Luxembourg: ESMA Report: Recurring Issues In IFRS Statements

In April, ESMA published its findings on the European Common Enforcement Priorities 20161 (read more about ESMA's 2017 activity report in this article).

In terms of scope, ESMA examined the financial statements of 170 issuers of varying sectors and levels of market capitalisation. Around 25% of them were from the industrial sector, and 13% from the financial sector.

In this article, we will look at what recurring issues ESMA found.

Presentation of financial performance and financial position

In the financial statements, ESMA found many variations on how subtotals were labelled (operating results, operating income, adjusted operating income to name a few), which is not surprising since IAS 1 doesn't provide guidance on this. This discrepancy unfortunately hinders the comparability of figures, leading ESMA to support the IASB's project to improve and standardise financial statement presentation.

In some cases (22%), issuers used terms for the subtotals that are disallowed by IAS 1.87 (including exceptional, non-recurring, unusual, and infrequent). ESMA has said that, if such titles are used, then issuers should also disclose the significant judgements made in the accounting policies in relation to such material-related classifications.

ESMA also checked the line items and subtotals in the "statement of financial position" section, to see if they were relevant in understanding the issuer's financial position.

Overall, according to ESMA, issuers comply with IAS 1 in most cases. It does note, however, that for cases of noncompliance the enforcers do not have much guidance from the IFRS.

Segment information

This issue is also one of the CSSF's enforcement priorities for 2017, so it's worth considering ESMA's findings and recommendations on it.

ESMA found that, in some cases, entity-wide disclosures as required by IFRS 8.32-34 were included either partially or not at all. It was the same story for reconciliations of total segment revenues and segment assets (where the segment asset amounts were regularly provided to the chief operating decision-maker). IFRS 8.32-34 requires information about products, services, geographical areas, and major customers to be reported, and disclosed separately only if not provided as part of the reportable segment information.

Furthermore, there were some missing judgements related to aggregation criteria. IFRS 8.22 (a) requires that such judgments be mentioned, alongside a summary of the operating segments aggregated in this way, the economic indicators that have been evaluated, and whether the aggregated operating segments share similar characteristics.

Reclassifications of items from OCI to P&L

According to ESMA, reclassifications were done using varying methods, and sometimes lacked transparency. This could, again, be down to a lack of specific guidance from IAS 1. ESMA has suggested that issuers disclose the relevant accounting policies used and, again, the corresponding judgements made. Furthermore, issuers should mention why reclassifications were made and how they affected the operating result.

Earnings per share

ESMA noted that over half (54%) of the issuers missed another requirement: they disclosed the basic and diluted earnings per share in the notes rather than in the statement of other comprehensive income, as required by IAS 33.73,73(A).

Alternative performance measures (APMs)

ESMA has issued guidelines for APMs, specifically those to be disclosed by issuers or by persons responsible for drawing up prospectuses not defined by the applicable financial reporting framework (e.g. EBIT, free cash flow, net-debt). Several issues have been identified by ESMA and by European enforcers in this area, like missing definitions—visit ESMA's Q&A for more info.

Equity vs. liability

European enforcers selected 44 issuers who found it relevant to distinguish equity from liability to examine. They found that, in cases where significant analysis was needed to decide the classification, 40% of these issuers failed to disclose the relevant accounting policy and analysis made in the classification. Furthermore, the relevant features of the instruments were often not disclosed properly, namely contractual features giving rise to economic compulsion (e.g. dividend blockers) or conversion dates, terms for call/put options, and events necessitating payments. ESMA emphasised that readers of financial statements should be able to evaluate the nature and risks of the financial instrument concerned.

ESMA also pointed out that, in cases where there was no clarity in IAS 32, some issuers forgot to comply with IAS 8 regarding accounting policy. Keeping IAS 8.13 in mind would be paramount here, i.e. selecting and applying accounting policy consistently for similar transactions.

Furthermore, entities must disclose significant accounting policies, including policies relevant to understanding the financial statements (IAS 1.117 (b)). If categorising the financial instrument is not straightforward, then the accounting policy needs to be disclosed. And, as usual, if the application of that accounting policy requires judgment, then that judgement should be disclosed as per IAS 1.122.

ESMA also encourages issuers to—if they have financial instruments with equity features—provide additional line items in different statements (e.g. statement of financial position, or cash flow).

There were cases where ESMA disagreed with the issuer's financial instrument classification, for example where it was classified as liability despite there being no contractual obligation to pay interest and redeem the principal amount. Or, where it was classified as equity but there were contingent settlement features, which should determine it as liability. Finally, in some cases, derivative financial instruments—like options over equity instruments or share repurchase obligations—were overlooked.

Please see our article on how to determine whether preference shares should be classified as equity or as a financial liability.

Disclosures of the impact of the new standards

Find out more about ESMA's requirements on the new standards elsewhere on this blog:


1 As part of its report on Enforcement and Regulatory Activities in 2017.

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.

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