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Tuesday, 11th August 2020
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Transition to IFRS - how prepared are we? Back  
With just four months to go to the introduction of International Financial Reporting Standards (IFRS) for listed entities, and optionally many others, Brendan Sheridan examines the status of preparations. He says that from here on, we can expect a question on all investment analysts€ lips to be how does IFRS affect your numbers?
For unlisted entities, the growing momentum towards harmonisation of standards means we are embarking on a period of significant change to the basis on which financial statements are prepared and therefore many of the concerns expressed below will be of consequence to all.

Cause for concern
A document recently released by the UK accountancy profession expresses some significant concerns based on research carried out by a number of parties. These concerns are of significance in Ireland given our similarities with the UK, and These concerns are summarised as follows:

€ Although there is strong support for the principle of common accounting standards throughout Europe, realisation among practitioners in companies and in audit firms about the scale and complexity of the project is still developing;
€ The delay in adoption of all standards by the EU is undermining preparations for change the continuing controversy over implementation of IAS 39 is of significance to many companies;
€ Education is a major issue - there is a shortage of knowledgeable practitioners. Company boards and audit committees may not understand the changes and there are also concerns about how much key users of financial statements, such as banks and analysts, will be aware of the specific impact on individual company results;
€ Accountants are accustomed to incremental change, and initially some may find that such major conceptual shifts are difficult to absorb and apply correctly to complex accounting issues. This is likely to increase the risks of mistakes being made in preparation of financial statements and of auditors failing to pick them up;
€ There are concerns that some companies may view the transition as an opportunity to bury bad news; and
€ There is a growing expectation among audit firms that more audit reports will be qualified because companies have not managed the transition process properly and therefore will not be in a position to prepare IFRS compliant financial statements.

IAS 39 major developments
After many months of debate, on September 8th, the European Commission announced its proposals to adopt IAS 39 for use in Europe. It proposes adoption with a carve-out of two sections, a hedge accounting requirement which mainly relates to the banking sector and a temporary restraint on certain use of fair values pending the finalisation of IASB work in progress in this regard, due to be completed in 2005.

This is a very welcome development, which many will see as providing the final paving stones on the path towards adopting IFRS in Europe in 2005. It will give improved clarity to companies in determining the measures necessary to carry out the transition process.

Importance of effective communication
An overall finding of the surveys carried out was that the speed at which organisations are carrying out their IAS implementation programmes is slower than had been anticipated. Additionally, the surveys indicate that only a small proportion of respondents have a plan for communication with analysts and key investors in place.

From here on, we can expect a question on all investment analysts€ lips to be how does IFRS affect your numbers? A clear picture of what the main impacts are will be essential to responding to analysts with confidence. Without a clear strategy for external communications, companies risk surprising the market and damaging the share price.

The importance of clear communication of the impact of IFRS has been expressed at EU level with recommendations that a phased approach to the communication strategy should be adopted, as follows:-
€ 2003 Annual Report explain the transition process being adopted and the key difference between current accounting policies and policies to be adopted under IFRS in practice, the degree to which this has been implemented varies widely;
€ 2004 Annual Report assessment of impact with disclosure of relevant quantified information;
€ 2005 Interim Report first application of IFRS recognition and measurement principles, including comparative information;
€ 2005 Annual Report first complete set of IFRS financial statements with at least one year€s comparatives which companies may opt to show on both the €old€ and €new€ basis.
While IFRS is expected to increase earnings volatility, a sound business should not allow this to affect the fundamentals of business strategy. An effective external communication strategy is fundamental.

Managing the process
The directors are responsible for ensuring that a company implements IFRS successfully without any material impact or disruption to the business operations of the company. To accomplish this, the directors will have to give due consideration to:

€ Assessment of resource needs and training requirements;
€ Identification of gaps between current accounting policies and IFRS;
€ Identification of additional data needs to meet the revised disclosure requirements;
€ Evaluation and management of business issues;
€ Planning the transition process;
€ Implementation

Many companies in Europe consider that the single biggest challenge is training staff to be conversant in IFRS and to acquire the requisite technical accounting skills. Most of the major companies recognise that they do not have all the necessary skills and manpower to complete the conversion process. While it may vary from country to country, resources may not be as readily available as some companies may expect. In overall terms, management of the conversion process is likely to be a trade-off between the short-term expediency of bought-in resources and building a sustainable skilled workforce.

Identifying the missing data needed to meet IFRS disclosure requirements also needs priority attention as the collection of this data may prove difficult and it needs to be collected for both 2005 and the comparative period. Retrieving it retrospectively may be complicated and it may in many cases need to be collected €as it happens€. Many believe that the most appropriate strategy for providing information of auditable quality is to fully embed IFRS into the company€s everyday systems, which means moving internal management reporting to IFRS as well. There is also a view that many companies may as an interim measure be using short-term €work-around€ solutions, which may be labour-intensive and difficult to control, pending completion of systems development.

Management must carry out a comprehensive review of accounting policies and any other aspects of the financial statements involving significant levels of judgement. Some policies will need to change and new policies will need to be set. Companies should assess the financial impact of the accounting policy changes so that informed decisions can be made.

The Board, or its delegated Audit Committee, has a key role to carry out in relation to the IFRS transition process. A fundamental element of their review of controls is to consider both the overall effectiveness of the company€s implementation plan and the controls over ensuring that IFRS compliant financial statements are being produced.

IFRS are there benefits?
Companies and investors may with some justification wonder whether the costs and efforts involved in the transition process will give rise to any real benefits. The most tangible benefit is that it will be easier to compare companies on a like-for-like basis and that investors can make more informed and less risky decisions. Other benefits may include the possibility of process efficiencies and enhanced financial controls being identified in carrying out what may inevitably for many companies be a major systems development exercise. The bottom line is that companies should not risk being unprepared to implement IFRS in producing their 2005 financial statements. Potential consequences are significant with possible qualification by auditors of financial statements and senior management embarrassment. This could lead to potential reputation damage with a knock-on effect on share price and loss of shareholder value.

Time is marching on towards 2005. It is hugely important that those entities adopting IFRS have the processes for transition in place and have an effective strategy for communication to the market to ensure there are no shocks or surprises ahead in 2005.

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