Publicly traded companies in the United Kingdom have just about come to grips with their transition to International Financial Reporting Standards, a new survey suggests, but they still see few benefits to the move, and some still have major concerns.
Most of the companies in the study had produced their second set of results under IFRS and regarded the new regime as business as usual, according to PricewaterhouseCoopers, which published the survey. The report is titled, “Has the Dust Settled Yet?” and the answer seems to be yes … mostly.
“Companies have come through the conversion process successfully, and they are now feeling more comfortable with the new standards,” says Ian Dilks, IFRS conversions leader at the firm. “However, there are still obvious concerns about the overall benefit of IFRS.”
Only one-fifth of survey respondents said the move to IFRS had been good for their companies; one-third said it had not. The new regime is supposed to help capital markets, too, but the majority didn’t think that the information provided to investors had improved. Indeed, more than half felt investors did not have a good understanding of their IFRS numbers.
Does that mean the IFRS project has failed for British corporations? They were never likely to benefit in the same way as companies from other countries, Dilks argues; the potential winners from IFRS are the businesses from countries that had weak national reporting standards. Under IFRS, investors will have more faith in their numbers and should understand them more easily. But U.K. companies already reported in line with a good set of standards. And while some of the new international standards surpass British ones, “some are frankly not as good,” Dilks argues.
One frequent complaint from British financial reporting executives is that IFRS contains too many rules and requires too much disclosure, says Dilks. For example, International Accounting Standard No. 39, Financial Instruments: Recognition and Measurement, is based on the simple principle that assets should be marked to market—but it runs to 270 pages to include all the exceptions to that general principle. That shift from principles to rules runs against the grain of U.K. financial reporting traditions. “There is a need for simplification generally to allow people to work out what the principles are and how to apply them to their circumstances,” he says.
Disclosure should be simplified too, Dilks says. The International Accounting Standard Board, which oversees IFRS, is working on a project to ease the disclosure burden on small and medium-sized companies; Dilks wants that review extended to all companies. For example, the old U.K. standards allowed wholly owned subsidiaries of listed companies to disclose less information than their parents, but the IFRS regime does not. “In some groups, if you apply IFRS across the group, you are repeating time and time again an awful lot of detailed disclosure,” he says. “The disclosure is probably too much in the first place, and if you have to keep repeating it, that is a major job.”
And Dilks gives another reason why U.K. companies are lukewarm about IFRS: Prior to IFRS’ arrival, British companies reported in line with British standards, produced by a British organization that listened to corporate concerns. That has all changed.
“The standards are now set by a body which happens to be based in London, but which is an international body and sets its standards by reference to the needs of the international business community,” says Dilks. It has to listen to views from across Europe and from around the world.
Countries as diverse as Canada and Korea now use IFRS. China wants to adopt it, and even the United States says it may give companies the choice of reporting in IFRS sometime soon. “Within the next few years the standards are going to be used by pretty much every major economy in the world,” Dilks says. “While the U.K. has some influence, it is very much less. At an emotional level, that’s caught a lot of people by surprise. They are still adjusting.”
Ken Lever, the finance director at Tomkins, a listed engineering company, is chairman of the Financial Reporting Committee of the 100 Group of Finance Directors, an important lobby group. He agrees that the British business community has lost some of its influence over standards setting. “They are trying to produce standards for 100 different countries, all of which have their own interest groups, so it’s inevitable that some people’s wishes will not be reflected,” he says.
But Lever says the 100 Group has a “very good” relationship with the IASB. He meets its chairman, Sir David Tweedie, every quarter; the IASB attends Lever’s committee of finance directors twice a year, and members liaise with IASB staff on projects. “It’s not as if they aren’t listening to what’s being said,” he says.
That doesn’t mean Lever is any more sanguine about the value of the IFRS transition. “I don’t think it’s benefited us at all, to be honest,” he says. If it leads to greater market transparency, makes it easier for investors to compare companies, and consequently reduces the cost of capital, Tomkins will benefit, he says. “But I think it’s very unclear whether that’s what will happen.”
Do you think that the introduction of IFRS has had a positive effect on the quality of financial reporting?
PWC Survey On IFRS (June 2007)
One problem, Lever says, is that the information his company publishes under IFRS has become disconnected from the information that management uses to run the business. Internally, the company’s numbers are based on profit and cash flow. When published, they have to be adjusted to meet IFRS requirements that Lever argues are often theoretical.
“It’s a special process outside the management reporting process,” he says. “We don’t really use the information that is then published externally.” Investors don’t show much interest in it either, he believes. He makes what he calls “non-GAAP adjustments” when talking to investors—essentially, taking the numbers the company has published under IFRS and turning them into something investors are familiar with.
“If that is what investors want to see and what management wants to present, it does raise questions about the relevance of the information that’s currently being produced under IFRS,” he says.
Speaking for the IASB, board member Jan Engstrom accepts that some of its standards are “enormously complex.” He says the Board has created a working group to look at simplifying IAS 39 and it expects to publish a discussion paper by early next year. (A potentially ominous sign: The current version of the standard took 12 years to agree.)
“When we make new standards, we try to make them principles based, but we have to accept that a lot of people like to have detail. It’s a difficult balance,” Engstrom says. For example, he recently suggested removing some of the disclosure requirements contained in IFRS No. 3, Business Combinations, but analysts said they were important and should stay—and they did.
IASB hopes its standards can contain fewer detailed rules in the future, and Engstrom says the project to develop a simpler set of IFRS for smaller companies should provide ideas about how to do this.
It is also working on an interesting experiment. IASB staff have just written a dummy standard about insurance accounting that Engstrom calls an ideal model of a principles-based standard. They sent it to the big accounting firms to see whether they think it can be audited: “Will they be able to cope with a pure principles-based standard?” he asks. Next they will circulate it to regulatory bodies for their view.
Initial reactions? “It’s much too early to say,” he says. “It’s a shot in the dark. We are working on the topic, but we don’t have any quick solutions.”
Nevertheless, Engstrom is convinced that the U.K. business community will come to view IFRS in a better light. “Change is always troublesome,” he says, “but I am absolutely convinced that with a medium-term perspective their attractiveness will improve.”