Mark Leadbetter: Financial reporting proposals have gaps

Opinion

The proposals in the newly released and eagerly awaited Ministry of Economic Development and ASRB discussion documents cut to the heart of financial reporting in New Zealand, impacting on every incorporated entity.

In general, the documents are very positive, addressing the issue of who has to report and what they are required to report at the macro level, as opposed to tinkering at the edges or looking only at a subset of entities.

However, important issues remain unaddressed, the current documents failing to be all inclusive and leaving gaps surrounding mid-market entities which need to be filled.

Who will this affect?

Essentially, every entity that can be and has been created through an Act of Parliament will be affected, including companies, partnerships, issuers, charities, incorporated societies, clubs and societies, Maori governance and Government entities

Only unincorporated entities, such as sole traders and family trusts, will be unaffected.

What is being proposed?

Some of the most significant changes include:

* Moving all financial reporting requirements to the Financial Reporting Act 1993, so that all incorporated entities can refer to one place to determine their financial reporting obligations.

* Establishing a new body, the External Reporting Board (XRB), which will be responsible for New Zealand's financial reporting strategy and the preparation and approval of accounting, auditing and assurance standards.

* Creating tiers of financial reporting using indicators such as public accountability, economic significance and separation of ownership and management.

* A move to create sector-specific not sector-neutral standards.

* Requirement for large New Zealand-owned private entities to prepare, audit and file financial statements (a grandfathering scheme for existing companies is proposed).

* Requirement for New Zealand-owned companies with diverse shareholding (more than 10 shareholders) to prepare, audit and file financial statements unless the vast majority of the shareholders agree not to.

* An assurance regime that includes a requirement for reviews as well as audits.

* So some of the key issues to consider are related to:

* The definitions of the indicators.

* The amounts used to denote economic significance.

* The numbers used in the separation indicator.

When is it likely to come into effect?

Comments are due by January 29. After this it will depend upon the views of the correspondents in conjunction with the Government whether to introduce draft legislation into Parliament or whether any discussion document or other document is required before taking it to Parliament.

Given the fundamental nature of the changes, we hope that the MED and ASRB are inundated with respondents and people have their say.

Issues arising from the documents:

What rules/guidance are the vast majority of entities going to use?

There is a strong focus on NZ IFRS and larger entities - yet the backbone of New Zealand's economy lies in the mid-market.

While there are no numbers available, we estimate that of the total number of entities that are preparing GPFRs we would estimate that over 90 per cent use NZ FRS, not NZ IFRS.

More focus is needed on these entities. And, while the discussion documents do state that they may be able to prepare under some form of special purpose reporting, the proposed entity (XRB) has indicated that its focus will be only on entities that prepare GPFR. This leads to the question: what rules/guidance are the vast majority of entities going to use?

While this issue is acknowledged in the ASRB document, it looks to pass it on to someone else - the New Zealand Institute of Chartered Accountants. Far more time and effort must go into considering the impact on these entities, the issue dealt with simultaneously and as part of the proposals and changes - not delayed or passed to another body to consider. Mid-market entities are fundamental to our economy.

Enforcement

The documents do not discuss enforcement. As we have seen, in New Zealand we like creating new laws and standards but how they will be enforced will be one of the crucial factors in their effectiveness. Will it be the responsibility of the Companies Office? Securities Commission? XRB?

Using different rules

Most accounting firms use the differential reporting framework not the Financial Reporting Order (exempt company regime) to prepare financial statements. Practically, it is easier for entities and their accountants to understand and apply fewer rules.

If we move to sector-specific rules, is New Zealand large enough to justify the increased costs and complexity of having different rules across different sectors? Will people have sufficient knowledge in each of these areas?

We have already seen many entities struggle with applying NZ IFRS because of complexity - what will happen if we introduce multiple sets of rules?

While it is true that the current requirements do not work for Public Benefit Entities (PBEs), is a completely new set of rules the right answer?

The changes proposed are so fundamental that it is essential we act now. Do not wait.

Mark Leadbetter is an associate with chartered accounting network BDO's Auckland firm.