The Directive and Regulation were published in the Official Journal of the European Union in May 2014.  The Directive which amends the Statutory Audit Directive (Directive 2006/43/EC) (link to Europa website) applies to all audits required by EU law and the Regulation applies to all audits of “Public Interest Entities” (PIEs).

The consultation in October 2015, focused on “identifying legislative, and non-legislative, actions necessary to: 

• strengthen standards for the audit of PIEs;
• improve confidence in the independence of auditors;
• avoid excessive concentration in the audit market; and
• make audit reporting more informative.

The consultation included draft implementing regulations and draft amendments to the Companies Act to implement changes in a number of areas.  Key areas that were consulted on included:

• Definition of a PIE
• Rotation and tendering
• Regulation of auditors
• Restrictive clauses in contracts

Overall there was support for the proposals.  Key highlights of the implementation of the Directive and Regulation include: 

• Definition of a PIE.  BIS intends not to include additional entities in the definition of a PIE.  BIS are, as previously announced, retaining the PIE definition as the EU minimum – in the UK, entities with debt or equity traded on an EEA regulated market, banks, building societies and insurance undertakings will fall within this definition.
• Rotation and tendering.  PIEs will need to put their audit out to tender at least every ten years and change their auditor at least every 20 years.
• Regulation of auditors.  The Financial Reporting Council (FRC) will be the Single Competent Authority responsible for the regulation of statutory audits, delegating tasks to the ICAEW and other Recognised Supervisory Bodies (RSBs) in line with a ministerial direction. The Direction will require delegation of functions in respect of non-public interest entities unless the FRC and RSBs agree; the FRC’s Scope of Independent Inspection 2016/17 indicates that the only entities where non-delegation has been agreed are the larger AIM companies (broadly those with an average market capitalisation > €200m).  The ministerial direction, issued on 17 June, is available on the Department for Business, Energy and Industrial Strategy (BEIS, formerly BIS) website here. 
• Limited Liability Partnerships.  Changes for the regulatory mechanism for auditors of LLPs will take place at the same time as for companies, so that only one regulatory regime will be in place at any one time.

The government’s response follows the publishing by the FRC of “final drafts” of the 2016 UK Corporate Governance Code, the revised Guidance on Audit Committees, the Ethical Standard 2016 and revised International Standards on Auditing (UK and Ireland) arising from the UK implementation of the EU Audit Regulation and Directive. 

The Financial Conduct Authority and Prudential Regulation Authority are expected to issue responses to their consultations on changes to audit committee requirements as a result of EU audit reform in due course.

*Update 10/06/2016 - A revised version of the UK regulations to implement the EU Audit Directive and Regulation has been laid before Parliament.  A link to these regulations is here.*

Click for:

• Press release (link to BIS website)
• Government response (link to BIS website)
• Link to draft statutory instrument (link to draft statutory instrument)
• Our previous UK Accounting Plus news item on the Bis consultation
• Our UK Accounting Plus project page on Audit reform

The Department of Health Group Accounting Manual (DH GAM) includes mandatory accounting guidance for all NHS bodies on completing their statutory annual report and accounts.  The DH GAM requires departmental group bodies to follow the requirements of International Financial Reporting Standards (IFRS), as adopted by the EU, and the HM Treasury Financial Reporting Manual (FReM).

The DH GAM contains detailed accounting guidance for when departmental group bodies are required to depart from/make specific disclosures in addition to IFRSs and the FReM or when faced with particular circumstances that IFRSs or the FReM do not address.

In previous years Monitor and the Department of Health issued separate manuals for this purpose; one targeted at NHS foundation trusts and the other at the remainder of bodies within the Department of Health accounting boundatry (including NHS trusts, clinical commissioning groups and arm's length bodies).  This year, the two manuals have been merged into one. 

The consultation is seeking views on the following specific principal changes that have been proposed for the 2016-17 DH GAM:

• Director benefits disclosures (applicable to NHS foundation trusts only).  The consultation proposes to remove the requirements for NHS foundation trusts to make the disclosures set out in the Companies Act 2006 section 412.  This would remove divergence with the FReM;
• IAS 39 Financial Instruments: Recognition and Measurement (applicable to NHS foundation trusts only).  The consultation proposes to withdraw of the FReM divergence on the discount rate applicable to the measurement of fair value of future cash flows from financial instruments.  It is proposed that NHS foundation trusts follow the FReM in this respect;
• Revisions to the guidance on parliamentary accountability and audit reports (not applicable to NHS foundation trusts); and
• Capitalisation thresholds for non-current assets.  The consultation proposes that all entities within the accounting boundary apply a £5,000 de minimis capitalisation threshold for non-current assets.

The DH is also seeking comments on some more minor proposed amendments to the DH GAM in addition to any general comments. The press release and related documents are available on the DH website.

Mrs Santana is a former Chair and President of the Brazilian Securities and Exchange Commission and Ms Wood is a former Chairman of the Australian Financial Reporting Council and member of the Foreign Investment Review Board.

Please click to access the press release on the IASB website.

The forum provided attendees with the opportunity to discuss current IPSASB projects with the board’s members and staff:

• Social benefits;
• Revenues;
• Non-exchange expenses;
• Heritage assets;
• Infrastructure assets;
• Public sector measurement; and
• Leases.

Additionally, issues outside of the IPSASB work plan were also discussed:

• “IPSAS lite” (IPSAS for small and medium-sized entities);
• Tax expenditures;
• Natural resources accounting;
• Consolidation;
• Financial performance measures;
• Service performance reporting; and
• Implementation issues.

Based on the success of the inaugural event, the IPSASB is planning a second forum. This is to be held in Zurich, Switzerland July 3-4, 2017.

Please click for the press release on the event including a short video on the IPSAB website.

Mr Hoogervorst encouraged the academic community to continue providing the Board with its research; he noted that cooperation in the past has been very effective in helping the Board “separate out evidence from opinion.” He cited lease accounting, the IFRS 8 post-implementation review, and comment letter submissions as examples of effective cooperation between academia and the IASB, and he invited academics to become even more involved in years to come.

In the second half of his speech, Mr Hoogervorst discussed non-GAAP measures and explored “whether IFRS Standards provide sufficient criteria by which performance can be judged by users of financial statements.” He noted the increasing use of non-GAAP measures and research showing that these measures are becoming increasingly misleading. Mr Hoogervorst said:

The fact is that IFRS Standards prescribes very little in the way of formatting the income statement. Companies have considerable freedom in the way they present the components of income that make up profit or loss. As a result, there is little comparability above the bottom line, making it difficult for users to judge performance.

He went on to say that securities regulators are primarily responsible for cutting back the use of non-GAAP measures but that the IASB “should also look at its own role in this matter.” He admitted that the IASB provides “too little guidance” in formatting the income statement. He also suggested “potential remedies” for IASB consideration:

• Defining more subtotals in the income statement;
• Providing a principle-based definition of operating income which does not allow for obfuscating restructuring or impairment charges;
• Creating a “rigorous definition” of earnings before interest and tax (EBIT);
• Looking for better solutions for some elements of income and expense that are currently parked in other comprehensive income;
• All of the above and more.

Mr Hoogervorst concluded:

[U]ltimately the number that counts most is the unadjusted bottom line, where all elements of income come together, both recurring items and exceptional items, whatever those may be. No-one can predict the extent to which seemingly extraordinary elements of income are recurring and not. That is why it is important that the bottom line is as inclusive as possible and that it shows everything, warts and all.

The full text of Mr Hoogervorst’s speech is available on the IASB’s website.

The role of the Financial Reporting Advisory Board (FRAB) is “to ensure that government financial reporting meets the best possible standards of financial reporting by following Generally Accepted Accounting Practice (GAAP) as far as possible”.  The FRAB includes representatives from the accountancy profession in the private and public sectors, academia and government bodies.  The board meets regularly to consider proposed changes to policy and practice.

Key topics discussed during the meeting included:

• A high level overview of IFRS 16 Leases and consideration of the proposed work plan and impact that the standard will have on the public sector.
• An update on developments in International accounting, International Public Sector Accounting Standards (IPSAS) and the work of Eurostat in developing European Public Sector Accounting Standards (EPSAS).
• IFRS 9 Financial Instruments.  The Board was presented with a paper discussing and interpreting the business model assessment in IFRS 9 and its applicability in the public sector context.  An update was also provided of the implementation progress of IFRS 9 including feedback from the IFRS 9 technical working group.
• The International Accounting Standard Board’s (IASB’s) amendments to IFRS 4 Insurance Contracts to address concerns about the different effective dates of IFRS 9 and the new insurance contracts Standard that will replace IFRS 4.
• An update on International Financial Reporting Standard (IFRS) 15 Revenue from Contracts with Customers implementation progress against the work plan.  It was confirmed that work was proceeding as expected.
• A verbal update on current thinking with regards to the potential development of a ‘FReM lite’ which would aim to make reporting less onerous for smaller bodies. 

Click here for detailed minutes and other supporting documents on HM Treasury website. 

Intangible assets and reputation have been making increasingly larger contributions to company value. US corporate reputations, across the S&P 500, amounted to USD$3,329bn, some 17% of total market capitalization, in 2015. Some £790bn of UK shareholder value was attributable to a ‘reputation dividend’ at the start of 2016, amounting to some 36% of market capitalization in the FTSE 350, all according to recent research.

This is a relatively new world. And explaining the value of a company or organisation now has to be a subtler exercise. It is all about how a company presents itself to the public. It is no longer just about the financials and what, after careful analysis, they may show. It is about how a company reacts to something going wrong, for example. It is about the more general drivers of growth. In the US Apple topped the tables with a 49.5% reputation contribution, some $320,317m in January 2015. The Walt Disney Company had a reputation contribution of 49.4%, some $78,758m, while Nike had a reputation contribution of 40.7% representing $33,256m.

In the UK Unilever chalked up a reputation contribution of 57.8%, some £48,356m at the start of 2016. Shell came in at 53.8%, some £62,061m. And AstraZeneca posted a 47.4% reputation dividend, amounting to some £25,198m.

However you look at these figures, all from recent reports, they point in one direction. Shareholders and the markets are no longer looking at just the financials. They look at how companies have dealt with or are anticipating risk, and where and how companies are adding value. It is not all about financial success. And reports are starting to appear which also measure the disasters when everything goes belly up and a company’s reputation, share price, and ability to operate, plummets. Finding themselves listed in the top ten Most Controversial Companies 2015 are Volkswagen, Sony, General Motors, Honda, and HSBC Private Bank (Suisse). The state of a company’s reputation and either the added value or its suddenly shredded value are increasingly what investors focus on. People, in short, want to know what is driving value.

We live in different times. Manufacturing companies are very different from technology driven companies. Now, if reputations drop, it is probably as much to do with a technology company simply running out of ideas and hence losing its ability to dominate its market, as it is with a manufacturing company having, for example, to recall defective cars. The difference between good news and bad news can be as much a factor of perception as a factor of failings on the production line or in the testing process.

The ratio of intangible to tangible assets in the US is probably the most telling. In the report from consultants Ocean Tomo it shows 1975 values relying heavily on tangible assets, some 83%. These were the days of heavy industry, when investors wanted to see the heft of the engineering, the production lines, the range of extractive possibilities. In 2015 all that had fallen to just 16% of market value. The service sector in the UK, for example, now provides almost 80% of the UK economy. The revolution may have been slow but it is with us.

Now, say the reports from consultants Reputation Dividend, in both the US and the UK, the important components that influence corporate value are very different. ‘Perceptions of people management’, comes out on top in the US, followed by ‘quality of management’, and ‘long-term investment potential’. In the UK you are looking for ‘financial soundness’, followed by the ability ‘to attract, develop and retain talent’, followed by ‘quality of leadership’.

The other side of the coin comes in the Most Controversial Companies 2015 report from RepRisk AG. As its CEO puts it in the report’s Foreword: ‘The aim of this report is to outline the sequence of events that can lead a corporation to an unforeseen crisis, causing it to suffer a major fall in stock prices, face substantial product recalls and record fines, and in some cases, even result in the removal of the company’s senior officials’.

What now often brings manufacturing companies to their knees are not the tangible building-blocks of yesteryear going awry but the intangible, the least-expected factors, which suddenly rear out of an empty road ahead. It can be as much about the speed of change as about the change itself. The report shows that sometimes it can be the tangible effect of economics, as the failings of a dam in Peru impacted on a Grupo Mexico gold mining project. And the report also shows clearly how problems in the supply chain, for example, and the linkage which spreads across particular sectors can bring about serious reputational damage. The failures in air bags at their manufacturer, Takata, didn’t just harm the Takata reputation but also impacted manufacturers like General Motors, Honda and Volkswagen which suffered accordingly. All the examples show how easy it is to damage or lose a well-built reputation. Reputation failure is not just an in-house risk. It can spread from suppliers like a contagion. As examples of integrated reporting show, you need to understand the risks at your suppliers as much as where any home grown problems may lie.

All this matters. Companies need to burnish their reputations and manage them but at the same time they need to also tell the world what they are doing. There is a strong link between corporate reporting and the building and protecting of reputation.

It is worth sitting up and taking notice. After all, as the 2014 reputation dividend report showed, on average in cash terms, a 1% improvement of reputation at a FTSE100 company delivered around £266m of additional value.

The amendments, which were issued in response to feedback received by the FASB–IASB joint revenue recognition transition resource group (TRG), include the following:

• Collectibility — ASU 2016-12 clarifies the objective of the entity’s collectibility assessment and contains new guidance on when an entity would recognise as revenue consideration it receives if the entity concludes that collectibility is not probable.
• Presentation of sales tax collected from customers — Entities are permitted to present revenue net of sales taxes collected on behalf of governmental authorities (i.e., to exclude from the transaction price sales taxes that meet certain criteria). A similar policy election does not exist under the IASB's new revenue standard, IFRS 15 Revenue from Contracts with Customers.
• Noncash consideration — An entity’s calculation of the transaction price for contracts containing noncash consideration would include the fair value of the noncash consideration to be received as of the contract inception date. Further, subsequent changes in the fair value of noncash consideration after contract inception would be subject to the variable consideration constraint only if the fair value varies for reasons other than its form. IFRS 15 does not prescribe the measurement date.
• Contract modifications at transition — The ASU establishes a practical expedient for contract modifications at transition and defines completed contracts as those for which all (or substantially all) revenue was recognised under the applicable revenue guidance before the new revenue standard was initially applied.
• Transition technical correction — Entities that elect to use the full retrospective transition method to adopt the new revenue standard would no longer be required to disclose the effect of the change in accounting principle on the period of adoption (as is currently required by ASC 250-10-50-1(b)(2)); however, entities would still be required to disclose the effects on preadoption periods that were retrospectively adjusted. IFRS 15 defines a completed contract as one for which an entity has transferred all goods or services identified in accordance with existing IFRS. IFRS 15 also provides an additional practical expedient that permits an entity electing the full retrospective method to apply IFRS 15 retrospectively only to contracts that are not completed contracts as of the beginning of the earliest period presented. No such expedient is included in Topic 606.

Last month, the IASB published final clarifications to its revenue standard, IFRS 15. The FASB’s ASU states:

Although the amendments in this Update are not identical, and some are incremental, to the amendments the IASB decided to make to its final standard, Clarifications to IFRS 15, the FASB expects that the amendments generally will maintain the convergence that was achieved with the issuance of Update 2014-09 and IFRS 15 by reducing the potential for diversity arising in practice. Significant diversity in application could substantially reduce the benefits achieved by converged guidance.

The amendments in this Update do not change the core principle for revenue recognition in Topic 606. Instead, the amendments provide clarifying guidance in a few narrow areas and add some practical expedients to the guidance. The amendments are expected to reduce the degree of judgment necessary to comply with Topic 606, which the FASB expects will reduce the potential for diversity arising in practice and reduce the cost and complexity of applying the guidance.

The ASU’s effective date and transition provisions are aligned with the requirements in the new revenue standard, which is not yet effective. For more information, see the ASU on the FASB’s website.