From Times Online, UK
September 05, 2004
Communicate with your investors
Fear over what might happen to share prices is making companies reluctant to publicise IFRS changes, says Lucinda Kemeny
As Winston Churchill once said: "Courage is what it takes to stand up and speak" and yet, with the move to international financial reporting standards just months away, few companies have taken a deep breath and been prepared to go out and tell their stakeholders how the transition will affect them.
According to a recent survey conducted by the Institute of Chartered Accountants in England & Wales (ICAEW), more than half (58%) of respondents from UK listed companies stated that their key performance indicators will be affected as a result of the introduction of IFRS. Of these, almost half (48%) foresee that the impact will be a negative one. Yet only a few have started to inform the market about these potentially damaging scenarios.
Anyone who follows what happens to a company's share price when bad news unexpectedly comes out will know that dives of 20% or more are common, yet firms are holding back. Why is this?
Eric Anstee, chief executive of the ICAEW, says one of the main reasons might be that many firms have yet truly to understand the changes which are about to take place. "There is a myth that UK standards are the same as IFRS, but they are significantly different. There is much more emphasis on present values and disclosures," he says.
So much so that key measures used by the market to value companies could be completely changed under IFRS.
For example, an acquisitive company will be required for the first time to carry out annual impairment reviews of the goodwill created at the time of each deal. And if market conditions have got worse, and the goodwill carried in the accounts is not worth as much as it was, the firm will be faced with having to make significant write-offs. For telecommunications and technology businesses, this could be a very big number indeed.
As Anstee says: "If you make a substantial impairment provision it has to go against the distributable reserves and that could affect dividend pay out ratios."
Other key numbers could be also be affected: deferred tax, financial instruments such as derivatives, pre-contract costs and leases. Even the definition of "cash" under IFRS is different.
Steve Cooper, accounting analyst at UBS, the investment bank, says: "It is likely that there will be some significant changes in profit simply because an item of income or expenditure is recognised in either an earlier or later period. This could produce large swings in earnings."
The warning is: forget the past, when the numbers could be smoothed to create a pretty picture for analysts and investors. This is reporting, warts and all.
Beyond just putting the numbers together, Iain Richards, head of governance and public policy at Morley Fund Management, says he is concerned by the level of discretion involved in how the numbers are calculated.
"Companies could end up calculating the same numbers on a different basis and that will leave investors with tons of extra work trying to understand what they mean," he said.
Many firms are already waking up to this fact and in the energy sector, for example, companies are getting together to work out how to apply standards on accounting for financial instruments because the current wording cannot be applied to their businesses without specific guidance.
This is all very well, but the Committee of European Securities Regulators (CESR) advised firms to publish information about their plans and their degree of achievement in moving towards IFRS in their 2003 annual financial statements, as well as offering information on the main differences between IFRS and UK accounting standards that have already been identified.
And although some companies have made some references to the change in their latest annual reports, analysts report a reluctance on the part of many firms who are unwilling to go first, particularly as reporting in IFRS, with all the additional disclosure, could give their competition some good ideas as to how they make their money.
Worryingly, this trend does not just apply to making external stakeholders aware of the change, but has shown itself internally as well. A study carried out by the financial services company PricewaterhouseCoopers of 310 companies across Europe found that a whopping 73% had not reviewed the training needs of their own staff and had not considered internal communications strategies.
But time is running out and next year hoping not to be first will not be an option. Here, we examine the different stakeholder groups who need to be educated, and what they would like to hear.
Staff
IFRS is not just about reporting under a different system of standards. It is about a wholesale change in thinking and disclosure which could affect hundreds, if not thousands, of people within an organisation.
Atos Origin, the consultants, has calculated that among the 7,000 listed companies in Europe, 3.5m people may be affected, and that is using conservative estimates.
This is because IFRS has a far wider impact than on the finance function alone.
Scott Parker, head of financial management solutions at Atos, says: "There is a challenge to help the broader internal community understand the information that they are receiving, because, if they are not trained, they could take incorrect business decisions."And it is not just the commercial aspect that companies need to consider in training staff, but the personal one, too.IFRS will introduce more volatility into financial reporting than ever before because many of the standards rely on using current market prices [mark to market] than the current system, which largely relies on using historic costs.
With many bonus schemes using share price as a means to measure performance, additional volatility may seriously affect staff bonuses. As Parker says: "You could find that at the end of the year you could be having a bunfight with employees about whether staff have achieved their objectives."
So what can companies do to ensure that the board is not faced with mutiny come bonus time?
Mark Holloway, commercial finance director at Allied Domecq, the global leisure business, says the important point is to take the initiative internally.
"We identified five phases when we started and we made sure we got the continued support of the senior financial staff around the world. We have got a clear external communications plan. It is not simply a financially driven exercise and areas like share-based remuneration and profit measures have been taken into the scope of the project."
Allied Domecq intends to provide some disclosure to the market later on this year, with more enhanced details at the time of the interim results next April.
And while all the planning is going on, experts warn not to forget the non-executive directors. They may not be accountants, but still need to understand fully what the changes mean in order to fulfil properly their roles of independent overview.
Investors
Key investors can make a huge difference to the value of a company's shares through their buying and selling decisions, yet while many companies are talking to their peers about the likely impact of IFRS, investors are still in the dark.
Iain Richards of Morley says: "There are some companies on top of it but plenty who are hazy about what they are up to. Some will only say that they are dealing with it. That is when investors start worrying."
The important thing is not to wait until issues do arise, but to make sure investors understand what the consequences will be.Derek Scott sits on the investment council of the National Association of Pension Funds and has seen the argument from all sides.
He says companies should not spring any nasty surprises on investors and that, although there may have been some scare stories about lack of readiness, there are listing rules which oblige companies to keep the market informed.
Investors agree that the main areas where problems could arise will centre around the use of earnings per share as a measure of performance.
The use of fair values in IFRS will introduce new volatility into earnings, which could not only render this figure useless as a performance measure, but also put in jeopardy the benchmarks currently used to judge management effectiveness.
Earnings volatility could also have consequences on dividend payouts, and investors agree that clarity and reassurance will be needed here.
Taken together, there are serious issues that companies will have to deal with sooner rather than later in order to avoid facing the wrath of the market if things go wrong.
According to Peter Montagnon, head of investment affairs at the Association of British Insurers, there is no need to panic quite yet. "It is slightly early days and the market has got the ability to see through some of the froth. But there are one or two crunch areas which need to be looked at, and where people need to have their eyes wide open."
Analysts
Analysts are the conduit by which investors make up their minds on where to put their money and consequently how much a company's shares are worth. If analysts do not understand the changes created by IFRS, then how can the market be fully informed?
Many analysts hoped for at least some disclosure on how companies were dealing with IFRS in their 2003 annual reports, but thus far information has been scarce.
Worries over being the first to reveal data that could be potentially useful to competitors, as well as the uncertainty that has been created by ongoing heated debate over IAS 39 on financial instruments, has created unnecessary uncertainty over companies' willingness to communicate with the market.
Anstee of the ICAEW warns that companies should be telling analysts of the impact this autumn or early in the new year, at the latest.This is not just to give analysts comfort on the profit figures, but also to help the market understand how IFRS could affect dividend ratios and bank borrowings, which are both tied to the accounts and may need to be reviewed under the impact of the new standards.
Andrew Wright, a utilities analyst at UBS, the investment bank, says: "We were hoping to see the likely impact in the recent results, but companies tell us they are still looking at this. They do not want to talk until they have worked out what the changes are going to be and they are still doing a lot of work on it."
Key investors can make a huge difference to the value of a company's shares through their buying and selling decisions, yet while many companies are talking to their peers about the likely impact of IFRS, investors are still in the dark.
Iain Richards of Morley says: "There are some companies on top of it but plenty who are hazy about what they are up to. Some will only say that they are dealing with it. That is when investors start worrying."
The important thing is not to wait until issues do arise, but to make sure investors understand what the consequences will be.Derek Scott sits on the investment council of the National Association of Pension Funds and has seen the argument from all sides.
He says companies should not spring any nasty surprises on investors and that, although there may have been some scare stories about lack of readiness, there are listing rules which oblige companies to keep the market informed.
Investors agree that the main areas where problems could arise will centre around the use of earnings per share as a measure of performance.
The use of fair values in IFRS will introduce new volatility into earnings, which could not only render this figure useless as a performance measure, but also put in jeopardy the benchmarks currently used to judge management effectiveness.
Earnings volatility could also have consequences on dividend payouts, and investors agree that clarity and reassurance will be needed here.
Taken together, there are serious issues that companies will have to deal with sooner rather than later in order to avoid facing the wrath of the market if things go wrong.
According to Peter Montagnon, head of investment affairs at the Association of British Insurers, there is no need to panic quite yet. "It is slightly early days and the market has got the ability to see through some of the froth. But there are one or two crunch areas which need to be looked at, and where people need to have their eyes wide open."
Analysts
Analysts are the conduit by which investors make up their minds on where to put their money and consequently how much a company's shares are worth. If analysts do not understand the changes created by IFRS, then how can the market be fully informed?
Many analysts hoped for at least some disclosure on how companies were dealing with IFRS in their 2003 annual reports, but thus far information has been scarce.
Worries over being the first to reveal data that could be potentially useful to competitors, as well as the uncertainty that has been created by ongoing heated debate over IAS 39 on financial instruments, has created unnecessary uncertainty over companies' willingness to communicate with the market.
Anstee of the ICAEW warns that companies should be telling analysts of the impact this autumn or early in the new year, at the latest.This is not just to give analysts comfort on the profit figures, but also to help the market understand how IFRS could affect dividend ratios and bank borrowings, which are both tied to the accounts and may need to be reviewed under the impact of the new standards.
Andrew Wright, a utilities analyst at UBS, the investment bank, says: "We were hoping to see the likely impact in the recent results, but companies tell us they are still looking at this. They do not want to talk until they have worked out what the changes are going to be and they are still doing a lot of work on it."
But he says there is no immediate cause for concern, given firms will generally have many opportunities to speak to their analysts before their first results come out next year. He adds that analysts understand that IFRS is all about how the information is presented. "People can make more of a fuss of it than needs be," he says.
Posts
