New IFRS standard in the making – and it will impact the presentation of financial statements!

We already discussed the draft new standard on Presentation and Disclosures in a previous article on non-GAAP performance measures.

As the comment period on this Exposure Draft will be closing by the end of 2020 (extended deadline due to COVID-19), now is the time to look in more detail at its impact on primary income statement and footnote disclosures.

Introducing Exposure Draft “General Presentation and Disclosures”

Having consulted the investor community and hearing their demand for better comparability, improved quality of disaggregation and a connection to non-GAAP performance measures, IASB is proposing new requirements for presentation and disclosure in financial statements. These proposals focus on the P&L but can have a limited impact on cash flow statement and balance sheet as well.

In December 2019, the Board published an Exposure Draft that sets out its proposals for a draft IFRS Standard on presentation and disclosures in financial statements. When finalised, this Standard will replace IAS 1  “Presentation of Financial Statements“.

In this ED the Board proposes:

• additional subtotals in the statement of profit or loss.
• disaggregation to help a company to provide relevant information.
• disclosure of some management-defined performance measures.
• limited changes to the statement of cash flows to improve consistency in classification by removing options.

We will discuss the first two of these proposals in more detail below. Please read this article to learn more about disclosing performance measures.

Additional subtotals in the statement of profit or loss

Companies will have to present income and expenses included in P&L in the following categories:

(a) operating – this category includes information about income and expenses from an entity’s main business activities. It should include all income and expenses (included in P&L) that are not classified in one of the other categories.

(b) investing – the objective of the investing category is to communicate information about returns from investments that are generated individually and largely independently of other resources held by an entity. In this category, entities should report income and (incremental) expenses from investments (including non-integral associates and joint-ventures). Note that for companies for which investing is a main business activity (banks), the related income and expense should be reported within the Operating category.

(c) financing – the objective of the financing category is to communicate information about income and expenses from assets and liabilities related to an entity’s financing. That includes income and expenses from cash and cash equivalents and liabilities.

(d) integral associates and joint ventures – defining “integral” as “being integral to an entity’s business activities”, this category includes the reporting entity’s share in the income and expense of integral associates and joint ventures. In practice I would expect that joint ventures are often integral to an entity’s own business activities and associates are not, however that is a choice to be made by each reporting entity. The share in results of non-integral associates and joint ventures goes into the investing category.

(e) income tax

(f) discontinued operations

Acknowledging these categories, the P&L will have to include three subtotals:

1. Operating profit or loss
2. Operating profit or loss and income and expenses from integral associates and joint ventures
3. Profit or loss before financing and income tax.

Note that whilst this third subtotal equals the well-known EBIT measure, the proposal does not include an EBITDA equivalent!

Disaggregation to help a company providing relevant information.

Investors sometimes find it difficult to understand reported information by companies because items may be lumped together without proper explanation. Therefore, the ED includes new guidance to help companies disaggregate information in the most useful way for investors.

How? Well the ED clarifies one more time that:

(a) items shall be classified and aggregated on the basis of shared characteristics;

(b) items that do not share characteristics shall not be aggregated; and

(c) aggregation and disaggregation in the financial statements shall not obscure relevant information or reduce the understandability of the information presented or disclosed.

An entity shall present in the operating category of the statement of profit or loss an analysis of expenses using a classification based on either their nature—the nature of expense method—or their function within the entity—the function of expense method. The entity shall present the analysis using the method that provides the most useful information to users of their financial statements. If a company chooses to present operating expense applying the function of expense method, it will have to add a footnote to provide the operating expense split by their nature.

Further, the ED provides guidance around the aggregation of items that are not material. Either these are aggregated with material items that have the same nature, or they are grouped together with other immaterial items of different natures. In that second scenario, an entity shall disclose in the notes information about the composition of the aggregated items. For example by indicating that an aggregated item consists of several unrelated immaterial amounts and by indicating the nature and amount of the largest item in the aggregation.

Companies would also be required to provide better analysis of their operating expenses and to identify and explain in the notes any unusual income or expenses, using the Board’s definition of ‘unusual’: “income and expenses with limited predictive value. Income and expenses have limited predictive value when it is reasonable to expect that income or expenses that are similar in type and amount will not arise for several future annual reporting periods.”

These requirements would help investors analyse companies’ earnings and forecast future cash flows.

Process and next steps

During a webcast on 11 February (see below), participants had an opportunity to ask questions to IASB staff members directly.

As said in the introduction, the consultation period on this ED was extended to 31 December 2020. Until then, stakeholders have an opportunity to provide their comments for IASB’s consideration. Given the process, this new standard can be applicable as soon as FY2021!