Accounting for Brand Differences in IFRS

Your accounting rulebook might say “IFRS” on the label, but lots of people still wonder exactly what they might find inside once they open it up.

That question is being asked more often these days, as American and European accounting rulemakers press forward with plans to converge International Financial Reporting Standards with U.S. Generally Accepted Accounting Principles. At the same time, the Securities and Exchange Commission is pondering whether to allow registrants to file financial statements in IFRS as approved by the International Accounting Standards Board—not as approved by any of the more than 100 nations now nominally in the IFRS camp.

IFRS is unquestionably sweeping the world with its principles-based reporting standards. The challenge for financial reporting executives at large companies, however, will be determining exactly what “brand” of IFRS their numbers are supposed to conform to; the rulebook in one jurisdiction may not be the same as the one next door. And when a nation does give in to the temptation to tweak IFRS standards, the brand might suffer.

Jones

Such “brand dilution” is a concern among trustees at the International Accounting Standards Board these days. Tom Jones, the Board’s vice chairman, emphasizes the need to ensure that IFRS is applied consistently across multiple jurisdictions, while not slowing its advance around the globe.

Most recently the issue flared up when the European Union deleted 17 paragraphs of International Accounting Standard No. 39, Financial Instruments: Recognition and Measurement. That decision came at the behest of investment banks, which were using hedging operations not permissible under the full text of IAS 39.

So far, the IAS 39 example has not caused too much concern in Europe itself. Ken Wild, global leader of international accounting standards at Deloitte & Touche, notes that in practice, all but 30 of the EU’s 8,000 listed companies do adhere to full IFRS standards. But, he says, “If you can carve out IAS 39, in fact it is no longer IFRS. That should be clear. It is like being pregnant or dead—either one is, or one isn’t.”

Wild

Wild adds that in the extreme, a country could argue that “our capital markets are not that sophisticated so we are dropping I of IAS 39.” In that case, Wild says, the country should describe its accounting system as “Country X Generally Accepted Accounting Principles, which includes some IFRS.” Anything stronger, he says, would be misleading.

Richard Martin, head of financial reporting at the Association of Certified and Chartered Accountants takes a parallel line, saying that divergence from IFRS would have a negative effect on investors. He adds that it is still too soon to gauge the phenomenon, but he expects that investors would tend to favor those countries that comply in full.

Martin

In the developing world, both China and India are taking up IFRS. India is committed to adopting IFRS for public-interest entities by 2011. For China, it came in this year. A recent report on the IAS Plus Web site notes that the Chinese Ministry of Finance has announced that its 38 new Chinese Accounting Standards (CAS) are substantially in line with IFRS.

Recently the China Securities and Regulatory Commission also ended its requirement that companies listed on Chinese exchanges that issue “Class B” shares publish audited financial statements that conform to IFRS and a second set that conform to CAS. (Class B shares are securities that trade in U.S. dollars and, until recently, could only be purchased by non-Chinese investors.) The move is analogous to the SEC’s effort to end the requirement that foreign issuers reconcile their statements to U.S. GAAP, although it affects less than 10 percent of the 1,477 companies listed on the Shanghai and Shenzhen exchanges.

Officials at the European Commission contend that IFRS is generally performing well across the EU. But, a spokesman says, “We are still progressing in the application of the rules.” The Commission typically relies on the International Financial Reporting Interpretation Committee when questions arise at the member nation level on how to implement some specific IFRS rule.

The issue was well summarized by David Devlin, then president of the European Federation of Accountants (FEE). Back in October 2005 he said: “Unless properly explained, differences between IFRS, as adopted for use in the EU, and IFRS, as adopted by the IASB, risk causing uncertainty in the market and could potentially undermine investor confidence in financial reporting.”

The FEE has its own idea to solve the problem. In a recent discussion paper on the issue, the FEE said that EU companies should publish their financial statements “in accordance with IFRS as adopted by the EU.” And when a company is not in full compliance, it should say how far its accounting policies depart from full IFRS as approved by the IASB.

Such a practice in all IFRS jurisdictions could be a strong incentive against straying from the IFRS straight-and-narrow and reduce the “uncertainty premium” that comes with unknown accounting standards.