1 January 1970Cayman analysis

Destination-- IFRS convergence

Where are we now?

On July 13, 2012, the office of the chief accountant of the Securities and Exchange Commission (SEC) issued its final staff report on the Work Plan for the Consideration of Incorporating IFRS into the Financial Reporting System for US issuers. The summary findings of the Work Plan discussed the following:

1. The International Financial Reporting Standards (IFRS) and US Generally Accepted Accounting Principles (US GAAP) contain areas that are underdeveloped (IFRS: extractive industries, insurance, rate-regulated industries; US GAAP: push-down accounting, government grants). The perception among US constituents is that the ‘gap’ in IFRS is greater;

2. There should be more interaction between the International Accounting Standards Board (IASB) and national standard setters, who could assist with projects for which they have expertise;

3. In its review of the consistency in the application of IFRS across financial statements, the SEC staff noted that while the financial statements generally appeared to comply with IFRS, global application of IFRS could be improved to narrow diversity;

4. As it relates to considering the needs of US investors and the US capital markets, the SEC staff believe that it may be necessary to put in place mechanisms specifically to consider and protect the US capital markets—for example, maintaining an active Financial Accounting Standards Board (FASB) to endorse IFRS; and

5. The SEC staff’s most significant concern about the funding approach is the continued reliance on the large public accounting firms to provide funds to the IASB.

How many more miles to the final destination?

Believe it or not, 2011 was the timeline set for IFRS adoption in the US. The lack of an endorsement for IFRS and the absence of a new timeline for an SEC decision in the final report noted above leaves the question ‘are we there yet?’ unanswered. Has the journey stopped?—no—but as with the economy, progress has slowed. Some recently completed projects that have seen almost identical requirements under IFRS and US GAAP include: disclosures on offsetting financial assets and financial liabilities, disclosure of other comprehensive income and fair value measurement.

The IASB and the FASB continue to work together in addressing some of the major differences between IFRS and US GAAP, with an IFRS on Revenue Recognition and an exposure draft on Insurance Contracts targeted for Q2 of 2013. However, there continue to be divergent views on leases, financial instruments and insurance contracts.

The plan

Many countries already require or permit IFRS for financial reporting purposes and many more are in the process of converging. As a result, many US multinational companies are already dealing with IFRS in their foreign subsidiaries. Therefore, where IFRS is being adopted by US foreign subsidiaries, the parent companies in the US need to ensure they have input into the accounting policy elections under IFRS (upon adoption). Selection decisions usually cannot be undone for reporting purposes, unless the change results in more relevant and reliable information and simplifies group reporting where there is consistency in policy throughout the group.

"Where IFRS is being adopted by US foreign subsidiaries, the parent companies in the US need to ensure they have input into the accounting policy elections under IFRS (upon adoption)."

If IFRS is incorporated into the US accounting framework, taking a centralised approach to IFRS reporting could potentially create significant cost savings for companies with many subsidiaries. For example, companies may want to think about shared service centres to consolidate back office functions such as financial reporting. It is also an ideal opportunity to streamline and enhance business processes, simplify policies and take advantage of changes in the IT environment. This may, however, have the opposite effect of an additional cost burden for smaller companies that are not able to tap into these economies of scale.

As companies look to upgrade their systems infrastructure, they should carefully consider whether the new systems infrastructure complies with measurement and disclosure requirements under the proposed convergence standards or under IFRS. Depending on the final method selected to incorporate IFRS into the US accounting framework, companies may need the ability for their systems to handle dual reporting requirements during a transition period.

Tax considerations may also require dual reporting. Identifying potential gaps in data will allow companies to design systems that deliver the necessary information in an efficient and timely manner. In addition, internal control (especially resulting from Sarbanes-Oxley requirements for public companies) is important. Companies need to ensure that appropriate internal controls over financial reporting are in place—‘spreadsheet conversions’ are not likely to comply.

Converging to, or adopting, IFRS will have an impact on long-term contracts and financial agreements. For example, a company’s debt covenants might specify a certain debt:equity ratio, which may change once the company applies new US standards or adopts IFRS, therefore making it necessary for the company to renegotiate or seek modifications to its debt agreements.

What action should be taken?

We recommend the process be split into four phases:Impact assessment, design and planning, implementation and embedding processes. There is a certain amount of overlap between some of the phases. Also it is worth noting that some form of training will be required throughout each stage.

It is important to remember that, on convergence or adoption of IFRS, companies should not only focus on the finance teams for a successful transition but also involve the tax, systems (including business processes and systems), regulatory, human resources and training teams from the beginning of the project. A convergence or conversion project is the ideal opportunity to streamline the organisational structure by eliminating entities that are no longer needed, to plan new tax-efficient strategies and to work with the systems teams to ensure that systems infrastructure is amended to cater for the production of information under the new requirements. You should also ensure that a plan is in place for staff to understand the new requirements under the new standards.

The G20 leaders continue to support the establishment of an international set of accounting standards and, with the continued acceptance of IFRS globally, the IASB appears to be the front-runner for the position of global accounting standard setter. It is our opinion that over the next year (and until the dust surrounding the US presidential election settles) the issue of incorporating IFRS into the US will be on the back burner and the question passengers on this project need to ask is: ‘what comes next and when do we start planning?’.

Ben Leung is managing partner at PKF (Cayman). He can be contacted at: bleung@pkfcayman.com

Rennie Khan is audit director at PKF (Cayman). He can be contacted at: rkhan@pkfcayman.com