FOCUSES FOR 30 JUNE 2018 FINANCIAL REPORTS

New accounting standards

1. Impact of the new standards

New accounting standards that will significantly affect reported results of many companies include:

• AASB 9 Financial Instruments (applies from years commencing 1 January 2018);
• AASB 15 Revenue from Contracts with Customers (applies from years commencing 1 January 2018);
• AASB 16 Leases (applies from years commencing 1 January 2019);
• AASB 17 Insurance Contracts (applies from years commencing 1 January 2021); and
• Amendments to standards to apply the new definition and recognition criteria in the Conceptual Framework for Financial Reporting (applies from years commencing 1 January 2020).

These new accounting standards may significantly affect how and when revenue can be recognised, the values of financial instruments (including loan provisioning and hedge accounting), reported assets and liabilities relating to leases, accounting by insurance companies, and the general identification and recognition of assets, liabilities, income and expenses. The standards also introduce new disclosure requirements.

In addition to the impact on reporting for the periods in which the standards first apply, there is a requirement to disclose the impact of the standards in notes to financial reports ahead of the operative dates for the new standards.

Given the extent of the changes to financial reporting, companies that have not already done so should determine the extent of any impact. The new standards can have real business impacts (e.g, compliance with debt covenants or regulatory financial condition requirements, tax liabilities, dividend paying capacity, and remuneration schemes) as well as the need to implement new systems and processes.

Directors and preparers should be mindful of legislative obligations, including the requirement for companies to keep financial records that correctly record and explain their transactions and financial position and performance, and that would enable true and fair financial statements to be prepared and audited.

Public disclosure on the impact of the standards and timely implementation is important for investors and market confidence. Information that there will be no material impact may also be important information for the market.

Directors and preparers should consider any continuous disclosure obligations and the need to keep the market informed, as well as the impact on any fundraising and other transaction documents.

Half year reports

The new revenue and financial instrument standards apply to years commencing 1 January 2018, directly impacting on reported results of companies with half-year financial reports at 30 June 2018.  The half-year financial reports must disclose the nature and effect of changes in accounting policies from applying the new standards.

ASIC will review selected half-year reports, focusing on compliance with the new standards.

Full year reports

Directors and auditors should ensure that notes to 30 June 2018 financial statements disclose the impact on future financial position and results of new requirements for recognising revenue, for valuing financial instruments, accounting for leases, and accounting for insurance businesses.

It is reasonable for the market to expect that companies will be able to quantify the impact of the new standards, particularly for the revenue, financial instrument and lease standards.

Companies with 30 June 2018 year ends will be reporting to the market part way into the 2018/9 year for which the revenue and financial instrument standards will first apply. Any results forecast for the 2018/9 year disclosed to the market should be consistent with the accounting basis required by the new standards for that year.

The new leases standard will bring all leases onto the balance sheet and apply a new measurement basis. Where companies choose to apply the new requirements in comparative information in their 30 June 2020 financial report, new lease balances will be needed as at 30 June 2018.

New conceptual framework

In March 2018, the International Accounting Standards Board released a new conceptual framework. Amendments were made to international standards to apply new definition and recognition criteria for assets, liabilities, income and expenses in the framework will apply for years commencing 1 January 2020 where the criteria are not inconsistent with a specific requirement of an accounting standard.

While the Australian equivalent standards have not yet been amended, companies that are required to make an explicit unreserved statement of compliance with IFRS will need to make note disclosure at 30 June 2018 of the future impact of the criteria in the new framework in order to make that statement.

Further information

Further information can be found in ASIC media release Companies need to respond to major new accounting standards (refer: 16-442MR).

Accounting estimates

2. Impairment testing and asset values

The recoverability of the carrying amounts of assets such as goodwill, other intangibles and property, plant and equipment continues to be an important area of focus.

It is important for directors and auditors to ensure:

1. cash flows and assumptions are reasonable having regard to matters such as historical cash flows, economic and market conditions, and funding costs. Where prior period cash flow projections have not been met, careful consideration should be given to whether current assumptions are reasonable and supportable;
2. discounted cash flows are not used to determine fair value less costs of disposal where forecasts and assumptions are not reliable. Fair value less costs to sell should not be viewed as a means to use unreliable estimates that could not be used under a value in use model;
3. value in use calculations:
• use sufficiently reliable cash flow estimates
• do not use increasing cash flows after five years that exceed long term average growth rates, and without taking into account offsetting impacts on discount rates, and
• do not include cash flows from restructures and improving or enhancing asset performance
4. cash flows used are matched to carrying values of all assets that generate those cash flows, including inventories, receivables and tax balances;
5. different discount rates are used for cash generating units (CGUs) where the risks are different and the CGUs are located in different countries, and that similar discount rates are used where the risks are similar;
6. CGUs are not identified at too high a level, including where cash inflows for individual assets are not largely independent;
7. CGUs for testing goodwill are not grouped at a higher level than the operating segments or the level at which results are monitored for internal management purposes;
8. corporate costs and assets are allocated to CGUs on an appropriate basis where it is reasonable to allocate them;
9. appropriate use of fair values for testing exploration and evaluation assets during the exploration and evaluation phase; and
10. royalty relief or earnings multiple models are not used unless they are sufficiently reliable and market based assumptions are available that are specific to the company’s assets and circumstances.

Further information can be found in ASIC Information Sheet 203 Impairment of non-financial assets: Materials for directors (INFO 203).

Other areas of focus on asset values include:

1. companies affected by market changes, digital disruption, technological change, climate change or Brexit;
2. the pricing, valuation and accounting for inventories, including the net realisable value of inventories, possible technical or commercial obsolescence, and the substance of pricing and rebate arrangements; and
3. the valuation of financial instruments, particularly where values are not based on quoted prices or observable market data. Fair values should be based on appropriate models, assumptions and inputs.

Accounting policy choices

3. Revenue recognition

Directors and auditors should review an entity’s revenue recognition policies to ensure that revenue is recognised in accordance with the substance of the underlying transactions. This includes ensuring that:

1. services to which the revenue relates have been performed;
2. control of relevant goods has passed to the buyer;
3. where revenue relates to both the sale of goods and the provision of related services, revenue is appropriately allocated to the components and recognised accordingly.

For 30 June 2018 half year reports, the new revenue standard applies. This standard is considerably more detailed and focuses on performance obligations.

4. Expense deferral

Directors and auditors should ensure that expenses are only deferred where:

1. there is an asset as defined in the accounting standards;
2. it is probable that future economic benefits will arise; and
3. the requirements of the intangibles accounting standard are met, including
1. expensing start-up, training, relocation and research costs;
2. ensuring that any amounts deferred meet the requirements concerning reliable measurement; and
3. development costs meet the six strict tests for deferral.

5. Off-balance sheet arrangements

Directors and auditors should carefully review the treatment of off-balance sheet arrangements, whether other entities are controlled and should be consolidated, the accounting for joint arrangements and disclosures relating to structured entities.

Client monies held may also give rise to on-balance sheet assets and liabilities. Whether or not on balance sheet, systems and processes should be in place to ensure any monies are sufficient to meet liabilities to clients.

6. Tax accounting

Tax effect accounting can be complex and preparers of financial reports should ensure that:

1. there is a proper understanding of both the tax and accounting treatments, and how differences between the two affect tax assets, liabilities and expenses;
2. the impact of any recent changes in legislation are considered; and
3. the recoverability of any deferred tax asset is appropriately reviewed.

Key disclosures

7. Estimates and accounting policy judgements

Disclosures regarding sources of estimation uncertainty and significant judgements in applying accounting policies are important to allow users of the financial report to assess the reported financial position and performance of an entity. Directors and auditors should ensure disclosures are made and are specific to the assets, liabilities, income and expenses of the entity.

Disclosure of key assumptions and a sensitivity analysis are important. These enable users of the financial report to make their own assessments about the carrying values of the entity’s assets and risk of impairment given the estimation uncertainty associated with many asset valuations.

Preparers should be particularly mindful to make these disclosures as this information may be revealed under key audit matter disclosures in the new enhanced audit reports for listed entities.