 2011 and the financial statements for the year ending March 31, 2012 shall be in accordance with the converged accounting standards; but comparative period figures (i.e., for the year ending March 31, 2011) shall continue to be reported as per the non-converged accounting standards.
A company may choose to report comparative period figures as per the converged accounting standards as an additional column in the financial statements. The opening balance sheet for companies in such a case shall be at April 1, 2010.
BMO warns on impact of new accounting rules
An interesting note in Bank of Montreal’s financial statements Wednesday points out that the new International Financial Reporting Standards that public companies have to adopt could impact the bank’s capital ratios.
This is an issue that markets should be keeping an eye on, because the new rules could ultimately require Canadian banks to park many loans that are currently held off-balance sheet (because they’ve been sold or securitized) on their balance sheets.
It’s been a long haul for big banks as they prepare to adopt IFRS. The preparation has been costly and time-consuming, bankers say. BMO’s statements give some clues as to why.
Canadian public companies are required to start preparing their financial statements inline with IFRS for fiscal years beginning on or after January 1, 2011.
In order to get ready, BMO set up a bank-wide project led by a new executive steering committee to implement a three-phase transition plan. (The bank will adopt IFRS effective Nov. 1, 2011, the start of its fiscal year. So its first quarter reporting under the new rules will be the first quarter that ends Jan. 31, 2012).
The bank says the “implementation activities” have been organized into 25 individual work streams based on key areas that the new rules could affect, such as leases and stock-based compensation. (The rules will require companies to account for leases in a way that more closely resembles the way they account for mortgages, a change that could have a big impact on retail chains and other businesses with substantial leases). BMO has nearly finished seven work streams, and so far it hasn’t found any major differences to the way it’s already accounting for these items.
But “based on our analysis to date, the main accounting changes due to adopting IFRS are expected to be in the areas of asset securitization, consolidation, and pension and other employee future benefits,” the bank said. In those areas, the changes to the bank’s accounting regime are expected to be significant enough that they could change the bank’s financial results and capital ratios, it warned. (When it says “consolidation,” it’s referring to the potential need to include results from variable interest entities with its own statements).
It noted that the banking regulator is giving banks some leeway on their asset-to-capital multiple by allowing them to keep mortgages that were sold through CMHC programs (such as the Canada Mortgage Bonds program) before March 31, 2010 off their balance sheets as they adopt the changes. The regulator is also giving them some other relief, allowing them to phase in certain changes to their retained earnings over five quarters.
Interestingly, bankers say that corporate loan departments have also been helping clients determine the impact that IFRS will have on their financial statements. That’s because the new rules could potentially impact debt to equity ratios, triggering loan covenants.
This is an issue that markets should be keeping an eye on, because the new rules could ultimately require Canadian banks to park many loans that are currently held off-balance sheet (because they’ve been sold or securitized) on their balance sheets.
It’s been a long haul for big banks as they prepare to adopt IFRS. The preparation has been costly and time-consuming, bankers say. BMO’s statements give some clues as to why.
Canadian public companies are required to start preparing their financial statements inline with IFRS for fiscal years beginning on or after January 1, 2011.
In order to get ready, BMO set up a bank-wide project led by a new executive steering committee to implement a three-phase transition plan. (The bank will adopt IFRS effective Nov. 1, 2011, the start of its fiscal year. So its first quarter reporting under the new rules will be the first quarter that ends Jan. 31, 2012).
The bank says the “implementation activities” have been organized into 25 individual work streams based on key areas that the new rules could affect, such as leases and stock-based compensation. (The rules will require companies to account for leases in a way that more closely resembles the way they account for mortgages, a change that could have a big impact on retail chains and other businesses with substantial leases). BMO has nearly finished seven work streams, and so far it hasn’t found any major differences to the way it’s already accounting for these items.
But “based on our analysis to date, the main accounting changes due to adopting IFRS are expected to be in the areas of asset securitization, consolidation, and pension and other employee future benefits,” the bank said. In those areas, the changes to the bank’s accounting regime are expected to be significant enough that they could change the bank’s financial results and capital ratios, it warned. (When it says “consolidation,” it’s referring to the potential need to include results from variable interest entities with its own statements).
It noted that the banking regulator is giving banks some leeway on their asset-to-capital multiple by allowing them to keep mortgages that were sold through CMHC programs (such as the Canada Mortgage Bonds program) before March 31, 2010 off their balance sheets as they adopt the changes. The regulator is also giving them some other relief, allowing them to phase in certain changes to their retained earnings over five quarters.
Interestingly, bankers say that corporate loan departments have also been helping clients determine the impact that IFRS will have on their financial statements. That’s because the new rules could potentially impact debt to equity ratios, triggering loan covenants.
Sunday, May 23, 2010
The IFRS is Coming - Is Your Supply Chain Ready?
That's right, the International Financial Reporting Standards (IFRS) could be replacing the Generally Accepted Accounting Principles (GAAP) at your US headquarters in as little as four years with the current proposals on the table. And since you have to maintain double books for a year (in GAAP and IFRS) before you switch over, to make sure you have a good handle on the new rules, that means your new IFRS-friendly systems have to be in place in less than three years. Which means your people have to be trained in less than two years ... especially since major exams, like the CPA, will start testing on IFRS material in 2012. (And when you consider that the EU has been using IFRS for five years now, and that over 120 countries have already adopted it, it's about time that North America caught up. Canada catches up next year, and Mexico follows suit in 2012.)
The IFRS has a number of changes in store for supply chain management, including these four outlined in this recent ISM article on the accounting changes ahead:
* Last In, First Out
IFRS does not permit inventory to be valued using LIFO. This can have significant tax consequences.
* Inventory Valuation
Under IFRS, the inventory valuation you use must reflect current market price.
* Long-Term Contracts
Under IFRS, when you take possession of inventory, you take responsibility for it and it must be reported on financial statements.
* Management Responsibility
The responsibility of management with respect to data collection and reporting is much greater under IFRS.
The complete overhaul of systems that will be required at many companies could make SOX look like a walk in the park. If you haven't yet figured out how it's going to affect your organization, better find an expert sooner rather than later.
The IFRS has a number of changes in store for supply chain management, including these four outlined in this recent ISM article on the accounting changes ahead:
* Last In, First Out
IFRS does not permit inventory to be valued using LIFO. This can have significant tax consequences.
* Inventory Valuation
Under IFRS, the inventory valuation you use must reflect current market price.
* Long-Term Contracts
Under IFRS, when you take possession of inventory, you take responsibility for it and it must be reported on financial statements.
* Management Responsibility
The responsibility of management with respect to data collection and reporting is much greater under IFRS.
The complete overhaul of systems that will be required at many companies could make SOX look like a walk in the park. If you haven't yet figured out how it's going to affect your organization, better find an expert sooner rather than later.
Corporates struggle to adopt the new IFRS accounting system
Corporates in India are facing a Darwinian challenge. “It is not the strongest of the species that survives nor the most intelligent, but the most responsive to change,” said Charles Darwin. In what could be termed as the biggest change in Indian accounting history, the country will adopt the International Financial Reporting Standards (IFRS) in three phases (see box). All financial statements will have to be prepared as per IFRS norms, as the existing Indian Accounting Standards are phased out.
The Institute of Chartered Accountants of India (ICAI) is the nodal agency for IFRS adoption. “In India we are not ‘adopting’ IFRS,” said Amarjit Chopra, president, ICAI. “We are in the process of finalising accounting standards in convergence with IFRS and they are expected to be ready by June 2010.” The IFRS-converged system will be called the new Indian Accounting Standards.
IFRS is a globally recognised accounting procedure prepared by the International Accounting Standard Board and is followed in 115 countries, including the neighbouring Pakistan. India, South Korea, Canada and Japan will start using IFRS by April 2011. Experts said it would help avoid confusion over different treatment of accounts in different countries. It becomes important for India because several Indian companies are multinational. Already, a dozen companies are reporting under IFRS.
Indian firms took IFRS seriously only after the Prime Minister committed to it at a G20 meeting last year. But adopting a new accounting standard is not easy and throws a huge challenge at accounting professionals.
IFRS and Indian Accounting Standards differ on several points. “IFRS is a principle-based system,” said Sunder V. Iyer, partner, PricewaterhouseCoopers. “And Indian Accounting Standards is a rule-based system.” The IFRS system emphasises on the fair value system. For example, if a building was bought last year, the Indian practice was to show the buying price as its current value. But IFRS works with the current market value of the building.
The direct tax code, which may also come into practice in 2011, will have a great bearing on IFRS. “IFRS concentrates on balance sheet, while here in India we concentrate on profit and loss account,” said Aseem Chawla, partner, Amarchand & Mangaldas & Suresh A. Shroff & Co. “Profit and loss account helps in determining the income to be taxed.”
Chawla is right. If accounts are prepared in a manner which does not help ascertain taxable income, the job will be tougher for the taxmen and the companies, too. Experts say the Cen-tre needs to take note of IFRS while framing the direct tax code and the new goods and services tax norms.
Already, real estate companies have asked for more time. Under the present system, once a customer books a flat, realtors show it under revenue. Under IFRS, revenue is recognised only when ownership is transferred to the customer. “This will result in less revenue in some quarters,” said S. Baaskaran, CFO, Shobha Developers.
However, developers will be required to pay a tax on flats under construction, if an agreement of sale is signed. The value of the flat will be calculated based on the percentage of work completed, and tax will be charged accordingly. Santosh Rungta, president, Confederation of Real Estate Developers Association of India (CREDAI), said: “It is strange that developers will be paying tax on a property which is not yet complete and revenue will come in the books only when the ownership is transferred.” But ICAI is determined not to leave out any sector. Said Chopra: “Is it not fair to recognise revenue only when the property is sold?”
There are also internal issues which require attention. Companies will have to change their information technology set-up. Naturally, IT companies see another big opportunity. Companies like SAP and Oracle, which are already serving clients in the other parts of the world, will have an edge over Indian IT companies.
“For Indian companies to develop an effective system within less than two years, one of the best options would be to introduce a solution that has been fully validated overseas,” said Surya Bhardwaj, vice president (applications), Oracle India.
However, the biggest challenge, according to Chawla, will be human resource. “Right from accounting staff, to top level guys and even investors, all need to be trained on IFRS,” he said. But Chopra does not find it a big challenge. “We had started training people two years ago and there are around 1,800 accountants ready for IFRS adoption,” he said.
Accounting firms are also gearing up to cash in on the opportunity. KPMG has hired around 100 professionals in the last 18 months to serve IFRS needs. The firm has also started an online institute where about 3,000 members are getting training material on IFRS. PricewaterhouseCoopers is serving 150 to 200 companies, including six PSUs.
Indeed, all this involves shelling out money. “There will be an overall increase by 20 to 30 per cent in the expenses of every company,” said Iyer. Others said it will vary from client to client. “It depends on the present system of the company and the amount of change required to be done,” said N. Venkatram, IFRS country leader, Deloitte Haskins & Sells India.
Said Bhardwaj: “The IT cost will not be too much for existing customers. However, if a company wants to get a complete new system, the cost will be a little higher.” Khatri expects the cost to be Rs 1 crore to Rs 2 crore for large organisations which do not have exposure to other countries.
How prepared are the companies? According to a survey by Ernst and Young, 79 per cent of the companies figuring in the first phase are ready. The experts at ICAI believe that others will start working seriously once they close their current year books of accounts. Since PSUs form a major chunk in the first lot, most of them have started working on IFRS.
The ministry of corporate affairs has formed a core committee of all stake-holders to discuss the after-effects. The Central Board of Direct Taxes, the ICAI, IRDA and other agencies are part of that committee. Chopra agrees that there will be some hiccups initially. “As a nodal agency, we will not fail in our duty,” he said. Now it is up to the Centre to handle the hue and cry and last moment rush.
The Institute of Chartered Accountants of India (ICAI) is the nodal agency for IFRS adoption. “In India we are not ‘adopting’ IFRS,” said Amarjit Chopra, president, ICAI. “We are in the process of finalising accounting standards in convergence with IFRS and they are expected to be ready by June 2010.” The IFRS-converged system will be called the new Indian Accounting Standards.
IFRS is a globally recognised accounting procedure prepared by the International Accounting Standard Board and is followed in 115 countries, including the neighbouring Pakistan. India, South Korea, Canada and Japan will start using IFRS by April 2011. Experts said it would help avoid confusion over different treatment of accounts in different countries. It becomes important for India because several Indian companies are multinational. Already, a dozen companies are reporting under IFRS.
Indian firms took IFRS seriously only after the Prime Minister committed to it at a G20 meeting last year. But adopting a new accounting standard is not easy and throws a huge challenge at accounting professionals.
IFRS and Indian Accounting Standards differ on several points. “IFRS is a principle-based system,” said Sunder V. Iyer, partner, PricewaterhouseCoopers. “And Indian Accounting Standards is a rule-based system.” The IFRS system emphasises on the fair value system. For example, if a building was bought last year, the Indian practice was to show the buying price as its current value. But IFRS works with the current market value of the building.
The direct tax code, which may also come into practice in 2011, will have a great bearing on IFRS. “IFRS concentrates on balance sheet, while here in India we concentrate on profit and loss account,” said Aseem Chawla, partner, Amarchand & Mangaldas & Suresh A. Shroff & Co. “Profit and loss account helps in determining the income to be taxed.”
Chawla is right. If accounts are prepared in a manner which does not help ascertain taxable income, the job will be tougher for the taxmen and the companies, too. Experts say the Cen-tre needs to take note of IFRS while framing the direct tax code and the new goods and services tax norms.
Already, real estate companies have asked for more time. Under the present system, once a customer books a flat, realtors show it under revenue. Under IFRS, revenue is recognised only when ownership is transferred to the customer. “This will result in less revenue in some quarters,” said S. Baaskaran, CFO, Shobha Developers.
However, developers will be required to pay a tax on flats under construction, if an agreement of sale is signed. The value of the flat will be calculated based on the percentage of work completed, and tax will be charged accordingly. Santosh Rungta, president, Confederation of Real Estate Developers Association of India (CREDAI), said: “It is strange that developers will be paying tax on a property which is not yet complete and revenue will come in the books only when the ownership is transferred.” But ICAI is determined not to leave out any sector. Said Chopra: “Is it not fair to recognise revenue only when the property is sold?”
There are also internal issues which require attention. Companies will have to change their information technology set-up. Naturally, IT companies see another big opportunity. Companies like SAP and Oracle, which are already serving clients in the other parts of the world, will have an edge over Indian IT companies.
“For Indian companies to develop an effective system within less than two years, one of the best options would be to introduce a solution that has been fully validated overseas,” said Surya Bhardwaj, vice president (applications), Oracle India.
However, the biggest challenge, according to Chawla, will be human resource. “Right from accounting staff, to top level guys and even investors, all need to be trained on IFRS,” he said. But Chopra does not find it a big challenge. “We had started training people two years ago and there are around 1,800 accountants ready for IFRS adoption,” he said.
Accounting firms are also gearing up to cash in on the opportunity. KPMG has hired around 100 professionals in the last 18 months to serve IFRS needs. The firm has also started an online institute where about 3,000 members are getting training material on IFRS. PricewaterhouseCoopers is serving 150 to 200 companies, including six PSUs.
Indeed, all this involves shelling out money. “There will be an overall increase by 20 to 30 per cent in the expenses of every company,” said Iyer. Others said it will vary from client to client. “It depends on the present system of the company and the amount of change required to be done,” said N. Venkatram, IFRS country leader, Deloitte Haskins & Sells India.
Said Bhardwaj: “The IT cost will not be too much for existing customers. However, if a company wants to get a complete new system, the cost will be a little higher.” Khatri expects the cost to be Rs 1 crore to Rs 2 crore for large organisations which do not have exposure to other countries.
How prepared are the companies? According to a survey by Ernst and Young, 79 per cent of the companies figuring in the first phase are ready. The experts at ICAI believe that others will start working seriously once they close their current year books of accounts. Since PSUs form a major chunk in the first lot, most of them have started working on IFRS.
The ministry of corporate affairs has formed a core committee of all stake-holders to discuss the after-effects. The Central Board of Direct Taxes, the ICAI, IRDA and other agencies are part of that committee. Chopra agrees that there will be some hiccups initially. “As a nodal agency, we will not fail in our duty,” he said. Now it is up to the Centre to handle the hue and cry and last moment rush.
IFRS Practice Issues: Replacement of a share-based payment in a business combination
This issue of IFRS Practice Issues considers the requirements of IFRS 3 in respect of share-based payment awards that are replaced in a business combination.
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How can IFRS impact P&L topline?
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Top-line being a vital indicator of a company's performance, assessing how it can change in the IFRS regime is business critical. It is thus imperative that executives from across the organisation are drawn into the transition process.
...........................................................................
As we approach the proposed date of transition to International Financial Reporting Standards (IFRS) in India, it becomes critical to assess the impact IFRS may have on a company's key financial parameters. One such parameter is a company's revenue popularly termed ‘top-line'. IFRS may confront a company with complex issues relating to measurement and/or timing of revenue recognition. In this article, we discuss a few such potential issues.
Multiple-Element Contracts: Many companies provide multiple products and/or services to their customers as part of a single arrangement. For example, software vendors often provide upgrades, training, installation or consulting in combination with a software licence, just as telecom companies sell handsets along with a subscription, and so on.
IFRS requires separate recognition of revenue for separately identifiable components of a single transaction to reflect the substance of the transaction. If an element has commercial substance on its own, its revenue should be recognised separately from other elements. Therefore, recognition of revenue for undelivered items of the contract has to be deferred till they are delivered.
Deferred consideration: IFRS requires revenue to be measured at the fair value of the consideration. Where realisation of the consideration is deferred beyond normal credit period, discounting to a present value is required; as such, an arrangement effectively includes a financing transaction.
This discounting of future receivables is done using an imputed interest rate, which is the more clearly determinable of the prevailing rate for a similar instrument by an issuer with a similar credit rating as that of the buyer or a rate of interest that discounts the nominal undiscounted amount to the current cash sales price. Such deferrals of consideration may be found in related party revenue arrangements within a group.
Embedded Derivatives: Many long-term revenue contracts have features such as price escalation clauses, foreign currency arrangements or other components that are sensitive to separate accounting under the principles for embedded derivatives in IAS 39. An embedded derivative is a component of a combined instrument that also includes a non-derivative host contract — with the effect that some of the cash-flows of the combined instrument vary in a way similar to a standalone derivative instrument.
For example, an Indian company enters into a US dollar-denominated construction contract with another Indian company (say, as part of a global competitive bidding process). In this case, the embedded foreign currency derivative may have to be separately accounted for, in turn, with an impact on the percentage of completion based contract revenue.
Joint Ventures: At present, IFRS allows use of proportionate consolidation for consolidating the financial results and position of joint ventures. In this method, revenues of a joint venture are proportionately included in the consolidated revenues.
There is an exposure draft issued under IFRS, which, inter alia, proposes to prohibit the use of proportionate consolidation method and mandates equity accounting method. Under this method, share of net results of the joint venture are accounted for instead of combining each P&L line item. Therefore, consolidated revenues would be excluding joint ventures' revenue, although consolidated profits would be inclusive of joint ventures' net results. This draft may be issued as a final standard before Indian companies go live on IFRS.
Apart from the ones mentioned above, there can be several other transition issues depending on the company's industry sector, the group structure, distribution channel structure, etc. Since top-line is a vital indicator of a company's performance, assessing the change it may undergo in the IFRS regime will be business critical. This will require careful understanding and assessment of revenue arrangements, improvement of business processes and enhancement of information systems.
It is, therefore, imperative that, apart from the accounting staff, executives from across the organisation are drawn into IFRS transition. Since, this process may take significant effort and time; it is imperative to start early.
Top-line being a vital indicator of a company's performance, assessing how it can change in the IFRS regime is business critical. It is thus imperative that executives from across the organisation are drawn into the transition process.
...........................................................................
As we approach the proposed date of transition to International Financial Reporting Standards (IFRS) in India, it becomes critical to assess the impact IFRS may have on a company's key financial parameters. One such parameter is a company's revenue popularly termed ‘top-line'. IFRS may confront a company with complex issues relating to measurement and/or timing of revenue recognition. In this article, we discuss a few such potential issues.
Multiple-Element Contracts: Many companies provide multiple products and/or services to their customers as part of a single arrangement. For example, software vendors often provide upgrades, training, installation or consulting in combination with a software licence, just as telecom companies sell handsets along with a subscription, and so on.
IFRS requires separate recognition of revenue for separately identifiable components of a single transaction to reflect the substance of the transaction. If an element has commercial substance on its own, its revenue should be recognised separately from other elements. Therefore, recognition of revenue for undelivered items of the contract has to be deferred till they are delivered.
Deferred consideration: IFRS requires revenue to be measured at the fair value of the consideration. Where realisation of the consideration is deferred beyond normal credit period, discounting to a present value is required; as such, an arrangement effectively includes a financing transaction.
This discounting of future receivables is done using an imputed interest rate, which is the more clearly determinable of the prevailing rate for a similar instrument by an issuer with a similar credit rating as that of the buyer or a rate of interest that discounts the nominal undiscounted amount to the current cash sales price. Such deferrals of consideration may be found in related party revenue arrangements within a group.
Embedded Derivatives: Many long-term revenue contracts have features such as price escalation clauses, foreign currency arrangements or other components that are sensitive to separate accounting under the principles for embedded derivatives in IAS 39. An embedded derivative is a component of a combined instrument that also includes a non-derivative host contract — with the effect that some of the cash-flows of the combined instrument vary in a way similar to a standalone derivative instrument.
For example, an Indian company enters into a US dollar-denominated construction contract with another Indian company (say, as part of a global competitive bidding process). In this case, the embedded foreign currency derivative may have to be separately accounted for, in turn, with an impact on the percentage of completion based contract revenue.
Joint Ventures: At present, IFRS allows use of proportionate consolidation for consolidating the financial results and position of joint ventures. In this method, revenues of a joint venture are proportionately included in the consolidated revenues.
There is an exposure draft issued under IFRS, which, inter alia, proposes to prohibit the use of proportionate consolidation method and mandates equity accounting method. Under this method, share of net results of the joint venture are accounted for instead of combining each P&L line item. Therefore, consolidated revenues would be excluding joint ventures' revenue, although consolidated profits would be inclusive of joint ventures' net results. This draft may be issued as a final standard before Indian companies go live on IFRS.
Apart from the ones mentioned above, there can be several other transition issues depending on the company's industry sector, the group structure, distribution channel structure, etc. Since top-line is a vital indicator of a company's performance, assessing the change it may undergo in the IFRS regime will be business critical. This will require careful understanding and assessment of revenue arrangements, improvement of business processes and enhancement of information systems.
It is, therefore, imperative that, apart from the accounting staff, executives from across the organisation are drawn into IFRS transition. Since, this process may take significant effort and time; it is imperative to start early.
Finance Execs Fret over Accounting Standards Overload
As the Financial Accounting Standards Board and the International Accounting Standards Board accelerate their convergence efforts, some financial executives are worried that it might be way too much to absorb.
Financial Executives International sent a letter earlier this month to FASB Chairman Robert Herz and IASB Chairman Sir David Tweedie, expressing “significant concern” over the “unprecedented volume as well as the complexity of proposed standards expected to be issued in the coming months.”
Arnold Hanish, chairman of FEI’s Committee on Corporate Reporting, wrote the letter indicating dismay over the number of exposure drafts that are due to be released by the two boards in the near future about proposed changes in accounting standards. “Our member companies are extremely concerned with the 10+ exposure drafts (EDs) that are in final stages and will be released for public comment through the third quarter of 2010,” he wrote. “During any single period in time in its 38-year history, the FASB has had no more than 3 or 4 significant EDs out for public comment. Moreover, it would be reasonable to characterize a majority of the historical exposure documents as evolutionary proposals rather than the more fundamental changes in accounting and reporting paradigms as are proposed in the forthcoming EDs.”
He is worried about not having enough time to comment on the proposals as well as to absorb them, especially with some of them intricately interconnected. “Collectively, we do not believe we have sufficient technical resources in industry to respond effectively to such a large quantity of complex proposals issued over a very short period of time,” wrote Hanish. “Even if it were not so, it is not clear to us that the FASB and IASB have the requisite resources to absorb and resolve all of the issues that would be posed by all of these proposed standards in such a compressed time period.”
Nevertheless, FASB and the IASB are under considerable pressure to iron out the differences in U.S. GAAP and International Financial Reporting Standards, as well as respond to more recently unearthed problems with accounting standards. The repurchase agreements highlighted in the recent report by bankruptcy examiner Anton Valukas on Lehman Brothers’ dubious accounting strategies have prompted concern, and calls for action.
SEC Chief Accountant James Kroeker testified Friday before the House Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises about how the SEC is dealing with all the changes in financial reporting standards. “It is important for the FASB to continue to work closely with the IASB to raise the quality of financial reporting standards in the United States and around the world,” he said. “Efforts are already underway involving monthly joint meetings of the boards and quarterly progress reports on convergence efforts.”
Kroeker’s office has been developing a work plan for how to go about incorporating IFRS into the U.S. financial reporting system, addressing areas of concern such as enforceability and auditability of the standards, as well as comparability of IFRS reporting across jurisdictions.
The SEC has also written to 19 large public companies about their use of repurchase agreements such as the Repo 105 transactions that Lehman abused.
“Based on the requests, no information has come to our attention that would lead the staff to conclude that inappropriate practices were widespread,” said Kroeker. “Nevertheless, following our evaluation of these responses, the Division [of Corporate Finance] asked several companies to enhance their disclosure about their accounting for repurchase and similar transactions and to expand their discussions of off-balance sheet arrangements in their quarterly reports for March 31, 2010. A number of the companies have already filed the reports with the enhanced disclosure.”
The SEC is going to keep a lookout for such transactions, Kroeker warned. “We will continue to review companies’ accounting and reporting practices to determine if companies are complying with existing requirements and to determine whether changes to those requirements are warranted,” he said.
Financial Executives International sent a letter earlier this month to FASB Chairman Robert Herz and IASB Chairman Sir David Tweedie, expressing “significant concern” over the “unprecedented volume as well as the complexity of proposed standards expected to be issued in the coming months.”
Arnold Hanish, chairman of FEI’s Committee on Corporate Reporting, wrote the letter indicating dismay over the number of exposure drafts that are due to be released by the two boards in the near future about proposed changes in accounting standards. “Our member companies are extremely concerned with the 10+ exposure drafts (EDs) that are in final stages and will be released for public comment through the third quarter of 2010,” he wrote. “During any single period in time in its 38-year history, the FASB has had no more than 3 or 4 significant EDs out for public comment. Moreover, it would be reasonable to characterize a majority of the historical exposure documents as evolutionary proposals rather than the more fundamental changes in accounting and reporting paradigms as are proposed in the forthcoming EDs.”
He is worried about not having enough time to comment on the proposals as well as to absorb them, especially with some of them intricately interconnected. “Collectively, we do not believe we have sufficient technical resources in industry to respond effectively to such a large quantity of complex proposals issued over a very short period of time,” wrote Hanish. “Even if it were not so, it is not clear to us that the FASB and IASB have the requisite resources to absorb and resolve all of the issues that would be posed by all of these proposed standards in such a compressed time period.”
Nevertheless, FASB and the IASB are under considerable pressure to iron out the differences in U.S. GAAP and International Financial Reporting Standards, as well as respond to more recently unearthed problems with accounting standards. The repurchase agreements highlighted in the recent report by bankruptcy examiner Anton Valukas on Lehman Brothers’ dubious accounting strategies have prompted concern, and calls for action.
SEC Chief Accountant James Kroeker testified Friday before the House Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises about how the SEC is dealing with all the changes in financial reporting standards. “It is important for the FASB to continue to work closely with the IASB to raise the quality of financial reporting standards in the United States and around the world,” he said. “Efforts are already underway involving monthly joint meetings of the boards and quarterly progress reports on convergence efforts.”
Kroeker’s office has been developing a work plan for how to go about incorporating IFRS into the U.S. financial reporting system, addressing areas of concern such as enforceability and auditability of the standards, as well as comparability of IFRS reporting across jurisdictions.
The SEC has also written to 19 large public companies about their use of repurchase agreements such as the Repo 105 transactions that Lehman abused.
“Based on the requests, no information has come to our attention that would lead the staff to conclude that inappropriate practices were widespread,” said Kroeker. “Nevertheless, following our evaluation of these responses, the Division [of Corporate Finance] asked several companies to enhance their disclosure about their accounting for repurchase and similar transactions and to expand their discussions of off-balance sheet arrangements in their quarterly reports for March 31, 2010. A number of the companies have already filed the reports with the enhanced disclosure.”
The SEC is going to keep a lookout for such transactions, Kroeker warned. “We will continue to review companies’ accounting and reporting practices to determine if companies are complying with existing requirements and to determine whether changes to those requirements are warranted,” he said.
Thursday, May 6, 2010
Accounting News Roundup: Will an International Audit Regulator Become a Reality?; GMAC Shopping for a CFO Candidate; FASB Sued for Antitrust Violations
Audit chief welcomes debate on international regulator [Accountancy Age]
The idea of an international audit regulator is being kicked around in the EU with about as much seriousness as returning to the moon. That is, it’s absolutely something to be discussed but at this point nobody’s firing up the boosters just yet. IFRS has been proved to be, putting it lightly, a challenge but ever since the Lehman Brothers/E&Y fiasco, reform of the auditing business doesn’t seem far behind.
And while the idea is being entertained, the hurdles to an international regulator sound a little familiar:
Ian Powell, senior partner at PwC UK, said the establishment of an international regulator is “worthy of debate” but believes global consensus among nations may prove difficult.
“Most countries think their regulation is good and it is their system which should be applied – that is going to make it difficult to convince them to give up their system,” he said.
“If you talk to virtually any regulator in any country they do want to see more globalisation of regulation, but the big problem is there are certain political issues that are different in different countries.”
GMAC Said to Consider Ex-Citigroup Banker Yastine as Next CFO [Bloomberg Businessweek]
GMAC is hot on the trail for a new CFO after their last one bolted in March shortly after his TARP testimony. The ward of the state is said to be considering Barbara Yastine, who formerly was the CFO at both Credit Suisse’s and Citigroup’s investment banking groups.
FASB Defendant in Suit Alleging Antitrust Violations and Patent Misappropriation [Silicon Economics, Inc. Press Release]
Silicon Economics, Inc. is suing the FASB, alleging “antitrust violations and with willfully attempting to misappropriate patented technology,” according to the San Jose-based company’s press release.
The lawsuit concerns Silicon Economics’ EarningsPower Accounting™ (EPA™) – a patented method developed by the company to improve the accuracy, validity, and usefulness of financial statements. Silicon Economics recommended the merits of EPA to FASB in response to FASB’s request for public comment on the objectives of financial accounting (No. 1260-001, July 6, 2006). FASB claims that its website terms and conditions gave it ownership of Silicon Economics’ technology, even though such terms were not part of FASB’s invitation for public comment or otherwise disclosed to Silicon Economics.
The idea of an international audit regulator is being kicked around in the EU with about as much seriousness as returning to the moon. That is, it’s absolutely something to be discussed but at this point nobody’s firing up the boosters just yet. IFRS has been proved to be, putting it lightly, a challenge but ever since the Lehman Brothers/E&Y fiasco, reform of the auditing business doesn’t seem far behind.
And while the idea is being entertained, the hurdles to an international regulator sound a little familiar:
Ian Powell, senior partner at PwC UK, said the establishment of an international regulator is “worthy of debate” but believes global consensus among nations may prove difficult.
“Most countries think their regulation is good and it is their system which should be applied – that is going to make it difficult to convince them to give up their system,” he said.
“If you talk to virtually any regulator in any country they do want to see more globalisation of regulation, but the big problem is there are certain political issues that are different in different countries.”
GMAC Said to Consider Ex-Citigroup Banker Yastine as Next CFO [Bloomberg Businessweek]
GMAC is hot on the trail for a new CFO after their last one bolted in March shortly after his TARP testimony. The ward of the state is said to be considering Barbara Yastine, who formerly was the CFO at both Credit Suisse’s and Citigroup’s investment banking groups.
FASB Defendant in Suit Alleging Antitrust Violations and Patent Misappropriation [Silicon Economics, Inc. Press Release]
Silicon Economics, Inc. is suing the FASB, alleging “antitrust violations and with willfully attempting to misappropriate patented technology,” according to the San Jose-based company’s press release.
The lawsuit concerns Silicon Economics’ EarningsPower Accounting™ (EPA™) – a patented method developed by the company to improve the accuracy, validity, and usefulness of financial statements. Silicon Economics recommended the merits of EPA to FASB in response to FASB’s request for public comment on the objectives of financial accounting (No. 1260-001, July 6, 2006). FASB claims that its website terms and conditions gave it ownership of Silicon Economics’ technology, even though such terms were not part of FASB’s invitation for public comment or otherwise disclosed to Silicon Economics.
Test Your Knowledge of International Standards
More than 100 countries around the world, including all major U.S. trading partners, now use or have committed to adopting IFRS. Nearly as many use international auditing and assurance standards and international ethics standards developed by independent standard-setting boards under the International Federation of Accountants. To ensure that CPAs have a basic competence in these standards, the AICPA Board of Examiners has decided to test them in three of the four sections of the exam beginning in 2011.
Although the board does not disclose specific weightings at the topic level, it has made clear that it expects exam takers to exhibit adequate competence in international standards in much the same way that they should exhibit competence in U.S. GAAP and GAAS.
The board’s decision to include international standards is not contingent on action by the SEC to require or allow U.S. public companies to report under IFRS, according to senior AICPA exam staff. Rather, it reflects the reality of the interconnectedness of world economies and its impact on organizations operating in the U.S.
Below are sample IFRS questions disclosed by the board in February.
1. Under IFRS, changes in accounting policies are
A. Permitted if the change will result in a more reliable and more relevant presentation of the financial statements.
B. Permitted if the entity encounters new transactions, events, or conditions that are substantively different from existing or previous transactions.
C. Required on material transactions, if the entity had previously accounted for similar, though immaterial, transactions under an unacceptable accounting method.
D. Required if an alternate accounting policy gives rise to a material change in assets, liabilities, or the current-year net income.
2. Under IFRS, an entity that acquires an intangible asset may use the revaluation model for subsequent measurement only if
A. The useful life of the intangible asset can be reliably determined.
B. An active market exists for the intangible asset.
C. The cost of the intangible asset can be measured reliably.
D. The intangible asset is a monetary asset.
3. Under IFRS, which of the following is a criterion that must be met in order for an item to be recognized as an intangible asset other than goodwill?
A. The item’s fair value can be measured reliably.
B. The item is part of the entity’s activities aimed at gaining new scientific or technical knowledge.
C. The item is expected to be used in the production or supply of goods or services.
D. The item is identifiable and lacks physical substance.
4. An entity purchases a trademark and incurs the following costs in connection with the trademark:
One-time trademark purchase price
$100,000
One-time trademark purchase price
5,000
Nonrefundable VAT taxes
7,000
Training sales personnel on the use of the new trademark
24,000
Research expenditures associated with the purchase of the new trademark
10,500
Salaries of the administrative personnel
12,000
Applying IFRS and assuming that the trademark meets all of the applicable initial asset recognition criteria, the entity should recognize an asset in the amount of
A. $100,000
B. $115,500
C. $146,500
D. $158,500
5. Under IFRS, when an entity chooses the revaluation model as its accounting policy for measuring property, plant and equipment, which of the following statements is correct?
A. When an asset is revalued, the entire class of property, plant and equipment to which that asset belongs must be revalued.
B. When an asset is revalued, individual assets within a class of property, plant and equipment to which that asset belongs can be revalued.
C. Revaluations of property, plant and equipment must be made at least every three years.
D. Increases in an asset’s carrying value as a result of the first revaluation must be recognized as a component of profit or loss.
6. Upon first-time adoption of IFRS, an entity may elect to use fair value as deemed cost for
A. Biological assets related to agricultural activity for which there is no active market.
B. Intangible assets for which there is no active market.
C. Any individual item of property, plant and equipment.
D. Financial liabilities that are not held for trading.
7. Under IFRS, which of the following is the first step within the hierarchy of guidance to which management refers, and whose applicability it considers, when selecting accounting policies?
A. Consider the most recent pronouncements of other standard- setting bodies to the extent they do not conflict with the IFRS or the IASB Framework.
B. Apply a standard from IFRS if it specifically relates to the transaction, other event, or condition.
C. Consider the applicability of the definitions, recognition criteria, and measurement concepts in the IASB Framework.
D. Apply the requirements in IFRS dealing with similar and related issues.
8. On January 1, year 1, an entity acquires for $100,000 a new piece of machinery with an estimated useful life of 10 years. The machine has a drum that must be replaced every five years and costs $20,000 to replace. Continued operation of the machine requires an inspection every four years after purchase; the inspection cost is $8,000. The company uses the straight-line method of depreciation. Under IFRS, what is the depreciation expense for year 1?
A. $10,000
B. $10,800
C. $12,000
D. $13,200
9. On July 1, year 2, a company decided to adopt IFRS. The company’s first IFRS reporting period is as of and for the year ended December 31, year 2. The company will present one year of comparative information. What is the company’s date of transition to IFRS?
A. January 1, year 1.
B. January 1, year 2.
C. July 1, year 2.
D. December 31, year 2.
10. A company determined the following values for its inventory as of the end of its fiscal year:
Historical cost
$100,000
Current replacement cost
70,000
Net realizable value
90,000
Net realizable value less a normal profit margin
85,000
Fair value
95,000
Under IFRS, what amount should the company report as inventory on its balance sheet?
A. $70,000
B. $85,000
C. $90,000
D. $95,000
Although the board does not disclose specific weightings at the topic level, it has made clear that it expects exam takers to exhibit adequate competence in international standards in much the same way that they should exhibit competence in U.S. GAAP and GAAS.
The board’s decision to include international standards is not contingent on action by the SEC to require or allow U.S. public companies to report under IFRS, according to senior AICPA exam staff. Rather, it reflects the reality of the interconnectedness of world economies and its impact on organizations operating in the U.S.
Below are sample IFRS questions disclosed by the board in February.
1. Under IFRS, changes in accounting policies are
A. Permitted if the change will result in a more reliable and more relevant presentation of the financial statements.
B. Permitted if the entity encounters new transactions, events, or conditions that are substantively different from existing or previous transactions.
C. Required on material transactions, if the entity had previously accounted for similar, though immaterial, transactions under an unacceptable accounting method.
D. Required if an alternate accounting policy gives rise to a material change in assets, liabilities, or the current-year net income.
2. Under IFRS, an entity that acquires an intangible asset may use the revaluation model for subsequent measurement only if
A. The useful life of the intangible asset can be reliably determined.
B. An active market exists for the intangible asset.
C. The cost of the intangible asset can be measured reliably.
D. The intangible asset is a monetary asset.
3. Under IFRS, which of the following is a criterion that must be met in order for an item to be recognized as an intangible asset other than goodwill?
A. The item’s fair value can be measured reliably.
B. The item is part of the entity’s activities aimed at gaining new scientific or technical knowledge.
C. The item is expected to be used in the production or supply of goods or services.
D. The item is identifiable and lacks physical substance.
4. An entity purchases a trademark and incurs the following costs in connection with the trademark:
One-time trademark purchase price
$100,000
One-time trademark purchase price
5,000
Nonrefundable VAT taxes
7,000
Training sales personnel on the use of the new trademark
24,000
Research expenditures associated with the purchase of the new trademark
10,500
Salaries of the administrative personnel
12,000
Applying IFRS and assuming that the trademark meets all of the applicable initial asset recognition criteria, the entity should recognize an asset in the amount of
A. $100,000
B. $115,500
C. $146,500
D. $158,500
5. Under IFRS, when an entity chooses the revaluation model as its accounting policy for measuring property, plant and equipment, which of the following statements is correct?
A. When an asset is revalued, the entire class of property, plant and equipment to which that asset belongs must be revalued.
B. When an asset is revalued, individual assets within a class of property, plant and equipment to which that asset belongs can be revalued.
C. Revaluations of property, plant and equipment must be made at least every three years.
D. Increases in an asset’s carrying value as a result of the first revaluation must be recognized as a component of profit or loss.
6. Upon first-time adoption of IFRS, an entity may elect to use fair value as deemed cost for
A. Biological assets related to agricultural activity for which there is no active market.
B. Intangible assets for which there is no active market.
C. Any individual item of property, plant and equipment.
D. Financial liabilities that are not held for trading.
7. Under IFRS, which of the following is the first step within the hierarchy of guidance to which management refers, and whose applicability it considers, when selecting accounting policies?
A. Consider the most recent pronouncements of other standard- setting bodies to the extent they do not conflict with the IFRS or the IASB Framework.
B. Apply a standard from IFRS if it specifically relates to the transaction, other event, or condition.
C. Consider the applicability of the definitions, recognition criteria, and measurement concepts in the IASB Framework.
D. Apply the requirements in IFRS dealing with similar and related issues.
8. On January 1, year 1, an entity acquires for $100,000 a new piece of machinery with an estimated useful life of 10 years. The machine has a drum that must be replaced every five years and costs $20,000 to replace. Continued operation of the machine requires an inspection every four years after purchase; the inspection cost is $8,000. The company uses the straight-line method of depreciation. Under IFRS, what is the depreciation expense for year 1?
A. $10,000
B. $10,800
C. $12,000
D. $13,200
9. On July 1, year 2, a company decided to adopt IFRS. The company’s first IFRS reporting period is as of and for the year ended December 31, year 2. The company will present one year of comparative information. What is the company’s date of transition to IFRS?
A. January 1, year 1.
B. January 1, year 2.
C. July 1, year 2.
D. December 31, year 2.
10. A company determined the following values for its inventory as of the end of its fiscal year:
Historical cost
$100,000
Current replacement cost
70,000
Net realizable value
90,000
Net realizable value less a normal profit margin
85,000
Fair value
95,000
Under IFRS, what amount should the company report as inventory on its balance sheet?
A. $70,000
B. $85,000
C. $90,000
D. $95,000
IFRS 1 First-time Adoption of International Financial Reporting Standards
The objective of this IFRS is to ensure that an entity’s first IFRS financial statements, and its interim financial reports for part of the period covered by those financial statements, contain high quality information that:
(a) is transparent for users and comparable over all periods presented;
(b) provides a suitable starting point for accounting under International Financial Reporting Standards (IFRSs); and
(c) can be generated at a cost that does not exceed the benefits to users.
An entity’s first IFRS financial statements are the first annual financial statements in which the entity adopts IFRSs, by an explicit and unreserved statement in those financial statements of compliance with IFRSs.
An entity shall prepare an opening IFRS statement of financial position at the date of transition to IFRSs. This is the starting point for its accounting under IFRSs. An entity need not present its opening IFRS balance sheet in its first IFRS financial statements.
In general, the IFRS requires an entity to comply with each IFRS effective at the reporting date for its first IFRS financial statements. In particular, the IFRS requires an entity to do the following in the opening IFRS balance sheet that it prepares as a starting point for its accounting under IFRSs:
(a) recognise all assets and liabilities whose recognition is required by IFRSs;
(b) not recognise items as assets or liabilities if IFRSs do not permit such recognition;
(c) reclassify items that it recognised under previous GAAP as one type of asset, liability or component of equity, but are a different type of asset, liability or component of equity under IFRSs; and
(d) apply IFRSs in measuring all recognised assets and liabilities.
The IFRS grants limited exemptions from these requirements in specified areas where the cost of complying with them would be likely to exceed the benefits to users of financial statements. The IFRS also prohibits retrospective application of IFRSs in some areas, particularly where retrospective application would require judgements by management about past conditions after the outcome of a particular transaction is already known.
The IFRS requires disclosures that explain how the transition from previous GAAP to IFRSs affected the entity’s reported financial position, financial performance and cash flows.
(a) is transparent for users and comparable over all periods presented;
(b) provides a suitable starting point for accounting under International Financial Reporting Standards (IFRSs); and
(c) can be generated at a cost that does not exceed the benefits to users.
An entity’s first IFRS financial statements are the first annual financial statements in which the entity adopts IFRSs, by an explicit and unreserved statement in those financial statements of compliance with IFRSs.
An entity shall prepare an opening IFRS statement of financial position at the date of transition to IFRSs. This is the starting point for its accounting under IFRSs. An entity need not present its opening IFRS balance sheet in its first IFRS financial statements.
In general, the IFRS requires an entity to comply with each IFRS effective at the reporting date for its first IFRS financial statements. In particular, the IFRS requires an entity to do the following in the opening IFRS balance sheet that it prepares as a starting point for its accounting under IFRSs:
(a) recognise all assets and liabilities whose recognition is required by IFRSs;
(b) not recognise items as assets or liabilities if IFRSs do not permit such recognition;
(c) reclassify items that it recognised under previous GAAP as one type of asset, liability or component of equity, but are a different type of asset, liability or component of equity under IFRSs; and
(d) apply IFRSs in measuring all recognised assets and liabilities.
The IFRS grants limited exemptions from these requirements in specified areas where the cost of complying with them would be likely to exceed the benefits to users of financial statements. The IFRS also prohibits retrospective application of IFRSs in some areas, particularly where retrospective application would require judgements by management about past conditions after the outcome of a particular transaction is already known.
The IFRS requires disclosures that explain how the transition from previous GAAP to IFRSs affected the entity’s reported financial position, financial performance and cash flows.
Depriciation and Impairment – IFRS and Indian GAAP
Link between Depreciation and Impairment under IFRS
When an item of Property, Plant and Equipment (PPE) is impaired i.e. recoverable amount < carrying amount, carrying amount is reduced to the amount of recoverable amount.
Asset should no more be carried more than their Recoverable amount.
Such a decrease in carrying amount is impairment and is booked in Profit and Loss.
After recognition of an impairment loss, the depreciation charge of the asset shall be adjusted in the future periods to allocate the asset’s revised carrying amount over its remaining useful life.
Example 1:
An entity acquires equipment for Rs.100
Economic life of equipment is 10 years but entity’s policy is to renew such equipment every 5 years i.e. useful life is 5 years
Residual value = 20
Depreciation Plan
Year Depreciation Charge Accumulated Depreciation Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (100-20)/5 = 16 16×3 = 48 100-48 = 52
4 (100-20)/5 = 16 16×4 = 64 100-64 = 36
5 (100-20)/5 = 16 16×5 = 80 100-80 = 20
Under IFRS there is need to review estimate of residual value at each financial year end where as under Indian GAAP there is no need for an annual review. Below example illustrate depreciation plan when there is change in estimate of residual value.
Suppose in example 1 residual value is estimated in year 4 = 10
Depreciation Plan
Year Depreciation Charge Accumulated Depreciation Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (100-20)/5 = 16 16×3 = 48 100-48 = 52
4 (100-48-10)/2 = 21 48+21 = 69 100-69 = 31
5 100-69-10 = 21 69+21 = 90 100-90 = 10
Under IFRS there is need to review estimate of useful life at each financial year end where as under Indian GAAP there is no need for an annual review. Below example illustrate depreciation plan when there is change in estimate of useful life.
Suppose now in example 1 the useful life is revised in year 3 as 4 years
Depreciation Plan
Year Depreciation Charge Accumulated Depreciation Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (68-20)/2 = 24 32+24 = 56 100-56 = 44
4 (44-20)/2 = 24 56+24=80 100-80 = 20
Suppose in example 1 depreciation test is performed in year 3 and estimation of recoverable amount at year end is 45
Now if you see in example 1 above the Net book value at year end 3 is 52
Thus Impairment is 52-45 = 7
Year Depreciation Charge + Impairment Accumulated Depreciation + Impairment Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (100-20)/5 = 16 16 + 7 = 23 16×3 = 48 48+7 =55 100-55 = 45
4 (45-20)/2 = 12.5 55+12.5 = 67.5 100-67.5 = 32.5
5 (45-20)/2 = 12.5 67.5+12.5 = 80 100-80 = 20
When an item of Property, Plant and Equipment (PPE) is impaired i.e. recoverable amount < carrying amount, carrying amount is reduced to the amount of recoverable amount.
Asset should no more be carried more than their Recoverable amount.
Such a decrease in carrying amount is impairment and is booked in Profit and Loss.
After recognition of an impairment loss, the depreciation charge of the asset shall be adjusted in the future periods to allocate the asset’s revised carrying amount over its remaining useful life.
Example 1:
An entity acquires equipment for Rs.100
Economic life of equipment is 10 years but entity’s policy is to renew such equipment every 5 years i.e. useful life is 5 years
Residual value = 20
Depreciation Plan
Year Depreciation Charge Accumulated Depreciation Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (100-20)/5 = 16 16×3 = 48 100-48 = 52
4 (100-20)/5 = 16 16×4 = 64 100-64 = 36
5 (100-20)/5 = 16 16×5 = 80 100-80 = 20
Under IFRS there is need to review estimate of residual value at each financial year end where as under Indian GAAP there is no need for an annual review. Below example illustrate depreciation plan when there is change in estimate of residual value.
Suppose in example 1 residual value is estimated in year 4 = 10
Depreciation Plan
Year Depreciation Charge Accumulated Depreciation Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (100-20)/5 = 16 16×3 = 48 100-48 = 52
4 (100-48-10)/2 = 21 48+21 = 69 100-69 = 31
5 100-69-10 = 21 69+21 = 90 100-90 = 10
Under IFRS there is need to review estimate of useful life at each financial year end where as under Indian GAAP there is no need for an annual review. Below example illustrate depreciation plan when there is change in estimate of useful life.
Suppose now in example 1 the useful life is revised in year 3 as 4 years
Depreciation Plan
Year Depreciation Charge Accumulated Depreciation Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (68-20)/2 = 24 32+24 = 56 100-56 = 44
4 (44-20)/2 = 24 56+24=80 100-80 = 20
Suppose in example 1 depreciation test is performed in year 3 and estimation of recoverable amount at year end is 45
Now if you see in example 1 above the Net book value at year end 3 is 52
Thus Impairment is 52-45 = 7
Year Depreciation Charge + Impairment Accumulated Depreciation + Impairment Carrying amount at year end
1 (100-20)/5 = 16 16×1 = 16 100-16 = 84
2 (100-20)/5 = 16 16×2 = 32 100-32 = 68
3 (100-20)/5 = 16 16 + 7 = 23 16×3 = 48 48+7 =55 100-55 = 45
4 (45-20)/2 = 12.5 55+12.5 = 67.5 100-67.5 = 32.5
5 (45-20)/2 = 12.5 67.5+12.5 = 80 100-80 = 20
Change in life of computer software IAS 16, IAS 8
Dear Experts,
If useful life of computer software is revised from 5 years to 2 years, this would be a change in estimate as per IAS-8 and change will be prospectively.
However, in practical example
Cost $ 50000 as on 31-12-09
Accumulated Depreciation $ 30000 as on 31-12-09
NBV 20000 as on 31-12-09
If life is revised from 1-1-10 from 5 years to 3 years then
NBV 20000 would be amortized over 2 years from 1-1-10.
but what if some softwares have already finished their original life after 3 years, what would be effect.
If useful life of computer software is revised from 5 years to 2 years, this would be a change in estimate as per IAS-8 and change will be prospectively.
However, in practical example
Cost $ 50000 as on 31-12-09
Accumulated Depreciation $ 30000 as on 31-12-09
NBV 20000 as on 31-12-09
If life is revised from 1-1-10 from 5 years to 3 years then
NBV 20000 would be amortized over 2 years from 1-1-10.
but what if some softwares have already finished their original life after 3 years, what would be effect.
Intro to GAAP & IFRS
The definition of a financial statement is “a written report which quantitatively describes the financial health of a company.” An example of a financial statement would be the income summary which shows the differences of revenues to expenses, or the balance sheet which shows the differences of assets to liabilities and wonder’s equity. According to iasplus.com, “Financial statements need to provide information about the current financial position, changes in position, and performance of an enterprise that is useful to a wide range of users in making economic decisions.
Financial statements must be understandable, relevant, reliable, comparable, and reported objectively. If an investor wished to invest some of their money into a company, they would need to look at these statements to see if a specific company was worth their while. If the statements showed profitability and were reliable and relevant, the investors might consider investing.
When reporting financial statements, there are two possible reporting them: GAAP and IFRS. GAAP stands for Generally Accepted Accounting Principles and it is the common set of policies and standards used by United States companies to report their financial statements. GAAP is extremely detailed on what is acceptable and unacceptable. After being used for approximately sixty years, all of GAAP’s rules and regulations would make a book over nine inches thick. If a company is audited and is found not be following GAAP, it could only lead to one thing: trouble. Usually, if a company doesn’t use GAAP regulations, it means that it is probably trying to hide something.
The second type of reporting standard is IFRS, which stands for International Financial Reporting Standards. IFRS is being used by over one hundred countries as their common set of policies and standards. More countries, such as Canada and India are planning to adopt IFRS as soon as 2011. Although there is still some debate, the Financial Accounting Standards Board (FASB) is planning on adopting IFRS here in the United States. A benefit of having one world wide use of financial reporting is that it makes it easier to compare the financial position of different companies in different countries. Also, it makes it easier for multi – national companies who have to report two different statements: one for GAAP and one for IFRS. IFRS also has less overall detail. It has been in use for only about ten years and all of its rules fit into a book only about two inches thick.
There are many differences between GAAP and IFRS, but only a few will be discussed. First, IFRS does not permit LIFO. LIFO stands for Last In, First Out and is a merchandise inventory method. When stocking merchandise, the old items are pushed to the back to make room for the new items of the same kind. For example, think of a group of people that are crowded into a narrow elevator with a small door. When the elevator reaches its destination, the last people to get in the elevator have to be the first people to get out of the elevator.
Next, IFRS doesn’t use historical cost. Historical cost is the original monetary value of an item. For an example, if land was originally purchased one hundred years ago for $50,000, then that land would still be on the books for $50,000. Instead, IFRS revalues items at their value or market costs and can be marked up or marked down.
Thirdly, IFRS doesn’t include extraordinary items. Extraordinary items are defined as events and transactions that are distinguished by their unusual nature and by the infrequency of their occurrence. These items receive a special placement on GAAP’s income statement while IFRS prohibits the reporting of extraordinary items. Examples of extraordinary items would be having an earthquake or a hailstorm as long as the occurrence of an earthquake or hailstorm is not common in that specific geological location.
Also, GAAP requires the reporting of comprehensive income. Comprehensive income is the net income of a company plus the gains or losses that are recognized directly in equity rather than net income. For IFRS, comprehensive income is permitted but not mandatory for reporting.
In conclusion, financial statements are a written report that quantitatively describe the health of a company. Also, GAAP and how it is very detailed unlike IFRS which has very broad rules, thus making its manual less detailed. IFRS is also growing in popularity around the world. And finally about some of the differences between GAAP and IFRS such as LIFO, historical cost, extraordinary items, and comprehensive income.
Financial statements must be understandable, relevant, reliable, comparable, and reported objectively. If an investor wished to invest some of their money into a company, they would need to look at these statements to see if a specific company was worth their while. If the statements showed profitability and were reliable and relevant, the investors might consider investing.
When reporting financial statements, there are two possible reporting them: GAAP and IFRS. GAAP stands for Generally Accepted Accounting Principles and it is the common set of policies and standards used by United States companies to report their financial statements. GAAP is extremely detailed on what is acceptable and unacceptable. After being used for approximately sixty years, all of GAAP’s rules and regulations would make a book over nine inches thick. If a company is audited and is found not be following GAAP, it could only lead to one thing: trouble. Usually, if a company doesn’t use GAAP regulations, it means that it is probably trying to hide something.
The second type of reporting standard is IFRS, which stands for International Financial Reporting Standards. IFRS is being used by over one hundred countries as their common set of policies and standards. More countries, such as Canada and India are planning to adopt IFRS as soon as 2011. Although there is still some debate, the Financial Accounting Standards Board (FASB) is planning on adopting IFRS here in the United States. A benefit of having one world wide use of financial reporting is that it makes it easier to compare the financial position of different companies in different countries. Also, it makes it easier for multi – national companies who have to report two different statements: one for GAAP and one for IFRS. IFRS also has less overall detail. It has been in use for only about ten years and all of its rules fit into a book only about two inches thick.
There are many differences between GAAP and IFRS, but only a few will be discussed. First, IFRS does not permit LIFO. LIFO stands for Last In, First Out and is a merchandise inventory method. When stocking merchandise, the old items are pushed to the back to make room for the new items of the same kind. For example, think of a group of people that are crowded into a narrow elevator with a small door. When the elevator reaches its destination, the last people to get in the elevator have to be the first people to get out of the elevator.
Next, IFRS doesn’t use historical cost. Historical cost is the original monetary value of an item. For an example, if land was originally purchased one hundred years ago for $50,000, then that land would still be on the books for $50,000. Instead, IFRS revalues items at their value or market costs and can be marked up or marked down.
Thirdly, IFRS doesn’t include extraordinary items. Extraordinary items are defined as events and transactions that are distinguished by their unusual nature and by the infrequency of their occurrence. These items receive a special placement on GAAP’s income statement while IFRS prohibits the reporting of extraordinary items. Examples of extraordinary items would be having an earthquake or a hailstorm as long as the occurrence of an earthquake or hailstorm is not common in that specific geological location.
Also, GAAP requires the reporting of comprehensive income. Comprehensive income is the net income of a company plus the gains or losses that are recognized directly in equity rather than net income. For IFRS, comprehensive income is permitted but not mandatory for reporting.
In conclusion, financial statements are a written report that quantitatively describe the health of a company. Also, GAAP and how it is very detailed unlike IFRS which has very broad rules, thus making its manual less detailed. IFRS is also growing in popularity around the world. And finally about some of the differences between GAAP and IFRS such as LIFO, historical cost, extraordinary items, and comprehensive income.
A Smoother Approach to Pension Accounting
The IASB's proposed rules for pension accounting could dampen the effect of asset gains and losses on the bottom line.
The International Accounting Standards Board's long-awaited exposure draft on IAS 19, the standard that governs pension accounting, may turn out to be good news for companies. In a reversal of the proposals that were originally floated, under the exposure draft the impact of asset gains and losses would be reflected in other comprehensive income (OCI) rather than in profits and losses, lessening their impact on a company's earnings.
"Previous proposals would have magnified the volatility. But with this change we may actually see less volatility," both compared with current IASB standards and current U.S. standards, says Jim Verlautz, senior actuary and principal for Mercer US. Verlautz participated in a webcast with IASB officials last week to discuss the draft.
Currently, U.S. companies can "smooth" the asset changes over time, dampening the impact of any given year's stock markets. Under the proposed method, "you're taking them out entirely," says Verlautz, with the expected rate of return on assets being set at the discount rate the company chooses for liabilities.
What's unclear is whether that would encourage companies to take on more or less risk in their pension investments. "One could argue that doing away with the expected return on plan assets could result in there being less incentive for companies to hold risky assets . . . as they would no longer need to do so to support a higher expected rate of return to reduce pension costs," wrote Credit Suisse First Boston analyst David Zion in a recent report on the proposal. "On the other hand, this proposed change could drive them to take more risk in their asset allocations, since gains and losses from re-measurement will never be reflected in earnings."
Among the negatives of the proposal, total pension expense as recorded in the income statement may increase, mostly depending on whether the decrease in expected return is greater than the now-forgone amortization of actuarial losses, notes Verlautz. How a plan's administrative costs are reflected in financial statements may also change, along with other items. And changes to a plan, such as an increase in benefits promised to a union, would have to be reflected immediately instead of amortized over a period such as the length of the contract.
The net-income effect could vary widely from company to company, according to Zion's analysis. Had the proposed rules been in effect for 2009, financial companies included on London's FTSE 100 would have seen 225% sliced out of their collective earnings, while energy companies would have recorded a 1% increase. Other sectors, including consumer staples, materials, and utilities, would have had modest decreases, according to Zion's modeling. (To create the adjusted figures, Zion and his team added back the reported pension cost, then subtracted service cost and an estimated net-interest cost, and then applied standard corporate tax rates.)
The same variability would hold true for U.S-based companies in the S&P 500, though the impact on any given sector would be less severe, and no greater than about a 6% loss in net income. Materials and industrials would have lost the most due to the pension rules in 2009, while energy companies could have recorded a 3.8% gain.
In the long run, though, the actual gains and losses may become more evident, Zion notes, since the Financial Accounting Standards Board and the IASB are expected to propose this month that all OCI items be shown on the face of the income statement, which would likely be renamed.
While CFOs of U.S.-based companies aren't immediately affected by the proposal, Verlautz and others expect it to ultimately become the law of the land. "I expect this draft to pass with minimal changes," says Verlautz, "and eventually, either because the U.S. adopts IFRS or because FASB decides to converge toward it, I think this will pretty much be the rule for U.S. companies as well." Indeed, "the IASB's proposal could help get the FASB's pension project moving again," Zion wrote in his report.
To that end, Verlautz is encouraging CFOs of U.S. companies to make their voices heard now. The exposure draft is open for comments until September 6. The IASB has said it intends to issue final rules by mid-2011.
The International Accounting Standards Board's long-awaited exposure draft on IAS 19, the standard that governs pension accounting, may turn out to be good news for companies. In a reversal of the proposals that were originally floated, under the exposure draft the impact of asset gains and losses would be reflected in other comprehensive income (OCI) rather than in profits and losses, lessening their impact on a company's earnings.
"Previous proposals would have magnified the volatility. But with this change we may actually see less volatility," both compared with current IASB standards and current U.S. standards, says Jim Verlautz, senior actuary and principal for Mercer US. Verlautz participated in a webcast with IASB officials last week to discuss the draft.
Currently, U.S. companies can "smooth" the asset changes over time, dampening the impact of any given year's stock markets. Under the proposed method, "you're taking them out entirely," says Verlautz, with the expected rate of return on assets being set at the discount rate the company chooses for liabilities.
What's unclear is whether that would encourage companies to take on more or less risk in their pension investments. "One could argue that doing away with the expected return on plan assets could result in there being less incentive for companies to hold risky assets . . . as they would no longer need to do so to support a higher expected rate of return to reduce pension costs," wrote Credit Suisse First Boston analyst David Zion in a recent report on the proposal. "On the other hand, this proposed change could drive them to take more risk in their asset allocations, since gains and losses from re-measurement will never be reflected in earnings."
Among the negatives of the proposal, total pension expense as recorded in the income statement may increase, mostly depending on whether the decrease in expected return is greater than the now-forgone amortization of actuarial losses, notes Verlautz. How a plan's administrative costs are reflected in financial statements may also change, along with other items. And changes to a plan, such as an increase in benefits promised to a union, would have to be reflected immediately instead of amortized over a period such as the length of the contract.
The net-income effect could vary widely from company to company, according to Zion's analysis. Had the proposed rules been in effect for 2009, financial companies included on London's FTSE 100 would have seen 225% sliced out of their collective earnings, while energy companies would have recorded a 1% increase. Other sectors, including consumer staples, materials, and utilities, would have had modest decreases, according to Zion's modeling. (To create the adjusted figures, Zion and his team added back the reported pension cost, then subtracted service cost and an estimated net-interest cost, and then applied standard corporate tax rates.)
The same variability would hold true for U.S-based companies in the S&P 500, though the impact on any given sector would be less severe, and no greater than about a 6% loss in net income. Materials and industrials would have lost the most due to the pension rules in 2009, while energy companies could have recorded a 3.8% gain.
In the long run, though, the actual gains and losses may become more evident, Zion notes, since the Financial Accounting Standards Board and the IASB are expected to propose this month that all OCI items be shown on the face of the income statement, which would likely be renamed.
While CFOs of U.S.-based companies aren't immediately affected by the proposal, Verlautz and others expect it to ultimately become the law of the land. "I expect this draft to pass with minimal changes," says Verlautz, "and eventually, either because the U.S. adopts IFRS or because FASB decides to converge toward it, I think this will pretty much be the rule for U.S. companies as well." Indeed, "the IASB's proposal could help get the FASB's pension project moving again," Zion wrote in his report.
To that end, Verlautz is encouraging CFOs of U.S. companies to make their voices heard now. The exposure draft is open for comments until September 6. The IASB has said it intends to issue final rules by mid-2011.
OSFI's IFRS conversion guidelines address structured settlements
The Office of the Superintendent of Financial Institutions (OSFI) has issued draft accounting guidelines related to IFRS conversion, including guidelines for structured settlements.
The full guidelines are available at:
http://www.osfi-bsif.gc.ca/osfi/index_e.aspx?ArticleID=3698
In Bulletin D-5, OSFI issues guidelines on the reporting by a property and casualty insurer of an annuity when purchased for a structured settlement contract with a claimant.
“The main issues relate to whether the P&C insurer (a) continues to recognize a financial liability to a claimant and (b) recognizes a financial asset as a result of purchasing the annuity,” OSFI notes in the introduction to its guidelines.
In discussing how to handle the issue, OSFI notes two types of structured settlements.
In Type 1 structured settlements, an insurer purchases an annuity and is named the owner. There is an irrevocable direction from the P&C insurer to the annuity underwriter to make all payments directly to the claimant. This type of annuity is non-commutable, non-assignable and non-transferable.
In these situations, OSFI notes, a “P&C insurer should not continue to recognize an insurance liability to the claimant.”
Accordingly, the bulletin adds, the P&C insurer should not recognize the [Type 1] annuity as a financial asset.
In a Type 2 settlement, however, the financial liability of the P&C insurer to the claimant has not been extinguished legally or in substance because, in this scenario, the annuity is commutable, assignable or transferable. Unlike in Type 1 settlements, in Type 2 settlements there is no irrevocable direction by the insurer to make all the payments directly to the claimant.
In Type 2 situations, therefore, the insurer “should recognize the annuity as a financial asset on its statement of financial position since it retains the right to commute, assign or transfer the benefits of the structure.” The insurer has not surrendered control of the benefits to the claimant.
Therefore, “the annuity should be carried initially at its cost to the P&C insurer and the liability balance should be measured in the same manner as other outstanding claims liabilities of similar type,” OSFI says. “The asset and liability balances should not be offset as per IFRS 4 (Paragraph 14(d)).”
The full guidelines are available at:
http://www.osfi-bsif.gc.ca/osfi/index_e.aspx?ArticleID=3698
In Bulletin D-5, OSFI issues guidelines on the reporting by a property and casualty insurer of an annuity when purchased for a structured settlement contract with a claimant.
“The main issues relate to whether the P&C insurer (a) continues to recognize a financial liability to a claimant and (b) recognizes a financial asset as a result of purchasing the annuity,” OSFI notes in the introduction to its guidelines.
In discussing how to handle the issue, OSFI notes two types of structured settlements.
In Type 1 structured settlements, an insurer purchases an annuity and is named the owner. There is an irrevocable direction from the P&C insurer to the annuity underwriter to make all payments directly to the claimant. This type of annuity is non-commutable, non-assignable and non-transferable.
In these situations, OSFI notes, a “P&C insurer should not continue to recognize an insurance liability to the claimant.”
Accordingly, the bulletin adds, the P&C insurer should not recognize the [Type 1] annuity as a financial asset.
In a Type 2 settlement, however, the financial liability of the P&C insurer to the claimant has not been extinguished legally or in substance because, in this scenario, the annuity is commutable, assignable or transferable. Unlike in Type 1 settlements, in Type 2 settlements there is no irrevocable direction by the insurer to make all the payments directly to the claimant.
In Type 2 situations, therefore, the insurer “should recognize the annuity as a financial asset on its statement of financial position since it retains the right to commute, assign or transfer the benefits of the structure.” The insurer has not surrendered control of the benefits to the claimant.
Therefore, “the annuity should be carried initially at its cost to the P&C insurer and the liability balance should be measured in the same manner as other outstanding claims liabilities of similar type,” OSFI says. “The asset and liability balances should not be offset as per IFRS 4 (Paragraph 14(d)).”
Wednesday, May 5, 2010
Governance Focus: Inside IFRS - The opportunity for energy IT
A major move
Conversion to International Financial Reporting Standards (IFRS) will likely be the largest single change of accounting policies and procedures ever undertaken by US companies. The move to IFRS may compel companies to make significant changes in business processes and supporting systems beyond the finance function. While the proposed timelines for IFRS adoption appear to be far away and not urgent, there are many reasons for energy companies to begin planning now.
While accounting considerations are the primary drivers of IFRS conversion, information technology (IT) departments must participate in project planning to provide insight around the technical implications of key decisions. Some energy companies may face significant information system implications, while others may find that systems do not require major rework. But there is simply no way to know the extent of effort required unless the IT organization devotes attention to this question. Consequently, the company that does not devote the effort now to analyze their organization’s specific conversion requirements for time, people, processes and systems, could be caught unprepared and have fewer options than those companies that planned ahead.
Conversion to International Financial Reporting Standards (IFRS) will likely be the largest single change of accounting policies and procedures ever undertaken by US companies. The move to IFRS may compel companies to make significant changes in business processes and supporting systems beyond the finance function. While the proposed timelines for IFRS adoption appear to be far away and not urgent, there are many reasons for energy companies to begin planning now.
While accounting considerations are the primary drivers of IFRS conversion, information technology (IT) departments must participate in project planning to provide insight around the technical implications of key decisions. Some energy companies may face significant information system implications, while others may find that systems do not require major rework. But there is simply no way to know the extent of effort required unless the IT organization devotes attention to this question. Consequently, the company that does not devote the effort now to analyze their organization’s specific conversion requirements for time, people, processes and systems, could be caught unprepared and have fewer options than those companies that planned ahead.
Real Value Accounting / IAS 29
A SA company listed on the Johannesburg Stock Exchange prepares its financial reports in terms of International Financial Reporting Standards. IFRS require an entity to choose how it wants to maintain its financial capital: either in nominal monetary units (traditional Historical Cost Accounting) or in units of constant purchasing power during low inflation. This IFRS option only applies during low inflation and deflation. There is no option during hyperinflation. During hyperinflation an entity whose functional currency is a hyperinflationary currency has to implement Constant Purchasing Power Accounting (CPPA), i.e., financial capital maintenance in units of constant purchasing power, inflation-adjusting all non-monetary items - both variable as well as constant real value non-monetary items - during hyperinflation – as required in IAS 29.
The Board of Directors of a JSE listed company is responsible for approving changes in accounting policies. Adopting IFRS was a change in accounting policies. When IFRS are adopted, entities have to make a choice between two basic accounting models during low inflation and deflation. IFRS accept that “a financial concept of capital is adopted by most entities in preparing their financial statements”. The Board of Directors thus only had to decide how it wanted to maintain the company´s financial capital in terms of IFRS as it was given a specific choice between two options on the adoption of IFRS. There is a directly stated choice in IFRS and the Board of Directors actually had to make and made that choice on the adoption of IFRS during low inflation. There is no choice during hyperinflation.
There are no specific IFRS relating to the concept of capital and capital maintenance.
IAS 8 Par 10 and 11 state:
Par 10 In the absence of a Standard or an Interpretation that specifically applies to a transaction, other event or condition, management shall use its judgement in developing and applying an accounting policy that results in information that is:
(a) relevant to the economic decision-making needs of users; and
(b) reliable, in that the financial statements:
(i) represent faithfully the financial position, financial performance and cash flows of the entity;
(ii) reflect the economic substance of transactions, other events and conditions, and not merely the legal form;
(iii) are neutral, ie free from bias;
(iv) are prudent; and
(v) are complete in all material respects.
Par 11 In making the judgement described in paragraph 10, management shall refer to, and consider the applicability of, the following sources in descending order:
(a) the requirements and guidance in Standards and Interpretations dealing with similar and related issues; and
(b) the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Framework.
There are no specific IFRS relating to the concept of capital and capital maintenance. The measurement concepts in the Framework are thus applicable
The IFRS Framework for the Preparation and Presentation of Financial Statements (1989) states:
“Concepts of Capital and Capital Maintenance
Concepts of Capital
102. A financial concept of capital is adopted by most entities in preparing their financial statements. Under a financial concept of capital, such as invested money or invested purchasing power, capital is synonymous with the net assets or equity of the entity. Under a physical concept of capital, such as operating capability, capital is regarded as the productive capacity of the entity based on, for example, units of output per day.
Concepts of Capital Maintenance and the Determination of Profit
104. The concepts of capital in paragraph 102 give rise to the following concepts of capital maintenance:
(a) Financial capital maintenance. Under this concept a profit is earned only if the financial (or money) amount of the net assets at the end of the period exceeds the financial (or money) amount of net assets at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period. Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power.
(b) Physical capital maintenance. Under this concept a profit is earned only if the physical productive capacity (or operating capability) of the entity (or the resources or funds needed to achieve that capacity) at the end of the period exceeds the physical productive capacity at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period.
108. Under the concept of financial capital maintenance where capital is defined in terms of nominal monetary units, profit represents the increase in nominal money capital over the period. Thus, increases in the prices of assets held over the period, conventionally referred to as holding gains, are, conceptually, profits. They may not be recognised as such, however, until the assets are disposed of in an exchange transaction. When the concept of financial capital maintenance is defined in terms of constant purchasing power units, profit represents the increase in invested purchasing power over the period. Thus, only that part of the increase in the prices of assets that exceeds the increase in the general level of prices is regarded as profit.”
There are consequently three concepts of capital maintenance at all levels of inflation and deflation (including normal low inflation) in terms of IFRS:
a) Physical capital maintenance
b) Financial capital maintenance in nominal monetary units
This is the generally accepted traditional Historical Cost Accounting model.
c) Financial capital maintenance in units of constant purchasing power
which the IASB also authorized in the Framework, Par 104 (a) in 1989 for implementation during low inflation and deflation as an alternative to the globally implemented generally accepted traditional Historical Cost Accounting model. Financial capital maintenance in units of constant purchasing power is, however, specifically required in IFRS to be implemented in terms of IAS 29 - the IFRS inflation accounting model - during hyperinflation.
The Board of Directors had a choice between two basic accounting models in terms of the Framework, Par 104 (a) during low inflation:
I) Financial capital maintenance in nominal monetary units, i.e. traditional Historical Cost Accounting, and
II) Financial capital maintenance in units of constant purchasing power, i.e. Constant Item Purchasing Power Accounting (CIPPA) during low inflation.
The Framework, Par 104 (a) states: “Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power.” It is a directly stated choice and the Board had to make and made the choice during low inflation.
The Board of Directors has no choice during hyperinflation: It has to implement IAS 29 or Constant Purchasing Power Accounting (CPPA) during hyperinflation.
The Board of Directors of a JSE listed company is responsible for approving changes in accounting policies. Adopting IFRS was a change in accounting policies. When IFRS are adopted, entities have to make a choice between two basic accounting models during low inflation and deflation. IFRS accept that “a financial concept of capital is adopted by most entities in preparing their financial statements”. The Board of Directors thus only had to decide how it wanted to maintain the company´s financial capital in terms of IFRS as it was given a specific choice between two options on the adoption of IFRS. There is a directly stated choice in IFRS and the Board of Directors actually had to make and made that choice on the adoption of IFRS during low inflation. There is no choice during hyperinflation.
There are no specific IFRS relating to the concept of capital and capital maintenance.
IAS 8 Par 10 and 11 state:
Par 10 In the absence of a Standard or an Interpretation that specifically applies to a transaction, other event or condition, management shall use its judgement in developing and applying an accounting policy that results in information that is:
(a) relevant to the economic decision-making needs of users; and
(b) reliable, in that the financial statements:
(i) represent faithfully the financial position, financial performance and cash flows of the entity;
(ii) reflect the economic substance of transactions, other events and conditions, and not merely the legal form;
(iii) are neutral, ie free from bias;
(iv) are prudent; and
(v) are complete in all material respects.
Par 11 In making the judgement described in paragraph 10, management shall refer to, and consider the applicability of, the following sources in descending order:
(a) the requirements and guidance in Standards and Interpretations dealing with similar and related issues; and
(b) the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Framework.
There are no specific IFRS relating to the concept of capital and capital maintenance. The measurement concepts in the Framework are thus applicable
The IFRS Framework for the Preparation and Presentation of Financial Statements (1989) states:
“Concepts of Capital and Capital Maintenance
Concepts of Capital
102. A financial concept of capital is adopted by most entities in preparing their financial statements. Under a financial concept of capital, such as invested money or invested purchasing power, capital is synonymous with the net assets or equity of the entity. Under a physical concept of capital, such as operating capability, capital is regarded as the productive capacity of the entity based on, for example, units of output per day.
Concepts of Capital Maintenance and the Determination of Profit
104. The concepts of capital in paragraph 102 give rise to the following concepts of capital maintenance:
(a) Financial capital maintenance. Under this concept a profit is earned only if the financial (or money) amount of the net assets at the end of the period exceeds the financial (or money) amount of net assets at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period. Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power.
(b) Physical capital maintenance. Under this concept a profit is earned only if the physical productive capacity (or operating capability) of the entity (or the resources or funds needed to achieve that capacity) at the end of the period exceeds the physical productive capacity at the beginning of the period, after excluding any distributions to, and contributions from, owners during the period.
108. Under the concept of financial capital maintenance where capital is defined in terms of nominal monetary units, profit represents the increase in nominal money capital over the period. Thus, increases in the prices of assets held over the period, conventionally referred to as holding gains, are, conceptually, profits. They may not be recognised as such, however, until the assets are disposed of in an exchange transaction. When the concept of financial capital maintenance is defined in terms of constant purchasing power units, profit represents the increase in invested purchasing power over the period. Thus, only that part of the increase in the prices of assets that exceeds the increase in the general level of prices is regarded as profit.”
There are consequently three concepts of capital maintenance at all levels of inflation and deflation (including normal low inflation) in terms of IFRS:
a) Physical capital maintenance
b) Financial capital maintenance in nominal monetary units
This is the generally accepted traditional Historical Cost Accounting model.
c) Financial capital maintenance in units of constant purchasing power
which the IASB also authorized in the Framework, Par 104 (a) in 1989 for implementation during low inflation and deflation as an alternative to the globally implemented generally accepted traditional Historical Cost Accounting model. Financial capital maintenance in units of constant purchasing power is, however, specifically required in IFRS to be implemented in terms of IAS 29 - the IFRS inflation accounting model - during hyperinflation.
The Board of Directors had a choice between two basic accounting models in terms of the Framework, Par 104 (a) during low inflation:
I) Financial capital maintenance in nominal monetary units, i.e. traditional Historical Cost Accounting, and
II) Financial capital maintenance in units of constant purchasing power, i.e. Constant Item Purchasing Power Accounting (CIPPA) during low inflation.
The Framework, Par 104 (a) states: “Financial capital maintenance can be measured in either nominal monetary units or units of constant purchasing power.” It is a directly stated choice and the Board had to make and made the choice during low inflation.
The Board of Directors has no choice during hyperinflation: It has to implement IAS 29 or Constant Purchasing Power Accounting (CPPA) during hyperinflation.
What are International Financial Reporting Standards (IFRS)?
1. Information about International Financial Reporting Standards (IFRS)
International Financial Reporting Standards (IFRS) are a set of widely used international standards for financial reporting. These standards are developed and maintained by the International Accounting Standards Board (IASB). The IASB is an independent, non-for-profit, privately funded accounting organization that is based in London. To maintain the international continuity of IFRS, during 2009 the IASB was comprised of 15 members from 9 different countries.
International Financial Reporting Standards (IFRS) are currently used in over 120 countries around the world, including the European Union. The United States currently uses a different reporting system known as Generally Accepted Accounting Principles (U.S. GAAP). The major source of U.S. GAAP is the Financial Accounting Standards Board (FASB). Many US and foreign multinational firms have conformed to both U.S. GAAP and IFRS for the disclosure of internationally based financial information. However, the world is leaning towards adopting IFRS as “the” international accounting standards. The U.S. Securities and Exchange Commission (SEC) recognizes the benefit of adapting one worldwide accounting platform and has begun an initiative to adapt to some IFRS standards.
There are several advantages to be realized in the worldwide adaptation of IFRS. For example, there is an increased ability to compare financial information between companies with business operations in different countries. As more and more countries begin to use the same set of financial reporting standards, the financial reporting process should become more transparent. This transparency translates into benefits to all parties involved, giving them greater financial credibility and an increased access to the world capital markets. Concise and readily understandable financial and accounting information benefits investors, companies and capital markets worldwide. The standardization of accounting methodology provides creditors and investors with the ability to analyze businesses around the world using the same financial methods. This symmetry allows for the benchmarking of sales, marketing and other key financial indicators internationally, across different industry segments.
The United States standards setting bodies and IASB are in the process of converging U.S. GAAP with IFRS. At the same time, U.S. GAAP principles are seen by many in the US to be the more detailed “gold standard” of accounting. Moving to a new financial reporting system is a costly endeavor. Proponents of the change see that an initial transition to IFRS may be a time consuming and costly investment, but over the long run companies are able to realize internal reporting efficiencies from streamlining accounting and financial processes into one unified worldwide format.
International Financial Reporting Standards (IFRS) are a set of widely used international standards for financial reporting. These standards are developed and maintained by the International Accounting Standards Board (IASB). The IASB is an independent, non-for-profit, privately funded accounting organization that is based in London. To maintain the international continuity of IFRS, during 2009 the IASB was comprised of 15 members from 9 different countries.
International Financial Reporting Standards (IFRS) are currently used in over 120 countries around the world, including the European Union. The United States currently uses a different reporting system known as Generally Accepted Accounting Principles (U.S. GAAP). The major source of U.S. GAAP is the Financial Accounting Standards Board (FASB). Many US and foreign multinational firms have conformed to both U.S. GAAP and IFRS for the disclosure of internationally based financial information. However, the world is leaning towards adopting IFRS as “the” international accounting standards. The U.S. Securities and Exchange Commission (SEC) recognizes the benefit of adapting one worldwide accounting platform and has begun an initiative to adapt to some IFRS standards.
There are several advantages to be realized in the worldwide adaptation of IFRS. For example, there is an increased ability to compare financial information between companies with business operations in different countries. As more and more countries begin to use the same set of financial reporting standards, the financial reporting process should become more transparent. This transparency translates into benefits to all parties involved, giving them greater financial credibility and an increased access to the world capital markets. Concise and readily understandable financial and accounting information benefits investors, companies and capital markets worldwide. The standardization of accounting methodology provides creditors and investors with the ability to analyze businesses around the world using the same financial methods. This symmetry allows for the benchmarking of sales, marketing and other key financial indicators internationally, across different industry segments.
The United States standards setting bodies and IASB are in the process of converging U.S. GAAP with IFRS. At the same time, U.S. GAAP principles are seen by many in the US to be the more detailed “gold standard” of accounting. Moving to a new financial reporting system is a costly endeavor. Proponents of the change see that an initial transition to IFRS may be a time consuming and costly investment, but over the long run companies are able to realize internal reporting efficiencies from streamlining accounting and financial processes into one unified worldwide format.
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