Reporting Update 22 July 2014, 14RU-006

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1 Reporting Update 22 July 2014, 14RU-006 KEY POINTS Assess whether have public accountability at each reporting date Special purpose financial statements 30 June warning Research sponsored by the Australian Accounting Standards Board (AASB) indicates that 80% of large proprietary companies from were preparing special purpose financial statements (SPFSs) as they did not consider themselves reporting entities. Only 34% of companies limited by guarantee were preparing SPFSs. Entities appear to be: using factors other than those in SAC 1 Definition of the Reporting Entity in making their assessments applying SAC 1 inconsistently. Assess reporting entity status at each reporting date and document rationale single owner is not sufficient to support preparation of special purpose financial statements Consider whether Tier 2 Reduced Disclosure Requirements should be adopted to avoid concerns about application of reporting entity concept Future of reporting entity concept uncertain. In addition, 20% of companies preparing SPFSs have indicated they are not using all accounting standard recognition and measurement criteria, despite ASIC Regulatory Guide 85 (RG 85) Reporting Requirements for Non-reporting Entities indicating they should be. The purpose of AASB Research Report No 1 (RR 1) Application of the Reporting Entity Concept and Lodgement of special purpose financial statements is to assist the AASB, Treasury and other regulators to identify what changes to use of the reporting entity concept should be considered. However, it also has implications for those entities currently claiming they are not reporting entities

2 Background Directors, when preparing financial statements, must determine whether the entity is a reporting entity that must prepare General Purpose Financial Statement (GPFSs) in accordance with AASB 1053 Application of Tiers of Australian Accounting Standards or a non-reporting entity that may prepare SPFSs. For Corporations Act entities preparing SPFSs, RG 85 indicates that to present a true and fair view, all accounting standard recognition and measurement requirements should be complied with, and there are certain mandatory accounting standards - AASB 101 Presentation of Financial Statements, 107 Statement of Cash Flows, 108 Accounting Policies, Changes in Accounting Estimates and Errors, 1048 Interpretation of Standards, 1053 Application of Tiers of Australian Accounting Standards, and 1054 Australian Additional Disclosures. For other entities preparing SPFSs, directors must determine the appropriate accounting policies and disclosures that the users require. A reporting entity is defined by AASB 101 Presentation of Financial Statements as an entity of which it is reasonable to expect the existence of users who rely on GPFSs for information that will be useful to them for making and evaluating decisions about the allocation of resources. SAC 1 indicates that an entity is more likely to be a reporting entity: the greater the separation of ownership and management the greater the economic or political importance the larger the size (value of sales, assets, number of employees/customers) or greater the indebtedness or resources allocated. Auditors will also consider the directors assessment of reporting entity status. Directors should reassess each reporting period, as circumstances may have changed. ASIC specifically considers appropriate application of the reporting entity concept as part of its financial statements surveillance program and has challenged assessments. Failing to comply with accounting standards could lead to significant penalties. Impact on 30 June 2014 reporting Whilst the research doesn t change the criteria for assessing whether an entity is a reporting entity, it confirms how challenging applying the concept is, requiring significant judgement by management, directors and auditors. It also highlights circumstances where preparing SPFSs may be questioned (see below). AASB 1053 is mandatory for 30 June 2014 and must be specifically considered by all Corporations Act entities. It does not require all Corporations Act entities to prepare GPFSs. However, any entity with public accountability must prepare general purpose Tier 1 financial statements complying fully with Australian Accounting Standards. Publicly accountable entities are: listed entities, or those in the process of listing other disclosing entities 14RU-006 Special purpose financial statements 30 June warning 2

3 registered management schemes most superannuation schemes authorised deposit-taking institutions cooperatives issuing debentures entities holding assets in a fiduciary capacity (e.g. trust accounts, deposit accounts) for a broad group of outsiders as one of its primary businesses (includes insurance companies, securities brokers/dealers, unlikely to include travel agents or real estate brokers). Entities holding assets in a fiduciary capacity should consult with their auditors, as determining whether they have public accountability is challenging. Tier 2 Reduced Disclosure Requirements (RDR) GPFSs must comply with all accounting standard recognition and measurement requirements, but limited disclosure. Not-for-profit private sector entities are able to use RDR, unless a regulator specifies they must be Tier 1. In some instances, RDR will result in financial statements very similar to those currently being prepared as SPFSs, removing the judgements around whether the entity is a non-reporting entity and what accounting policies and disclosures are required by the users, associated with SPFSs. Given the current focus on SPFSs and likely future directions, it may be beneficial to move to RDR financial reporting. Director actions Directors of entities continuing to prepare SPFSs at 30 June 2014 should: assess whether the entity is publicly accountable reassess appropriateness of SPFSs assess differences between SPFSs and RDR and whether it is beneficial to move to RDR consider examples of inappropriate assessment below document clearly the rationale applied in concluding that the entity is non-reporting, specifically referencing the criteria in SAC 1 if the entity is a Corporations Act entity, ensure that all recognition and measurement criteria of applicable accounting standards have been applied and that appropriate disclosures have been made. Special purpose considerations In assessing whether SPFSs may be prepared, RR 1 highlights a number of issues to consider: it is not whether an entity has dependent users, but whether it is reasonable to expect the existence of such users (for example, nil searches for a company on the ASIC register is not indicative of whether it reasonable to expect dependent users) sole ownership by another entity is not sufficient of itself economic or political importance/influence appears to be overlooked (e.g. dominant positions in the market such as significant market share, monopolies, duopolies; employer/employee associations such as unions) financial characteristics such as size (value of sales or assets, number of employees or customers) and relative level of indebtedness to other parties appears to be overlooked. 14RU-006 Special purpose financial statements 30 June warning 3

4 Examples identified by the researchers where the entity preparing SPFSs was considered problematic included: wholly owned management services company with $100m in assets, $16m in trade creditors and 55 employees aged care provider with $20m in resident bonds (liabilities), $1m trade creditors and 100 employees global financial services company with stated activities suggesting probable impact on welfare of external parties, $500m external trade payables and $2b unsecured external borrowings wholly owned subsidiary of global mining company with 500 employees and $250m trade payables global engineering company with one member, 4000 employees and trade payables of $300m. The research also highlighted a number of instances where the majority of similar competitor companies were preparing GPFSs. Future of reporting entity concept? RR1 resulted from the AASB s initial proposals in ED 192 Revised Differential Reporting Framework issued in ED 192 proposed clarifying that financial statements meeting the following two conditions would be GPFSs: publicly available, whether under a legal mandate or voluntarily; and either: prepared in accordance with all applicable Australian Accounting Standards (Tier 1 or 2) under a legal mandate or held out to be so: or required to be GPFSs under a legal mandate or held out to be GPFSs. Accordingly, Corporations Act entities required to lodge publicly available financial statements in accordance with accounting standards would need to prepare GPFSs (either Tier 1 or 2 as applicable). RR1 confirms that the AASB s concerns regarding the application of the reporting entity concept were well founded. The AASB has recently reconfirmed that its mandate does not cover specifying accounting standards for SPFSs and its intention is to remove from the application paragraphs of the standards requirements currently applying to Corporations Act entities preparing SPFSs. Whilst the AASB will issue an exposure draft to obtain feedback, the result would be that Corporations Act SPFSs would no longer need to comply with AASB 101, 107, 108, 1048, 1053, and However, it is possible that such a move would result in action from either/both Treasury and ASIC to continue these requirements. The AASB has not as yet indicated whether it will proceed with clarification of GPFSs as indicated in ED 192. However, it seems given the results of RR1 that action will be required. 14RU-006 Special purpose financial statements 30 June warning 4

5 KPMG Comment In KPMG s view, such action by the AASB should preferably be a co-ordinated approach with regulators, to ensure that the proprietary company small/large test criteria or other regulator criteria for public lodgement of financial statements in accordance with accounting standards are appropriate for any resulting changes in practice. The challenge will be managing government/regulator s stated desire for reducing regulatory burden versus simplification and clarification of when GPFSs are required, which may result in entities having to prepare more disclosures. 14RU-006 Special purpose financial statements 30 June warning 5 The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.