LONG ABSTRACT § INTRODUCTION § One of the most fundamental changes to affect the financial reporting of EU-quoted firms in recent times has been introduction of the International Financial Reporting Standards (IFRSs) since 2005. Therefore, in the European Union (EU), the basis underpinning the preparation of the annual report as well as the components, formats and presentations of the financial reporting have been changed. Many concerns have been raised about IFRS, some real and some serious. An independent assessment was, therefore, required to examine IFRS implementation in different EU countries and to assist future adopters of the IFRS. PURPOSE § This study examines the implementation of IFRS in three countries: the UK, Italy and Ireland. The study focused on these three countries because it was expected that companies in countries with a similar national accounting environment, such as the UK and Ireland, would experience similar reporting changes following the adoption of IFRS, and that companies in countries with a very different reporting environment, legal system and culture, such as Italy, would be affected differently by the adoption of IFRS. For example, the UK and Ireland are common law countries with accounting standards that focus primarily on the needs of shareholders, while Italy has a legal system based on civil law where traditionally creditors are viewed as being the most important users of financial statements. Thus, it was expected that the implementation of IFRS, with its shareholder focus, would require more of a cultural change in Italy than in the UK or Ireland. The following research objectives are addressed in this study: • To quantify the nature and extent of the changes in financial reporting that have been experienced as a result of IFRS adoption. In particular, the study examines the increase in disclosure relating to these new accounting standards as well as the changes to net profit and equity when comparing national Generally Accepted Accounting Practice (GAAP) to IFRS GAAP. • To assess the costs associated with the production and publication of the new information. • To identify the standards which have caused the greatest challenges for preparers and users to implement, reflecting education and training needs, changes to valuation models and the need for a general understanding of the accounting requirements and concepts. • To examine the usefulness of IFRS information from the perspective of preparers and users of financial statements, both from the usefulness of the contents being mandated as well as the formats in which the additional information must be disclosed. • To review whether the information required under IFRS is decision-useful for stakeholders. DESIGN AND METHODOLOGY § The above research objectives are considered within the framework of decision-usefulness to assess whether IFRS is more useful to users than national GAAP for making investment decisions, after consideration of the costs involved for both preparers and users. Three different methods of analysis were used to examine the introduction of IFRS to address the above research aims: • a content analysis of financial statements (in total 175 pre-IFRS annual reports and 175-post IFRS annual reports were analysed); • an analysis of the reconciliation statement between IFRS and national GAAP using a ‘conservatism’ index (in total 125 reconciliation statements were analysed); and • a multiple-stakeholder perspective on the adoption of IFRS using interviews with preparers, auditors, analysts and regulators (in total 32 subjects were interviewed). Each of these three methods provides an international comparison on the adoption of IFRS between the UK, Italy and Ireland. FINDINGS AND POLICY IMPLICATIONS § The findings from the content analysis comparison of company annual reports pre-IFRS and post-IFRS suggest that companies in Italy were more affected by the adoption of IFRS; the size of Italian annual reports grew far more significantly than those published in the UK or Ireland, although even in the latter two countries the annual reports increased substantially post-IFRS. With reference to the impact of IFRS on profit and equity the following results were found: the implementation of IFRS increased the reported profit of companies in the UK, Italy and Ireland such that national GAAP profit was only 66%, 85% and 89% of the IFRS profit respectively. By contrast, the net equity of the average company was less under IFRS, such that national GAAP net equity was higher by as much as 153% in the UK and 106% in Ireland but was slightly lower in Italy where national GAAP net equity was only 97% of IFRS equity. From the 32 interviews that were conducted with various stakeholders, the biggest problem in all three countries when implementing IFRS related to the time commitment in getting up to speed on reading and understanding all the standards and assessing which ones would require the most work. A lot of time and money was spent on training staff and assimilating the new accounting requirements. This was particularly the case in Italy where a cultural change was required in order to shift from a creditor to a shareholder focus. Overall, information systems had to be changed and planning was required in advance to adapt systems to cope with the new standards. The language barrier created particular problems in Italy as all of the standards had to be translated from English into Italian and these translations were not always made available on a timely basis by the IASB. The standards that caused the biggest problems in implementation were: IAS 39, IAS 19, IAS 36, IAS 38, IAS 12, IAS 14/IFRS 8, IFRS 2 and IFRS 3. Preparers were unclear about whether the cost of implementation that had been incurred had outweighed the benefits as the costs were tangible and immediate but the benefits gained were intangible and longer-term. The intention of the IASB has been to produce financial statements that are useful for decision-making. The study found that the impact on users in Italy was far greater than in the UK and Ireland. In Italy, interviewees were more enthusiastic about the transition to IFRS; by contrast the UK and Irish interviewees were more cynical. From the findings of this study, either in the content analysis, analysis of the reconciliation statements or the interviews, a number of policy implications are suggested as follows: • From the interviews and content analysis, annual reports have increased in size and now typically include more complex information. It is suggested that shorter, simpler annual reports that highlight management performance and that can be used as a basis for assessing the future prospects of companies may be helpful and could perhaps be considered by regulators and the IASB (International Accounting Standards Board). • The interviews indicated that enhanced comparability of financial reports would be beneficial. The choices of accounting treatments, for example in IAS 19 Employee Benefits, needs to be limited so that the performance of global companies operating on an international basis can be assessed by all stakeholders. The IASB should therefore continue to work towards this objective by limiting choices within standards. • From the analysis of the reconciliation statement data, the large reduction in net equity for UK companies may have implications for companies wishing to raise additional finance if the strength of their balance sheets has been eroded, with higher gearing levels and greater perceptions of risk. This may prove especially so with the recent credit crunch. Maybe companies should communicate openly with external parties and ensure that stakeholders understand that the financial strength of their operations has not been affected by the change in financial reporting standards per se, although the changes may bring to light an issue or a situation that has not previously been disclosed or recognised. • The interviewees identified that, all users, not just expert users, need to begin to understand IFRS to ensure that they do not apply misleading valuations to company securities. Additional training should be undertaken by institutional investors and analysts too. • From the content analysis and interviews the effect of IFRS on the content of financial statements was far greater for Italian companies and Italian users than for those based in the UK and Ireland. Language and cultural issues were factors in this difference. Perhaps the IASB and EU should ensure that translations are made available in a timely manner across all jurisdictions and made freely available on the IASB website. Additional funding of the IASB may therefore be required to facilitate this. • The interviews highlighted that users need to engage more with the financial reporting process in order to understand and thus enhance the usability of financial reports and to ensure that published reports are useful for decision-making purposes. Perhaps more extensive communication and encouragement to engage in the IASB’s consultation process would help in this regard. • From the interviews, companies that do not need to produce IFRS statements are at a competitive advantage in some countries, such as Italy, because of the wider disclosure required by IFRS. Perhaps accounting standard setters should ensure that companies are not disadvantaged by their mandatory disclosures. • The interviews also suggested that generic guidance could be produced to assist companies that are in the process of adopting IFRS about which standards to start with when planning the implementation of IFRS. • From the interviews, audit firms and the professional bodies, such as ICAS (Institute of Chartered Accountants of Scotland), should be encouraged to produce joint documents advising on the interpretation and implementation of standards. Inconsistent advice between audit firms and belated advice have been confusing for preparers and users. ORIGINALITY/VALUE § This topic is interesting because the harmonisation process, which is only limited to the listed companies at the moment, will involve many companies in the near future. Overall, implementation of the IFRS has not been an easy process. Although the financial impact has often been negligible, the changes within organisations to their systems and processes should not be underestimated. In order to achieve the purpose of the study, three different methods were used and an international comparison was made on adoption of the IFRS between the UK, Italy and Ireland. While the results of each part of the project is reported separately, there emerges a comprehensive evaluation of whether the adoption of IFRS has been useful in each of the three countries. This approach contrasts with much of the extant literature which deals with specific issues or standards. Finally, our policy recommendations could assist companies in adopting the IFRS in the future so that they will find the process much easier. STRUCTURE OF THE BOOK § The structure of the book is the following: Chapter one introduces the themes. A literature review is provided in chapter two, including an examination of the financial reporting cultures that exist in the UK, Italy and Ireland. Chapter three reviews the impact of IFRS on the disclosures and content of financial reports by examining the changes in annual reports from 2004 to 2005. Chapter four examines the financial impact of IFRS compare to national GAAP on both income and net equity by analysing the disclosures in the reconciliation statements as mandated by IFRS 1. Chapters five and six report on interviews with preparers, auditors, users and regulators on how the implementation process was put into practice. Chapter seven concludes. TYPE § Research monograph.

The implementation of IFRS in the UK, Italy and Ireland

VENEZIANI, Monica
2008

Abstract

LONG ABSTRACT § INTRODUCTION § One of the most fundamental changes to affect the financial reporting of EU-quoted firms in recent times has been introduction of the International Financial Reporting Standards (IFRSs) since 2005. Therefore, in the European Union (EU), the basis underpinning the preparation of the annual report as well as the components, formats and presentations of the financial reporting have been changed. Many concerns have been raised about IFRS, some real and some serious. An independent assessment was, therefore, required to examine IFRS implementation in different EU countries and to assist future adopters of the IFRS. PURPOSE § This study examines the implementation of IFRS in three countries: the UK, Italy and Ireland. The study focused on these three countries because it was expected that companies in countries with a similar national accounting environment, such as the UK and Ireland, would experience similar reporting changes following the adoption of IFRS, and that companies in countries with a very different reporting environment, legal system and culture, such as Italy, would be affected differently by the adoption of IFRS. For example, the UK and Ireland are common law countries with accounting standards that focus primarily on the needs of shareholders, while Italy has a legal system based on civil law where traditionally creditors are viewed as being the most important users of financial statements. Thus, it was expected that the implementation of IFRS, with its shareholder focus, would require more of a cultural change in Italy than in the UK or Ireland. The following research objectives are addressed in this study: • To quantify the nature and extent of the changes in financial reporting that have been experienced as a result of IFRS adoption. In particular, the study examines the increase in disclosure relating to these new accounting standards as well as the changes to net profit and equity when comparing national Generally Accepted Accounting Practice (GAAP) to IFRS GAAP. • To assess the costs associated with the production and publication of the new information. • To identify the standards which have caused the greatest challenges for preparers and users to implement, reflecting education and training needs, changes to valuation models and the need for a general understanding of the accounting requirements and concepts. • To examine the usefulness of IFRS information from the perspective of preparers and users of financial statements, both from the usefulness of the contents being mandated as well as the formats in which the additional information must be disclosed. • To review whether the information required under IFRS is decision-useful for stakeholders. DESIGN AND METHODOLOGY § The above research objectives are considered within the framework of decision-usefulness to assess whether IFRS is more useful to users than national GAAP for making investment decisions, after consideration of the costs involved for both preparers and users. Three different methods of analysis were used to examine the introduction of IFRS to address the above research aims: • a content analysis of financial statements (in total 175 pre-IFRS annual reports and 175-post IFRS annual reports were analysed); • an analysis of the reconciliation statement between IFRS and national GAAP using a ‘conservatism’ index (in total 125 reconciliation statements were analysed); and • a multiple-stakeholder perspective on the adoption of IFRS using interviews with preparers, auditors, analysts and regulators (in total 32 subjects were interviewed). Each of these three methods provides an international comparison on the adoption of IFRS between the UK, Italy and Ireland. FINDINGS AND POLICY IMPLICATIONS § The findings from the content analysis comparison of company annual reports pre-IFRS and post-IFRS suggest that companies in Italy were more affected by the adoption of IFRS; the size of Italian annual reports grew far more significantly than those published in the UK or Ireland, although even in the latter two countries the annual reports increased substantially post-IFRS. With reference to the impact of IFRS on profit and equity the following results were found: the implementation of IFRS increased the reported profit of companies in the UK, Italy and Ireland such that national GAAP profit was only 66%, 85% and 89% of the IFRS profit respectively. By contrast, the net equity of the average company was less under IFRS, such that national GAAP net equity was higher by as much as 153% in the UK and 106% in Ireland but was slightly lower in Italy where national GAAP net equity was only 97% of IFRS equity. From the 32 interviews that were conducted with various stakeholders, the biggest problem in all three countries when implementing IFRS related to the time commitment in getting up to speed on reading and understanding all the standards and assessing which ones would require the most work. A lot of time and money was spent on training staff and assimilating the new accounting requirements. This was particularly the case in Italy where a cultural change was required in order to shift from a creditor to a shareholder focus. Overall, information systems had to be changed and planning was required in advance to adapt systems to cope with the new standards. The language barrier created particular problems in Italy as all of the standards had to be translated from English into Italian and these translations were not always made available on a timely basis by the IASB. The standards that caused the biggest problems in implementation were: IAS 39, IAS 19, IAS 36, IAS 38, IAS 12, IAS 14/IFRS 8, IFRS 2 and IFRS 3. Preparers were unclear about whether the cost of implementation that had been incurred had outweighed the benefits as the costs were tangible and immediate but the benefits gained were intangible and longer-term. The intention of the IASB has been to produce financial statements that are useful for decision-making. The study found that the impact on users in Italy was far greater than in the UK and Ireland. In Italy, interviewees were more enthusiastic about the transition to IFRS; by contrast the UK and Irish interviewees were more cynical. From the findings of this study, either in the content analysis, analysis of the reconciliation statements or the interviews, a number of policy implications are suggested as follows: • From the interviews and content analysis, annual reports have increased in size and now typically include more complex information. It is suggested that shorter, simpler annual reports that highlight management performance and that can be used as a basis for assessing the future prospects of companies may be helpful and could perhaps be considered by regulators and the IASB (International Accounting Standards Board). • The interviews indicated that enhanced comparability of financial reports would be beneficial. The choices of accounting treatments, for example in IAS 19 Employee Benefits, needs to be limited so that the performance of global companies operating on an international basis can be assessed by all stakeholders. The IASB should therefore continue to work towards this objective by limiting choices within standards. • From the analysis of the reconciliation statement data, the large reduction in net equity for UK companies may have implications for companies wishing to raise additional finance if the strength of their balance sheets has been eroded, with higher gearing levels and greater perceptions of risk. This may prove especially so with the recent credit crunch. Maybe companies should communicate openly with external parties and ensure that stakeholders understand that the financial strength of their operations has not been affected by the change in financial reporting standards per se, although the changes may bring to light an issue or a situation that has not previously been disclosed or recognised. • The interviewees identified that, all users, not just expert users, need to begin to understand IFRS to ensure that they do not apply misleading valuations to company securities. Additional training should be undertaken by institutional investors and analysts too. • From the content analysis and interviews the effect of IFRS on the content of financial statements was far greater for Italian companies and Italian users than for those based in the UK and Ireland. Language and cultural issues were factors in this difference. Perhaps the IASB and EU should ensure that translations are made available in a timely manner across all jurisdictions and made freely available on the IASB website. Additional funding of the IASB may therefore be required to facilitate this. • The interviews highlighted that users need to engage more with the financial reporting process in order to understand and thus enhance the usability of financial reports and to ensure that published reports are useful for decision-making purposes. Perhaps more extensive communication and encouragement to engage in the IASB’s consultation process would help in this regard. • From the interviews, companies that do not need to produce IFRS statements are at a competitive advantage in some countries, such as Italy, because of the wider disclosure required by IFRS. Perhaps accounting standard setters should ensure that companies are not disadvantaged by their mandatory disclosures. • The interviews also suggested that generic guidance could be produced to assist companies that are in the process of adopting IFRS about which standards to start with when planning the implementation of IFRS. • From the interviews, audit firms and the professional bodies, such as ICAS (Institute of Chartered Accountants of Scotland), should be encouraged to produce joint documents advising on the interpretation and implementation of standards. Inconsistent advice between audit firms and belated advice have been confusing for preparers and users. ORIGINALITY/VALUE § This topic is interesting because the harmonisation process, which is only limited to the listed companies at the moment, will involve many companies in the near future. Overall, implementation of the IFRS has not been an easy process. Although the financial impact has often been negligible, the changes within organisations to their systems and processes should not be underestimated. In order to achieve the purpose of the study, three different methods were used and an international comparison was made on adoption of the IFRS between the UK, Italy and Ireland. While the results of each part of the project is reported separately, there emerges a comprehensive evaluation of whether the adoption of IFRS has been useful in each of the three countries. This approach contrasts with much of the extant literature which deals with specific issues or standards. Finally, our policy recommendations could assist companies in adopting the IFRS in the future so that they will find the process much easier. STRUCTURE OF THE BOOK § The structure of the book is the following: Chapter one introduces the themes. A literature review is provided in chapter two, including an examination of the financial reporting cultures that exist in the UK, Italy and Ireland. Chapter three reviews the impact of IFRS on the disclosures and content of financial reports by examining the changes in annual reports from 2004 to 2005. Chapter four examines the financial impact of IFRS compare to national GAAP on both income and net equity by analysing the disclosures in the reconciliation statements as mandated by IFRS 1. Chapters five and six report on interviews with preparers, auditors, users and regulators on how the implementation process was put into practice. Chapter seven concludes. TYPE § Research monograph.
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