The Covid-19 outbreak has resulted in significant volatility in the financial and commodities markets worldwide. Businesses are dealing with lost revenue and disrupted supply chains. In the reporting season, the accounting and investor relations functions are challenged in their analysis of full-year and interim financial statements in many ways.
One issue that has arisen is how the accounting function deals with Covid-19’s impact on IFRS, which focuses on addressing the financial effects an entity has experienced in the preparation of its financial statements.
IR needs to better understand the IFRS implications in order to properly disclose and communicate them in the market and also to ensure its understanding of IFRS accounting is communicated in analyst and investor education. Maintaining regulatory compliance and providing clear and useful information is critical to ensuring investor confidence and trust in capital markets.
Assessing and understanding the IFRS effects
The very large adjustments in response to Covid-19 may or may not have a direct impact on IFRS financial statements. In the preparation, disclosure and communication of IFRS financial statements for annual and interim reporting periods, reporting entities need to determine the appropriate accounting treatment under IFRS.
Understanding the implications of IFRS is critical for IR, not only for regular financial disclosures, but also for initial and secondary public offerings as well as covenant reporting for debt investors. The issues and applicability of the relevant IFRS standards depend on the facts and circumstances of each entity. When preparing financial statements, the standard IAS1 Presentation of Financial Statements requires management to assess an entity’s ability to continue as a going concern, and whether the going concern assumption is appropriate.
Other IFRS standards with potential financial effects from the Covid-19 outbreak are: referring to financial instruments, impairment of assets (IAS 36), government grants (IAS 20), income taxes (IAS 12), fair value measurement, revenue recognition (IFRS 15) and events after the reporting period (IAS 10). Significant judgment and continual updates to the assessments may be required for accounting and IR functions given the evolving nature of the outbreak.
Managing expectations with an outlook refresh and in next interim reports
The number of ad hoc profit warnings has risen to an all-time high in some countries in the first quarter and is still rising*. In the current situation, companies are expected to face significant challenges in preparing or refreshing forecasts for future cash flow. Management must exercise significant judgement to assert reasonable assumptions that take into consideration the ongoing uncertainties and sensitivities.
As the outcome of the pandemic is unpredictable and conditions are still fluid and volatile, some companies declined to provide a new forecast in their analyst guidance for 2020. Moreover, companies that were recently impacted by the outbreak may not have included much relevant information in their 2019 annual financial reports and, as such, may need to include more comprehensive disclosure on relevant topics in the next quarterly information and half-year report.
In accordance with IAS 34 Interim Financial Reporting – the standard for condensed financial statements – an entity must include in its interim financial statements an explanation of events and transactions that are significant to an understanding of the changes in financial position and performance since the end of the last annual reporting period. For example, where significant, an entity needs to disclose changes in the business or economic circumstances that affect the fair value of the financial assets and liabilities.
Finding the IR strategy for alternative performance measures
In order to provide transparency on how the Covid-19 outbreak has affected financial performance, IR officers may use alternative performance measures (APMs), or non-Gaap measures. One important APM for IR is earnings before interest and taxes, which is commonly used as part of the outlook in the analyst guidance, valuation methods and covenants.
In addition to the requirements of IFRS, such as ‘definitions’, ‘consistency’, ‘unbiased’ and ‘explanations’ that apply if APMs are disclosed in financial statements, regulators in various jurisdictions have issued guidelines on the use of APMs in financial communications. For example, the European Securities and Markets Authority reminds preparers of financial statements to ‘carefully assess whether the intended adjustments or new APMs would provide transparent and useful information to the market, improve comparability, reliability and/or comprehensibility of APMs and of the financial information disclosed to the market.’
But the comparability of Covid-19-related APMs among peer groups will be a major challenge without a universally accepted way to objectively structure them. Depending on specific facts and circumstances, IR officers may find it less controversial to provide a separate disclosure communicating the impact of Covid-19, rather than introducing new or adjusted APMs.
The current situation is unprecedented. A strong understanding of IFRS figures and the effects of the pandemic is critical to providing clear and useful information to IR stakeholders. Beyond the crisis, we can hope for a new environment that brings the best of two worlds pre and post-crisis together to a new IR best practice.
* See report
The views reflected in this article are those of the author and do not necessarily reflect the views of the global EY organization or its member firms
Martin Steinbach is EMEIA IPO leader and head of IPO and listing services for Germany, Switzerland and Austria at EY