Improved disclosure of financing activities and liquidity to support the statement of cash flows is a welcome development, as we said in our submission to the AASB and IASB on Australian ED 258 Disclosure Initiative (Proposed amendments to AASB 107), which incorporates the IASB's ED/2014/6 Disclosure Initiative (Proposed amendments to IAS 7).

The increased reconciliation requirements would highlight non-cash movements in debt balances, but unfortunately, the proposed disclosures do not extend to circumstances where entities in the financial sector treat their borrowings as operating rather than financing activities.  We suggest that they should.

The 2015 editions of Chartered Accountants Australia and New Zealand's Financial Reporting Handbook - Australia, edited by Claire Locke FCA and Auditing, Assurance and Ethics Handbook - Australia, edited by Stephanie Kemp FCA are now in print and on sale from bookshops or direct from John Wiley & Sons, Australia.  Both books contain standards as at 1 December 2014 and are terrific for users who refer to the standards frequently and like to have a paper version on the that they can attach post it notes to!

Chris Westworth has recently been admitted to the internationally recognised Academy of Experts (TAE), based in the UK.  TAE was founded in 1987 with the objective of providing, for the first time, a professional body for experts to establish and promote high objective standards. It provides accreditation for expert witnesses. Further details can be found on their website. 

The IFRS Foundation Stakeholder Event

The IFRS Foundation Stakeholder Event on The Future of Global Financial Reporting at Luna Park in Sydney on Wednesday evening was a great event.

We often focus on the difficulties in getting a common approach on the big issues such as leases and revenues, so it was good to be reminded of just how far we have come in terms of international convergence of standards and how much has been achieved.  15 years ago, there were multiple local GAAPs and US GAAP reconciliations were a big issue.  Now we are down to two systems accepted in major capital markets, US GAAP and IFRS, with the FASB and IASB working together on a number of issues and GAAP reconciliations are a thing of the past.  If standard setting is in the hands of the articulate, committed professionals we saw on Wednesday, the future of global standard setting appears bright.  Renewed focus on making reports more meaningful by applying materiality and reducing unnecessary disclosures is the way forward.

(the Australian Charities and Not-for-profits Commission (Repeal) (No. 1) Bill 2014) was referred by the Senate  to the Senate Economics Legislation Committee for inquiry and report, with a call for submissions by 2 May 2014.

Not all regulation is bad –
in the right place red tape can look quite attractive

As accountants who have worked in one of the professional bodies and picked over corporate carcasses in our forensic and litigation support work, it is saddening to see some of the hard fought financial reforms of the previous government being consigned to the garbage bin.

The FoFA reforms were a long time in the making with extensive and wide-ranging consultation throughout the industry and affected professions.  There were compromises struck, but the overall objective was to ensure that financial advice provided to clients and customers by advisers takes into account the personal circumstances of the client/customer and is in their interests.  A model where the adviser earns his or her money from selling a product which earns them commission, and sometimes trailing commissions that can continue for many years, is fraught with conflicts of interest and should not be described as “financial advice”; it is merely selling products and consumers need to be aware of the difference.

Time after time we see financial collapses where mums and dads were advised to go into dubious investment schemes by someone they thought was a trustworthy adviser, who was earning a substantial commission stream.  To take an example, Westpoint was indeed developing apartment blocks, but a read of the small print in the disclosure documents reveals that the mums and dads were investing their retirement savings in mezzanine debt instruments with low level security – the first ranking mortgages were all in favour of the major lenders.  Had their financial advisers really explained the frailties of what they were investing in so they could assess whether they were comfortable with that level of risk?

In the same bundle of repeals, but on a completely different topic, we see the demise of the Australian Charities and Not-for-profits (nfp) Commission (ACNC).  The ACNC was again the result of extensive consultation and the culmination of years of research and lobbying by the charity and not-for-profit sector. As the privatization of social services continues, the sector grows by the year.  It has its own complexities, such as its reliance on grant funding, donations in cash and kind and reliance on volunteers in its governance and also in its work force.  A single regulator was seen as the first stage towards simplifying a maze of state and federal legislation, compliance with which costs funds that could be used in furthering the charity or nfp’s objectives.

The Tax Office is not the right regulator for the sector.  Their focus is on revenue raising and their interest in the nfp sector is driven by a desire to ensure that deductible gift recipient status is strictly regulated.  The ACNC however has a broader brief to educate the sector and raise standards of governance as well as to regulate.  In an environment where small nfp treasurers are generally volunteers and there is little spare cash to pay for professional advice, the ACNC’s focus on education was designed to reduce the incidence of accidental non-compliance with the law.

As a small business, when we fight with our government form filling, we are as keen as the next person to reduce red tape, but not all regulation is bad.  Hard fought regulation, designed to protect those who cannot look after themselves, should be retained and with these proposed repeals the Abbott government runs the risks of alienating some of its natural supporters.

Our submission on the IASB's conceptual framework review (DP/2013/1)
was largely supportive, but we expressed concerns about the section dealing with profit and other comprehensive income (OCI).  The section on Profit and OCI reads somewhat as if the drafters have tried to back-fill a conceptual foundation for standards that have already been written by justifying a variety of accounting treatments, whereas in our view a conceptual framework should be a clear, succinct aspirational framework for standard setters to work towards as they prepare a consistent, cohesive suite of standards.  It may be that a new standard is not fully in line with the conceptual framework for political or cost/benefit reasons, but the framework should nevertheless be set as a goal or aspiration.

As we say in our detailed views it is vital that the IASB should articulate a conceptual basis for the separate existence of Profit and OCI because OCI has been used in a number of recent standards. If, for example, Profit is intended to reflect only realised items, this needs to be explicitly stated at the conceptual level and the concept of “realised” defined within an accrual accounting framework.  This would then enable a conceptual basis to be expressed for recycling.  In the absence of a robust definition of Profit, recycling has no place in a conceptual framework.

In summary, our views are that:

1. The framework should be aspirational.
2. The needs of users are paramount.  Without users financial reporting has no purpose.  The question “Who are the users and what information do they need?” should be at the forefront of every standard setting project.
3. Regardless of the balance sheet focused work that has been done at a conceptual level, preparers and users still want information on “profit” and appear to perceive it as something other than the difference between two balance sheets.  The notion of profit should be explored and explicitly incorporated into the framework.  This notion of there being multiple profits is inherent in terms such as “underlying profit” and even EBIT and informs the whole of the OCI debate.
4. The framework should be transaction neutral and capable of application across sectors and types of entity.  Although the not for profit sector is outside the IASB’s mandate, the credibility of financial reporting is enhanced by consistency between sectors.

The Westworth Kemp Review 2013

October 2013 marked the first anniversary of Westworth Kemp Pty Ltd.  It has been a year in which we set up our own office in York Street, Sydney and ventured offshore, with an assignment in New Zealand, where, on our last visit, Auckland really looked its best.

Lessons for auditors
Failed second tier finance houses and investment companies were definitely the flavour of 2013, still the fallout from the Global Financial Crisis (GFC) of 2007/2008 and the boom years beforehand.  From rural Victoria to New Zealand and to Queensland, the story is the same, second tier lenders receiving deposits from unsuspecting mums and dads and lending them to real estate developers just prior to the 2007 crash.  These organisations appeared to be lending on mortgage security, but wise after the event, all was not as it appeared.

At risk of sounding suspiciously like the report from an ASIC surveillance programme, some of the audits we have seen were distinctly lacking in scepticism and good audit evidence, particularly as regards asset values.  The auditor is there as part of a safety net to protect the stakeholders in an organisation who are not involved in its management, including shareholders and investors in the entity’s debentures or units, who have relied on assertions in a disclosure document as to the quality of the underlying assets.

We have seen auditors accepting the assurances of management that a debtor will pay and that there is adequate security, without fully analysing the audit evidence and assessing the security risk.  We have also seen auditors chatting through systems with client staff to gain an understanding of how the business operates, but then not going back to test the output from the system they have learned about.  It is not enough to learn how the system operates that produces that key printout that the auditor is relying on – the auditor needs to test it to make sure the information in it is reliable.  Similarly, it is important to check the work of experts such as valuers against other available evidence to ensure that their report rests on valid assumptions that reflect the circumstances of the asset concerned.

A rigorous audit is an important part of the governance safety net and auditors need to be brave and bare their teeth.  On a number of assignments we have seen the auditor submitting management letter points to the Board where an emphasis of matter in the audit report would have been more appropriate.  Management letter points are important, but setting in place structures to monitor difficult loans should be an accepted element in internal control, rather than something that is put in place late in the day when the lender is teetering on the brink of bankruptcy.

A new and interesting development in the post GFC wash up from the failure of these second tier finance houses is the commencement of class actions against the auditor who audited the compliance plan as well as the auditor of the financial statements.  Again, the compliance plan is part of the investor protection safety net, but rather than questions of material misstatement, the compliance plan audit focuses on whether the organisation operated in accordance with its constitution for the benefit of its members.  It remains to be seen what 2014 will bring.

The long form audit report proposals
Would the proposals coming out of the International Auditing and Assurance Standards Board in the form of Reporting on Audited Financial Statements: Proposed New and Revised International Standards on Auditing have had any effect on helping to prevent the collapse of these second tier lenders?  Sadly, we think that in most cases, they would not.  The proposals include a new ISA 701 entitled Communicating Key Audit Matters in the Independent Auditor’s Report, which would require the auditor to communicate those matters that, in the auditor’s professional judgement, were of most significance to the audit of the financial statements.  One danger however is that such disclosures become boiler plate like the statement of risks in a prospectus and become meaningless.  Another is that the auditor sees the disclosures as a means of avoiding having to qualify the audit report, in the same way that some auditors are using reporting to management.

From our work on failed audits, a long form report would not have avoided the collapse of the company.  The matters that the proposals suggest should appear in a long form report should have been included in reports to management or those charged with governance well before the eventual collapse.  We have observed either a failure to make such comments at an early enough stage or a failure to make such comments with sufficient emphasis for the real issues to be understood.

A long form report in our view is a panacea that will achieve nothing that cannot already be achieved by effective corporate reporting, challenged by robust audit reporting within the existing framework.  However greater involvement of the audit committee, including their making a public report as advocated by the UK FRC, might result in that committee challenging the cautious comments being made to them by external auditors.

There are good auditors out there …
An article has recently come to our attention describing the fate of a diligent auditor who discovered a sticky situation at a Canadian maple syrup depot – by losing his balance on a syrup barrel at the stock take while he was climbing a pile of barrels.  The wobbly barrel turned out to be empty and alerted the auditors to a large fraud.  The full story can be read in Bloomberg Businessweek on this link: http://www.businessweek.com/articles/2013-01-02/the-great-canadian-maple-syrup-heist.

Mentioned in Despatches
The big thrill for 2013 was when one of our cases proceeded to a hearing in the Supreme Court of Victoria and Chris had to give evidence. His evidence as the preferred accounting expert was mentioned in glowing terms in the judgement – further details can be found at http://www.westworthkemp.com.au/_blog/News/post/praise-for-chris-from-vic-supreme-court/.

The judgement also provides a good summary of the case law relating to the payment of dividends out of profits.  While the case was under the old dividend rules (S 245T of the Corporations Act 2001 as it stood in 2005), notwithstanding the subsequent change in the law to prefer a solvency over a profits test for dividends, his conclusions on directors’

obligations to consider financial information before paying a dividend are still relevant (see http://www.westworthkemp.com.au/Blog/ICM_Investments_Pty_Ltd_v_San_Miguel_Corporation_and_another.pdf for more details).

A Blast from the Past
This year saw the 15th birthday of the Institute’s ANT newsletter, conceived as a quick weekly update on accounting and auditing issues for members.  No one expected that 15 years on it would still be going. In September 1998, we still had our own Aussie GAAP accounting standards and AUS auditing standards that were not yet legally binding.  We had our own UIG making interpretations.  Now we take for granted globalised standard setting.

While some things change, some remain the same – the Auditing and Assurance Standards Board was discussing audit reporting and AUS 708 on Going Concern – sounds familiar?  Plus ca change …

WK would like to congratulate the Institute’s ANT writers on doing a great job keeping the profession up to date over the last 15 years and wishes them all the best for the next 15.

And lastly our awards for 2013
Award for the coolest crockery goes to Allens Melbourne for their teapots and best biscuits to HSF Melbourne, where it is almost impossible to attend a meeting without snacking.  Simpson Grierson in Auckland deserves an honourable mention for introducing us to a New Zealand delicacy, ginger slice, and serving very cute mini mince pies in December.

And our restaurant tips (with thanks to instructing solicitors on secondment from Sydney at Ashursts and HSF in Melbourne, who are exploring the Melbourne eating scene and appreciate that an expert needs to be fed and the PWC insolvency team who pointed us in the right direction in Auckland!)

We discovered that Flinders Lane is the home of interesting restaurants, with its attractively reused industrial spaces and eclectic décor.  Try Coda and Chin Chin.  We also discovered share plates thanks to Movida and in Melbourne and The Depot in Auckland, a wonderful way of sampling a variety of courses without eating too much.

We wish our clients and contacts all the best for the festive season and look forward to more adventures in accounting and auditing in 2014!