Originally published October 2004
- The new standards are already starting to impact on Australian businesses.
Under a strategy adopted by the Financial Reporting Council in July 2002, the Australian Accounting Standards Board (AASB) is obliged to work towards the full implementation of the International Accounting Standards (IAS) (now known as International Financial Reporting Standards (IFRS)) in Australia. This strategy was also set out in the CLERP 9 proposals. All European Union countries were similarly committed.
"For profit" entities (including Government business enterprises) will be required to prepare financial statements under Chapter 2M of the Corporations Act in accordance with the IAS/IFRS adopted by the AASB for financial reporting periods on or after 1 January 2005.
The adoption of the IFRS will result in significant changes to the accounting procedures and financial reports of Australian companies. There will also be some potentially significant legal and other practical issues to be considered and worked through: (see "What changes will cause the most headaches?" and "Some legal implications of the new standards"). The adoption of the new standards will affect the majority of existing Australian standards and result in the introduction of a number of new standards.
The AASB and Australian Securities and Investments Commission (ASIC) have strongly encouraged company boards and management to understand the implications of the significant changes from the company's and shareholders' viewpoint, take an active interest now, and develop and implement a strategy to effectively manage a timely transition. Audit committees also need to take an active role in dealing with the transition to the adoption of the IFRS in January 2005.
ASIC has promised to take a "tough line" on companies that fail to comply with the new accounting rules. According to Mr Greg Pound (ASIC chief accountant):
"We have made it clear that we don't see any cause to be sympathetic. Australia has been harmonising with international accounting standards for several years and, where there are new standards to be put in place, people have been put on notice for some time."
ASIC has stated that it will randomly select companies on a systematic basis to ensure compliance. It will continue its compliance program under which ASIC examines the accounts of each company every three or four years, at the rate of more than 400 companies per year.
ASIC is also intending to specifically target companies where it believes the introduction of the IFRS will result in significant accounting policy changes and financial reporting impacts.
Why the change?
The primary objective of the new accounting standards is the expected efficiency of the capital markets that will arise from the existence of a set of globally acceptable accounting standards that result in high quality comparable and transparent financial reporting. In short, an objective of the harmonisation of international accounting standards is a worldwide effort to restore confidence in corporate reporting and create a free flow of capital worldwide.
Why is this important? One of the reasons is that the EU is driving towards the creation of a single capital market. Entities will be able to make an unreserved statement that their financial reports are prepared in compliance with IASB Standards and audit reports will be able to refer to an entity's compliance with the IASB Standards. This will assist entities to participate and compete in the EU market.
A second objective is the facilitation of cross border comparison of accounts by investors, leading to a reduced cost of capital for Australian companies and assisting them to raise capital or list overseas.
Thirdly, this is the first stage in a convergence of the standards of the IASB and the US Financial Accounting Standards Board (which uses and implements US GAAP standards). This process will take some time, but the formulation of the IASB Standards and their adoption by countries is a move in that direction. In order for the convergence of the standards to occur, the US SEC will seek to understand the differences between the two sets of standards and also seek to better become convinced of the quality of the International Accounting Standards. This is expected to occur over the next few years.
The international standards that were finalised and available as at 31 March 2004 will apply for the reporting periods commencing on or after 1 January 2005. The applicable standards are marked with the letter "A" in the Schedule accompanying this Corporate Insights.
A company with an FYE 31 December 2004 will first report under the new standards for the FYE 31 December 2005 and, if listed, for the half year ending 30 June 2005. For a company with an FYE 30 June 2004, the first report under the new standards will be in the FYE 30 June 2006 and if listed, for the half year ended 31 December 2005.
Those IAS and IFRS not available as at 31 March 2004 will apply from 1 January 2006, but early adoption of these standards is permitted.
The first financial report is to be prepared as if the new standards always applied, subject to some exceptions for specific items. Comparative information is to be restated on the new basis, and December and June balancing companies will need an opening position based on the new standards as at 1 January 2004 and 1 July 2004, respectively.
Companies should start to inform and educate members, creditors and other stakeholders who use their financial reports about the impact and consequences of the new standards in relation to those financial reports. The extent of any changes to the financial position and performance of the company needs to be explained and understood. The reason for changes to a company's financial reports needs to be explained to stakeholders (that is, changes attributable to the new standards as opposed to changes in the company's underlying business).
It may be useful to involve in-house staff in the development of new systems so that they develop the knowledge and skills to perform ongoing work after the initial implementations are complete without having to rely on repeat visits from consultants.
The IFRS will need to become part of a company's budgeting and forecasting processes. The new standards are likely to affect such things as how assets, liabilities and profits are measured and how companies explain the impact of a new material contract or joint venture to the outside world.
New standards impact now
For the financial years ending 30 June 2004 and 31 December 2004, AASB1047 Disclosing the Impact of Adopting Australian Equivalents to International Financial Reporting Standards requires financial reports to include an explanation as to how the transition to the IFRS is being managed by the entity. Also, entities must provide a narrative explanation regarding any key differences in accounting policies that are expected to arise on the adoption of the IFRS and any known or capable of being reliably estimated information about the impacts on the financial reports prepared using IFRS. If the information is not known or reliably estimable, the reports will need to contain a statement to this effect.
Those companies for which the introduction of the IFRS will result in significant accounting policy changes and financial reporting impacts (for example, those companies with business interests in a number of jurisdictions, mining companies and power and utilities companies) will need to ensure they pay close attention to these requirements.
As mentioned above, ASIC is intending to specifically target companies where it believes there is a substantial effect from the new standards.
In particular, companies should consider and explain how the IFRS will affect:
- the recognition of an asset or liability for any surplus/deficit of a corporate-sponsored defined benefit superannuation plan
- the potential writedowns of assets for companies with large identifiable intangibles; and
- the requirement to use discounted cash flows in impairment testing for non-current assets.
ASIC has stated that simply listing the new standards or areas of difference, without providing some explanation as to how these standards will affect the company in terms of such things as increases or decreases to profit/net assets, will not be sufficient.
ASIC has advised that it will not accept as a valid reason for not disclosing the required information, a statement that substantial costs will be incurred by the company for restating historical information using the new standards. The bottom line is that companies will need to disclose this information and be aware of the impact of the IFRS on their accounts for periods starting on or after 1 January 2005.
Overall approach of AASB
In adopting the IASB's standards, the AASB's overall approach has been as follows:
- to play a very active role as an IASB liaison standard setter and to align AASB's work program with that of the IASB - monitoring the IASB projects, communicating and influencing the IASB, and responding to IASB draft exposure standards;
- to adopt the content and wording of the IASB standards. Words will only be changed where there is a need to accommodate the Australian legislative environment (eg. where there is a need to include an Australian applicable paragraph that mentions the Corporations Act). This will involve the issue of a single series of accounting standards - AASB series - rather than the dual AASB and AAS series. The relevant AAS standards will be merged with the AASB standards and phased out;
- to prohibit early adoption of the AASB equivalents of the IASB standards either in full or on a piecemeal basis - this has changed slightly as not all IASB standards will be available by 1 January 2005 and therefore the AASB made an arbitrary cut off date of 31 March 2004 for the applicable IAS/IFRS to commence from 1 January 2005; and
- to apply the IFRS retrospectively (with some limited exceptions) as if they had always applied. As a result, assets or liabilities may require adjustment to comply with the requirement of the IFRS. These adjustments are, mainly, made against the entity's retained earnings balance.
The final IAS and IFRS should be completed later this year. The AASB has been progressively approving the contents of the standards and has made them available on its website.
Adoption of the international accounting standards
AASB 1 provides assistance to an entity when it adopts the new standards for the first time. To promote comparability among the financial reports of Australian entities, early adoption of the new standards, including AASB 1, is not permitted. AASB 1 requires that the opening balance sheet which an entity prepares as a starting point for its accounting under the new standards should:
- recognise all assets and liabilities whose recognition is required by the new standards;
- not recognise items as assets or liabilities if the new standards do not permit such recognition;
- reclassify items recognised under previous GAAP as assets, liabilities, or components of equity in accordance with the new standards;
- apply the new standards in measuring all recognised assets and liabilities;
- contain high quality information that is transparent for users and comparable over all periods presented; and
- be generated at a cost that does not exceed the benefits to users.
The accounting policies that an entity uses in its opening balance sheet under the IASB standards as adopted by the AASB may differ from those used previously. Resulting adjustments may arise, and an entity will need to recognise such adjustments directly in retained earnings (or, if appropriate, another category of equity) at the date of transition.
An entity's first financial report under the new standards will be required to include at least one year of comparative information.
An entity is to explain how the transition from previous GAAP to the new standards (via AIFRPs) affected its reporting financial position, financial performance and cash flows.
In order to comply with this disclosure requirement, the first financial report under the new standards must include various reconciliations of the entity's equity reports, profit and loss statements and any impairment of losses or reversals.
- The FRC is the peak body responsible for the broad oversight of the accounting standard setting process for the private and public sectors. It comprises key stakeholders from the business and investing communities, the professional accounting bodies, Governments and regulatory agencies. Key function of the FRC are to advise the Government on the accounting standard setting process and the development of international accounting standards and to determine the broad strategic direction of the standard setter, the Australian Accounting Standards Board.
- The IASB defines International Financial Reporting Standards as comprising: (a) International Financial Reporting Standards; (b) International Accounting Standards; and (c) Interpretation originated by the International Financial Reporting Interpretations Committee (IFRIC) or the former Standing Interpretations Committee (SIC).
- In the CLERP 9 (Corporate Law Economic Reform Program) proposal, Proposal 14 states "Australia will adopt accounting standards issued by the International Accounting Standards Board (IASB) for reporting entities under the law for accounting periods beginning on or after 1 January 2005, in line with the European timetable."
- The accounting standards made by the AASB are given force in law by section 334 of the Corporations Act. The FRC provides broad strategic direction to the AASB.
- Only the 30 standards that were available as at 31 March 2004 will apply for the reporting periods commencing on or after 1 January 2005. The remainder will apply from 1 January 2006 with the option for companies to adopt these standards earlier.
- Walters, K (2004) "ASIC warns recalcitrants" BRW at 37
- Pursuant to AASB 1047 entities must disclose in their FYE 2004 accounts information regarding any key differences in accounting policies that are expected to arise on adoption of the IFRS and known or reliably estimable information about the impacts on their financial reports prepared using the IFRS.
- These objectives will be defeated to some extent if Europe does not adopt IAS 32 and IAS 39 relating to financial instruments and derivatives - if this is the case Australia will be the only country in the world to fully comply with the international accounting standards. The practical result will be that Australian subsidiaries of EU companies will still need to comply with IAS 39 in full for Australian purposes but a different set of number s will be required for reporting to head office. Therefore for the EU market two sets of accounts will still be required until the EU countries fully adopt all of the international accounting standards.
- In September 2002, the US FASB and IASB reached an agreement ('Norwalk Agreement') under which both standard setters acknowledged their commitment to the development of high quality, compatible accounting standards that could be used for both domestic and cross border financial reporting and pledged to use their best efforts to (a) make existing financial reporting standards fully compatible as soon as is practicable and (b) to co-ordinate their future work programs to ensure that once achieved, as a matter of high priority, to: (i) undertake a short term project aimed at removing a variety of individual differences between US GAAP and IFRS; and (ii) remove other differences between IFRS and US GAAP that will remain at 1 January 2005 through co-ordination of their future work programs; that is, through the mutual undertaking of discrete, substantial projects which both Boards would address concurrently; (iii) continue progress on the joint projects that they are currently undertaking; and (iv) encourage their respective interpretative bodies to co-ordinate their activities.
- The other formally recognised liaison national standard setters include the standard setters of Canada, France, Germany, Japan, New Zealand, UK and USA. The AASB is also working with the standard setters of Canada, Norway and South Africa to develop accounting policies relating to the extractive industry.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.