The impact of European Union regulation requiring all listed companies, including banks, to comply with International Financial Reporting Standards (IFRS) as from January 1 2005 will vary from institution to institution in light of the various differences between IFRS and current national standards, Moody’s Investors Service says in a new Special Comment. As a result, EU banks should communicate their views on the implications of the changes as soon as they are in a position to do so, the rating agency adds.
The introduction of IFRS will, in Moody’s view, represent an important step in lowering further the barriers to cross-border trading in securities by ensuring that company accounts throughout the EU are transparent, reliable and comparable. “However, we also expect it to pose a major challenge to the entities in question – not only in the adoption of the new standards, but also in the task of explaining their impact to users of financial information,” explains Yaroslav Sovgyra, senior accounting specialist for European banks and author of the report.
In order to help investors and analysts understand the impact of IFRS on their financial position and performance, EU banks should begin communicating their expectations of the implications throughout 2004, with the banks being in a position by 2005 to explain the numerical impact of IFRS on their financial statements.
At the same time, Moody’s added that no rating changes are likely solely as a result of modifications in banks’ financial reporting as long as economic results and financial strength are not affected. Having said that, in view of the potential impact – at least in the short term – of the IFRS disclosures on market perception, it is possible that some banks may choose to scale down or discontinue activities that could impact positively or negatively their reported profitability or capitalisation.
Moody’s report said that IFRS differs from the national accounting standards of the individual European countries adopting the new framework in a number of important areas, notably the following:
– Under IFRS, banks will be consolidating a greater number of subsidiaries and Special Purpose Entities (SPEs) than under national accounting standards.
– Derivatives will be measured at fair value, which may increase the volatility of reported income but also aid investors and analysts in better understanding the true extent of banks’ exposure to market risk arising from derivatives transactions.
– Hedge accounting will be used less widely, given the relatively stringent IFRS criteria. As a consequence, banks’ income volatility may rise.
– Certain categories of financial assets and liabilities, previously measured at cost, will be measured at fair value.
– Allowance for credit losses will change, as certain types of general provisions will no longer be permitted.
