Bridging the GAAP - A step-by-step guide
ICAS Audit & Assurance Committee members David McBain, Head of Audit, at Johnston Carmichael and Gareth Wilson, Principal Auditor at Prudential, talk you through the transition to FRS102.
With 2016 now upon us, many of us will be starting the year by setting plans and ambitions for the year ahead.
For accountants and auditors, the question of Financial Reporting Standard (FRS) 102 is likely to feature heavily on that horizon.
This year will see a large number of entities seeking to make the transition from current UK GAAP to the new internationally-influenced framework established by Financial Reporting Standard (FRS) 100 and set out in detail in FRS 102.
In theory, transition seems simple, as the start and end points are clear, but the process itself is likely to be more challenging and may explain why FRS 102 has been one of the most talked about topics in the accounting profession for many years.
The transition process can effectively be summed up by the following five key steps:
The process will typically begin with a scoping exercise to identify the key impact for the entity. Such impact may include changes to primary statements as well as taxation, distributable profits and even other matters such as bank covenant compliance. Fully assessing the impact will help management determine what changes to accounting systems and staff training may be required.
At step 2, and one potential benefit of FRS 102, management will want to commit some time to considering the various choices on transition that are contained within the standard. These include the option not to restate acquisitions prior to transition under FRS 102 principles and the ability to introduce certain assets at fair value or revalued amounts as a deemed cost.
Similarly, at step 3, management will want to give some consideration as to the appropriate accounting policy choices under FRS 102 as well as to the drafting of these policies. Experience to date with early adopters suggests that the accounting policies section of the financial statements is likely to increase in length, in part due to the specific accounting requirements around financial instruments.
Having made all accounting policy choices, management should then be in a position to calculate and process adjustments to net assets on transition and at the comparative balance sheet date as well as changes to the comparative profit and loss account. Care will need to be taken to ensure that any associated tax effects are also taken into account.
Only having followed the above steps will management be in a position to effectively start preparing their first set of financial statements under FRS 102.
It is worth noting that responsibility for steps 1 to 5 above rests with management and the auditor will then subsequently be responsible for forming an independent opinion on the outcome of step 5. However, in reality, the auditor is likely to have a significant interest in the outcome of all previous steps given their relationship to the final set of accounts. Similarly, the entity is likely to value the involvement and knowledge of the auditor as they manage their way through the various steps, thus helping avoid any surprises at the end of the audit process.
As a result, most entities are likely to favour a collaborative approach working alongside their auditors at each of the stages set out above, as mapped in the diagram below.
Central to the relationship between auditor and the entity throughout this process is the need to maintain audit independence. Risks here are particularly prevalent at the point of the entity establishing accounting policies, both on transition and on an ongoing basis, as well as to the calculation of restatement adjustments. Whilst the auditor may advise and support at these stages, they must ensure that management take all decisions in connection with policy choices and approve any restatement adjustments.
When it comes to first time preparation, again the requirements of ethical standards are particularly prevalent in that, whilst auditors may often be engaged to prepare these accounts, management must be given the opportunity to take all decisions where judgements are required. This may particularly be the case around certain accounting disclosures such as those relating to significant accounting estimates or key sources of estimation uncertainty and going-concern.
Following first-time preparation of the accounts, the auditor will then need to manage any self-review threats where they have been engaged in their preparation. These are partly mitigated where management take ownership over any decisions required but, in some cases, the process may also benefit from an independent second partner or external technical review.
In summary, whilst for some the move to FRS 102 may appear somewhat daunting, a structured process and careful planning around the various steps and their timing should help greatly towards an efficient outcome. Key to this is early and effective communication between companies and their accountants/auditors so we would highly encourage both parties to start this process now if it is not already underway.
Certainly with all of this to think about we expect 2016 to be a challenging but hopefully interesting year!