IFRS – Insights

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There is an excellent article in the September 2008 CA Magazine regarding IFRS, and I thought it would be helpful to share the information with visitors to this website. The contents of the article appear below. I like this article because it provides concise instruction on the key aspects involving IFRS implementation including IT systems, CEO / CFO Certification, Performance metrics, etc etc. (Click here if you prefer to access the article directly on the CA Magazine web-site).

IFRS –  A big deal?
By Denis Posten

The change to IFRS may affect a lot more than your financial statements; it may have an impact on your IT systems too. If you are a CFO in a publicly accountable organization you have hopefully begun building your international financial reporting standards conversion strategy. One thorny question you may be asking is: will the impact on my IT systems be significant? The answer is maybe.

IFRS, like Canadian GAAP of the past, is principles-based and in many areas existing Canadian standards and IFRS are largely converged. If your organization has noncomplex accounting issues, does not have a multifaceted structure with many consolidated entities, has simple revenue recognition, has straightforward plant, property and equipment and has few intangible assets, you may not have a significant IFRS systems challenge.

However, experience with similar projects suggests that when changes to business requirements, staff knowledge and experience, processes and information systems touch an entire organization, the IT changes are often more complex than anticipated. Companies in countries that have already converted to IFRS report that the IT impact of conversion was consistently underestimated.

Detailed impact assessment

To determine the potential IT challenges IFRS will present, first identify the differences between Canadian GAAP and IFRS relevant to your organization, then:

• identify where alternative IFRS accounting policies exist;
• research policy alternatives, including industry-specific materials, to determine industry preferences and peer group consensus;
• conduct a high-level assessment of the impacts of available alternatives on the organization including the nonfinancial aspects;
• rank GAAP/IFRS differences based on magnitude of changes required, risk and anticipated timing of required changes.

Once the accounting policy changes are understood, it is vital to understand what else is affected, including business processes and internal controls; business management; ERP and related information systems; and staff and board training requirements.
Review current documentation of business processes, internal controls and information systems maps to identify, assess and prioritize potential changes. This initial assessment will focus on categorization of the magnitude of the changes required and implementation options (i.e., enterprise resource planning modification versus other viable workarounds). Subsequently, related work would identify specific and detailed estimates of effort, time and costs to make the changes.

Business processes and internal controls

When looking at business processes and internal controls there are a few things to consider:

New data requirements — The differences between Canadian GAAP and IFRS mean new data requirements will need to be identified and additional data collected. As part of this process, ensure that sufficient controls are in place regarding the accuracy and reliability of this data. At the same time the old data may be required to be maintained for future income tax re-porting and concerns around its storage, integrity and retrieval could be significant.

Disclosure — Financial reporting may differ significantly as a result of an IFRS conversion and disclosure controls and procedures should be designed and operating effectively to identify these potential changes in a timely manner. Disclosure processes should also be sufficient to ensure that changes, when they occur, are disclosed to investors and financial analysts in a meaningful and transparent way, as appropriate.

CEO/CFO certification — The financial statement changes required by IFRS may create the need for revisions to control and compliance procedures and processes to ensure continued compliance with the internal control certification requirements under NI 52-109 and SOX 404.

Business management

The potential impact of IFRS includes not just financial statements but also business management data related to key performance indicators, management reporting and performance-based compensation. Potential impact on operational controls, such as performance targets and the accuracy and reliability of the data supporting key management operational decisions must be considered to ensure that desired behaviours, post-IFRS, be encouraged and rewarded.

A few points to consider:

potential for additional data, different information or new information available upon conversion for key performance indicators and other decision-making;

  • identification of potential implications to performance compensation arrangements;
  • financial ratios/covenants that could be affected by IFRS convergence; and
  • areas where IFRS could change your income tax accounting or tax filings.

What does this mean?

What does all this mean from a practical standpoint? Conversion to IFRS may create a need for additional data, new or revised calculations within the system and changes in reporting. The information system areas that need attention range from initiation of transactions through to the generation of financial and management reports and will include ERP and those systems and controls required to provide and maintain data integrity within the ERP. Consider the following:

New data requirements
— a more detailed presentation of information, new data fields, or calculating information in a different manner may be needed. For example, IFRS may require all these changes if your business currently uses the completed contract method of revenue recognition. Under IFRS, the completed contract method is prohibited. Other acceptable revenue recognition methods under IFRS may require formal tracking of additional information currently outside the formal systems subject to internal control over financial reporting, including costs incurred and budgeted cost to complete.

Reconfiguration of ERP
— numerous changes could call for a reconfiguration of how your business systems calculate and process data. An example might pertain to companies that need to track and report asset retirement obligations. IFRS will require review and adjustment at each balance sheet date for changes in discount rates, which is not generally required under Canadian GAAP.

A more complex situation is facing companies in the oil and gas industry that used full-cost accounting for their resource properties. IFRS will restrict full-cost accounting to exploration and evaluation activities. Development and production costs under IFRS will likely need to be tracked at the field level for depletion purposes and the cash generating unit level for impairment purposes. The cash generating unit level is defined as the smallest identifiable group of assets that generates cash inflows largely independent of other identifiable groups of assets. This concept is significantly different from the existing impairment testing regime under Canadian GAAP.

Modifications to existing systems — many changes could also require new reports and changes to current business processing logic (calculation changes). For example, IFRS requires new ways of tracking and calculating asset impairment charges. It also permits the reversal of impairment charges in subsequent periods if conditions change. Therefore, asset impairment charges will need to be calculated and tracked separately by a cash generating unit.

Another change to processing logic and reporting could arise from how borrowing costs for assets that take a substantial time to get ready for use or sale are handled. If historically these costs were expensed, IFRS will require you to capitalize avoidable borrowing costs directly attributable to qualifying assets, which will include specific borrowings and general borrowings.

Interface changes — with new data elements and changes to existing systems,the interfaces between dissimilar systems may also require changes. This could arise in many ways. If you have investment properties, under IFRS you may opt to account for these using a fair value model. Thus, if you have internal systems and processes to capture a variety of data relevant to the properties, and this data will now be used to determine fair value, these processes will now come within the scope of ICFR and you may want to develop interfaces to your financial systems. Whether or not this option is chosen, the entity will be required to obtain and report the fair value of its investment properties and will almost assuredly result in changes to its systems of data gathering and reporting.

Data conversion — data elements may require updating or be moved to new systems. With the move to the more granular concept of the parts approach to depreciation and changes to the impairment testing of property, plant and equipment, many companies will need to capture and maintain more asset data. You may want to rethink whether your legacy fixed asset subledger has the ability to segment assets and handle the possibility of impairments and reversals.

Automated transaction controls — or business process controls may be added or modified when any of the systems change.
IT general controls — changes to IT systems and business process controls will result in a review of the general computer controls environment. Systems that were not previously subject to robust change control procedures and access controls may now be brought into the requirements of ICFR.

Data retention requirements — with the adoption of IFRS and fair value models, the retention of information outside the legacy financial reporting system is likely to grow in volume and importance. As noted in the examples, new data elements may also become important and will require retention. As changes to IT systems and business processes evolve throughout the IFRS conversion time frame, it’s critical that internal controls, especially those related to NI 52-109 and SOX 404 certification, are maintained, redesigned and operate effectively throughout this project.
Other things to consider

If your organization is significantly interconnected with business partners and service organizations, consider whether the data elements requiring change are either provided by or to these business partners. If this is the case, you will need to modify the electronic data interchange or Web interfaces with these business partners to bring them in line with your requirements. Further, you will need to document these changes and ensure your business partners are trained on the new requirements.

Many Canadian organizations have operations in the U.S. with their own legal entities and report using U.S. GAAP. In these situations, you will need to evaluate the least complex way to change IT systems for IFRS while maintaining the ability to handle U.S. accounting. (Consider however that SEC filers converting to IFRS will no longer have to report in or reconcile to U.S. GAAP.)

The path to IFRS is a multiyear journey. Some companies will have scheduled a major ERP or accounting system upgrade/changeover during this time. Should you defer the system change or incorporate your IFRS requirements into the new system’s configuration and proceed with the upgrade? There is no easy answer. At the very least, the detailed design of the new system must address the data and controls issues discussed in this article. If you have a project currently part way through an ERP implementation that did not have IFRS requirements built into its design, the project should immediately be brought into your IFRS plan.

Your firm may have multiple compliance projects underway. For example, you may be remediating ICFR control deficiencies for CEO/CFO certification, undertaking an industry-specific regulatory program and implementing IFRS all at the same time. It will be important to have an IT program management office in place that has insight into all these initiatives and has the authority to work with stakeholders to set priorities and resolve conflicts.

More than journal entries

Conversion to IFRS may be simple. financial executives have expressed that their underlying business and financial systems will not be affected by IFRS and the requirement to be IFRS-compliant can be accomplished by a few journal entries each period to properly present financial data. However, it is recommended that if you have not begun a detailed analysis of the impacts of IFRS on your IT systems, start now. Take a comprehensive approach to your analysis. You may have new data requirements, your key performance metrics and your incentive compensation systems may change, and your business partners may need to provide you with different information. Don’t assume the effect of IFRS on your organization is limited to financial presentation.
Denis Posten, CA•IT, CMC, is a partner with Grant Thornton LLP
Technical editor: Ron Salole, VP, Standards