ASIC urges directors, preparers of financial reports and auditors to assess the impact of uncertain market and economic conditions on reporting for full and half-years ending 30 June 2023.
ASIC Commissioner Danielle Press said, ‘Directors should ensure that investors are properly informed on the impact of changing and uncertain economic and market conditions, ‘net zero’ targets and other developments on financial position and future performance. Impacts on asset values and provisions should be assessed, and uncertainties, key assumptions, business strategies and risks disclosed.’
ASIC has highlighted a number of areas for attention, in particular:
solvency and going concern assessments
events occurring after year end and before completing the financial report
disclosures in the financial report and Operating and Financial Review (OFR)
the impact of a new accounting standard for insurers.
Companies will be affected differently by changing and uncertain economic and market conditions depending on their industry, where they operate, how their suppliers and customers are affected, and a range of other factors.
‘Assumptions underlying estimates and assessments for financial reporting purposes should be reasonable and supportable’, said Ms Press.
Directors and management should assess how the current and future performance of an entity, the value of its assets and provisions, and business strategies, may be affected by changing circumstances, uncertainties and risks such as:
the availability of skilled staff and expertise, which can impact on revenue and costs
the impact of rising interest rates on future cash flows and on discount rates used in valuing assets and liabilities
inflationary impacts that may differ between costs and income
increases in energy and oil prices
geopolitical risks, including the Ukraine/Russia conflict
impacts of climate change, climate related events and transitioning to ‘net zero’
technological changes and innovation
COVID-19 conditions and restrictions during the reporting period
changes in customer preferences and online purchasing trends
the discontinuation of financial and other support from governments, lenders and lessors
legislative and regulatory changes
other economic and market developments.
This list is not intended to be exhaustive and there may be other factors to consider in the circumstances of individual entities. These factors may also be relevant in assessing the ability of an entity’s borrowers, debtors and lessees to meet their obligations to the entity, and the ability of key suppliers to continue to provide goods and services to the entity.
Industries that may be affected by the above factors include the construction industry, owners of commercial property, large carbon emitters and the agriculture industry.
Uncertainties may lead to a wider range of valid judgements on asset values and other estimates. These uncertainties may change from period to period. Disclosures in the financial report about uncertainties, key assumptions and sensitivity analysis are important to investors.
The Operating and Financial Review (OFR) should complement the financial report and tell the story of how the entity’s businesses are impacted by both COVID-19 and non-COVID-19 factors. The underlying drivers of the results and financial position should be explained, as well as risks, management strategies and future prospects. Forward-looking information should have a reasonable basis and the market should be updated through continuous disclosure if circumstances change. Further guidance can be found in ASIC’s Regulatory Guide 247 Effective disclosure in an operating and financial review.
More detail about ASIC’s focus areas for 30 June 2023 reporting is outlined in the attachment to this media release.
The reporting process
Directors are primarily responsible for the quality of the financial report. This includes ensuring that management produces quality financial information on a timely basis for audit. Companies must have appropriate processes, records and analysis to support information in the financial report.
Appropriate experience and expertise should be applied in the reporting and audit processes, particularly in more difficult and complex areas, such as asset values, provisions and other estimates.
The circumstances in which judgements on accounting estimates and forward-looking information have been made, and the basis for those judgements, should be properly documented at the time and disclosed as appropriate.
Audit fees should be reasonable and have regard to any increased costs for auditors and additional audit effort required in judgement areas.
As in previous reporting periods, ASIC will review the full-year financial reports of selected listed entities and other public interest entities as at 30 June 2023.
Audit focus areas
The financial reporting focus areas outlined in this media release are also important focus areas for auditors.
Auditors should also bring the knowledge of a business, risks and strategies obtained in the process of auditing the financial report in reviewing the OFR. While auditors do not form an opinion on the OFR, they are required to read the OFR for material misstatements of fact and material inconsistencies with the financial report. Auditors should document their consideration of disclosures on matters such as the underlying drivers of results, material risks, strategies and future prospects. The auditor may need to report a suspected contravention of the Corporations Act 2001 to ASIC where, for example, disclosures are materially inadequate or misleading, including where there is possible ‘greenwashing’.
Auditors should be complying with major new auditing standards on risk identification and assessment, firm quality management, engagement quality reviews, and quality control for financial report audits. Auditing standards can be found on the Auditing and Assurance Standards Board website.
Attachment to 23-149MR ASIC highlights focus areas for 30 June 2023 reports
1. Uncertainties and risks
A number of uncertainties and risks that may affect asset values, liabilities and assessments of solvency and going concern are shown in the bullet point list in the main body of this release.
2. Asset values
Examples of matters that may require the focus of directors, preparers and auditors in relation to asset values in the current environment include:
Impairment of non-financial assets
Goodwill, indefinite useful life intangible assets and intangible assets not yet available for use must be tested for impairment annually. Entities adversely impacted in the current environment may have new or continuing indicators of impairment that require impairment testing for other non-financial assets.
The appropriateness of key assumptions supporting the recoverable amount of non-financial assets.
The valuation method used for impairment testing should be appropriate, use reasonable and supportable assumptions, and be cross checked for reliability using other relevant methods.
An entity’s market capitalisation will generally not represent an appropriate fair value estimate for its underlying business but may be useful as an impairment indicator or in a valuation cross-check. Share prices may reflect transactions of relatively small proportionate interests as part of an investor’s strategy for a share portfolio. Business may be sold in illiquid markets with few potential participants. A business acquirer may seek synergistic benefits or make significant changes to a business.
Values from applying the ratio of market capitalisation to revenue for other entities to the entity’s own revenue will generally be more appropriately used in valuation cross-checks. Information may be dated and the limitations in using an entity’s own market capitalisation may apply. Further, the other entities must have closely comparable businesses, products, markets, cost structures, funding, etc.
Disclosure of estimation uncertainties, changing key assumptions, and sensitivity analysis or information on probability-weighted scenarios. Key assumptions may include assumptions relating to the factors listed in the covering release.
Values of property assets
Factors that could adversely affect commercial and retail property values should be considered such as changes in office space requirements of tenants, on-line shopping trends, future economic or industry impacts on tenants, the financial condition of tenants and restructured lease agreements.
The lease accounting requirements, the treatment of rental concessions by lessors and lessees, and the impairment of lessee right-of-use assets.
Expected credit losses (ECLs) on loans and receivables
Whether key assumptions used in determining expected credit losses are reasonable and supportable.
Any need for more reliable and up-to-date information about the circumstances of borrowers and debtors.
Short-term liquidity issues, financial condition and earning capacity of borrowers and debtors.
Ensuring the accuracy of ageing of receivables.
Using forward looking assumptions and not assuming recent debts will all be collectible.
The extent to which past history of credit losses remains relevant in assessing ECLs.
Whether possible future losses have been adequately factored in, using probability weighted scenarios as necessary.
Disclosure of estimation uncertainties and key assumptions.
ECLs should be a focus for companies in the financial sector and other sectors. Financial institutions should have particular regard to the impact of current economic and market conditions and uncertainties on ECLs. This includes assessing whether there are significant increases in credit risk for particular groups of lenders; adequacy of data, modelling, controls and governance in determining ECLs; and disclosing uncertainties and assumptions.
Financial asset classification
Financial assets are appropriately measured at amortised cost, fair value through other comprehensive income or fair value through profit and loss. Criteria for using amortised cost include whether both:
assets are held in a business model whose objective is to hold the assets to collect contractual cash flows
contractual terms give rise on specific dates to cash flows that are solely payments of principal and interest on the principal outstanding.
Value of other assets
The net realisable value of inventories, including whether all estimated costs of completion and necessary to make the sale have been taken into account in determining net realisable value.
Whether it is probable that deferred tax assets will be realised.
The value of investments in unlisted entities.
Consideration should be given to the need for and adequacy of provisions for matters such as onerous contracts, leased property make good, mine site restoration, financial guarantees given and restructuring.
4. Subsequent events
Events occurring after year-end and before completing the financial report should be reviewed as to whether they affect assets, liabilities, income or expenses at year-end or relate to new conditions requiring disclosure.
Considerations on disclosure include:
When considering the information that should be disclosed in the financial report and OFR, directors and preparers should put themselves in the shoes of investors and consider what information investors would want to know.
Disclosures should be specific to the circumstances of the entity and its businesses, assets, financial position and performance.
Changes from the previous period should be considered and disclosed.
Disclosures in the financial report
Uncertainties may lead to a wider range of valid judgements on asset values and estimates. The financial report should disclose uncertainties, changing key assumptions and sensitivities. This will assist investors in understanding the approach taken, understanding potential future impacts and making comparisons between entities. Entities should also explain where uncertainties have changed since the previous full-year and half-year financial reports.
The appropriate classification of assets and liabilities between current and non-current categories on the statement of financial position should be considered. That may have regard to matters such as maturity dates, payment terms and compliance with debt covenants.
Disclosures in the OFR
The OFR should complement the financial report and tell the story of how the entity’s businesses, results and prospects are impacted by economic and market conditions, and changing circumstances. The overall picture should be clear, understandable, and be supported by information that will enable investors to understand the significant factors affecting the entity, its businesses and the value of its assets.
The OFR should explain the underlying drivers of the results and financial position, as well as risks, management strategies and future prospects.
All significant factors should be included and given appropriate prominence.
The most significant business risks at whole-of-entity level that could affect the achievement of the disclosed financial performance or outcomes should be provided, including a discussion of environmental, social and governance risks. The risks will vary depending upon the nature and businesses of the entity and its business strategies. An exhaustive list of generic risks that might potentially affect a large number of entities would not be helpful. Risks should be described in context – for example, why the risk is important or significant and its potential impact and, where relevant, factors within the control of management.
Climate change risk could have a material impact on the future prospects of entities. Directors may also consider whether to disclose information that would be relevant under the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD). Following the TCFD recommendations will help position entities for any future reporting under standards being developed by the International Sustainability Standards Board.
Cyber security risks could have a material impact for particular entities and require disclosure. Considerations include the impacts of a loss of personal data or a denial of service attack, such as the extent and nature of personal data held and possible impacts on revenue.
Non-IFRS financial information
Any non-IFRS profit measures (i.e. measures not in accordance with all relevant accounting standards) in the OFR or market announcements should not be presented in a potentially misleading manner (see Regulatory Guide 230 Disclosing non-IFRS financial information).
Disclosure in half-year reports
Disclosure will also be important for half-year financial reports and directors’ reports as at 30 June 2023. Half-year reports should disclose information on significant developments and changes in circumstances since 31 December 2022.
6. New insurance accounting standard
Insurers must continue to disclose the impact of the new insurance accounting standard in the notes to financial statements. Given that the new standard applies for periods commencing 1 January 2023, it is reasonable to expect that insurers will be in a position to quantify the impact of the new standard in the notes to their full year 30 June 2023 financial reports.
Insurers with half-years ending 30 June 2023 will need to follow the recognition and measurement requirements of the new standard and make disclosures on changes in accounting policies on the adoption of that standard.
Insurers should refer to ASIC media release 20-286MR Insurers urged to respond to new accounting standard (17 November 2020) for more information.
Private health insurers should consider the impacts on the deferred claims liability for changes in the backlog of delayed procedures in financial reports for the year ending 30 June 2023. A liability may be required for a commitment to return premiums to existing policyholders for savings during the pandemic.
Private health insurers reporting for half-years ending 30 June 2023 should ensure that the treatment of deferred claims is consistent with the new accounting standard. Where no liability is recognised, the impact of the change in policy should be disclosed. Any significant impact on profit from a change in the level of deferred claims should be covered in the operating and financial review or review of operations.
7. Other matters
Consideration of whether off-balance sheet exposures should be recognised on-balance sheet, such as interests in non-consolidated entities.
Reports should provide information about the impact where a group has operations in countries that have enacted Pillar II tax reforms and the group has operations in low tax jurisdictions.
Ensuring the recognition of assets, liabilities, income and expenses in registered scheme balance sheets and income statements where individual scheme members have pooled interests in assets and returns with some or all other members in substance.
Large proprietary companies that were previously ‘grandfathered’ are required to lodge financial reports for years ending on or after 10 August 2022.