Manufacturing articles
How International Financial Reporting Standards can Enhance Access to Capital
Author: Carlo Mariglia, Duane Rogers
Date: June 2010
Publication: Canadian PLANT
International Financial Reporting Standards (IFRS).
Unless you operate a public company, these words may not mean much to you right now.
But they will.
More than 110 countries are now using IFRS and virtually all of the world’s major countries are expected to do so within the next couple of years. With post-conversion benefits now becoming apparent, more private companies are also likely to adopt these standards. Not only do IFRS yield standardized financial reporting worldwide, but these standards increase opportunities to access capital because they allow easier benchmarking of financial performance among organizations competing in the global marketplace.
In order to understand how these advantages work, however, it’s important to understand how IFRS work. This single set of comparable reporting standards establishes how a company should report certain transactions in financial statements. IFRS are issued by the International Accounting Standards Board and are being adopted by national accounting standards setters worldwide as the economy grows increasingly global. A single set of standards eliminates the need to reconcile information reported under different national standards and provides business leaders and investors with consistent information for decision making.
IFRS will replace current Canadian generally accepted accounting principles (GAAP) for most “publicly accountable enterprises”1 by January 1, 2011. The first quarterly statements impacted will be the three months ending March 31, 2011 and the first annual financial statements impacted by the conversion will therefore be those of December 31, 2011.
Canadian GAAP and IFRS are based on similar principles-based concepts rather than rules-based concepts as is US GAAP. While this helps to address the reality of business transactions today, this type of system relies to a greater extent on the professional judgment of those applying the standards, thus more disclosures are required.
Conceptually, IFRS and Canadian GAAP are very similar. There are, however, significant differences in the details, which vary widely by industry and enterprise. Manufacturers, for example, would likely note some of the following key differences when it comes to the treatment of property, plant and equipment.
- Under Canadian GAAP properties held for rental or capital appreciation are treated the same as property, plant and equipment, whereas IFRS accounts for this separately.
- Both Canadian GAAP and IFRS require property, plant and equipment to be recorded at historical cost, however there are different requirements for which expenditures are included or excluded.
- IFRS permits an entity to record property plant and equipment at a revalued (fair value) amount, something generally prohibited under Canadian GAAP.
Other significant changes relate to impairment of non-financial assets such as fixed assets and goodwill. IFRS, unlike Canadian GAAP, requires companies to reverse previous impairment write-downs, other than for goodwill, if the conditions that caused the impairment no longer exist. This could make net income more volatile.
As well, mergers and acquisitions would be impacted by different business combinations rules. For example, under GAAP, the portion of assets and liabilities a purchaser acquires would be reported at fair value and the remainder at book value. IFRS reports acquired assets and liabilities at 100 per cent of their fair value, even if a purchaser acquires less than 100 per cent of the business. The purchaser would also expense costs related to the acquisition. Canadian GAAP includes these costs in goodwill. As well, when the fair value of acquired assets exceeds the fair value of the consideration paid, the difference would be included in income. This has the potential to increase the value of assets, because under Canadian GAAP, any discount on acquisition would be proportionately offset against the value of assets purchased.
Private enterprises must decide whether to adopt IFRS or new “made in Canada” standards for years beginning on or after January 1, 2011. Canada’s Accounting Standards Board has issued Accounting Standards for Private Enterprises, or ASPEs. These have been designed to simplify the recognition, measurement and presentation of information and to reduce disclosure requirements.
Yet for companies that want to be effective global competitors, IFRS tend to be more appealing. And there are other compelling reasons why private enterprises may wish to opt for IFRS rather than ASPEs.
- An initial public offering may be planned
- To benchmark results against public company competitors using IFRS
- Major customers or suppliers have adopted IFRS
- A potential sale to a purchaser or investor who requires IFRS reporting
- To participate in common financial reporting when the company is a subsidiary of a foreign company that uses IFRS
- To create a common financial reporting system when the company has foreign subsidiaries already reporting under IFRS
While short-term IFRS conversion costs may be significant, longer term benefits can quickly outpace these. Ultimately, adopting IFRS rather than ASPEs can be more cost effective because they eliminate the need for expensive reconciliations when dealing with foreign markets – while also streamlining internal processes. Before undertaking IFRS conversion, however, management should conduct a thorough cost-benefit assessment to determine whether adopting IFRS will return the investment. Following are some of the considerations.
- Determine whether significant financing opportunities require IFRS financial reporting.
- Identify the organizations within your industry sector that are, or intend to, report under IFRS; consider whether the financial performance of your organization would benefit from comparisons with these organizations.
- Identify information gaps between current accounting practices and those of IFRS and the required changes to financial reporting and controls.
- Determine potential organizational impacts; IFRS can impact policies, systems, processes, technology, controls, human resources, performance indicators, taxes, governance.
- Assess business impacts, such as how contracts might be affected.
- Determine the resources required for implementation.
In order to better understand the challenges and successes of IFRS conversion, last fall BDO conducted interviews2 with CFOs of 22 companies based in the European Union. BDO wanted to know more about their recent experiences with IFRS adoption and what advice they had for others contemplating conversion. One respondent in particular was emphatic with his suggestion: “This is a once in a lifetime opportunity for you to re-look at your accounting policies. If you plan ahead, you will be able to be proactive and get the accounting policies that best fit your organization. Don’t leave it late like we did …We lost an opportunity by not planning accordingly.”
Any organization competing internationally should carefully weigh the advantages and disadvantages of IFRS conversion. This could be an ideal opportunity to enhance access to capital and to acquire a competitive edge – vital advantages in today’s global marketplace.
Carlo Mariglia is a partner and Duane Rogers is a senior manager in the national risk consulting and advisory services practice of BDO Canada LLP. You can reach Carlo in the Toronto office (cmariglia@bdo.ca, 416-865-0200) and Duane in the Calgary office (drogers@bdo.ca, 403 205 4342).
