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Audit & Accounting Alert Newsletter

Issue 3 | March 2016

At-A-Glance

Gerry Herter

The accelerating pace of business activity requires an ever more deft set of skills to assure success. A new survey described in our first article highlights the struggles and successes companies are having in adapting their decision making processes to the rapidly changing dynamics.

Meanwhile, the International Federation of Accountants (IFAC), in a new report, expresses concern that the effectiveness of global financial reporting standards may be undermined by the inconsistent and fragmentary regulatory standards that characterize the multitude of individual jurisdictions. Our second article summarizes IFAC’s call for action.

Finally, with effective dates steadily approaching for major new financial reporting standards, such as revenue recognition and the newly released standard on leases, Big Four accounting firms are finding that many of their clients have been slow to make necessary preparations. Our third article reviews the status.

 BREAKING NEWS: The Financial Accounting Standards Board (FASB) on February 25, 2016, issued Accounting Standards Update 2016-02, Leases, increasing the pressure for the preparations called for in our third article. Also, see the December, 2015, Audit & Accounting Alert for an overview of both the FASB and International Accounting Standards Board (IASB) lease pronouncements.

Editor Gerald E. Herter, CPA

In This Issue 

New Era Decision Making Requires a More Robust and Nimble Approach

Joint CIMA/AICPA Survey reveals struggles and successes

In the December, 2015, Audit & Accounting Alert, we described a vision for new professional accounting services, as put forward in an International Federation of Accountants (IFAC) thought paper: Creating Value with Integrated Thinking. Now a February, 2016 survey, jointly commissioned by the Chartered Institute of Management Accountants (CIMA) and the American Institute of Public Accountants (AICPA), has confirmed that many companies are struggling to adapt decision making processes to a world “characterised by volatility, uncertainty, complexity and ambiguity.” The survey report, Joining the Dots: Decision Making for a New Era, notes that the successful minority are the ones that have embraced integrated thinking.

Many companies are experiencing significant difficulties in the following areas:

  1.  Overcoming bureaucracy to achieve agile decision making;
  2.  Building greater levels of trust and improving collaboration;
  3.  Taking a long-term view and defining the right metrics;
  4.  Turning huge volumes of data into strategic insight; and
  5.  Building the decision-making skills of senior leaders.

For the first three areas, at least 70% of respondents indicated less than optimal results in some aspect, while in the realm of turning data into insight, “an overwhelming 80% of respondents admit that their organisation used flawed information to make a strategic decision at least once in the last three years.”

The minority, called “integrated thinkers,” demonstrated business performance that was consistently above industry peers, made decisions that were highly effective, had one or fewer failures because of delays, and one or fewer cases of flawed information.

The survey report attributes the success of the integrated thinkers to their implementation of the four Global Management Accounting Principles, as promulgated by the aims of the Chartered Global Management Accountant (CGMA):

  1.  Influence – Communication provides insight that is influential;
  2.  Relevance – Information is relevant;
  3.  Trust – Stewardship builds trust;
  4.  Analysis – Impact on value is analyzed.

 Integrated thinkers apply these principles by working to break down silos and bureaucracy within the company, making relevant information available on a timely basis, bringing transparency and accountability that balances short term and long term objectives, and relating company strategy to the business model.

The report goes on to provide case studies and examples to show specific ways companies are succeeding in each of these areas. Two case studies in the report illustrate the importance of taking the long view and building trust through collaboration.

The danger of short-term thinking, driven by quarterly earnings reports, has been pointed out in previous issues of the Audit & Accounting Alert. The volatility in the energy industry provides a good case in point. Royal Dutch Shell has a separate business unit, Shell Scenarios, that sets the agenda for the enterprise over the short, medium and long term. As Royal Dutch Shell CFO, Simon Henry, explains “We developed a programme of scenario analysis to look at alternative societal, political, economic and business developments, and then to place the energy industry in that context over a 30- to 40-year period looking forward.” Experts from inside and outside the company, and from all over the world, are brought together to formulate two or three directions the world may take. Then a plan for how Shell would respond to each is devised. 10-15 year medium range plans, detailed on a three year basis, address how to best to compete within these scenarios. Benchmarks measure the plans annually to keep them on track.

The importance of building unquestioned trust is a key quality that those of us who have served in the military know well. However, trust is not built in isolation. As Patrick Conway, Chief Knowledge Officer at US Army Training and Doctrine Command, stated in the report, “There are some organisations that will gather a lot of information, and then a select few individuals will make ‘boardroom-like’ decisions. While sometimes that’s necessary, it’s really more about decentralising the decision-making process down to lower levels, enabled with tools such as collaboration platforms and scalable dashboards, that allows each level of the organisation to view itself and see how it is progressing.” After communicating the overall goals and direction of the company, empowering individuals at all levels to fulfill their specific aspect of the mission builds ownership and enhances trust.

For further information, see  Joining the Dots: Decision Making for a New Era


From Crisis to Confidence: A Call for Consistent, High-Quality Global Regulation

New IFAC report contends that more is not necessarily better in the world of regulation

The results of a December, 2015 roundtable of participants, drawn from regulatory authorities, financial markets, academia, listed companies, investment funds, and the accounting profession, led to the February, 2016, IFAC-sponsored report: From Crisis to Confidence: A Call for Consistent, High-Quality Global Regulation.

As if anticipating the call, the United Kingdom’s Financial Reporting Council (FRC) chief executive, Stephen Hadrill, stated to his constituents “it was important to ensure changes introduced to the body's codes and standards functioned correctly before any further change takes place.” (Accountancy Age, February 11, 2016). Considering the magnitude of recent changes, a shift in emphasis to evaluating compliance makes sense for the time being.

In recent years, much discussion has taken place weighing the successes and challenges the International Accounting Standards Board’s (IASB) has faced in the push to attain universally accepted International Financial Reporting Standards (IFRS). The IASB has made a point of stressing that differences in implementation of IFRS between jurisdictions have resulted in few localized variations, and that these are diminishing over time.

Even so, talk about regulatory enforcement of the standards has typically focused on individual countries, rather than on a global perspective. Success of global IFRS will depend as much on how well the standards are enforced in the various jurisdictions.

Addressing this concern is the objective of a new academic study published February 5, 2016, by Gary Kleinman, Beixin Betsy Lin and Rebecca Bloch, titled: Accounting Standards Enforcement in an International Setting: Testing the Impact of Cultural, Religious, Political and Legal Environment on National Regulatory Efforts. As the summary abstract states, the study was “seeking to understand whether the often advocated widespread adoption of any set of international standards can provide the link in comparability across nations that proponents have been calling for. Rather than focusing on the standards themselves, this study focuses on the hypothesized determinants of variation in enforcement efforts across nations. The results indicate that there are systematic differences in enforcement based on underlying cultural, religious, political and legal environment differences.” Thus, the study confirms the IFAC’s concern that the current “patchwork [of] regulation poses issues for growth and risk.”

The IFAC report sees the solution in “a series of principles for financial regulation that foster growth, derived from a broad review of existing pronouncements on regulation that have been made by international organizations.” Here are the ten principles for high quality financial regulation that IFAC is calling on all national regulatory bodies to adopt:

  1. Clear Objectives in the Public Interest – that all agree on;
  2.  Proportionate and Balanced Approach – with regulations that apply to all types of organizations and that are scalable;
  3.  Evidence-Based Assessments – of new regulations for effectiveness, as well as for financial and time costs;
  4.  Appropriate Resourcing – in proportion to the complexity and scale of global oversight;
  5.  Collaborative Action – promoted through new incentives;
  6.  Consistent and Coherent – across multiple jurisdictions;
  7.  Transparent and Open Consultation – between all parties during the development process;
  8.  Active Oversight – that is also independent;
  9.  Systematic Review – that facilitates evaluation and streamlines changes as needed;
  10.  Deliberate Enforcement – that is fair and visible.

The International Organization of Securities Commissions (IOSCO) is one organization that can influence regulators around the world in progressing toward these goals. One example of the work IOSCO is doing in this regard is covered in the final report of the IOSCO Task Force on Cross-Border Regulation, published in September, 2015. While acknowledging accomplishments already attained, the report “presents a series of concrete next steps aimed at supporting cross-border regulation and embedding the consideration of cross-border issues more effectively into IOSCO´s work.” 

For further information, see From Crisis to Confidence: A Call for Consistent, High-Quality Global Regulation.


The World Braces for Impact of New Accounting Standards

Implementation of monumental financial reporting changes looms on the horizon

Though global acceptance of the need for consistent, standardized financial reporting standards is further along than the regulatory process covered in the preceding article, the significance the impending reporting changes will have on the financial world has only started to sink in. With operative dates approaching, preparers and users of financial reports cannot delay the needed preparations much longer.

Some of the biggest revisions to the standards involve revenue recognition and leases. The IASB and the Financial Accounting Standards Board (FASB) are pretty much in agreement on the revenue accounting standard issued in 2014, which generally goes into effect for public companies in 2018 and for others in 2019. The lease standard, issued recently by the IASB and just last week by the FASB, becomes effective a year later. Though putting leases on the balance sheet was agreed to by both boards, income statement treatment will differ.

A survey conducted at KPMG’s 25th Annual Accounting & Financial Reporting Symposium in January, 2016, found that “less than 29 percent of corporate financial preparers say their companies have a clear plan to implement the new revenue recognition standard, with less than 13 percent of the respondents saying they have completed an assessment of the effects of the new standard and are planning implementation… Regarding the newly released leasing standard, less than 13 percent say they have a clear plan for implementation.”

Feedback from participants of Deloitte’s revenue accounting seminars in the last few months of 2015 indicated that while companies acknowledge that significant changes are likely needed for systems, processes and controls, almost 50% have not started implementation and 87% have not established a budget for implementation.

The broad base of changes promulgated by the revenue accounting standard has generated plenty of work for the Transition Resource Group, resulting in several clarifying amendments. Also, since industry specific guidance is not included in the standards, the AICPA continues to address specific issues for sixteen diverse industries, which will be published as an Accounting Guide on Revenue Recognition. Working Drafts have thus far been released for Aerospace and Defense entities as well as Investment Asset Management entities.

The new lease accounting standards will also be felt far and wide, though to a different extent depending on industry and region. When releasing IFRS 16 Leases in January 2016, the IASB estimated that public companies have $3.3 trillion of lease commitments, of which 85% are off balance sheet. The industries most heavily hit appear to be airlines, retail, communication, travel/leisure, and the companies that lease to them. Also, a large proportion of smaller companies lease property and equipment.

For larger companies, analysts and bankers have for a long time taken into account the effects of off balance sheet leases, using information from footnote disclosures. Less sophisticated investors may be less adept at evaluating the changes. In many cases, loan agreements, covenants, incentive compensation plans, and other contractual documents will need to be reassessed for unexpected or unintended consequences arising from the new accounting.

Even though 2018 is the first year for public companies to apply the new revenue accounting standard, for those companies adopting the full retrospective transition method, the first year of application has already begun with 2016. For the lease standard, though 2019 may seem like a long way off, some companies issuing comparative financial statements may need to implement that new standard as early as 2017.

Additional complexity is added to the financial reporting mix in the area of financial instruments. Originally a joint project of the IASB and FASB, the Boards went their separate ways after implications of the 2008 financial crisis led to disagreements. The IASB completed the final aspects of the comprehensive financial instruments standard, IFRS 9, in 2014, while the FASB ultimately settled on three separate pronouncements: recognition and measurement, impairment, and hedging. The first was issued in January, 2016, with second expected in coming months, and the third at the exposure draft stage. Repercussions from these standards could be considerable, especially for some elements of the financial services industry.

For further information, see KPMG Poll of Corporate Financial Executives.

 

Additional A&A News

The following links provide a selection of current articles devoted to highlighting other A&A topics currently making news.

  1. Compliance and tax issues could follow audit threshold rise
  2. Australia is in the vanguard of blockchain’s march to market
  3. Boeing uses an accounting method that others have left behind
  4. Indian companies brace themselves for new accounting standards
  5. AICPA Releases Guidance on Financial Statement Reviews
  6. Internal auditors challenged by cybersecurity, data quality

Audit & Accounting Alert is a publication of Integra International intended to highlight emerging issues in the profession. The goal is to give Integra members an awareness of developments impacting the practice of Audit & Accounting, enabling them to stay on the forefront of industry trends.

Editor Gerald E. Herter  •  HMWC CPAs & Business Advisors, 17501 E. 17th Street, Suite 100, Tustin, CA 92780-7924
 •  Tel: 1 714 505-9000  •  Fax: 1 714 505-9200  •  Email: gerry@hmwccpa.com