The purpose of this report is to evaluate the implication of having the possibility of choice between two reporting frameworks, IFRS and FRS 102, for non-listed companies in the UK. The analyses focuses on the investigation of the reasons that regulators in UK have adopted when allowing the choice of two accounting standards, as well as the reasons why some non-listed UK companies adopt FRS 102 while others use international accounting standards. The arguments stated in the report are supported by recent economic and financial reporting developments.
Financial reporting framework
The idea behind creation of International Financial Reporting Standards (IFRS) was to introduce global financial language that will prohibit accounting inconsistencies between companies and enable investors to make comparisons amongcompanies all over the world. The aim of IFRS was initially defined as to present the investors and owners the market value of the company. The focus of IASB, creator of the standards, was to set those for application in global capital markets, not for application by non-listed entities (Fearnley, 2007).
The main drawback of adoption of IFRS by all entities is that not each company has the need to fulfil the requirements of global capital markets. There is an argue that a different solution is needed for SMEs. The entities whose shares are not publicly traded are, in most cases, owner managed and annual reports are used to provide information to management, banks and other lenders (Forsberg, 2010).
In the UK, there has been a long drawn out debate about whether IFRS should be mandatory for all UK reporting entities; and if it should not, what the alternatives might be.Due to the Company Law Reform, it has been necessary to make amendments to UK accounting standards to ensure continued consistency between the revised legal frameworks and the ﬁnancial reporting framework.Company law recognises two ﬁnancial reporting frameworks – IFRS and UK GAAP (Financial Reporting Council, 2015). This reform was based on the “think small first” concept. On the one hand, there was a drive for global convergence of standards accounting going forward in the UK. The Financial Reporting Council is definitely aware of benefits of capital markets and international models of best practice, adoption of IFRS for listed companies being one of them. However, the regulators in UK highlighted the fact that non-listed sector is ignored in this way. The regulators ultimately produced standards that best suited the UK market taking into account costs and benefits and user needs, where complexity of IFRS and their relevance to non-listed and non-publicly accountable companieswas emphasized as one of the issues. The options available under the new framework are summarized in the illustration below: (Ernst & Young, 2015)
The purpose of new regulations is to ensure UK non-listed companies are not at a disadvantage compared to their European competitors. IFRS remains mandatory for listed companies. Other companies are allowed to prepare their accounts under International Financial Reporting Standards (IFRS) or to move to UK GAAP and take advantage of reduced disclosures.Consequently, accounting standards are changing with the introduction of FRS 102 to replace the previous Financial Reporting Standards accounting framework. The purpose of FRS 102 is to bring the presentation of the financial statements closer in line with IFRS, but without the full disclosure requirements of IFRS. FRS 102 was adopted to reflect developments in business operations, as well as government’s intention to reduce unnecessary burdens in order to make UK one of the best places in the world for doing business.
Choosing between IFRS and FRS 102
The new UK standards are directly relevant to those companies currently required or choosing to use full UK GAAP, as well as those entities that have voluntary adopted IFRS. The questions is how companies actually decide whether to adopt IFRS and FRS 102. There are companies who have always been able to choose which accounting framework they want to base their accounts on. However, with the introduction of FRS 102 replacing the FRS framework, there is now important reason to reconsider which accounting framework is best for individual company. FRS 102 is based on IFRS for SMEs, but it also incorporates a number of changes, including widened scope, compliance with UK Company Law requirements and reintroduction of options available under full IFRSs and/or existing UK GAAP (Deloitte, 2013).
When choosing between the reporting options available, the management of the company is required to consider consequences of each framework on dividend and tax payments, bank and loan covenants, data and system requirements and impact on overall corporate structure, with special emphasis on projects and transactions it is currently undertaking (PWC, 2013).
It might seem presumable that all the subsidiaries of listed companies would automatically convert to adopt IFRS, because they were more likely to have the necessary support and expertise to successfully apply its requirements. However, statistics show not all subsidiaries belonging to a listed group have adopted IFRS, which means that benefits of avoidance the cost of reconciling from UK GAAP to IFRS when consolidated accounts were being prepared is outweighed by complexity and costs of IFRS for some companies (Deloitte, 2013). In the case of small companies particularly, costs of adoption of full IFRS are not justified by the needs of its users, those being dominantly managers and local stakeholders.
On the other hand, medium sized entities have international presence and significant trading links established abroad. Their partners or holding companies (in case they are part of the group) might require financial statements prepared under IFRS, as in this way they are completely comparable with reports of majority of European entities.
International business transactions and accounting rules are too complex to make it feasible for all entities to adopt one accounting model. The UK model eliminates the default assumption that what is appropriate for multinational companies is appropriate for smaller unlisted companies and regulators are focused on “think small first” concept. It can be concluded that UK reporting framework has established a reasonable compromise between meeting the needs of large multinational corporations and reducing the reporting burdens for smaller companies.
ACCA, 2010. Paper F7-Financial Reporting (Int) Study Text, London , BPP Learning Media Ltd, p. 21-35.
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Financial Reporting Council, 2015. Overview of the financial reporting framework.
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Forsberg P. 2010., IFRS standards and non-listed companies, Sweden, University of Boras, p. 1-34.
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PWC, 2013. New UK GAAP or IFRS?
Available at: https://www.pwc.com/im/en/publications/assets/1222080.pdf [Accessed February 5, 2018].