By Colby Warr, CPA
In December 2010, Securities and Exchange Commission (SEC) Commissioner Mary Shapiro announced that U.S. public companies will be given at least four years to prepare for using International Financial Reporting Standards (IFRS) to present financial statements.
Shapiro's announcement indicated that required use of IFRS will not occur any earlier than 2015. Her announcement of a general transition timeframe, though, also acknowledges that acceptance of IFRS as the global standard is eventually imminent.
In 2005, the European Union (EU) began requiring companies incorporated in its member states whose securities are listed on EU-regulated stock exchanges to prepare financial statements under IFRS. A 2008 IFRS report issued by the American Institute of Certified Public Accountants (AICPA) stated that more than 12,000 companies in almost 100 countries were using IFRS. Starting in 2011, many Canadian entities must present IFRS-compliant financial statements, too.
Adoption of IFRS for use by U.S. companies is currently being driven by convergence discussions between the Financial Accounting Standards Board (FASB) in the United States and the International Accounting Standards Board (IASB). During the past decade, those two boards have addressed differences between U.S. the Generally Accepted Accounting Principles (GAAP) and IFRS.
The much more principles-based IFRS lacks much of the industry-specific guidance associated with GAAP. IFRS also provides less guidance in other key accounting areas, such as revenue recognition (although current revenue recognition projects of the FASB indicate an overhaul in U.S. GAAP that may more closely resemble IFRS).
In spite of the rhetoric around some areas of divergence between the two standards, most companies would be surprised to learn that many of the policies and accounting practices used under U.S. GAAP fit within the IFRS framework, attributable to the wide net cast by the principles-based approach under IFRS.
While a migration to IFRS from U.S. GAAP represents a significant departure from a long-established standard, companies that take the following steps now will face a smoother transition.
Conduct a Thorough Inventory of Current Financial Reporting Concerns
Every company is unique, based on its products, industry, market and other concerns. Some organizations rely more on leased assets than others. Some invest heavily in research and development activities. Some businesses purchase large volumes of raw materials, while others depend upon intellectual capital to drive growth and sustain profitability.
Step One: Take inventory. Using a checklist-based approach to IFRS adoption enables managers to easily identify the primary areas where differences exist. These "inventory checklists" are available from various sources online (free), are easy to read and understand, and ultimately aid a company in determining which accounting areas will need further tackling and analysis. Upon completing the inventory checklist, most companies are surprised to find that they have only two or three areas where an IFRS adjustment will be necessary. The next step requires a little more horsepower:
Address Major Items of Concern and Perform Necessary Recalculations
Once the primary differences have been identified, Step Two is to take a deeper dive into each of the identified differences. Although most differences are easily manageable, depending upon the company's particular circumstances, some IFRS requirements may require considerable change in financial statement reporting and related accounting processes.
The two most common areas of differences generally include presentation of deferred taxes (IAS 12) and accounting for employee benefits (IAS 19). Neither of these areas is particularly difficult – the latter is typically handled by most actuarial firms which can easily prepare the actuarial reports with a comparison of both IFRS and U.S. GAAP. Some areas that at first can seem a little trickier include leases and inventory. For example, the Last In First Out (LIFO) method for inventory accounting is not permitted under IFRS. For manufacturers, retailers, and other businesses that record inventory under LIFO (prevalent in the oil and gas and petro-chemical industries), that difference may require establishing new methodology and recalculating how value is assigned to inventory.
Tackling the more difficult areas is definitely the most time-consuming aspect of IFRS transition, but for most companies, there will be only one or two areas where such a level of effort will be necessary.
Prepare Systems for IFRS
Enterprise Resource Planning (ERP) systems may need some modifications to accommodate IFRS. In some cases, IT systems will need to reflect changes in how individual transactions are captured and processed. For example, leases, research and development costs, fixed assets and other items may require different accounting processes.
One other very important adoption consideration is the user. Many companies adopt IFRS for various different reasons, but in some cases they may be required to maintain a set of books under U.S. GAAP. These requirements are generally driven by various regulatory or governmental bodies (such as the federal or state EPA agencies or the U.S. Coast Guard), which accept only U.S. GAAP financial statements currently, but certain banks or other financial institutions or customers might also require U.S. GAAP statements. The need to maintain two financial reporting streams, U.S. GAAP and IFRS, can require some tricky IT dance moves. Step Three includes evaluating what adaptations will be required and what additional IT capabilities may be needed.
Near Future Considerations
The SEC has yet to announce an exact timetable regarding adoption of IFRS within the United States. If the current trend of fast-paced change in U.S. accounting standards continues (generally resulting from convergence), companies may find themselves being forced to adopt international standards one painful little step at a time over the coming years. Biting the bullet and making the transition today in many cases might be more efficient, make more sense, cost less and provide greater value sooner in a world where national borders are blurring and global business is the norm.
Regardless of the SEC timeline, companies that begin taking these steps toward IFRS transition today will be better prepared when customers, regulators and others require it.
Author's Note: In the coming months there will be additional articles in this series providing further information on each of the steps mentioned above.
About the author:
Colby Warr, CPA is an assurance services senior manager in the Houston office of Weaver, the largest independent accounting firm in the Southwest with offices throughout Texas. He can be reached at 832-320-3225 or [email protected].