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New Zealand Securities Commission |
Last Updated: 12 November 2014
REVIEW OF FINANCIAL REPORTING BY ISSUERS
CYCLE
5
Financial Reporting Surveillance Programme
29 October 2007
CONTENTS
The
Commission's Financial Reporting Surveillance Programme New Zealand
Generally Accepted Accounting Practice (NZ GAAP) Identifying issues
CYCLE 5: AN OVERVIEW
Scope Overall Comments Outcome of Matters Raised Follow-up action
FUTURE ADOPTION OF NZ IFRS CYCLE 5 FINDINGS ON THE
APPLICATION OF NZ IFRS
Significant matters Other matters Improvements in disclosures
CYCLE 5 FINDINGS
ON THE APPLICATION OF PREVIOUS NZ GAAP
Significant matters Other matters Improvements in disclosures
QUALITY OF FINANCIAL REPORTING ALTERNATIVE NON-GAAP MEASURES REFERRALS TO THE NEW ZEALAND INSTITUTE OF CHARTERED ACCOUNTANTS
(NZICA)
ADOPTION OF IFRS GLOBALLY International observations
IOSCO ONGOING REVIEW AND ENFORCEMENT
EXECUTIVE SUMMARY
Financial Reporting Surveillance Programme
The Securities Commission of New Zealand has established a Financial Reporting Surveillance Programme to review financial reporting practices of issuers. The aim of this programme is to encourage New Zealand issuers to improve the quality of their financial reporting. The Commission believes the quality of financial reporting is inextricably linked to the fairness, efficiency and transparency of securities markets.
Findings from Cycle 5
In Cycle 5 the Securities Commission reviewed the financial reports of 40 issuers with balance dates from 31 March 2006 to 30 September 2006. This review comprised 12 financial statements prepared in accordance with NZ IFRS and 28 prepared under previous NZ GAAP.
The Commission's review covers compliance with Financial Reporting Standards and other sources of NZ GAAP with the purpose of assessing the overall quality of financial reporting.
The reports of 16 of the 40 issuers reviewed had matters that prompted the Commission to write to the issuer requesting additional information. In some cases the Commission asked issuers to revise or enhance disclosures in future financial statements.
Key issues identified in the application of NZ IFRS included presenting the correction of prior period errors as transition adjustments, the incorrect labelling of comparatives and the treatment of GST in the preparation of the cash flow statement.
The application of previous NZ GAAP raised key issues on the treatment of an item as a fundamental error and reviewing investments for impairment.
Recent reviews have identified two specific areas of divergence from NZ GAAP: the accounting for reverse acquisitions and the consolidation of securitisation trusts. The issuers involved informed the Commission that the treatment adopted in these areas is 'common practice' albeit non-compliant with NZ GAAP. The Commission is of the view that common practice does not justify a departure from NZ GAAP.
The Commission has been pleased with the cooperation from issuers and their willingness to improve the quality of their financial reporting.
The Commission will continue its Financial Reporting Surveillance Programme.
INTRODUCTION
1.
The Securities Commission is New Zealand's main
regulator of investments. Our purpose is to strengthen investor confidence and
foster
capital investment in New Zealand by promoting the efficiency, integrity
and cost-effective regulation of our securities markets.
2.
The
Commission regards financial reporting by issuers1 to be fundamentally important to the fairness,
efficiency and transparency of New Zealand's securities markets.
The Commission's Financial Reporting Surveillance
Programme
3.
The Securities Commission is required under section 10(c)
of the Securities Act 1978, "to keep under review practices relating to
securities, and to comment thereon to any appropriate body".
4.
As part of its work to carry out this function the Commission
established the Financial Reporting Surveillance Programme.
5.
The aim of the Commission's Financial Reporting Surveillance
Programme is to encourage New Zealand issuers to improve the quality
of their
financial reporting so that:
(a)
issuers' financial report disclosures
are clear and comprehensive;
(b)
investors can have confidence
in the credibility of financial information provided by issuers; and
(c)
high quality financial reporting contributes to the
integrity of New Zealand's securities markets.
6.
The
Financial Reporting Surveillance Programme involves biannual reviews of selected
issuers' financial reports. At the end of each
cycle review the Commission
publishes a public report on this surveillance work that provides market
participants with a summary
of the findings. Copies of reports for previous
cycles of review are available on the Commission's website www.seccom.govt.nz.
New Zealand Generally Accepted Accounting Practice
(NZ GAAP)
7.
Issuers are required under the Financial Reporting Act
1993 to prepare financial statements that comply with NZ GAAP and provide a
true
and fair view of the matters to which they relate2.
8.
The financial reports of
issuers are reviewed against NZ GAAP. For the purpose of the Financial Reporting
Act 1993, financial statements
and group financial statements comply with NZ
GAAP only if those statements comply with:
(a)
applicable financial
reporting standards; and
(b)
in relation to matters for which no
provision is made in applicable financial reporting standards and that are not
subject to any
applicable rule of law, accounting policies that:
i.
are
appropriate to the circumstances of the reporting entity; and
ii.
have authoritative support within the accounting profession
in New Zealand.
9.
The term "applicable financial
reporting standard" is defined in the Financial Reporting Act 1993 to mean an
approved financial reporting
standard that applies to that reporting entity (or
the group) and to that accounting period in accordance with a determination of
the Accounting Standards Review Board (ASRB) for the time being in force or any
election made under section 27 of this Act.
10.
In December 2002
the ASRB determined that entities required to comply with NZ GAAP under the
Financial Reporting Act 1993 would be
required to apply NZ IFRS in the
preparation of their financial statements for periods commencing on or after 1
January 2007, with
the option to apply from reporting periods beginning on or
after 1 January 2005.
11.
The purpose of the Commission's cycle
reviews is to form a view on:
(a)
the level of compliance with NZ GAAP
by issuers in their financial statements prepared under the Financial Reporting
Act 1993;
(b)
whether any breaches of NZ GAAP identified in those
financial statements were likely to cause the financial statements to not show
a
true and fair view or were likely to be materially misleading to users in the
context of information disclosure (for investment
decision-making) as envisaged
under the Securities Act 1978 and therefore require enforcement action; and
(c)
the overall quality of financial reporting practices by
issuers.
12.
The Commission has used the term 'previous
NZ GAAP' in this report to mean the basis of accounting that an issuer uses for
preparing
historical financial information before adopting NZ IFRS. The
Commission acknowledges that previous NZ GAAP is still current for
issuers that
have not yet adopted NZ IFRS.
(a)
In relation to an equity security or debt security, or to an advertisement, investment statement, prospectus, or registered prospectus that relates to an equity security or a debt security, or to a trust deed that relates to a debt security, the person on whose behalf any money paid in consideration of the allotment of the security is received:
(b)
In relation to a participatory security, or to an advertisement, investment statement, prospectus, or registered prospectus, or to a deed of participation that relates to a participatory security, the manager:
(c)
In relation to an interest in a contributory mortgage offered by a contributory mortgage broker, or to an advertisement that relates to such an interest, the contributory mortgage broker;
(d)
In relation to a unit in a unit trust, or to an advertisement, investment statement, prospectus or registered prospectus that relates to such a unit, the manager:
(e)
In relation to a life insurance policy, or to an advertisement, investment statement, prospectus, or registered prospectus that relates to a life insurance policy, the life insurance company that is liable under the policy:
(f)
In relation to an interest in a superannuation scheme, or to an advertisement, investment statement, prospectus, or registered prospectus that relates to such an interest, the superannuation trustee of the scheme.
Part I defines a reporting entity as :
(a)
An issuer; or
(b)
A company, other than an exempt company; or
(c)
A person that is required by any Act, other than this Act, to comply with this Act as if it were a reporting entity.
Scope
25.
In Cycle 5, the Commission
reviewed the financial reports of 40 issuers with balance dates from 31 March
2006 to 30 September 2006.
26.
The selection of 40 issuers was
made up of:
(a)
34 issuers listed on the NZSX/NZDX;
(b)
3 issuers listed on the NZAX; and
(c)
3 issuers who are not
listed.
27.
Twelve first-time adopters of NZ IFRS were
reviewed in this cycle. In this report, the Commission draws particular
attention to findings
on the adoption of NZ IFRS to provide feedback and
comments for issuers yet to transition to NZ IFRS.
Overall Comments
28.
Sixteen of the 40
reports reviewed had matters that prompted the Commission to write to the
issuer. This included seven first-time
adopters of NZ IFRS. One issue identified
in Cycle 5 is being considered separately as an enforcement matter.
29.
The overall findings of Cycle 5 were similar to the results
of earlier cycles. Although no serious issues were identified, the Commission
continues to note areas of non-disclosure or poor quality disclosures as in
previous cycles. The Commission also continues to find
errors in the published
financial statements, a clear indication that greater care could be taken in
their preparation.
30.
The Commission has identified slightly
fewer significant matters in this cycle compared with earlier cycles. There are
a number of
factors that drive the incidence of significant matters. While the
surveillance programme has identified some improvement, there
is room for
further improvement.
31.
The Commission acknowledges that a great
deal of effort is required in transitioning to NZ IFRS and considers that the
level of compliance
with NZ IFRS for the early adopters was generally good.
34.
The Commission's definition of significant matters and other
matters are set out in paragraphs 15 and 16 above.
35.
Table 1
shows the outcome of significant matters raised with issuers in Cycle 5.
Table 1: Outcome of matters raised in letters to issuers
Notes
|
Outcome
|
Significant
|
%
|
|
|
|
|
(1)
|
Resolved
|
10
|
|
(2)
|
Point taken/change agreed
|
5
|
|
|
Agreement reached
|
15
|
79%
|
|
|
|
|
(3)
|
Second letter sent
|
1
|
|
(4)
|
Other follow-up action
|
3
|
|
|
|
4
|
21%
|
|
|
|
|
|
Total matters raised
|
19
|
|
|
%'s
|
30%
|
|
Notes to the Table
(1)
Resolved: a satisfactory
explanation was provided by the issuer on the matters raised.
(2)
Point taken / change agreed: the issuer has acknowledged the point
made / agreed to make changes in subsequent financial statements.
(3)
Second letter sent: a second letter closed the matter
but reiterated the points made.
(4)
Other follow-up
action: more action required, e.g. the need for subsequent correspondence to
seek answers to follow-up questions.
36.
Satisfactory
agreement was reached with issuers on 79% of significant matters raised in this
cycle.
37.
Feedback on the Commission's findings (from paragraph
42 to 123) is separated into findings on the application of NZ IFRS and findings
on the application of previous NZ GAAP.
38.
No occurrences of
statutory non-disclosures were found in the Cycle 5 review.
39.
It is also encouraging to note that there was no occurrence
of failure to date and/or sign the financial report in Cycle 5.
Follow-up action
40.
At the date of
publication of this report the Commission agreed to refer two matters identified
in Cycle 5 to NZICA.
41.
Work on another matter is ongoing.
FUTURE ADOPTION OF NZ
IFRS
42.
FRS-41: Disclosing the Impact of Adopting New Zealand
Equivalents to International Financial Reporting Standards disclosures showed
improvement from previous cycles. In Cycle 5 all issuers made some disclosure
explaining the impact of transition to NZ IFRS in their
financial statements.
43.
The Commission was disappointed to find that 32% of issuers
(9 out of 28) were still unable to identify key changes that may result
from
adoption of NZ IFRS.
44.
Given the date of transition to NZ IFRS
is imminent, it was also surprising to note that approximately 18% of issuers
reviewed in
this Cycle had not yet undertaken any formal exercise to identify
the key accounting policy differences that may arise from the adoption
of NZ
IFRS.
45.
While many issuers have already adopted NZ IFRS, those
that are still to adopt are encouraged to consider early their planning and
approach to transitioning to NZ IFRS. Entities should not underestimate the
business implications and the amount of work involved.
There are a number of
significant changes from previous NZ GAAP, some of which will have a wider
impact than on the entity's financial
statements alone.
CYCLE 5 FINDINGS ON THE APPLICATION OF NZ
IFRS
46.
The findings of the review of financial statements prepared
in accordance with NZ IFRS is separated into:
(a)
significant matters;
and
(b)
other matters.
47.
In addition we
make comments on improvements in disclosures noted through the review.
Significant matters
48.
Significant
matters were raised in relation to NZ IFRS 1 transition adjustments and NZ IAS
7.
NZ IFRS 1 First-time Adoption of New Zealand Equivalents to International Financial Reporting Standards
NZ IFRS 1 transition adjustments
49.
NZ IFRS 1 (para. 38) requires an
entity to explain how the transition from previous NZ GAAP to NZ IFRS affected
its opening financial
position, financial performance and cash flows. To comply
with this paragraph an entity's first NZ IFRS financial statements are
required
to include reconciliations of equity, profit and loss and cash flows reported
under previous NZ GAAP to that reported under
NZ IFRS.
50.
All
twelve issuers reviewed provided reconciliations required under NZ IFRS 1.
51.
However, two issuers incorrectly included the correction of
prior period errors in their transition reconciliation.
52.
One
issuer recognised an executory contract on the balance sheet in its previous NZ
GAAP accounts. In the first set of NZ IFRS financial
statements this treatment
was changed, the contract derecognised, and disclosed as a transition
adjustment. The Commission is of
the view that the recognition of executory
contracts on the balance sheet did not ever comply with previous NZ GAAP and, as
a result,
the change in accounting policy for executory contracts is not a
transition adjustment but the correction of a prior period error.
53.
Another issuer that prepared their consolidated financial
statements using reverse acquisition accounting disclosed an adjustment
when
transitioning to NZ IFRS. Accounting for reverse acquisitions under previous NZ
GAAP and NZ IFRS are sufficiently similar that
there should be no transition
adjustment when adopting NZ IFRS. From further investigation the Commission was
of the view that the
issuer's accounting for a reverse acquisition did not
comply with previous NZ GAAP. Therefore, the change made when transitioning
to
NZ IFRS, was not a transition adjustment but the correction of a prior period
error.
54.
The Commission highlighted in its Cycle 4 Report that
this practice of including the correction of prior period errors as transition
adjustments is not acceptable. The Commission reminds issuers that only
adjustments arising from a change in accounting policy as
a result of applying
NZ IFRS for the first time should be included in the reconciliations required
under NZ IFRS 1.
55.
All adjustments that are not transition
adjustments, including those arising from the correction of prior period errors
or change
in accounting estimates, must be clearly distinguished and disclosed
in a separate note.
56.
The Commission reminds issuers that while
the transition to NZ IFRS is a good opportunity to review reporting practices
and compliance
with the relevant accounting standards, issuers must not portray
the correction of errors as NZ IFRS transition adjustments.
Incorrect labelling of comparatives
57.
One early adopter
incorrectly labelled its comparatives as prepared under previous NZ GAAP.
58.
An entity's first NZ IFRS financial statements are required
to include at least one year of comparative information under NZ IFRS
(NZ IFRS 1
(para.36)).
59.
The issuer did explain that the change to NZ IFRS
had not resulted in a restatement of comparative figures and the effect of
moving
to NZ IFRS had not resulted in a material change in accounting treatment.
However, given the specific NZ IFRS 1 requirement and for
greater clarity to
readers of the financial statements, the Commission is of the view that the
comparatives should have been labelled
as prepared under NZ IFRS with no
reference to previous NZ GAAP.
NZ IAS 7 Cash Flow Statements and the treatment of GST
60.
In one
review, the Commission identified significant differences between the
comparative figures in the cash flow statement and the
prior year's cash flow
statement. Further investigation revealed that the differences were due to a
change in the basis of preparing
the cash flow statement on first-time adoption
of NZ IFRS (specifically NZ IAS 7).
61.
NZ IAS 7 (para. 18(a))
requires major classes of gross cash receipts and gross cash payments be
disclosed. NZ IAS 7 does not explicitly
address the treatment of GST.
62.
The International Financial Reporting Interpretations
Committee (IFRIC) has identified that the treatment of GST is unclear under
IAS
7 and has referred it to the International Accounting Standards Board (IASB).
IFRIC has recommended that the treatment of the
tax component is considered as
part of the review of IAS 7 being carried out within the IASB's project on
performance reporting.
63.
The issuer in our sample presented
cash receipts and cash payments gross of GST in its first cash flow statement
under NZ IFRS. The
issuer did not disclose the change nor explain that the
change was due to the entity's first-time adoption of NZ IFRS. The Commission
believes that an explanation should be provided so that readers understand
changes resulting from the adoption of NZ IAS 7.
64.
NZ IFRS 1
(para. 40) specifically requires such changes to be explained, stating that if
an entity presented a cash flow statement
under its previous NZ GAAP and
comparatives are restated, any material adjustments should be explained.
65.
In addition, NZ IAS 1 (para. 103 (a)) requires the notes to
the financial statements to present information about the basis of preparation
of the financial statements and the specific accounting policies used.
Common non-disclosures
66.
A number of common non-disclosures
were found in Cycle 5. Some NZ IAS 1 and NZ IAS 24 disclosures were poor.
NZ IAS 1 Presentation of Financial Statements
67.
The Commission noted
the following non-disclosures of NZ IAS 1 requirements.
Disclosure of management judgements
68.
NZ IAS 1 (para. 113)
requires an entity to disclose the judgements management have made in the
process of applying the entity's accounting
policies that have the most
significant effect on the amounts recognized in the financial statements.
69.
Some examples of areas that require management to make
judgements are provided in NZ IAS 1 (para. 114).
70.
Five issuers
describe in their financial statements that judgements were made by management
in the process of applying the entity's
accounting policies, but failed to
disclose what these judgements were as required by NZ IAS 1.
71.
Another issuer indicated in its accounts that significant
judgements were made by management but, on enquiry, the issuer confirmed
that in
fact no such judgements were made in applying the issuers accounting policies.
The issuer has appeared to use boiler plate
language for this disclosure without
management properly considering making disclosures specific to the issuer.
72.
The Commission is of the view that to comply with the
requirement of NZ IAS 1 it is not sufficient to simply state that significant
management judgements have been made. Issuers need to explain what these
judgements were and the accounting policies that were affected
by these
judgements.
Key assumptions and sources of estimation uncertainty
73.
NZ IAS
1 (para. 116) requires an entity to disclose "information about the key
assumptions concerning the future and other key sources
of estimation
uncertainty at the balance sheet date that have a significant risk of causing a
material adjustment to the carrying
amounts of assets and liabilities."
74.
Three issuers describe in their financial statements that
directors made estimates and assumptions that affected reported assets and
liabilities, but did not disclose what those estimates and key assumptions were.
75.
Three other issuers provided no disclosures on key sources of
estimation uncertainty in their financial statements.
76.
The
Commission believes that it is good business practice for the boards of issuers
to consider the assumptions and estimates that
have a significant risk of
causing material adjustments to the carrying amounts of assets and liabilities
before finalising the financial
statements.
NZ IAS 24 Related Party Disclosures
77.
The objective of NZ IAS
24 is "to ensure that an entity's financial statements contain the disclosures
necessary to draw attention
to the possibility that its financial position and
profit or loss may have been affected by the existence of related parties and
by
transactions and outstanding balances with such parties."
78.
Details of terms and conditions of settlement of outstanding
balances with related parties, including whether they are secured, and
the
nature of the consideration to be provided should be disclosed (NZ IAS 24 (para.
17)).
79.
The Commission found that in some cases the amounts of
the transactions with related parties during the period were not disclosed.
In
one instance the terms and conditions of those outstanding balances were not
provided.
80.
NZ IAS 24 (para. 9) defines a related party as
including key management personnel of the entity and requires specific
disclosures
of key management personnel compensation.
81.
One
entity disclosed key management personnel compensation with regard to directors
and overlooked the chief executive officer of
the company.
82.
Another entity provided disclosures about key management
personnel compensation in the statutory information section. The Commission
believes disclosures required by accounting standards should be made within the
audited financial statements.
Minor matters
83.
Minor matters identified were:
NZ IFRS 7 Financial Instruments: Disclosures
NZ IAS 12 Income Taxes
NZ IAS 32 Financial Instruments: Presentation
NZ IAS 33 Earnings per Share
Improvements in
disclosures
84.
The Commission has reviewed 21 first-time adopters of
NZ IFRS, 9 in Cycle 4 and 12 in Cycle 5. In Cycle 5, early-adopters showed
improvement
in some disclosures required by NZ IAS 1 and NZ IAS 8.
NZ IAS 1 Presentation of Financial Statements
85.
The Commission noted
fewer instances of non-disclosure in this cycle with only one issuer failing to
provide all of the following
disclosures;
86.
The Commission encourages issuers preparing
financial statements under NZ IFRS to be well informed about the new reporting
requirements,
especially for their first set of NZ IFRS financial statements.
NZ IAS 8 Accounting Policies, Changes in Accounting Estimates and
Errors
87.
NZ IAS 8 (para. 30) states that "when an entity has not applied
a new Standard or Interpretation that has been issued but is not yet
effective,
the entity shall disclose this fact and known or reasonably estimable
information relevant to assessing the possible impact
that application of the
new standard or interpretation will have on the entity's financial statements in
the period of initial application."
88.
In Cycle 5, 6 of the 12
issuers reviewed did not provide this disclosure compared with all nine issuers
not making this disclosure
in Cycle 4.
CYCLE 5 FINDINGS ON THE APPLICATION OF PREVIOUS NZ GAAP
89.
The
findings of the review of financial statements prepared in accordance with
previous NZ GAAP is separated into:
(a)
significant matters; and
(b)
other matters.
90.
In addition we make
comments on improvements in disclosures noted through the review.
Significant matters
91.
Significant matters were raised in
relation to FRS-7 and impairment of investments.
FRS-7: Extraordinary Items and Fundamental Errors
92.
FRS-7 (para. 4.2)
defines an error as fundamental where it is so significant that it destroys the
fair presentation of the financial
report taken as a whole.
93.
One issuer has reported the expensing of an item in
the prior period as a fundamental error. After further investigation the
Commission
concluded that the fundamental error adjustment was not warranted.
The issuer's parent agreed to pay for these costs, but only subsequent
to the
issuer's 2005 balance date. The Commission considers that the correct accounting
treatment would have been for the issuer
to recognise this recovery as part of
its 2006 results.
94.
FRS-7 (para. 4.3) explains that errors in
the financial statements result from, among other things, the oversight or
misuse of facts
that existed at the time the financial statements were prepared.
In the case of this issuer the likelihood of recovery of items expensed
was not
known at the time the financial statements were prepared. Such items cannot be
treated as a fundamental error.
Impairment of investments
95.
The Commission raised a
significant matter with an issuer regarding their assessment of impairment to an
investment in an associate.
The associate had negative equity and several years
of continuing losses.
96.
FRS-38 (para. 5.42) requires that if
the recoverable amount of an investment in an associate is less than its
carrying amount, the
carrying amount of the investment must be written down to
its recoverable amount.
97.
The Standard explains that the
carrying amount of an investment in an associate should not exceed its
recoverable amount. A comparison
of carrying amount and recoverable amount
should therefore be made at each reporting date (FRS-38 (para. 5.44)).
98.
The Commission asked the issuer to clarify the reasons for
assessing that there was no impairment in the value of its investment in
the
associate. Although the issuer has responded to the initial query, the
Commission have been prompted to ask more general questions
relating to
impairment of investments held by the issuer. At the date of publication of this
report these matters were not resolved
to the satisfaction of the Commission.
Other matters
Common non-disclosures
99.
A number of common non-disclosures
were found in Cycle 5. Disclosures required by SSAP-22 and FRS-30 were poor.
SSAP-22: Related Party Disclosures
100.
The following related party
non-disclosures were noted:
(a)
three issuers failed to disclose the
value of transactions with related parties (SSAP-22 (para. 5.1(c)).
(b)
one issuer also failed to disclose the outstanding balance
and terms of settlement (SSAP-22 (para. 5.1(d))).
(c)
another
issuer failed to identify each related party and the value of related party
transactions (SSAP 22 (para. 5.1(c))).
101.
The
Commission reminds issuers to provide the relevant related party disclosures so
that the requirements of SSAP-22 are met.
FRS-30: Reporting Share Ownership Arrangements Including Employee Share
Ownership Plans (ESOP)
102.
The Commission found that the following
disclosures were not been made by one or more issuers:
(a)
who was
entitled to participate in the ESOP (FRS-30 (para. 5.1(a));
(b)
the percentage of shares held by the ESOP (FRS-30 (para. 5.1(b));
(c)
the rights of the entity or its related parties to acquire
shares held by the scheme (FRS-30 (para. 5.1(d)); and
(d)
the
disclosure of all persons and entities that control the ESOP (FRS-30 (para.
5.2).
103.
Where there is more than one scheme in
operation, entities are encouraged to clearly distinguish them in the annual
report.
104.
The requirements of this standard provide users of
financial reports with important information on share ownership arrangements,
particularly
where there are ESOPs.
Minor matters
105.
Minor matters identified were:
FRS-1: Disclosure of Accounting Policies
FRS-9: Information to be Disclosed in the Financial Statements
FRS-10: Statement of Cash Flows
SSAP-18: Leases
SSAP-23: Financial Reporting for Segments
FRS-31: Disclosure of Information by about Financial Instruments
FRS-33: Disclosure of Information by Financial Institutions
FRS-36: Accounting for Acquisitions Resulting in Combinations of Entities or Operations
Improvements in disclosures
106.
The Commission has noted
improvement in disclosures by issuers reporting under previous NZ GAAP.
107.
Only two issuers failed to disclose the total recognised
revenues and expenses line in the Statement of Movement in Equity (FRS-2
(para.
7.3(a)). This is an improvement on earlier cycles.
QUALITY OF FINANCIAL REPORTING
108.
As
stated earlier, the Commission regards financial reporting by issuers to be
fundamentally important to the fairness, efficiency
and transparency of New
Zealand's securities markets.
109.
Issuers are reminded that the
objective of financial statements as defined in the NZ Framework is to provide
information about the
financial position, performance, and changes in financial
position of an entity that is useful to a wide range of users in making
economic
decisions.
110.
The NZ Framework states that financial statements
also show the results of the stewardship/accountability of management for the
resources
entrusted to it.
111.
Throughout the year, considerable
effort is applied by management in ensuring an entity operates efficiently and
profitably. Errors,
inconsistencies and inadequate disclosures in the published
financial statements undermine these efforts as they give readers and
investors
a negative impression of the entity.
112.
The financial
statements of two issuers in this cycle contained numerous clerical errors and
inconsistencies.
113.
Errors and inconsistencies in the financial
statements can be easily eliminated by incorporating a thorough internal review
process
and taking greater care in the preparation of the financial statements.
114.
Fifty four percent of matters raised by the Commission
(including 10 significant matters) were resolved in correspondence with the
issuer. This indicates that questions would not have been raised had the
issuer's original disclosure been clearer or more transparent.
115.
The Commission recommends issuers review information
provided in the financial statements with reference to the four attributes of
useful information (understandability, relevance, reliability and comparability)
defined by the NZ Framework.
ALTERNATIVE NON-GAAP
MEASURES
116.
Non-GAAP measures or alternative performance measures
can provide investors with appropriate additional information if properly used
and interpreted.
117.
In Cycle 5, the Commission noted one
issuer's EBITDA figure could not be reproduced using the NZ GAAP figures
reported in the financial
statements. On investigation the entity confirmed that
an error had been made in the calculation.
118.
This example
highlights the importance of ensuring appropriate quality assurance over the
calculation of such figures.
119.
Some issuers provide
alternative non-GAAP performance measures such as EBITDA (earnings before
interest, taxation, depreciation and
amortisation) to supplement statutory
earnings information when they communicate to the market.
120.
The Commission supports additional disclosures that improve
investors' understanding of financial statements, as long as they are
properly
communicated and consistently applied year on year and are not attempting in any
way to be a substitute for the statutory
financial information that is required
by NZ GAAP.
121.
The Committee of European Securities Regulators
(CESR) has addressed this concern about non-GAAP measures by publishing certain
guidelines
for the use of alternative non-GAAP performance measures for issuers
in Europe. The Financial Services Authority (FSA) has recommended
these
guidelines as best practice for UK issuers.
122.
The CESR
recommendation:
(a)
defines alternative performance measures;
(b)
provides guidance on the presentation of alternative
performance measures; and
(c)
suggests the disclosure of any
audit review of those alternative performance measures.
123.
This CESR recommendation is available on the CESR
website, www.cesr-eu.org.
REFERRALS TO THE NEW ZEALAND INSTITUTE OF
CHARTERED ACCOUNTANTS (NZICA)
124.
To date the Commission has made or
has decided to make the following referrals under the Financial Reporting
Surveillance Programme.
Cycle 1
125.
One review from Cycle 1 resulted in the referral of
the auditor to NZICA.
126.
The Commission raised concerns about a
fundamental error adjustment in the financial statements of the issuer. The
adjustment had
a material impact on the financial statements of the issuer.
127.
Further investigation suggested that the auditor had failed
to review sufficient appropriate audit evidence in order to reach an appropriate
opinion on the financial statements of the issuer.
128.
NZICA's
Professional Conduct Committee (PCC) initially reached a decision that
"inadequate procedures had been followed by the member
[i.e. the auditor], in
breach of auditing standards."
129.
As part of the process the
PCC considered whether the documents the auditor should have been aware of were
made available to the auditor.
130.
The PCC concluded that they
were concerned at the level of disclosure by the issuer to the auditor. The PCC
is satisfied that the
evidence provided did not establish that the auditor had
breached NZICA's Code of Ethics. The PCC resolved to take no further action
on
this complaint.
131.
This referral highlights to auditors the
importance of obtaining and carefully reviewing key documents during an audit.
It also highlights
the responsibility of the entity to provide all important
documentation to their auditors.
Cycle 3
132.
One review from Cycle 3 resulted in the referral of
two directors and the issuers' auditor to NZICA.
133.
The
Commission raised concerns relating to preparation and audit of the financial
statements of the issuer. The matter relates to
two items that were
inappropriately accounted for in the parent financial statements.
134.
NZICA is currently considering this matter.
Cycle 4
135.
Findings in Cycle 4 have raised two specific areas
of concern in relation to the application of FRS-36 and FRS-37.
136.
The issuers involved informed the Commission that the
treatment adopted in these areas is 'common practice' albeit non-compliant with
NZ GAAP. The Commission is of the view that common practice does not justify a
departure from NZ GAAP.
FRS-36: Accounting for Acquisitions Resulting in Combinations of Entities or
Operations
137.
In Cycle 4, one issuer's accounting for a reverse
acquisition in its consolidated financial statements did not comply with the
requirements
in FRS-36.
138.
The issuer had identified the wrong
party as the investor. The issuer believed their adopted treatment was common
practice.
139.
The Commission is concerned about the existence of
'common' accounting practices that do not comply with the principles set out in
an approved financial reporting standard. The Commission is of the view that
departure from the requirements of FRS-36 is not justifiable
on the basis of
'common practice'.
140.
The Commission reminds issuers who have
entered into reverse acquisition transactions to review their accounting and
ensure that they
meet the principles and requirements under NZ GAAP. For
example, under previous NZ GAAP FRS-36 (paras. 4.49 to 4.53) explains the
'investor' and 'investee' relationship and the reverse acquisition scenario.
141.
The Commission also urges issuers who have incorrectly
accounted for any reverse acquisition transactions under previous NZ GAAP to
clearly distinguish these corrections from adjustments that have resulted from a
change in accounting policy arising from the adoption
of NZ IFRS.
142.
The Commission has decided to refer this matter to NZICA.
FRS-37: Consolidating Investments in Subsidiaries
143.
In Cycle 4, the
Commission noted one issuer failed to consolidate several controlled entities in
its group financial statements. These
unconsolidated entities were established
as securitisation trusts by the issuer and the issuer was of the view that they
did not
control these securitisation trusts.
144.
FRS-37 (para
4.13) states that control by one entity over another entity is established when
two conditions are met. The controlling
entity must have the capacity to
determine the financing and operating policies of the other entity (unless where
such policies have
been irreversibly predetermined or where the determination of
such policies is unable to materially impact the level of potential
benefits)
and be entitled to a significant level of ownership benefits from that entity.
FRS-37 provides extensive guidance on the
assessment of whether control exists.
145.
The Commission's review of the relevant documentation
confirmed that both conditions in FRS-37 were met and that the securitisation
trusts were controlled by the issuer and therefore should have been
consolidated.
146.
Material information was not disclosed in the
financial statements of the issuer as a result of the non-consolidation.
147.
The issuer has since consolidated the securitisation trusts
into the group's 2007 consolidated financial statements.
148.
The
Commission has decided to refer this matter to NZICA.
Cycle 5
FRS-7: Extraordinary Items and Fundamental Errors
149.
One issuer in
Cycle 5 incorrectly accounted for an item as a fundamental error (discussed in
paragraphs 92 to 94).
150.
The Commission has decided to refer
this matter to NZICA.
FRS-36: Accounting for Acquisitions Resulting in Combinations of Entities or
Operations
151.
In Cycle 5, another issuer's accounting for a reverse
acquisition in its consolidated financial statements did not comply with the
requirements in FRS-36. This matter is very similar to the one identified in
Cycle 4 with the issuer identifying the wrong party
as the investor.
152.
The Commission has decided to refer this matter to NZICA.
ADOPTION OF IFRS GLOBALLY
153.
Jurisdictions around the world
are adopting IFRSs. Nearly 100 countries currently require, or permit the use
of, or have a plan to
converge their national standards with, IFRSs.
International
observations
154.
Financial reporting surveillance work is undertaken
by regulators around the world including those in Australia, Europe, the United
Kingdom and the United States. One of the aims of this type of surveillance work
is to ensure consistent application of accounting
principles by issuers of
securities in these securities markets.
155.
The results of some
of the surveillance work undertaken by regulators around the world has been made
available on the internet:
(a)
the US regulator, the Securities and
Exchange Commission (SEC), publishes its findings on its website: www.sec.gov/divisions/corpfin/ifrs_staffobservations.htm;
(b)
the UK regulator, the Financial Reporting Review Panel
(FRRP), publishes its findings on its website: www.frc.org.uk/frrp; and
(c)
the French regulator, Autorité des marchés
financiers (AMF), provides an extensive document of its findings on its website:
www.amf-france.org.
IOSCO
156.
The International Organization of
Securities Commissions (IOSCO) is the worldwide association of national
securities regulatory commissions.
IOSCO is recognised as the international
standard setter for securities markets. All securities regulators have a strong
stake in
the quality of financial reporting.
157.
IOSCO is
committed to the application of one set of global standards in the preparation
of financial statements and has recently set
up an IFRS database on the
application of IFRS globally. Members can exchange information about problems
and non-compliance with
IFRS.
158.
Information in this database
will be assessed by IOSCO, and, where it reveals varying interpretations, IOSCO
intends referring these
to the International Accounting Standards Board (IASB)
or the International Financial Reporting Interpretation Committee (IFRIC)
for
consideration.
159.
Variations can occur in regulatory
interpretation and enforcement of accounting standards, and those variations
potentially undermine
the whole purpose of moving to IFRS. The aim of the IOSCO
database is to enable consistency of regulatory interpretation of IFRS.
160.
The database became fully operational in January 2007 and is
maintained by the IOSCO General Secretariat, based in Madrid. So far,
46
securities regulators have entered into an agreement with IOSCO to take part in
the database. The New Zealand Securities Commission
will contribute IFRS issues
to this database.
ONGOING REVIEW AND ENFORCEMENT
161.
The
Commission will continue to review issuers' financial reporting as part of the
Financial Reporting Surveillance Programme and
to take any appropriate steps to
encourage compliance with Financial Reporting Standards and other aspects of NZ
GAAP.
* * * * *
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