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An overview of the New Zealand external reporting environment

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Title: An overview of the New Zealand external reporting environment


1
Chapter 1
  • An overview of the New Zealand external
    reporting environment

2
Objectives
  • Understand the extent of regulation relating to
    which New Zealand external financial reporting is
    subject.
  • Be able to explain the general functions of the
    Accounting Standards Review Board, the Financial
    Reporting Standards Board and the New Zealand
    Stock Exchange.
  • Understand the role of a financial reporting
    standard and the process by which it is developed.

3
Objectives (cont.)
  • Be able to explain the five elements of
    accounting and be aware of the respective
    recognition principles.
  • Be able to explain the objectives and potential
    shortcomings of the New Zealand Statement of
    Concepts for General Purpose Financial Reporting.

4
Objectives (cont.)
  • Understand the role of the International
    Accounting Standards Board and be aware of the
    program, currently in place within New Zealand,
    to harmonise New Zealand financial reporting
    standards with pronouncements issued by the
    International Accounting Standards Board and the
    Australian Accounting Standards Board.

5
Financial accounting defined
  • Financial accounting is a process involving the
    collection and processing of financial
    information to assist the decision-making needs
    of parties external to the organisation.
  • Contrasted with management accounting
  • focuses on providing information for decision
    making by parties within the organisation
  • largely unregulated.
  • Financial accounting heavily regulated.

6
User demand for general purpose financial reports
  • Users may be defined to include
  • present and potential investors
  • employees
  • lenders
  • suppliers and other trade creditors
  • customers
  • government and its agencies
  • the public.
  • Only certain users may have the power to demand
    specific information to meet their needs.

7
Sources of external financial reporting
regulations
  • The Accounting Standards Review Board (ASRB)
  • The Financial Reporting Standards Board (FRSB)
  • The New Zealand Stock Exchange (NZSE)

8
Background to NZ accounting standard-setting
process
  • Until 1993 regulation of accounting profession
    was in the hands of the private sector.
  • 1987 share market collapse led to an inquiry to
    review share market law and recommend changes to
    ensure the existence of a fair and efficient
    market.

9
Background to NZ accounting standard-setting
process (cont.)
  • A number of recommendations made, including
  • legal backing be given to accounting standards
  • an Accounting Standards Review Board be
    established to approve accounting standards
  • sanctions be put in place for non-compliance with
    standards.

10
Accounting Standards Review Board (ASRB)
  • Financial Reporting Act 1993 (FRA) is the primary
    statute governing the establishment of accounting
    standards.
  • ASRB constituted as a body corporate under the
    FRA.
  • Functions of ASRB provided by section 24
  • of FRA.

11
Application of financial reporting standards
  • Financial reporting standards approved by the
    ASRB normally apply to all financial statements
    prepared by all reporting entities or groups.
  • However, financial reporting standards may be
    expressed to apply to specific classes of issuers
    or companies (e.g. by size of the entity).

12
Application of financial reporting standards
(cont.)
  • Financial statements means statements
    comprising
  • a statement of financial position
  • a statement of financial performance (or an
    income and expenditure account)
  • a cash flow statement
  • explanatory notes.

13
Application of financial reporting standards
(cont.)
  • An issuer includes companies that have allocated
    securities to the public.
  • Issuers include
  • entities that have allocated securities to the
    public by way of a registered prospectus
  • unit trusts
  • registered banks.

14
Application of financial reporting standards
(cont.)
  • Small companies are treated as an exempt
    category.
  • Company or issuer is exempt if
  • total assets did not exceed 450 000
  • turnover did not exceed 1 000 000
  • the company was not a subsidiary
  • the company did not have subsidiaries.

15
Framework for differential reporting
  • Applies to general purpose financial reports
    only.
  • Under the framework, qualifying entities are
    granted full or partial exemption from complying
    with certain financial reporting standards.
  • The frameworks use is justified on the grounds
    that accounting standard overload and compliance
    costs are reduced.

16
Financial reporting standards, GAAP and the true
and fair view
  • GAAP describes the basis on which general purpose
    financial reports are normally prepared.
  • It encompasses specific rules, practices and
    procedures relating to particular circumstances
    and broad concepts and principles of general
    application.

17
Financial reporting standards, GAAP and the true
and fair view (cont.)
  • Financial statements comply with GAAP only if
    those statements comply with
  • applicable financial reporting standards or
  • where there are no applicable financial reporting
    standards or rule of law, with accounting
    policies that are appropriate to the
    circumatances of the reporting entity and have
    authoritative support within the accounting
    profession in New Zealand.

18
Financial reporting standards, GAAP and the true
and fair view (cont.)
  • Compliance with GAAP usually means that financial
    statements give a true and fair view of an
    entitys financial position, performance and cash
    flows.
  • Financial statements must provide a true and
    fair view.
  • No legal definition of true and fair view.

19
Financial reporting standards, GAAP and the true
and fair view (cont.)
  • Two views on true and fair view
  • could be met by companies complying with
    financial reporting standards when preparing
    general purpose financial reports or
  • could imply more than simply complying with
    financial reporting standards.
  • Financial statements should include all
    information of a material nature.

20
Directors responsibilities
  • Directors of a company are responsible for the
    maintenance of accounting records.
  • Although not specifically required, a number of
    New Zealand companies include a section in their
    directors reports dealing with directors
    responsibilities.

21
Directors report
  • No formal requirement for a directors report.
  • Section 211(1)(a) of Companies Act 1993 requires
    that every annual report
  • be in writing
  • be dated
  • describe the state of the companies affairs
  • will not be harmful to the business of the
    company or any subsidiary or
  • change during the accounting period in
  • the nature of the business
  • the classes of business in which the company has
    an interest

22
Directors report (cont.)
  • A number of additional items must be disclosed,
    including
  • particulars of entries in the interests register
    made during the accounting period
  • names of persons holding office as directors at
    end of and during the accounting period.

23
Financial Reporting Standards Board (FRSB)
  • FRSB is a board of ICANZ.
  • Members are appointed by the Council of ICANZ.
  • FRSB is responsible for developing and revising
    financial reporting standards, sources of
    authoritative support, maintance of the Statement
    of Concepts, guidance notes and technical
    practice aids.

24
Development of a financial reporting standard
  • Until 1997, financial reporting standard projects
    originated from
  • outcomes of IASC work programs
  • harmonisation with Australia
  • issues raised by ICANZ members
  • responses to changes or new developments
  • review of changes to existing financial reporting
    standards in response to the continued
    development of the Statement of Concepts.

25
Development of a financial reporting standard
(cont.)
  • In 1997 the FRSB decided that future financial
    reporting standards would be developed based on
    those issued by the IASC or AASB.
  • A discussion paper would accompany the exposure
    draft in which the implications for New Zealand
    entities would be outlined.

26
Urgent issues group (UIG)
  • No formal UIG exists in New Zealand.
  • FRSB directs those seeking clarification on a
    financial reporting standard to
  • amendments to standards
  • interpretations to standards
  • guidance notes.

27
New Zealand Stock Exchange (NZSE)
  • For entities listed on NZSE there are additional
    reporting requirements contained in Listing
    Rules.
  • NZSE can also require compliance with a
    particular accounting standard, for example IAS
    33 Earnings Per Share.

28
The Conceptual Framework (CF)
  • FRSB is responsible for the maintenance of the
    Statement of Concepts.
  • Framework seeks to define the nature, subject,
    purpose and broad content of general purpose
    financial reporting.
  • Argues that Statement of Concepts is not a CF
    because a cohesive set of principles to guide
    financial reporting has not been established.

29
The Conceptual Framework (CF) (cont.)
  • Central goal in establishing CF is general
    consensus on
  • scope and objectives of financial reporting
  • qualitative characteristics that financial
    information should possess
  • elements of financial reporting.

30
Benefits of Conceptual Framework
  • More consistent and logical financial reporting
    standard can be developed.
  • Increased international comparability.
  • The Boards should be more accountable for their
    decisions.
  • Enhanced process of communication between the
    Boards and constituents.
  • More economical accounting standard development.

31
SC 2 Reporting entity
  • A reporting entity exists where it is reasonable
    to expect the existence of users dependent on
    general purpose financial reports (GPFRs) for
    information which will be useful to them.
  • GPFRs provide information to meet the needs of
    external users unable to acquire, or contract
    for, special purpose financial reports.

32
SC 3 Objectives of GPFRs
  • To provide information to assist users in
    assessing the reporting entitys
  • financial and service performance, financial
    position and cash flows
  • compliance with legislation, regulations, common
    law and contractual arrangements and
  • making decisions about providing resources to, or
    doing business with, the entity.
  • Financial reporting has an accountability and an
    information or decision-making role.

33
SC 4 Qualitative characteristics
  • Identifies the characteristics of financial
    information necessary to allow users to make and
    evaluate decisions about the allocation of scarce
    resources.
  • Primary qualitative characteristics
  • relevance
  • reliability

34
SC 4 Qualitative characteristics (cont.)
  • Information is relevant if it can be used to
  • confirm or correct prior expectations about past
    events (feedback value)
  • assist in forming, revising or confirming
    expectations about the future (predictive value).
  • Information is reliable when it
  • corresponds with actual underlying transactions
    and events (representational faithfulness)
  • is capable of independent verification
    (verifiability)
  • is free from bias (neutrality).

35
SC 5 Assumptions underlying the preparation of
GPFRs
  • Three basic assumptions underlie GPFRs
  • going-concern assumption
  • period reporting assumption
  • accrual-basis assumption.
  • Where assumptions are not appropriate or have not
    been used, the alternative assumptions used must
    be disclosed.

36
SC 6 Influences on qualitative characteristics
  • Four significant influences in adopting
    particular characteristics
  • balance between qualitative characteristics
  • balance between benefit and cost
  • materiality
  • Prudence.

37
SC 6 Influences on qualitative characteristics
(cont.)
  • GPFRs should include all financial information
    that satisfies the concepts of relevance and
    reliability, to the extent that such information
    is material.
  • Materiality is a matter of professional judgement
    although SSAP-6 does provide guidance on base
    amounts.

38
SC 7 Definition and recognition of assets
  • Assets are defined as
  • service potential or future economic benefits
    controlled by the entity as a result of past
    transactions or other past events.

39
Definition and recognition of assets (cont.)
  • Three key characteristics of definition
  • there must be service potential or future
    economic benefits
  • the reporting entity must control the service
    potential or future economic benefits and
  • the transaction or other event giving rise to the
    control must have occurred.

40
Definition and recognition of assets (cont.)
  • An asset shall be recognised in the financial
    statements when
  • it is probable that the service potential or
    future economic benefits embodied in the asset
    will eventuate and
  • it possesses a cost or other value that can be
    measured with reliability.
  • probable is defined as more likely rather than
    less likely.

41
Definition and recognition of liabilities
  • Liabilities are defined as
  • future sacrifices of service potential or future
    economic benefits that the entity is presently
    obliged to make to other entities, as a result of
    past transactions or other past events.

42
Definition and recognition of liabilities (cont.)
  • There are three main characteristics
  • the entity is presently obliged to act or perform
    in a certain way
  • the action will have adverse financial
    consequences for the entity
  • a past transaction or other event must have
    occurred to create the obligation.

43
Definition and recognition of liabilities (cont.)
  • Recognition in financial statements again
    requires two tests to be met
  • it is probable that the future sacrifice of
    service potential or future economic benefits
    will be required and
  • the amount of the liability can be measured
    reliably.

44
Definition and recognition of liabilities (cont.)
  • If a liability cannot be measured reliably but is
    potentially material it should be disclosed
    within the notes to the accounts.

45
Definition and recognition of expenses
  • The definition is dependent upon the definition
    of assets and liabilities.
  • Expenses are defined as
  • consumptions or losses of service potential or
    future economic benefits in the form of
    reductions in assets or increases in liabilities
    of the entity, other than those relating to
    distributions to the owners, that result in a
    decrease in equity during the reporting period.

46
Definition and recognition of expenses (cont.)
  • Expenses are recognised when
  • it is probable that the consumption or loss of
    service potential or future economic benefits
    resulting in a reduction in assets and/or
    increase in liabilities has occurred and
  • the consumption or loss of economic benefits can
    be measured with reliability.

47
Definition and recognition of revenues
  • Again the definition is dependent on asset and
    liability definitions.
  • Revenues are defined as
  • inflows or other enhancements, or savings in
    outflows, of service potential or future economic
    benefits in the form of increases in assets or
    reductions in liabilities of the entity, other
    than those relating to contributions by owners,
    that result in an increase in equity during the
    reporting period.

48
Definition and recognition of revenues (cont.)
  • Revenues can be recognised in the financial
    statements when
  • it is probable that the inflow or other
    enhancement or saving in outflows of service
    potential or future economic benefits has
    occurred and
  • the inflow or other enhancement or saving in
    outflows of service potential or future economic
    benefits can be measured with reliability.

49
Definition of equity
  • Equity is defined as
  • the residual interest in the assets of the entity
    after deduction of its liabilities.
  • Directly a function of the definition given to
    assets and liabilities.

50
Critical review of the Conceptual Framework (CF)
  • Objective of GPFRs in CF implies that financial
    reports should be primarily economic in focus.
  • Should social issues be ignored in the annual
    report?
  • An individual's view of business responsibilities
    directly impacts on the perceptions of
    accountability.

51
Critical review of the CF (cont.)
  • In determining whether an entity is a reporting
    entity, is the need for information to enable
    informed resource allocation decisions the only
    or dominant thing to consider?

52
Critical review of the CF (cont.)
  • Economic focus of GPFRs ignores transactions or
    events not resulting from market transactions or
    an exchange of property rights.
  • Ignores environmental externalities caused by
    business.

53
Critical review of the CF (cont.)
  • Financial statements included within reports only
    reflect financial performance and do not provide
    a means of assessing social performance.
  • Financial press also generally uses financial
    indicators as a guide to a firms success.

54
Critical review of the CF (cont.)
  • The Conceptual Framework simply codifies existing
    practice.
  • Conceptual frameworks have been used as devices
    to legitimise the existence of the accounting
    profession.

55
Harmonisation of New Zealand and International
Accounting Standards
  • Since 1993 ASRB required to liaise with
    Accounting Standards Board in Australia to
    harmonise New Zealand and Australian financial
    reporting standards.
  • Harmonisation compatibility but with some
    variations.

56
The International Accounting Standards Committee
(IASC)
  • Established in 1973.
  • Aims to bring together parties from throughout
    the world to develop accounting standards that
    apply internationally.
  • Representatives from over 100 countries.
  • Replaced by International Accounting Standards
    Board (IASB) in April 2001.

57
Importance of International Accounting Standards
  • Referred to as indication of possible best
    practice when standards being developed by
    countries with their own standard-setting process
    in place.
  • Useful guidance when no domestic standard relates
    to a particular accounting issue.
  • Have been directly adopted by countries which do
    not have their own accounting standards.

58
Structure of new IASB
  • Group of trustees responsible for appointment of
    IASB members.
  • IASB has 12 full-time members and 2 part-time
    members.
  • Publication of IAS or exposure draft requires
    approval by at least 8 Board members.

59
Harmonisation with IASC standards
  • IAS issued by IASB are deemed to have
    authoritative support in New Zealand.
  • Inconsistencies between NZ financial reporting
    standards and IAS (and Australian accounting
    standards) are highlighted in conformity
    statements included as appendixes to financial
    reporting standards.

60
New Zealand representation on the IASB
  • NZ does not have strong representation on the
    IASB.
  • IAS development process does allow for New
    Zealand input.

61
Rationale for harmonisation
  • If New Zealand retains unique accounting
    standards, inflow of foreign investment will be
    restricted.
  • Need for common accounting language to facilitate
    investor evaluation of domestic and foreign
    corporations.
  • Avoids costly accounting conversions by foreign
    listed companies.

62
Implications of harmonisation
  • Numerous changes to New Zealand financial
    reporting standards in recent years, and still
    ongoing.
  • Numerous new standards to cover issues not
    previously addressed by financial reporting
    standards.

63
Perceived benefits of harmonisation
  • Improve quality of financial reporting.
  • Increase comparability of financial reports
    prepared in different countries means better
    quality information to participants in
    international capital markets.
  • Remove barriers to international capital flows.

64
Perceived benefits of harmonisation (cont.)
  • Reducing financial reporting costs for both New
    Zealand and foreign multinationals.
  • Facilitating more meaningful comparisons of New
    Zealand and foreign public sector entities.

65
New Zealand adoption of IFRS
  • October 2002 ASRB announces that from 2007,
    listed issuers would be required to comply with
    IFRS.
  • Issuers would be permitted to adopt them from
    2005.

66
Recent developments financial reporting
structure
  • November 2002 the FRSB agreed that the New
    Zealand financial reporting structure should be
    aligned as closely as possible with the
    Australian structure.
  • Based on the reporting entity concept.

67
Barriers to harmonisation
  • Perceived barriers to harmonisation
  • different business environments
  • different legal systems
  • different cultures and
  • different political environments across
    countries.
  • Culture is an expression of norms, values and
    customs, which reflect typical behavioural
    characteristics.

68
Culture and harmonisation
  • Values inherent in accounting sub-culture
    influenced by society-wide values.
  • Accounting systems cannot be considered to be
    culture free.
  • Should different countries with varying cultural
    values adopt internationally uniform accounting
    practices?

69
Use and role of audit reports
  • Provides an independent opinion of the financial
    information, regarding
  • true and fair view
  • compliance with financial reporting standards.
  • Helps establish credibility of the financial
    information.
  • Auditor not responsible for preparation of
    financial information.

70
The need for regulation
  • Accounting is fairly heavily regulated in New
    Zealand
  • The Financial Reporting Act 1993 and
  • Companies Act 1993
  • Financial reporting standards.
  • Opinions on the need for regulation vary, and
    range between the free-market perspective and
    the pro-regulation perspective.

71
Free-market perspective on regulation
  • Demand and supply forces should be allowed to
    operate, to generate an optimal supply of
    information.
  • Even in the absence of regulation there are
    private economics-based incentives to provide
    information.

72
Free-market perspective on regulation (cont.)
  • Produced to reduce conflict between parties with
    an interest in the organisation.
  • Managers argued to be best placed to determine
    what information should be produced.

73
Free-market perspective on regulation (cont.)
  • Financial statement audits can also be expected
    in the absence of regulation.
  • If no regulation, entities are still motivated to
    disclose both good and bad news.
  • market for lemons perspective

74
Pro-regulation perspective
  • Arguments in favour of a free market, where
    users are expected to pay for information break
    down when consumption of free or public goods
    is considered.

75
Pro-regulation perspective (cont.)
  • Accounting information is a public good.
  • Once available, it can be used and passed on
    without paying.
  • Parties using without incurring costs are known
    as free-riders.
  • In the presence of free-riders, true demand is
    understated.

76
Pro-regulation perspective (cont.)
  • Regulation required to alleviate the effects of
    market failure.
  • Arguments that on average the market is
    efficient ignore the rights of individual
    investors who may lose as a result of relying
    upon unregulated disclosures.

77
Pro-regulation perspective (cont.)
  • Ability to obtain information may depend on the
    individuals control of scarce resources required
    by the entity.
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