The normally sedate world of accounting is currently undergoing its biggest shake-up since Australia joined the International Financial Reporting Standards (IFRS) regime back in 2005.
The issuing of new IFRS standards (re-branded AASBs in Australia) is usually spread out but, in recent months we have seen a batch of four major standards which collectively will significantly impact Australian companies’ financial reporting.
The standards are AASB 16 Leases; AASB 15 Revenue Recognition; AASB 9 Financial Instruments and AASB 17 Insurance Contracts.
The last two are sector-specific – under AASB 17, profit and loss accounts will be made more volatile, and Australian life and general insurers will need to work through the impact and explain it carefully to their analyst community,
Under AASB 9, banks are now busy grappling with the requirements of the last of these, which will transform their approach to provisioning for bad loans. We are starting to see company announcements, both in Australia and overseas, made to the market about the effect of the Financial Instruments standard.
The other two standards affect a multitude of industries. Firstly, the leases standard is one of the most significant changes to financial reporting since IFRS adoption. It will affect most large companies in all sectors and will bring the majority of operating leases onto balance sheets from 1 January 2019. Banks, retailers and mining companies should pay particular attention.
Property, equipment and car fleets previously recognised off-balance sheet will be accounted for as right-of-use (ROU) leased assets with associated lease liabilities – this will bring more transparency about an organisation’s lease commitments, but will change financial metrics such as leverage, return on capital and EBITDA measures. This includes assessment whether there is a lease in service contracts which currently may be recognised off-balance sheet.
This means that entities will be more indebted, have a higher asset base to test for impairment (which may see an increase in impairment charges), both of which will impact on debt covenants, credit ratings and potential ability to borrow.
Some entities may look to re-structure their contracts to continue to achieve off balance sheet outcome, reduce term, or payment types. How the terms could be restructured would depend on the appetite of exposure of both the lessor and the lessee.
The changes in accounting are not limited to the balance sheet. For example, the lease expense profile will be front-loaded for most leases, even when rental payments are constant year-to-year. New information will also be required to support the determination of new judgments and estimates used in the calculations of the leased asset and liability on inception date and throughout the lease.
For organisations with many operating leases spread across numerous geographical regions, identifying them all is likely to be a huge undertaking. Further, leasing data in existing systems (if any) is unlikely to satisfy the new standard’s requirements, so relevant data will need to be extracted from lease agreements, analysed, and then validated and monitored throughout the lease term.
Many companies may find that a new accounting software solution will be required to handle the complex measurement requirements of the standard.
But what about revenue standard – which applied from January 2018? This may change how you do business – it introduces a comprehensive model aimed at enhancing comparability of revenue recognition practices across entities, industries, jurisdictions and capital markets.
The new standard may have a significant impact on how and when revenue is recognised, with new estimates required and the possibility of revenue being accelerated or deferred.
Extensive new disclosures will be required and KPIs and ratios may be affected, which could impact share price and access to capital. As with leasing, investors will require education on the change in revenue profile.
Among industries most impacted by AASB15 are telecommunications, construction and engineering, and software development.
As if all these four standards were not enough to be getting on with, there is also some important tax guidance which companies need to be aware of. IFRIC Interpretation 23 on Uncertainty over Income Tax Treatments is applicable from 1 January 2019 and provides specific guidance on how to estimate uncertain tax treatments – which may result in a material impact for some organisations.
Corporate regulator ASIC has warned that for some companies the impact on their reported results of these batch of new standards will exceed even the move to IFRS thirteen years ago. All CFOs and directors should be paying attention.