ARTICLES
IFRS Reporting Challenges during COVID-19 Times
The COVID-19 pandemic has affected and continues to affect the world in a way that, apart from those who have the elusive gift of conceptualising that which does not exist but could exist, many mortals, including the author, had never thought would be possible. Lots of the World’s population is now familiar with Middle-Ages concepts of fighting dangerous contagious diseases such as (forced) quarantine, lockdown and self-isolation. Whole communities, sectors of the economy, countries have been greatly disrupted by the stealth malady. Unprecedented contractions of the World’s most economies are expected, soaring unemployment rates have started to materialize. These conditions are already affecting and will continue to affect organisations and businesses in the foreseeable future.
This pandemic situation poses a challenge to organisations and businesses as they have to rethink their business models and to revisit some assumptions that until some months ago, were considered as self-evident. As far as IFRS financial reporting is concerned, there are some key areas that management should pay attention to as they prepare the financial statements.
Going concern
IAS 1 Presentation of Financial Statements stipulates that management must assess whether the entity they are in charge of is a going concern and is expected to continue its operations for the foreseeable future. This going concern assessment has to be carried out up to the date that financial statements are issued, and it must consider a period of at least 12 months after the balance sheet date or first 12 months after the financial statements are signed.
Due to lockdowns inside countries, travel restrictions between countries and restrictive health measures such as mandatory physical distance between individuals, lots of companies across several sectors of the economy have seen their revenues plummet, while their costs have remained practically the same. Government relief, lay-offs, freezing hiring, postponing planned investments and other similar measures might prove not to be enough to tame the effects of those COVID-19 measures imposed by the authorities.
Considering then the uncertainties in terms of how long the tenacious virus will continue to haunt us and how much time a vaccine will take to be developed, management has to substantiate even with greater clarity and details why they think that they will continue to be a viable company under the given circumstances for the foreseeable future.
Accounting Estimates
According to IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors, management is responsible for applying appropriate and relevant accounting policies, changes in accounting estimates and errors as well as their corresponding disclosures. Management has to apply judgement in deciding which accounting policies and estimates to use that will result in financial information that is relevant and will provide a faithful representation of the situation of the entity.
The COVID-19 environment that the World is currently experiencing poses unseen challenges to management in the sense that it has made the whole exercise of choosing appropriate, relevant and specific principles, rules, practices to apply in order to capture the substance of transactions more complex. In the event of an IFRS that is applicable to a specific transaction, condition or event, then the situation is straight forward. It just needs to be applied. However, in the absence of this, judgement must be exerted. IAS 8 specifies that management has to refer to the following sources in the descending order:
- the requirements and guidance in IFRS Standards dealing with similar and related issues; and
- the definitions, recognition criteria and measurement concepts for assets, liabilities, income and expenses in the Conceptual Framework.
The complexity lies mainly in defining what could be considered to be similar and related issues or in applying definitions, recognition criteria and measurement concepts to singular consequences of COVID-19 measures such as lockdowns of some if not all sectors of the economy for a prolonged time. This can affect the valuation of assets such as investment properties, inventories, oil and gas reserves, liabilities such as provisions, lease, revaluations in the equity account etc. Another element that is most likely to add complexity for management is that IAS 8 indicates that changes in an accounting policy are applied retrospectively unless this is impracticable or unless another IFRS sets specific transitional provisions. One can imagine how arduous the task will be to restate the prior year figures in order to achieve comparability with current year figures.
Subsequent Events
Under IFRS, subsequent events are dealt with IAS 10 Events after the Reporting Period. These subsequent events are defined as those events, both favourable and unfavourable that occur between the end of the reporting period and the date when financial statements are authorised for issue. IAS 10 further distinguishes adjusting events (evidence of conditions of the events existed at the end of the reporting period) and non-adjusting events (evidence of conditions of the events arose after the reporting period).
The task at hand for management before authorising the issue of the financial statements is therefore to first assess all events that occurred after the end of the reporting date and the date of issue of financial statements and determine whether there are events that provide evidence of conditions that existed at the end of the reporting period that should lead to adjustments or not, which in that case would mean that they need to be disclosed (if they are material). How high the mountain to climb is, not only depends on the how many events are identified but is further influenced by when entities have their ends of the reporting periods and when authorities in their respective countries started implementing measures to curb the effects of COVID-19.
COVID-19 has proven to be a challenge of a tremendous magnitude to different communities in our societies, businesses, organisations and countries. The accounting, finance and auditing communities all over the world will have to play a key role in ensuring that transactions in these unusual times continue to be captured and presented in a way that will continue to guarantee that financial statements presented by organisations and businesses are relevant and provide a faithful representation of their situations. I hope that they will meet that rendez-vous!
IFRS 15 and COVID-19 Challenges
It has been now almost 6 months since most of the World’s economies were hit by the pandemic COVID-19 and that economies came to a standstill due to measures taken by governments all over the world to curb the spread of the treacherous malady. As we sail towards the shores of the 3rd quarter of 2020, many businesses have already seen their revenues plummet and they are already being confronted with the challenges of how to measure and recognize, if at all, their revenues. For companies that report under IFRS, here below are some key areas that they should bear in mind.
Under IFRS, income arising in the course of an entity’s ordinary activities is dealt with under IFRS 15 Revenue from Contracts with Customers. (revenues that are outside the scope of IFRS 15 and that are treated by other standards are indicated at the end of this post). In determining what revenues to recognize and/or if any, IFRS 15 preconises a 5 step approach model: (1) Identify the contract(s) with the customer; (2) Identify the performance obligations in the contract; (3) Determine the transaction price; (4) Allocate the transaction price to the performance obligation in the contract; (5) Recognise revenues when (or as) the entity satisfies a performance obligation.
As far as revenue recognition is concerned, the challenge that in my view lots of entities are going to deal with resides primarily in step 1 “Identify the contract(s) with the customer” mentioned above. Application guidance from IFRS indicates that 5 conditions together must be met in order for a contract with a customer to fall under the scope of IFRS 15. One condition under these is the one that is key. The condition is “It is probable that the consideration to which the entity is entitled in exchange for goods and/or services will be collected”.
The Covid-19 pandemic has profoundly changed the business environments in which entities are operating: some sectors have come to a complete stand-still, others are struggling, and some have promising and good prospects. In regards revenues, entities have to seriously ask themselves whether their business partners from which they generate revenues still have or will still have in the near future, the ability to meet the stated terms in the contract. If they are deemed not able to, obviously the condition “it is probable that the consideration to which the entity is entitled in exchange for goods and/or services will be collected” will not be met and therefore, IFRS 15 cannot apply.
Entities should therefore perform a business risk analysis of their key contracts and business partners in order to determine whether that ability from their business partners exists and/or is most likely to still exist in the near future. This way, entities can mitigate the risk of continuing to provide services and sell goods, thinking genuinely that revenues are being “generated” while under IFRS 15, they are not. Some of the sectors that in my view could be more concerned by this ability to meet stated terms in contract are hospitality, scenic transportation, sports and performing arts, laundry and personal services, meat processing and production, gyms and casinos.
In the light of the unprecedented contractions of the World's economies and the impact these contractions have on businesses, auditors are asking companies to further substantiate their "going concern" assumption and show that they are viable entities for the foreseeable future. One aspect that any entity has to show in that regard is the continued ability to generate revenues and finance its raison d'être. One thing is certain, finance managers and controllers have a laborious but interesting task ahead.
Income arising in the course of an entity’s ordinary activities that is outside the scope of IFRS 15 is dealt with under: IFRS 4 Insurance Contracts (IFRS 17 in 2023); IFRS 9 Financial Instruments; IFRS 10 Consolidated Financial Statements; IFRS 11 Joint Arrangements; IFRS 16 Leases; IAS 27 Separate Financial Statements, IAS 28 Investment in Associates and Joint Ventures
