One size does not fit all

One size, or set of reporting standards, used to be appropriate for all business entities. This requirement is changing in Canada, the United States and internationally.

Following Canada’s announcement to adopt International Financial Reporting Standards (IFRS) for public companies by 2011, the Accounting Standards Board (AcSB) issued a discussion paper and invitation to comment regarding a proposed course of action for developing Generally Accepted Accounting Principles (GAAP) for private enterprises with significant external users.

Issued in May 2007, the AcSB discussion paper identified that many enterprises do not have any external users of GAAP financial statements. One potential solution may be to develop a simplified set of non-GAAP standards for these enterprises.

The Canadian Institute of Chartered Accountants (CICA) followed up by initiating a project to develop an accounting framework for the owner-managed enterprises. CICA established a review group to provide comments in developing the framework. Layne McFarlane, FCA, an assurance partner with Meyers Norris Penny LLP, was appointed to the group. The proposed framework was released to the public, with an invitation for comment submissions to the CICA by Jan. 31, 2008.

“The current GAAP principles are too complex for many of Canada’s 1.7 million owner-managed businesses,” explains Layne. “The new proposed framework will be based on the existing CICA Handbook, but will cater specifically to the unique needs of these enterprises.”

Who would be eligible under FOME?

To be eligible to adopt the Framework for Owner-Managed Enterprises (FOME), the enterprise must meet two primary conditions: (1) it must not be publicly accountable; and (2) it must not have significant external users.

It’s important to differentiate between private enterprises with significant external users (which the AcSB is currently reviewing standards for) and owner-managed businesses without significant external users. The CICA’s draft framework is being proposed for the latter group.

Significant external users are generally defined as parties such as investors or large creditors who do not have independent access to a company’s financial information. Layne cautions a black-and-white differentiation between the two doesn’t always exist. As a result, the marketplace would likely determine who qualifies under the proposed framework.

“There are so many case-by-case scenarios that the reporting procedures would likely be based on whether the user or creditor requires GAAP or will accept other than GAAP financial statements, in which case the framework may provide an alternative.”

Currently, the CICA has identified that private enterprises can borrow up to approximately $250,000 on the basis of credit scores and personal guarantees, indicating they generally do not rely on financial statements for capital allocation decisions. One financial institution even indicated it’s considering increasing its threshold for requiring GAAP statements to loans of more than $2 million.

Of Canada’s 2.2 million private enterprises, approximately 1.7 million (86 per cent of SMEs) borrow less than $250,000. * This means they essentially have no significant external users, and therefore would qualify under the proposed FOME.

Other identifying characteristics of owner-managed enterprises for which FOME is being proposed include:

• Usually no qualified accountant on staff.
• Company records kept by an owner-manager or bookkeeper.
• Reliance on financial statements to confirm assessments of performance, assets and debt.
• Financial statements support applications for banking, financing or income tax filing.

What does this mean for your owner-managed enterprise?

The proposed accounting framework is intended to be a more simplified, straightforward set of standards that deals with transactions and events common to owner-managed businesses. If the standards become “generally accepted,” it is hoped this would provide a basis for public accountants to provide assurance on those financial statements prepared under the proposed FOME.

“We’re hoping to get to the point where public accountants may proceed with an audit or review engagement for enterprises using this accounting framework, even though the FOME don’t comprise standards approved by the Accounting Standards Board at this point,” explains Layne.

It is hoped the new framework will be issued in spring 2008. Details about the current draft framework can be obtained from your MNP business advisor.

By Layne McFarlane, FCA. For more information, please contact Layne at 1.877.500.0784 or your local MNP advisor.

* CICA, Framework for Owner Managed Enterprises. November 2007.