FW moderates a discussion between Simon Wax at Buzzacott LLP, D.J. Gannon at Deloitte & Touche LLP and Sai Venkateshwaran at Grant Thornton on issues raised by conversion to International Financial Reporting Standards.
FW: Can you outline the key drivers behind regulators’ push for convergence on accounting standards? What progress has been made on this front?
Wax: I think the key driver behind the push for convergence has been the increased globalisation of corporations and finance. This has led to a growing acceptance among the international business community and regulators of the need to harmonise accounting standards. Also, a number of well-publicised cases have identified an urgent need for greater transparency, accountability and governance in business. The IASB and the FASB have set themselves a target date of June 2011 for convergence as a response to the G20’s recommendation for greater progress to be made towards a single set of quality standards. Although it was recently announced that this target date has been pushed back to December 2011, my feeling is that there is now more widespread acceptance that convergence has to happen.
Venkateshwaran: With the growing integration of global capital markets and increased flow of capital across markets, the harmonisation of accounting standards has become more of a necessity than ever before. The largest economies of the US and Japan are working towards global convergence and all other major economies, including the BRIC countries, have also moved or are moving towards IFRS. However, the most important of these convergence initiatives is the US FASB-IASB convergence project, which has gained further momentum after the financial crisis with the G20 leader calling for renewed efforts towards convergence. However, as the two boards work towards the June 2011 deadline, there is an unprecedented level of activity that’s taking place involving several complex topics. As a result there are concerns being raised on whether the standard-setters and the stakeholders involved in this process would be able to provide the high quality input that is required on important initiatives of this kind and in this context the IASB and FASB have written to the G-20 leaders seeking an extension on this timelines, which I believe is necessary to meet the objective of developing high quality standards.
Gannon: Over the last decade, the world’s standard-setters have been working on ‘converging’ local and global accounting standards. Central to these efforts has been the work of the FASB and the IASB to converge US GAAP and IFRS. The current convergence efforts were conceived at a time when IFRS needed significant improvement and were not used by many companies. Indeed, there was doubt about whether IFRS would ever be globally accepted. Today, the environment is very different. First, the quality of IFRS has increased significantly, which has been acknowledged by many, including the SEC. Also, by 2012, just about every jurisdiction around the globe will have incorporated IFRS in some way as a basis of financial reporting. I think what’s important now is the stability and transparency of the global standard-setting process, and how national standard-setters like the FASB may play a role in that process once IFRS is incorporated as part of the local reporting framework.
FW: In your opinion, what are the main benefits of moving towards IFRS on a global basis?
Venkateshwaran: The benefits of moving to IFRS include increased comparability, reduced costs of compliance, and easier access to capital markets. Further, IFRSs are largely principles based and therefore their use would lead to a better reflection of the substance of transactions. Ultimately, with use of a single financial reporting language, we can expect to see a far more improved accounting regulatory environment across the world. The benefits would accrue to the entity and all its stakeholders, including its investors, lenders, and regulators.
Gannon: The benefits of a single global standard are real, but often forgotten. One, we’ll have greater transparency in financial statements, allowing for increased comparability and better corporate governance with management acting more in the interest of investors. Two, there’s a greater emphasis on accounting for the ‘economics’ of transactions and events, resulting in more relevant information for financial statement users. Three, companies should see an improved dialogue with analysts about results of operations and financial condition, resulting in greater coverage and capital raising opportunities. Four, ultimately there should be less risk and costs in the long run for everyone. Finally, there won’t be any more arbitrage between standards, levelling the playing field for companies globally, and lessening the potential for political interference in the standard-setting process.
Wax: In this global economy it seems logical to me that we should have a set of standards that mean businesses can operate on a level playing field. Fundamentally, this would enable investors and other stakeholders to make informed investment decisions based on financial statements that are both comparable and consistent. Also, having a single set of high quality global standards would help regulators hold businesses to account in the future.
FW: Which option do you believe is best – adoption of IFRS or convergence with IFRS? What are the major concerns surrounding the switch from one accounting standard to another?
Gannon: It’s important to understand the context of the ‘convergence’ efforts as there often is confusion about what convergence is and what it isn’t. Convergence is designed to improve the quality of financial reporting and ultimately bring US GAAP and IFRS closer together. It’s more about a process than a destination. The focus is on having similar general principles. Many have misinterpreted convergence as meaning the development of the same or ‘identical’ standards. Having a single global standard will facilitate greater transparency in financial reporting, and as a result, greater comparability. Evidence from the recent adoption of IFRS in the EU corroborates that, and reinforces the importance of cross-border comparison. While progress has been made in converging US GAAP and IFRS, without regulatory action that incorporates IFRS into the financial reporting framework, we are unlikely to achieve the goal of a single global standard.
Wax: Being from the UK, I am bound to say adoption of IFRS is the preferred option, so that we will not have to go through another period of learning new standards. In reality, I am sure that compromises will need to be made on both sides. Many businesses that we speak to have voiced their concern over the cost of the change. In particular, where they own groups with numerous subsidiary companies. One solution currently being tabled is a subsidiary-specific exemption, which I think would be a good way to overcome the cost issue.
Venkateshwaran: Both have their share of advantages as well as deficiencies. However, the way I see it, convergence is the first step and a major step towards adoption. Through a process of convergence countries work towards significant harmonisation of their national GAAP with IFRS, which in itself is a process of evolution for both the national standard as well as IFRS, as can be seen from the convergence project with the US FASB. However, once a significant level of harmonisation has been achieved it makes sense for the country to adopt IFRS rather than stay with a process of convergence, which would require them to work on harmonizing local standards to keep pace with the changes to IFRS. Switch from one set of accounting principles to another calls for a change in mindset of preparers, investors, regulators, etc., and the efforts involved are largely determined by how application of the existing accounting principles compare to principles under IFRS. The change is more cumbersome for countries that are moving from a rules based standard such as US GAAP to a principle based standard like IFRS.
FW: What practical steps can companies take to plan for convergence and manage the risks involved? What general advice would you give them?
Wax: Going through an IFRS conversion really can be a lot less painful than people think. Like any process, however, planning is key. Companies should identify the areas that will be impacted the most in terms of their systems, staff resources and financial figures. We call this a diagnostics review. This can be performed in-house or by an external firm and is not a hugely costly process. Once the key areas of impact have been identified, it is fairly straightforward to plan an appropriate timetable and determine what additional advice, resources and training are required. Ultimately, no two companies are the same. It is therefore important that whoever is involved in the conversion has a thorough understanding of the business.
Gannon: It is important to analyse the impact of the ongoing convergence efforts, including the impact of the proposed new standards on current company initiatives such as contemplated systems changes or upgrades and tax planning. In addition, understand the changes to US GAAP and the incremental differences from IFRS. It also is important to assess the timing of IFRS adoption. The amount of time companies have to prepare may be less than many expect. Take steps to ensure that time is used to your advantage. Positioning the company for obtaining long-term benefits starts with early planning. With sufficient lead time, potential problems and issues can be identified and addressed in a cost-effective manner. Finally, understand the company’s current statutory reporting landscape, including where IFRS is required or permitted, and the implications on future adoption on an entity-wide consolidated basis. Be mindful of opportunities where the use of IFRS could increase standardisation and centralisation of statutory reporting.
Venkateshwaran: Companies should take a number of practical steps. The first is to identify the most critical accounting and other areas of impact due to this convergence and develop a detailed plan to manage them. Next is to identify the resources needed for this transition and activate a plan to hire or outsource the process. While running this project, it is critical to have all key departments involved, including finance, IT, supply chain, treasury, etc. It is also important to get senior management sponsorship, including the board of directors and the audit committee to make this a success. Finally, we should learn from experiences of other companies and countries that have converged to IFRS and the most important of these lessons being to plan in advance and start early.
FW: What are the fundamental phases of performing a successful conversion to IFRS?
Venkateshwaran: A conversion project should be run in a phased manner considering the enormity of the exercise, resource and time constraints, and to facilitate effective project management. There are three key phases that would apply to most conversion projects. First, the diagnostics phase is the primary and by far the most important phase for a successful convergence. An incorrect assessment of impacts and magnitude will have a cascading impact throughout the convergence project. The diagnostic phase typically ends with the development of a detailed resources and time plan for dealing with the critical issues identified. Second, the conversion phase involves an in-depth analysis of the accounting and disclosure impacts identified, impacts on the information system, business process, etc., in order to develop area-wise plans and implement the changes required. This phase also involves transfer of knowledge from the IFRS project team to the wider organisation by way of focused training sessions. The final reporting phase involves post implementation reviews, dual reporting, tracking developments post the conversion phase and making changes to the agreed disclosure and measurement criteria.
Wax: If the conversion is done properly in the first instance, there should be minimal ongoing cost to the business. When performing an IFRS conversion, we tend to divide the process into three distinct phases: the planning phase, the execution phase and the reporting phase. The planning phase involves identifying roles and responsibilities, setting a realistic timetable and performing the key impact diagnostics review. The execution phase involves performing the detailed calculations and gathering the information that has been identified from the diagnostics review. The reporting stage includes preparing the ‘transition statement’, which involves a reconciliation showing the numerical impact of adopting IFRS on each area of the financial statements. It also includes drafting the disclosures that explain the changes to the financial statements.
Gannon: A successful conversion to IFRS starts with an assessment of the potential organisation-wide impacts. This involves focusing on not only the technical accounting impacts, but the impacts on tax, people, processes, and technology. From there, a company can develop an implementation ‘roadmap’ that will guide it through the conversion process. This is where the real heavy lifting takes place – developing new policies, and making the changes necessary within the organisation to implement those policies. Once the conversion is complete, companies are now in a sustain mode – keeping up with changes in standards and new requirements. Also, throughout the conversion process it’s important to collaborate and communicate with key stakeholders. So, in a nutshell, it’s assess, convert and sustain.
FW: How do you tackle the question of independence when advising companies on the conversion process?
Gannon: It’s important for companies and their auditors to understand the independence implications of services related to IFRS conversion. Where auditors are providing services to an audit client, steps must be taken to ensure that they are not auditing their own work or acting as management. Many of the independence issues arise during the ‘conversion’ phase. It’s also important that auditors talk with the audit committee to ensure they are involved in any required pre-approvals of services being provided.
Wax: There is nothing that prevents a company’s existing auditor from providing advice and guidance regarding their IFRS conversion. We would recommend that the auditor should be involved early so that agreement is reached on the key issues up-front, which will save time later on. However, the auditor should not perform the detailed conversion accounting work for their clients. Many companies, therefore, that do not have sufficient in-house expertise employ an external firm to perform their conversion project as it can be cheaper than buying in temporary resources.
Venkateshwaran: Considering the complexities involved, it would be beneficial for companies to include external IFRS experts as a part of their project team. However, the management remains responsible for selection of IFRS compliant policies. It is quite common companies seeing advantages in appointing the audit firm to perform the role of IFRS experts during the convergence process. Assisting companies in the convergence process involves various activities like assessing the impact, project management, evaluation of allowed accounting alternatives, detailed conversion, modification to existing IT systems, choosing an accounting policy, etc. The audit committee should be aware that auditor independence, which is a pre-requisite, may be impaired if auditors perform certain prohibitive services like preparation of financial statements, drafting disclosures, having audit personnel as part of the convergence team, etc. It’s a very thin line and it needs to be looked at very carefully by all parties involved.
FW: Over the long term, what impact do you believe conversion to IFRS will have on businesses and investors?
Wax: I would hope that in the not too distant future we reach the holy grail of a single set of clear and workable standards that provide both transparency to investors and accountability to businesses. I believe that it is necessary to endure the short term pain to achieve long term gain. However, it is essential that the regulators continue to listen to investors, businesses and advisers to ensure that the financial statements produced are understandable and meaningful. This will mean that when the process is finished, the resulting standards will be of high quality.
Venkateshwaran: Over the next few years, when IFRS becomes the single financial reporting standard or the most widely used standard across all key economies, it would lead to significant benefits for all key stakeholders – businesses, investors, regulators, lenders, etc. For businesses, the key benefits would be the reduced cost of raising capital and increased ability to access cross-border capital, increased peer comparability, efficiency in financial reporting by avoiding multiple GAAP financial statement preparations, etc. For investors, the key benefits would be enhanced comprehension of financial statements and their ability to compare and understand financial information produced in any part of the world using a single accounting framework. This would improve comparability across geographies and will assist in expunging geographical boundaries. This would also reduce lead time for transactions as financial data is available in a common framework and would also help in the development of more standardised benchmarks across geographies on valuations.
Gannon: It’s important to keep in mind that IFRS conversion is not just about accounting. The adoption of IFRS will impact many aspects of a company. Broad potential impacts include internal control processes and procedures; statutory and internal reporting; technology; tax planning; treasury and cash management; contracts, legal, and debt covenants; people issues, including education and training, compensation; internal communication; and external, shareholder communication. The movement to IFRS also will impact employees outside finance and accounting, many of whom will be needed to assist in transaction analysis. As a result, those outside accounting will need education and training. Finally, IFRS is not just about ‘corporate office’. Companies will need to ‘push down’ IFRS reporting to local subsidiaries. This may involve new reporting processes and group-wide internal control considerations. Finance executives will need to balance decision-making at a corporate level and empower business units.
FW: To what extent are we likely to see complete harmonisation of accounting processes around the world? Is this achievable?
Venkateshwaran: Harmonisation of accounting, or any, process is characterised by challenges and unstable results which take time and effort to stabilise. It is therefore more likely that ‘complete harmonisation’ will take its own course and be largely dependent on various factors – the most important being political will in each jurisdiction. In the past and as recently as in the G20 summit held in Toronto, Canada in June 2010, harmonisation of accounting processes has been reiterated again by political leaders and they have ‘re-emphasised the importance of achieving a single set of high quality improved global accounting standards’. The G20 summit has urged the International Accounting Standards Board and the Financial Accounting Standards Board to increase their efforts to complete their convergence project by the end of 2011. IASB is looking again at its processes and is more likely to heed to the request of global leaders to further improve the involvement of stakeholders, including outreach to emerging market economies. Another critical factor should be absence of political interference in the standard setting process. In summary, harmonisation of the accounting processes is achievable in the long term with focused and sustained efforts from standard setters coupled with political impetus.
Gannon: The movement toward a single global standard has been difficult, but will continue. This year more countries will incorporate IFRS as part of their reporting framework. There are some who still question the movement to a single set of global accounting and financial reporting standards – whether it is desirable or even possible. But for most I think the discussion has now moved to ‘how do we deal with this trend?’ The bigger picture is that the global financial reporting environment continues to evolve. The movement toward a single global standard – IFRS – is impacting how accounting and financial reporting standards are developed, written and applied. Ultimately, this means having a global perspective, with an increased focus on transparency.
Wax: I think that we are very likely to see harmonisation in some form and believe it is certainly achievable and worth striving towards. My only concern with convergence is that so much will be changed that the resulting standards will not be meaningful. There are some fairly fundamental differences between US GAAP and IFRS, for example in the area of hedge accounting, on which greater progress needs to be made. It is frustrating that the process is taking a long time but it will be worth it if, as Mary Schapiro says, ‘the time is being well invested’.
Simon Wax is a director at Buzzacott LLP and works in the Corporate & Business Services team. He specialises in auditing global listed groups, as well as UK private companies, predominately in the media and technology sectors. He also performs financial due diligence work in respect of corporate transactions including acquisitions and financing. Mr Wax has 12 years experience and has both advised and performed numerous IFRS conversion projects. Before joining Buzzacott LLP in 2008, he worked for BDO LLP for 10 years in both the audit and corporate finance departments. During his time at BDO, he was seconded to the Royal Bank of Scotland where he provided accounting and technical advice on commercial transactions. Mr Wax is one of Buzzacott’s contacts for IGAF Worldwide, the global association of accounting firms. He can be contacted on +44 (0)20 7556 1231 or by email: firstname.lastname@example.org. For more information visit www.buzzacott.co.uk.
D.J. Gannon is a partner with Deloitte & Touche LLP where he specialises in global accounting and financial reporting, as well as, global regulatory and professional issues. Mr Gannon leads the firm’s IFRS regulatory and public policy efforts in the United States. He is the firm’s IFRS thought leader and is active in speaking and writing on a variety of global financial reporting topics. He also is a leader in the US accounting profession serving on or chairing various committees involving international financial reporting issues and IFRS. Mr Gannon can be contacted on +1 (202) 220 2110 or by email: email@example.com. For more information visit www.deloitte.com.
Sai Venkateshwaran is a partner in Grant Thornton’s Assurance practice and is based in Mumbai. He is also the firm’s IFRS Practice Leader. Mr Venkateshwaran is a Chartered Accountant from the Institute of Chartered Accountants in India and has over 14 years experience in public accounting and has advised a number of Indian and multinational companies on various engagements involving assurance services, accounting advisory services, business process reviews, due diligence reviews, etc. Over the last five years, he has been instrumental in building the accounting advisory services practice of the firm, with a special focus on IFRS. Mr Venkateshwaran is a regular speaker at seminars and conferences on topics related to his areas of expertise. He is also a member of the National Advisory Committee on Accounting Standards (NACAS) constituted by the Ministry of Corporate Affairs, Govt. of India. He also plays an active role in technical matters within the firm and the Grant Thornton International network and is currently a member of Grant Thornton International’s IFRS Interpretations Group, which supports and facilitates the application of IFRS by member firms across the world. Mr Venkateshwaran can be contacted on +91 22 6626 2629 or by email: Sai.Venkateshwaran@wcgt.in. For more information visit www.wcgt.in.
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