Global Convergence - Striking the Balance
Published August 2012
While continuing to await "white smoke" to signal completion of key accounting standards in certain major areas - financial instruments, revenue recognition, leasing and insurance, together with several other topics, regulators, advisory groups and others continue to generate plenty of material for debate. Some are focused on enhancing the International financial reporting framework, while others perhaps question some of the fundamental objectives, most notably whether a single global financial reporting framework is an objective that can ultimately be achieved.
In recent weeks the following are some of the many relevant documents which have been published:
- US Securities and Exchange Commission (SEC) - Final Staff Report - Work Plan for the Consideration of Incorporating IFRS's into the Financial Reporting Systems for US Issuers
- European Financial Reporting Advisory Group (EFRAG) with the UK and French Standard Setters - Discussion Paper on Towards a Disclosure Framework for the Notes
- EFRAG with the UK Standard Setter - Position Paper on Considering the Effects of Accounting Standards
Global convergence of reporting standards is significantly diminished without the US on board. While the US authorities may be seen by many to be procrastinating in their decision-making, they are in a position of some strength and it is conceivable at least that they may ultimately decide not to fully converge. Equally apparent is the US authorities conviction that while much work has been carried out by the IASB in developing its standards and related infrastructure, there is considerably more to do. Areas where work is required include, inter alia, the development of an improved and relevant disclosure framework, and putting in place a process for proper consideration of the effects of new/substantially revised accounting standards before they are published.
Global Convergence - Is the US Coming on Board?
Having waited almost two and a half years for the SEC Staff to deliver on work initiated in February 2010 to consider incorporating IFRSs into the Financial Reporting System for US issuers, it seems worrying that what is most interesting is not what messages their final report delivers, but rather what it does not. The report does not include a staff recommendation on the future direction to be taken nor does it provide a sense as to what the next steps of the SEC may be. The report also does not set out to answer the fundamental question of whether transitioning to IFRS is in the best interests of US Securities Markets generally and US Investors specifically.
US market participants do not favour direct introduction of IFRS, with other capital markets around the world adopting different approaches. It is therefore considered appropriate to focus on methods other than direct designation of standards, considering the following factors:
Influence on standard setting - most jurisdictions generally rely on some mechanism to incorporate IFRS into their domestic reporting system e.g. endorsement of standards in the EU. A new word was even coined as a consequence in the US - 'condorsement' - which, as it suggests, is a combination of convergence and endorsement!?
- Burden of costs of conversion - again, methods other than direct incorporation could lessen the total costs required while extending any timeframe for incorporation
- Reference to US GAAP - US GAAP is embedded throughout laws and regulations and in a significant number of private contracts. The effort required to change these would be significant, if not nearly impossible, at least in any short term time horizon
- While there is little support for direct designation, there is substantial support for exploring other methods of incorporating IFRS which demonstrate US commitment to a single set of high quality globally accepted accounting standards
With a potentially changing US political environment by the end of 2012, it is probably not surprising that key decisions are on hold.
Disclosure - Pursuit of Clarity
While recognition and measurement considerations are critical to achieving a fairly stated set of financial statements, supporting disclosure notes are equally critical to the ability of the entity to communicate properly with its stakeholders and deliver key information in an appropriate manner.
There is a strong consensus in the financial community that disclosure notes have become unwieldy, with their increasing length doing nothing to improve the quality of information, they may even have diminished it with information overload. The providers of capital are looking to other resources and means to gather information critical to their decision-making. There have been many reports and surveys in recent times, with the IASB being called upon as part of its future agenda to develop a Disclosure Framework to ensure that disclosure requirements are based on sound principles and yield useful and relevant information for users. The EFRAG Discussion Paper sets out the key principles that determine the features required for an effective disclosure framework. The purpose of a disclosure note is to ensure that all and only relevant information is disclosed in an appropriate manner, so that detailed information does not obscure relevant information. In providing supporting information important to an understanding of an entity's financial situation and performance, notes should provide information such as, but not limited to, (a) assumptions and judgements that are built into the reported numbers (b) information on risks that may affect those reported numbers, and (c) alternative measurements where such information would be relevant.
The EFRAG DP emphasises that there are no 'quick fixes' and taking a 'red pen' to existing disclosures will not achieve a way forward, with a comprehensive rethink needed of the role of the notes, to include the following:
- To clarify the purpose of the notes
- To develop principles to identify what information to include in the notes
- To consider the form of the disclosure requirements
- To strengthen the application of materiality
- To articulate the key features of effective communication - in achieving clarity
- The U.S. FASB has also issued an invitation to comment on its disclosure framework.
It will represent valuable progress if these efforts lead to a Disclosure Framework which improves the quality of reporting, with investors and other stakeholders reaping the benefit of more relevant and understandable financial information.
The Effects of Accounting Standards
There is a clear link with the EFRAG Position Paper on Considering the Effects of Accounting Standards. The Paper calls for effect analysis to be integrated, or further embedded, into the standard setting due process over the life cycle of projects, starting from the agenda proposal stage through to post-implementation reviews. The main aims being (1) to strengthen the standard setting process and enhance its transparency, and (2) to increase the accountability and creditability of the standard setter and thus to contribute positively by delivering improved financial reporting.
The EFRAG Paper calls upon the IASB, as an International standard setter, to initiate a procedure to encourage National standard setters and other institutions to:
- Share their knowledge and experience in the area of effect analysis, taking the proposals forward to the implementation stage; and
- Work together to design and test the methodology for effect analysis.
The world of financial reporting continues to evolve and leave us with significant issues to debate - will the U.S. continue to 'hold out' on adopting IFRS, is it concerned about being the last major economy outside the IFRS fold? Will the enigma of ever increasing disclosure be resolved and a new more meaningful and relevant regime be implemented? Will the IASB continue to develop a structure within which it becomes more aware of the effects of proposed new and revised standards, and thereby more responsive to user needs? Just some of the questions that are out there, and require some thought, before we grapple with a deluge of new standards.
First published in Finance Dublin Online.