IFRS update October 2005 – Convergence

Three years ago the international standard setters’ closest ally was the UK
financial and business community. But in barely nine months since the UK’s
listed companies began reporting under the set of global accounting rules a sea
change has occurred.

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In August, the ICAEW, until now a staunch supporter of a single set of
accounting rules, demanded a halt to
convergence of UK GAAP with
IFRS. Simultaneously, Jon Symonds, chairman of the influential Hundred Group of
Finance Directors and CFO of pharmaceutical giant AstraZeneca, publicly raised
questions over the quality of the new rules.

Perhaps a little taken aback by the sudden change of heart, Ian Mackintosh,
chairman of the Accounting Standards Board, is nonetheless open to discussion on
whether it’s time to revisit the UK’s convergence strategy.

Until recently there was broad agreement that the ASB should take a back seat
in standard setting and instead work on the three-year convergence project that
was intended to gradually remove the differences between UK financial reporting
rules and IFRS.

‘We got general consensus that we would converge last year. This year we put
out a [discussion] paper on what the role of the ASB should be. Now it seems
that some people are saying maybe we should think again about this. We think we
should consider it seriously,’ says Mackintosh.

Taken at face value, a halt in proceedings could be considered more pragmatic
than anything else. The IASB is carrying out a project to develop a different
set of IFRS standards for smaller, non-listed companies. It is due to publish
its thoughts next year with the aim of producing workable standards for
application by non-listed companies in 2007.

The ICAEW’s argument for holding off on convergence is because of this
uncertainty. ‘What’s the point of moving all companies to IFRS if they have to
change back in a few years time,’ argues Nigel Sleigh-Johnson, head of financial
reporting at the ICAEW.

It’s a valid point. But the argument to delay UK convergence with IFRS is set
against a backdrop of mounting discontent over the way the IASB is developing
standards. Clearly a delay isn’t just about waiting for the outcome of the
IASB’s SME project.

If the recent ASB consultation reveals more support for postponing
harmonisation than continuing, the ASB can suspend the project without great
fanfare. But if it does so it could raise more questions than answers.

Mary Keegan, head of government accounting and former ASB chairman, warns
against developing two different frameworks for UK companies, although she
believes convergence should be taken at a measured pace.

‘Throughout the UK’s history we have used the same basic accounting framework
for listed and non-listed companies and I see that as strength for a number of
reasons. One is that there are no barriers for an unlisted company wanting to
move forward.

But perhaps more importantly, there are no barriers for the individual
accountant who wants to work either in the commercial sector or in practice.

If you have one framework you aren’t asking the accountant to learn two
languages. I personally tend to err on the side of one language and therefore to
support convergence.’

David Cairns, visiting professor in accounting at the London School of
Economics, voices concerns about the ASB stepping away from convergence. ‘If the
UK ASB stops converging it will lose influence at the IASB level and that will
work against UK interests,’ says Cairns, who is also the former secretary
general of the IASB’s predecessor.

Support for convergence in the UK has waned swiftly because of recent
experience in applying the rules, UK businesses and their representatives say
the new set of accounting standards are already overly complex for publicly
listed companies and will therefore be even more so for private and smaller

The ICAEW’s Sleigh-Johnson says: ‘We monitor IFRS and there’s been a lot of
concern over the differences between application, the costs and uncertainty. It
seems a little premature to continue with the pace of convergence for all UK
companies when costs are outweighing the benefits.’

A recurrent concern that the US influence is forcing a shift from
principles-based accounting to a rules-based regime is also bolstering support
for a delay in convergence.

‘It raises the question of whether these rules are really only suitable for
US-listed companies where the impetus is coming from,’ says Peter Holgate,
senior technical partner at PricewaterhouseCoopers.

Holgate adds that what is happening to UK financial reporting is that the
quality remains the same but the process is becoming more complex. Still, he
expects more rules-based standards to emerge.

‘We are going to gradually get more rules. Many people like to be given
clear, straightforward rules to follow rather than apply professional judgement
which carries risks. Of course, people prefer such rules to be straightforward,
but this isn’t always possible,’ he says.

Cairns however questions the whole perception of Britain having followed a
principles-based approach to accounting for the past decade.

‘In one sense we have the level of detail we deserve because companies and
auditors have ­ for too long ­ abused standards. We aren’t very good at applying
principles. This is clearly seen in the last 10 years of having derivatives off
balance sheet. Where’s the principle in that?’ he asks.

One possibility, say experts, is to continue with convergence but change the
definition of which UK companies need to adopt UK GAAP and which companies can
use the so-called FRSSE, the accounting standard for smaller organisations.

Still, for the time being, it looks like the ASB will heed calls to hold off
on further harmonisation of UK GAAP to IFRS. But if the clarion call is being
sounded to rattle the IASB’s cage over its US convergence project, it’s unlikely
to hold much weight.

Cynics believe that the real reason for the call to halt convergence is that
only now are British companies realising the extent of the changes. And they
don’t like what IFRS is doing to their accounts. If that’s the case then it’s
perhaps time to have a more open debate about the issues.

Part of the ICAEW’s demands is for the IASB to produce a significantly less
complex set of standards for companies using historical, rather than fair value
cost as the primary basis of measurement.

Cairns says this is a worrying request.‘If the ICAEW say we shouldn’t
implement certain standards, then that’s not just an issue for SMEs.’

The call to postpone further convergence of UK financial reporting with IFRS
might well be the right move. It would offer the UK time to digest, reflect and
come to terms with the changes.

What the British financial community could then do is turn its attention to
strict application of the rules. With or without convergence of UK GAAP, unless
IFRS is applied consistently by all listed companies then the purpose,
ultimately, is likely to be defeated.

UK policy on IFRS convergence

In June 2005 the ASB confirmed a phased approach to convergence of UK
standards with international financial reporting standards, which was planned to
limit the burden of change in any one year.

Under current UK convergence plans, non-listed companies would be due to
apply IFRS in full from 2007.

The project aimed to limit the burden of change by introducing standards
dealing with related topics. At the same time, this would postpone
implementation in the UK of an IFRS that is likely to be superseded in the short
term; and would introduce a UK standard based on IFRS where retention of the UK
standard results in a disproportionate burden on companies that report under
British standards.

In July the ASB confirmed that, in accordance with the convergence agenda, it
was not an ASB priority to develop new UK rules. It said it would, however,
continue to monitor the need for standards to deal with specific UK issues and
to ease harmonisation.

The ASB’s Committee on accounting for smaller entities, benefiting from the
results of the recent consultation on the future of the FRSSE, will be helping
to shape the ASB’s thinking on the future application of IAS-based accounting
for smaller entities.
‘A new era in standard setting has begun. The ASB is determined to play its full
part in the process of improving IASs and developing an international consensus,
which in both cases respect the views of business. Regular dialogue with all
parts of the financial community in the UK and the Republic of Ireland will be
critical to that process,’ the ASB said in its July update.

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