| IFRS - where has ‘earnings’ gone? |
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| With the IASB currently revieing the presentation of financial performance, the format of the income statement, the statement of changes in equity, and the cash flow statement, are all set to change says John McDonnell. |
What’s happening to net income under the International Accounting Standards Board (IASB) proposals on reporting comprehensive income? The IASB is currently reviewing the presentation of financial performance as part of its project on financial income and has set out a number of proposals in this regard, although no exposure draft has been issued to date. The project will bring changes to the format of the income statement, the statement of changes in equity and the cash flow statement. The Board’s objective is to create a single comprehensive statement that will ‘categorise and display all income and expenses for the period in a way that enhances users’ understanding of the entity’s achieved performance and that assists users in forming expectations of future performance’. The IASB proposals do not address measurement or timing of recognition - simply presentation.
The performance statement will combine the current income statement and many items that are shown as movements in equity. The format will mandate the ‘by function’ method within specific categories, further broken down into a columnar presentation.
Two columns will be presented for the current period’s activity - one that shows reported results before re-measurements and one that shows re-measurements, plus a ‘total’ column - see Table 1.
What goes in the columns?
It is simplest to define what belongs in the ‘re-measured’ column; everything else falls into ‘before re-measurements’. A re-measurement is a revision of a price or estimate. The category includes revaluations of non-monetary assets (fixed assets, intangible assets), impairments, disposal gains and losses, actuarial gains and losses, and fair value changes on financial instruments. The treatment of changes in provisions remains unclear from the Board’s discussions.
The re-measurement column will contain many of the items that management has traditionally explained as ‘non-recurring’ or ‘non-core business’. The columnar format may thus simplify discussions with analysts and shareholders by identifying the results of operating activities that might serve as a suitable foundation for projecting future performance. Fierce discussions with the auditors might be anticipated if the ‘re-measurement column’ becomes a proxy for ‘bad news and other things management didn’t expect to happen’.
The horizontal geography might appear attractive to management and an aid to corporate communications.
What goes in the horizontal categories?
There are three proposed specific categories: cash flow hedges, discontinued operations and tax. The components of the three specific categories are straightforward, although the quasi-recycling proposals for cash flow hedges need some explanation.
There are two general categories: business profit and financing expense. Business profit is further broken down into three sub-categories: operating profit, other business profit and financial income. ‘Other business profit’ functions as a residual category. Items not in the three specific categories (cash flow hedges, discontinued operations and tax) or forming part of operating profit or financial income/expense form part of “other business profit”.
Business profit is intended to present a measurement of an entity’s total return, independent of its capital structure, to enhance comparability. Financing expense relates to an entity’s choices of capital structure and will include interest expense plus unwinding of discounts and premiums. It is expected that this will include discounting of provisions, receipts under long-term contracts and similar items.
Financial income may be closely related to income from financial assets and financing expenses. Treasury management, for example, will often give rise to both financial income and financial expense. Presentation of clear results of financial income and financing expense, plus gains and losses on financial assets and liabilities, will allow users to understand the relationships between them.
Total and subtotals
The Board’s current proposals permit one total on the face of the performance statement at the foot of the ‘total’ column. A total is not presented at the foot of the ‘before re-measurements’ and ‘re-measurements’ columns. The standard is also expected to contain other guidance to restrict alternative measures of performance on the face of the performance statement. Currently, alternative category subtotals can be presented, but only if all elements of the subtotal are presented on the face of the performance statement. This is likely to result in awkward presentation and is not expected to prove popular.
Earnings?
A crucial objective of the performance reporting project is to shift attention to total business performance and away from a narrower focus on earnings. A key question under the new proposals is what number (or numbers) will be used as the numerator for earnings-per-share calculations. Current revisions to IAS 33 ban alternative EPS disclosures on the face of the income statement. Predictions are that only comprehensive income per share, using the sum of the ‘total’ column, will be permitted on the face of the performance statement.
Communication and preparation is key
The proposed changes will give prominence to different measures of performance for users of financial statements. Many users are accustomed to a single prominent measure - EPS, EBITDA per share or another pro forma measure of EPS. Management should focus on incorporating the new measurements into shareholder and analyst communications as soon as practical to assist users in understanding trends and fluctuations in business performance. |
John McDonnell is IFRS services partner at PricewaterhouseCoopers.
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| Article appeared in the December 2003 issue.
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