Accounting Standards

Changes to GAAP for private companies in Canada

Since the mid 90s there has been debate within accounting circles on whether there should be two versions of GAAP – one for public companies and one for private companies. Big GAAP and little GAAP. The logic is that there are sections of GAAP that do not apply to non publicly accountable entities, and time and money is wasted complying for little benefit.

In 2002 differential reporting became available for private companies which allowed management, with the unanimous consent of shareholders, to choose how they accounted for certain financial statement items from among options. For example, subsidiaries and joint ventures can be accounted for using the equity or cost method, in addition to full consolidation.

IFRS presented the next challenge. Canada will adopt IFRS for public companies for years beginning on or after January 1, 2011. But what about private companies? The AcSB decided to tailor existing Canadian GAAP to the needs of private companies.

The following removed sections, for example, didn’t apply to private companies:

  • Earnings per share, as the measure is primarily used by public companies
  • Interim and segment reporting, for the same reason
  • Most EICs, which are mostly very detailed rules for special, specific situations

Differential reporting options were maintained for the most part, including:

  • Income taxes, which can be accounted for under the future income taxes or taxes payable method
  • Subsidiaries, joint ventures and investments, which can be accounted for under the equity or cost method

Note disclosure is being simplified. For example, property, plant and equipment, which previously required more detail in the notes, will no longer require it. The reasoning was that most third party users of private company financial statements look to key ratios calculated from the financial statement numbers to judge a company’s financial health rather than details on line items.

Financial instruments have been significantly simplified. All will be measured at historical cost, with two exceptions measured at fair market value:

  • Equity investments for which market price is readily available
  • Derivatives not qualifying for hedge accounting

IFRS adoption will be optional for private companies, and will make sense for those that plan to go public in the near future and possibly for those that compete against public companies to aid investors looking to compare their figures. Of course there are already private companies in Canada that are subsidiaries of European entities and have been reporting under IFRS for years now. (I work for one.)

All these changes should lower compliance costs for private companies, which should include lower audit fees. An article on private company GAAP in the current CA Magazine mentions lower costs three separate times. These will be realized primarily thanks to easier to audit information (cost vs. fair value) and lower disclosure requirements.

I hope all the accounting firms are getting ready to lower their prices now that the audit costs will be reduced.

Accounting Standards

Simplified accounting rules for small business

The CICA announced late last year a draft version of a new accounting framework for small, owner-managed businesses. The framework is being developed because these types of companies don’t have complex reporting needs like public companies, non-profit organizations, or private companies with significant third party investors or creditors.

I haven’t begun working on public company clients yet, although I have a couple equivalent-to-public companies currently. I have made it known in the office that I want to work on public companies in the future, so hopefully I will be scheduled on one or two soon.

Canada is moving towards international accounting standards (IFRS) for publicly accountable enterprises. The decision has been made and the process of reconciling Canadian GAAP to IFRS is in motion. Word around the office is that IFRS is very similar to Canadian GAAP in terms of the financial statements, but much more developed (read: verbose) when it comes to note disclosure.

But back to small business, or Owner Managed Enterprises (OMEs) as the framework calls them. The framework’s Foreword offers a glimpse into the thinking behind the endeavor:

Such a system could share some of the basic requirements of GAAP financial reporting … but expressed in a basic fashion.

You aren’t going to hear me complain if we can make accounting standards more understandable and accessible. In fact, I would consider it a prime concern if we want to create a more robust, entrepreneurial economy, here and around the world in the future. Such a milieu would help developing countries pull themselves up and improve their lot the only surefire way: through the expansion of trade.

A non-GAAP solution opens up a wide range of possibilities. A tax basis of accounting, a modified cash basis of accounting, a less complex version of GAAP – all are possible.

This is really interesting. I can’t say as I think these bases would provide better information, but they would be easier in many ways. The tax basis would obviously make filing a snap, and minimizing taxes is a key concern for small business owners. As for modified cash basis, there’s not enough information here to comment. Modified how?

Concerns were about the loss of a well-known frame of reference for financial statements [due to the transition to IFRS].

IFRS is great for the global economy. You want to tap into the global markets, you gotta play by the global rules (regardless of how dubious the model for the setting of those rules happens to be at this point in time). The conclusion of the CICA stems from the above quote – keep the accounting standards we know, just cut out the complicated stuff that small businesses don’t need. In their words (again):

The existing financial reporting framework in the Handbook represents … the collective intellectual capital of the accounting profession in Canada.

That is the best reason I can think of for reusing the standards for Owner-Managed Enterprises.

The CICA sought comment from interested parties on the framework by January 31, 2008. They recently posted an update on those consultations.

Accounting Standards

Changeover to IFRS confirmed for 2011

The Accounting Standards Board of Canada has confirmed recently the changeover date to IFRS for publicly accountable for-profit organizations, set for periods beginning on or after January 1, 2011.

The announcement is available in PDF format.

It sounds like we’re going to have to know and be able to apply two sets of principles, as private companies and non-profits won’t be required to switch that early, if at all.

A proposal being looked at right now is having a Framework for Owner-Managed Enterprises, which is based on a pared-down version of current Canadian GAAP. Either know both or limit your possible clients.

At least we won’t have to learn two sets from scratch, but hopefully down the line there’s a more elegant solution to the problem.

Accounting Standards

Income trusts get distributable cash standard

Canada’s CAs have announced guidance for a key metric of income trusts, that of distributable cash.

The term ‘distributable cash’ generally refers to the cash that an income trust could potentially distribute to unit holders. Investors use this information when assessing the entity’s ability to fund future distributions and to help value their investments.

But the problem with the measure is that investors had no way of knowing where the cash had come from: general operating activities, or selling off productive assets and related future capacity. There was no way to compare across trusts since they all defined the term differently, or even to compare the same trust year over year. The CICA recommendations seek to remedy this:

The CICA guidance recommends that income trusts report a new measure called “Standardized Distributable Cash” to improve consistency of reporting and comparability between entities. Together with other disclosures recommended in the framework, the new measure gives the industry a common methodology for providing investors with information.

Standardized Distributable Cash is defined as cash from operations, after adjusting for capital expenditures, restrictions on distributions due to debt covenants, and minority interests.

The recommendations are not without criticism, however.

Independent investor advocate Diane Urquhart noted that the new CICA measure of distributable cash is not an addition to generally accepted accounting principles and will appear only as part of management’s discussion and analysis. […] “It’s ugly,” declared Al Rosen of forensic accountants Rosen and Associates. “When you needed this – and in a tougher form – would have been at least five years ago.”

I believe those are the biggest criticisms of it: the “standard” isn’t part of GAAP officially, but merely guidance to help trusts provide investors with higher quality information, and the recommendations are a little late in coming.

Better something than nothing, and better late than never.

Accounting Standards

Are accounting standards public enough?

CA Magazine might be freely giving away their content for the benefit of all stakeholders in the CA profession and public accounting in general, but the goodwill doesn’t extend to the CICA when it comes to Canadian accounting and auditing standards.

The CICA, through the Accounting Standards Board (AcSB), develops public accounting standards through a remarkably public process of consultation and comment, but once the standard makes it into the Handbook, it is rarely seen in public again. The Handbook is available online, if you’re a member of the Institute. That is, only if you’re a CA do you get access to the goods.

Additionally, when one Googles “CICA Handbook”, the first result is a link to “Enhanced online access to CICA Handbook”! (This the access available only to CICA members.) A link to the protected Handbook is featured prominently on the CICA homepage. “Great,” a new visitor thinks, “the Handbook is only a mouse click away!” But that click takes you again to the paywall.

I posed the question directly to the Institute, and later in the day received my response: “The CICA Handbook is only granted to members as a part of their annual dues thru their Provincial Institute. You may be able to come across a copy in print in a local Library, assuming the Library has one for public use.” Pay the dues, get access to the public standards.

The profession exists to protect the public interest, so I have to question whether access to the fruits of the profession’s labour, the standards themselves, are holding up this ideal. What do you think?