Background

Business combinations under common control are excluded from the application of the current IFRS requirements for business combinations. Under IFRSs, there are requirements for the parent consolidated financial statements and for the selling entity, but no rules for the acquiring entity. As a result, the preparers of the financial statements of the acquiring entity must develop an accounting policy to account for such transactions. There are accointing policy choices - both in choosing the method and in presenting the comparative information for the previous period.

In practice, the need to develop a suitable accounting method can lead to different presentations of comparable facts and circumstances. Especially since such transactions often occur during restructuring or the creation of new entities - possibly also for an IPO. For these reasons, the IASB has been pursuing a research project for a long time, which was suspended for a time, but which, after intensive consideration, has now culminated in a discussion paper, which, in terms of process, precedes the development of an exposure draft.

Summary of preliminary views

Scope. The proposed requirements would apply to all transactions under common control. There would therefore no longer be any differentiation as to whether or not these transactions have economic substance, i.e. whether they constitute pure capital reorganisations or not.

Accounting method dependent on the existence of non-controlling interests. Following its analysis, the Board came to the preliminary conclusion that not one single method for all transactions is in the best interests of all stakeholders. The objective criterion for determining when a transaction should be accounted for using the acquisition method is the existence of a non-controlling interest in the acquiring entity, or at higher levels in the case of sub-groups. Consequently, the book-value method should be applied to all acquiring entities in which there are no non-controlling interests. The only exception is for acquirers whose shares are not traded on a public market, provided that all non-controlling shareholders have been informed of and have not objected to the proposed use of the book-value method. If all non-controlling interests are held by related parties within the scope of IAS 24, application of the book-value method is mandatory.

Application of the acquisition method. Where the acquisition method is to be applied, it must be applied in accordance with IFRS 3. However, if the consideration given is less than the fair value of the assets and liabilities received, this amount is not recognised in profit or loss but in equity.

Application of the book-value method. The IASB proposes to apply the IFRS carrying amounts of the transferred entity prospectively, i.e. from the date of acquisition. The consideration in the form of assets is to be determined at the carrying amounts of the acquiring entity, liabilities incurred are to be determined using the standards applicable to initial measurement. Any difference between the carrying amounts of the assets and liabilities received and the consideration given should be recognised in equity. Transaction costs should be recognised in profit or loss in the period in which they are incurred. The only exception to this are costs for the issuance of additional equity or debt instruments, which must be recognised in accordance with the provisions of IAS 32.

Disclosures. When applying the acquisition method, the disclosure requirements resulting from IFRS 3 should be disclosed, taking into account the improvements proposed in discussion paper DP/2020/1 Business Combinations - Disclosures, Goodwill and Impairment. However, there are additional requirements with regard to IAS 24 that intended to assist preparers. For acquisitions that must be accounted for using the book-value method, adjusted reporting obligations are proposed based on the disclosures required by IFRS 3. This should enable users to assess the nature, financial impact and benefits of the acquisition. However, it is explicitly not required to disclose financial information for periods prior to the acquisition date. Similarly, no fair value of the consideration given is to be disclosed or additionally determined. However, the amount recognised in equity as the difference between the carrying amounts of the assets and liabilities received and the consideration given should be disclosed.

The deadline for comments on the discussion paper is 1 September 2021.

Additional information

• Press release on the IASB's website (includes a short introductory video)
• Discussion Paper DP/2020/2 Business Combinations under Common Control (link to IASB website)
• IASB Snapshot introducing the DP (link to IASB website)
• Fact sheet illustrating the Board’s preliminary views (link to IASB website)
• Need to know newsletter
• UK Accounting Plus project page on Common control transactions

Agenda decision to finalise

Supply Chain Financing Arrangements — Reverse Factoring: In June 2020, the Committee published a tentative agenda decision which analyses the presentation of liabilities arising from reverse financing arrangement in the statement of financial position, statement of cash flows and the related disclosure. The staff recommend that the Committee finalise the tentative agenda decision with some editorial changes.

New issues

IAS 1 Presentation of Financial Statements — Classification of debt with covenants as current or non-current: How does an entity determine whether it has "the right to defer settlement" when a long-term liability is subject to a condition and its compliance with the condition is tested at dates after the reporting date, applying the amended IAS 1?

IAS 19 Employee Benefits — Attributing benefit to periods of service: To which periods of service should an entity attribute benefit for a defined benefit plan, in a scenario where the amount of the retirement benefit an employee is entitled to depends on the length of services before retirement?

IAS 38 Intangible Assets — Configuration or customisation of costs in a cloud computing arrangement: How should a customer account for the upfront costs of configuring and customising the suppliers' application software to which it receives access in future?

IFRS 9 Financial Instruments — Hedging variability in cash flows due to real interest rates: Could a hedge of the variability in cash flows arising from the changes in real interest rate based on inflation index be accounted for as a cash flows hedge?

For all of the new issues, the staff have concluded that the principles and requirements in the relevant Standards provide an adequate basis to determine the appropriate accounting for the issue and that the Committee should publish a tentative agenda decision saying that no further action is required.

Work in progress: The staff are analysing requests related to the accounting of warrants that are initially classified as liabilities, costs necessary to sell inventories and preparation of financial statements when an entity is no longer a going concern.

The full agenda for the meeting and our comprehensive pre-meeting summaries can be found here.

The report presents the findings from the review and sets out the FRC’s expectations for the future application of the Code and reporting. It indicates that the overall level of reporting is disappointing and not what the FRC expects.

In the foreword Sir Jon Thompson, CEO of the FRC, makes the following point:

Much of what we have analysed is formulaic. Too often the objective of reporting appears to be to claim strict compliance with the Code concentrating on achieving box-ticking compliance, at the expense of effective governance and reporting. This approach is a disservice to the interests of shareholders and wider stakeholders, and ultimately is not in the public interest; it undermines trust.  Worryingly, while some companies have sought to claim full compliance, we found on closer inspection that this was not the case.

Sir Jon makes clear that as the FRC transitions to becoming a new regulator, it expects to receive further powers to engage with companies about the quality of their governance reporting. The intention is to do this constructively; by working together with companies to develop the quality of reporting so that it achieves the highest standard for which the UK is known. However, the FRC will call out poor behaviour, where appropriate.  This is in addition to the Financial Conduct Authority (FCA) which recently announced that, going forward, it will be considering governance disclosures to inform decisions about the deployment of future surveillance and monitoring efforts.

As a result of the review, the FRC expects improved reporting in the following ways:

Governance standards:

• Companies should maintain the high standards of the Code by taking the good practice demonstrated within it, applying it to the company and reporting on the approach by use of clear and meaningful explanations.

Leadership

• Companies to have a well-defined purpose and to clearly show the progress towards achieving it.
• Better assessment and monitoring of culture, including consideration of methods and metrics used.
• Demonstrating commitment to diversity and inclusion through actions, such as improved succession planning, recruitment from diverse talent pools and responsiveness to board evaluation outcomes.

Stakeholder engagement

• Companies should report on how the company has engaged with its key stakeholders, the steps it has taken to understand the views of stakeholders. In particular, there should be discussion of the issues raised, topics considered, and feedback received during engagement with shareholders and employees.
• It should be clear how the board oversees stakeholder decisions, including how, and on what basis, stakeholder information is passed to the board, as well as on how the board has reached key decisions and the likely impact of those decisions.
• Reporting should make clear the impact of engagement with stakeholders, including shareholders, on decision-making, strategy and long-term success. The FRC would like companies to provide more detail on their approach to measuring the performance of their engagement strategies.

Remuneration

• Clearly show the impact of engagement with shareholders on remuneration policy and outcomes.
• Clearly show the impact of the engagement within the workforce in relation to executive remuneration policy.

In conclusion the report provides the following message for boards to consider:

The strongest and most insightful reporting came from companies that described not only the initiatives that were introduced and processes that were followed, but also discussed their outcomes and what impact they had on the business. From risk review, through board evaluation to stakeholder engagement, measuring and reporting on impact means moving away from the boilerplate statements towards meaningful reporting. Giving more emphasis to the impact, while not disregarding thorough process, will also help companies better assess the effectiveness of their governance and generate better company performance and outcomes for shareholders and stakeholders.

A press release and the full report are available on the FRC website.  An FRC podcast is available here.

There are many changes which can be complex to identify and apply. The letter addressed to the accounting sector splits out the changes applying to:

• UK incorporated companies or groups; and
• EEA incorporated companies and groups

UK incorporated companies or groups

Key changes to the corporate reporting regime are as follows:

• For periods beginning on or after 1 January 2021, all UK incorporated companies that are currently required to use EU-adopted IFRS will need to apply UK-adopted international accounting standards (UK-adopted IFRS). On 1 January 2021, UK-adopted IFRS and EU-adopted IFRS will be identical. Companies with 31 December 2020 year-ends should use EU-adopted IFRS for that year and apply UK-adopted IFRS for the following year.  There are some transitional provisions for companies with financial years straddling 31 December 2020 and for those companies whose year-end is before 31 December 2020 but which are not required to (and do not) file accounts until after the end of the transition period.  The FRC has provided guidance in this regard which will be particularly relevant for companies subject to Chapter 4 of the FCA’s Disclosure Guidance and Transparency Rules.
• From 1 January 2021, UK incorporated companies or groups with securities admitted to trading on an EEA regulated market and UK incorporated groups that issue debt from a subsidiary incorporated in the EEA will need to comply with local regulatory provisions. Companies should check what reporting requirements apply with the relevant EEA competent authority. If UK-adopted IFRS is granted equivalence to EU-adopted IFRS by the EU, accounts prepared using UK-adopted IFRS will be acceptable for use by companies admitted to trading on an EEA regulated market.
• For periods beginning on or after 1 January 2021, the exemption from audit for subsidiaries granted by parent guarantee (under s479A-C of the Companies Act 2006) will only be available where the guarantee is given by a UK parent undertaking; it may no longer be given by an EEA parent. This change also affects dormant subsidiaries which make use of the exemption by guarantee from preparing and filing accounts. The ICAEW has published TECH 06/20BL which addresses changes to the audit exemption.

The letter also cover changes relating to:

• Use of the Companies Act exemptions from preparing group accounts: for periods commencing on or after 1 January 2021, companies wishing to claim exemption from preparing group accounts on the basis that they are included in a non-UK consolidation further up will need to use section 401 of the Companies Act 2006. To do so, the group accounts in which they are included must be equivalent to those required by UK law.
• Preparation of non-financial information statements: in-scope UK subsidiaries with EEA parents will need to prepare a separate non-financial information statement rather than relying on the parent’s non-financial information statement for periods beginning on or after 1 January 2021.
• New rules regarding extension of accounting reference dates for UK subsidiaries of EEA parents.

 EEA incorporated companies or groups

Key changes include:

• EEA companies with transferable securities admitted to trading on a regulated market in the UK who use Member State GAAP (i.e. the national GAAP of a Member State) will need to prepare accounts in accordance with UK law for periods beginning on or after 1 January 2021.
• An intermediate EEA parent company owned by a UK parent may need to produce consolidated group accounts for their EEA sub-group as well as individual accounts. Companies should check with the relevant EEA state to understand whether they can continue on relying on being exempt from the preparation of group accounts by virtue of being included within the consolidated financial statements of the UK parent.

The FRC is expected to issue updates to FRS 100-105 later this year or early in 2021 to reflect changes in the law as a result of the UK’s withdrawal from the EU.

BEIS has also issued a separate audit letter with information for auditors and audit firms regarding arrangements from 1 January 2021.  The FRC and BEIS will be hosting a webinar on 3 December.

A press release and the letters are available on the BEIS website. Our related Need to know publication is available here.

Background

The IFRS Interpretations Committee received a submission about IFRS 16 Leases and a sale and leaseback transaction with variable payments that do not depend on an index or rate and came to the conclusion (and the IASB agreed) that it would be beneficial to amend IFRS 16 to specify how a seller-lessee should apply the subsequent measurement requirements in IFRS 16 to the lease liability that arises in the sale and leaseback transaction.

The IASB has now published an exposure draft (ED) of a proposed clarifying amendment.

Suggested changes

The IASB proposes in ED/2020/4 Lease Liability in a Sale and Leaseback (Proposed amendment to IFRS 16) to improve the sale and leaseback requirements in IFRS 16 by specifying how to apply paragraphs 36–38 of IFRS 16 in subsequently measuring the lease liability that arises in a sale and leaseback transaction. Specifically, the ED proposes that a seller-lessee

• when applying the IFRS 16 requirements for measuring the right-of-use asset and lease liability arising from the leaseback, determines the proportion of the asset sold that relates to the right of use retained by comparing the discounted present value of the expected payments for the lease to the fair value of the asset sold and
• subsequently measures the lease liability by reducing the carrying amount to reflect the expected payments for the lease.

A seller-lessee would apply the proposed amendment retrospectively in accordance with IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors, except when such application to sale and leaseback transactions with variable lease payments would be possible only with the use of hindsight.

The amendment would also add two illustrative examples to IFRS 16

Comments on the proposed changes are requested by 29 March 2021.

Effective date

The exposure draft does not contain a proposed effective date as the IASB intends to decide on this after exposure. Early application would be permitted.

Additional information

Please click for:

• IASB press release (link to IASB website)
• Access to the exposure draft on the IASB website
• Need to know newsletter
• Our UK Accounting Plus project page on IFRS 16 — Lease liability in a sale and leaseback

The review found that the additional policies and procedures introduced by firms had been substantially applied in practice and auditors demonstrated an appropriate level of challenge to company boards and management about their key assumptions, stress testing and disclosures in the financial statements. The key findings identified good practice examples and where auditors needed to improve.

A summary of the key findings are as follows:

• There was an appropriate level of consultation, which improved the extent of challenge by the auditors. There was good evidence of discussions held where consultations had taken place as well as challenges and requests made to the audit team and the conclusions reached.
• The economic scenario-related assumptions were tailored to the specific risks of the entity. There was evidence that market relevant data was obtained to assist in assessing management’s forecast scenarios.
• Reverse stress and scenario testing assisted in the assessment of whether there was a material uncertainty. These techniques are particularly useful in assisting with the assessment of whether there is a material uncertainty, given the increased uncertainty in a situation such as Covid-19. While a reverse stress test provides a “break” scenario, management and the auditors may also need to consider what a severe, but plausible, scenario is.
• The length of the going concern assessment period was not always clear in cases where it went beyond a year. Where management has assessed going concern over a period that is longer than a year from the date of approval of the financial statements, the auditors should ensure that their audit procedures cover that same period and that the disclosures in the financial statements and the auditor’s report clearly state the period of the going concern assessment.
• The consideration of the disclosures for material uncertainties was generally appropriate. There was evidence of good disclosures which were tailored specifically to the circumstances, and clearly explained the scenarios and assumptions that management had used in their going concern assessment and the nature of the material uncertainties, where relevant.
• There was an inconsistent approach to testing the integrity of the going concern forecast models.  Given the complexity of some forecast models, it may be beneficial to use data analytical procedures to test the integrity of the cash flow models. In particular, the use of specific tools to check the mathematical and mechanical accuracy of the models can highlight matters such as circular references, formulaic anomalies and hidden cells/input fields.
• Enhanced work papers assisted in evidencing the key aspects of the going concern assessment.  In the audits reviewed, the required work programs and work papers were used.
• There was often good use of specialists. Internal specialists, such as transactions advisory, business recovery and economists, can contribute to the quality of the auditor’s going concern assessment, through their expertise in assessing the cash-flow forecast assumptions, including the ability to raise further funds.

The FRC’s review follows updated guidance issued to companies and auditors in March, an FRC Lab report on going concern, risk and uncertainty and a report on the financial reporting effects of COVID-19.

A press release and the full report are available on the FRC website.

As reported earlier, among the topics discussed at the meeting were intangibles and the going concern assumption.

The full list of topics discussed at the meeting was:

• Issues surrounding separate financial statements
  • Presentations by Brazil, Italy, and Korea
• Primary financial statements
  • Presentations by EFRAG and Korea on the IASB exposure draft
• Cryptoassets
  • EFRAG discussion paper on the accounting for cryptoassets
• Intangibles
  • Joint paper by Canada, Germany, Japan, UK and US
• Going Concern
  • Presentations by Australia and New Zealand
• International financial reporting for non-profit organisations
• IPSASB update
• Fintech application and accounting standards
  • Presentation by Taiwan
• Impact of COVID-19 in Sri Lanka
  • Presentation by Sri Lanka

The next meeting is to be held on 8-9 March 2021; it will also be held by remote participation.

Please click for the full report from the meeting.

The agenda for the meeting is summarised below:

Agenda papers from this meeting are available on the IASB's website.

The merger is aimed at advancing the work of CDP, CDSB, GRI, IIRC and SASB who in September 2020 released a statement of intent to work together towards comprehensive corporate reporting in a comprehensive corporate reporting system.

The press release notes that Value Reporting Foundation will maintain the IIRC integrated reporting framework that describes all relevant value creation topics and the approach to integrating them in corporate reporting while the SASB standards provide the precise definitions of the data that should be reported for these topics in each industry. The framework and the standards will remain complementary tools with the Value Reporting Foundation facilitating the use of both together.

The merger responds to the ever increasing calls from global investors and corporates to simplify the corporate reporting landscape by having a globally aligned reporting system. The press release stresses that the Value Reporting Foundation, which will be formed by mid-2021, stands ready to work with the IFRS Foundation, IOSCO, EFRAG, CDP, CDSB, and GRI, and others to work towards a set of global and globally accepted standards.

Please click to access the full press release on the SASB website (an identical press release is available on the IIRC website).

GRI and CDSB have posted congratulatory notes to their websites.

The podcast discusses:

• the joint education session with the FASB;
• Post-implementation review of IFRS 10-12;
• Management commentary;
• Subsidiaries that are SMEs; and
• Maintenance and consistent application.

The podcast (12 minutes) can be accessed through the press release on the IASB website.

The detailed notes taken by Deloitte observers at the meeting are available here.