Important changes proposed for Financial Reporting requirements

Accurate financial statements are critical documents.  They inform readers about the financial position and performance of the entity.   Ensuring that financial statements are prepared, and in a common agreed format, has been a key protection feature in our New Zealand economy.  The discipline and requirement to prepare annual financial statements has helped to protect shareholders, creditors, employees, and government agencies such as the IRD to name some key stakeholders.  However it is also a requirement that comes at a cost and many organisations, especially in the current environment, are keen to reduce any compliance costs.

But when one possible option is to remove the requirement for preparing financial statements for large categories of organisations (for example all non-issuer companies under a certain size) does the cost saving justify the increased risk to stakeholders?

As chartered accountants dealing with a large variety of clients, we believe it is essential that this discussion document is considered and responded to by a wide range of stakeholders.  This is a potentially fundamental change to our financial reporting landscape in New Zealand and we need to find the right balance.

Background

Certain entities in New Zealand are required by legislation to prepare, and in some cases file on the public record, financial statements annually.  The umbrella financial reporting legislation in New Zealand is the Financial Reporting Act 1993.  This Act defines amongst other things;

• what financial statements are;
• what a reporting entity is (company, issuer, other entity required by another specific Act to report);
• what is considered generally accepted accounting practice in New Zealand (i.e. financial reporting standards approved by the Accounting Standard Review Board);
• what an issuer is;
• what an exempt company is; and
• which entities financial statements have to be audited and filed.

Currently in New Zealand all issuers and companies are required to prepare financial statements that comply with generally accepted accounting practice each year.  A certain number of these entities are also required to have their annual financial statements audited and filed on the public record.

Exempt companies are companies that are small and meet other standalone criteria.  Instead of having to comply with generally accepted accounting practice (i.e. all applicable financial reporting standards) they are allowed to comply with a very simple list of accounting rules.  The logic being simple reporting for simple entities and an appropriate cost benefit trade-off.

Other entities such as partnerships and trusts do not have any requirement by law to prepare financial statements.  Incorporated societies are required to prepare a very simple form of financial statements but these are not required to comply with generally accepted accounting practice.  Many of these entities do however have a requirement to prepare some form of financial statements in their rules or other governing document.

Most government funded entities are required to prepare financial statements that comply with generally accepted accounting practice.

What's Changed?

Until recently common practice in New Zealand has been for almost all entities to prepare annual financial statements that comply with generally accepted accounting practice.  This has been useful as this preparation has meant common understandability of these financial statements for key stakeholders such as owners, investors, creditors, and bankers and other funders.

However in 2005 a decision was made by the Accounting Standards Review Board (ASRB) that New Zealand reporting entities must apply International Reporting Standards (IFRS) from 2007.  As a result they issued a new set of Financial Reporting Standards for New Zealand known as NZ IFRS.  These complex and detailed financial reporting standards represent a reasonably significant change to what is considered generally accepted accounting practice in New Zealand.  They have been developed primarily for large profit seeking complex multi-national corporations.  While appropriate for those types of entities they add a disproportionate level of complexity to many small New Zealand entities, and hence a disproportionate cost impost.

Initially it was intended that all entities in New Zealand would comply with NZ IFRS.  However this is akin to using a "one size fits all" approach.  Thankfully the folly of this situation was finally recognised and in September 2007 a deferral from mandatory adoption of NZ IFRS was announced for some New Zealand entities which meet certain size and accountability criteria.

It does need to be realised that the deferral is just that though.  It is in effect taking a breather from applying IFRS to all companies in New Zealand.  The deferral decision was made because a MED led review of the financial reporting requirements applying to small and medium-sized entities under the Financial Reporting Act 1993 commenced in mid-2008.  The upcoming discussion documents are the preliminary results of this review and will likely result in legislative amendment.

Opportunity or Threat?

This clean sheet approach is a great opportunity for financial reporting reform in New Zealand.  However the big challenge for the legislators in this process is to balance the competing demands and desires of many and varied stakeholders.

The range is wide; from those that want comprehensive financial statements to give them assurance, to those that are primarily concerned about minimising compliance costs.  Both aims are valid, yet they conflict.

It is very important that we end up in New Zealand with a legislative situation where compliance costs do not outweigh the benefits, while also balancing the protection needs of those who need protecting via mandatory financial reporting at  a specified and appropriate level.

Where to from here?

While many may see these as only discussion documents, they are likely to be the basis for legislative change.

Accordingly it is essential that affected stakeholders take this opportunity to consider the options being proposed, the likely impact on their needs, and make submissions if appropriate.

We live in a democracy and hence the responsibility for having our voice heard rests with all of us.  It is not okay to sit back expecting someone else to sort this out for us, or at least not if we want it sorted to our satisfaction.

Let's get some debate going and get a sensible result for all.

Craig Fisher is Chairman and an Audit Director at Hayes Knight, Chartered Accountants.

He can be contacted at craig.fisher@hayesknight.co.nz

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