IFRS and CGAC Compliance in E-Business Suite:

Mandates for Change

by Helene Abrams

Globalization of the financial community requires a degree of transparency in financial operations and reporting. The Federal Government, the Securities and Exchange Commission (SEC), and the International Accounting Standards Board (IASB) are in the process of mandating standards and controls to force public companies and Federal Agencies to change their accounting processes to provide external transparency to investors, market analysts, executives, and board members and to provide internal controls to manage their own financial risks. In addition to regulating to mitigate risks, having standards facilitates integration, reporting, and common practices among companies who may merge or among agencies who need to consolidate to the same organization, or organizations that share operations as for a shared services center. Adoption of International Financial Reporting Standards (IFRS) is imminent – many countries have already implemented (Australia, the UK, and Israel), Chile and Korea are expected to implement in 2009, and Brazil and Canada in 2010 and 2011, respectively. Some industries (i.e. mining and metals) are leading the pack. The United States lags behind, with a full implementation expected to be required by 2014 for all public companies.

Meanwhile in the public sector, the new Common Government-wide Accounting Structure (CGAC), a provision mandating that all federal government agencies (of which there are over one thousand) convert their existing accounting structures to a common chart of accounts, will enter the early adopter stage in the next few years. Although there is no defined deadline for transitioning to CGAC, any number of events triggers the requirement to make the accounting change (e.g., implementing a new financial management system, upgrading major existing systems, or moving to a shared service provider). For most agencies, the mandate will be required by the end of 2010 because many software companies will sunset support for current software releases. As an example, Oracle Corporation has announced that it will not support the most widely-used version (11.5.10) of its flagship enterprise resource management (ERP) system, E-Business Suite (probably the most popular ERP system for federal agencies), in November 2010 under its standard support agreements, forcing a major upgrade to the newer Release 12. On a macro level, both IFRS and CGAC are new ways of doing business that encourage transparency and enable comparisons. They are not simply mechanical sets of rules to be placated with a bolt-on application with the sole purpose of generating financially compliant reports. The purpose of this article is to outline some of the major departures from US GAAP (Generally Acceptable Accounting Principles) by IFRS and CGAC, to analyze how such changes will affect current business practices, and to take a detailed look at how E-Business Suite users will need to change their accounting flexfields in order to comply with the new regulations.

IFRS

One of the major differences between IFRS and US GAAP is the lack of interpretive guidance inclusive to IFRS. While US GAAP is detailed and rigid in structure, IFRS does not employ nearly as many detailed rules, regulations, bright lines (many of US GAAP’s bright lines are replaced with fuzzy ones), and exceptions. IFRS requires disclosures about why choices were made, resulting in research notes and delineation of alternative options. While the principles of IFRS were designed to decrease the number of acceptable alternatives, many examples of the precise required changes are not readily available. Take for example the difference in accounting for a lease in US GAAP and under IFRS. Under GAAP, a lease loses its accounting qualification as an operating lease (and is accounted for as a capital lease) if the present value of the minimum lease payments is greater than 90% of the leased asset’s fair value. In contrast, under IFRS, an operating lease turns into a capital lease if the present value of the minimum lease payments is a “substantial portion” of the leased asset’s fair value. With IFRS, the definition of “substantial portion” is left to the discretion of the organization, but must be justified.

Without delving too deep in the details, the following table speaks to some of the major differences between US GAAP and IFRS.

IFRS conversion requirements are not cut and dry – companies will need to scrutinize their current accounting policies to determine what changes need to be made to the financial systems, including their charts of accounts. Because IFRS can be loosely interpreted, CFOs and financial managers will make decisions on how to interpret this new set of standards to fit their current businesses.

Companies will begin the conversion process by first reviewing their most recent US GAAP financial statements line by line to compare them to IFRS and determine how the differences between the two accounting standards affect their business. In order to be ready for 2014 and have the three years of required comparatives, most US public companies will need to change their accounting practices by 2012. Tracking revenue and expenditures by different categories and measuring profitability differently will result in changes to the chart of accounts for most companies. The silver lining of the conversion effort is that IFRS compliance presents an excellent reason for multi-national corporations to develop a global chart of accounts that reflects the changes the business has undergone since the initial E-Business implementation and provides opportunities to grow the business in different ways.

Complying with IFRS will be a major conversion effort for most companies – many have compared this most recent change to the year 2000 change and Sarbanes-Oxley (SOX) compliance combined. The degree to which existing IT systems will have to change is not concrete – it will vary widely among organizations and depend on industry characteristics, corporate structures, and the decisions of management. Undertaking changes in accounting policies to comply with IFRS is an opportunity to re-align practices and systems to ever-changing businesses.

CGAC

CGAC and IFRS are fundamentally different in their purpose. A good analogy might be that while IFRS is a set of provisions that regulate how transactions are accounted for, CGAC is a common financial reporting structure that determines where transactions exist in the General Ledger. CGAC is an initiative of Financial Systems Integration Office (FSIO) under the Financial Management Line of Business (FMLoB) to improve the quality of financial management at the federal level by imposing standardization in government transaction classification across all agencies. The CGAC structure improves upon the existing accounting standards by:

• Identifying the classification elements
• Establishing standard names, definitions, and formats for the elements
• Aligning the values of similar codes used by the Office of Management and Budget (OMB) and Treasury

The CGAC structure elements are grouped according to six categories:

• Fund – 5 subcategories, 29 elements
• Organization – 4 elements
• Program – 9 elements
• General Accounting – 23 elements
• Cost – 2 elements (plus the option of 10 existing CGAC elements from other categories)
• Critical Agency Mission Specific and Future Use – 7 elements

The names and descriptions of the individual elements are immaterial to the purpose of this article. Let it suffice to say that each element of a category is a more specific example of that category. From a data entry perspective, it is comforting to know that each element (74 in total) does not require an entry to record a transaction; the majority of element values are automatically generated by the implemented financial system according to defined business rules. Due to the flexibility of current standards, each agency’s existing accounting structure is highly customized to fit their individual needs. Furthermore, some agencies have not adopted an enterprise-wide accounting classification structure. For these reasons, the process of conforming to the CGAC structure will vary from agency to agency. One of the first steps to be taken by any agency should be to analyze the current structure and compare it to the requirements of CGAC, carefully noting any existing gaps that will need to be filled to incorporate all of the required CGAC elements. For E-Business Suite users, this may mean:

• Planning for the addition of segments to accommodate a number of elements that do not fit in the current structure.
• Structuring your new chart of accounts to utilize logical ranges among the values in segments (allowing fewer summary and roll-up accounts, easier allocation formulas, and fewer cross-validation rules).
  

Conclusion

Compliance with IFRS and CGAC will be a key initiative for public companies and federal agencies within the next few years. In addition to meeting the challenges of compliance, organizations should use IFRS and CGAC as enablers to align their E-Business Suites to standard business practices and the changing needs of the organization. It is prudent to begin planning now, starting with the chart of accounts. Neither IFRS nor CGAC mandate a specific chart of accounts, though both will require tracking financials at different levels of detail, reporting differently, and more importantly providing transparency to the organization. In the end, changing your chart of accounts will benefit you as your organization undergoes these regulatory changes. Making changes to your COA to align it to the way your business functions adds value to your operations and facilitates compliance with new standards.