Dispatch
| by Paul Gosling 01 Jun 2005 Topic: News |
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Most smaller listed companies have yet to provide transitional disclosures to investors on the effects on their financial statements of international financial reporting standards, according to analysis conducted by credit rating agency Standard & Poor's. 'In most cases, detailed and audited reconciliations of restated financial statements, IFRS accounting policy information and additional transition disclosures are still to come,' reported S&P. 'We had expected companies to provide the reconciliations before starting to report interims under IFRS, but some have opted to skip the required reconciliations for the time being.' Where the impacts of IFRS have been disclosed, these have not produced major surprises. 'IFRS has not revealed anything shocking so far, but it remains possible that a few stunners may yet emerge,' said S&P. 'In most cases, however, the effects are expected to be more subtle and may only be discovered in the process of analysing the full disclosures in the first annual reports.' While there have been no direct re-ratings as a result of IFRS transitions, S&P reports that it was 'a contributing factor in the discussion of Rémy Cointreau SA's stretched financial profile' which led to an outlook downgrade from stable to negative. In a consultation exercise, companies advised S&P that the key impacts of accounting changes were in the non-amortisation of goodwill, the treatment of employee benefits and the reporting of derivatives and hedging. These were most likely to affect companies in the media, hotels, consumer goods and capital goods sectors. In the UK, listed companies have been warned by the Financial Services Authority that they must communicate clearly to the market the effects of transition to IFRS and be ready to report under IFRS in 2005. In accordance with guidance from the Committee of European Securities Regulators (CESR), the FSA points out that listed companies should provide quantified and reliable information on the impact of IFRS on their 2004 financial statements, and this should not be biased towards either the positive or negative aspects. Where this information is price sensitive, it should be disclosed without delay and should not be delayed until publication of the 2004 results. As more companies begin to report under IFRS, so a clearer general impact is emerging. Orange, part of France Telecom, said IFRS could have a 'significant' effect on its results. Earlier, Vodafone had announced that IFRS would have led to a massive £7bn increase in half year profits arising from the revised treatment of goodwill. Pre-tax profits at British American Tobacco rose by 8% as a result of the use of IFRS, through the inclusion in group results of associate companies. But the far reaching consequences of international standards were best illustrated by their use for the first time by BAE Systems (formerly British Aerospace). The requirement to show pension fund deficits on the balance sheet has encouraged BAE to take radical action in co-operation with unions to cut its pension fund liabilities from £2.8bn to £1.7bn, through a deal which will see both staff and employers increasing contributions. BAE is also asking shareholders not to use IFRS in determining whether it is meeting its own company rules in assessing its borrowing limit. The company believes that using IFRS and the consequent inclusion of pension fund liabilities in the company's debt levels would reduce its borrowing capacity excessively. The UK's Financial Reporting Review Panel has taken on its most high profile case since its responsibilities were extended 18 months ago, with its investigation into the collapse of MG Rover. At the 'request' of Patricia Hewitt, the outgoing Secretary of State for Trade and Industry, FRRP will review the last five years' accounts of MG Rover, its parent Phoenix Venture Holdings and other associated private companies. Whilst formally the request has gone to Sir Bryan Nicholson, as chairman of the Financial Reporting Council, the review will be conducted by FRRP under the direction of its chairman, Bill Knight. The review will focus on the companies' compliance with accounting requirements of the Companies Act, with findings to be given to the DTI within weeks. Since April, FRRP's enhanced role has been confirmed through a memorandum of association with the Financial Services Authority for FRRP to conduct enquiries into listed companies. FRRP now has additional powers to require documents from investigated companies - it can apply for the fining or imprisonment of company directors who fail to co-operate with inquiries - and Revenue & Customs is authorised to disclose information to it regarding companies' accounts. Until now, corrective action has been announced in just two cases - those of Finelot, where overheads incurred to work-up a new magazine were inappropriately capitalised as development costs, and with Kensington Group, some of whose quasi-subsidiaries should have been fully consolidated in the group balance sheet. A large number of other company accounts have been drawn to FRRP's attention, though the vast majority were found not to be worthy of detailed investigation. Last year FRRP began to investigate the collapse of Mayflower. The company went into administration after it became clear that accounting errors in its TransBus division had caused the group's net debt to be understated by several million pounds. Former UK Prime Minister, John Major, was a member of the company's audit committee. FRRP has yet to publish its report on Mayflower and FRRP did not respond to our requests for progress on this investigation. But despite the greater powers now held by FRRP, Sir Bryan Nicholson has questioned whether private companies might still not be subject to sufficiently rigorous examination. He was speaking amidst media speculation over the commercial practices of Phoenix Venture Holdings, which bought Rover - which came with a large dowry - from BMW for £10. In a House of Commons Trade and Industry Select Committee hearing last December, the four Phoenix directors were told by the committee chairman, Martin O'Neill: 'You have treated yourselves rather well. It is not very good corporate governance, is it?' He added: 'The scale of your industrial achievement seems to be undermined by what appears to be financial sleight of hand. You are rewarding yourselves.' The four directors defended themselves as having invested money and time in a commitment which would have destroyed their reputation if it had quickly gone wrong. Company chairman, John Towers, also defended payments into the directors' pension fund, saying that the workers' pension scheme had a £160m surplus and that 'many British companies would give their right arm to have that kind of pension fund'. The two workers' pension funds now have an estimated deficit of £400m and are seeking a bail-out from the newly established Pension Protection Fund, but they are ineligible for support while the holding company remains viable. Trustees of the two insolvent schemes are now considering legal action to force the holding company into administration. Sir Bryan has suggested that, in future, FRRP might examine the accounts of private companies earlier when there is public disquiet over a company, rather than waiting for it to cease trading. Ironically, last December, FRRP announced, after consultation with the FSA, that it would more proactively initiate inquiries in high risk sectors of activity. Those sectors earmarked for this year were pharmaceutical, retail, transport, utilities and - top of the list - automobile. KPMG has agreed to pay $22m to settle charges made against it by the US Securities and Exchange Commission relating to its audit of Xerox. The figure comprises nearly $10m of Xerox audit fees for the period 1997 to 2000 which the firm is to give up, interest on this of nearly $3m and a civil penalty of $10m. As part of the final judgement, KPMG is required to undertake a series of reforms to prevent future violations, including support for a strong whistleblowing system. Most severely, KPMG suffers severe reputational damage from the case. The SEC has entered an order which records that 'KPMG caused and wilfully aided and abetted Xerox's violations of the anti-fraud, reporting, record keeping and internal controls provisions of the federal securities laws'. In addition, KPMG is recorded as having 'violated its obligations to disclose to Xerox illegal acts that came to its attention during the Xerox audits'. The Order censures KPMG and orders it to cease and desist from committing or causing these violations. KPMG consented to this entry on a no fault admitted basis. In a statement, KPMG said: 'This settlement is reflective of the firm's efforts to work with our regulators in a co-operative way in order to help strengthen public confidence in the capital markets. As a condition of the settlement, KPMG neither admits nor denies the SEC's allegations and findings. 'The settlement, which represents events from an earlier period - in some cases as much as eight years ago - does not involve findings that KPMG's conduct was fraudulent or reckless. That is consistent with the firm's position since the SEC filed its suit in January 2003. The SEC has accordingly dismissed all fraud-related claims against KPMG. In addition, the settlement does not include any injunctive relief, which the SEC initially requested in its complaint. The settlement is a final resolution of all Xerox-related matters between the SEC and the firm. It is the goal of KPMG to work constructively with regulators and, where appropriate, resolve disputes in a positive manner through negotiations and discussions. In this regard, KPMG has agreed to certain undertakings consistent with the firm's commitment to continuously improving audit quality.' The SEC issued its own lengthy statement describing the accounting violations which led to the action against KPMG. 'From 1997 through 2000, KPMG permitted Xerox to manipulate its accounting practices to close a $3bn 'gap' between actual operating results and results reported to the investing public,' said the SEC. Revenue was improperly accelerated by Xerox from long term leases and the manipulation of reserves, in breach of GAAP. For each of these years, KPMG issued audit reports containing unqualified opinions stating that Xerox's financial reports were consistent with GAAP. 'By doing so, KPMG allowed Xerox to manipulate its accounting practices to distort the company's financial results, failed to insist that Xerox disclose those practices and their financial impacts in the company's annual and quarterly reports, and allowed Xerox to falsify its books and records and to fail to maintain adequate internal controls over its accounting,' said the SEC. The regulator added that 'KPMG was intimately familiar' with this malpractice, receiving warnings from KPMG International member firms. While KPMG sporadically advised Xerox management they should test their reporting assumptions, this advice was ignored by Xerox and the firm exerted no pressure on its client to comply. 'This settlement results in significant relief that will serve to deter and prevent future auditor misconduct, and the significant monetary relief will provide a source of future funds which can be distributed to injured Xerox investors,' said Stephen M Cutler, the SEC's director of the Division of Enforcement. Civil fraud action initiated by the SEC against five KPMG audit partners involved in the Xerox audits from 1997 to 2000 continues. Hundreds of thousands of small family businesses in the UK could face additional tax bills of thousands of pounds each, as a result of a landmark tax ruling which saw a victory for the former Inland Revenue over tax advisers and lobby groups for the self-employed. The Arctic Systems case went to the High Court after the Revenue won at an appeal hearing of the Special Commissioners. Arctic Systems - a husband and wife business run by Geoff and Diana Jones - was told by the Revenue to pay an extra £42,000 tax on six years' dividends because whilst only Mr Jones generated the business' income, dividends were paid equally to both spouses. The High Court confirmed the Revenue's interpretation of Section 660A of the Income and Corporation Taxes Act 1988 that all or most of the dividends from businesses jointly owned by husband and wife may be treated as the income of the higher earner. In many cases where a company had chosen to distribute dividends equally between husband and wife, but where only one spouse worked full time for the company and was in the higher tax bracket, Revenue & Customs (as it has become) can now treat dividends as being paid to the higher earner and subject to the higher rate of tax. According to the Revenue's argument, dividend payments should broadly reflect the involvement of each partner in the business. Arctic Systems has been supported in its legal case by freelance workers' trade body the Professional Contractors' Group. PCG chairman, Simon Juden, said: 'This is a bitter blow, not just to Geoff and Diana Jones, who've had to endure years of uncertainty, but also to the hundreds of thousands of small family businesses who've shared the risk and the hard work of running a business, expecting to share in the rewards. Now many of them will frankly be wondering whether it's worth it.' The Forum of Private Business is dismayed by the judgement. Head of research, Andy Mowlah, said: 'Business owners will now be looking over their shoulder to see if the Inland Revenue is now going to come and knock on their door. The concern will be that the Inland Revenue will be asking complicated and searching questions about what justifiable contribution the wife or husband has made to the firm. If the decision then goes against the firm they could be stung with a backdated tax bill going back up to six years. This could be a mortal blow to many firms. It must be remembered that a spouse often shares the risk but not the reward of the business. There is a real lack of clarity about this legislation.' Anne Redston of the Chartered Institute of Taxation warns that the court decision is likely to accelerate Revenue action against husband and wife companies. 'The Special Commissioners' decision was not a precedent, the High Court's is. The Revenue is likely now to review the cases which had been on hold.' Redston echoed the criticisms of others. The £42,000 bill faced by Arctic could be 'fairly typical' for husband and wife companies, she suggests. 'We are looking at sums in excess of £30,000 for very small businesses,' said Redston. 'It is the retrospective element of this which is particularly penal. The Revenue only published its view on this in 2003 and small businesses would have had to read its minds to know there was a problem. It would be much fairer if the Revenue only collected the tax from 2003. But there are no signs that this is what it will do.' ACCA believes that about 200,000 small businesses could be affected by the judgement. Glenn Collins, head of business advisory services at ACCA, said: 'This will now mean that any husband and wife companies where shares have been transferred between them and dividends paid out could be subject to an Inland Revenue enquiry. Many have legitimately carried out these transfers in organising their company structures and also their tax affairs - these could now be overturned completely given the outcome of this case. 'Regardless of the rights or wrongs of the tax issue at stake - and it is worrying that the court has effectively dismissed a wife's contribution to the business in this way - the main problem is that tens of thousands of businesses have been advised by their accountants to set up their operations in this way because the Revenue has always accepted it. Businesses must have stability and clarity in the tax system in order to plan - if the rug can be pulled from under their feet so easily it makes things very difficult for small companies to work.' | |