ESMA’s Priorities in 2020 for Financial Reporting

9 January 2020

The European Securities and Markets Authority (ESMA) have announced their Common Enforcement Policies for the 2019 annual financial reports of listed companies that will form the basis of regulatory and audit oversight in the 2019-2020 financial reporting season.

Here we highlight the key areas you need to be aware of during this financial reporting and audit season.

Enforcement priorities related to IFRS financial statements

Several key standards, which bring significant changes and have a large impact on European capital markets, were identified as priorities by ESMA.

IFRS 16 — Accounting for Leases
Since 2019 is the first year in which IFRS 16 is mandatorily applied by IFRS entities, ESMA identified several areas issuers need to monitor closely:

  • Lease term and discount rate: Significant judgement is required when applying IFRS 16, particularly when it comes to determining the lease term and the discount rate. Issuers should describe specific judgements and provide quantified disclosure of key estimation uncertainties where relevant.
  • Impairment of right-of-use assets: ESMA stressed the importance of detailing how the methodologies, inputs and assumptions used for carrying out their impairment tests have changed.
  • Transitions: Issuers need to disclose if they have applied IFRS 16 retrospectively to each prior reporting period or if they applied the modified retrospective approach.
  • Entity-specific disclosures: ESMA highlights disclosure requirements related to low-value leases, short-term leases and carrying amounts of right-of-use assets by class of underlying assets in accordance with paragraph 53 of IFRS 16 and to sale and leaseback transactions in accordance with paragraph B52 of IFRS 16.

Follow-up on specific issues arising from the application of IFRS 9 by credit institutions
ESMA notes that the application of IFRS 9 (and IFRS 15) will continue to be a focus of enforcers during the examinations of financial statements. Additionally, the need to improve the quality, consistency and coherence of information provided in the 2019 financial statements compared to the 2018 period was stressed.

  • Expected credit losses (ECL) and forward-looking information: The introduction of the new impairment model had a significant impact on the financial statements of credit institutions. Therefore, ESMA notes that issuers’ estimates should take into account forward-looking information that is reasonable, supportable and available.
  • Significant increase in credit risk (SICR): Issuers are reminded at each reporting date to carefully assess whether the credit risk has increased significantly since initial recognition.
  • ECL allowance: ESMA reminds credit institutions to provide sufficient disclosures so the recorded EC can be evaluated and the assumptions used and judgements made in estimating the ECL, as well as changes therein from the prior period, can be understood.
  • ECL disclosures: To meet the disclosure objectives of IFRS 7 and IAS 1, ESMA notes that issuers should improve the granularity and disaggregation of disclosures on credit risk exposures and ECL and provide them by stage. ESMA also stressed the importance of providing both qualitative and quantitative information regarding the ECL models (e.g., key assumptions, parameters).

Follow-up on specific issues relating to the application of IFRS 15
IFRS 15 changed the way revenue was applied and analysed by issuers and users of IFRS financial information. Since revenue is so prominent in financial statements, ESMA noted that disclosures provided by entities need to be further improved.

Key areas highlighted by ESMA that issuers need to be aware of:

  • Accounting policies on revenue recognition: The accounting policies of the issuer need to be detailed, entity-specific and consistent with the information provided in the other parts of the annual financial report.
  • Disclosure of significant judgements and estimates: Issuers must provide adequate information on the significant judgements and estimates made.
  • Disaggregation of revenue: Recognised revenue needs to be disaggregated into categories that depict how the amount, timing and uncertainty of revenue and cash flows are affected by economic factors.
  • Contract balances: ESMA states that issuers should present contract balances and provide qualitative and quantitative explanations of any significant changes.

Specific issues related to the application of IAS 12 Income Taxes (including application of IFRIC 23 Uncertainty over Income Tax Treatments)
ESMA brought attention to the public statement it issued in 2019 relating to the recognition, measurement and disclosure of deferred tax assets arising from unused tax losses. Additionally, ESMA reminded issuers about the amendments to IAS 12 as a result of the 2015-2017 Annual Improvements.

  • Dividends: The amendment to IAS 12 requires an issuer to recognise the income tax consequences of dividends when it recognises a liability to pay a dividend.
  • IFRIC 23: ESMA states the need for increased transparency about uncertainty over income tax treatments.

Reporting of non-financial information

The reporting of non-financial information, or environmental, social and governance (ESG) reporting, is a statutory reporting requirement in the EU under EU Directive 2014/95/EU.

In accordance with Articles 19a and 29a of the accounting directive, the objective of the disclosures included in the non-financial statement is to provide the information necessary for an understanding of the development, performance, position and impact of the issuer’s activity in relation to non-financial matters.

ESMA believes that in order for users to understand the materiality assessment performed, issuers should consider disclosing how the following aspects were taken into account:

  • The information needs of different stakeholders and their relative importance
  • The selection of relevant time horizons
  • The probabilities associated with financial and non-financial impacts

ESMA reminds issuers of the continued relevance of matters relating to the environment and, particularly, of the challenges posed by climate change. Issuers should provide information in line with the objective set out in the accounting directive on:

  • The consequences of their activities and of the use of their products and services by customers for climate change and the environment
  • How they are impacted by the consequences of climate change and other environmental matters

The reporting season can be stressful, so we hope this helps you remove some of the uncertainty as you start preparing your reports in 2020. For more information, read this blog to see how your finance team can efficiently go from close to disclose.