IFRS update summer 2006 – run the risk

ifrs special

In association with PwC

Business is all about risks. Taking them, minimising them and overcoming
them. Risk is the
business buzzword
. But whereas businessmen traditionally focused their
energies on taking calculated risks, today regulatory developments mean it’s
mostly about avoiding them.

Link: Access IFRS –
PwC’s IFRS resource centre

Reporting in accordance with the new set of globally accepted accounting
standards, IFRS is throwing up a new set of risks for companies unfamiliar with
the new accounting rules.

Despite a lack of major surprises from those companies that have reported
under IFRS for the first time, companies must avoid labouring under the illusion
that it’s time to sit back on their haunches. Experts warn this is not a one-off
process. The worry that businesses think the worst is over is one of the biggest
risks in IFRS reporting at present.

Many companies have relied on offline processes, short-term fixes and
temporary project-based staff during the transition period. But the transition
period is now over and there should now be a plan in place to ensure that the
right processes are fully embedded in a business’ financial systems and
procedures. This process will be critical for companies that have dual US
listings and are subject to Sarbanes-Oxley requirements (see below).

Phil Hosp, director of financial reporting advisory at Ernst & Young,
categorises three major risk areas in the controls area of IFRS reporting.

First, in the more complex of the new accounting rules, such as pensions
accounting and accounting for financial derivatives, Hosp foresees potential
pitfalls due to a lack of clear understanding of application and impact of these
rules on business.

Unfamiliarity with the new accounting rules and the effect they will have on
business is potentially a major stumbling block, agrees Carolyn Clarke, director
in the risk assurance group at PricewaterhouseCoopers.

‘The starting place is that IFRS has raised risk up the agenda in corporate
reporting. There’s greater risk due to less prior experience of reporting under
IFRS, especially for senior chief financial officers, few of whom are familiar
with IFRS. They’ve mostly trained in UK GAAP,’ says Clarke.

Second, those companies that haven’t yet prepared a full set of IFRS
accounts, could be in for a few surprises, warns Hosp. The last area is in the
development of new IFRS international standards, he says. Where companies have
disbanded their IFRS dedicated teams and left no one to monitor further
developments at the International Accounting Standards Board, they should have
someone monitoring developments.

‘Whether companies need a full team or not is up to them, but they need to be
focused on the fact that standards and interpretations continue to evolve and
companies need a way of understanding the issues if they arise,’ says Hosp.

If the IFRS work is being completed using contractors and external help
there’s clearly a risk that the numbers won’t add up, warn experts.

‘It means there’s a greater risk. The figures may not be accurate, there
could be surprises, people may not understand the figures or there will be
reporting delays and subsequent reputational damage,’ says Clarke.

But she points out the benefits to be gained from ensuring robust internal
controls are in place in the reporting process. In particular, non-US companies
with a US listing are due to prove they are fully compliant with the infamous US
Sarbanes-Oxley Act, so it works in their favour to have combined the processes
with the dual aim of ensuring tight controls for IFRS and compliance with the
Act, she argues.

What all constituents must remember is this is the first year. The experience
in the controls necessary to ensure seamless IFRS reporting will develop and
there will be better comparatives. But understanding the risks inherent in
year-end reporting won’t disappear unless companies deal with it now and that
means putting in place consistent processes and systems to capture the data and
understanding the figures and what they mean for business.

It’s not just about systems and processes either, making sure the right
skills and training are in place is also vital.

Investors and users of accounts will be looking for clarity and transparency
in this first round of IFRS reporting, it’s critical that finance directors can
provide those elements with confidence to ensure integrity in UK financial
reporting now and for the future.

Sarbox-lite for IFRS reporting

The downsides of Sarbanes-Oxley requirements are widely reported. Indeed, the
workload placed on companies is such that politicians are now looking to somehow
reduce some of the more onerous Sarbox requirements.

Nevertheless, IFRS experts in the UK point to the processes that companies
have had to go through to comply with Sarbox as a necessary evil for robust IFRS
reporting in the UK.

In particular, section 404 requires a documenting of all systems and process,
from the most basic to the most complex. The work comes at a price, but it is
argued that it is sufficiently robust to provide any FD with the confidence to
know that every aspect of his business has been analysed, tested and verified.

Carolyn Clarke says if companies could do this and look at the efficiency of
this process and then take the best bits of Sarbox and apply it to IFRS
financial reporting in the UK, they would reap benefits.

‘If you can take an approach that is similar to Sarbox, which says look at
the key risks and identify key controls that allow you to mitigate against
problems and if not then rectify them when they arise, it will be beneficial.

‘All companies could benefit from doing this. In cases where there are
deficiencies or duplicity of controls they can get efficiency. It’s what we call
Sarbox-lite without necessarily having to do all the onerous testing and
retesting and auditor attestation,’ she says.

Research on the US experience in Sarbox and where they reported the most
significant deficiencies, a significant proportion of them related to the
year-end financial reporting process.

‘CFOs should be challenging their finance teams to identify where the risks
and deficiencies are around reporting and look at how to put in place a
programme to rectify this and analyse effectiveness. The approach needs to be
top down and risk based,’ says Clarke.

Link: For the latest news and analysis on IFRS, updated
every week, register for Access IFRS –
resource centre

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Fiona Westwood of Smith and Williamson.