The new IFRS provides information useful to investors and gives a “true and fair view” of the economic substance of a business

By Catherine Harris | January 2011

With Canadian public companies adopting new financial reporting rules this year, financial advisors need to understand how their clients’ investments will be affected by the changes.

Canadian public firms are required to use the new international financial reporting standards for fiscal years starting on or after Jan. 1, 2011, and to provide IFRS-comparable numbers for each quarter in the previous year. The exceptions: investment-management and rate-regulated companies don’t have to make the change to the IFRS until 2012.

The IFRS system has major differences compared with the generally accepted accounting principles that had been used in previous years.

The IFRS system is designed to provide information that’s useful to investors and creditors, and to give a “true and fair view” of the economic substance of the business, says Peter Martin, director of accounting standards with the Canadian Accounting Standards Board in Toronto. The new IFRS system is principles-based, which means companies are supposed to adhere to the principles by making appropriate judgment calls rather than blindly following rules.

Leading up to the changeover, you should read the portion of the “management discussion and analysis” section in interim and annual statements that pertains to the IFRS for firms in which your clients have invested.

“It’s a great place to start to familiarize yourself with the status of the conversion and the impact,” says Diane Kazarian, national leader of the banking and capital markets practice of Pricewater-houseCoopers LLP in Toronto.

In the final fiscal quarter before a company moves to the IFRS, there will be numbers reflecting how the change will affect the firm if it is far enough along in the conversion process to provide them. In the first interim reports after the changeover, Kazarian says, it’s critical to look at the section on reconciling the two accounting standards, which will include a table showing the adjustments required to get from GAAP to the IFRS and a description of all the items affected, so you can see where the big changes are for both income and equity.

Kazarian notes that the quality and frequency of communication by companies with their stakeholders is critical. If stakeholders don’t get a good understanding of how the change to the IFRS is affecting a company’s statements, they may avoid investing in it.

With the IFRS, there are more accounting policy choices than with Canadian GAAP, so it’s essential to read the footnotes to financial statements. These choices — such as whether to use “fair market value” or “book value” for assets on the balance sheet — may also make it harder to compare companies in the same sector. However, Martin says, the CASB expects that individual industries will tend to gravitate over time to approaches that allow comparisons, not just nationally but globally.

In addition, there may be a good deal more volatility in earnings, particularly if companies choose to go with FMV rather than book value on their balance sheets. Using FMV means assets are priced each quarter and the changes from the previous quarter are included in “net income” or, in some cases, in “other comprehensive income.”

However, there are a number of pluses to using the IFRS. There is more disclosure than previously, as companies explain their financial assumptions. In addition, there could be greater detail about the assets and liabilities, as well as analysis of the causes of changes in these balances during the reporting period.

In terms of the bigger picture, there may also be more liquidity for Canadian stocks because foreign investors will be more willing to consider investment in Canadian firms when they report the same way as the rest of the world.

More detail will be provided in various areas, such as acquisitions, with any costs related to the purchase expensed when they occur, and any contingent consideration estimated and recognized as of the acquisition date.

There may be more impairment writedowns with the IFRS because all asset cash flows have to be discounted using current interest rates rather than just looking at the nominal value. This can affect many things, including receivables. But these writedowns will generally be smaller and can now be reversed, says Martin, which wasn’t the case under GAAP.