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Hello and welcome to a discussion about GAAP conversion. My name is Iain Alexander and this is my colleague Krista Pound, and we both work for KPMG’s US Accounting and Reporting Group in London.
In this presentation we would like briefly to discuss why and how companies undergo a conversion from one set of generally accepted accounting principles to another as well as the key questions we hear prior to them heading down that path . And the principles apply equally to a conversion to US GAAP, IFRS, or another GAAP framework.
So, Krista, let me put you on the spot - what do you think are the key reasons companies undergo a GAAP conversion?
[Krista] – Well, Companies I see most want to undertake a conversion to US GAAP usually for one of two reasons. First, as I work with a lot of companies looking to list in the United States, I see entities converting to US GAAP prior to a US IPO in order to be seen to be more like a US company, more like their peers and more understandable to the US investor/analyst base. The second reason I see companies converting to US GAAP is because they get bought out by a US company, and so need US GAAP for management accounts, group reporting and consolidation purposes. Some companies even convert to US GAAP as part of a pre-sale strategy in order to make them more attractive to potential US buyers. For example, I often see software companies converting to US GAAP given the dominance of US companies in that industry and the focus they have on revenue recognition rules.
[Iain] - And of course those rationales apply to other GAAPs too – they would need IFRS if they want to list in the UK or Europe, and IFRS is now taking over in other countries, such as Canada, just like it did across Europe in 2005.
[Krista] - But enough about the WHY, lets focus now on what it means to undergo a GAAP conversion. What are the main questions that companies ask you when considering a conversion to US GAAP or IFRS?
[Iain] - The question we often get first is “How long will it take?” Unfortunately, the answer is usually going to be “It depends”, and the following things will impact the timing:A To start with, what is your starting point - ie the Current GAAP under which you report? The closer your current GAAP is to, say, US GAAP, the less time it could take to convert. IFRS and US GAAP are often not too far apart, but still there are key differences in practice. For example, IFRS has less specific guidance than US GAAP, so an accounting policy that works under IFRS may not work under US GAAP. B And then, how complex is your business or your day to day accounting and business practices, including your funding? This will affect how many differences there are, and complexity is also found where there are differences related to difficult aspects of GAAP like financial instruments, revenue recognition, share-based payments or historic business combinations. Business combinations can take some time to analyse, especially if information or knowledge is not readily available, due to the passage of time and departure of key employees. But whether the complexity is marked or not, there is still a need to cover all the bases and make sure you have identified the entire population of differences.And the other key point isC How much In-house expertise you have and your availability of resources. Companies mustn’t underestimate the time and resources that a GAAP conversion can require of the company itself, even if it has the expertise available. But usually, there is a need to go outside the company to find help, either short-term or more permanent in nature. And don’t immediately think it is easy to find such resources, especially if its related to US GAAP!
[Krista] The next question, which builds on that, is “What’s involved in a GAAP conversion” or “What is the process”? Well, to summarise, the first thing you need to do is complete a review of all aspects of your financial reporting to ascertain where the GAAP differences exist and where they don’t. This needs to be done on a line by line basis using both the income statement and the balance sheet. That’s a lot of work!Next, you need to Convert the presentation of your financial statements to the new GAAP – the set up may be similar but will still require adjustments. In addition, the required disclosures often vary, depending on the topic, and must be addressed in full.Finally, the GAAP differences need to be quantified and adjusted for , which means flowing through the new figures not only to the base financial statements but also the footnotes and any related commentary that is presented, for instance in the operating and financial review.[Iain] One thing you have to think about is your financial systems. When first undergoing a conversion, a company often works with their base GAAP and converts using manual spreadsheets and procedures. But to fully operate under the new GAAP, converting your underlying systems to produce data on the new basis improves efficiency, timeliness and availability of information. So if you are converting, such that your on-going reporting will be under the new GAAP, then you not only need a system change but also a mind-set change within your organisation, in particular the finance function. Converting just the numbers but not the underlying processes, both manual and automated, can lead to errors and inefficiencies. And whether your conversion is being done to facilitate an acquisition or an IPO, these issues do not sit well with investors; and they certainly won’t sit well with stock exchange regulators.
[Iain] The third question I get a lot is how much does the company take on in the conversion process and how much can be outsourced?
[Krista] Well, one issue we see over and over is that the finance function becomes the crunch point or pinch point for all the financial information needs. The GAAP conversion adds to that. Massively. In order to have a successful conversion, people internally must be allocated enough time to do their day job and assist in the conversion process. Companies accomplish this in many ways – they assign an individual to the project for 100% of their time while allocating their day job to someone else or they might free up a portion of someone’s time for the conversion process or they might hire in additional help. This can be a contractor(s) or getting someone on a secondment basis from a 3rd party, or the company tries to hire additional qualified employees – which can be very difficult. In the case of a third party, the one thing that must happen is that management must own the conclusions, be involved in the process and not allow the advisor to take on a ‘management function’. To be honest, this is what a company will WANT to do so that it is fully engaged and fully understands the conclusions being reached. Further, this allows management to embed the new accounting processes into the business and consider the best way to embrace the new reporting environment. Remember, when using a 3rd party, they will not know your business as well as you do, so the 2 parties cannot operate in silos, but instead must work together and share knowledge throughout the process.Outside help can be very useful, often invaluable – especially to perform an initial gap analysis comparing current GAAP to new GAAP and identifying the key areas of difference that exist. We see a whole range of ways companies choose to proceed. You can outsource the bulk of the work - or you could have someone working with you, providing training, support and a sounding board for your own analysis. But a key point has to be to build this in to your financial reporting systems and to plan enough time to make the change.
[Krista] I think we only have time to discuss one more question which is, of course, “How much does it cost”?
[Iain] Once again, my answer is “it depends”. As noted earlier, there are so many factors that come into play when embarking on a GAAP conversion that costs will vary dramatically. But the best way to adopt a cost efficient process is to commit to the plan, commit the resources, whether internal or external, or be realistic about what it takes to get there. It CAN often be cost effective to get in help from an external advisor. This allows your people to continue doing their day job, for the most part, and it brings in a comprehensive level of expertise that often does not exist in-house and is extremely hard to find at short-notice in an employee. An external provider working with your team will not only up-skill your staff but also get to the answers quicker. They have experience of doing conversions so they not only have the technical expertise but also the project management skills.
[Krista] I guess where I come out is that companies consider and choose to convert to a new GAAP because they expect a business benefit, so it’s a necessary expense to incur but the longer management takes to make the decision and the less engaged you are with it as a corporate, the more it is likely to end up costing you.
[Iain] Thanks for that Krista. Thank you for watching our video. Please look at the other videos we have posted on our website, and our contact details will come up shortly.
Iain Alexander and Krista Pound from KPMG’s US Accounting & Reporting Group discuss the practical implications of converting to and reporting under US GAAP.
This video is also available on our YouTube channel.
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