Technical
2 Jul 2012 08:48am

Setting the standard: accepting IFRS

Universal international reporting standards have been in the making since the 1960s. But, asks Gavin Hinks, will they ever be universally accepted?

Globalisation has not left accountancy behind. Accounting standards have been at the heart of the movement with the development of international financial reporting standards (IFRS). The standards have spread far and wide – though not yet everywhere. Their development has involved experts, accountants, regulators and political will across the world from some of the world’s most developed trading nations to some of its most dynamic emerging economies.

After decades of talk, development and huge progress, the project for a single system of accounting standards is approaching a milestone. The US is on the brink of coming on board, yet the world’s biggest economy is still to take the final step, along with a small number of other major states including India and Japan.

Prickly arguments drag on over the role of international standards in the financial crisis, especially in their application by banks, and around the world various countries continue to harbour irritation with a collection of individual standards.

Big questions remain over what happens next. The world’s accountants are getting used to IFRS but how should the quality and integrity of the standards be maintained over the longer term? And how will the International Accounting Standards Board (IASB) shore up its authority as global standard setter?

Andrew Gambier, technical manager with ICAEW, says, “We are not uncritical cheerleaders of the IASB or even for IFRS. But we think there is a public interest in a single set of reporting standards. Therefore we want the project to succeed.”

50 YEARS IN THE MAKING

The campaign to create a set of accounting standards for international use goes back as far as the early 1960s. The work only gained substance, however, with the creation of the International Accounting Standards Committee (IASC) by eight leading countries in 1973. This marked the start of three decades of discussion and development. There was much collaboration but it was largely only countries without their own standard-setting resource that took up the offer of standards being produced. That is until the noughties.

In 2001 the work of the IASC was taken over by the IASB, which had a remit to develop IFRS. But the tipping point came the following year when Brussels announced that as of 2005 companies listed in the European Union would have to report using IFRS. Until this point a single set of standards was the arcane passion of accountants and regulators who saw the post-war acceleration of globalisation. In Europe IFRS received a political push from rulemakers eager to see the harmonisation of standards across the Europe Union.

GATHERING MOMENTUM

The number of countries committed to using IFRS has now risen to 120, either to fully adopt or incorporate international standards into their local reporting requirements. The UK along with all the major European countries has been using IFRS for seven years, China is converging and recent additions to the ever-growing membership of users include Russia, Mexico, Argentina, Brazil and South Korea, with Malaysia due to join soon.

In short, IFRS have enormous momentum. Distant parts of the world have committed themselves to them and most professionals see the standards as a done deal, unlikely to be derailed.

More recently the campaign received an additional political spur when international standards were shoved centre stage in the reaction to the financial crisis. In November 2008, after a meeting of the G20 to discuss a coordinated reaction to the credit crunch, the world’s top economies unveiled the Washington action plan and its five principles for reform. At the head of these was strengthened transparency and accountability, which included a series of steps to improve accounting, especially for financial instruments – the asset class that did so much to bring the economic system to the brink of disaster.

More importantly, however, the plan effectively offered an emphatic political endorsement of IFRS in its declaration that “the key global accounting standards bodies should work intensively toward the objective of creating a single high-quality global standard”. Suddenly an IFRS regime was no longer an arcane pursuit. It was at the centre of efforts to make the world’s financial system a more secure place to do business. However, if the world is to have a single set of standards the US should be involved. Indeed American accountants have been working on helping develop such a project for years and the nation has committed considerable resources to its own project to converge with IFRS.

There is widespread support for IFRS. A PwC survey of US executives revealed that 70% believe international standards would bring about “increased global comparability of results”, while more than 60% believe the US will require mandatory use of IFRS. And yet the country has still not made a firm decision on whether it will throw its weight behind IFRS.

Expectations were that the Securities and Exchange Commission (SEC), the US financial watchdog, would make a decision in 2011. But the timetable was knocked off course by work on the raft of regulatory measures contained in the 2010 Dodd Frank Act. A decision had been expected in the first half of this year, but there remains a possibility that regardless of the SEC’s recommendations a decision could be postponed until after the presidential election in November.

Not everyone is fretting over the delay. The more time spent on the project the better, according to Aaron Anderson, director of IFRS policy and implementation at IBM. “We can’t just issue standards that might work,” he argues.

Anderson believes the SEC is looking for assurances that there are proper mechanisms in place that will ensure the continuing independence and quality of IFRS.

Greenlighting IFRS for the US therefore involves some big decisions for regulators and policymakers in Washington. There is still wrangling to be resolved over the content of particular standards and then there’s the political question of how the US will go about adopting IFRS.

 
In March the SEC’s chief accountant Jim Kroeker told a London meeting that his preference was for what is termed an endorsement model. This would mean that as each new international standard appeared it would be reviewed by US standard setter the Financial Accounting Standards Board (FASB) and either endorsed or respectfully rejected. Such an attitude would be in contrast to countries such as Russia or Brazil, which have chosen to opt for the full array of international standards as a ready-made solution to their accounting needs. Similarly, China has decided to adapt its own standards to be more like IFRS.

The most ticklish subject is that of valuing financial instuments and the way banks account for losses on loans. This goes right to the heart
of the financial crisis

Gavin Hinks

Whatever the US decides to do will partly depend on how a small collection of standards in progress work out – these include work on leasing, revenue recognition, financial instruments and insurance.

Insurance, which is new work, is unlikely to affect US decision-making. Progress on revenue recognition is advanced, with the IASB and FASB expected to conclude their work later this year. Leasing has proved tricky because it involves a proposal to bring operating leases on to the balance sheet as if they were finance leases. This has airlines up in arms as it means lease payments are treated like loan repayments for the purchase of the aircraft. The plane goes on to the balance sheet as an asset and the lease payments are recognised as an uncomfortable liability. The two bodies recently annoucned a consultation on adopting a two-model approach.

But the most ticklish subject is that of valuing financial instruments and in particular the way banks account for losses on loans. This goes to the heart of the financial crisis, though the issue has been the cause of divisions in Europe since well before the crunch. The issue was placed at the heart of regulatory recovery proposals by the G20’s Washington plan and has proved controversial. The choice is whether losses on loans should be booked when there is evidence of a loss or when they can be reliably anticipated as an expected loss. In London, Kroeker indicated that more progress on this issue would make it easier for the US to make a decision.

COLD FEET ELSEWHERE

The US is not entirely alone in its reticence. India was heading for adoption but announced a delay and has since given little word on when international standards will be back on the agenda. Japan is also expected to sign on this year but observers believe it will wait to see what decision the US makes.

Meanwhile, Britain has already made its decision – or rather Brussels made it – so UK companies have been wrestling with IFRS since the go-live date back in 2005.

And yet last year anti-IFRS sentiment resurfaced in the UK. There had been some background noise scorning the standards for some time but it eventually found full voice last spring when the House of Lords economic affairs committee reported on their investigation of the crisis. Their lordships attacked IFRS emphatically, claiming the standards were “an inferior system which offers less assurance” that did not allow auditors to “exercise prudent judgement”.

Inside the IASB the declaration was greeted with irritation and surprise. But the attacks have continued into this year and the “prudence” claim has converted into further opposition – this time from institutional investor consultancy PIRC. It says shareholders should oppose the approval of bank audits because IFRS fails to embody the accounting principle that accounts should represent a “true and fair” view. And, it says, as a result of that IFRS is at odds with UK corporate law, which demands that accounts be just that – true and fair. “It is essential that the accounts, irrespective of the standards, reconnect with the law. That can only be achieved by understanding that it is the law
that is rational, and the standards that are defective,” a spokesman for PIRC says.

Insiders at the IASB say they are confident of their position while many practitioners remain perplexed by the claim. Peter Holgate, senior technical partner at PwC, says the IFRS principle that accounts should “fairly represent” the financial position of a company is the equivalent of a “true and fair” view. “It’s very clear that in virtually all cases compliance with IFRS gives a true and fair view as required by the UK Companies Act,” he says.

The House of Lords demands that the government reassert the role of true and fair but also attacks the IFRS regime for the way it allows financial assets to be valued using the incurred loss model. The standard setter is already trying to fix accounting for financial assets and has

The IASB's future is linked to whether IFRS have a future

Veronica Poole

made good progress, according to Gambier, but the true and fair claim is set to run and run – especially if, as some observers suggest, the European Commission becomes involved. What worries many is that the UK row could deter other countries from getting into bed with international standards. One senior accountant told economia: “Unfortunately, they have some potential to disrupt the project.”

WHAT THE FUTURE HOLDS

As unsettling as the UK row may be, senior figures at the IASB have already turned their attention to the board’s future work.

In March, Hans Hoogervorst, chairman of the IASB, told an audience in Mexico that he believed it was time to formalise its relationship with standard setters and financial regulators around the world. He said, “The formalisation of this network will greatly assist our global standard-setting activities by binding in national and regional standard setting bodies more closely and earlier on in the standard setting process.”

 
Depending on what these “formal” arrangements mean, this could transform the status of the IASB from a group of distant counsellors whose advice can be embraced or passed over to a body that is much harder to ignore. Some believe Hoogervorst’s comments mean he is searching for some form of agreement that will give the IASB a similar status to the World Bank.

Veronica Poole, global managing director for IFRS at Deloitte, says such a move would give the IASB buy-in at a point that would mean it could not be held hostage by any single country that might demand concessions in return for a switch to international standards. “The IASB’s future is linked to whether IFRS have a future,” she says. “There has to be recognition of the fact that the IASB has to find different ways of working and getting international buy-in.”

 

Standard learning

In May ICAEW published the results of its first ever diploma in IFRS. The programme builds on the certificate level to create a deeper understanding of the international standards in addition to the knowledge to provide informed business advice. Some 30% of those
who registered for the distance learning course were based outside the UK, including students from Brazil, the US, Australia, Greece, Portugal, China, Nigeria and Cyprus. In the September and January rounds of exams, the overseas intake is expected to be as high
as 50%.

 

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