The world is changing fast and to keep up you need local knowledge with global context.
Accounting is complicated at the best of times, this complication is only added to by the effects of globalisation on the world of business. One of the biggest impacts of the world’s ever expanding global village is the need for companies to produce standardised financial statements, that can be effectively used by all means of interested parties, most notably, investors. Accordingly the International Accounting Standards Board (IASB) goes to great lengths to implement standards that serve the masses, by demystify the balance sheet. Today the IASB issued IFRS 15, which to the lay holder of a Masters in Accounting complicates things further.
In brief the standard requires more disclosure around revenue, based on the make up of a customer’s contract with the supplier. The true purpose of the standard is to allow investors a more accurate view of a company’s revenue streams over time. Sue Ludolph, Director of Financial Reporting at SAICA gives insight into the practical implications of the new standard. As Alec says though, if in doubt, look at the cash flow statement – LF
ALEC HOGG: The International Accounting Standards Board issued IFRS-15 today. I can just imagine all those accountants, Chartered Accountants and people in the bookkeeping departments coming a little closer to the television screen to see what this IFRS-15 is about. It requires more disclosure in both the interim and the annual financial statements on revenues and with us, in the studio, is Sue Ludolph, who is Director of Financial Reporting Standards at SAICA, South African Institute of Chartered Accountants. Like David Shapiro, who himself says you guys are too complex and too complicated. Now we have another rule.
SUE LUDOLPH: Hello Alec. Hello Gugu. Yes, I heard you guys talking about the complexity of that but there’s the good news, too. It’s not all bad. It is complex to understand but there’s good news too. More information about what companies are doing, how they are contracting with their customers, and how they provide for their revenue. What we’re really going to see is changes to reported revenue in the results. Some companies will be affected more than others and some industries more than others are.
ALEC HOGG: Are you going to stop these companies from saying ‘pre IFRS-15/post IFRS-15’ because the trouble for people like us….
GUGULETHU MFUPHI: Is that they play with the numbers.
ALEC HOGG: And you just have reams and reams of numbers to work through. Now we know accounting is the language of business.
SUE LUDOLPH: Yes.
ALEC HOGG: We know, as financial journalists, that’s where we start. That’s our building block, but my goodness; you are making this complicated. It’s as if you are adding Russian, French and Greek as well, into the English language.
SUE LUDOLPH: Well, hopefully it will make it clearer for the investors. Remember that IFRS is actually for the investors. It’s for the institutional investors to understand and say ‘buy or sell stocks’ and it’s for the man on the street to know themselves, whether they want to buy and sell and revenue is an important number to understand.
ALEC HOGG: To the man on the street… The man on the street doesn’t get IFRS but anyway, just maybe unpack it really simply for us. Since it is the first change in three years, how is it going to impact the way we look at financial statements?
SUE LUDOLPH: It’s going to impact the Revenue Line. It’s going to impact companies having to understand themselves how they’ve contracted with the customers, and they will have to account on performance obligations. When do they perform and when do they account for things? Where they’ve sold things in a package, for example a cellphone and a contract, an IT system plus a whole lot of service relating to that IT. We might see things change. They might have to recognise revenue more today, a little bit less today and more at the end of the contract, like the construction contract industry. There will be changes there. It’s the timing of when we’re going to see the revenue and possibly, the amount too, but they will have to disclose this. What are the uncertainties of the revenue? What have they done? How is the business actually contracting with its customers? Now, as a user, as an analyst, don’t you want to understand how you’re contracting with your customers?
GUGULETHU MFUPHI: Give us an example here because I studied accounting, Alec, but it still sounds like French to me. With a Telecommunications Company for example, they sell you a device, they sell you data bundles as well, and maybe throw in a free laptop. From that perspective, what would be revealed in the revenue streams?
SUE LUDOLPH: That’s right, and that is where the effects are going to be more. Where you have multiple elements to your contract, with your customer, so exactly what you’ve just said. I sold you a laptop. You said, ‘a cellphone and a contract’. Currently, what they would do is say, ‘okay, this is over a two or three-year period. I will recognise the revenue nice and smoothly over the period’. Remember, revenue affects profit, which everyone looks at as well. Now they will be required to unpack that more but what’s happened? The performance obligation… You already have the laptop, and you already have the cellphone. Okay, revenue must come now. The service must be deferred over a period, so there will be changes for companies where it is a long-term affect. The same for things like the construction industry where they spend costs but ultimately, your end product only comes off the building years down the line. Currently, they smooth their revenue in a way by performance on costs spent, on recognised revenue based on that. Maybe now some of their revenue will have to be recognised more at the end of the contract. So which financial period…
ALEC HOGG: Sue, just look at the cash flow statement. That’s the only thing that is un-confusing, isn’t it?
SUE LUDOLPH: Yes, absolutely.
ALEC HOGG: Would you advise, particularly investors who are looking at this as a very complicated language and maybe start there?
SUE LUDOLPH: Absolutely, the cash is important and that is really, what investors want to see, they want to see the sustainability of the company. So it is not just about the revenue that’s reported in the financials, Alec, you’re right. It’s the cash. What is the cash flow implications and the knock-on effect of this? Remember cash flow… When revenue changes, profit changes, tax could change as well, so exactly… You need to look into your cash flow statements for the effects of that, but you are correct. There is the ugly and the ugly is to understand the devil in the detail of how all of that transpires in time to come.
ALEC HOGG: I think you’ve made a few accounting professors more excited and the CA Board will keep fewer people from passing, no doubt, with another IFRS.
GUGULETHU MFUPHI: No beans to count.
ALEC HOGG: But we love accountants because they’re the people who tell us what is happening actually in the companies, obviously, so we like to listen to the narrative and hear the Chief Executives tell us all these wonderful stories about their companies. However, until you can strip out the narrative and have a look at the actual numbers, you don’t really know what’s going on. Thanks to Sue Ludolph, the Director of Financial Reporting Standards at SAICA.