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Audit & Accounting Alert Newsletter

Issue 10 | December 2015


Gerry Herter

Over the past year, the Audit & Accounting Alert has showcased various technology developments that present both challenges and opportunities for an accounting profession striving to maintain relevance in an increasingly complex and diverse world. Our first article highlights a new report by the Institute of Chartered Accountants in England and Wales (ICAEW) that reinforces the call for accountants to focus on the rapidly advancing technology age.

Following the ICAEW’s lead, our second article describes an emerging service where the use of innovative technology tools can position accountants as a key advisor for clients. Integrated thinking and reporting expand a company’s reach far beyond mere financial reporting, to predict and measure other critical factors that will impact future potential and sustainability.

Finally, in our third article we return to the familiar confines of traditional accounting, as we anticipate the long awaited new financial standards for leases. Both the FASB and IASB are putting the finishing touches on their pronouncements. While they will differ in some respects, they both call for the placement of lease related assets and liabilities on the balance sheet.

Editor Gerald E. Herter, CPA

In This Issue 

The Path to Future Relevance for Accountants

Wide ranging study sounds the alarm and points the way

Over the past year, the Audit & Accounting Alert has addressed various aspects of rapidly changing technology and the need for accountants to pay close attention to those changes, or risk descending into irrelevance. The warnings continue to come, while also offering avenues of support for keeping pace.

The ICAEW (Institute of Chartered Accountants in England and Wales) has now taken up the challenge with a new report titled Providing Leadership in a Digital World, published on October 29, 2015. The report identifies technology trends, their applicability to the accounting profession, steps to be taken by accountants, and specific ICAEW plans to lead and engage the various stakeholders toward a successful digital future.

The ICAEW has been serving its members since 1880, seven years before its American counterpart, AICPA, was established. As such, the ICAEW and AICPA have seen a number of transformations in the accounting profession down through the decades. As each advance in industrialization and technology has taken place, a common fear was that accountants would be rendered obsolete by automation and “labor-saving” devices. Thus far, accountants have instead been freed up from mundane tasks that are better done by machines. Their talents have then redirected to the more complex aspects of analysis and management guidance. Whether the profession fares as well this time around remains to be seen.

The report identifies technology trends with regards to 1) data, such as artificial intelligence, 2) interaction, such as mobile access, and 3) financial technology, such as Bitcoin and digital wallets. Then these trends are applied to the accounting profession showing how they provide drivers and barriers, impact business processes, as well as the way accountants operate.

From here the report describes skills and services that will be needed to succeed in the future, and the methods and changes required for attaining the new expertise. Finally, the report presents three approaches that ICAEW will put in place to facilitate progression to the advanced digital world.

The trends identified are summarized as follows:

1. Data

  • a. Big data and analytics;
  • b. Automation, including artificial intelligence;
  • c. Cyber security;
  • d. Data standards, including XBRL;

2. Interaction

  • a. Cloud computing;
  • b. Mobile;
  • c. Online services;
  • d. Social media;

3. Financial technology

  • a. Cryptocurrencies and distributed ledger systems;
  • b. Payment systems and mobile money;
  • c. Platforms;
  • d. Analytics-based financial services.

Many of the above trends have been covered by the Audit & Accounting Alert over the past year. For example, refer to the February, 2015 issue for “Big Data is Transforming the Audit and Accounting World,” the March, 2015 issue for “Is Your Data Secure,” the April, 2015 issue for “Bitcoin: A Fad or the Future for Business,” the August, 2015 issue for “The Internet of Things,” and the November, 2015 issue for “Cybersecurity in a Mobile World.” These articles illustrate ways in which business processes are changing and in some cases how forward-looking accountants are adapting.

Some of the drivers arising from the trends are the demands from users for better and quicker data, the expectations of emerging staff, new regulatory requirements, and the business benefits. Some of the barriers are old systems, people issues, lagging standards, and cost.

To position for the future, the report encourages accountants to “deliver valuable accounting tasks and services, build differentiated skills, and encourage responsive organisations,” The new valued services, for example, could utilize new data sources, perform predictive modeling, address assurance of non-financial data, leverage the profession’s strong ethics reputation to provide privacy and data protection services, and gain access to new markets internationally.

Since advanced artificial intelligence techniques, such as machine learning algorithms (MLA) and natural language processing (NLP), are moving automation to sophisticated levels not seen before, accountants need to “concentrate on areas which remain difficult to automate, such as where human judgement or a deep understanding of the business environment is required, or where tasks depend on the knowledge and application of highly complex rules.” In addition to the current level of business familiarity, the new focus will require stronger technical and statistical skills, which in the past may have been delegated to technology experts. In turn, firms will need to respond by offering the resources and support for staff to attain the requisite skill levels.

Working with their membership and the profession, the ICAEW will take a leadership role as: 1. A trusted information source – employing the organization’s longstanding IT Faculty to support individuals; 2. An institutional partner – interacting with governmental, professional and regulatory bodies; and 3. A hub for innovative thinking – through initiatives like Tomorrow’s Practice, which “focuses on the evolution of accountancy practices, based on input from different stakeholders.”

For further information, see Providing Leadership in a Digital World.

Creating Value With Integrated Thinking

New report lays out the role of professional accountants

The preceding article asserts that for accountants to remain relevant in the future, consideration should be given to services requiring “a deep understanding of the business environment.” Integrated thinking is one area where this capability can be employed for the long term benefit of companies and clients. On November 3, 2015, the International Federation of Accountants issued a thought paper, Creating Value with Integrated Thinking: The Role of Professional Accountants, to guide accountants in public and private practice.

Two years have passed since the release of the International Integrated Reporting Framework. As we noted in our update article in January, 2015, “the primary purpose of an integrated report is to explain to providers of financial capital how an organization creates value over time. An integrated report benefits all stakeholders interested in an organization’s ability to create value over time, including employees, customers, suppliers, business partners, local communities, legislators, regulators and policy-makers.”

Furthermore, as Alta Prinsloo, IFAC’s Executive Director, Strategy and Chief Operating Officer, stated at that time: “Integrated thinking means that integrated reporting is inextricably connected to the organization’s management processes concerning resources, relationships, risks, and opportunities—in both strategy and daily management.” (Alta Prinsloo, IFAC, 11/25/14).

As our world becomes progressively more complex and interdependent in multiple ways, financial reporting has been found lacking in the breadth and depth of information needed to assure success in creating value for the long term. In recent months, notable accounting Professors Paul Miller and Paul Bahnson have been going back and forth with former IASB member Paul Pacter, over the future success of International Financial Reporting Standards (IFRS) in promoting global capital market efficiency. The professors were quoted as stating "International accounting standards are both undesirable and infeasible for many reasons." Pacter counters pointing out the already widespread worldwide acceptance and consistency of IFRS.

Though IFRS may indeed have achieved broad recognition, the financial reporting focus may prove to be a limitation on the standards’ usefulness, ultimately. Unless companies and their accountants expand their focus beyond financial reporting to the other critical areas that directly impact the prospects for success, their future survival and relevance will be put at risk.

The integrated thinking model encompasses six types of capital that need to be considered:

  1.  Financial;
  2.  Manufactured
  3.  Intellectual
  4.  Social and relationship
  5.  Human
  6.  Natural.

Financial and manufactured capital are the easiest for companies and accountants to measure and report on, since they lend themselves readily to quantification and measurement. These are the capitals traditionally reflected and compared in annual reports. Intellectual, social and relationship and human capital relate to various physical and non-physical aspects of knowledge contribution, interaction, and individual conditions in the wider reach of society as, well as the workplace. Some of these factors can be more difficult to measure using conventional measures, and therefore call for more innovative approaches. Natural capital refers to materials drawn from the environment, which may or may not be depleting, causing a separate set of challenges.

Since these other capitals need to be addressed, the accounting discipline is well suited to assist with devising methodologies that produce useful, consistent and credible reporting mechanisms. As the report states, “professional accountants can facilitate an understanding of value creation through their information collection, analysis, and decision-support activities, which ultimately help move toward integrated reporting…By directly contributing to an organization’s efforts to sustain and create value in a broader perspective than traditional finance and accounting measures, professional accountants can be perceived as more fully meeting the needs of their employers and of society.”

Two examples from the report describe strategies employed by Nestlé and The UK Crown Estates. Nestlé’s is called “Creating Shared Value.” Nestlé takes the position that for long-term success, the company must create value for society while creating value for shareholders. To fulfil that strategy, the company has laid out 38 commitments focused on nutrition, rural development, water, environmental sustainability and our people, human rights and compliance. There are plenty of opportunities in these commitments for accountants to employ their skills in devising effective reporting tools.

The UK Crown Estate’s strategy is called “Total Contribution.” The environmental, social, and economic impact of its operations are measured and reported. This information demonstrates both how the components are managed by the organization and how they create value both for the business and society.

Following these examples, companies will first need to accept and determine which of the capitals will have a bearing on their continued well-being, and then devise an integrated plan that puts them in the forefront of their strategies for the future.

The report lists a variety of resources for a more in depth look at Integrated Thinking. Also, IFAC will be launching an <IR> Accountancy Body Network later this year in conjunction with the IIRC. The Network will focus on exchanging ideas, knowledge, experiences, and resources between accountancy bodies on matters related to Integrated Reporting. 

For further information, see IFAC Releases New Thought Paper Setting Out a Vision for Integrated Thinking.

New Lease Standard to be Issued Soon

FASB and IASB are finalizing separate standards with similar concepts but differing approaches

More than a year had passed since the accounting for leases was covered in the September 2014 Audit & Accounting Alert. But at last the new standard is expected anytime now by the IASB and in early 2016 by the FASB. Considering that the boards have been wrestling with the lease issue since 2005, when the SEC asked for better guidance, the imminent release of a final standard is a major milestone.

While both boards have agreed to the overall concept of reporting leases on the balance sheet as assets with corresponding liabilities, the boards differ as to the model for accomplishing that goal. The FASB will retain the two model approach for lessees that was described in the 2013 exposure draft. Under this approach, Type A leases, which current accounting considers capital or purchase leases, will have the right-of-use portion of the balance sheet asset amortized as an expense using a straight line basis. The financing portion of the balance sheet liability will produce a separately reported interest expense. Type B leases, currently considered operating leases, will have the periodic lease costs amortized as a single expense using a straight-line method.

The IASB approach will consider all leases the same, using a one model approach. The lease costs will all be reported in a similar fashion as FASB Type A leases, with both amortization and interest expenses reported on the income statement.

Lessor lease accounting under both boards will be similar to the current standards, which already use an approach that corresponds to the Type A and Type B model above. Also, leases with terms of a year or less will be exempt from the standard, and groups of leases with comparable characteristics can be reported collectively as a portfolio.

Paving the way for the new standard, the IASB in October 2015 released an update titled Definition of a Lease. The definition, which will be reflected in the standard, states that “a lease is defined as a contract, or part of a contract, that conveys to the customer the right to use an asset for a period of time in exchange for consideration.” With regards to identifying a lease, the update indicates that “a lease exists when the customer controls the use of the identified asset throughout the period of use. This is when the customer has the right to: 1) Obtain substantially all of the economic benefits from use of the identified asset throughout the period of use, and 2) Direct the use of the identified asset throughout that period.”

In addition to expanding on the definition and identification of a lease, the update provides useful illustrative examples for applying the criteria to various types of assets and their uses, such as rail cars, concession space, fiber-optic cable, retail units, trucks, ships, aircraft, contracts for shirts, contracts for energy, and contracts for network services.

The effective date for the new standard is expected generally to be 2019. The standard is anticipated to apply to non-public companies as well as public entities, with no significant differences. 

For further information, see FASB Votes to Proceed with Final Standard on Leases and Definition of a Lease.

Additional A&A News

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

  1. China Plans IFRS Expansion
  2. Auditors in India use algorithms to scan books minutely
  3. Financial Stability Board proposes creation of disclosure task force on climate-related risks
  4. FASB simplifies presentation of deferred income taxes
  5. The Accounting Rules That Bankrupt Cities
  6. Ernst & Young Found Liable for Madoff Losses

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: [email protected]