ACTG 6580 -CHAPTERS 3 & 16 PRESENTATION OF FINANCIAL STATEMENTS (IAS1) AND STATEMENT OF CASH FLOWS (IAS 7)

Objective of financial statements According to IAS1, the objective of general purpose financial statements is "to provide information about the financial position, financial performance and cash flows of an entity that is useful to a wide range of users in making economic decisions". This is similar to the equivalent definition given in the IASB Conceptual Framework.

Components of financial statements Statement of financial position Statement of comprehensive income Statement of changes in equity Statement of cash flows (IAS7) Notes

General features Fair presentation Compliance with international standards Going concern basis Accruals basis Materiality and aggregation Offsetting Frequency of reporting Comparative information Consistency of presentation

Frequency of reporting Financial statements should normally be presented at least annually. An entity which presents financial statements for a period which is longer or shorter than one year should disclose: (a) the reason for using a period that is longer or shorter than one year; (b) the fact that the comparative amounts given for the previous period are not directly comparable with those given for the current period.

Identification of the financial statements Name of the reporting entity Whether a single entity or a group Date at the end of the reporting period or the period covered Presentation currency used Level of rounding (e.g. £000 or £m)

1) Statement of Financial Position Formerly referred to in the standards as the "balance sheet" Current/non-current distinction Information that must be presented in the statement of financial position Information that may be presented in the statement of financial position or in the notes

Statement of financial position presentation Classification and liquidity IFRS requires a classified balance sheet, except when liquidity presentation provides more reliable and relevant information. US GAAP allows the use of either a classified or unclassified balance sheet.

Current and non-current assets An asset is a current asset if it satisfies any of the following criteria: (a) it is expected to be realised within the entity's normal operating cycle; (b) it is held for the purpose of being traded; (c) it is expected to be realised within 12 months after the reporting period; it is cash or a cash equivalent as defined by IAS7. All other assets are non-current assets.

Current/non-current liabilities A liability is a current liability if it satisfies any of the following criteria: (a) it is expected to be settled within the entity's normal operating cycle; (b) it is held for the purpose of being traded; (c) it is due to be settled within 12 months after the reporting period; the entity does not have the right to defer settlement for at least 12 months after the reporting period. All other liabilities are non-current liabilities.

Statement of financial position presentation Debt classification under default for covenant violation US GAAP Allows debt to retain non-current classification as of the balance sheet date if a lender waives or modifies the related debt covenant violation on or after the balance sheet date but prior to the issuance of the financial statements. IFRS Requires that a lender must waive or modify a debt covenant violation prior to or at the balance sheet date in order for the related debt to be classified as non-current at the balance sheet date.

Debt classification under default for covenant violation example Riley’s Roosters, Inc. (RRI) has a December 31 year-end. As of June 30, 2012, RRI obtains a $100,000 loan from a bank for a new chicken coop facility. The loan is due in 24 months. In December 2012, RRI spends too much of its cash on its holiday party and incurs a debt covenant violation as of December 31, 2012. As a result of the violation, the loan becomes due within 30 days. At this time, RRI asks the bank to waive the violation. RRI tells the bank it will recoup some of the cash by selling the leftover holiday party favors on eBay. On January 5, 2013, the bank agrees to waive the violation. RRI issues its financial statements on January 25, 2013. How should this loan be classified (current or non-current) on RRI’s balance sheet as of December 31, 2012 using IFRS and US GAAP?

Debt classification under default for covenant violation example Example 1 (solution): Balance sheet date Fiscal year Post-fiscal year and prior to issuance of financials IFRS US GAAP Fiscal year Post-fiscal year and prior to issuance of financials Solution: As the bank modified the debt covenant violation subsequent to RRI’s balance sheet date of December 31, 2012 but prior to the financial statement issuance date of January 25, 2013, the debt is classified as current as of the balance sheet date using IFRS but non-current for US GAAP. See the timeline noted above showing the allowable period (in yellow) for a lender to waive or modify a debt covenant violation to retain non-current classification under IFRS and US GAAP.

Statement of financial position presentation Deferred tax assets and liabilities IFRS prohibits deferred tax assets or liabilities to be classified as current. US GAAP requires classification as current or non-current based on the nature of the underlying asset or liability.

Statement of financial position presentation Minimum accounts The minimum accounts to be presented on the statement of financial position as defined by IAS 1.54 are: Property, plant and equipment Investment property Intangible assets Financial assets (excluding amounts shown under (e), (h) and (i)) Investments accounted for using the equity method Biological assets Inventories Trade and other receivables Cash and cash equivalents Total of assets classified as held for sale and assets included in disposal groups classified as held for sale per IFRS 5

Balance sheet presentation Minimum account information The minimum accounts to be presented on the balance sheet as defined by IAS 1.54 (continued): Trade and other payables Provisions Financial liabilities (excluding amounts shown under (a) and (b)) Liabilities and assets for current tax per IAS 12 Deferred tax liabilities and deferred tax assets per IAS 12 Liabilities included in disposal groups classified as held for sale per IFRS 5 Minority interest, presented within equity Issued capital and reserves attributable to equity holders of the parent

Statement of financial position Typical IFRS order Although no particular format is required, IFRS generally presents accounts in the following order (representative of UK legacy requirements): Non-current assets Current assets Equity Non-current liabilities Current liabilities US GAAP presents current assets and liabilities before non-current.

In the Statement of Financial Position or in the Notes Sub-classification of line items as appropriate to the entity’s operations and/or as required by other international standards. (e.g. analysis of property, plant and equipment as required by IAS16) Analysis of equity capital and reserves.

2) Statement of Comprehensive Income All items of income and expense recognised in an accounting period must be presented in either: (a) a single statement of comprehensive income, or (b) two separate statements, comprising: (i) an income statement showing the components of profit or loss, and (ii) a statement of comprehensive income beginning with the profit or loss for the period and showing components of "other comprehensive income".

Statement of income Minimum information required The minimum information to be presented on the income statement as defined by IAS 1.82: Revenue Finance costs Share of profit or loss of associates and joint ventures accounted for using the equity method A single amount comprising the total of: The post-tax profit or loss of discontinued operations The post-tax gain or loss recognized on the measurement of fair value less costs to sell or on the disposal of assets or disposal group(s) constituting the discontinued operations Tax expense Profit or loss

Statement of Comprehensive Income – Minimum information required The minimum information to be presented on the statement of comprehensive income as defined by IAS 1.82: Each component of other comprehensive income classified by nature (excluding amounts presented in the next item) Share of the other comprehensive income of associates and joint ventures accounted for using the equity method Total comprehensive income

Income statement presentation Natural presentation IFRS allows either a natural expense classification presentation (by type such as salaries, depreciation, advertising, etc.) or functional classification expense presentation (by function as part of cost of sales, distribution, administration, etc.).

Income statement presentation Functional presentation If functional presentation is used, specific disclosures in the notes are required about the nature of the expenses. US GAAP has no general requirement, but the SEC requires that expenses be based on the functional classification.

Income statement presentation Extraordinary items US GAAP Extraordinary items are reported separately on the income statement. IFRS Prohibits extraordinary items, but major revenue and expense items are disclosed in the income statement or notes. Convergence Tentatively, the FASB has affirmed that an entity should not label a line item as extraordinary and that an entity should not show the effects of extraordinary events or transactions as a section or category in the statement of comprehensive income as currently required. The Boards have agreed that the ED will specify a requirement to present the effects of unusual or infrequently occurring events or transactions in the statement of comprehensive income and disclosure of related information in the notes to financial statements, thereby conforming both frameworks.

3) Statement of Changes in Equity Shows how each component of equity has changed during an accounting period Items presented include: total comprehensive income for the period; effects of any changes in accounting policies; share issues; and dividends paid. Provides a reconciliation of the opening and closing balance on each component of equity

4) Statement of Cash Flows Same as US GAAP except: Cash flow classification Transaction IFRS US GAAP Interest paid Operating or financing Operating Interest received Operating or investing Dividends paid Financing Dividends received

5) Notes to the Financial Statements Using IFRS, most companies will experience additional financial disclosures. IFRS requires that an explicit statement be made in the notes that the financial statements comply with IFRS. Absence of such disclosure renders the entire financial statements non-compliant.

Notes to the Financial Statements Departure from an accounting standard US GAAP Does not allow non-compliance with an accounting standard if, in the opinion of management, that compliance would be misleading. IFRS Allows non-compliance with an accounting standard if, in the opinion of management, that compliance would be misleading. This is called “The True and Fair Override” and is extremely rare. If used, the rationale and effect on the financial statements must be disclosed.

Cultural Differences It is probably idealistic to believe that the effects of cultural differences on the application of accounting standards will diminish as a result of the adoption of IFRS. These cultural differences might reveal themselves in the following areas: Judgment Translation Legal and regulatory environment

Cultural Differences Judgment IFRS includes more ambiguous terms and allows for more judgment in certain circumstances. Judgment is impacted by the level of conservatism and confidentiality. Research has shown that both conservatism and confidentiality are influenced culturally.1 If a country’s general practices are more conservative in nature with a high degree of confidentiality, you might expect to see higher liabilities, lower assets and fewer disclosures. Alternatively, if a country’s general practices are less conservative in nature with a lesser degree of confidentiality, you would expect to see lower liabilities, higher assets and more disclosures. 1 Timothy S. Doupnik and Edson Luiz Riccio, “The influence of conservatism and secrecy on the interpretation of verbal probability expressions in the Anglo and Latin cultural areas,” The International Journal of Accounting, Volume 41, Issue 3, 2006, pages 237– 261.

Cultural Differences Translation Pure IFRS is written by the IASB in English. Thus, in non-English-speaking countries, IFRS needs to be translated into the native language. As there is not always a direct translation for certain words or because certain words might have different meanings or interpretations in different languages, this could potentially cause issues in comparability and practice. The IFRS Foundation oversees the translation of IFRS. This translation process is very rigorous and special care is taken to address potential translation issues.

Legal and regulatory environment Cultural differences Legal and regulatory environment In many countries, the national financial reporting requirements are directly tied to tax reporting requirements. As such, this practice might drive certain accounting policy elections under IFRS. Some countries have a more litigious environment than others, such as the US. This type of environment drives accounting practice behaviors. There are concerns that the practice of IFRS in these types of environments will negatively influence the proper use of judgment, although this has not been substantiated. As discussed above in relation to China, certain countries are under a greater amount of government or regulated control and this has a potential impact on the application of certain accounting policies.