Implementation of International Financial Reporting Standards (IFRS) during and after the COVID-19 pandemic

2020-03-29 - 12:00

Article written by: Phd. Edona Perjuci

Today we are witnessing that the situation created by the COVID-19 pandemic is greatly affecting the overall global economic development and stability of financial markets. In this situation, the economic consequences, beside from the fact that they have already started to appear on the horizon, will continue to worsen even further in the upcoming months.

Financial reporting and auditing systems and processes are no less affected by this current situation, taking into consideration the significant impact that the market volatility have in evaluations and judgments in accounting and auditing.

Therefore, under these circumstances and this global business environment, accounting and auditing firms and professionals will face challenges and difficulties when preparing financial statements in accordance with IAS/IFRS.

Disclosure requirements vary under different IFRSs and they are also specific to different industries and companies, but the use of professional judgment that such disclosures require is essential especially in these situations where additional professional competence and due care is needed. Therefore, below are presented some of the issues that we should consider as professionals when preparing financial statements in accordance with IFRSs.

Subsequent events

IAS 10 - Events after the Reporting Period identifies these events as events that provide evidence of the conditions that existed at the end of the reporting period and  thus should be adjusted in the financial statements.

Given that IAS 10 distinguishes two types of events: those that provide further evidence of the conditions that existed at the end of the accounting period; and those that provide evidence of the existence of conditions only after the end of the accounting period, it is neccessary to adjust financial statements for adjusting events, while for events that do not have an impact on the event at the reporting date, adjusting is not required, therefore they should only be disclosed in the notes of financial statements, of course if the amounts are material.

Since the COVID-19 pandemic has caused several events in every country in the world, including Kosovo, each company must assess the relevant factors and circumstances to conclude whether the events that occurred after the reporting period are adjusting or not. To make this professional judgment, companies need to consider the timing of the pandemic and whether the events were the result of pandemics.

Since the World Health Organization has announced Coronavirus as a global emergency and declaring it as a pandemic in March 2020, most governments have taken actions in 2020. Also, by February 2020, there hasn’t been any major impact in international markets and volatile price movements. This makes most of the events after the reporting period for 2019, to be non-adjusting events, but still require disclosure in the explanatory notes. Examples of such events are: Decrease in investment value, impairment of non-current assets including good will, etc.

However, there are examples of events that provide evidence of conditions that existed on December 31, 2019 the date of reporting period which require adjustment of FSs. For example, the bankruptcy of an important customer as a result of the termination of trade with China or other countries, requires adjustment of bad debt expenses and accounts receivables in financial statements.

Although COVID-19-affected events may not be adjusting events, it is important for companies to disclose in the notes how this pandemic has affected their activities, such as the decline in consumption and demand, the branches whose activity was interrupted by the government of the Republic of Kosovo, the high level of uncertainty in the accounting valuations, etc.

Accounting measurements  – Fair Value, impairment of non-current assets, inventories, etc.

IFRS 13 Fair Value Measurement requires companies to accurately measure the fair value of assets and liabilities at specific market prices on the reporting date, based on the assumptions that market participants would use under current market conditions.

Thereby, the assessment of the fair value of assets and liabilities reflects the conditions on the valuation date, not in later periods, even though events that occur after the reporting date may provide important information on the conditions that existed on the reporting date.

When companies make assessments and judgments in measuring fair market value, they must consider the conditions and assumptions that were known to market participants on the reporting date, regarding COVID-19 pandemic.

• IAS 36 Impairment of Assets

The basic principle of IAS 36 is that impairment is determined by comparing the carrying amount of the asset with its recoverable amount. Recoverable amount is the fair value minus the cost of selling or its value in use, whichever is higher.

The fair value is not the same as the ‘value in use’, as defined by IAS 36 Impairment of Assets. Value in use reflects the specific factors and knowledge for the entity, while fair value reflects the factors and knowledge relevant to the market.

Given that there may be movements in both entity-related and market-related factors as a result of the COVID-19 situation, companies must perform the appropriate impairment testing for assets as required by IAS 36. For example, a decline in profits as a result of COVID-19 may have a long-term impact on future forecasts, which has an impact on determining the recoverable amount of non-current (long-term) assets. This is also based on the fact that the value in use is measured as the current value of future cash flows generated by the asset, including the net asset value (if any) at the end of the expected useful life. All of this, however, will be greatly affected by the pandemic situation created by COVID-19, which must be taken into account when determining the impairment of assets.

• Impact on Net Realizable Value (NRV) of Inventory

Another impact in terms of key accounting assessment is the COVID-19 situation impact on the net realizable value of inventories.

Given the IAS 2Inventories requires measuring the inventories at the lower of cost and NRV, the valuation of NRV should be done at the same time as selling price estimates, using the most reliable information available.

In the COVID-19 period, price or cost fluctuations must be taken into account if they are directly related to the events after the reporting period and the situation created, which highlights events that already existed at the end of the period.

In certain cases where the decrease in NRV is very large, the causes or nature of the write-down must be explained separately.

For all of the above scenarios, companies need to consider whether economic uncertainties and market volatility will have an impact on accounting estimates.

Fulfilling the Going Concern Principle

The basic principle on which financial statements are prepared under the Conceptual Framework is the Going Concern principle, which assumes that the entity will continue to operate in the foreseeable future and that it has neither the intention nor the need to liquidate or significantly lower the scale of its operations

This concept assumes that, while preparing the financial statements, the business will continue to operate similarly for the foreseeable future (at least for the next 12 months).

It is already implied that after the COVID-19 situation, for some businesses, liquidity and going concern issues will start to show. This is due to the uncertainties of determining the potential impact, material uncertainties on the business's ability to operate on a going concern basis.

In these cases, the financial statements should be prepared according to the 'net realizable value or liquidation value', which are the amounts at which these assets and liabilities are completed if the business ceases its activity.

If unfavorable market conditions such as those created by the COVID-19 pandemic only indicate that the company may or may not have problems with the going conern principle, it should be disclosed in the explanatory notes.

In these cases, professional judgment and careful evaluation of the conditions which are caused by the COVID-19 pandemic are needed to assess the business ability to continue on a going concern basis.

Based on all of the above, users of financial statements, including regulators, expect that prepared financial statements to represent the true and fair view of businesses, as well as provide sufficient and necessary disclosure of potential COVID-19 impacts on financial statements. Therefore, it is our professional and moral duty not to disappoint the expectations of users and the general public, when preparing financial statements according to IFRSs in the situation created by the current pandemic.