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Fergus Condon discusses the implications of the SEC’s recent announcement concerning mandatory use of International Financial Reporting Standards.

August seems to be a busy month for the United States Securities and Exchange Commission (SEC) in IFRS terms. In August 2007 it issued a Concept Release proposing the abolition of the US GAAP reconciliation for Foreign Private Issuers (FPIs), and more recently on 27 August 2008, Chairman Cox announced that the SEC had approved for public comment a ‘Roadmap’ indicating the journey to the mandatory use of International Financial Reporting Standards (IFRS) by US companies. Depending on the size of the entity, the proposed Roadmap anticipates mandatory adoption of IFRS in either 2014, 2015 or 2016. However, before we get tothat ‘date certain’ there are a number of key milestones which must be achieved.

In early August 2008, the SEC held a number of roundtables in the US to consider how well IFRS had performed as a set of single highquality global accounting standards, particularly during the current market turmoil. It was agreed that significant differences still exist between US GAAP and IFRS, particularly in the area of revenue recognition, but it was interesting to see the panellists acknowledge that many of the difficulties which existed in IFRS with the use of fair value accounting also existed in US GAAP. The commentary and observations of the panellists at these meetings were generally very positive and so, to some, it was no surprise that the SEC issued its proposed Roadmap adding further momentum to the goal of one set of global accounting standards.

What will the Roadmap indicate? The SEC will not make its final decision on whether to proceed with the mandatory adoption of IFRS until 2011. Whilst the SEC is to be commended for issuing the proposed Roadmap, it is a little disappointing that the dates involved are so far into the future. The use of IFRS will be introduced on a phased basis as follows:

- Large accelerated filers – 2014 - Accelerated filers – 2015 - Non-accelerated filers – 2016

In addition, it seems the SEC is not willing to afford US companies the transitional relief it gave to FPIs in their initial IFRS filing. Those entities had only to provide two years of audited primary statements, while US domestic registrants will be required to follow the existing requirements of Regulation S-X for US GAAP which will require the presentation of three years audited financial statements in their first year of IFRS reporting.

The reshuffling of the IASB’s active agenda in recent times was a clear indication that improvements were required to certain accounting standards before the SEC would consider adoption of IFRS by US companies. The recently updated Memorandum of Understanding between the Financial Accounting Standards Board (FASB) and the IASB has re-prioritised those projects which must be complete by 2011. Key among these are revenue recognition, the consolidation project, derecognition and the fair value paper. However, in addition to this, the Roadmap includes some further milestones which must be achieved before the SEC commits to a lifetime of IFRS.

Milestones Funding mechanism

The Roadmap is expected to indicate that the International Accounting Standards Committee Foundation (IASCF) must develop a new funding mechanism to ensure that the IASB gets sufficient financing to meet its objectives in a timely manner. This new funding source is also to ensure that both organisations remain free from any particular private sector or political pressures.

XBRL

If IFRS are the accounting standards of the future, then XBRL is to be the reporting language for the next generation. The IASCF has already issued an IFRS taxonomy, but the SEC expects to see further development ofthis interactive data format. In many ways it is looking to protect its own investment as it has invested substantially in XBRL in recent times.

Education & Training

The final milestone relates to education and training. The SEC expects to see investment and improvement in education to ensure that US preparers, auditors and users alike will be sufficiently well trained for the use of IFRS. This seems like a very sensible request and one that should help keep errors and restatements to a minimum.

Early adopters The SEC announcement did indicate that it will permit certain US companies to file IFRS financial statements for the year ending on or after 15 December 2009. To qualify for this date the US Company must:

be one of the 20 largest companies in its industry; and participate in an industry in which the use of IFRS is more prevalent than any other basis of accounting.

Initial research suggests that there may be 110 entities across 34 sectors which would be able to qualify for this earlier date. However, they will also be required to write to the SEC to ensure that they have no objections to the company early adopting IFRS in its financial statements. As if this wasn’t strict enough, there is one further sting in the tail for early adopters: In addition to preparing a complete set of IFRS financial statements the filer is also expected to include a one-year reconciliation of its financial statements from IFRS to US GAAP in accordance with IFRS 1, or an unaudited three-year reconciliation of the issuer’s financial statements from IFRS to US GAAP.

This is a particularly high price to pay for early adoption and is likely to deter many companies from using the 2009 timeframe. The sceptics among us might also suggest that this requirement allows the SEC enough wriggle room to change its mind about IFRS, as this information would allow it to force early adopters back to US GAAP.

What next? Once the Roadmap is published on the SEC website it will be open for a comment period of 60 days. A move to IFRS will require fundamental changes to the manner in which the US financial community is educated and, given the dominance of its capital markets on the world economy, the Roadmap will surely attract significant attention.

A few years ago, I heard David Tweedie describe the publication of a share-based payment standard as one of the IASB’s most significant achievements since its formation. The SEC’s Roadmap announcement will no doubt trump all previous achievements and help complete the script for his version of the David and Goliath fairytale.

Fergus Condon is Director of the Financial Reporting Advisory Group at Ernst & Young.