International Financial Reporting Standards

International Financial Reporting Standards

The quest for a global language

KPMG LLP (UK)

The quest for a global language 1

Contents

Foreword Richard Bennison 2

Overview Robert Bruce 4

Philip Broadley 8

Peter Elwin 12

John Hegarty 16

Robert Herz 20

Archie Hunter 24

Kenneth Lee 26

Ken Lever 28

Cees Maas 32

Baroness Noakes 36

Richard Reid 38

Sir David Tweedie 42

© 2007 KPMG LLP, a UK limited liability partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International, a Swiss cooperative. All rights reserved.

2 The quest for a global language

Foreword

Richard Bennison

Head of Audit

KPMG LLP (UK)

The introduction of International Financial Reporting

Standards (IFRS) in over a hundred countries across the

world has without doubt marked one of the biggest

revolutions in financial reporting in living memory.

For such a fundamental shift, progress has been perhaps surprisingly smooth. There have

been no major disconnects and the financial world appears to have adapted successfully to

its new reporting language; indeed we have seen no major volatility in the capital markets

as a result of IFRS.

However, there is still much to do and much to consider, as the views expressed in this

report reflect.

Whilst IFRS has brought greater comparability and consistency in company accounts across

borders, this is only in relative terms. Reporting in each country still bears the hallmarks of

its previous national GAAP.

Beyond this, a frequent observation is that IFRS has brought a considerable amount of

complexity to financial accounts. Some of this complexity is inevitable as the transactions

that the business world undertakes have themselves become more complex. Much of the

change has been the far greater degree and complexity of disclosures that companies are

now required to make. As a result, many annual reports have become almost

unmanageably large and this vast amount of information in many cases needs a highly

trained user to understand it.

We have to question whether this is best serving the needs of shareholders and the analyst

community, who after all should be the ultimate beneficiaries of any improvements to

financial reporting.

The financial reporting community globally – standard-setters, regulators, accounting firms,

preparers, users - needs to find a way of stripping back this complexity, and of ensuring

that sound accounting principles are allowed to drive reporting, without the need for dense

disclosure notes or a narrow rules-driven approach.



Much will depend on the development of

the convergence programme between IFRS

and US GAAP. US standards are much

more rules-driven – so will we see a

continued drift in IFRS towards the current

US approach? I sincerely hope not.

Recent signs have been very encouraging.

The SEC has made positive announcements

about the possibility of dropping the

reconciliation requirement between the two

sets of standards. And it has even

suggested that it may consider allowing US

companies to choose which standards they

report under.

This movement towards concerted

international cooperation and joint working

is extremely timely. We are entering a

crucial next phase for IFRS, in the

movement towards a truly global financial

reporting language. It is an opportunity to

produce shorter standards based on

principles. But this will need preparers and

auditors to exercise judgement and

integrity. I am confident about what can be

achieved - provided a focus is retained on

serving the needs of the users of financial

accounts.



Overview

Robert Bruce

Leading commentator on

accounting and financial

reporting issues.

The aftermath of the first year of implementation of International Financial Reporting Standards has confirmed that what has happened is a ‘once-in-a-generation’ transformation of the business landscape.

Company reports are at once more complex but more comparable. The number of countries

embracing the use of IFRS has produced a global tipping point in favour of the system. The

accounting walls are coming down all around the world. The old provision that companies

from elsewhere round the world wishing to list on US stock exchanges had to reconcile

their figures to the US GAAP system looks to be on the way out. The once impregnable

system of US GAAP no longer looks quite so secure. Even the US regulator, the Securities

and Exchange Commission, is talking of the possibility of US companies using IFRS, if they

so wish, in the foreseeable future.

This report focuses on the experiences and thoughts of those involved in this historic

transformation. The views expressed in this report come from the main players in the

changes which have happened. The views have come from CFOs, from regulators, from

standard-setters, from analysts and auditors. They reveal the depth of change experienced.

They reveal the opening up of global markets as a result of having, at last, a truly global

accounting language. They reveal how companies have coped with the challenges of what,

at least at first, appears to be a much more complex financial reporting process than

before. They show quite how worried people within the business are about those

complexities. But it also documents the way in which narrative reporting is developing as a

means of showing strategic corporate change and making performance measurement clear.

They also emphasise the scale of feeling between those who would like to see a more

principles-based process and those who see a rules-based system as inevitable.

The process of moving to IFRS has not simply been a series of technical accounting

changes. It has been a cultural transformation as much as an accounting one. The views

expressed in this report show just how fundamental the changes in corporate and

accounting attitudes have been. And it is clear that, once the dust has settled, businesses

all around the world will find that though the detail has become more complex their

strategic objectives can be more simply achieved.



The scale of the transformation The transformation of the business landscape has been the greatest change of them all.

‘IFRS has been a revolution’, said Robert Herz, chairman of the US standard-setter, the

Financial Accounting Standards Board. ‘In many places capital market reporting didn’t exist

before. The figures were produced for a tax-based system, for example. The changes have

been exactly what the capital markets needed’. ‘Analysts and investors now have the ability

to look at figures across the board and get the same answers’, said Sir David Tweedie, the

chairman of the International Accounting Standards Board which brought the revolution

about. ‘IFRS is implemented in over a hundred countries. In five years’ time it will be 150

countries. The accounting risk is beginning to disappear’. ‘An investor should be looking at

the world as investable’, said Ken Lee, head of accounting and valuation research for Europe

with Citi Investment Research. ‘At the moment that’s not the case. IFRS has made a

significant contribution to start that process’. ‘In essence it’s done what it said on the tin’,

said Peter Elwin, head of accounting and valuation research with JP Morgan Cazenove.

‘There is greater comparability and more disclosure, and that is particularly true on the

continent of Europe and across Asia’. And it has shone a light into places where lights had

tended not to have been shone before. Some of these simply emphasise quite how

fundamental a change IFRS has brought about. ‘The biggest change we have seen with the

implementation of IFRS has been the introduction of accounting for financial instruments

which in most countries was not previously done at all’, said Tweedie. ‘Things which could

destroy earnings had previously been invisible’. Cees Maas, honorary vice-chairman at the

Netherlands-based financial services giant, ING Group, summed it up from a banking

perspective. ‘Our reporting has changed fundamentally’. ‘Without doubt there is a greater

use worldwide of IFRS for financial reporting by public interest entities’, said John Hegarty

of the World Bank. ‘Increasingly the default position globally is that IFRS should become the

benchmark for countries’ financial reporting frameworks’. But such a huge change has also,

inevitably, brought greater uncertainties, at least for the time being. ‘The old certainties

have changed’, said Archie Hunter, chairman of the audit committee at the Royal Bank of

Scotland. ‘The concept of “substance over form” used to be embedded but we haven’t got

anything to replace it’, he said. And these initial changes have brought despair to some.

‘Financial statements have exploded in length and become unintelligible’, said Baroness

Noakes, chairman of the audit committee at Hanson plc.

The perils of complexity It is clear that the perception of greater complexity is also changing the way people view

financial reporting. ‘Financial reporting is getting much more complex’, said Ken Lee. And as

a result: ‘It is very difficult to get a definitive grasp of what is happening’. And it is clear that

this complexity has initially created problems within the corporate world. ‘It has added

complexity to reporting, increased the use of fair values and it is less connected to the

operation of the business’, said Ken Lever, finance director at engineering group, Tomkins

plc, and chairman of the financial reporting committee of the influential 100 Group of UK

finance directors. This, for him, is the biggest change. ‘Financial reporting is not that helpful

internally to the management of the business. Most people in the old days felt happy that

the data used to manage the business was the same as that used to produce the external

financial reporting. Now there is a clear disconnect between the information used to run

the business and the information we report externally’. ‘There is a lot more information in

the accounts and in some businesses you need to pull the accounts apart more’,

commented Richard Reid, chairman of KPMG’s consumer and industrial markets practice in

the UK. ‘It hasn’t’, said Elwin, ‘become easier to understand the underlying business’. And

there is a lack, at present, of the old intuition. ‘Understanding requires familiarity’, said

Hunter, ‘and both users and preparers have not yet got that familiarity. Previously we could

look at the figures and say: “Hold on, there’s something wrong here”’.



The future lies in narrative reporting People may disagree about the underlying reasons. But the growing belief that narrative

reporting is the way forward to increase understanding of a company’s performance and

strategy continues apace. Some argue that it is due to the complexity which IFRS is

perceived to create. ‘Complexity is leading to a greater use of narrative reporting’, said Philip

Broadley, group finance director at financial services giant Prudential and chairman of the 100

Group of UK finance directors. Herz would disagree. ‘It’s not the complexity of IFRS’, he

said. ‘Businesses are complex and numbers on their own are never going to tell the full

story. Narrative reporting is a vital complement to the figures’. And the standard-setters are

trying to encourage its use. ‘We want people to use non-financial narrative reporting’, said

Tweedie. ‘It’s essential. The accounts don’t show what is going to happen next’. Analysts

agree. ‘I would prefer a company to explain, for example, if IFRS has produced a counter-

intuitive result’, said Elwin. ‘You will always want managements to give their view of the

world outside accounting constraints’. Baroness Noakes is another who sees it as inevitable.

‘The drive towards non-financial information was happening anyway’, she said. ‘Accounts

don’t give you enough answers about performance or clues about future performance’. Lever

agreed. ‘Financial standards and financial reporting weren’t ever really intended to give

investors a view of how the company will go forward over time. Accounting was never ever

set up to do that’, he said. ‘It was set up for a stewardship purpose’.

Principles or rules Another argument has come to the fore as IFRS became the chosen financial reporting

system for much of the rest of the world except the US. This was the debate over whether

principles-based or rules-based standards should prevail. IFRS is clearly designed as a

principles-based system. For Sir David Tweedie it is a no-brainer. ‘It is quite clear that

outside of the US there is an abhorrence of US standards’, he said. For him it was clear that

accounting was reaching a crucial time. ‘It is a tipping point’, he said. ‘I hope the principles-

based approach will gain the upper hand. Certainly that’s what we are intending to try’, he

said. ‘If we lose it now then we will be rules-based’. The problem lies in the US. ‘The US

can be unnecessarily prescriptive’, said Lever. ‘But that is the nature of the country. It

seems they have their whole lives driven by rules’. But there were doubts. Cees Maas said

he was very much in favour of principles-based standards. ‘But I see a tendency that rules-

based standards will gain the upper hand’, he said. And part of this was the effect of the

added regulatory responsibility that everyone in business was being asked to take. ‘Rules

based standards are very bad’, he said, ‘but they are the consequence of being held

accountable’. ‘In the end I suspect that it will move to a compromise with rules-based

systems in the ascendant’, said Baroness Noakes. ‘But I say that with great reluctance. In

the end there is not enough genuine desire for a principles-based view outside the UK’. For

Tweedie one of the key issues was the attitude of the large audit firms. ‘We are going to

the firms asking them to use much more judgement and don’t ask for exceptions’, he said.

‘Firms should look at the principles and look at their answers’. In the end his ruling principle

was a simple one. ‘You can work these out for yourselves’.

The fight over fair values Fair values is another issue which raised people’s blood pressure. For Philip Broadley it

should be a short debate. ‘Their role is to report the value of assets and liabilities where

there are deep and liquid markets’, he said. ‘The end’. To do more was to muddle the whole

process. ‘Annual reports are for stewardship and they are not valuation statements’, he said.

Peter Elwin agreed. ‘The market does not want a full fair value model’, he said. ‘Investors

and analysts do not want the balance sheet to simply give you the market cap. That’s

completely bonkers’. ‘I think fair value is nice in theory but hugely complicated in practice’,

said Baroness Noakes. ‘In a manufacturing company like ours it can lead to total confusion’,

said Ken Lever of Tomkins. ‘Fair value information will be useful’, said Richard Reid of KPMG



in the UK. ‘But you have to be careful in putting it into income statements and whether

people will understand it’. For Sir David Tweedie the answer was to use fair value where

appropriate. ‘What we have is a mixture of costs and values on a balance sheet’, he said.

‘The message is that it is not true that we want to put everything at fair value’.

The electronic future of financial reporting and XBRL The issue of electronic reporting languages like XBRL and other technology solutions in

financial reporting divided opinion. Peter Elwin said he was ‘deeply sceptical’ about XBRL.

‘I have enough experience of data systems to know there is a huge potential to go off the

rails’, he said. ‘XBRL looks very desirable. But all it is really doing is saving me the hard graft

of digging out the detail myself. It doesn’t change the way the numbers were produced in

the first place’. Likewise Philip Broadley of Prudential said that: ‘It would simply increase the

possibility of manipulation’. But Robert Herz of FASB was an enthusiast. ‘Once you can tag

data and disassemble it that could change things’, he said. ‘Narrative reporting and financial

reporting becomes easier with tagging’, he said. ‘Turnover? Would you like to see the six

different components of turnover? Click! And so on’. ‘It will be a facilitator’, said Lever. ‘XBRL

is just like a giant spreadsheet for data. It is a good thing. But it will take time to get there’.

What the future priorities should be The future priorities of the standard-setters should be short, clear, and reinforce the idea of

IFRS as the one global financial reporting language. ‘The key point is stability in standards’,

said Richard Reid. ‘The more the standards can reflect the economic substance the better’.

‘The priority continues to be how do we get to the overarching goal of creating common

high quality reporting across the major capital markets of the world’, said Herz. ‘The

immediate goal should be the re-wording of these standards at a fraction of their length’,

said Broadley. ‘Simplification is the primary goal’. ‘Let the dust settle’, said Cees Maas of

ING group. ‘Let’s see how best market practice will develop’, he said. ‘Freeze’. ‘I think the

IASB has to continue to recognise that it is only one player in the process of improving

financial reporting and that if accounting standards get too far ahead of other drivers it will

fail and the IASB will cease to be the real option’, said John Hegarty. ‘Then countries will

start to do their own thing. And that is not always going to be done by the good guys’.

Opinions were divided over the idea of an underlying conceptual framework. ‘The most

important issue is that the conceptual framework should be agreed and in place’, said Ken

Lever. ‘It cannot possibly take ten years to do this. You need a conceptual framework as the

base. Currently you are winging it as you go along’. ‘It sounds totally simplistic but we need

to know where we are going before we start meddling further’, said Ken Lee. ‘We need a

conceptual framework which is as short as the Ten Commandments, not as long as the Old

Testament’, said Peter Elwin. But others were not so sure. ‘The conceptual framework

takes us into intellectual byways which are not too relevant to the practicalities of reporting’,

said Baroness Noakes. ‘It is better to understand what we are currently doing and bed it all

down without major change’.

But for Sir David Tweedie the real priority is ‘to try and hand back accounting to the

practitioners’, he said. ‘We need to get the standards to reflect what people feel intuitively

and we need them to be in simple language’, he said. ‘Accounting is not an alien language

and it’s not rocket science’. For him simple judgement is what is needed. ‘For example’, he

said, ‘why do we need two categories of leases? A pension fund deficit is a deficit. Why

should you smooth it? We need to cut through the garbage and provide the raw facts. And

that is where narrative reporting comes in. Provide the raw facts and now explain it’, he

said. ‘The narrative statement is not an adjunct. It is a key component. That’s where the

future is’.



Philip Broadley

Philip Broadley has been Group Finance Director at Prudential, the international retail financial services group, since 2000. Influential in the finance director community he is Chairman of the 100 Group of finance directors in the UK and is a member of the insurance advisory group of the International Accounting Standards Board.

For him the experience of implementing international financial reporting standards has brought

greater overall disclosure. ‘The most notable way in which financial reporting has changed is

that while the volume of information disclosed on the face of the financial statements has not

really changed, what you notice is that if you compare an annual report and accounts for 2005

with previous years it has become a much larger document’. This is one of Broadley’s central

themes. For him the purpose of financial reporting should be explanation rather than just

information. But he also stresses that everything he says about the experience of IFRS should

be underpinned by his support and optimism for the whole process. ‘Any criticisms I have are

made from the standpoint that the goal of IFRS has been a good thing’, he emphasised.

Care required For example his answer to a question about whether he sees greater comparability of

financial reports becoming a reality is unequivocal. ‘I do’, he said. ‘The benefit of greater

disclosure is that for those who are geared up for it the ability to analyse a company is

greater than ever’. But that doesn’t mean to say that it is simpler and easier. ‘Care is

required by users to recognise that there is often more than one way of reporting

comparatively similar activities’. He compares it to the concept of introducing one language

across many countries. It might sound the same but you would have to factor in the cultural

differences which would make the meaning subtly different country-by-country. The same,

he thinks, is true of IFRS. ‘Emerging in year two of IFRS is a realisation that it is the same

language applied to different cultures’, he said. ‘And the cultural differences do not

disappear overnight’. Like much in the IFRS process he thinks that the right path is being

followed but it will take much more time for the real effects to come through. ‘I’m a great

believer in the markets’, he said. ‘At the level of the very largest companies you do see a

levelling out of differences and greater depth of information over time’, he said. ‘Over time

IFRS will provide impetus towards that commonality’.





‘At the level of the very largest companies you do see a levelling out of differences and greater depth of information over time…IFRS will provide impetus towards that commonality.’

As for how far IFRS has helped users to gain a better idea of a company’s strategy he is

currently unconvinced. ‘I am not sure much has happened yet to help with understanding

corporate strategy’, he said. ‘One area where the IASB would create real value-added work

would be a standard around narrative reporting similar to the existing UK standard RS1’.

And he is an enthusiast for narrative reporting, particularly as IFRS does allow more non-

GAAP measures and as greater complexity drives finance directors to a greater reliance on

narrative reporting. ‘IFRS has led to a greater use of non-GAAP measures’, he said. ‘IFRS is

very permissive. It is only where you come back to national laws that you have guidance

about whether you should give equal prominence to non-GAAP or GAAP measures. There is

much greater use of non-GAAP measures now’.

All this leads to difficulties in getting the message across. ‘Complexity is leading to a

greater use of narrative reporting’, he says. ‘Narrative reporting is essential for the

generalist portfolio manager’. It is very easy to assume that the only people in the analyst

community for whom you are providing information are the number-crunchers. Broadley

takes a wider view. ‘Imagine a typical UK fund manager with between thirty and forty

stocks in the fund and a similar number again on which he has to have a view’, he says. For

someone like that the niceties of the technical arguments over IFRS are no use. ‘The

amount of information we provide doesn’t help him’, said Broadley. ‘He himself will find it

harder and will find the annual report and accounts a much less useful tool’. This is where

greater narrative reporting would be much more useful.

He felt that, up to a point, companies and analysts had shared objectives for financial

reporting but had taken very different routes towards influencing the standard-setting

process. ‘The objectives for we preparers is to provide information which is useful to

investors to make the market in the company’s shares as efficient as possible. But that is

not the same as saying that our job is to provide analysts with answers. Our job is to

provide them with information. Analysts want information so they can complete their work’.

Stronger engagement Broadley, in his role with the 100 Group of UK finance directors, is no stranger to the

arguments over how to influence the process of standard-setting. Analysts, as a user group,

have complained more than most about not having the influence they feel they deserve.

‘Get involved early is the answer to influencing the standard-setting process’, said Broadley.

‘There is a desire to hear from users’. But often it is the collective organisation of a

particular community which counts. And it is generally accepted that this hasn’t worked to

analysts’ advantage. ‘They are more difficult, it seems, to get a hold of’, he said. ‘Some

users are not as geared up as, for example, the Big Four audit firms, or preparers or the 100

Group’. He urged people to make more effort. ‘Recently there has been stronger

engagement from the user community. There is more that investors could do to produce

what they want’.

When it comes to the way that the interpretation process for IFRS has developed Broadley

is wary. ‘There is an anxiety over the hierarchy of the organisations seeking to provide

comment’, he said. At this point in the process of IFRS implementation when the various

regulatory organisations involved are still trying to work out a modus vivendi, or are simply

jockeying for position, it can be problematic. ‘There is uncertainty on the part of preparers

and their auditors on the relative standing of all the organisations commenting on how IFRS

is interpreted’, he said.

He worries about the role of the auditing firms acting as interpreters. ‘At the moment’, he

said, ‘and it may improve, the ability of preparers to take a principles-based approach is to

some extent limited by the audit firms’ reluctance to allow a principles-based approach’.



And there are political considerations. ‘The convergence between IFRS and US GAAP is not

between IFRS in the EU and US GAAP’, he said. ‘It needs to be understood that IFRS has

been adopted in a hundred countries worldwide and not just 27 in Europe’.

There is also the confusion about where the US regulator, the SEC, stands in the pecking

order. ‘If the SEC provides an interpretation what status do these comments have?’ he

asked. But he is optimistic about the process. ‘I am very positive about the speed and

range of developments’, he said, ‘I like the idea of US companies being able to adopt IFRS

themselves, for example. The very notion of that being discussed is a huge step forward

and is a great boost for the whole project’. His view is that the change in US attitudes is

part of a wider change which will be beneficial to the IFRS process. ‘It does seem to be

linked to a broader project about the scope of financial competitiveness in the US’, he said.

‘It’s all very encouraging’.

But the attitude of the SEC towards how companies from outside the US have implemented

IFRS will be crucial. ‘I have a slight concern that UK companies have seen comments in

language couched around “justify what you have done?” rather than “how have you followed

the principles?”. We need to see comment letters showing an understanding of the

principles which have been followed’. Like many, Broadley worries there may be a significant

difference between announced policy and actual implementation at bodies like the SEC. ‘At

leadership level an understanding of the importance of principles is true but it needs to be

communicated down to the individuals who are examining the accounts’, he said. ‘These

individuals now need to be trained to understand the principles involved’.

On the whole issue of the different approaches of principles-based rather than rules-based

standards he is optimistic. ‘I hope that the principles-based approach will gain ground’, he

said. ‘It does appear there is a desire to do this. Standards would be much shorter and a

rules-based approach just provides people with a way of navigating around them’.

Explanation not just information He is less convinced that technologies like XBRL have yet found a place in the financial

reporting world. ‘It is a question of what should the frequency of reporting be?’ he said. He

is a strong supporter of EU internal market commissioner Charlie McCreevy’s oft-repeated

view that quarterly reporting will not be introduced in Europe. ‘It would simply increase the

possibility of manipulation’, said Broadley. ‘Let’s fix half-yearly reporting first’. And the

concept of XBRL, with its ability to pluck figures from a set of accounts and compare them

with those from another company, doesn’t fit with the Broadley approach. ‘Accounts should

be for explanation rather than information. You need to report what management thinks, not

just the numbers. I’d rather focus on getting the narrative reporting right than follow the

XBRL approach’. It is down to the culture again. ‘Will XBRL information from a company in

Malaysia say the same thing as the information from a company in France?’

On the question of what role there is for fair values in IFRS he is blunt. ‘Their role is to

report the value of assets and liabilities where there are deep and liquid markets’, he said.

‘The end’. To which he added his view that ‘annual reports are for stewardship and they are

not valuation statements’.

As for the future priorities of standard-setters, he is equally clear. ‘The priority should be to

make things simpler’, he said. ‘Standards have been developed over a long period of time.

The immediate goal should be the re-wording of these standards at a fraction of their

length. Simplification is the primary goal’.



Peter Elwin

Peter Elwin is Head of Accounting and Valuation Research with JP Morgan Cazenove, (Cazenove Equities), and is also a member of the UK Accounting Standards Board and the Corporate Reporting Users Forum.

‘In essence’, he said of the experience of the first year of IFRS, ‘it’s done what it said on

the tin. There is greater comparability and more disclosure, and that is particularly true on

the continent of Europe and across Asia’, he said. ‘There are some significant advances in

the way things are being accounted for. There is a lot more information, for example on

pensions accounting or expensing stock options, than under the old local GAAP systems’.

For him there are two negatives. The first has been the change in the UK from a well

understood UK GAAP system to the new IFRS. ‘In the UK IFRS has been a slight step

backwards in some respects’, he said. ‘Analysts regard the treatment of associates and

discontinued operations as less helpful, and the format of the cash flow statement is less

prescriptive than before which has resulted in a lack of clarity in some cases.’

The second negative is odd results from the IFRS system which can appear counter-intuitive

to preparers and users. ‘You do tend to get more “funny” numbers’, he said. ‘Some of the

standards produce numbers which CFOs shake their heads at and say “Why have we

produced that and what for?”’.

‘But on balance’, he said, ‘it has been a significant positive’.

Greater comparability As for the possibility of greater comparability he has a simple answer. ‘It’s actually there’, he

said. ‘It has been a significant advance. For example, in the past if you took a Hong Kong

company and tried to compare it to a similar one in Malaysia and Singapore you would have

significant difficulties, but you are now able to make much more sensible comparisons.’

Has it become easier to understand the underlying corporate strategy and results? ‘The

simple answer’, he said, ‘is no. It hasn’t become easier to understand the underlying

business’. But it has made a difference in understanding other things. ‘Local GAAP didn’t

identify the risks and allowed companies to flatter their performance’, he said. ‘IFRS is

much better at revealing the risks. It is very good at forcing companies to own up to

liabilities. That is where the improvements have come. But overall it is no more revealing on

corporate strategy than the old local GAAP’.



‘In the past we have had a serious problem in that investors just haven’t engaged in the standard-setting process at all.’

‘Where IFRS has produced oddities is in specific businesses, or with esoteric issues’, he

said. ‘And a lot of it is related to the requirement to use fair value where the previous GAAP

did not. There are potentially large numbers moving through the accounts which analysts

sometimes find hard to understand’.

There has also been a boost to the use of non-GAAP measures. ‘It has definitely

encouraged non-GAAP measures’, he said. ‘It has encouraged companies to explain the

underlying issues. And that is an issue. It is not a failing of IFRS as such but it highlights the

issue of mixing operating and non-operating information in the performance statement’, he

said. ‘It is helpful if companies do use non-GAAP measures. I’m quite a fan of that’, he said.

‘It is management saying how they would prefer to do it this way. It can be useful,

particularly where the sector follows the same line, like, for example, property companies’.

But there is a downside. ‘The risk is that you start getting earnings before bad stuff and we

have had a bit of that. Whenever people are swamped by information they tend to take

things as read and not be as critical as they should be’.

As for the idea that the complexities of IFRS are forcing companies to rely more on

narrative reporting, Elwin said that ‘the reality is that it varies. Some businesses are more

affected by different aspects of IFRS and so they find ways of explaining the underlying

performance of the business. That’s not a bad thing’, he said. ‘I would prefer a company to

explain, for example, if IFRS has produced a counter-intuitive result. You will always want

managements to give their view of the world outside accounting constraints’.

He also feels that companies and analysts have broadly shared objectives. ‘It does seem to

me that some standards start out from the standpoint that companies are dishonest and

they have to get them to stop doing something’, he said. ‘But fundamentally most CFOs

are people of integrity and want to tell it how it is. It is all about telling the story, so that

analysts and investors can get a sense of what management have done with the capital

entrusted to them, and thus develop a sense of where will things go in the future.’.

Investor engagement But there are problems in getting the investment community’s views across. ‘In the past

we have had a serious problem in that investors just haven’t engaged in the standard-

setting process at all’, he said. ‘They tend to say “I have got something to do at this precise

moment which will help me and my company and so I don’t have time to look at a

conceptual framework today”. That remains the mentality’, he said. ‘It is only now with IFRS

that they have sat up and looked at strange figures, and now they are trying to make more

effort through groups like the Corporate Reporting Users Forum’.

‘It has been difficult to get all groups to talk together, though that is changing’, he said, ‘and

the IASB is getting better at going out to talk to them. But the IASB still tends to go out in

preaching mode rather than listening mode’, he said. ‘We are all going through a big change

process and that’s never easy’.

He sees risk in the interpretations process. ‘I follow interpretations much less than I do the

main standards’, he said. ‘The risks are that interpretations create rules which in turn create

inflexibility. Groups will need interpretations where there seem to be divergent treatments,

but it creates risks’, he said. ‘The other risk is local interpretation bodies creating rules on a

national basis. It all needs to be organic rather than prescriptive’.





He is also lukewarm on the idea of convergence. ‘I’m not a huge fan of convergence’, he

said. ‘Comparability is really useful. But it doesn’t bother me that some companies are

doing both US GAAP and IFRS. The differences are not enormous and they can be

understood. And you could bring the two regimes closer together and remove the more

arbitrary differences’, he said. ‘The problem is that the practicalities of the convergence

project can confuse users and preparers if they don’t understand the benefits. The new

segmental reporting standard is a good example. It is effectively a US standard imported

into IFRS and it has worked perfectly well in the US, but the IFRS standard which preceded

it was fine, so that value of changing from one to the other is not immediately obvious. In

the short term we will probably find that one or two more US standards are adopted into

IFRS because of a political trade with FASB and not because it is better accounting’, he

said. ‘The longer term benefit to everyone will be a credible set of standards which the US

authorities acknowledge are equal in stature to US GAAP.’

As for reconciliation? ‘Reconciliation is a political issue for the SEC and a cost that only a

few companies choose to suffer’, he said. ‘The SEC has always said that US GAAP is the

gold standard. So it is hard for it to change. But it could do so overnight. So do we need the

convergence project and if we do converge will the SEC remove the reconciliation

requirement?’, he said.

‘The convergence process has potentially negative outcomes for companies and investors

in the short term. And it is a benefit for relatively few companies’, he said. ‘The

convergence agenda determines what the IASB does for the next few years. There are real

issues which it could be focusing on and it can’t because it is doing convergence’.

Catch-phrases He suggested that the arguments over principles-based standards or rules-based standards

were ‘partly a catch-phrase debate’. ‘Really what people mean is that we want standards

which are easy to understand and relatively low cost to apply and which provide results

which show the underlying reality of a company’s results’, he said. ‘It depends on expecting

people to exercise judgements. You will end up with a degree of difference while best

practice improves’, he said. ‘You get a marketplace in ideas’.

On the value of XBRL and other similar technology he is ‘deeply sceptical’. ‘I have enough

experience of data systems to know they have a huge potential to go off the rails’, he said.

‘XBRL looks very desirable. But all it is really doing is saving me the hard graft of digging

out the detail myself. It doesn’t actually change the way that the numbers were produced in

the first place. I will still need to go back to the company for explanations. We will always

have to have some sort of annual report where a company has to tell its story’, he said. ‘It

all comes back to communication. XBRL could be helpful at the margins but I am not sure

the benefits outweigh the costs’.

Fair value is another concept which he is sceptical about. ‘”Fair value” is a phrase which

frustrates me’, he said. ‘It is very hard to argue against a fair value. It’s “fair”. I prefer other

terms for the concept that explain exactly what is being calculated’. ‘The market does not

want a full fair value model. Investors and analysts do not want the balance sheet to simply

give you the market cap’, he said. ‘That’s completely bonkers’.

He felt that, as a priority for the future, standard-setters should return to practical and

pragmatic matters. ‘Their priorities are being distorted by convergence’, he said. ‘What they

ought to do is go and ask users what they want. What standards aren’t working? And

where are new standards needed? And what do they cost? And then they simply should go

about sorting out those issues. That would keep them busy for the next ten years’, he said.

And as for creating a conceptual framework? ‘We need a conceptual framework which is as

short as the Ten Commandments, not as long as the Old Testament’, he said.



John Hegarty

John Hegarty is Manager, Financial Management, Europe and Central Asia, for the World Bank.

He comes to the implementation of IFRS from a different standpoint. One of his roles is to

help emerging and developing economies to get to grips with IFRS, both the implementation

and consequences. He feels that IFRS itself has been highly successful but around many

countries of the world there is still much to be done.

‘I think 2005 was a very important date for listed companies in the EU’, he said, ‘but there

are many other countries where IFRS is being introduced. Without doubt there is a greater

use worldwide of IFRS for financial reporting by public interest entities. There is a recognition

amongst countries around the world that they will move towards IFRS’, he said. ‘Increasingly

the default position globally is that IFRS should become the benchmark for countries’

financial reporting frameworks’.

But, from the standpoint of Hegarty’s work with the World Bank in emerging and

developing economies, there are considerable problems when you move away from the old

established financial reporting systems. ‘There is increased recognition of just how difficult

it is to switch to IFRS’, he said. ‘Difficult though it is, the political decision is relatively easy,

but the practical challenges of implementation are enormous’.

Internal capacity Where a country’s accounting infrastructure is not as strong or as well-established as

elsewhere there is another problem. ‘Many of the entities do not have the capacity to

deliver IFRS implementation internally’, he said. ‘Looking at a large number of IFRS

statements in emerging or developing markets there are strong signs that companies are

heavily reliant on their audit firms for the production of the statements’.

At the time of this interview Hegarty was looking at how the system was working in

Azerbaijan, where IFRS is now a legal requirement for public interest entities. ‘We are going

in to look at the financial reporting plumbing of these enterprises because the use of IFRS is

now the law. And we are finding that managements have no idea what had been in past

IFRS statements prepared to comply with contractual obligations, for example under loan

agreements. “We got the auditors in to do that”, they say’. And now, faced with the

challenge of truly embedding IFRS, the scale of the task going forward is dawning upon

them. ‘Suddenly they are realising the millions required to implement the IT systems, for



‘If IFRS is to be a global standard does it not mean that it would have to slow down to let the rest of the world catch up?’

example. And they are realising the consequences for them as management in standing by

the statements’, he said. ‘Previous “transformation” exercises, whereby external advisors

converted local GAAP financial statements into IFRS have given people a very misleading

impression of what is required to implement IFRS, and the costs. The experience in Europe

post-2005 provides evidence of how expensive this is, how long it takes, and how much

expertise is required in-house’.

He is equally worried about the issue of comparability. ‘Certainly the appearance of

comparability has improved a lot’, he said. ‘But it is aided by the fact that the financial

statements audited by firm A have very similar disclosure wordings and so do the financial

statements audited by firm B, and so on. There is a lot of boilerplate creeping in’. This is also

creating a divide between genuine understanding and responsibility and the actual figures

themselves. ‘You certainly don’t get the impression that the board and the management

stand behind these statements because they wrote them. The appearance of comparability

may be greater than the substance’, he said. And the strength of the old domestic

standards still lingers. ‘German pharmaceutical companies will be more like German car

companies than they will be like French pharmaceutical companies’, he said. ‘The actual

differences remain. We have to be realistic and accept that all of this won’t work perfectly

from today. It will take time’.

In the countries with which Hegarty is dealing the issue of non-GAAP measures is less than

elsewhere. ‘In a lot of our countries IFRS has not encouraged a greater use of non-GAAP

measures’, he said, ‘because the enterprises don’t fully own the messages in IFRS and so

they don’t feel the need to supplement the figures’.

Communication measures He didn’t think that IFRS complexity was motivating companies to put more effort into

narrative reporting. ‘This is not the case in the countries I am dealing with’, he said. ‘But it

should be. We have promoted a tool which is very, very complex. But we are not seeing

other communication measures being used.’

In these emerging and developing economies things will change. But it will be slow, and

dependent on a true IFRS culture taking hold. ‘Without good communication equity markets

will not develop’, he said. ‘IFRS is a good thing but the supporting market forces are not yet

developed. IFRS is a necessary pre-condition for creating these markets, but not sufficient

on its own’.

The same is true of the role of analysts. ‘The analysts in these countries generally work for

providers of debt finance, which frequently impose IFRS under their loan covenants’, he

said, ‘and so for these companies the use of IFRS will be for compliance reasons rather

than communication. They see themselves as takers of standards rather than shapers’, he

said. ‘The IFRS process tends to be remote from these companies. Probably the only

serious discussions they will have had will have been with their auditors. And the local

auditors will probably only be communicating the message from a technical department

elsewhere’.

In such economies the whole issue of interpretations of IFRS is very different. ‘This is an

issue which is raised with us a lot by local accounting bodies’, he said. ‘I have a feeling that

the impression has risen in the market that only the Big Four firms are plugged into this

process. There is a feeling that local accounting bodies do not have access and so are not

able to participate’. Hegarty regrets this. ‘If the defining characteristic of a profession is that

it is a public marketplace of ideas then you have to conclude that the IFRS interpretations

are being carried out in private’, he said.



On the issue of convergence he is wary of the politics. ‘The impression I get is that IFRS

and US GAAP convergence has given rise to political difficulties in Europe’, he said.

‘Convergence has become a major determinant of what goes into IFRS and so decisions

are seen as being made in a non-public way as far as the EU is concerned’. He is

encouraged, though, by what is happening in US regulatory circles. ‘The SEC seems to be

saying that they are not looking for standards to be identical before they drop the need for

reconciliation of IFRS statements to US GAAP. That suggests they could live with the

differences’, he said. ‘And that has to be a good thing’.

Like many people Hegarty ‘would like to see principles-based standards gain the upper

hand in the long-term’. ‘But we need to be realistic about the pre-conditions’, he said. ‘It

needs highly-trained preparers, users and auditors capable of making these judgements in a

sound way. There is a need for regulators to be firm but also to hold back to allow

judgements to be applied’, he said. ‘And we would need to be very clear as to who gets to

make the final judgement. One party has to say “this is the answer we are going with”. And

that’s not fully worked out yet. I don’t think we have finalised enough of these details on an

operational basis yet’.

Rest of the world There is also a question of the different speeds at which expertise and experience are

gained. ‘If IFRS is to be a global standard does it not mean that it would have to slow down

to let the rest of the world catch up? The UK is readier than the US to adopt a principles-

based system. And both are readier than Tajikistan’, he said. ‘Standards don’t stand alone.

But although we are not quite there yet the principles-based approach is absolutely where I

would like to get’.

When asked what roles there were for fair values he was clear. ‘For people on the

international conference circuit there are good roles’, he said. ‘It keeps them all talking’. He

was more sceptical. ‘There are issues about the auditability, reliability and suitability of fair

values’, he said. ‘There are many people who feel that fair values have an information value

but as to whether they should be the primary measurement basis there are a lot of people

out there who are quite nervous about it’, he said. ‘People perhaps exaggerate the issues to

set up a straw man’.

As for the future priorities of the standard-setters he pointed to several. ‘I think that it is

clear that IFRS should be used for public interest entities’, he said. ‘But that leaves other

organisations which need something else. There is the question of meeting the needs of

the SME sector’, he said. ‘Standard-setters need more explicit agreement on what entities

need what standards’.

He also reiterated his concern that standard-setters were getting too far ahead of other

parts of the equation, like regulators, for example. And he thought there were dangers

ahead. ‘I think the IASB has to continue to recognise that it is only one player in the

process of improving financial reporting and that if accounting standards get too far ahead

of other drivers it will fail and the IASB will cease to be the real option’, he said. ‘Then

countries will start to do their own thing. And that is not always going to be done by the

good guys’.





Robert Herz

Robert Herz is Chairman of the US standard-setter, the Financial Accounting Standards Board, and is a key player in the programme working towards convergence between IFRS and US GAAP.

While IFRS has obviously had very little impact on US companies directly, the convergence

project off the back of the IFRS implementation programme has. And Herz has also keenly

observed the IFRS experiences elsewhere. ‘Changes in US reporting have been partially

impacted by our convergence project’, he said, ‘which is taking flight’. But it is elsewhere

that the real changes are taking place. ‘In other parts of the world IFRS has been a

revolution’, he said. ‘In many places capital market reporting didn’t exist before. The figures

were produced for a tax-based system, for example. The changes have been exactly what

the capital markets needed’.

Closing the GAAPs He also praised the growing comparability of financial reports. ‘Over time it will make a

huge change’, he said. ‘We are getting down to only having a few GAAPs in standards

across the world’s markets. Before IFRS you had a hundred different GAAPs. Now we are

down to a small number. There are still differences but those differences will get

significantly less over time as more countries come into the IFRS fold’, he said. ‘It is a

painful process. But in the space of six or seven years we have got hundreds of different

approaches down to three or four. Within those there are still alternative treatments. But

going ahead there will be less. And all this adds up to more comparability’.

He also felt that IFRS had improved understanding of underlying economic realities. ‘IFRS

versus other national GAAPs is clearly superior’, he said, ‘particularly the statutory-based

ones. If you are in the world of global investing the ability for comparing major companies,

for example across the US, UK and Switzerland, is vastly improved. IFRS is a good portrayal

of the underlying economic realities, as is US GAAP and as was UK GAAP before’, he said.



‘You are getting a lot of ‘IFRS as adopted in…’ phrasing, and that’s a concern.’

He was understanding of companies which used non-GAAP measures. ‘Non-GAAP

measures get done for two reasons’, he said. ‘One good, one bad. The good reason is that

the company is trying to communicate how it looks at things. The bad one is that

sometimes it can be used to obfuscate – “I want to paint a picture which isn’t the right one.

I want to look six foot tall when I am actually only five foot eight”’, he said. ‘It’s inevitable

that different companies will have different ways to look at themselves’. He suggested that

once the output of the joint financial statement presentation project between FASB and

IASB comes on stream ‘we will have a much richer and fuller display of the company’s

financial position, its cash flows and its operating results. It will be a better vehicle for the

company to tell their story’, he said.

He was not surprised at the growing popularity of narrative reporting but didn’t think that it

was the perceived complexity of IFRS which was driving it. ‘It’s not the complexity of IFRS’,

he said. ‘Businesses are complex and numbers on their own are never going to tell the full

story. Narrative reporting is a vital complement to the figures. We have had it here in the

US for many years with our Management Discussion and Analysis reports’.

On the subject of how far companies and analysts had shared objectives he felt that they

shared some. ‘But there are strong differences too’, he said. ‘They have a shared objective

of trying to provide as faithful as possible a picture of the business. The differences come

because companies tend to report how they see it while analysts are trying to compare one

company to another. They need a good basis for benchmarking by comparisons’.

It was also a question of different attitudes. ‘I still think that a lot of managements say “I’m

going to report from my point of view and when things are out of my control, like market

forces for example, I’m not going to report that.” But analysts will want to know that’, he said.

Getting involved He felt analysts could have more say in the standard-setting process simply by putting more

effort in and ‘by getting more actively involved, as the preparers are’. In the US he felt this

was working better than elsewhere. ‘We have more and more of it here in the US’, he said.

‘We have created a group of technical and expert accountants who work in the investment

industry to advise us, for example. The CFA, the Chartered Financial Analyst Institute, has

developed a comprehensive approach. All of this has been extremely helpful’, he said. ‘We

have developed it to a much higher level here than what is going on in the rest of the world’.

On the question of interpretations he was clear. ‘My overall sense is that the IASB is trying

to balance lots of demands for interpretations while avoiding what we have here in the US,

where we have too many interpretations’, he said. ‘That frustrates people but it may be the

right strategy. There is a tendency that instead of thinking about the principle involved

people simply say: “Give me an answer”’.

He said that the convergence programme was going well and that the SEC was handling

the issue of IFRS well. ‘I think that the SEC staff is trying to follow the roadmap to

convergence’, he said. There were three points. ‘First, we continue on the convergence

programme. Second, on the question of the understandability of IFRS to US investors, I get

the feeling that they can handle IFRS. They are not viewed as that different’, he said. Where

he felt there were problems was in the differences between different regimes and

countries. ‘The difference in consistency of application is a problem’, he said. ‘The EU

mandated a carve-out of the financial instrument standard and other parts of the world have

carved out other standards. You are getting a lot of “IFRS as adopted in…” phrasing’, he

said, ‘and that’s a concern’. Nevertheless he expects the SEC to lift the requirement for a

reconciliation between IFRS and US GAAP. ‘My guess is that the SEC will recommend to lift

the reconciliation requirement in either 2008 or 2009’, he said. ‘But preferably for people

who have adopted full IFRS and not the “as adopted in…” versions’.





This raises the possibility of even more startling developments. ‘There will be a question in

the US’, he said. ‘Some companies will say “Why can’t I adopt IFRS?”. That’s a tough

question to answer. Some people feel it’s time to set a deadline here in the US to move to

full IFRS, just as Canada has set a deadline’.

On the debate over principles-based standards versus rules-based standards he said he

was ‘somewhere in between’. ‘I don’t like the words “principles-based”’, he said. ‘I like

“outcome-based”. Tell me what the outcome should be, and maybe I’ll need some rules at

times, but make them consistent with the outcome. “Outcome-based” makes the

objectives much clearer’, he said. ‘In the US we are setting principles in the standards and

beginning to use bold-facing. And on all the major areas we are working on now, we are

working with the IASB so hopefully they will be more principles-based’.

He was enthusiastic about XBRL and the use of such technology. ‘The big question over all

of this is if XBRL really takes off and gets driven down into companies’ internal reporting

systems what influence would that have on IFRS’, he said. ‘You could have a core set of

financial standards and then a set which are technology-driven’. This raises other questions.

‘Should the financials just be framed for the shareholders, or all the capital providers?’, he

said. ‘The answer could lead to differences in financial accounting. Once you can tag data

and disassemble it that could change things. Narrative reporting and financial reporting

becomes much easier with tagging’, he said. ‘Turnover? Would you like to see the six

different components of turnover? Click! And so on’.

“Current” value He dislikes the term ‘fair values’. ‘I call it current value’, he said. ‘Fair value is an emotive

term’. But he feels the issue has to be worked through. ‘There is a place for current values’,

he said. ‘People would like to understand what the current value of things are. But others

would like to stick to historical cost-based accounting. Again with technology it may be

possible to do both’. There will be much discussion of this. ‘We have launched a global

debate with the IASB over measurement in accounting’, he said. ‘I may have my model but

the important thing is to have that debate’.

As for what the priorities of standard-setters now ought to be he sticks to his core belief. ‘The

priority continues to be how do we get to the overarching goal of creating common high

quality reporting across the major capital markets of the world’, he said. ‘That’s the path we

set out on and that’s the path we’re going to stick to. My vision has always been this’. On a

wider point he suggested that the regulator community also needs to play a role. ‘Standards

are only part of that vision’, he said. ‘It is a key ingredient but there is also regulation, quality

control, common auditing standards, audit reporting and enforcement. All of these lag behind

the standard-setting’, he said. ‘The regulators are behind, but also beginning to pick up the

pace. That’s good because they are a key part of the overall programme’.



Archie Hunter

Archie Hunter is Chairman of the audit committee of the Royal Bank of Scotland Group as well as Chairman of the Macfarlane Group and a past-president of the Institute of Chartered Accountants of Scotland.

He sees the changes which IFRS have brought about as ‘pretty fundamental’ and notes that

the process is taking time to bed down. ‘It’s taking people a great deal of time to become

familiar with it’, he said. ‘Conceptually the change is OK but we are talking about a whole

new accounting framework and it’s very different’. The old certainties have changed. ‘The

concept of “substance over form” used to be embedded but we haven’t got anything to

replace it’, he said. ‘That is a big one for us’.

He sees comparability of financial reports as a goal which is a bit distant yet. ‘The hope is

that we will see comparability, in time’, he said. ‘But when IFRS was introduced, companies

applying it for the first time had choices. These choices had to be categorised in accordance

with IFRS and the application of those choices, for instance categorisation of assets, has

deferred comparability. As a prize comparability is a little bit further down the road’.

Dealing with the unfamiliar Nor does he think that it has yet made it easier to understand the underlying corporate

strategy and results. ‘I think these have not become easier to understand’, he said.

‘Understanding requires familiarity and both users and preparers have not yet got that

familiarity. Previously we could look at the figures and say “hold on, there’s something

wrong here”. It is more difficult to have that comprehension at the moment. But that is now.

In time, the hope is that difficulty will be overcome with experience’.

In the meantime other measures need to be taken. ‘Non-GAAP measures have to be used’,

he said. ‘The volatility is being stripped out and given explanation in the narrative. For

example, movements in investment properties which are now in the profit and loss instead

of reserves’. It has meant that more non-GAAP explanation needs to be used. ‘You have to

have more narrative reporting to explain these volatilities’, he said. ‘And if you don’t explain

there is a charge of lack of fair presentation. Even so, there is a real prospect too that the

less than fully informed reader would not pick up some of the impact on earnings’.


‘We would like to see principles triumph. But…it’s going to be a trade for the people involved.’


He felt that companies and analysts had shared objectives here. ‘Both are striving for

understandability’, he said. ‘They can and must have shared objectives and it is very

important we work to find common ground’. And he felt that others could help. ‘The Big

Four accounting firms have a bit of a role here’, he said. ‘Their experience could be very

helpful. They have as much first-hand experience of corporate reporting as anyone. They

could identify areas of non-comparability, for example’, he said. ‘and help to promote

consistent application and disclosure’.

He also felt the Big Four firms should put more effort into the issue of interpretations of

IFRS. He felt that at present, after a year of experience, the whole area of interpretations

was ‘a bit ad hoc’ and was evolving ‘with difficulty’. ‘This is territory where the Big Four

firms could have a very constructive role to play’, he said.

He thought that the issue of convergence was worth pursuing if it produced results which

were not compromises. ‘I think convergence is something to be sought as long as what we

get is principles-based and qualitatively sound and is not a compromise’, he said. ‘The

difficulty is that in the US environment it is probably quite difficult to see how they could

survive without rules. We should be striving for convergence as long as it is based on

principles’.

Reconciliations In the meantime the largest companies will have to continue to reconcile their IFRS figures

with US GAAP. ‘At present reconciliation is quite a big task for some organisations and

probably of little value. Reconciliations tend not to be used by analysts on either side of the

water’. And the SEC continues to seek clarification on the way that non-US companies are

using IFRS. ‘The SEC does a pretty sound critique’, he said. ‘They are challenging

companies. They want an understanding of IFRS and they are asking a lot of questions so

they have that understanding’, he said. ‘They seem to have been very responsible and

thorough and it is heartening now to hear of their intention to adopt IFRS which will in time

overtake the need for reconciliation’.

He returned to the debate on whether principles-based standards or rules-based standards

would prevail. ‘What we would like and what we are likely to get are very different things’,

he said. ‘We would like to see principles-based standards but if we want convergence it is

difficult to see how principles will survive. It goes round in a circle. It is hard to see where

the compromise will lie’.

On the role of technology in financial reporting he felt that ‘XBRL does have a value’. ‘It is

not life-changing at this time. We will have more online disclosure’, he said. ‘It’s bound to

develop that way’, he said. ‘Where it will go, for example like real-time accounting, I don’t

know yet. It is not changing the outputs at the moment’.

The extension of the use of fair values gives him some concern. ‘As of now fair value has

been introduced and familiarity will aid understanding. Extension raises questions over

consistency of measurement. The fundamental is that the concepts meet the needs of

users and preparers. I’m sceptical about extension’.

He would like standard-setters to make principle-based standards their main priority. ‘We

would like to see principles triumph’, he said. ‘But we know that rules are necessary in the

US environment. It’s going to be a trade for the people involved. The priority should be to

get the best answers from financial reporting rather than compromises’, he said. ‘But it’s

going to be a hard one’.



Kenneth Lee

Kenneth Lee is the Head of Accounting and Valuation research for Europe with Citi Investment Research.

His view is that IFRS arrived at a benign point in the economic cycle and so it is hard to truly

see what the real effects have been. He made three initial points. ‘It is still very early days’, he

said. ‘We hear a lot of people talking about IFRS as a “very easy win”. IFRS arrived at a time

when corporate performance was good, when earnings numbers were strong and when cash

flow was healthy. And that’, he said, ‘really affects the context of financial reporting’.

But having said that he emphasised that one of the results was that analysts had ‘certainly

seen better disclosure across Europe’. And his third overall view was that ‘financial

reporting is getting much more complex’. And as a result: ‘It is very difficult to get a

definitive grasp of what is happening’.

Asked whether he thought the great goal of comparability of financial reports was

becoming a possibility he was enthusiastic. ‘I think it is already a reality to some degree’,

he said. ‘For example, take pension cost disclosures across Europe. They are reasonably

comparable now whereas there was significant divergence before. Pan-European reporting

generally is much better’. But he added a caveat. ‘The challenge to comparability is that

IFRS gives an awful lot of choice. For example, accounting for joint ventures under different

methods transforms them. The balance sheet, cash flow statements, profit and loss are all

completely different’. Despite this the goal was in sight. ‘Overall’, he said, ‘we are on the

right road for comparability’.

Technical complexity He is unsure whether it has become easier to understand the underlying corporate strategy

and results. ‘It is complex’, he said. ‘On the one side there is a comprehensive suite of

rules across Europe and that surely means it is easier to understand. But they are very

complex and we are still getting used to them. And there are technical things that the

market doesn’t understand’, he said. ‘Ultimately it will become more familiar but it takes

time’. And in the meantime companies have to try to make themselves understood and

non-GAAP measures have often become the answer. ‘Some companies have had to provide

alternative profit measures which could be compared to their history’, he said.

He was unsure of whether this was nudging companies towards a greater reliance on

narrative reporting. ‘I don’t have any evidence of that’, he said. ‘I am not sure how much

analysts actually use narrative reporting. People talk to me about the technical bits, not


‘I am not sure how much analysts actually use narrative reporting. People talk to me about the technical bits, not what the chairman has said.’


what the chairman has said’. And analysts have other avenues to gain an understanding of

the wider story. ‘Analysts discuss results at meetings with the company and that is a better

source of understanding than boilerplate narrative’, he said.

He sees a significant difference between the objectives of companies and analysts on

financial reporting. ‘At a macro level they do have shared objectives’, he said. ‘In an ideal

world management wants the world to understand their business. But at a more detailed

level analysts want to use company statements to forecast future cash flows and as inputs

for their valuation models. Companies are not necessarily focused on providing analysts

with the data which would enable them to do this’. This is where the divide occurs.

‘Analysts use the accounts for future-oriented things and that’s not what management

generally focus on. An analyst building his model is not the key audience of management

when they publish accounts’, he said. ‘And do managements always want the accounts to

reflect a fair picture of their business? In general yes, but there will be exceptions’.

He would like greater understanding from standard-setters of what analysts truly want. ‘The

way to move this forward is for standard-setters to understand what analysts use and what

they don’t use’, he said. ‘Companies aren’t necessarily aware of what analysts use or don’t

use. There is an assumption, for example, that many balance sheet numbers are not

relevant, which is simply not true’.

He is an enthusiast for convergence. ‘The idea of convergence is an excellent one in

principle’, he said. ‘One of the things which has historically stopped markets conducting

sophisticated global analysis has been accounting differentials’, he said. ‘If you want more

effective global capital markets then you need to be able to compare sectors on a global

basis. If I were able to compare a utility company in the UK, the US and India, for example,

that would be very powerful’, he said. ‘An investor should be looking at the world as

investable. At the moment that’s not the case’, he said. ‘IFRS has made a significant

contribution to start that process’. But the goal cannot be reached without greater

convergence. ‘US GAAP is the key other suite of accounting standards’, he said.

As for principles-based standards versus rules-based standards he looks to a compromise.

‘I would rather have principles-based standards’, he said. ‘Principles-based standards along

with strong auditors is the best combination for capital markets. I’m often asked by

investors: “What’s the quality of auditing out there?” It is not something which is viewed as

an irrelevance’. That is the ideal world. ‘But you always need rules to some degree’, he said.

‘In reality it will always be a compromise’.

Opportunities through XBRL He is a supporter of the greater use of technology, particularly XBRL, in reporting. ‘The

ability to access data easily is very significant in the day-to-day job of any analyst’, he said.

‘Currently we use data vendors who manually extract data from annual reports, so there are

always concerns about quality, definitions, consistency and so on. In addition much

information in the notes to the accounts simply isn’t available’, he said. ‘Given that

accounting is becoming more complex the notes have become more important’. This is

where technology could make life easier. ‘It appears to me that XBRL offers huge

opportunities in all these areas’.

On fair values he is positive. ‘It is undoubtedly more relevant to know the market price of,

say, a piece of real estate than it is to know its cost from many years ago’, he said. ‘If we

are trying to assess management performance surely we should hold them accountable for

the current value of the resources under their control rather than some out of date value’,

he said. ‘So for significant assets, and financial assets and liabilities, fair values appear very

attractive. However, we are always conscious of the cost/benefit trade-off of forcing

companies to ascertain up-to-date values for every single asset and liability’, he said. ‘But

overall we are positive about the role of fair values’. As for standard-setters’ priorities for the

future, for Lee it comes down to the conceptual framework. ‘It sounds totally simplistic but

we need to know where we are going before we start meddling further’, he said.



Ken Lever

Ken Lever is Finance Director at engineering group Tomkins plc and is also Chairman of the Financial Reporting Committee of the influential 100 Group of UK finance directors.

He sees the move towards IFRS as having created a disconnect within business and

management thinking.

‘External financial reporting is becoming focused on balance sheet values with income

being based on the difference between two balance sheets’, he said. ‘It has added

complexity to reporting, increased the use of fair values and it is less connected to the

operation of the business’. This, for him, is the biggest change. ‘Financial reporting is not

that helpful internally to the management of the business’, he said. ‘Most people in the old

days felt happy that the data used to manage the business was the same as that used to

produce the external financial reporting. Now there is a clear disconnect between the

information used to run the business and the information we report externally’.

Country comparability He also thinks that the goal of comparability which IFRS was expected to produce has

come about, but not in the way which people had anticipated. ‘IFRS has produced greater

comparability between countries but not between companies’, he said. ‘It has forced

companies to go down the same track in the method of showing financial combinations, for

example. But it doesn’t create comparability between companies. There are so many

judgements involved when arriving for example at the fair value of intangible assets.

Different people in different companies could easily come up with different numbers for the

same asset’. For Lever the result is ‘more consistency than comparability’.

The system has also brought about other changes. ‘It has created a greater use of non-

GAAP measures’, he said, ‘and also a greater use of non-financial information. Companies

have to use non-financial information to explain the strategy of the business because the

financial information is so complex’.

He is not sure where this particular change will lead us. ‘This could be transitional whilst

people get used to IFRS’, he said. ‘Or it could be a trend. People want other information like

that published in the business review. Most of the investors will get more from analyst

presentations appearing on the website, for example. That will help the understanding of a

company’s strategy much more than IFRS will do’, he said. And it also produces an internal





paradox. ‘It will become easier to understand a company’s strategy in spite of IFRS’, he said.

‘Non-financial management finds IFRS very difficult to comprehend. We have to unravel it’.

This forces preparers to use non-financial, narrative reporting to explain their corporate

strategy. ‘Complexity has forced preparers to go down that track to get the information

across’, he said. ‘And it’s not a bad thing. Financial standards and financial reporting weren’t

ever really intended to give investors a view of how the company will go forward over time.

Accounting was never ever set up to do that. It was set up for a stewardship purpose’.

He suggested that there is a significant misunderstanding at the heart of financial reporting.

‘The problem with financial reporting generally’, he said, ‘is the desire for financial

accounting to come up with some sort of valuation. But it can never do that because many

non-financial assets, like intellectual property, human resources and internally generated

goodwill, for example, are not on the balance sheet. As a result people are trying to use

financial reporting to achieve the wrong objective’.

He also believes that companies as preparers and investors and analysts as users have

shared objectives. ‘Companies are interested in providing information that investors and the

market can understand. There is alignment between the users and the company’, he said.

He suggested that an unnecessary opposition between the two is often set up. ‘Some

users believe the preparers’ view in life is to prepare the best picture and so the users then

set about to unpick it’, he said. ‘This is why there has been a backlash against IFRS8 on

segmental reporting’, he said. ‘It has been driven partly by the idea that if the picture is put

forward by management they will hide the performance of poor businesses’.

More even-handedness ‘Standard-setters need to listen to preparers and users’, he said. ‘There is a tendency for the

IASB to say to preparers “this is what the users want”, when they may not know what the

users want. And then the standard-setters say to the users “this is what you should have”

because there is an assumption that the preparers will not provide a proper view’. The

culture of opposition, which Lever believes is over-emphasised, is thus reinforced. ‘Now,

there is much more even-handedness in presenting information by preparers’, he said, ‘and

the standard-setters, who have a difficult job to do, haven’t always recognised that’.

He is wary of an over-reliance on interpretations. ‘There is the problem of a backlog of

interpretations’, he said. ‘I don’t think it is a good idea to have loads and loads of views on

how IFRS should be applied. With a principles-based regime some countries want

everything to be defined and there is a danger that the whole process becomes a rulebook’.

But these are early days in the interpretations process. ‘The problem is that the system is

still feeling its way’, he said. ‘I think they are doing a reasonable job. They are pushing back

and trying to discourage an over-reliance on interpretations’.

He is also optimistic about the attitudes towards the convergence of IFRS and US GAAP,

which should provide global financial reporting freedom. ‘I am encouraged’, he said. ‘The

SEC is making favourable noises and the process is now more about the acceptance of

equivalence than it is about convergence’. The process has moved away from trying to

make everything identical, which would never have happened in a practical sense anyway.

‘Even with convergence you would still come up with different numbers under different

regimes’, he said.

‘The problem is that you will never get total comparability and consistency across different

regimes’, he said. ‘But it would make a huge difference if US companies were to be

allowed to file under IFRS. But they will only do it if IFRS becomes truly international’. This



‘Non-financial management finds IFRS very difficult to comprehend. We have to unravel it.’

is what the SEC will concentrate on, particularly as it worries that IFRS is not being applied

fully in many countries outside Europe. ‘The SEC will not want to see IFRS being applied

differently in different countries’, he said.

And then there is the prospect of US companies moving onto IFRS. ‘The SEC look

increasingly likely to accept the elimination of the reconciliation between US GAAP and

IFRS’, he said. But he is sceptical about how easily the SEC would allow US companies the

freedom to use IFRS instead of US GAAP. ‘I am not sure how they will get to US

companies filing under IFRS’, he said. ‘The IASB will need to convince the SEC that IFRS

are not just domestic GAAP’. But there are other factors at work. ‘The New York Stock

Exchange is very pro reporting under IFRS’, he said. ‘It would give them a level playing field

around the world in terms of financial markets’, he said.

And there is simply the issue of the staff of the SEC being expert on US GAAP but

inevitably not so informed on IFRS. This shows up in the comments from the SEC on

accounts produced under IFRS. ‘Most SEC comments stem from a lack of understanding

rather than criticism’, he said. ‘And that will die out as the SEC becomes more familiar with

the IFRS regime’.

Rules and principles And there will be similar changes of direction as a result of the debate over whether a

principles-based or rules-based system should prevail. ‘Even the US feels they want to head

in a principles-based direction’, he said. ‘The US can be unnecessarily prescriptive. But that

is the nature of the country. It seems they have their whole lives driven by rules. But we

will head towards a principles-based regime’, he said.

He takes a straightforward view of the role of technology, and in particular XBRL, in

financial reporting. ‘If technology makes things simpler then it has a role’, he said. ‘XBRL,

for example, is being introduced by the tax regime in the UK’. And it may have a role in

overall financial reporting. ‘It will make life easier to compare data’, he said. ‘It will be a

facilitator. XBRL is just like a giant spreadsheet for data. It is a good thing. But it will take

time to get there’.

He takes an equally level-headed view on the issue of the use of fair values. ‘There is a role

for fair values if you are trying to use accounts for valuation purposes’, he said. ‘My view is

that fair values should only be applied where there is a proper market. So you would only

apply them to some, but not all, financial derivatives where there is genuinely a market’.

And it doesn’t work for all organisations. ‘In a manufacturing company like ours it can lead

to total confusion’, he said, ‘whereas in financial services companies fair values can be very

important. But fair values based on hypothetical calculations can be unhelpful.’.

He felt that the priorities of standard-setters should now be focussed on two linked areas.

‘They should respond to criticisms which currently exist on the existing standards being

developed’, he said. ‘But the most important issue is that the conceptual framework should

be agreed and in place. It cannot possibly take ten years to do this. You need a conceptual

framework as the base. Currently you are winging it as you go along’. He added: ‘You

cannot allow the development of standards to determine the conceptual framework; the

framework needs to be used to guide the development of the standards’. This connects

with another issue. ‘We need to sort out performance reporting and the basics of

measurement’, he said. ‘They are inextricably linked. How are you going to measure the

performance of an organisation over time otherwise?’



Cees Maas

Cees Maas was until recently Vice-Chairman and Chief Financial Officer at ING Group, the Netherlands-based global financial services giant, and is now Honorary Vice-Chairman of the executive board.

He sees huge changes across the first year of implementation of IFRS and, particularly from

a banking standpoint, enormous changes in how financial reporting reflects the nature of

the business. ‘IFRS has changed a lot’, he said. ‘It has changed enormously. Many portfolios

have to be marked to market, for example’. And it has changed more than the technical

issues. It has made financial services reporting very different. ‘We are not allowed to

recognise shares and hedges so volatility has increased’, he said. ‘That is very important for

a bank’. He is in little doubt that the IFRS revolution has had a very deep impact on the

financial services industry. ‘Our reporting has changed fundamentally’, he said.

So many options He also feels that at this point in the implementation of IFRS all the goals of comparability

are not being attained. ‘On the one hand yes’, he said, ‘but on the other hand no’, is how he

put it. ‘Yes, because in certain areas we have to report things in the same way. But there

are so many options that in the end the comparability has probably not increased’. He is

waiting to see. ‘It could be because this was the first year and we have to get used to it.

But maybe not’. He has his doubts. ‘In loan loss provisioning for example there are different

horizons for different portfolios’, he said. ‘That does not increase the comparability’. He also

doubted whether the EU carve-out which allowed some banks to avoid the provisions of

the standards on financial instruments helped. And, at this stage in the development of

IFRS, you lack the precision and familiarity of the previous domestic standards. ‘In the past

if you studied French GAAP, for example, you knew what you had. Now that it is all IFRS it

is not always clear what options have been taken’.



‘Rules-based standards are very bad but they are the consequence of being held responsible.’

Nor has it become easier to understand the underlying corporate strategy and results. ‘It

has certainly not become easier’, he said. ‘It has become more difficult because of the

volatility. We don’t have a full balance sheet at fair value and so you get asymmetry with the

assets and that encourages greater use of non-GAAP measures’.

Nor does he see the complexity of IFRS as a factor in bringing about a greater emphasis on

narrative reporting. ‘Yes’, he said, ‘IFRS is complex but it is not the complexity’. For him it is

the lingering rules-based standards which force companies to use other means to put their

message across. In particular he blames the standard dealing with financial instruments.

‘IAS39 is rules-based and increases complexity’, he said. ‘So we use non-financial measures

to get our corporate management and strategy across’.

He doesn’t have much time for the idea that companies and analysts have shared

objectives for financial reporting and that greater influence over the standard-setting

process should be pursued. ‘Every company wants to report on the way that they manage

the business’, he said. ‘It is not my objective to have shared objectives’. Nor does he think

that analysts are too interested in the complexities. ‘My experience with analysts is that

they try to understand the way that you report. But that starts with the way that we

manage our business.’ He felt that analysts need not have too much say in the standard-

setting process. ‘I don’t think that analysts can influence standard-setting’, he said. ‘Before

the days of IFRS we had huge reconciliations between US GAAP and Dutch GAAP. We did

not have a single question from analysts in the ten years we did that. They are not

interested. They were interested in the management of the company. They are not

interested in standard-setting’.

Interpretations and disclosures He urged restraint when it comes to interpretations of IFRS. ‘I am not in favour of detailed

issues of interpretations’, he said. He felt that it would be better if change came from best

practice than from quasi-regulatory bodies. ‘I think that disclosing how you interpret the

rules is the best way. Best market practice will force change. Analysts will tell companies

that they are being too optimistic, for example, and the companies will adapt. Best market

practice will lead to convergence of accounting treatments’.

But he did feel that other developments would help. ‘There are two agents who influence

us’, he said, ‘the regulators and the auditors. Auditors are now regulated entities. They have

an influence and that’s good news. There is more convergence in interpretation’.

He has doubts about the long-term issue of convergence between US GAAP and IFRS. ‘You

can never say never but it will take a very long time, if ever, before IFRS and US rules will

be the same’, he said. ‘The interpretations will never be the same. The rules of

interpretation are so different they will never converge. There will always be different

interpretations’. He doubted whether the two relevant boards, the IASB and the FASB, will

ever come to full convergence. ‘That can only happen as a result of pressure from the

markets’, he said. ‘The market will decide’. But he felt that simply to reduce the

bureaucracy faced by a global company based in Europe measures had to be taken. ‘I am in

favour of mutual recognition first’, he said. ‘Those disclosures would help convergence. We

need to get rid of these ridiculous piles of additional papers we have to have for the SEC’.

The market was the solution. ‘Disclosure is the key’, he said.





On the subject of the conflict between principles-based or rules-based standards he was

pessimistic. ‘I am very much in favour of principles-based standards’, he said. ‘But I see a

tendency that rules-based standards will gain the upper hand’. He felt that this was as much

to do with changes in attitude and wider social change as it was to do with standard-setting

bodies. ‘We are all held more responsible and more accountable these days’, he said,

‘which is good. But as a result we all need more guidelines. So everyone asks for rules and

interpretations, both external, from auditors, and internal, S-O 404’. This is the dilemma.

‘We all ask for guidance so that we can carry the responsibility we have been given. Rules-

based standards are very bad but they are the consequence of being held accountable ’.

When it came to a greater use of technology in financial reporting, such as XBRL, he was

polite but not enthusiastic. ‘XBRL could be useful’, he said, ‘but it won’t change the world.

It will not lead to big changes in IFRS interpretation. It is a very nice framework for

standardised entry into systems. But it won’t change the rules’.

On the issue of fair values he had forceful views and wanted a clear delineation of where

fair values were useful and where they were not. ‘The role of fair values is an essential tool

for risk management’, he said, ‘but they are not a necessity for reporting. In the financial

services industry, and in particular in insurance, we take very long liabilities on board. Fair

values depend very much on assumptions. That is fine for the long-term. But for reporting

you cannot say your equity varies because of what interest rates may be. There is no real

added-value to that’, he said.

But he accepted that he was probably fighting a losing battle. And he warned how it would

change the banking business. ‘The train has left the station’, he said. ‘You never know when

the pendulum will swing back again. It will change our business. The market will not accept

the volatility. We will take less long-term assets or liabilities on our books that do not

match’, he said, ‘and that is not in the interests of society as a whole’.

As for the future he felt standard-setters should have only one priority. ‘They should stop

issuing new rules and regulations’, he said. ‘Let the dust settle. Let’s see how best market

practice will develop’, he said. ‘Freeze’.

He also made a plea for greater influence from high-level regulators rather than tinkering

from experts at a technical level. ‘It all needs to be done at the highest level’, he said.

‘Effective regulation is the only way forward. Creating simplicity is extremely complex’, he

said. ‘And it is even more complex to maintain simplicity. It can only be done at the highest

level and it cannot be done by technical experts’.



Baroness Noakes

Baroness Noakes is a director of a number of listed companies and is Chairman of the Audit Committee of Hanson plc.

She has no doubt that IFRS has made corporate life more complex. ‘It has all become much

more complicated’, she said. ‘Financial statements have exploded in length and become

unintelligible’.

There are several strands to this. ‘There was a tendency to transpose IFRS into the

accounting notes in the first year’, she said. ‘The Big Four firms’ technical departments took

a very technical approach. But now companies are trying to take control again and cut down

on the length of the reports’.

Her second point was on the intelligibility of the figures. ‘It was the explosion of additional

material which led to them being intimidating’, she said. The ability of the accountant to

assess what ought to be done has been diminished. ‘Your instinctive understanding of what

the right result to a problem might be has gone. In such situations my instinctive answer

doesn’t help me anymore and you end up doing things which feel a little bit unnatural’.

Comparability overrated And the goal of comparability of companies’ results through using IFRS is, she thought,

overrated. ‘If you sit on an audit committee you don’t think about comparability’, she said.

‘You think of the best way to present the results for the company. Comparability is in the

minds of the investment community. It is not a big issue. The bigger prize may be

comparability between countries’.

Understanding the underlying corporate strategy and results has not been improved either.

‘I don’t think that IFRS has helped people to understand the underlying strategy and

results’, she said. ‘It is means of communicating like the operating and financial review

which have helped that. And IFRS has encouraged the use of non-GAAP measures. I can’t

think of a company which explains its results through IFRS. It is always explained through

non-GAAP measures. It is widespread and I don’t see any way out of that’, she said. ‘The

truth is that you are unlikely to have one figure to explain financial performance. The one

IFRS measure of profit before tax won’t do that. And all the new definitions and footnotes

simply clutter up the accounts’.



‘I can’t think of a company that explains its results through IFRS. It is always explained through non-GAAP measures.’

Many argue that the complexity of IFRS has led to a growth of companies relying more on

narrative reporting methods to explain what is going on. She does not. ‘It’s not complexity

that drives you to using non-financial information’, she said. ‘The drive towards non-financial

information was happening anyway. Accounts don’t give you enough answers about

performance or clues about future performance. The accounts are the least interesting part

of financial reporting. The concentration on narrative reporting and the business review and

all those measures is accelerating the process of emphasising the front end of the annual

report’, she said. ‘And that is a good thing in my view’.

This feeds through into a much more collaborative approach between companies and the

investment community. ‘Analysts are much more interested in what goes on in the future’,

she said. ‘The CFO’s objective is to feed analysts’ models. The past is not a focus for

discussions, unless something has gone wrong. It is not a big issue. You don’t get CFOs

sitting down and talking about last year’s accounts. I am not sure the analysts do much with

the annual report, except check the numbers to see if their models are correct’.

She sees regulation and the SEC’s approach, both to regulation and IFRS, in straightforward

terms. ‘The SEC is certainly challenging companies’, she said. ‘They have had a real go. But

it’s been quite variable. Some companies have found the questions hugely detailed and

quite challenging and some have not. I think that the SEC is simply putting a stake in the

ground about showing that they understand IFRS’.

Not worth the hassle She thinks the need for reconciliation between IFRS and US GAAP in accounts is ‘a

complete waste of time’ and ‘indefensible in the long-term’. She thinks companies will vote

with their feet. ‘The issue will go away for lots of companies’, she said. ‘They will de-list.

But the reasons they will de-list have more to do with Sarbanes-Oxley than with IFRS. Only

very big companies will need the listing because of liquidity reasons. The other companies

will find it’s not worth the hassle’.

On the debate over principles-based or rules-based standards she thinks the UK will

eventually lose out. ‘The principles-based argument should get the upper hand’, she said.

‘We will all sign up to it in the UK. But it will be difficult to achieve in practice. We will

continue to battle for it. But it doesn’t fit with Napoleonic systems or the US system. In the

end I suspect that it will move to a compromise with rules-based systems in the ascendant.

But I say that with great reluctance. In the end there is not enough genuine desire for a

principles-based view outside the UK’.

The issue of fair value is another one to lose out. ‘I think fair value is nice in theory but

hugely complicated in practice’, she said. ‘It conflicts with a trend towards real-time

reporting. The more you move to real-time the more you conflict with fair value. And fair

values also make the figures less practical and less relevant. It is fine in theory. But it

makes accounts less relevant. And it is not how businesses manage themselves’, she said.

‘So I hope for not too big a role for fair value accounting’.

Her suggestion for what the standard-setters’ priorities should be in the future is short. ‘Not

too many new standards’, she said. ‘And no big projects like conceptual frameworks. We

don’t need them. We need to settle down’. Practicality should rule. ‘The conceptual

framework takes us into intellectual byways which are not too relevant to the practicalities

of reporting’, she said. ‘It is better to understand what we are currently doing and bed it all

down without major change’.



Richard Reid

Richard Reid is a partner with KPMG in the UK and Chairman of its Consumer and Industrial Markets practice. He is also a member of the Audit Quality Forum.

It is the growth in complexity which he sees as the greatest change in financial reporting in

the first year of IFRS. ‘I feel there is certainly a lot more complexity’, he said. ‘For

companies it has become more onerous in terms of the amount of information going into

the system. For example, there is a lot more being put in around judgement areas’, he said.

‘That’s a good thing. I sit on the Audit Quality Forum and I chaired a group on the audit

report and this issue, the key areas of judgement, is one which the investor community

was most interested in. But overall IFRS has meant a lot more complexity’.

International cultures Comparability is being achieved but he sees quite a few obstacles in the way. ‘I do see

comparability becoming a possibility’, he said, ‘and that is important’. But he sees a divide

between different countries where different accounting cultures still exist, in particular

when it comes to whether principles or rules are the prevailing system. ‘The application of

different standards in different jurisdictions is likely to create difficulties’, he said. ‘People in

the UK, for example, may look at something and say “what does that mean?” because they

are following a principles-based system. While in some other countries they will probably

ask “where can we see a rule in here?” and perhaps then follow a US rule’. The possibility

of comparability is also varied depending on what each particular user of the figures wants.

‘For example, for some people EBITDA is very important, but across different industries it

can be defined in a different way’, he said. ‘It is a cultural issue and it is very important to

understand that. We are working much more internationally. You deal with people in the UK

from all over the world. We accept each others’ cultures more and more and in terms of

IFRS we need to understand what other people are doing’, he said. It will all take time. ‘In

terms of IFRS we need to have the comparability. But it won’t happen in five years’, he said.


‘The quality of the financial reporting is down to the people doing it. You need to keep high quality people in the profession.’


He thought that much more was going into non-GAAP measures. ‘There is a lot of

discussion in accounts now around non-GAAP measures’, he said. ‘It is important we don’t

lose sight of the way we report accounts. Interpretation of accounts needs to be allied to

the concept of “true and fair”. In some cases with IFRS accounts you need to be good

analysts to understand them’, he said. ‘There is a lot more information in the accounts and

in some businesses you need to pull the accounts apart more. Investors are particularly

interested in sustainable profitability and cash flows. They need to know what the accounts

mean. And that is where the use of the business review section of the annual report can

help businesses to explain’.

Does he think the complexity of IFRS is forcing preparers to use non-financial, narrative

reporting to get their message across? ‘I think that to some extent it is’, he said. ‘In some

industries IFRS has not changed them much. With others it has changed them a lot. In

those cases you need to strip it down to what the underlying business is’, he said ‘For

example aerospace companies in particular. A huge amount of work needs to be done’, he

said. ‘They are complex businesses in their own right and a lot of their business is done in

overseas currencies, hence they use a lot of financial instruments’, he said.

‘It is always disappointing if the financial results don’t clearly reflect how you are running

the business, which can be the case in some instances,’ he said. ‘This can drive users to

look for further information elsewhere. The good thing about IFRS is that it does give a lot

of information and people can pick out what they want’.

Judgement issues He is wary of interpretations gaining too much influence. ‘I think in general that regulators

need to adopt acceptable interpretations on judgement issues’, he said. ‘I think there is a

need to use one’s brain. It has worked very well in this country. There is scope for different

people to take different standpoints’, he said, ‘and there is a drift to an “if we are not sure

then we will veer towards US GAAP” view. But there is room for differences of view. But it

is getting less and less. We need to avoid the rules-based route’.

He is wary of the idea of convergence. ‘I am very much in favour of mutual recognition’, he

said. ‘There is a need to understand how people think rather than beating them up through

the regulatory route’. It is a question of what they were trying to achieve with IFRS. Global

convergence? The US was a very important part of that. So ‘convergence could bring us

closer to a rules-based system’, he said. ‘Now we have comments coming out of the US

that Sarbanes-Oxley is too rules-based, for example. All this feeds into the whole question

of: “Is the US accounting world too rules-based and driven by the lawyers?” That is why

there is a need for mutual recognition. There needs to be an acceptable interpretation of

judgement issues’. He worries that without judgement being the goal and the standard

practice, the quality of the people in the business will falter. ‘The quality of the financial

reporting is down to the people doing it’, he said. ‘You need to keep high quality people in

the profession’.

The issue of whether principles or rules will gain the upper hand worries him. ‘It is a terribly

difficult question’, he said. ‘I think the US rules-based approach may move a little bit and we

will also move a bit. I’d like to think we will end up with more judgement. But across the

globe that may mean more interpretations and differences. I fear we could move closer to a

rules-based approach but hopefully not very far’. There is also a downside. ‘Under rules

clever people can work around them rather than having to stand back and say: “What does

this really mean?” Sometimes a rules-based approach can actually give you less of a “true

and fair” view’.





Is there a role for technology in financial reporting? ‘I think that there is definitely a role’, he

said. ‘But you have to be very careful about what information is available. As soon as it

becomes available on a weekly basis, for example, then everyone is likely to assume it has

been audited. How often do the analysts want information on a weekly basis? And what

would they do with it? And will it help the market?’ he asked. ‘As long as the information is

robust then it should be fine. That is the important point’.

He uses the US market as an example. ‘In the US you have quarterly reporting. In the UK

you don’t’, he said. ‘Quarterly reporting drives companies towards concentrating on the

quarterly figures. It could drive a culture you don’t want. Companies are generally better

driven by long-term concerns. You don’t want companies to concentrate on the information

flows rather than on the business’, he said. ‘It is a question of getting the balance right’.

He worries about the concept of fair value. ‘The worry with fair value is it can drive extreme

volatility in the accounts. The question should be: “What is sustainable profitability?” Some

companies would strip fair values out. You need to deal with it separately rather than seeing

it as part of the profits’. He has specific worries. ‘I do worry about where fair value fits in

the accounts’, he said. ‘And you have to take account of the balance of the amount of time

required to measure fair values. It is a question of translating it into the economic reality of

the business. Fair value information will be useful. But you have to be careful in putting it

into income statements and whether people will understand it. It is a bit like share options.

There is buckets of information but very little understanding. There are voluminous amounts

of detail but you have to ask who will actually use it. There is an overall need to ensure the

information going into the accounts is of use’.

For Reid the future priorities of standard-setters should be straightforward. ‘The key point is

stability in the standards’, he said. ‘It is very important for everyone that people have time

to work on them and with them and to understand them. The more the standards can

reflect the economic substance the better’, he said.



Sir David Tweedie

Sir David Tweedie is the Chairman of the International Accounting Standards Board and the architect of the revolution which has seen IFRS implemented across the EU and in over a hundred countries around the world.

‘The biggest change we have seen with the implementation of IFRS has been the

introduction of accounting for financial instruments which in most countries was not

previously done at all’, he said. ‘Things which could destroy earnings had previously

been invisible’.

The other change he talked about is more wide-ranging. ‘Analysts and investors now have

the ability to look at figures across the board and get the same answers. IFRS is

implemented in over a hundred countries. In five years time it will be 150 countries’, he

said. ‘The accounting risk is beginning to disappear’.

Comparability of financial reports will he believes improve steadily as a result of the same

impetus. ‘There are two international systems, IFRS and US GAAP’, he said. ‘Convergence

with the US will mean that statements won’t be identical. But by 2011 you will be getting

pretty much the same answers. And then all the smaller differences will gradually disappear’.

Stopping non-GAAP measures He agreed that initially there would be problems in understanding the underlying corporate

strategy and results. ‘It’s been difficult for some people’, he said, ‘their frame of reference

has gone’. But changes ahead would help. ‘Some of the standards, like IAS39, are

outdated’, he said. Changes ahead would produce results which made more sense. The

same was true of management reporting. ‘If we just get rid of the smoothing things may

look a bit raw’, he said. But this was still the result of it being early days. The same would

be true of the use of non-GAAP measures. ‘The idea is to stop non-GAAP measures’, he

said. ‘While people may still use them now the intention is to make them unnecessary’.



‘We need to get the standards to reflect what people feel intuitively and we need them to be in simple language.’

Part of this will spring from Tweedie’s enthusiasm for narrative reporting. ‘We want people

to use non-financial narrative reporting’, he said. ‘It’s essential. The accounts don’t show

what is going to happen next. How a company is going to refinance loans, for example.

Narrative reporting expresses the significance of the numbers in the accounts’. The use of

narrative reporting becomes the link between the underlying financial picture and the ability

to assess the prospects for the future. ‘The concept of the operating and financial review

will become very important’, he said. ‘It is up to management to explain what the volatility

in the figures means’.

He felt that companies and analysts should have shared objectives for financial reporting.

‘Financial statements are designed for the informed investor and analysts want to be able

to explain them on an international basis’. But that was different from getting consensus

from the analyst community on precisely how this could be done. ‘We meet with preparers

and analysts’, he said. ‘We get one view in one country and another view in another. Ideally

they need to get together to really see what their views are’. One way of doing this has

been the programme of meetings which the IASB is running. Tweedie felt that one of the

most useful outcomes of these was not what the IASB was saying to the analysts, but

simply listening to the different analyst and preparer viewpoints being discussed around the

table. ‘Our roundtables try to bring them together and discuss the issues with each other’,

he said.

Maintaining judgement On the issue of interpretations Tweedie is adamant. ‘It is a question of principles or rules’,

he said. ‘Every interpretation is a rule. We have said that if a standard is ambiguous don’t

bother with trying to get an interpretation. Just tell us where it is ambiguous and we will

alter the paragraph and put the suggestion out as an exposure draft’. That way the element

of judgement can be maintained.

‘We are trying to say “You can work these things out for yourselves”’, he said. But the

temptation, particularly for audit firms, is to keep asking for clarification on the details. ‘They

put up a question to IFRIC and then they get their answer’, he said. ‘We are being asked

too many questions’.

When it comes to the potential benefits of the convergence process Tweedie is optimistic.

‘I think that the reconciliation requirement will disappear’, he said. ‘I think it should go

before 2009’. And he is even more optimistic at the recent signs of a loosening up of US

attitudes. ‘At the recent Washington Roundtable the SEC even floated the idea of allowing

US companies to use IFRS. That suggests that they don’t see too much difference between

the two systems’, he said. Nor does he see any hardening of the attitude that the SEC has

taken this year in its requests for clarification on IFRS accounts. ‘The SEC questions have

been no different to those asked of companies using US GAAP’, he said. ‘They have been

no tougher than normal. The challenge is the same as it has been for years’.





On the question of whether principles-based standards or rules-based standards would

triumph, he pointed to how the world had already served judgement on the difference. ‘It is

quite clear that outside of the US there is an abhorrence of US standards’, he said. But that

didn’t mean that principles would win the day. The audit firms had a particular role to play here.

‘We are going to the firms asking them to use much more judgement’, he said, ‘and don’t ask

for exceptions. That was what was wrong with IAS39. It allowed too many exceptions. Firms

should look at the principles and look at their answers’. There is no doubt in his mind that this is

both a vital issue and one which is nearing some kind of resolution. ‘It’s a tipping point’, he

said. ‘I hope the principles-based approach will gain the upper hand. Certainly that’s what we

are intending to try’, he said. ‘If we lose it now then we will be rules-based’.

Technology also has its place. ‘XBRL has a role in that you can dig down deeper’, he said.

‘We are actively working on a convergence programme with that’, he said. ‘We should all

have the same technology which would mean you could recast the figures into a

comparable form’.

He is annoyed at what he sees as a typecasting of the IASB as a supporter of full fair value.

‘We are often accused of being fair value obsessed’, he said. ‘At the roundtable hearing on

the subject we held recently very few people believed that it should all be historical cost’,

he said. ‘And very few believed everything should be at value either. What we have is a

mixture of costs and values on a balance sheet. What came out of the roundtable is that

analysts are interested in the present value of a company’s operating cash flow’, he said.

‘Anything outside of that, the headquarters building or the pension fund for example, they

would quite like to know the value of’. He emphasised his insistence that full fair value was

not on the agenda. ‘The message is that it is not true that we want to put everything at fair

value’, he said. ‘We agree with most of the people who spoke at the roundtable. It’s not on

the agenda’.

As for what the future priorities of standard-setters should be: ‘The big priority is to try and

hand back accounting to the practitioners’, he said. ‘We need to get the standards to reflect

what people feel intuitively and we need them to be in simple language’, he said.

‘Accounting is not an alien language and it’s not rocket science’. For him simple judgement

is what is needed. ‘For example’, he said, ‘why do we need two categories of leases? A

pension fund deficit is a deficit. Why should you smooth it? We need to cut through the

garbage and provide the raw facts. And that is where narrative reporting comes in. Provide

the raw facts and now explain it’, he said. ‘The narrative statement is not an adjunct. It is a

key component. That’s where the future is’.


kpmg.co.uk

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.

The views and opinions expressed herein are those of the interviewees and do not necessarily represent the views and opinions of KPMG LLP (UK).

For further information please contact:

Richard Bennison Head of Audit KPMG LLP (UK) Tel: +44 (0) 20 7311 4792 [email protected]

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Publication name: IFRS report

Publication number: 307-535

Publication date: June 2007

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International Financial Reporting Standards

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