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SBR: CURRENT DEVELOPMENT ISSUES

1. Relevant Exams (September 2022 – June 2023)

2. Exam scope = 8 marks to 10 marks

3. Examiner Expectations:

Candidates should be able to:

 Knowledge about the topic = Ability to discuss the impact of current issues in corporate
reporting

 Application with the relevant scenario = Application of one or several existing standards
to an accounting issue.

4. Current Development Topics:

Current Business Environment & Accounting Implications:

 Covid 19/Pendamic/Natural Disaster

 Climate Change
 Digital Asset
 Crowd Funding & Initial Coin Offer (ICO)
Exposure Drafts

 IFRS Practice Statement Making Materiality Judgements

 IFRS Practice Statement Management Commentary
 Presentation & Disclosures

5. SBR Examiner Defined Scope about Current Developments:

 Examine the principles basis only, but detail insight will not be examined.
 Pitfalls or deficiencies of the proposed changes may be examined.
 There will not be a complete question on a single exposure draft.
 Examine anywhere in the question paper (either with Section A or B) but will not be
a full question and most likely to form part of another question.

6. Based on Past Analysis: Examiner can examine either:

a. Independent Topic of Current Issues OR
b. Integrate current issues matter with any case.

7. This document includes a comprehensive coverage about the current development

topic, including knowledge, application guidance and past exam questions as well.
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Natural Disasters: Quick Discussion

Natural disasters include volcanic eruptions, earthquakes, droughts, tsunamis, floods and hurricanes.
Many of these have become more prevalent, most likely as a result of climate change. Natural
disasters devastate communities, and the process of recovery can last for years. Companies that
operate in areas effected by natural disasters will also have to consider the financial reporting
consequences. Some of these are considered below.

Impairments

A natural disaster is likely to trigger an impairment review – particularly in relation to property, plant
and equipment (PPE). This is because, in accordance with IAS 36 Impairment of Assets, there are likely
to be indicators of impairment. This may be because individual assets are damaged, or it may be
because the economic consequences of the disaster trigger a decline in customer demand. If PPE is
destroyed, then it should be derecognised rather than impaired.

In line with IFRS 9 Financial Instruments, entities that lend money will need to assess whether credit
risk associated with the financial asset has increased significantly. A natural disaster is likely to lead to
a higher default rate, so some financial assets will become credit-impaired.
Natural disasters may lead to inventory damage.

Alternatively, the economic consequences of the disaster may mean that inventory must be sold at a
reduced price. As per IAS 2 Inventories, some inventory may need to be remeasured from its cost to
its net realisable value.

Insurance

It is likely that entities affected by natural disasters will need to account for insurance claims. This can
be a difficult area because of uncertainty regarding the nature of the claim, the type of coverage
provided by the insurance, and the timing and amount of any proceeds recoverable.
IAS 37 Provisions, Contingent Liabilities and Contingent Assets only allows the recognition of an asset
from an insurance claim if receipt is virtually certain. This is a high threshold of probability and so
recognition is unlikely. However, if an insurance pay-out is deemed probable then a contingent asset
can be disclosed.

Additional liabilities

As a result of a natural disaster, an entity may decide sell or terminate a line of business, or to save
costs by reducing employee headcount. In accordance with
IAS 37, a provision will be recognised if there is a present obligation from a past event and an outflow
of economic benefits is probable. An obligation only exists if a restructuring plan has been
implemented or if a detailed plan has been publicly announced. When measuring the provision, only
the direct costs from the restructuring, such as employee redundancies, should be included.

Provisions may be required if there is an obligation to repair environmental damage. Moreover,

decommissioning provisions (when an entity is obliged to decommission an asset at the end of its life
and restore the land) will require review because the natural disaster may alter the timing or amount
of the required cash flows.
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Going Concern

Natural disasters will lead to changes in the economic environment, as well as business interruption
and additional costs. If there are material uncertainties relating to going concern, then these must be
disclosed in accordance with IAS 1 Presentation of Financial Statements. If the going concern
assumption is not appropriate then the financial statements must be prepared on an alternative basis
and this fact must be disclosed.

Practice Question: Impacts of Natural Disaster

Middleshop operates in the fashion retail industry and has a year end of 31 December 20X1. It owns
fifteen stores all located in one country (and accounted for using the cost model in IAS 16 Property,
Plant and Equipment). Due to an international pandemic, the government of the country in which
Middleshop operates required all non-essential retail and hospitality outlets to close for several
months during 20X1. It is anticipated that further closures will be mandated throughout 20X2 until an
effective vaccine is developed and rolled out amongst the population.

The pandemic has had a negative impact on the fashion industry. Demand for new clothing has
declined due to national and localised lockdowns as well as limits on intra-household socialising and
the increased uptake of home-working. Moreover, the full economic impact of the pandemic has yet
to be realised with unemployment expected to rise significantly throughout 20X2.

Middleshop’s stores were open for trading during December 20X1, normally the busiest month of the
year. However, high street footfall was far lower than previous years with many consumers reducing
expenditure or choosing to shop online. Middleshop sells online through its website but the
functionality is poor and customer uptake is low. The website is recognised as an intangible asset and
is being amortised over a remaining life of five years.

The directors of Middleshop are considering closing some larger stores in 20X2 although, as at 31
December 20X1, no firm plans had been drawn up. A significant operating loss is expected in 20X2.
The directors wish to provide for potential redundancy costs and the future operating loss in the
financial statements for the year ended 31 December 20X1.

Middleshop has bank loans, some of which are repayable within 12 months of the reporting date.

Required:
Discuss the financial reporting implications of the above in Middleshop’s financial statements for the
year ended 31 December 20X1.
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ANSWER

The economic downturn and the periods of closure are indicators that Middleshop’s stores are
impaired. Poor functionality and low-use suggests that the website might be impaired too. As such,
per IAS 36 Impairment of Assets, impairment reviews must be carried out. This involves comparing the
carrying amount to the recoverable amount. It is unlikely that individual assets can be tested for
impairment so need to be tested as part of a cash generating unit (CGU). It may be that each store is a
CGU. Any impairment of the assets will be charged to profit or loss.

IAS 38 Intangible Assets requires annual review of the amortisation period. It would seem that the
useful life of the website is too high because it will probably require replacement in the near future.
Any change in the useful life is dealt with in accordance with IAS 8 Accounting Policies, Changes in
Accounting Estimates and Errors. Amortisation rates are an estimate and so changes are dealt with
prospectively (i.e. in current and future periods).

Due to the decline in customer demand, Middleshop is likely to be holding surplus inventories. Per IAS
2 Inventories, inventories should be measured at the lower of cost and net realisable value. Surplus
stock might be disposed of, or scrapped, for zero proceeds or sold at a heavy discount. This may result
in net realisable value falling below cost. Any expense that arises on remeasurement of inventories will
be recognised in profit or loss.

According to IAS 37 Provisions, Contingent Liabilities and Contingent Assets, a provision must be
recognised if there is a present obligation from a past event that will lead to a probable outflow of
resources that is capable of being measured reliably. There is no obligation to pay redundancy because
there is no detailed restructuring plan in place. There is no obligation to incur the future operating loss
because Middleshop could choose to cease trading. As such, Middleshop cannot provide for the
redundancy costs or the future operating loss.

Due to Middleshop’s economic downturn, it may not have sufficient cash to repay its short-term bank
loans, creating an uncertainty over whether the entity is a going concern. In accordance with IAS 1
Presentation of Financial Statements, going concern uncertainties must be disclosed in the notes to
the financial statements.
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The Covid-19 Pandemic:

What IFRS standards might be applicable to reporting entities and why?

Background

The Covid-19 pandemic is an example of a natural disaster which has undoubtedly had an impact on
the financial reporting practices of many entities in different business contexts.
Indeed, many entities are experiencing conditions that are often associated with a significant
economic downturn. However, there is no one particular IFRS standard that is more relevant than any
other.

By using the context of the Covid-19, the following table demonstrates the wide number of IFRS
standards that are impacted by this pandemic which would also apply to other situations like
economic downturns.

The Accounting Considerations of a Pandemic or other natural disaster

The following tables consider some of the existing accounting requirements that should be
considered when addressing the financial effects of the Covid-19 outbreak:

IFRS Standards Issues for discussion

IAS 1, Presentation of Assessment of an entity’s ability to continue as a going concern

Financial Statements at the dates the financial statements are approved.

Disclose uncertainties – significant judgements and sources of

estimation/uncertainty need to be appropriately disclosed. This
will also have impacts on the going concern assessments if
judged material.

If going concern is at issue consider preparation of financial

statement on net realizable basis/net settlement value.
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IAS 2, Inventories Inventory must be stated at the lower of cost or net realisable
value (NRV) however NRV calculation may be challenging (no
market prices or no demand for products).

Entities may need to reassess their practices for fixed overhead

cost allocation as production levels fall materially.

Obsolete inventory considerations, especially perishable

inventory.

IAS 10, Events after the The evaluation of Covid-19 information that becomes available
reporting period after the end of the reporting period but before the date of
authorisation of the financial statements.

Entities will need to judge how much of the impact of Covid-19

should be considered to arise from adjusting or non-adjusting
events given the dates when knowledge of the pandemic
became known and events like travel bans, lockdowns and
similar took effect.

IAS 12, Income Taxes Recovery of deferred tax (DT) assets arising from accumulated
tax losses and therefore assess probable future taxable profits or
tax planning opportunities or whether sufficient DT liabilities
which are expected to reverse.

Will entities have to restrict the Dt Asset recognised?

Consequences of adjustments to the carrying amounts of assets

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and liabilities will have DT impact. Some examples will include

the Impact of impairment losses or decreases in the value of a
pension surplus.

IAS 19, Employee Benefits Adjustments/provisions for severance.

Falls in interest rates and plan asset portfolios may require

significant adjustments requiring the services of actuaries to
reflect changes in any defined benefit schemes.

IAS 20, Accounting for Government assistance to help entities that are experiencing
Government Grants and financial difficulty.
Disclosure of Government
Assistance Reimbursement of employment costs is recognised in profit or
loss. Disclosure of aid such as short-term debt facilities.

IAS 23, Borrowing Costs Suspension of capitalisation of borrowing costs if Covid-19 has
interrupted the acquisition, construction or production of a
qualifying asset. Any borrowing costs incurred during such
periods should be expensed through P/L.

IAS 36, Impairment of Assess whether the impact of Covid-19 has potentially led to an
Assets asset impairment (tangible, intangibles and financial assets) –
effectively Covid-19 is a trigger event that indicates an
impairment review is required.

Management may face significant challenges in preparing the

budgets and forecasts necessary to estimate the recoverable
amount of an asset (or CGU) because of decreased demand,
business interruptions, cancelled orders and similar issues.

Difficulty assessing fair values when no active market or market

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participants

IAS 37, Provisions, Potential restructuring provisions and onerous contract

Contingent Liabilities and provisions may need measured and recognised and insurance
Contingent Assets recoveries disclosed (need to assess certainty of these
recoveries).

If material expenses or income for example restructuring and

onerous contract provisions and impairment losses) should they
be disclosed separately?

IFRS 2, Share-based Vesting conditions for share-based payments with performance

Payment conditions may not be met.

IFRS 5, Non-current Assets An asset (or a disposal group) no longer meets the conditions for
Held for Sale and ‘held for sale’ for example an entity may now face difficulties in
Discontinued Operations identifying a buyer or in completing the sale within the 12-
month period from classification.

Ceased operations that meet the definition of discontinued

operations will require separate presentation and disclosure.

IFRS 9, Financial Allowance for expected credit losses (ECL) - reductions in

Instruments forecasts in economic growth increase the probability of default
and entities will need to revisit the provision matrix approach for
trade receivables.

Classification of financial assets – consider whether there has

been a change in the entity’s business model. An entity may
decide or need to sell receivables classified as ‘held to collect’
which will therefore change classification.
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Hedge accounting – entities may need to consider whether the

transaction is still a 'highly probable forecasted transaction'.

There will be many more considerations with IFRS 9 regarding

interest rate changes/debt covenants/modifications to payment
terms.

IFRS 13, Fair Value Companies need to look at the decisions, assumptions and
Measurement inputs to fair value measurement as market-based measures are
likely to change significantly and perhaps in unpredictable ways.
If using level 2 or 3 inputs will require more extensive disclosure.

IFRS 15, Revenue from Contract enforceability - may not be able to approve a contract
contracts with customers under an entity’s normal business practices

Collectability – may be a significant deterioration of a customer’s

ability to pay.

Contract modifications – entity may grant a price concession to a

customer.

Variable considerations – an entity may need to consider

updating its estimated transaction price

Significant financing component -an entity may provide

extended payment terms.

Revenue recognition - an entity may need to reconsider the

timing of revenue recognition if it is unable to satisfy its
performance obligations on a timely basis.

IFRS 16, Leases Impairments to right-of use assets.

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Economic stimulus measures have led to lower interest rates

and changes to lease terms – lease liabilities may need
remeasured.

Impairments of lease receivables for lessors.

Other non-IFRS
considerations

Discount rates Many central banks have cut their base rates – this will affect the
measurement of many assets and liabilities

Alternative Entities may consider providing new alternative performance

performance measures (APMs) or adjust existing APMs – adequate/extensive
measures disclosures will be required to ensure they do not mislead
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SBR EXAMINER

While the SBR examining team is not stating that consideration of all of these IFRS standards would
be required, or could be expected, to answer an SBR exam question, the table does demonstrate that
the accounting context of Covid-19 requires the consideration of a range of accounting standards and
has wide and varied implications.

The SBR examining team has often commented that candidates incorrectly think that only one IFRS
standard can be used to provide an answer to an exam question scenario. Such an approach is likely
to produce a response that is very narrow in its consideration of the issues applicable to the exam
question scenario. Likewise, an SBR exam question is unlikely to require the consideration of only one
IFRS standard in isolation.

SBR candidates should use the signposts and clues contained in the question scenario to identify
which IFRS standards that they should consider.

COVID 19 PENDAMIC: SBR PRACTICE

Case 1: Impairment of Goodwill

The potential for impairments in the current climate is substantial. There is a clear risk of impairment
to goodwill, as the acquisition price of an entity may well have been based on projected cash flows.
When the goodwill impairment test is performed annually by entities applying IFRS Standards, they
need to compare the carrying amount of the goodwill to its recoverable amount. A key component for
assessing recoverable amount is to estimate the present value of future cashflows, which are certainly
likely to be diminished.

Goodwill and impairment is a project that remains on the work plan of the International Accounting
Standards Board (IASB). It recently released a discussion paper on the subject, and I will look at that in
more detail in the future. While this article will not be focusing on the potential goodwill impairment,
the final thing to remember is that currently goodwill impairment cannot be reversed, meaning that
the current situation could have a long-term effect on that asset value.
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Case 2: Financial Instruments

One of the most common issues that entities may face is dealing with any potential impairment to
receivable assets. This could occur in a number of different ways:

 Covid-19 can affect the ability of borrowers (corporate or individuals) to meet their
obligations under loan relationships.
 Entities may be asked by governments to give payment holidays to customers. Even if the
borrower is still expected to pay all amounts owed, there could potentially be a credit loss if
the lender is not compensated for the lost time value of money.
 Reduced fees or interest rates on loans given could mean that a lower amount is recoverable
from these loans.

In the face of this, the IASB has issued guidance for entities in the application of IFRS 9, Financial
Instruments, under the current uncertainty. Instruments falling under this guidance include loans,
trade and other receivables, lease receivables, contract assets, financial guarantees, loan
commitments and debt instruments not measured at fair value through profit or loss. Under IFRS 9,
an entity must recognise a loss allowance for expected credit losses (ECLs) on these.

Under IFRS 9, an entity will need to consider the impact of Covid-19 on the allowance for ECLs and
whether there has been a significant increase in credit risk. This is something that entities are
currently required to do at each reporting date, but the current situation will certainly prompt a
substantial review of whether the risk has increased significantly.
If there has been a significant increase, the entity should measure the loss allowance at the lifetime
ECLs rather than a 12-month ECL (other than short-term receivables and contract assets, which are
always measured using lifetime ECL).

IFRS 9 requires the application of judgment, and entities will need to adjust their approach in
determining ECLs following recent developments. Previous models and methodologies applied by
entities in establishing ECLs will not have considered the situation under Covid-19, and therefore any
existing ECL methodology should not be applied mechanically. The IASB guidance gives the example
that an extension of payment holidays to all borrowers in a specific class of financial instrument
should not automatically result in all of those instruments suffering a significant increase in credit risk.
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Clearly there are huge uncertainties surrounding the eventual impact of Covid-19, but entities are still
required to make estimates based on reasonable and supportable information that is available
without undue cost or effort at the reporting date. In practice, this information is likely to come from
looking at macroeconomic scenarios applied by entities, taking into account the entity’s ongoing
credit evaluation process and any financial forecasts for industries and economies.

Despite the difficulties associated with making estimates and assumptions in the face of such
uncertainty, it is not expected that this would be a basis for entities to not update their ECL
measurements. Indeed, the IASB believes that ECL estimates that are based on reasonable and
supportable information will still provide useful information about ECLs, in addition to giving
transparency to the users of financial statements.

So as it stands, the guidance is less prescriptive than that handed out by governments to individuals
and companies at the moment. As with the application of so many standards, the use of judgment is
key. What is certain is that entities will have to spend significant amounts of time revisiting estimates
previously made. The old assumptions cannot simply be followed, and new lines will have to be drawn
across a range of different balances in the financial statements. The financial statement fallout from
Covid-19 may be uncertain, but it is very likely to be substantial.
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Case 3: Events After Reporting Period

As the global situation evolves rapidly, entities must consider the requirements of IAS 10, Events After
the Reporting Period. As a reminder of the key rule, there are two categories of event covered under
IAS 10:

 Adjusting events: an event that provides more information about a condition in existence at
the reporting period. These events may result in changes to the figures in the financial
statements if necessary
 Non-adjusting events: these are indicative of conditions that only arose after the year end.
These will result in disclosures in the financial statements but would not affect the amounts
recognised.

The application of the impact of Covid-19 is likely to depend on when an entity’s year-end is. China
had alerted the World Health Organization to several cases of an unusual form of pneumonia in
Wuhan by 31 December 2019 but the significant information about the virus and its magnitude really
only arose in early 2020. This is likely to mean that for entities with reporting periods ending on or
before 31 December 2019, they will treat the developments as a non-adjusting event. While the
figures in the financial statements are expected to be unaffected, the disclosures should be
significant. The disclosures need to explain the nature of the event and an estimate of its financial
effect. While this may be extremely difficult to quantify, it is preferable to provide a range of
estimated effects compared to not providing quantitative information at all.

If the likely impacts are that the company is no longer a going concern, then the entity will have to
change its financial statements. They will have to be prepared on a break-up basis rather than a going
concern basis. This means that all items will be held as current rather than non-current, all items will
be held at their sale values, and specific items such as provisions relating to its closure will need to be
included.

It is safe to assume that for any reporting event ending after 31 January 2020, Covid-19 is going to be
an adjusting event. This means that entities are likely to need to review all of the areas that are
subject to judgment and estimation, as highlighted above. The impact of Covid-19 on these financial
statements is therefore likely to be significant and widespread. Entities will have to spend a lot of
time revisiting assumptions and estimations, and the detailed guides mentioned earlier are likely to
be extremely useful. While we will not be covering the list of possible impacts, the one specific issue
affecting almost everyone is likely to be impairments.
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Climate Change: Disclosures and Investor focus.

Climate change is impacting both society and companies alike.
Following are the possible scenarios:
 A warming planet creates a wide range of risks for businesses, from disrupted supply chains
to rising insurance costs to labor challenges.
 Climate change and extreme weather events such as hurricanes, floods and fires, for example,
have a direct impact on 70% of all economic sectors worldwide

Effect on companies financials like:

 Capital Expenditures for Emission Control Systems.

 Higher Prices for Goods and Services.
 Changing Weather Patterns & Changing Demand for Goods.
 Obligations Under Foreign Regulations.
 Changing Public Perceptions.

https://www.investopedia.com/financial-edge/0210/7-ways-climate-change-affects-companies.aspx

Investor Perspective & Disclosures:

Corporations are responding to its impact, and one of the reasons is that investors are demanding
actions. Investors need to know how a company is considering the impact of climate change on its
business model, risk strategy, and also the effect on its financial statements.

Investors want to understand the future challenges that the company faces, and what the company’s
plans are to deal with these challenges.
The Paris Agreement (United Nations) is a legally binding international treaty on climate change which
will require a significant reallocation of company resources if the agreed goals are to be met.
Therefore, companies could be exposed to a wide range of risks and opportunities as they aim to
meet these goals. Companies will need to disclose the financial implications of climate-related
challenges that face them.

An increasing number of companies are providing narrative reporting on climate-related issues.

Where minimum legal requirements are being met, investors are calling for additional disclosure to
inform their decision making. Some companies have set strategic goals such as ‘net zero’ (or carbon
neutral), but it is often unclear from their reporting how progress towards these goals will be
achieved, monitored or assured. Climate-related narrative reporting requirements and expectations
cover both the potential impact on the future of a business and the company’s impact on the
environment.

As the demand for climate-related disclosure by investors and other stakeholders increases, many
companies are developing their climate governance in line with reporting frameworks, principally ‘The
Task Force on Climate-related Financial Disclosures’ (TFCD).
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Some of the information that investors may require is set out below:

 the arrangements in place and strategy for assessing and considering climate-related issues
 the metrics used to monitor climate-related goals and targets
 the opportunities and risks concerning climate-related issues which are most relevant and
material to the company’s business model and strategy
 the potential effects on the company’s profitability, net assets, products, customers, suppliers etc
of different climate scenarios
 are the risks and opportunities reflected in the financial statements, for example the effect of
assumptions used in impairment testing, depreciation rates, decommissioning etc
 the assessment of the company’s viability over the longer-term taking into account climate-
related issues
 The viability of the company’s business and business model.

Climate Change and IFRS®

There is no single IFRS standard which addresses climate change. However, IFRS standards provide a
framework for incorporating the risks of climate change into companies’ financial reporting.
Companies must consider climate-related matters when the effect is material on the financial
statements.

IAS® 1, Presentation of Financial Statements

IAS 1 requires disclosure of information not specifically required by IFRS standards and not presented
elsewhere in the financial statements, but that is relevant to an understanding of the financial
statements. In addition, IAS 1 requires a company to consider whether any material information is
missing from its financial statements such as the impact of climate-related matters on the company’s
financial position and performance.

Disclosure of assumptions about climate-related matters may be required, where assumptions have
been affected by climate change. For example, estimates of future cash flows for impairment testing
purposes or the calculation of decommissioning obligations. The disclosure may include the nature of
the assumptions or the sensitivity of the calculations.

In addition, IAS 1 requires disclosure of the judgements that have a significant effect on the amounts
recognised in the financial statements.

IAS 1 requires management to assess a company’s ability to continue as a going concern. Climate-
related matters may create material uncertainties that cast significant doubt upon a company’s ability
to continue as a going concern. IAS 1 requires disclosure of those uncertainties.
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IAS 2, Inventory

Climate-related matters may cause a company’s inventories to become obsolete, or the value to
decline or costs of completion to increase. IAS 2 requires inventories to be valued at the lower of cost
and net realisable value (NRV). NRV is the estimated selling price in the ordinary course of business,
less the estimated cost of completion and the estimated costs necessary to make the sale. Estimates
of NRV will be based on the most reliable evidence available of the amount which the inventories are
expected to realise.

IAS 12, Income Taxes

IAS 12 requires companies to recognise deferred tax assets for deductible temporary differences and
unused tax losses and credits, to the extent it is probable that future taxable profit will be available
against which those amounts can be utilised. Climate-related matters may affect a company’s
estimate of future taxable profits which may result in potential deferred tax assets not being
recognised or the derecognition of already recognised deferred tax assets.

IAS 16, Property, Plant and Equipment

IAS 16 requires companies to review the residual value and the useful life of an asset at least at each
financial year end and, if expectations differ from previous estimates, any change should be
accounted for prospectively as a change in estimate. Climate-related matters may affect the
estimated residual value and expected useful lives of assets because of obsolescence or legal
restrictions on their use.

IAS 36, Impairment of Assets

Climate-related matters may give rise to an indication that assets are impaired. A decline in demand
for products that are not environmentally friendly could indicate impairment of that product or the
manufacturing unit making the product. An adverse change in the business environment of a
company is an indication of impairment.

In assessing value in use, a company is required to calculate cash flow projections based upon
reasonable and supportable assumptions that are the best estimate of the future economic
conditions. Thus, companies will need to consider whether climate-related matters affect those
assumptions.

Companies are required to disclosure the events, circumstances and assumptions that led to the
recognition of an impairment loss, which could include climate-related events.

IAS 37, Provisions, Contingent Liabilities and Contingent Assets

Climate-related matters may affect the recognition, measurement and disclosure of liabilities related
to such things as penalties imposed by governments for not meeting climate-related targets or
causing environmental damage. In addition, contracts may become onerous due to a change in
inventory purchasing strategy or redesign of products.

Companies should disclose major assumptions about any future events that have affected a provision
or contingent liability.
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Insurance

It is likely that entities affected by natural disasters will need to account for insurance claims. This can
be a difficult area because of uncertainty regarding the nature of the claim, the type of coverage
provided by the insurance, and the timing and amount of any proceeds recoverable.
IAS 37 Provisions, Contingent Liabilities and Contingent Assets only allows the recognition of an asset
from an insurance claim if receipt is virtually certain. This is a high threshold of probability and so
recognition is unlikely. However, if an insurance pay-out is deemed probable then a contingent asset
can be disclosed.

Going concern

Natural disasters will lead to changes in the economic environment, as well as business interruption
and additional costs. If there are material uncertainties relating to going concern, then these must be
disclosed in accordance with IAS 1 Presentation of Financial Statements. If the going concern
assumption is not appropriate then the financial statements must be prepared on an alternative basis
and this fact must be disclosed.

IFRS 9, Financial Instruments

Climate-related matters may affect a lender’s exposure to credit losses, caused by environmental
disasters or regulatory change, and also a borrower’s ability to meet its debt obligations to the lender.
Climate-related matters may, therefore, affect the calculation of expected credit losses if there is an
impact on the different potential future economic scenarios or the assessment of a significant
increase in credit risk.

The classification and measurement of loans may be affected as lenders may include terms linking
contractual cash flows to an entity’s achievement of climate-related targets. The lender would need
to assess whether the contractual terms of the financial asset give rise to cash flows that are solely
payments of principal and interest on the principal amount outstanding. Additionally, climate-related
targets may create an embedded derivative that needs to be separated from the host contract.

Climate change may reduce the probability of a hedged forecast transaction occurring or affect its
timing. In this case, the hedge accounting relationship may need to be terminated or there may be
hedge ineffectiveness. Similarly, a reduction in the volume of highly probable forecast transactions
may lead to partial termination under IFRS 9.

IFRS 13, Fair Value Measurement (FVM)

When making the critical assessments and judgements for measuring fair value, the entity should
consider what conditions and the corresponding assumptions were known or knowable to market
participants. The impact of climate change on FVM would depend on the evaluation of whether the
climate change would have impacted market participants’ valuation assumptions at the reporting
date.

The information such as climate-related legislation available to the market at the reporting date may
be relevant in making this evaluation. This would include any corroborative or contrary evidence such
as the timing and trajectory of observable market price movements of related assets in the relevant
markets, as well as information from other sources of market data up to the reporting date.
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Depending on the facts and circumstances of each case, disclosure may be needed to enable users to
understand whether or not climate change has been considered for the purpose of FVM. Users should
understand the basis for selecting the assumptions and inputs that were used in the FVM and the
related sensitivities.

The above examples from IFRS standards are not exclusive but are indicative of the far-reaching
impact climate change will have on business reporting. This area of business reporting is evolving as
the investor, and wider stakeholder, demand for both financial and non-financial disclosures increases
generally.
 Page 20 of 53

Crypto-Currency/Digital Asset: Reporting

There are many issues that accountants may encounter in practice for which no accounting standard
currently exists; one example is cryptocurrencies. For example, as no accounting standard currently
exists to explain how cryptocurrency should be accounted for, accountants have no alternative but to
refer to existing accounting standards.

This discussion demonstrates to Strategic Business Reporting (SBR) candidates how this can be done
using cryptocurrencies as an example.

What is Cryptocurrency?

Cryptocurrencies are virtual currencies that provide the holder with various rights. They are not
issued by a central authority and so exist outside of governmental control. Cryptocurrencies, such as
the Bitcoin, can be used to purchase some goods and services although they are not yet widely
accepted. The market value is extremely volatile and some investors make high returns through short-
term trade.

Accounting Treatment

The accounting treatment of cryptocurrency is not clear cut.

Cryptocurrencies do not constitute ‘cash’ because they cannot be readily exchanged for goods and
services. Moreover, they do not qualify as a ‘cash equivalent’ (in accordance with IAS 7 Statement of
Cash Flows) because they are subject to a significant risk of a change in value.

An investment in cryptocurrency does not represent an investment in the equity of another entity or
a contractual right to receive cash, and so does not meet the definition of a financial asset as per IAS
32 Financial Instruments: Presentation.

The most applicable accounting standard would appear to be IAS 38 Intangible Assets because
cryptocurrency is an identifiable non-monetary asset without physical substance.

Although cryptocurrencies most likely fall within the scope of IAS 38, the measurement models in that
standard do not seem appropriate. The fair value of cryptocurrency is volatile so a cost based
measure is unlikely to provide relevant information. The revaluation model in

IAS 38 initially seems more appropriate, but this requires gains on remeasurement to fair value to be
presented in other comprehensive income.

Many entities invest in cryptocurrencies to benefit from short-term changes in fair value and gains or
losses on short-term investments are normally recorded in profit or loss (e.g. assets inside the scope
of IFRS 9 Financial Instruments).
 Page 21 of 53

As can be seen, the accounting treatment of cryptocurrencies is not straightforward. In the absence of
an appropriate accounting standard, preparers of financial statements should refer to the principles in
existing IFRS Standards as well as the Conceptual Framework in order to develop an accounting policy.

Example:

Cryptocurrency & Conceptual Framework – Kaplan Study Text

Cryptocurrencies are digital currencies that operate independently of a central bank. Some businesses
now accept cryptocurrencies in place of traditional currencies.
The market price of cryptocurrency is highly volatile. Investors can earn large returns by buying
cryptocurrency on an exchange when the quoted price is low and selling on an exchange when the
quoted price rises.

Cryptocurrencies have proved problematic with regards to financial reporting because they do not
seem to fall within the scope of an issued IFRS or IAS Standard. As such, preparers of financial
statements must use the Conceptual Framework to devise an accounting treatment that provides
useful information to financial statement users.

Required:
Using the Conceptual Framework, discuss how an entity might account for an investment in
cryptocurrency that it holds to trade.

Answer:

One of the purposes of the Conceptual Framework is to assist preparers of financial statements when
no IFRS Standard applies to a particular transaction.

The definition of an asset in the Conceptual Framework is an economic resource controlled by an

entity from a past event. Cryptocurrency meets this definition because it can be traded or used to buy
goods and therefore have the potential of producing economic benefits.

Items should be recognised in the financial statements if they meet the definition of an element and if
recognition provides relevant information and a faithful representation of the underlying item. If
cryptocurrency is traded then information about such investments will help users when assessing an
entity’s future cash flows. As such, recognition is appropriate.

When measuring elements, the Conceptual Framework outlines two broad measurement bases:
 Historical cost, and
 Current value.

When selecting a measurement basis, the Conceptual Framework states that relevance is maximised
if the following are considered:
 The characteristics of the asset and/or liability
 The ways in which the asset and/or liability contribute to future cash flows.

In terms of future cash flows, many entities sell investments in cryptocurrency in order to benefit
from fair value gains. However, the historical cost of cryptocurrency may differ significantly from its
current value. As such, the shareholders of an entity that trades in cryptocurrency are likely to be
interested in the current value of the investment because the eventual sale will have a significant
 Page 22 of 53

impact on future net cash flows. Moreover, under historical cost, information about value changes is
not normally reported until disposal.

Therefore it would seem that a measurement based on current value – such as fair value – will
provide relevant and timely information to shareholders.

The Conceptual Framework notes that profit or loss is the primary source of information about an
entity’s economic performance. However, income and expense might be reported in other
comprehensive income if it results from remeasuring an item to current value and if this means that:
 profit or loss provides more relevant information, or
 a more faithful representation is provided of an entity’s performance.

Whilst the value of cryptocurrency is highly volatile, that value is likely to be extracted from a short-
term sale. As such, it would seem that reporting gains and losses in profit or loss would provide the
most relevant information about economic performance in the period.
In conclusion, by applying the Conceptual Framework, an appropriate accounting treatment for an
investment in cryptocurrency would be to remeasure the investment to fair value at the reporting
date and to present the resulting income or expense in the statement of profit or loss.

NOTE:

At this point you have to read this article:

https://www.accaglobal.com/uk/en/student/exam-support-resources/professional-exams-study-
resources/strategic-business-reporting/technical-articles/cryptocurrencies.html

SBR Exam (S/D 2019)

Based on International Financial Reporting Standards (IFRS®), advise the directors on the following:
Whether the cryptocurrency should be classified as a financial asset or an intangible asset. Your
answer should also briefly consider whether fair value movements on the cryptocurrency should be
recorded in profit or loss. (4 marks)

Answer

If the cryptocurrency meets the definition of a financial asset, it is possible to measure it at fair value.
However, cryptocurrency is not cash or cash equivalents as its value is exposed to significant changes
in market value and there is no contractual right to receive either cash or cash equivalents. Therefore,
cryptocurrency fails the definition of a financial asset.

If the cryptocurrency is to be recognised as an intangible asset, then the default position would be to
measure it at cost. However, there may be an argument to say that there is an active market for the
cryptocurrency in which case, it would be possible for it to be measured at fair value. In this case,
movements in that fair value would be recognised through other comprehensive income and the gain
would not be recycled through profit or loss when the cryptocurrency is realised.

The best way to account for a cryptocurrency would be fair value as that is the value at which the
entity will realise their investment or transact in exchange for goods and services. Accounting for
cryptocurrency at fair value with movements reflected in profit or loss would provide the most useful
information to investors but existing accounting requirements do not appear to permit this.
 Page 23 of 53

SBR Exam (S/D 2021 Q4 Part A)

Explain the principles of good disclosure which should be used to inform investors regarding the
company’s holding of crypto assets. (6 marks)

ANSWER

There is significant interest in crypto assets with implications for both new and traditional investors.
There is a growing need for clarity regarding the accounting and related disclosures relating to these
new investments.

General Discussion

The general disclosure principles which should be used to help investors can include that the
disclosures should be entity-specific as information tailored to an entity’s own circumstances is more
useful than generic information which is readily available outside the financial statements.

Thus, detailed information concerning the company’s holding of crypto assets and initial coin
offerings (ICO) should be disclosed. The company’s involvement in ICOs or other issues of crypto
assets should be described as simply and directly as possible without a loss of material information
and without unnecessarily increasing the length of the financial statements.

Additionally, the information disclosed should be organised in a way which highlights important
matters which includes providing disclosures in an appropriate order and emphasising the important
matters within them. It is important that the terms of an ICO are disclosed so that investors can
determine the rights associated with it.

The information about crypto assets should be linked when relevant to other information in the
financial statements or to other parts of the annual report to highlight relationships between pieces
of information and improve navigation through the financial statements.

Specific Discussion

1. Commodity broker-traders holding crypto assets as inventory at fair value less costs to sell, in
addition to the general IAS 2 Inventories requirements, will need to disclose the carrying
amount of such inventories carried at fair value less costs to sell.
2. In addition, IFRS 13 Fair Value Measurement disclosure requirements for recurring fair value
measurements would also apply. The information about crypto assets should be provided in a
way which optimises comparability among entities and across reporting periods without
compromising the usefulness of the information.
3. Holders of crypto assets classified as intangible assets under IAS 38 Intangible Assets will need
to disclose, by class, a reconciliation between the opening and closing carrying amounts,
whether the useful life is assessed as indefinite, and, if so, the reasons supporting the
indefinite useful life assessment, and a description of individually material holding.
4. Finally, the proper application of materiality is key to determining what information to
disclose. The judgemental nature of materiality assessments could lead to entities omitting
useful information concerning crypto assets from the financial statements. Similarly,
difficulties in exercising judgement around materiality could contribute to ‘disclosure
overload’.
 Page 24 of 53

CROWD FUNDING
Understanding about topic

Crowd-funding is the funding of a new start-up or project by collecting cash from a variety of
individuals/entities often via the Internet.
There are 4 common ways of raising funds:

1. Equity-based crowd-funding: The equity-based approach is targeted at investors who receive

shares in the new company.
2. Debt-based crowd-funding: With debt-based crowdfunding, a contributor makes a loan to a
business that’s looking to crowdfund, with the intention of subsequently being repaid with
interest.
3. Reward-based crowd-funding: This involves promising specific items (rewards) to
contributors before the launch of a new project, product, or business. A reward-based
campaign isn’t generally targeted at contributors who are looking to profit from their
investment but at those who want to own a new product.
4. Donation-based crowd-funding: Contributors make 'donations' to a project or company and
may receive existing ‘rewards’ in return. Some forms of donation-based crowd-funding don’t
involve any sort of reward as donors wish to contribute to further a particular cause.

Accounting Implications
Using the question scenario, candidates would be expected to breakdown a scenario and understand
the information provided – ie candidates may not have considered the crowdfunding context before,
however, they should be able to understand the accounting implications of the four options above.

They should be able to apply their knowledge to the context provided; for example,

1. If the crowd-fund is considered to be a debt instrument it will fall within the scope of IFRS
9, Financial Instruments.
2. If it gives rise to an issue of capital, it will fall within the scope of IAS 32, Financial Instruments
Presentation.
3. If the crowdfunding campaign involves the issuing of ‘rewards’, then IFRS 15, Revenue from
Contracts with Customers, should be used to determine when to recognise revenue. For each
performance obligation, the company will need to determine whether the performance
obligation is satisfied over time (i.e. control of the good or service transfers to the customer
over time). If one or more of the criteria in IFRS 15 are met, then the company recognises
revenue over time. If none of the criteria is met, then control transfers to the customer at a
point in time and the company recognises revenue at that point in time. However, if the
 Page 25 of 53

company cannot reasonably measure the outcome but expects to recover the costs incurred
in satisfying the performance obligation, then it recognises revenue to the extent of the costs
incurred.

EXAMPLE:

On 1 September 20X9, Burnett Co decided to undertake a crowd-funding campaign to finance the

production of a new racing bike, the Cracken. They made a short film with famous cyclists which set
out the qualities of the Cracken bike and posted it on the Peddle Starter crowd-funding platform. The
campaign raised $4 million on which Peddle Starter charged 7% commission. The contributors to the
crowd-funding campaign were promised a reward of 1 Cracken bike for every $4,000 dollars
contributed.

At the financial year end of 31 December 20X9, Burnett Co had manufactured only 50 Cracken bikes
at a total cost of $240,000 but none had been delivered to contributors. There was some doubt as to
the capability of the company to develop, manufacture, and deliver the bikes promised but Burnett
Co is sure that the funding will cover any costs incurred.

SUGGESTED ANSWER:

IFRS 15, Revenue from Contracts with Customers, should be used to determine when to recognise
revenue.
At 31 December 20X9, it is difficult to know what the outcome will be as only 50 bikes have been
manufactured out of a promised 1000 bikes ($4 million/$4000) and there is a doubt as to whether the
company has the capability to develop, manufacture, and deliver the bikes promised. However,
Burnett Co expects to recover the costs incurred in satisfying the performance obligation, thus it will
recognise revenue to the extent of the costs incurred to date $520,000 ($240,000 + commission
$280,000) as at 31 December 20X9. The balance remaining from the crowd funded amount will be
shown as accrued revenue in the financial statements ($3,480,000). The commission ($280,000)
would be charged against profit or loss for the period.

Student Guidance
Many SBR candidates may now have some extra time to reflect and rethink values, concerns and
routines, one of which may be their approach to study. It may be a time to not focus on accounting
techniques but on accounting principles, to maybe read around the subject and gain an
understanding of what lies behind it. Remember the following:

1. The importance of a robust conceptual framework

2. An understanding that rules will not be able to cover all situations
3. Use of reasonable judgement is always needed in the decision-making process
 Page 26 of 53

INITIAL COIN OFFER (ICO)

Understanding about topic

In an ICO (also called a ‘token sale’), instead of receiving shares, participants (also known as
Investor/supporters) receive (buy) ‘tokens’ and, instead of paying cash, participants often pay in
crypto-currency. They are similar in many ways to crowd-funding but for their ‘support’ they receive a
reward – i.e. the tokens. The tokens are a digital asset based on the same logic as cryptocurrencies,
like Bitcoin.

Although the tokens have no inherent value, if the ICO is successful, these new tokens will become
valuable and a market to trade them will subsequently develop. (Tokens can become valuable and can
often be traded on a crypto exchange). If unsuccessful, then the tokens would have no value.
ICOs raise money by issuing a ‘white paper’ that provides details of the proposed venture. This may
be the development of a new app or product or service; for example, the development of an app to
subsequently support the trade of the tokens.

There are ethical issues for accountants because the white paper may not properly represent the
nature of the offer. For example, unrealistic forecasts or factual inaccuracies.
ICOs are largely unregulated, allowing companies to bypass the regulated and lengthy process of
raising finance through a bank. The tokens are usually issued in exchange for either conventional
currency or crypto-currency. As the ICO issues a token, rather than shares, they are not considered to
be a securities offering, so the associated regulation and controls have not been applied.

TOKEN HOLDER

The tokens received might entitle the holder to crypto-currencies, or they might be utility tokens
(which provide users with access to a product or service) or security tokens (which might provide an
economic stake in an entity, or the right to receive cash or assets in the future).

For more information, you could read the following article about cryptocurrencies and ICOs. It was
written by the Strategic Business Leader examining team but is still relevant for this paper:

https://bit.ly/3czPCMb
 Page 27 of 53

Accounting Implications:
Accounting implications with 2 perspectives:
1. Raising funds by ICO
2. ICO as Business Model

When an entity raises funds in this way, it will record the receipt of an asset as the debit entry (this
might be cash or a different cryptocurrency, such as Bitcoins). However, the key consideration is
determining the credit entry that should be posted. This is dependent on the nature of the tokens
issued. Possibilities include:
 Financial liability – the reporting entity might be contractually obligated to deliver cash or
another financial asset to the holder of the tokens.
 Equity – the holder of the token issued through the ICO may be entitled to payments out of
distributable reserves. This would qualify as equity if the reporting entity was under no
contractual obligation to deliver cash or another financial asset.
 Revenue – this might apply if the recipient was a customer and if a ‘contract’ (per IFRS 15
Revenue from Contracts with Customers) exists.
 None of the above – if there is a legal or constructive obligation to the subscriber then a
provision should be recognised in accordance with IAS 37 Provisions, Contingent Liabilities
and Contingent Assets. If an entity determines that no specific IFRS Standard applies to its
issued tokens, then it should refer to IAS 8 Accounting Policies, Changes in Accounting
Estimates and Errors in order to develop an appropriate accounting policy. This will require
reference to the Conceptual Framework.

During the preparation for the ICO, the costs should be recognized as expenses if they don’t satisfy
the requirements for recognition of intangible assets in accordance with IAS 38, Intangible Assets.
Following the circulation of the tokens, the issuing company generally loses control of the market of
these tokens. However, if the issuer is able to get further economic benefits from token holders by
providing them with intermediary or similar services that are not related to the subsequent sale of
uncirculated tokens, then the costs may satisfy the requirements of IAS 38.

Examples may be the management of the platform supporting the market of circulated tokens by
annulling purchased tokens or changing the content of smart contracts (a computer program that
executes, controls and documents legal events).

If all inflows received for tokens are in excess of the expenses of the initial ICO and are not related to
further commitments to holders of tokens, such further inflows are considered as revenue by the
issuer.

Sometimes the rights given to the token holders may be similar to the rights of the holders of debt,
equity instruments or other financial instruments. For example, the issuer may contract to pay a fixed
amount of annual profits to the token holder but not to redeem the tokens. At the initial recognition,
such a right is recorded as a contingent liability, the value of which depends on a future uncertain
event – ie the annual profit margin. During the reporting period, the liability should be increased as
the issuer earns profits.
 Page 28 of 53

Alternatively, the issuer may commit to the holders of tokens to pay annual interest based upon the
fair value of a cryptocurrency. Such a liability should be recognised as a financial derivative.
Revenue recognition in accordance with IFRS 15, Revenue from Contracts with Customers is based on
the transfer of control. Control is defined as the ability to direct the use of and obtain substantial
control over the remaining benefits associated with the asset. The issuer therefore needs to
determine if the transfer of control happens over time.

If control happens over time, revenue cannot be recognised in full at the time of the initial ICO sale.
Instead, it must be recognised as the performance obligation is satisfied. This will most likely occur if
the token is presented to the issuer for redemption into goods or services, such as granting access to
software.

Self Attempt Question (With CBE Platform)

SBR EXAM: S/D 2021 (SYMBAL CO.)

PART B, C & D
 Page 29 of 53

Management Commentary: Practice Statement 1

Definition of management commentary

Management commentary: a narrative report that relates to financial statements that have been
prepared in accordance with IFRSs. Management commentary provides users with historical
explanations of the amounts presented in the financial statements, specifically the entity's financial
position, financial performance and cash flows. It also provides commentary on an entity's prospects
and other information not presented in the financial statements. Management commentary also
serves as a basis for understanding management's objectives and its strategies for achieving those
objectives.

IFRS Practice Statement 1 Management Commentary

The IFRS Practice Statement is a non-binding guidance document rather than an IFRS.
It is intended to be applied by entities that present management commentary that relates to financial
statements prepared in accordance with IFRSs. It is designed for publicly traded entities, but it is left
to regulators to decide which entities are required to publish management commentary and how
frequently they should report.
This approach avoids the adoption hurdle, i.e. that the perceived cost of applying IFRSs increases.
This perceived extra cost could dissuade jurisdictions/countries that have not already adopted IFRS
from requiring its adoption, especially where IFRS requirements differ significantly from existing
national requirements.

Principles for the preparation of management commentary

Management should present commentary that is consistent with the following principles from the
IFRS Practice Statement:
1. To provide management's view of the entity's performance, position and progress; and
2. To supplement and complement information presented in the financial statements.

In aligning with these principles, management commentary should include:

1. Forward-looking information (including prospective results); and

2. Information that possesses the qualitative characteristics described in the Conceptual
Framework for Financial Reporting.
Presentation

The form and content of management commentary will vary between entities, reflecting the nature
of their business, the strategies adopted by management and the regulatory environment in which
they operate.

Therefore, the Practice Statement 1 does not require a fixed format, nor does it provide application
guidance or illustrative examples, as this could be interpreted as a floor or ceiling for disclosures.
 Page 30 of 53

Elements of management commentary

The particular focus of management commentary will depend on the facts and circumstances of the
entity. However, the Practice Statement 1 requires a management commentary to include
information that is essential to an understanding of:
1. The nature of the business
2. Management's objectives and its strategies for meeting those objectives
3. The entity's most significant resources, risks and relationships
4. The results of operations and prospects
5. The critical performance measures and indicators that management uses to evaluate the
entity's performance against stated objectives.

The IFRS Practice Statement 1: Management Commentary has provided a table relating the five
elements to its assessments of the needs of the primary users of a management commentary (existing
and potential investors, lenders and creditors).

ELEMENTS USER BENEFITS

Nature of the business The knowledge of the business in which an entity is engaged and the
external environment in which it operates

Objectives and strategies To assess the strategies adopted by the entity and the likelihood that
those strategies will be successful in meeting management's stated
objectives

Resources, risks and A basis for determining the resources available to the entity as well as
relationships obligations to transfer resources to others; the ability of the entity to
generate long-term sustainable net inflows of resources; and the risks
to which those resource-generating activities are exposed, both in the
near term and in the long term

Results and prospects The ability to understand whether an entity has delivered results in
line with expectations and, implicitly, how well management has
understood the entity's market, executed its strategy and managed
the entity's resources, risks and relationships

Performance measures and The ability to focus on the critical performance measures and
indicators indicators that management uses to assess and manage the entity's
performance against stated objectives and strategies.

The IFRS Practice Statement is a non-binding guidance document rather than an IFRS.
 Page 31 of 53

Advantages and disadvantages of a compulsory management commentary?

ADVANTAGES DISADVANTAGES

Entity Entity
 Promotes the entity, and attracts  Costs may outweigh benefits
investors, lenders, customers and  Risk that investors may ignore the
suppliers financial statements
 Communicates management plans and
outlook
Users Entity
 Financial statements not enough to Costs may outweigh benefits
make decisions (financial information Risk that investors may ignore the financial
only) Statements
 Financial statements backward looking
(need forward looking information)
 Highlights risks
 Useful for comparability to other
entities

Link to Conceptual Framework

The Practice Statement 1 states that management commentary should include information that
possesses the qualitative characteristics of useful financial information.

 The fundamental qualitative characteristics are relevance and faithful representation.

 The enhancing qualitative characteristics are understandability, verifiability, comparability
and timeliness.

RELEVANCE

Management commentary provides users with information about risk management, as well as the
extent to which current performance may be indicative of future performance. This forward-looking
information is relevant because it helps users to make decisions about whether to hold or sell
investments in an entity.

To enhance relevance, management commentary should include material information and should
focus on the most important information. Generic information is not relevant and should be avoided.

UNDERSTANDIBILITY
To maximise understandability, management commentary should be presented in a clear and
straightforward manner.

COMPARABILITY
When selecting key performance measures, management should use those that are accepted and
used widely within the industry. This will enable users to draw comparisons between entities.
Management should calculate and report performance measures consistently over time, thus
enabling users to compare the performance of the entity year-on-year.
 Page 32 of 53

VERIFIBILITY
If information from the financial statements is adjusted for inclusion in management commentary
then this fact should be disclosed. Financial performance measures should be reconciled to the
figures in the financial statements. Users are therefore able to verify the nature of the calculations.
They can also assess whether the performance measures included offer a faithful presentation of the
entity’s financial performance and position.

SBR EXAMS: DECEMBER 2018 Q4 PART A (HOLLS)

The IFRS Practice Statement Management Commentary provides a broad, non-binding framework for
the presentation of management commentary which relates to financial statements which have been
prepared in accordance with IFRS Standards. The management commentary is within the scope of the
Conceptual Framework and, therefore, the qualitative characteristics will be applied to both the
financial statements and the management commentary.

Required:
(i) Discuss briefly the arguments for and against issuing the IFRS Practice Statement
Management Commentary as a non-binding framework or as an IFRS Standard. (4 marks)

(ii) Discuss how the qualitative characteristics of understandability, relevance and

comparability should be applied to the preparation of the management commentary. (5
marks)

Answer Part (i)

The IFRS Practice Statement Management Commentary provides a broad, non-binding framework for
the presentation of management commentary. The Practice Statement is not an IFRS Standard.
Consequently, entities applying IFRS Standards are not required to comply with the Practice
Statement, unless specifically required by their jurisdiction. Furthermore, non-compliance with the
Practice Statement will not prevent an entity’s financial statements from complying with IFRS
Standards.

It can be argued that the International Accounting Standards Board’s (the Board) objectives of
enhancing consistency and comparability may not be achieved if the framework is not mandatory. A
standard is more likely to guarantee a consistent application of the principles and practices behind
the management commentary (MC).

However, it is difficult to create a standard on the MC which is sufficiently detailed to cover the
business models of every entity or be consistent with all IFRS Standards. Some jurisdictions take little
notice of non-mandatory guidance but the Practice Statement provides regulators with a framework
to develop more authoritative requirements.

The Practice Statement allows companies to adapt the information provided to particular aspects of
their business. This flexible approach could help generate more meaningful disclosures about
resources, risks and relationships which can affect an entity’s value and how these resources are
managed. It provides management with an opportunity to add context to the published financial
information, and to explain their future strategy and objectives without being restricted by the
constraints of a standard.
 Page 33 of 53

If the MC were a full IFRS Standard, the integration of management commentaries and the
information produced in accordance with IFRS Standards could be challenged on technical grounds, as
well as its practical merits. In addition, there could be jurisdictional concerns that any form of
integration might not be accepted by local regulators.

Answer: Part (ii)

The Framework states that ‘an essential quality of the information provided in financial statements is
that it is readily understandable by users’. The MC should be written in plain language and a style
appropriate to users’ needs. The primary users of management commentary are those identified in
the Conceptual Framework. The form and content of the MC will vary between entities, reflecting the
nature of their business, the strategies adopted and the regulatory environment in which they
operate. Users should be able to locate information relevant to their needs.

Information has the quality of relevance when it has the capacity to influence the economic decisions
of users by helping them evaluate past, present or future events or confirming, or correcting, their
past evaluations. Relevant financial information is capable of making a difference to the decision
made by users. In order to make a difference, financial information has predictive value, confirmatory
value or both. The onus is on management to determine what information is important enough to be
included in the MC to enable users to ‘understand’ the financial statements and meet the objective of
the MC. If the entity provides too much information, it could reduce its relevance and
understandability. If material events or uncertainties are not disclosed, then users may have
insufficient information to meet their needs.

However, unnecessary detail may obscure important information especially if entities adopt a boiler-
plate approach. If management presents too much information about, for example, all the risks facing
an organisation, this will conflict with the relevance objective. There is no single optimal number of
disclosures but it is useful to convey their relative importance in a meaningful way.

Comparability is the qualitative characteristic which enables users to identify and understand
similarities and differences amongst items. It is important for users to be able to compare information
over time and between entities. Comparability between entities is problematic as the MC is designed
to reflect the perspectives of management and the circumstances of individual entities. Thus, entities
in the same industry may have different perceptions of what is important and how they measure and
report it. There are some precedents on how to define and calculate non-financial measures and
financial measures which are not produced in accordance with IFRS Standards but there are
inconsistencies in the definition and calculation of these measures.

It is sometimes suggested that the effectiveness of the overall report may be enhanced by
strengthening the links between financial statements and the MC. However, such suggestions raise
concerns about maintaining a clear distinction between the financial statement information and other
information.

An entity should ensure consistency in terms of wording, definitions, segment disclosures, etc
between the financial statements and the MC to improve the understanding of financial performance.
 Page 34 of 53

Making Materiality: Judgement

Exposure Drafts
ED/2019/6 Disclosure of Accounting Policies (Proposed
amendments to IAS 1 and IFRS Practice Statement 2)
Published on August 1, 2019

BACKGROUND

Materiality as a concept is used widely in financial reporting. However, the

Board accepts that further guidance is needed on how to apply it to the preparation and
interpretation of financial statements.

The IASB issued proposed amendments to IAS 1 ED/2019/6 Disclosure of Accounting Policies and IFRS
Practice Statement 2 (the ED).
Disclosure of Accounting Policies (ED 2019/6)

IAS 1 Presentation of Financial Statements

Currently IAS 1 requires companies to disclose SIGNIFICANT accounting policies. This has, in some
cases, led to an excess of disclosure, causing investor confusion, and a lack of understandability.

IASB Proposed amendment require an entity to disclose its ‘material’ accounting policies rather than
those that are ‘significant’.
Material accounting policies would include those:
1. They have changed in the year
2. That are selected from a standard that gives a choice – e.g. Investment Properties can be
measured using the cost or valuation models
3. Where there is no accounting standard

The proposed amendments are intended to help entities provide accounting policy disclosures that
are more useful to primary users of financial statements.
Moreover proposed amendments also support entities to:

 Identify and disclose all accounting policies that provide material information to primary users
of financial statements; and
 Identify immaterial accounting policies and eliminate them from their financial statements.
 Page 35 of 53

IASB PRACTICE STATEMENT 2 MAKING MATEERIALITY JUDGEMENT

To support the proposed amendments to IAS 1, the IASB also proposes amending the practice
statement to illustrate how an entity could judge whether information about an accounting policy is
material to its financial statements.

The Practice Statement provides guidance on how to use judgement when selecting information to
provide in financial statements prepared applying IFRS Standards.

Some companies were unsure about how to make material judgements which can result an excessive
disclosure of immaterial information while important information can be obscured (dubious) or even
missed out of the financial statements.

There is some concern that company accounts may have excessive disclosure, so that users can
no longer ‘see the wood for the trees’. Information disclosed in the notes where it appears that IFRS
disclosure requirement as ‘checklist’ and therefore provide all disclosures, either material or not.

The aim of the IASB in issuing this practice statement 2 is to encourage greater application of
judgement about materiality for the preparation of financial statements.
It is a non-mandatory document and the companies are permitted to apply to financial statements
prepared any time after 14 September 2017.

PRACTICE STATEMENT 2 – GUIDANCE SUMMARY

The definition of material information:

Definition by Conceptual Framework for Financial Reporting:

Information is material if omitting it or misstating it could influence decisions that users make on the
basis of financial information about a specific reporting entity.

IASB exposure draft that proposes minor amendments:

Information is material if omitting, misstating or obscuring it could reasonably be expected to

influence decisions that the primary users of a specific reporting entity’s general purpose financial
statements make on the basis of those financial statements.

Key changes of the terms:

‘Primary users’ rather than the existing definition’s ‘users’.

 Page 36 of 53

Primary users: existing and potential investors, lenders and other creditors – in other words, users
who cannot require entities to provide information directly to them and so must rely on financial
statements for much of their information.

Omitting, Misstating or Obscuring

The Board are proposing to expand this definition to say that an item is also material if obscuring it
would influence the economic decisions of financial statement users.

MATERIAL JUDGEMENT REQUIREMENT FOR FINANCIAL REPORTING

The objective of financial statements is to provide useful information about the reporting entity to
existing and potential investors, lenders and other creditors to help them make decisions about
providing resources to that entity. This requires that the preparers of the financial information make
materiality judgements.

When assessing whether information is material, an entity should consider:

Quantitative factors – measures of revenue, profit, assets, and cash flows

Qualitative factors – related party transactions, unusual transactions, geography, and wider economic
uncertainty.

Materiality judgements are relevant to recognition, measurement, presentation and disclosure

decisions.

Recognition and measurement

An entity only needs to apply the recognition and measurement criteria in an IFRS Standard when the
effects are material.

Example - Recognition criteria

An entity buys fixtures and fittings that are in the scope of IAS 16 Property, Plant and Equipment
(PPE). IAS 16 stipulates that the cost of an item of PPE should be recognised as an asset. However, to
save time, the entity decides that expenditure on fixtures and fittings costing below $1,000 should be
written off to profit or loss. As long as the impact of this policy is not material, the entity’s financial
statements will still comply with IAS 16.

Presentation and disclosure

An entity only needs to apply the disclosure requirements in an IFRS Standard if the resulting
information is material.

The entity may need to provide additional information, not required by an IFRS Standard, if necessary
to help financial statement users understand the financial impact of its transactions during the period.
Disclosure requirements
IAS 16 requires disclosure of an entity’s contractual commitments to purchase PPE.
If such commitments are immaterial, then the disclosure is not required.
 Page 37 of 53

MATERIALTY ASSESSMENT BASED ON “PRIMARY USERS”

Materiality judgements must be based on the needs of the primary users of financial statements. The
primary users are current and potential investors, lenders and creditors.

INFORMATION NEEDS

Financial statements cannot meet all of the information needs of the primary users. However, entity
should aim to meet common information needs for each group of primary users (e.g. investors,
lenders, other creditors).

Example 1

If GT, a football club reporting under IFRS Standards, were owned by 20 investors, each holding 5% of
the voting rights, one of those investors might be interested in GT marketing expenditure in a specific
location, as the investor operates another business in that location.

Thus, in applying its materiality judgments, GT FC would not need to consider the specific information
needs of a single investor, and could rightly conclude that a particular item of information is
immaterial for its primary users as a group (not required as a common information).

It would therefore not need to furnish this information in its financial statements.

When assessing whether information is material to the financial statements, an entity’s decision
should not be affected by that information being available from other sources. The public availability
of information does not relieve an entity of the obligation to provide material information in its
financial statements.

Example 2

If GT FC acquired a football club overseas in the period and sent out a press release detailing extensive
information regarding the acquisition, this would not exempt it from disclosing that information again
in its financial statements. GT would still be required to comply with IFRS 3, Business Combinations,
and make the requisite disclosures, regardless of whether the information has already been made
available in the press release.

An entity may also consider the requirements of local laws and regulations in its materiality
judgments. It can provide more information than required by IFRS Standards, as long as that does not
obscure items deemed material by IFRS Standards.

An entity may not provide less information than required under IFRS Standards, even if local
regulation allows it.
 Page 38 of 53

MATERIALITY JUDGEMENT PROCESS

The IASB’s practice statement recommends a systematic process when making materiality
judgements:

Step 1: Identify

Identify information that could be material for primary users.

The entity should consider the common information needs of its primary users. Application of IFRS
also meets this requirement as IASB considers information requirements of users in developing IFRSs.

Output = set of potential material information

In our example, Grimtown will have identified a set of potentially material information.

Step 2: Assess

Assess whether the information identified in step 1 is really material by size and nature. This
assessment involves quantitative and qualitative considerations.

The output of step 2 is a preliminary set of material information.

Quantitative factors include the size of the impact on the transaction or event, as well as the size of
any unrecognised items, such as contingent assets or liabilities. There could also be factors that do
not have a significant size impact on the financial statements, but might have an impact on similar
entities in the industry (see Example 3).

Example 3 Most football clubs within GT league receive significant funding from the government to
operate youth programmes. The government announces that this funding will be removed, potentially
leading to significant going concern risks for numerous football clubs. GT has received very little
funding from the government, so faces no such risk, but the information that GT is not exposed to
these future funding issues is useful to primary users, even though it does not constitute a significant
amount in the financial statements.

Qualitative factors are those that make information more likely to influence the decisions of the
primary users. These can include transactions with related parties, uncommon transactions or
unexpected variations in trends.
 Page 39 of 53

While there is no hierarchy among materiality factors, it may be efficient to consider an item from a
quantitative perspective before assessing the presence of qualitative factors.

Example 4 GT FC has identified profitability measures as those of greatest interest to its primary users.
During the year, it signed a three-year contract with Foodtown, a catering company, to provide
catering services at all its matches during the year. The amount of the total expense is not material.
The catering company is owned by a key management executive of Grimtown, so it represents a
related party.

From a quantitative perspective, the agreement is not material. Grimtown concluded that the
qualitative threshold is material because the transaction was with a related party. The impact of the
transaction also expected to influence primary users’ decisions, and should be disclosed the
transaction accordingly.

In highlighting these issues, the IASB is reinforcing the idea that judgment is required in the
assessment of materiality.

Items such as Example 5 also reassert the IASB’s position that IFRS Standards requirements need only
be applied if their effect is material in the complete set of financial statements.

Example 5 GT FC sold an old ticket-printing machine to Funtown, another company owned by a key
management executive, which makes it a related party. The machine was almost fully depreciated and
was transferred at an amount consistent with its market value and carrying amount.

From a quantitative perspective, the transaction is not material - GT concluded the qualitative
threshold was lowered because the transaction was with a related party.
However, in this case, it deemed the impact too small to reasonably be expected to influence primary
users’ decisions. It therefore assessed the information about the transaction as immaterial and did not
disclose it in the financial statements.

Step 3: Organise

Organise the information in a way that communicates clearly and concisely to primary users.

The output of step 3 is the draft financial statements.

Step 4: Review

Review the draft financial statements to determine if any information need to ba added or deleted.
 Page 40 of 53

The output of step 4 is the final financial statements.

An entity needs to assess whether information is material both individually and in combination with
other information in the context of its financial statements as a whole.

This review gives the entity the opportunity to step back and consider the information from a wider
perspective and in aggregate.

TOPIC CONCLUSION

In producing this practice statement and an exposure draft on the definition of materiality, the IASB
has attempted to clarify the need for judgment in conjunction with the specific requirements of
individual IFRS Standards. It reinforces the current focus of the IASB to look at disclosures within the
financial statements as much as looking at specific accounting standards.
 Page 41 of 53

PRACTICE QUESTIONS

SBR Specimen 2 (Q2 – B) – Calendar

The new accountant has been reviewing Calendar’s financial reporting processes. She has
recommended the following:

All purchases of property, plant and equipment below $500 should be written off to profit or loss. The
accountant believes that this will significantly reduce the time and cost involved in maintaining
detailed financial records and producing the annual financial statements.

A checklist should be used when finalising the annual financial statements to ensure that all disclosure
notes required by specific IFRS and IAS Standards are included.

Required:
With reference to the concept of materiality, discuss the acceptability of the above two proposals.

Note: Your answer should refer to IFRS Practice Statement: Making Materiality
Judgements. (10 marks)

ANSWER

Property, plant and equipment (PPE)

IAS 16 Property, Plant and Equipment states that expenditure on PPE should be recognised as an asset
and initially measured at the cost of purchase. Writing off such expenditure to profit or loss is
therefore not in accordance with IAS 16.

According to IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors, financial
statements do not comply with IFRS if they contain material errors, or errors made intentionally in
order to present the entity’s financial performance and position in a particular way. However,
assuming that the aggregate impact of writing off small PPE purchases to profit or loss is not material,
then the financial statements would still comply with IFRS.

Moreover, this decision seems to be a practical expedient which will reduce the time and cost
involved in producing financial statements, rather than a decision made to achieve a particular
financial statement presentation.

If implemented, this policy must be regularly reassessed to ensure that PPE and the statement of
profit or loss are not materially misstated.

Disclosure Notes

IAS 1 Presentation of Financial Statements states that application of IFRS Standards in an entity’s
financial statements will result in a fair presentation. As such, the use of a checklist may help to
ensure that all disclosure requirements within IFRS Standards are fulfilled. However, IAS 1 and the
Practice Statement Making Materiality Judgements both specify that the disclosures required by IFRS

Standards are only required if the information presented is material. The aim of disclosure notes is to
 Page 42 of 53

further explain items included in the primary financial statements as well as unrecognised items (such
as contingent liabilities) and other events which might influence the decisions of financial statement
users (such as events after the reporting period). As such, Calendar should exercise judgement about
the disclosures which it prepares, taking into account the information needs of its specific
stakeholders. This is because the disclosure of immaterial information clutters the financial
statements and makes relevant information harder to find.

Calendar may also need to disclose information in addition to that specified in IFRS Standards if
relevant to helping users understand its financial statements.

Practice Question: Management Commentary

The directors of Carsoon are committed to producing high quality reports that enable its investors to
assess the performance and position of the business. They have heard that the Board has published a
Practice Statement on management commentary. However, they are unsure what is meant by
management commentary, and the extent to which it provides useful information.

Required:
Discuss the nature of management commentary and the extent to which it embodies the qualitative
characteristics of useful financial information (as outlined in the Conceptual Framework).

ANSWER

Management Commentary:

Management commentary is a narrative report in which management provide context and

background against which stakeholders can assess the financial position and performance of a
company. It is not mandatory to produce a management commentary. However, if entities produce a
management commentary then it should include information that is essential to an understanding of:
 The nature of the business
 Management’s objectives and its strategies for meeting those objectives
 The entity’s resources, risks and relationships
 The results of operations and prospects, and
 The key performance measures that management use to evaluate the entity’s performance.

Management commentary should include forward-looking information. The commentary should be

entity-specific, rather than generic.

Link to Conceptual Framework:

The Practice Statement states that management commentary should include information that
possesses the qualitative characteristics of useful financial information. The fundamental qualitative
characteristics are relevance and faithful representation. The enhancing qualitative characteristics are
understandability, verifiability, comparability and timeliness.

Management commentary provides users with information about risk management, as well as the
extent to which current performance may be indicative of future performance. This forward-looking
 Page 43 of 53

information is relevant because it helps users to make decisions about whether to hold or sell
investments in an entity.

To enhance relevance, management commentary should include material information and should
focus on the most important information. Generic information is not relevant and should be avoided.
To maximise understandability, management commentary should be presented in a clear and
straightforward manner.

When selecting key performance measures, management should use those that are accepted and
used widely within the industry. This will enable users to draw comparisons between entities.
Management should calculate and report performance measures consistently over time, thus
enabling users to compare the performance of the entity year-on-year.
 Page 44 of 53

SUSTAINABLE REPORTING:
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https://www.accaglobal.com/ie/en/student/exam-support-resources/professional-exams-study-
resources/strategic-business-reporting/technical-articles/sustainability-reporting.html

https://www.accaglobal.com/uk/en/student/exam-support-resources/professional-exams-study-
resources/strategic-business-reporting/technical-articles/sdgs.html

SBR Exam S/D 21

Investor need to understand a variety of factors when making an investment decision. The
nature of the companies in which they are looking to invest is an important consideration, as
is the need to incorporate sustainability factors into investment decisions.
Discuss why sustainability has become an important aspect of the investors’ analysis of companies.
(4 Marks)
Answer

Investor Perspective

Sustainability has become an increasingly crucial aspect of investing. There is a growing recognition
that sustainability can have a significant effect on company financial performance. Investors are
increasingly integrating consideration of sustainability issues and metrics into their decision-making.
Investors require a better understanding of the wider social and environmental context in which the
business operates. This creates a greater trust and credibility with investors and a reduced risk of
investors using inaccurate information to make decisions about the company.

Investors have shown an appetite for products which recognise and reflect the relationship between
their investments and social and environmental conduct. Investors need to completely understand
the nature of the companies in which they are looking to invest and need to incorporate material
sustainability factors into investment decisions. They need to understand whether there are material
risks or opportunities connected with sustainability factors which do not appear in traditional financial
reports.

Their materiality will differ from sector to sector, industry to industry. Sustainability is often unique to
the sector. This analysis can be the deciding factor between otherwise identical companies. If the
company is viewed poorly based on its sustainability performance, it could lead to a non-investment
decision. The increasing availability of data from companies offers the opportunity for rating and
ranking analysis, as well as observing trends. These advances have led to the quantitative application
of sustainability data in investment analysis and decision making. Companies need a greater
knowledge of investor needs and perspectives to help make reporting more relevant to investors and
to clearly communicate the financial value of the company’s sustainability efforts.
 Page 45 of 53

THE IMPACT OF ETHICAL,

ENVIRONMENTAL AND SOCIAL FACTORS
Entity behaviour

Many investors will not financially support entities that they perceive to be unethical or harmful to
the environment. Some will only invest in entities that meet the very highest ethical standards, even if
this means achieving a low overall return.
Factors which may be of interest to investors include:
 Animal welfare – does the entity test its products on animals?
 Arms – does the entity, or any entities within its group, manufacture or supply weapons?
 Emissions – does the entity monitor and take steps to reduce harmful emissions, such as
carbon dioxide?
 Energy – is the entity committed to using renewable energy?
 Marketing – does the entity use irresponsible or offensive marketing strategies?
 Remuneration – what is the gap between the highest and lowest paid employees?
 Supply chain management – are goods and services only purchased from entities that have
high ethical standards?
 Tax – does the entity use tax avoidance schemes?
 Transparency – does the entity make enhanced disclosures about its social and environmental
impact?
 Treatment of workers – are working conditions safe and humane?

Investors will prioritise these issues to different degrees.

Reporting

Entities often provide this information in additional reports, such as:

 environmental reports
 social reports
 sustainability reports
 integrated reports.

A range of nonfinancial reporting standards have been published in recent years to guide preparers of
such reports.

Ethical behaviour and profit

Entities that pay employees higher
 Page 46 of 53

SBR Exams

March 2020: Q 4(A) – 8 Marks

The current developments in sustainability reporting show that there is a global trend towards more
extensive and more meaningful narrative reporting. The improvements in the quality and scope of
reporting are driven by both regulatory demands and market demands for transparency. ‘Sustainable
investing’ describes an approach to investment where environmental, social or governance (ESG)
factors, in combination with financial considerations, guide the selection and management of
investments.

Required: Discuss why the disclosure of sustainable information has become an important and
influential consideration for investors. (8 marks)

Answer

There is increasing interest by investors in understanding how businesses are developing

environmental, social or governance (ESG) goals. The positioning of the ESGs in relation to the overall
corporate strategies is information which investors feel is very relevant to the investment decision
which in turn will lead to capital being channelled to responsible businesses.
Sustainability practices will not all be equally relevant to all companies and investors’ expectations are
likely to focus on companies realising their core business activities with financial sustainability as a
prerequisite for attracting investment. Because institutional investors have a fiduciary duty to act in
the best interests of their beneficiaries, such institutions have to take into account sustainability
practices. Companies utilising more sustainable business practices provide new investment
opportunities. Investors realise that environmental events can create costs for their portfolio in the
form of insurance premiums, taxes and the physical cost related with disasters. Social issues can lead
to unrest and instability, which carries business risks which may reduce future cash flows and financial
returns.

Investors screen the sustainable policies of companies and factor the information into their valuation
models. Investors may select a company for investment based on specific policy criteria such as
education and health. Investors may evaluate how successful a company has been in a particular area,
for example, the reduction of educational inequality. This approach can help optimise financial
returns and demonstrate their contribution to sustainability. Investors increasingly promote
sustainable economies and markets to improve their long-term financial performance. However, the
disclosure of information should be in line with widely-accepted recommendations such as the Global
Reporting Initiative (GRI) and the UN Global Compact. Integrated reporting incorporates appropriate
material sustainability information equally alongside financial information, thus providing reporting
organisations with a broad perspective on risk.

Investors often require an understanding of how the directors feel about the relevance of
sustainability to the overall corporate strategy, and this will include a discussion of any risks and
opportunities identified and changes which have occurred in the business model as a result.
Investors employ screening strategies, which may involve eliminating companies which have a specific
feature, for example, low pay rates or eliminating them on a ranking basis. The latter may be on the
basis of companies which are contributing or not to sustainability. Investors will use related
disclosures to identify risks and opportunities on which they wish to engage with companies.
Investors will see potential business opportunities in those companies which address the risks to
people and the environment and those companies which develop new beneficial products, services
 Page 47 of 53

and investments which mitigate the business risks related to sustainability. Investors are increasingly
seeking investment opportunities which can make a credible contribution to the realisation of the
ESGs.

INTEGRATED REPORTING
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resources/strategic-business-reporting/technical-articles/integrated-report.html

What is the International Integrated Reporting Council?

The International Integrated Reporting Council (IIRC) was created to respond to the need for a
concise, clear, comprehensive and comparable integrated reporting framework. The IIRC define an
integrated report (IR) as 'a concise communication about how an organisation’s strategy, governance,
performance and prospects, in the context of its external environment, lead to the creation of value
in the short, medium and long term.' The IIRC believe that integrated reporting will contribute
towards a more stable economy and a more sustainable world.

What is the role of the IIRC?

The role of the IIRC is to:

 Develop an overarching integrated reporting framework setting out the scope of integrated
reporting and its key components
 Identify priority areas where additional work is needed and provide a plan for development
 Consider whether standards in this area should be voluntary or mandatory and facilitate
collaboration between standard-setters and convergence in the standards needed to
underpin integrated reporting; and
 Promote the adoption of integrated reporting by relevant regulators and report preparers.

Objective of the Framework

The IR Framework establishes 'guiding principles' and 'content elements' that govern the overall
content of an integrated report. This will help organisations to report their value creation in ways that
are understandable and useful to the users.
The IR Framework is aimed at the private sector, although could be adapted for use by charities and
the public sector.

The key users of an integrated report are deemed to be the providers of financial capital. However,
the report will also benefit employees, suppliers, customers, local communities and policy makers.
The Framework is principles based and therefore does not prescribe specific KPIs that must be
disclosed. Senior management need to use judgement to identify which issues are material. These
decisions should be justified to the users of the report.

Those charged with governance are not required to acknowledge their responsibility for the
integrated report. It was felt that such disclosures might increase legal liability in some jurisdictions
 Page 48 of 53

and therefore deter some companies from applying the IR Framework.

Fundamental concepts in the IR framework

An integrated report explains how an entity creates value over the short-, medium- and long-term. To
this extent, a number of fundamental concepts underpin the IR framework. These are:
 The capitals
 The organisation’s business model
 The creation of value over time.

The capitals are stocks of value that are inputs to an organisation’s business model. The capitals
identified by the IR Framework are financial, manufactured, intellectual, human, social and
relationship, and natural.

The capitals will increase, decrease or be transformed through an organisation’s business activities.
For example:
 The use of natural resources will decrease natural capital, making a profit will increase
financial capital.
 Employment could increase human capital through training, or reduce human capital through
unsafe or exploitative working practices.

Central to integrated reporting is the overall impact that a business has on the full range of capitals
through its business model.

The business model is a business' chosen system of inputs, business activities, outputs and outcomes
that aims to create value over the short, medium and long term.
 An integrated report must identify key inputs, such as employees, or natural resources. It is
important to explain how secure the availability, quality and affordability of components of
natural capital are.
 At the centre of the business model is the conversion of inputs into outputs through business
activities, such as planning, design, manufacturing and the provision of services.
 An integrated report must identify an organisation’s key outputs, such as products and
services. There may be other outputs, such as chemical byproducts or waste. These need to
be discussed within the business model disclosure if they are deemed to be material.
 Outcomes are defined as the consequences (positive and negative) for the capitals as a result
of an organisation’s business activities and outputs. Outcomes can be internal (such as profits
or employee morale) or external (impacts on the local environment).

Value is created over time and for a range of stakeholders. IR is based on the belief that the increasing
financial capital (e.g. profit) at the expense of human capital (e.g. staff exploitation) is unlikely to
maximize value in the longer term. IR thus helps users to establish whether short-term value creation
can be sustained into the medium- and long-term.

Guiding principles

The following Guiding Principles underpin the preparation of an integrated report.

 Strategic focus and future orientation – An integrated report should provide insight into the
organisation’s strategy; how it enables the organisation to create value in the short, medium
and long term; and its effects on the capitals.
 Page 49 of 53

 Connectivity of information – An integrated report should show a holistic picture of the

factors that affect the organisation’s ability to create value.
 Stakeholder relationships – An integrated report should provide insight into the nature and
quality of the organisation’s relationships with its stakeholders.
 Materiality – An integrated report should disclose information on matters that significantly
affect the organisation’s ability to create value.
 Conciseness – An integrated report should be concise.
 Reliability and completeness – An integrated report should be balanced and free from
material error.
 Consistency and comparability – The information in an integrated report should be
comparable over time, and comparable with other entities.

The content of an integrated report

An integrated report should include all of the following content elements:

 Organisational overview and external environment – ‘What does the organisation do and
what are the circumstances under which it operates?’
 Governance – ‘How does the organisation’s governance structure support its ability to create
value in the short, medium and long term?’
 Opportunities and risks – ‘What are the specific opportunities and risks that affect the
organisation’s ability to create value over the short, medium and long term, and how is the
organisation dealing with them?’
 Strategy and resource allocation – ‘Where does the organisation want to go and how does it
intend to get there?’
 Business model – ‘What is the organisation’s business model and to what extent is it
resilient?’
 Performance – ‘To what extent has the organisation achieved its strategic objectives and what
are its outcomes in terms of effects on the capitals?’
 Future outlook – ‘What challenges and uncertainties is the organisation likely to encounter in
pursuing its strategy, and what are the potential implications for its business model and
future performance?’
 Basis of presentation – 'How does the organisation determine what matters to include in the
integrated report and how are such matters quantified or evaluated?'

Including this content will help companies shift the focus of their reporting from historical financial
performance to longer-term value creation.
 Page 50 of 53

SBR Exams

September 2018: Q 4(B) – 10 Marks (IAS 38 Intangible Asset + Integrated Reporting)

External disclosure of information on intangibles is useful only insofar as it is understood and is

relevant to investors. It appears that investors are increasingly interested in and understand
disclosures relating to intangibles. A concern is that, due to the nature of disclosure requirements of
IFRS Standards, investors may feel that the information disclosed has limited usefulness, thereby
making comparisons between companies difficult. Many companies spend a huge amount of capital
on intangible investment, which is mainly developed within the company and thus may not be
reported. Often, it is not obvious that intangibles can be valued or even separately identified for
accounting purposes.

The Integrated Reporting Framework may be one way to solve this problem.

A. Discuss the potential issues which investors may have with:

1) accounting for the different types of intangible asset acquired in a business
combination;
2) the choice of accounting policy of cost or revaluation models, allowed under IAS 38
Intangible Assets for intangible assets;
3) the capitalisation of development expenditure.

(7 marks)
B. Discuss whether integrated reporting can enhance the current reporting requirements for
intangible assets. (3 marks)
 Page 51 of 53

ANSWER

PART A: IAS 38

Under IFRS 3 Business Combinations, acquired intangible assets must be recognised and measured at
fair value if they are separable or arise from other contractual rights, irrespective of whether the
acquiree had recognised the assets prior to the business combination occurring. This is because there
should always be sufficient information to reliably measure the fair value of these assets. IFRS 3
requires all intangible assets acquired in a business combination to be treated in the same way in line
with the requirements of IAS 38. IAS 38 requires intangible assets with finite lives to be amortised
over their useful lives and intangible assets with indefinite lives to be subject to an annual impairment
review in accordance with IAS 36.

However, it is unlikely that all intangible assets acquired in a business combination will be
homogeneous and investors may feel that there are different types of intangible assets which may be
acquired. For example, a patent may only last for a finite period of time and may be thought as having
an identifiable future revenue stream. In this case, amortisation of the patent would be logical.
However, there are other intangible assets which are gradually replaced by the purchasing entity’s
own intangible assets, for example, customer lists, and it may make sense to account for these assets
within goodwill. In such cases, investors may wish to reverse amortisation charges. In order to decide
whether an amortisation charge makes sense, investors require greater detail about the nature of the
identified intangible assets. IFRS Standards do not permit a different accounting treatment for this
distinction.

IAS 38 requires an entity to choose either the cost model or the revaluation model for each class of
intangible asset. Under the cost model, after initial recognition intangible assets should be carried at
cost less accumulated amortisation and impairment losses. Under the revaluation model, intangible
assets may be carried at a revalued amount, based on fair value, less any subsequent amortisation
and impairment losses only if fair value can be determined by reference to an active market. Such
active markets are not common for intangible assets. If an intangible asset is reported using the cost
model, the reported figures for intangible assets such as trademarks may be understated when
compared to their fair values. Based upon the principle above regarding the different types of
intangible asset, it would make sense for different accounting treatments subsequent to initial
recognition. Some intangible assets should be amortised over their useful lives but other intangible
assets should be subject to an annual impairment review, in the same way as goodwill.

IAS 38 requires all research costs to be expensed with development costs being capitalised only after
the technical and commercial feasibility of the asset for sale or use has been established. If an entity
cannot distinguish the research phase of an internal project to create an intangible asset from the
development phase, the entity treats the expenditure for that project as if it were incurred in the
research phase only. There is some logic to the capitalisation of development expenditure as
internally generated intangible assets but the problem for investors is disclosure in this area as
companies do not have a consistent approach to capitalisation. It is often unclear from disclosures
how the accounting policy in respect of research and development was applied and especially how
research was distinguished from development expenditure. One of the issues is that the disclosure of
relevant information is already contained within IFRS Standards but preparers are failing to comply
with these requirements or the disclosure is insufficient.

Intangible asset disclosure can help analysts answer questions about the innovation capacity of
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companies and investors can use the disclosure to identify companies with intangible assets for
development and commercialisation purposes.

PART B: Integrated Reporting

Measuring the contribution of intangible assets to future cash flows is fundamental to integrated
reporting and will help explain the gaps between the carrying amount, intrinsic and market equity
value of an entity. As set out above, organisations are required to recognise intangible assets acquired
in a business combination. Consequently, the intangible assets are only measured once for this
purpose. However, organisations are likely to go further in their integrated report and disclose the
change in value of an intangible asset as a result of any sustainable growth strategy or a specific
initiative. It is therefore very useful to communicate the value of intangible assets in an integrated
report. For example, an entity may decide to disclose its assessment of the increase in brand value as
a result of a corporate social responsibility initiative.
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SBR Exams

September/December 2020: Q4(B iii) – 5 Marks (Integrated Reporting - SME)

Discuss how integrated reporting could help SMEs better understand and better communicate how
they create value to investors. (5 marks)

Answer

Integrated reporting could help SMEs better understand and better communicate how they create
value. It can provide a roadmap for SMEs to consider the multiple capitals that make up its value
creation. An integrated report represents a more complete corporate report which will help SMEs
understand their business so they can implement a business model that will help them grow. SMEs
use a range of resources and relationships to create value. An integrated reporting approach helps

SMEs build a better understanding of the factors that determine its ability to create value over time.
Integrated thinking helps SMEs gain a deeper understanding of the mechanics of their business. This
will help them assess the strengths of their business model and spot any deficiencies. These will
create a forward-looking approach and sound strategic decision making.

Some SMEs have few tangible assets and operate in a virtual world. As such, conventional accounting
will fail to provide a complete picture as to its ability to create value. Capitals, such as employee
expertise, customer loyalty, and intellectual property, will not be accounted for in the financial
statements which are only one aspect of an SME’s value creation. As a result, SME stakeholders can
be left with insufficient information to make an informed decision.

Integrated reporting will include key financial information but that information is alongside significant
non-financial measures and narrative information. Integrated reporting can help fulfil the
communication needs of financial capital and other stakeholders and can optimize reporting.