IPSASs through the looking glass
Ken Warren FCA speculates on the future of IPSAS.
One of the great things about being an accountant in Treasury is that I can generally leave forecasting to the economists.
Reporting on what has happened is hard enough; it is far more risky to predict the future.
Sometimes there is no escaping it however. The External Reporting Board (XRB) has decided to pursue a multi-standards approach with public sector accounting standards based on IPSAS’s. That decision is based on an expectation that this approach will better meet user needs.
We should be thinking about such a future. We should also be thinking about how it should be pursued. To quote from that wise cat from Cheshire:
“Would you tell me, please, which way I ought to go from here?"
“That depends a good deal on where you want to get to," said the Cat.
“I don't much care where,” said Alice.
“Then it doesn't matter which way you go,” said the Cat.
“So long as I get SOMEWHERE,” Alice added as an explanation.
“Oh, you're sure to do that,” said the Cat, “if you only walk long enough.”
This article is about which way IPSAS is going. Speculating on this is possible because the International Public Sector Accounting Standards Board (IPSASB) is currently developing a public sector conceptual framework that provides a sort of road map to its future standards. Some key decisions are pretty much settled, others are still very much the subject of debate.
Five key decisions that have been taken are highlighted below, followed by some personal speculation on what might follow as a consequence.
Decision 1: That the users of general purpose financial reports of public sector entities are resource providers and service recipients
This decision contrasts with the narrower definition of users – capital providers – that the IASB has established for profit-oriented entities.
My speculation: Resource providers are likely to be interested in where their resources have been allocated, whether those resources have been applied in accordance with those allocations and whether public value or benefit has accrued. Service recipients have the same interest but will have the opposite perspective on these flows.
Expect, therefore, that presentation and classification of flows will be critically important to the IPSASB, in contrast to the IASB’s emphasis on recognition and measurement of stocks. The look of the Statement of Financial Performance is likely to receive greater focus from IPSAS’s.
Decision 2: That the objectives of general purpose financial reports are to discharge accountability obligations to these users and to contribute to, and inform, their decision making
These objectives are wider than IASB’s expressed objective that financial statements are to assist resource allocation decision making by capital providers. They recognise a different dynamic in the public sector.
Many resource providers and service recipients of the public sector do not have direct choices. When did you last make a decision about how much rates you’d pay or how much policing service you would receive?
Rather, most resource allocation decisions in the public sector are made by elected representatives, who have access to special purpose financial reports, but who are very interested in how general purpose financial reports will portray their decisions.
The public holds these elected representatives, and public sector organisations to account through a variety of means: consultation processes, the use of complaints bodies, lobbying through pressure and special interest groups, petitions and polls, and of course by voting either at the ballot box or with their feet. Credible, relevant and reliable general purpose financial reports are a key input to these processes and therefore to our civil society.
My speculation: Expect a balanced emphasis on feedback value (confirming or correcting prior expectations about past events) and predictive value (assisting in forming, revising or confirming expectations about the future).
To me, the IASB’s new framework favours predictive over feedback value. Under IPSAS, the importance of explaining variations to forecasts is likely to receive greater stress; for example, note that the IPSASB’s ED on financial statement discussion and analysis is proposed to be mandatory, whereas the IASB’s Management Commentary promulgation offers guidance only.
However, I doubt that this will lead, as some think, to a focus on historical cost rather than current values in financial statements. Public sector organisations are accountable for the current state of finances, not a historically measured state.
Decision 3: To meet these objectives, general purpose financial reports need to provide information on the performance of the entity during the reporting period in meeting its service delivery and other operating and financial objectives
In contrast, the IASB describes a reporting entity’s financial performance as being reflected by changes in its economic resources and claims other than by obtaining additional resources directly from investors or creditors. It says this information is useful in assessing past and future ability to generate net cash inflows.
Such an underlying assumption, that the objective of a reporting entity is to generate net cash inflows, does not hold for the public sector.
My speculation: Expect requirements under IPSAS that the operating and financial objectives of an entity must be stated.
For example, most public sector entities have a reserves objective, or in the case of the Government and some local authorities a debt objective, determined from an assessment as to appropriate and prudent levels of liquidity and solvency. Users should be able to clearly understand such objectives and where the entity stands against them.
As the purpose of most public sector entities is to provide public benefit, expect also that there will be public sector entity reporting standards to establish requirements for service reporting. Expect the definition of assets to encompass service capacity in addition to cash-generating capacity.
Decision 4: To meet these objectives, general purpose financial reports need to provide information on the sustainability of the entity’s service delivery and other operations over the long term, and changes therein as a result of the activities of the entity during the reporting period
Currently the IASB framework assumes the entity is a going concern, and then focuses on changes in the ability of the entity to generate net cash inflows.
While arguably sufficient for investors in profit-oriented entities, a more nuanced approach is necessary for public sector entities. The sustainability of a public sector reporting entity’s service delivery and other operations depends on its supply of revenue, the demand for its services and its access to finance.
My speculation: Expect reporting requirements targeted at sustainability. General purpose financial reports need to inform recipient providers how the supply of revenue, the demand for services and the access to finance are changing – and thus there is a need for standards to ensure such information is provided.
Determining the best way of doing this and the best way of appropriately informing resource providers and service recipients so that high quality decision making and accountability ensues, is one of the greatest challenges facing the IPSASB.
Consider the management of service commitments, one of the biggest issues facing governments today. Information for accountability and decision making on these commitments is much more than a dry debate over rules as to when a government commitment, such as NZ Superannuation, becomes a liability, which is the way accounting standard setters would currently frame the question.
It is about how we inform users of all government commitments in the most relevant and reliable way.
Decision 5: There are a number of key characteristics of public sector entities that will need particular attention by the public sector accounting standards setter
The IPSASB has identified the following key characteristics of the public sector as having significance for standard setting:
- the volume and financial significance of non-exchange transactions
- the importance of the approved budget
- the nature and purpose of assets in the public sector
- the longevity of the public sector
- the regulatory role of government
- ownership or control of rights to natural resources and phenomena
- statistical bases of accounting.
My speculation: Expect to see more emphasis on standards on non-exchange revenue and expenses, with a particular focus on providing information on the restrictions associated with such flows.
Expect standards on reporting prospective information.
Expect standards to pay particular attention to the measurement of public sector assets that are not traded on active and liquid markets and for which entry and exit values may therefore differ significantly.
Expect guidance on long term fiscal reporting.
Expect asset definitions to draw a line between “controlled” – on balance sheet, and “regulated” – off balance sheet, and expect IPSASB to consider how to account for such regulation.
Expect guidance on how to account for the development and exercise of rights over natural resources such as the radio spectrum, mineral reserves, water, fish and forests.
Finally, expect regard to be had to the System of National Accounts reporting requirements so that statistical reporting by the government sector and financial reporting by the government do not create unnecessary differences and burdens on preparers and those seeking to understand the financial impact of the Government.
On the other hand, if the identified key characteristics are not in play, my speculation is that there is no reason for the IPASAB to amend the IASB requirements on a particular topic. Not only does the use of the IASB approach in such circumstances significantly free up IPSASB time to focus on the more critical expectations of its constituents, but also there are positive benefits in terms of understandability and cost-reduction if similar transactions and events have similar measurement and recognition requirements in IPSAS and IFRS.
That’s a pretty big set of expectations. However, high expectations are appropriate if we do indeed care about the “somewhere” we are going to. Meeting such expectations would go a long way to re-engaging user interest with accounts. Currently users are noticeable more for their absence than their presence.
Perhaps my most ambitious expectation would be to reignite the interest of resource providers and service recipients in public sector financial reports.
- Ken Warren FCA is a member of the XRB and of the IPSASB.