IAS – Back to the eighties

Human nature dictates that we rebel against the introduction of new rules and regulations, and international financial reporting standards are turning out to be no exception.

They have faced a volley of complaints from certain corners, but its the International Accounting Standards Board that is bearing the brunt.

However, the rhetoric behind one standardised way of reporting is sound and should benefit everyone. Once the creases have been ironed out, it will mean fairer international business and trading and a greener landscape for both investors and shareholders.

The problem lies with a few areas of IFRS as they currently stand. In particular, the standards will significantly change some important elements of our own accounting practices, and have a major impact on other software vendors and service industries.

Most software houses in the past would capitalise software development and write it off over a number of years. Most prudent software businesses have abandoned this practice and expense their development in the year it occurs. This provides a much clearer picture of the health of the organisation and a more transparent balance sheet.

In seeking to apply standard accounting practices, IFRS adopts a method of capitalising software that pushes us back to the accounting methodologies of the 1980s.

It removes some of the transparency and at the same time introduces a level of complexity in understanding a software author’s balance sheet. It will be necessary to look at how much capitalisation is taking place and over what period this is being written off.

Since the write-off rules are not defined, a more unscrupulous software author may write-off software over longer periods – making their headline figures look healthier than they really are.

So, this introduces a level of subjectivity – one that would not exist if we were all to expense development. Another point of debate is that we will have to make a subjective judgement on the commercial life of an application to determine over how many years to depreciate it.

The other area that will be negatively impacted by the rules as they now stand is hedging. We believe that changes to accounting treatment regarding hedging instruments will lead to accountants making decisions according to accounting and treatment rather than what may be the best commercial decision.

For example, next year a company sells forward euros with the intention of protecting revenue streams in that currency. Unless the company can show a direct link between the specific contract and the hedging instrument, then the hedging instrument will be considered as a speculative transaction, quite separate from the contracts it was intended to protect.

In CODA’s case, we hedge against our predicted revenues in euros. We will be prevented from doing this since we cannot tell exactly what contracts we are hedging against when we take out the instrument, since we haven’t identified next year’s new customers.

Once the rules become mandatory in 2005, the IASB will no doubt consider making certain revisions where fine-tuning is necessary. In general, we think adopting standardised reporting is a no-brainer, but certain rules could hinder business transparency rather than working in favour of stakeholders as intended.

Jeremy Roche is chief executive of the CODA Group.

Related reading

HMRC banknotes