Don’t Delay IFRS Prep! Convergence Around the Corner

So the Securities and Exchange Commission has finally proposed pushing U.S. companies to use International Financial Reporting Standards by 2016.

Think you have time to procrastinate for the IFRS mandate likely to arrive sooner or later? Think again.

Patrisso

Yes, the SEC hasn’t even published the text of its proposing release yet. And even for large accelerated filers in the United States, the first waves of IFRS compliance wouldn’t hit annual financial statements until 2012. Still, that’s not a lot of time to make the switch “thoughtfully and strategically,” says Janice Patrisso, director of KPMG’s IFRS Institute.

As sketched out at the SEC’s Aug. 27 meeting, domestic accelerated filers would switch to IFRS in 2014; since companies need to provide comparable financial data for the prior two years, that means preparing data in IFRS as early as 2012. For that reason, observers say, even as the financial reporting community awaits details of the proposed roadmap, domestic companies of all sizes should be thinking about what the SEC proposal means for their organization. (Assuming adoption goes well with the large filers, smaller companies would follow suit in the next two years, and all U.S. registrants would be filing in IFRS by 2016.)

Wright

“Regardless of where they might fit in that timeline, companies should do some preliminary investigatory work on the effects of IFRS adoption on their people, processes and technology,” says Chris Wright, a managing director and global IFRS leader at the consulting firm Protiviti.

Wright says companies can start by taking a “diagnostic” look at their financial statements to figure out what would have to change—and when—if IFRS is permitted or required for U.S. issuers.

That early self-exam is something “just about any company can do with a relatively minimal investment now,” in a matter of weeks, agrees Todd Markus of the consulting firm Accretive Solutions.

Even for smaller companies, Wright says there’s little risk that effort would be wasted even if the SEC stalled its plans, since an agreement between the Financial Accounting Standards Board and the International Accounting Standards Board calls for the convergence in several major areas of IFRS and U.S. Generally Accepted Accounting Principles by 2011.

For most companies, IFRS implementation will take three to five years, says D.J. Gannon, head of the U.S. IFRS practice at Deloitte. “What’s urgent today is figuring out what this all means for your company timeline-wise,” he says. Even non-accelerated filers, “while the urgency for them isn’t as great, they still need to understand where we’re headed in terms of the financial reporting structure in the U.S.”

Gannon

Even those with operations in just one or two countries or those that are U.S.-focused can benefit from the more principles-based approach of IFRS, Gannon says. “I think smaller business issuers, once they understand what IFRS is about, will be pleasantly surprised. We’re talking about simplifying accounting.” Many of the complexities in current U.S. accounting rules “go away under IFRS,” he says.

Jumping the Gun

For other companies hoping to adopt early, the clock is already ticking. The SEC has proposed early adoption for a select group of very large U.S. companies, where IFRS accounting is already the norm in their industries. Those companies could be allowed to use IFRS for fiscal years ending on or after Dec. 15, 2009, assuming they can prove their eligibility and secure a no-objection letter from the SEC’s Division of Corporation Finance.

In considering early adoption, Patrisso says companies should determine whether they can recreate the required prior years’ financial data under IFRS in the year they adopt. For example, an eligible U.S. company that opts to file its 2010 annual report in IFRS would need to prepare its 2008 and 2009 reports in IFRS.

Since that’s a “relatively tight timeline,” even for some large companies, Gannon says some companies may stall adoption until 2012 or 2013.

Another consideration is a company’s global footprint. The more foreign subsidiaries a company has already using IFRS, “the more motivation it has to report under IFRS,” Patrisso says. Others that might benefit from early adoption include companies with competitors using IFRS; those for whom IFRS could streamline financial reporting processes; and companies looking to raise capital or make cross-border acquisitions.

PAVING THE ROAD

The following excerpt from Chairman Cox’s Speech on the IFRS Roadmap discusses four significant principles to seeing the process through.

The world’s capital markets have long searched for a single set of high quality accounting standards that could be used anywhere on earth. An international language of disclosure and transparency would significantly improve investor confidence in global capital markets. Investors could more easily compare issuers’ disclosures, regardless of what country or jurisdiction they came from. They could more easily weigh investment opportunities in their own countries against competing opportunities in other markets. And a single set of high-quality standards would be a great boon to emerging markets, because investors could have greater confidence in the transparency of financial reporting.

Today, all of Europe and nearly 100 countries around the world require or permit the use of IFRS, and many more are on the verge of doing so. And yet the increased use of IFRS around the world is a fairly recent phenomenon. The majority of companies that are currently reporting financial results based on IFRS have only been doing so for a few years. This relatively limited history is an important reason that the U.S. needs to continue to support the work of the International Accounting Standards Board, and the foundation that oversees it — the International Accounting Standards Committee Foundation. In order for IFRS to fulfill the promise it holds to be a uniter of the world’s capital markets and a powerful tool for investors everywhere, there are a handful of principles that are critical to its success. The Roadmap we are proposing today is aimed in significant part at seeing to it that these principles are applied.

The first key success factor for IFRS is that the standards be crafted in the interest of investors. That has to be their overarching purpose.

The second is that the standard setting process be transparent. That is essential not only to maintain investor confidence, but to ensure the integrity and quality of the standards.

The third is that the standard setter must be independent. That means independent from special pleaders, from the political process, from favored industries or industry players, and from national or regional biases.

Fourth, the standard setter must be accountable. This means ensuring that IFRS actually meet the needs of investors and other stakeholders, and that they are updated in a timely way.

And fifth and finally, it is vitally important that all of the stakeholders themselves participate in the standard setting process in order to ensure the continued success of IFRS.

This focus on the investor’s interest in global comparability also underlies the Roadmap's support for eXtensible Business Reporting Language in IFRS reports. In the same way that IFRS might someday soon make financial statements understandable to investors anywhere on earth, the 30 different spoken languages that will someday soon be embedded in XBRL data tags attached to public company financial statements could let any investor read an IFRS financial statement from any country in his or her own native language.

Source

Christopher Cox on IFRS Roadmap (Aug. 27, 2008).

A first step in assessing how IFRS might affect a company is to analyze the differences in policies and disclosure requirements between U.S. GAAP and IFRS—something companies can and should do now, if they haven’t already started.

That means “starting with their 10-K and footnote disclosures and drilling down,” Patrisso says. “As they get into the details, companies may find there are more differences than they thought.”

From there, the approach to adoption that a company chooses will drive the systems, processes, and control changes required, Patrisso says. Those who take a “clean slate” approach to adopting IFRS may need to make larger changes than those that try to minimize the differences between U.S. GAAP and IFRS.

Into the Guts of Adoption

Markus warns that the accounting analysis is only the start. “Much of the heavy lifting will be to take those changes and push them through the organization,” he says.

Gannon agrees. Most companies already have a sense of the major accounting differences IFRS would mean for them, he says. “The difficult piece is to take those differences and turn them into reality in terms of new policies. That’s where a lot of time will be spent,” he says.

Companies might see lower costs in the short-term by making changes at the corporate level, either through manual reconciliation or some type of custom reporting, Markus says. The downside to that approach, however, is a higher risk of error—and “it probably isn’t sustainable over the long run,” he adds.

Reconciling GAAP and IFRS on top of an existing accounting system may work in a dual-reporting environment, Markus says, but it “doesn’t make a lot of sense as a long-term strategy, when U.S. GAAP is no longer relevant.”

Markus

Since companies will need to capture different data to support the new accounting policies, a move to IFRS will also have a major effect on information systems. For example, Markus says, while U.S. companies expense all research and development costs, under IFRS, companies must capitalize development costs. “Most U.S. companies’ systems aren’t structured to do that right now,” he says.

Another issue is the LIFO inventory method, which is permitted under U.S. GAAP, but not under IFRS. “Making the changes to a new valuation method for inventory may be a fairly significant project by itself,” Markus warns.

Changes to enterprise resource planning, internal controls, and cash management systems may also be required, and companies might need to renegotiate business contracts and debt agreements and adjust their tax reporting and planning. Even the way employees are compensated and the way companies fund their pensions could be affected.

“Every aspect of a company’s business is impacted in some way,” says Gannon.

Employee training will also be crucial. Personnel beyond the finance department will need training on the new processes and policies, including investor relations, operations staff, internal audit, and any other groups that test company controls. Senior management, board members, investors, vendors, and analysts will also need to be educated.

For that reason, experts say a move to IFRS is also a major change management exercise. It requires “having the right teams” with the right skills in place, Patrisso says. The timing of that training is also an issue. Companies can’t train employees too early in process, she says, because “if they don’t use it, they’ll forget it.”