FINANCIAL REPORTING & IR

In April 2024, the International Accounting Standards Board released IFRS 18, Presentation and Disclosure in Financial Statements, to replace the existing standards of IAS 1, Presentation of Financial Statements. IFRS 18 is expected to significantly change how financial statements are presented, particularly the income statement and the level of disclosures. Importantly, IFRS 18 was developed in response to investors' requests for improved disaggregation and comparability of information in the financial statements, enhancing their understanding of an organization’s performance both independently and relative to its peer group. The new standard is also anticipated to bridge some non-GAAP performance measures used by entities to explain their financial performance beyond the financial statements.

Some of the key impacts of IFRS 18 include:

• Classification of income and expenses into three new categories – operating, investing and financing. The operating category will generally capture income and expenses arising from the organization’s main business activities. The investing category includes the performance results of the organization’s associates and joint ventures, as well as assets that generate a return largely independent of other resources and returns on cash and cash equivalents. The financing category includes returns on liabilities related to raising funds, and interest expense on these liabilities and other financial liabilities, such as lease liabilities.
• The main business activities of the organization impact the classification of income and expenses – careful analysis of an organization’s revenue streams is necessary to appropriately classify income and expenses. This analysis could differ for the same organization depending on the level at which financial statements are being prepared – consolidated versus standalone.
• Present analysis of operating expenses either by nature, by function or on a mixed basis on the face of the income statement with corresponding disclosures.
• The income statement will include two new subtotals, including Operating Profit or Loss and Profit or Loss Before Financing and Income Tax, aimed to present separately the various categories of income and expense.
• Disclosures about management’s defined performance measures (MPMs) in the financial statements include certain non-GAAP performance measures. MPMs are subtotals of income and expense used in public disclosures to communicate management’s view of the entity’s financial performance. As MPMs will be disclosed in the financial statements, they will be subject to audit.
• Introduce the principles of aggregation versus disaggregation of information in order to determine the appropriate level of detail to provide in the primary financial statements and notes.

The adoption of IFRS 18 is expected to have downstream effects that are beyond the finance function. Organizations should consider taking a proactive approach and assess the degree to which they will be impacted:

New judgements and assessments

An organization will need to apply significant judgment to assess what constitutes its main business activities, as this can impact the category to which income and expenses belong, along with the appropriate levels of aggregation and disaggregation. This could be particularly challenging for large organizations that have diverse operations and extensive reporting requirements (i.e. issuing consolidated versus standalone financial statements).

Changes to processes and systems

IFRS 18 can bring fundamental changes to the financial reporting function, specifically around the way that financial data is captured, processed, gathered and presented. This would require organizations to review charts of accounts, update transaction recording systems, revise financial reporting (e.g. consolidation) processes, add new data points or disclosures, or design revised control procedures to ensure compliance.

Organizations will also need to develop a process to capture and analyze key performance indicators (KPIs) to the extent that any MPMs are disclosed in the financial statements. Some organizations may need to make significant investments to update their existing software to ensure compatibility with future financial reporting requirements.

Changes to contractual arrangements linked to financial performance

An organization’s existing contractual arrangements, such as employee compensation plans, bonus schemes, covenant tests or performance-based contracts, may be tied to certain subtotals or figures currently presented in the financial statements. In adopting IFRS 18, organizations will need to determine whether amendments to such contractual arrangements are necessary and assess any implications.

Communicating to investors and other interested and affected parties and next steps

The annual report is a key component of an organization’s communication with its stakeholders, and it is common for organizations to use non-GAAP performance measures, such as adjusted operating profit or adjusted EBITDA, to measure business performance. IFRS 18 may also cause companies to revisit the non-GAAP performance measures typically discussed in the front half of their annual reports. Companies should assess how IFRS 18 will affect their KPIs and consider developing transitional KPIs that bridge the gap between the old and new reporting standards. This approach can help maintain consistency in performance evaluation and external reporting during the transition period.

IFRS 18 is effective from January 1, 2027, and is applied retrospectively. For organizations with calendar fiscal year-ends, the required changes to systems, processes and controls should be in place from January 1, 2026. Organizations will be required to present the new income statement categories and subtotals in the interim financial statements in the first year of applying IFRS 18.

Educating investors and other stakeholders on the impacts of IFRS 18 will be critical as it is expected that most financial statements will see drastic changes. The involvement of investor relations professionals early in the adoption process will be important to assist stakeholders in navigating the standard’s complexities and avoid potential misinterpretations.

Keith Leung, CPA, CA is a Senior Manager, Accounting Advisory Services, and Terry Liu, CPA is Partner, Accounting Advisory, for KPMG LLP in Canada.