Benoît Lebrun Chairman, Accounting Working Party FEE 7 June 2005 Advanced program in accounting and auditing regulation Accounting Directives

2 The Fourth Directive and the Seventh Directive Purposes Protect creditors from companies which offer limited safeguards (limited company) Provide minimum accounting requirements for financial information which should be made available to the public by companies Reminder : a directive is a requirement to Member States to change their legislation in order that it complies with the provisions of the directive (  regulation)

3 The Fourth Directive General Legal forms of companies within the scope of the directive Components of financial statements : balance sheet, statement of income, notes Purpose of financial statements : true and fair view Override principle Focus on formats of financial statements : primary aspects where harmonization was possible Two principles to be applied when presenting financial statements : consistency ; prohibition of set-off

4 The Fourth Directive Balance sheet format Two formats possible assets on one side / liabilities including equity on the other side equity presented as a difference between assets and liabilities Simplified format allowed for companies which do not exceed the limits of two of the three following criteria : balance sheet total : 3,650,000 euros net sales : 7,300,000 euros average number of employees during the financial year : 50

5 The Fourth Directive Format of the statement of income Many possibilities offered by the directives Presentation of expenses by nature or by function Presentation where the expenses are deducted from net sales to arrive to the net income Presentation where expenses is on one side and the revenues on the other side Simplifications allowed for companies which do not exceed the limits of two of the three following criteria : balance sheet total : 14,600,000 euros net sales : 29,200,000 euros average number of employees during the year : 250

6 The Fourth Directive Notes on the financial statements List of 14 aspects to be disclosed in the notes, in addition to information already required by other provisions of the Directive Simplified version allowed for companies which are authorized to use a simplified balance sheet layout

7 The Fourth Directive Valuation principles Going concern Consistency of valuation Prudence (realization principle ; post balance sheet date liabilities relating to previous year ; depreciation of assets) Accrual versus cash basis Separate valuation of assets and liabilities Opening balance sheet of a year : closing balance sheet of previous year

8 The Fourth Directive Cost versus revalued amounts Purchase price or production cost Possible option : replacement value for tangible fixed assets or stock revaluation of any items to take account of inflation revaluation for fixed assets Accounting and legal treatment of the revaluation surplus : included in equity, may be transferred in the capital, cannot be distributed

9 The Fourth Directive Options relating to assets Formation expenses (legal costs …) Interest expense during the production phase of fixed assets Capitalization of research and development costs Valuation formula for stocks : weighted average cost, Fifo, Lifo

10 The Fourth Directive The fair value option Major option introduced in the Fourth Directive in 2001 Purpose : to accommodate national accounting requirements based on IAS 39 on financial instruments Based on the IAS 39 version existing when the amendment was published All financial assets may be fair valued except : financial assets held to maturity loans and receivables originated by the company loans and receivables originated by the company Prohibition of the fair value for financial liabilities, with exceptions

11 The Fourth Directive Other provisions of the Fourth Directive Contents of the annual report Publication of the annual financial statements Audit of the annual financial statements

12 The Seventh Directive Obligations to prepare consolidated financial statements Consolidated financial statements must be prepared by companies controlling other entities The control over another entity results from : the holding of the majority of the voting rights the right to appoint or remove the majority of the directors of the entity the right to exercise a dominant influence, as a result of a contract or provisions in its by-laws

13 The Seventh Directive Exemption from the obligation to prepare consolidated financial statements Companies which, together with controlled entities, do not exceed the limits of two of three criteria (balance sheet total : 14,600,000 euros ; net sales : 29,200,000 euros ; average number of employees during the year : 250) Companies which are themselves controlled by another company Exemptions not available to limited companies

14 The Seventh Directive The treatment of the goodwill Goodwill : difference between cost of shares of the subsidiary and the proportion which they represent in the net assets of the subsidiary Option : amortization determined as for the goodwill in the Fourth Directive deduction from equity Negative goodwill : deferred income or immediate gain

15 The Seventh Directive Consolidation procedures Elimination of intercompany balances and transactions Elimination of intercompany gains or losses Date of the consolidated balance sheet and of the balance sheets of subsidiaries Consistency of presentation and valuation methods over time Consistency of valuation methods used within the group Recognition of deferred income taxes Recognition of deferred income taxes

16 The Seventh Directive Equity method / proportionate consolidation Equity method to be applied to an investment in an entity on which the parent company exercises a significant influence Jointly controlled entities : option to use either the equity method or the proportionate consolidation method

17 The Seventh Directive Other provisions of the seventh directive The consolidated annual report The audit of consolidated financial statements The publication of consolidated accounts

18 Conclusions : the achievements of the Accounting Directives Harmonization of national legislations in respect to : the obligation to prepare individual and consolidated financial statements and an annual report the audit and the publication of financial statements Difficulty to harmonize the accounting requirements in national legislations or accounting standards the main achievement : the lay-outs absence of common views on frameworks, concepts, definitions, valuation methods (too many options)