The IFRS for SMEs

1. The IFRS for SMEs 27th Annual TSAE Convention September 24, 2010 Brentwood, TN Eva K. Jermakowicz, Ph.D., CPA Tennessee State University Nashville, TN

2. IFRS Adoption Around the World • One of the most significant regulatory changes in accounting history • World-wide, over 120 nations require IFRS-based financial reporting for listed companies (including all 27 EU countries, Switzerland, Australia and Hong Kong) • It is projected to be over 150 by 2011 (Canada and India converged to IFRS by 2011, Japan by 2013) • IFRS is required for all companies in 90 countries (Deloitte, IASPlus.com, 2010) • IFRS is set to become the global accounting language

3. IFRS for Small- and Medium-Sized Entities (IFRS for SMEs) – AN OVERVIEW

4. IFRS for SMEs - Background • Issued on July 9, 2009, in response to strong international demand from both developed and emerging economies for ‘little IFRS’, that is much simpler than full IFRS • On May 18, 2008, the Governing Council of the AICPA amended Appendix A to Rules 202 and 203 of the AICPA’s Code of Professional Conduct to designate the IASB as the body to establish professional standards with respect to international financial reporting • AICPA members are now allowed to report on financial statements prepared in accordance with IFRS as issued by the IASB as an alternative to U.S. GAAP

5. Scope and Definition • SMEs are defined as entities that: • Do not have public accountability (securities not publicly traded, not financial institutions), but • Must produce general purpose financial statements that present fairly financial position, operating results, and cash flows for external capital providers & others • Over 99% of private entities around the world are expected to be eligible to use the standard • Subsidiary of a listed company can use it if the sub itself is not listed

6. Key Features • Tailored for SMEs and needs of users of their financial statements • Completely stand-alone standard – not linked to full IFRS • The only ‘fallback’ option to full IFRS is the option to use IAS 39 instead of the financial instruments sections of IFRS for SMEs • Much smaller: about 230 pages versus 2,500 in full IFRS and 17,000 in U.S. GAAP • Organized by topics (35 Sections) • Updated only once every 3 years • Simplifications from full IFRS

7. Simplifications from Full IFRS • Some topics included in full IFRS omitted if irrelevant to SMEs • Where IFRS have accounting policy options, only simpler option included • Recognition and measurement simplifications • Reduced disclosures • Simplified drafting

8. Examples of Omitted Topics • Segment reporting • Interim reporting • Earnings per share • Insurance • Assets held for sale

9. Examples of Disallowed Options • The revaluation model for PP&E and intangible assets • Financial instruments options (e.g., ‘available for sale’, ‘held to maturity’, ‘fair value option’) • Proportionate consolidation for investments in jointly controlled entities • Free choice of treatment on investment property • Various options for the accounting for government grants • Capitalization of borrowing costs • Capitalization of development costs • Deferral of actuarial gains and losses of defined benefit plans

10. Recognition and Measurement Simplifications • Financial instruments (two classifications: amortized cost; fair value through profit or loss) • Goodwill (and other intangible assets) amortized over useful life (or over 10 years if useful life cannot be reliably estimated) • Goodwill impairment – indicator approach meaning not necessarily annually • Cost model for investments in associates and JVs allowed • Expense all R&D • Expense all borrowing costs

11. Recognition and Measurement Simplifications • Pension accounting: • Defined benefit – No corridor or deferrals; Not required to use the projected unit credit method if impracticable • All past service cost must be recognized immediately in profit or loss • All actuarial gains and losses must be recognized immediately either in profit or loss or other comprehensive income (OCI) • Exchange differences recognized initially in OCI are not reclassified to profit or loss on disposal of the related investment (the need for tracking them eliminated) • Share-based payment – Director’s judgment can be used in estimating value if market prices are not available

12. Financial Instruments • Accounting policy choice for all financial instruments to use either: • Financial instruments sections of IFRS for SMEs; or • IAS 39 plus disclosure requirements of IFRS for SMEs • Financial instruments covered in two sections: • Section 11 – Basic financial instruments (criteria: returns, prepayment, loss of principal or interest by holder) • Section 12 – Other financial instruments • Two classification categories: • Amortized cost using effective interest rate • Fair value through profit or loss

13. Other Policy Options in IFRS for SMEs • Optional transition exemptions from the full retrospective application on first-time adoption • Present single statement of comprehensive income, or separate income statement and statement of comprehensive income; Present expenses by nature or by function • Combined statement of income and retained earnings allowed in some circumstances • Present operating cash flows using the direct or indirect method; Classify interest and dividends as operating, investing, or financing

14. Other Policy Options in IFRS for SMEs • Apply the cost, or FV through P&L model, or the equity method for investments in associates and joint ventures • Account for investments in separate financial statements at cost or at FV through P&L • Recognize actuarial gains and losses in the period in which they occur in profit or loss or in other comprehensive income

15. Accounting Policy Hierarchy • Level 1. The guidance in IFRS for SMEs on similar or related issues • Level 2. The definitions, recognition criteria, and measurement concepts in Section 2, Concepts and Pervasive Principles, of the Standard • Level 3. The requirements and guidance in full IFRS dealing with similar or related issues; no reference to considering the pronouncements of other standard-setters

16. Financial Statement Presentation • A set of financial statements under IFRS for SMEs (similar to full IFRS) comprises: • A statement of financial position • A statement of comprehensive income (or a separate income statement and a statement of comprehensive income) • A statement of changes in equity • A statement of cash flows (using either the direct or indirect method) • Notes, comprising a summary of significant accounting policies and other explanatory information

17. Disclosure Simplifications • Reduced disclosure requirements: • Full IFRS – more than 3,000 items in the disclosure checklist • IFRS for SMEs – roughly 300 disclosures • Some disclosures omitted relate to disallowed complex recognition and measurement options in full IFRS • Some disclosures in full IFRS are more relevant to investment decisions in public capital markets

18. Transition to IFRS for SMEs • Additional simplifications are provided in relation to comparative information on first-time adoption of IFRS for SMEs • An impracticability exception from having one year comparative information and with respect to restating the opening statement of financial position is included

19. Adopting IFRS for SMEs - Pros • Improved comparability • Improved access to capital • Focused on the needs of users of SME financial statements • Reduced time and effort to prepare financials • Less disclosure requirements • Updated only once every 3 years • Attract foreign investors • Harmonization of internal and external reporting

20. Adopting IFRS for SMEs - Cons • Increased cost and workload on first-time adoption • Need for personnel trained in IFRS • Impact on information systems • Different interpretations due to more principles-based standards • Impact on taxes, debt covenants and other customer/supplier contracts in transition

21. The Future of Private Entity Reporting

22. International Adoption of IFRS for SMEs • As of June 2010, 62 jurisdictions – many from developing and emerging economies - have either already adopted or plan to adopt it soon (e.g., Brazil, Hong Kong, Ethiopia and South Africa) • The UK and Ireland, have proposals to adopt IFRS for SMEs for certain smaller entities • France, Germany, and Italy are unlikely to adopt IFRS for SMEs because of its impact on taxes • The European Commission is evaluating the future of private company reporting (there are about 55 different SMEs GAAP in the EU today!)