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Financial Reporting Brief
Our featured article for April is 'The New Standards – Busy Times Ahead' with Brendan Sheridan commenting on the major new Standards to be introduced over the next couple of years and the implementation challenges they present.
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The New Standards – Busy Times Ahead
Calm before a storm!
The past couple of years or so have been a relatively settled period for the introduction of new financial reporting standards. Preparers, reviewers, auditors, regulators and any others that grapple with the implementation and various other aspects of new standards had time to focus on making sure that standards are bedded down in the accounting and reporting processes. The most recent standard of general application was IFRS 13 Fair Value Measurement which was introduced with effect for accounting periods beginning 1 January 2013. Since then, one new limited scope standard – IFRS 14 Regulatory Deferral Accounts – was introduced from 2016 and there has been a number of amendments to previously issued standards and interpretations.
The thunder is now about to roll!
The New Standards - Development
Three new standards are to be made effective over the next couple of years:
IFRS 9: Financial Instruments - 2018
IFRS 15: Revenue from Contracts with Customers - 2018
IFRS 16: Leases - 2019
All are effective for years beginning on or after 1 January.
These standards spent years under development, a review of their history will bring you into volumes of debate on so many technical issues and points of disagreement. The convergence project between the International Accounting Standards Board (IASB) and the U.S. Financial Accounting Standards Board (FASB) fuelled much of the debate. While there are many reasons for considering that the quest for convergence lengthened the development period, perhaps both Boards benefitted from the extent of interchange in the development of the final standards. IFRS 15 may be seen as the great success story of the process with full convergence achieved, but IFRS 9 and IFRS 16 are now also substantially closer to their US equivalents with some areas of divergence.
The Securities and Exchange Commission (SEC), the US regulators, have consistently voiced support for high quality globally accepted accounting standards, as regulators throughout the globe have also done. However, it seems unlikely that the convergence process, as it was, will be re-initiated. Efforts will continue to maintain standards in alignment but full convergence is no longer a shared objective.
New Standards – Global Impact
The standards that did emerge from the convergence process are hugely significant given their potential to have substantial impact on so many securities issuers, and IFRS – adopters generally throughout the globe. Each of them will significantly change accounting and disclosure, the extent of the impact of which will vary with the nature of the entity’s activity and the makeup of their revenue streams, assets and liabilities. Results of performance and financial position may be expected to change in many instances, substantially in some cases.
Some of the headlines are:
- Impairment of financial assets based on expected losses rather than incurred losses – IFRS 9
- Revenue on multi-element contracts to be recognised separately for each element – IFRS 15
- All leases on balance sheet (some minor exceptions) – IFRS 16
Previous articles have commented on these standards and articles going forward will focus on some of the issues.
Impact assessment is essential and in reality entities that are most affected need to have already commenced their review for potential areas of change, and be making the efforts required to quantify the financial effect and associated disclosures. This assessment needs to look at many different aspects of an entity’s activities and condition, including:
- Systems, processes and any associated internal control changes needed to produce the required information, and entities need to have in place system implementation plans for any significant developments
- Compliance with loan covenants, and any similar arrangements
- Effect on reported results with consequent impact in such areas as future tax liabilities, the ability to pay dividends and employee incentive schemes
- Regulatory capital requirements
It should also be borne in mind that within the scope of the requirements of each of the standards there are many areas where judgement is needed and decisions need to be made which will influence the accounting policies to be adopted and ultimately the shape of the results and financial position reported.
For many IFRS – adopters, the changes that will come about from these new standards will bring the most pervasive impact on what they are reporting since they first adopted IFRS.
The World needs to know!
IFRS requires entities to provide qualitative and quantitative disclosure in the periods leading up to implementation of the new standards. Investors and other stakeholders must be presented with a clear picture of how the new standards will impact on results and the financial position and the related disclosures. The ability of entities to provide these disclosures and inform is dependent on the effectiveness of their change management programmes and their ability to generate the required information, particularly where changes are significant. Investors do not react well to surprises, let alone shocks, so the adage of ‘fail to prepare, prepare to fail’ certainly applies. Quantitative estimates of expected changes which may subsequently change due to changing conditions or otherwise are likely to be more acceptable to investors than a perception among them that efforts have not been properly made to provide the information in the first instance.
While the extent of the impact of the new standards will vary by entity and their business activities for many reasons, all should bear in mind that very few if any will escape without being impacted by the new standards even if it is limited to additional disclosures.
How much time and effort is needed to implement the new standards will vary from company to company. A change management programme with the appropriate levels of leadership, and the requisite processes and controls must be in place to enable smooth transition to take place.
The storm clouds of change are gathering, let’s make it through to the sunshine!
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