Public sector digest INTELLIGENCE FOR THE PUBLIC SECTOR.

Transcription

1 A PSD CRITICAL KNOWLEDGE SERIES Public sector digest INTELLIGENCE FOR THE PUBLIC SECTOR. THE IMPACT OF NEW ACCOUNTING STANDARDS ON CANADA S GOVERNMENT NOT-FOR-PROFIT ORGANIZATIONS Intended for senior financial executives at hospitals, colleges, universities, and other GNPOs BILL COX BDO CANADA ERICA TEKLITS BDO CANADA ROB WILKES BDO CANADA SHANNON BROOKS CENTENNIAL COLLEGE

2 In this environment, we can t afford to be second-guessed. People who know Public Sector, know BDO. The Public Sector Practice at BDO The challenges are significant. The scrutiny is intense. BDO s specialized practice provides partner-led service and deep sector experience to ministries, departments and agencies on federal, provincial, and municipal levels. Assurance Accounting Tax Advisory BDO Canada Limited is an affiliate of BDO Canada LLP. BDO Canada LLP, a Canadian limited liability partnership, is a member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. BDO is the brand name for the BDO network and for each of the BDO Member Firms.

3 A PUBLIC SECTOR DIGEST CRITICAL KNOWLEDGE SERIES THE IMPACT OF NEW ACCOUNTING STANDARDS ON CANADA S GOVERNMENT NOT- FOR- PROFIT ORGANIZATIONS Authors Authors BILL COX, BDO bcox@bdo.ca Bill Cox is a partner in Audit and Assurance and has been with BDO for over 20 years. Bill s practice is focused on work with government, not-for-profit organizations, and financial institutions. He also maintains a significant small/mid-sized business client base. ERICA TEKLITS, BDO eteklits@bdo.ca Eric Teklits is a partner at BDO and the firm s National Industry Leader for the not-for-profit and public sectors. Erica works closely with a range of government not-for-profits to ensure smooth transitions to PSAB standards, and advises her NPO clients on compliance with regulatory and statutory requirements. ROB WILKES, BDO rwilkes@bdo.ca Rob Wilkes is a partner in the Assurance and Accounting group at BDO. He has been a practicing CA since 1991 and has extensive experience across a broad range of clients, including insurance companies, postsecondary education institutions, not-for-profit organizations, and transportation industries. SHANNON BROOKS, CENTENNIAL COLLEGE sbrooks@centennialcollege.ca Shannon Brooks is the Director of Financial Services at Centennial College in Toronto, and chair of the Colleges Ontario Finance Officers (COFO) PSAB working group. w w w. p u b l i c s e c t o r d i g e s t. c o m

4 THE IMPACT OF NEW ACCOUNTING STANDARDS ON CANADA S GOVERNMENT NOT- FOR- PROFIT ORGANIZATIONS A GLOBAL IMPETUS Accounting standards are playing an increasingly important role in bringing consistency, comparability, and clarity to financial statements and reports. In recent years, the volume of revisions to accounting standards has increased substantially in response to globalization and changes in business practices. While Canada has adopted International Financial Reporting Standards (IFRS) for use by publicly accountable enterprises and government business enterprises, it retains Canada-specific standards for private enterprises, not-for-profit organizations, pension plans, and public sector entities. All sectors, however, are impacted by what happens on the global stage. Thus, tweaks and in some cases, significant modifications to accounting standards have been required. As a result of these revisions, a wide range of Canada s government not-for-profit organizations (GNPO) with fiscal years beginning on or after January 1, 2012, including hospitals, colleges, and some universities, certain Crown corporations and agencies, and others, are now required by the Public Sector Accounting Board (PSAB) to adopt Public Sector Accounting Standards (PSAS), replacing those in Part V of the Handbook Accounting published by the Canadian Institute of Chartered Accountants (CICA). The decisions that senior executives, boards of directors, and audit committees make now in response to these changing standards will have complex and far-reaching implications for the organization s financial reporting, information systems, benchmarking, and stakeholder management. >> This discussion paper is intended to serve as a substantive, high-level reference for senior financial executives in GNPOs across Canada, as well as policy makers at the local, provincial, and federal levels. 1

5 Transitioning to PSAS: Basics Not-for-profit organizations (NPO) are expected to report consistently and clearly on their financial position and performance. Canada s Accounting Standards Board (AcSB) is responsible for standards for private sector not-for-profit organizations, which are set out in the CICA Handbook-Accounting ( the Handbook ). The Handbook constitutes the principal source of Canadian generally accepted accounting principles (GAAP). The Public Sector Accounting Board (PSAB) is responsible for standards for not-for-profit organizations controlled by government, including local governments, First Nations, provincial and territorial governments, and the federal government. In the past, all not-for-profit organizations followed the same accounting standards, which were known as the 4400 series. These standards were found in the Handbook. GNPOs, however, are unique from other NPOs since they report to government agencies and are controlled by their relevant governments. The transitional rules will now require all GNPOs to use Public Sector Accounting Standards (PSAS) found in the CICA Public Sector Accounting Handbook (PSA Handbook) instead of the CICA Handbook-Accounting. The former sections 4400 to 4470 (the 4400 series) of the Handbook are now incorporated into the PSA Handbook as sections PS 4200 to PS 4270 (the 4200 series) with minor revisions. GNPOs are required to adopt this new accounting framework for fiscal years beginning on or after January 1, 2012, with restatement of prior period results in most cases. Early adoption is permitted. As most ministry-funded organizations have March year-ends, their March 31, 2013, financial statements will be the first to be based on the new PSAS. With key transition dates already underway, carefully assessing the potential effects of the new accounting frameworks is essential for a seamless transition. As most ministry-funded organizations have March year-ends, their March 31, 2013, financial statements will be the first to be based on the new PSAS. 2

6 Transitioning To PSAS: Impacted Areas Organizations adopting these standards will see differences in the presentation of financial statements. These statements will be more consistent with those of governments and the organizations controlled by various levels of government in terms of recognition and measurement standards for items such as financial instruments and liabilities arising from retirement, post-employment, compensated absences, and termination benefits. GNPOs that convert to PSAS should identify the key differences in the standards and quantify the potential impact. For many organizations, this is already underway, particularly in the actuarial calculation of vested and unvested sick leave liabilities and other retirement, postemployment, and compensated absences liabilities. GNPOs converting to the new PSAS will face the most significant differences in reporting in the three areas outlined below. Note that in the year of adoption of PSAS, an organization must restate its comparative figures under the new standards and, therefore, will be required to present an opening balance sheet as at the date of transition. This date will be April 1, 2011, for a number of these organizations with March 31 year-ends. GNPOs converting to the new PSAS will face the most significant differences in reporting in the following three areas: Financial Instruments: Recognition & Measurement Financial Instruments: Presentation & Disclosure Retirement, Post-employment, Compensated Absences, and Termination Benefits 3

7 THREE MOST IMPACTED AREAS FOLLOWING TRANSITION TO THE NEW ACCOUNTING FRAMEWORK Financial Instruments: Recognition & Measurement There are now two measurement categories: fair value (for equities quoted in an active market and derivatives), and cost or amortized cost less impairment for all other instruments. Items in the fair value category are measured at fair value with fluctuations being recorded in a new component of the balance sheet known as accumulated remeasurement gains and losses, which is presented separately from other net assets or accumulated surpluses. Upon sale or derecognition of a financial instrument, the previously accumulated remeasurement gains or losses are recognized in operations in the period of disposition. This new item also requires a new statement within the financial statements, referred to as the Statement of Remeasurement Gains and Losses, which provides a continuity of activity in accumulated remeasurement gains and losses for the current and prior fiscal periods. This treatment is similar to NPOs that chose to designate their investments as available-for-sale under pre-changeover GAAP, as investments were recognized at fair value with fluctuations being recorded directly to net assets. This segregated market fluctuations from normal operations. These requirements are also consistent with NPOs that adopted hedge accounting and recognized the fluctuation in fair values of hedged derivatives directly to the statement of changes in net assets. Other financial instruments such as accounts receivable, accounts payable, and investments in debt securities such as bonds, are normally measured at amortized cost using the effective interest method, less impairments. However, many organizations manage large bond portfolios and evaluate the performance of these investments on a fair value basis. The new financial instrument standard allows for such investments to be categorized into the fair value category, if a GNPO wishes to do so. Regardless of the choice made by a GNPO, all fluctuations in investment values are recorded outside of the statement of operations until the investment is disposed of. This is consistent with the position that fluctuations in market values do not form part of a GNPO s normal operating cycle. Thus, fluctuations are excluded from direct consideration in evaluating an organization s financial performance for the period based on the statement of operations. Unlike the other items discussed below, the new financial instrument standard is effective April 1, 2012, without restatement of prior periods. Therefore, a GNPO s opening balance sheet as at April 1, 2011, and its comparative balance sheet and statement of operations for the period ended March 31, 2012, are presented with pre-changeover GAAP standards for financial instruments only. All other PSAS standards must be adopted and applied as at April 1,

8 THREE MOST IMPACTED AREAS FOLLOWING TRANSITION TO THE NEW ACCOUNTING FRAMEWORK Financial Instruments: Presentation & Disclosure The financial instrument standard under PSAS requires much greater disclosure relating to the extent that an organization uses financial instruments as well as the related risks and risk mitigating policies utilized. Under pre-changeover GAAP, GNPOs were exempt from the full disclosure standards that were applicable to publicly accountable entities and financial institutions, but the new standard brings in many of these requirements. These include qualitative and quantitative analysis of the risks associated with financial instruments, such as disclosure of concentration of credit risk, interest rate sensitivity on interest sensitive financial instruments, and a maturity analysis on financial liabilities with fixed maturity dates. A consequence of this disclosure may be organizations realizing that there is a lack of formal policies and procedures relating to risks that arise from financial instruments. Organizations should look to the requirements of other, similar government organizations relating to their investment portfolios, but also determine if their internal policies relating to concentration of credit risk, interest rate risk, market risk, derivatives, and other financial instruments are harmonious with their strategic planning. Retirement, Post-employment, Compensated Absences, and Termination Benefits There are changes under PSAS in the calculation methodology, including the discount rate and a requirement to recognize plan amendments immediately. An actuary will be needed to recalculate retirement and post-employment liabilities under the new standards for the three balance sheet dates. A new requirement to record the liability for sick leave benefits that accumulate but do not vest could have a significant impact on GNPOs. Under pre-changeover GAAP, there was a specific provision stating that liabilities for non-vested leave should not be recognized; this does not exist under PSAS. Therefore, organizations that offer non-vested sick leave, which is common in unionized collective bargaining agreements, must recognize a liability for this leave. The basis for recognition is that an employee is entitled to take these days regardless of services rendered; therefore, an organization is financially obligated. The calculation of this liability is further complicated by the fact that many employees will not take their full entitlement in a year, so an actuarial calculation must be made to assess how many sick days will be taken subsequent to year-end. 5

9 >> Organizations that adopt PSAS with the 4200 series will experience a smaller impact upon adoption. Transitioning to PSAS: The 4200 Series This transition to PSAS will facilitate comparisons between similar entities and among all notfor-profit organizations. To ease the transition and mitigate financial and administrative complexities, GNPOs may choose from two options within these new standards: OPTION 1 PSAS supplemented by the new 4200 series of standards; or OPTION 2 PSAS without the supplementary 4200 series of standards. The 4200 series allows the financial statements to retain many characteristics that are fundamental to how organizations in the public sector have historically reported their operating results. These items include principles such as fund accounting and the deferred and restricted fund method of contribution revenue recognition. Overall financial statement presentation will not differ substantially for GNPOs that select this option since the principles and concepts of the original 4400 series and the new 4200 series are similar. Organizations that adopt PSAS with the 4200 series will experience a smaller impact upon adoption due to three factors. First, PSAS has fundamentally different measurement standards for government contributions. Thus, continuity of past not-for-profit standards will be particularly important for many GNPOs with respect to the accounting treatment of contributions and endowments. Second, these organizations will continue to present the balance sheet using fund accounting and net assets rather than the net debt model under full PSAS. This minimizes confusion around stakeholders who are accustomed to the previous financial presentation. Third, since financial statements will be familiar to management and board members, governance oversight will be maintained. A GNPO that adopts PSAS alone without the 4200 series of standards will experience many more changes from the financial statements they are accustomed to. No matter which accounting standards a GNPO chooses, there will be accounting adjustments and additional financial statement disclosures. As well, prior year and the opening balance sheet figures will have to be restated, with the exception of financial instruments. Fortunately, PSAB has firsttime adoption exemptions to make the transition less onerous. These include: No requirement for the retroactive application of certain standards, such as business combinations and testing for tangible capital asset impairment. Allowing the adjustment to retirement and post-employment benefits for the change in the discount rate to be delayed to the earlier of three years from the date of adoption of PSAS or the next actuarial valuation of the plan. Allowing accumulated actuarial gains and losses on retirement and post-employment benefit plans to be recognized directly to net assets upon adoption of the new standards, since PSAS requires a more complex treatment. 6

10 Selecting the Right Option While every organization must make its own unique determination of the most appropriate option, there are a number of general considerations Recommendations or requirements by any associated government or regulatory body The impact on financial statements and reporting Ways in which changes in financial reporting might affect other required reporting, such as for regional health authorities or the Canada Revenue Agency Which standards provide the most useful information for users of the organization s financial statements How the choice of standards will impact the criteria upon which the organization evaluates financial performance The impact on comparability of financial statements and benchmarks with the organization s counterparts What information systems changes will be required to generate the necessary information under the new standards The impact on staff, including training The costs associated with a transition 7

11 B.C. WILL NOT USE THE 4200 SERIES, CREATING CHALLENGES FOR KEY STAKEHOLDERS. The Case for Consistency Despite the benefits of implementing the 4200 series, some jurisdictions, including British Columbia, have directed entities under their control not to use the 4200 series. In fact, several provinces have even taken the unusual step of legislating accounting rules, requiring their notfor-profit institutions to continue the defer and amortize practice for accounting for government transfers related to capital items. British Columbia and Ontario have legislated regulations that apply to some or all of their institutions in this regard. In Alberta, the Provincial Controller has issued a directive to accomplish the same goal. Other provinces are considering following suit. Unfortunately, using special standards in different regions precisely negates the concept of generally accepted accounting principles, and should be avoided. The entire premise of generally accepted accounting standards is to facilitate apples to apples comparisons and to ensure that similar transactions are recorded identically by different organizations. There should be no place for region-specific standards. This inconsistency in applying these new standards creates unnecessary challenges for three key stakeholders: taxpayers, accountants and auditors, and GNPOs themselves. The entire premise of generally accepted accounting standards is to facilitate apples to apples comparisons and to ensure that similar transactions are recorded identically by different organizations. There should be no place for region-specific standards. 8

12 INCONSISTENT APPLICATION OF ACCOUNTING STANDARDS CREATES CHALLENGES FOR TAXPAYERS, ACCOUNTANTS, AND GNPOs. Challenges for Taxpayers Comparability is a particularly important issue for GNPOs due to their common function and accountability to funders and stakeholders, e.g., taxpayers. When performance comparability between institutions is not possible because they use different accounting frameworks, a taxpayer is unable to compare the finances of not-for-profit entities in one province to those of another. If someone wishes to compare health services spending among hospitals in British Columbia with those in Manitoba, for example, the legislated basis of accounting used in B.C. would prevent comparisons on the same basis. The citizen cannot compare how his/her tax dollars are spent locally with those spent at the provincial level when accounting standards differ. Challenges for Accountants and Auditors From the Auditor General to government auditors and accountants in public practice, all accountants and auditors strive for consistent results. Accountants preparing the information want to show the financial position of the organization and how resources were used. The inconsistencies in the application of accounting standards, however, make this impossible. Similarly, auditors have to report on results when auditing this information. When it is prepared on a basis that differs from generally accepted accounting policies, the auditor must explain this in the audit report. If the auditor believes that mandated accounting policies are not consistent with generally accepted accounting policies and, instead, are a special purpose framework, then wording must be included in the audit report that the financial statements may not be suitable for a user other than government. Yet financial statements are also intended for taxpayers. Introducing legislation for the application of accounting rules creates confusion for readers, rather than clarity. Challenges for Government Not-For-Profit Organizations Differences among accounting standards for government not-for-profit organizations may also lead to complications for the entities themselves. For example, consider a situation in which debt carried by such an organization contains a covenant that financial statements must be prepared using GAAP. The use of a legislated framework that would differ from GAAP could breach this covenant and send the debt into default. In order to avoid this, the organization might have to prepare one set of financial statements on the legislated basis and another complete set of financial statements on a basis that is acceptable to lenders. Clearly, this is a nonsensical administrative burden. Legislation of accounting interpretations undermines the concept of GAAP, a hallmark of accounting in the developed world. Whereas consistent standards allow for open and transparent reporting and comparisons, legislating standards enables political agendas to influence financial reporting. Financial reporting should be free from any type of political interference. The numbers should speak for themselves. 9

13 Lessons from the College Sector As GNPOs, colleges are directly impacted by the changing accounting standards. With deadlines for the transition to PSAS rapidly approaching, finance officers representing Ontario s 24 publicly funded colleges and the Ontario Ministry of Training, Colleges and Universities, collaborated to form a working group that is proactively addressing issues related to the impending financial reporting deadline. What this group learned along the way may offer insightful lessons for other public sector organizations transitioning to the new standards. The following section will detail some of the lessons derived from the group s experience. Application of 4200 Series The group initially opposed any changes in accounting standards. Following the final decision by PSAB, however, the Colleges Ontario Finance Officers (COFO) and its working group moved forward in earnest. It was time to shift perspectives: from arguing against a transition to determining how to ease the transition to the new standards. Ontario s colleges were now focused on solidarity, a united effort to tackle the key transitional issues. The next step was to confer with senior decision-makers at members respective institutions and secure their agreement to use PSAB standards with the 4200 series. This consensus provided a foundation for the group to encourage buy-in from all of Ontario s publicly funded colleges. While each institution has a choice, the group expects that all colleges will adopt PSAB with the 4200 series since these are most similar to current standards. Using these standards will minimize transitional issues and will ultimately deliver financial statement consistency and enhanced comparability for all. Early Start The group s first task was to identify all of the key transitional differences and determine how these might impact college financial statements. Since there are significantly fewer accounting changes and differences in financial statement presentation using the PSA Handbook with the 4200 series, PSAB s compromise made this task easier. The noteworthy differences they identified included the following: differences in the discount rate used to determine post-employment benefits and compensated absences; the requirement to recognize a liability for sick leave benefits that accumulate but do not vest; the introduction of a new financial statement, the Statement of Remeasurement Gains/Losses, that includes unrealized gains/losses on financial instruments and foreign exchange; and a new category for capital transactions in the Statement of Cash Flows. 10

14 THE COFO WORKING GROUP RECOMMENDS THE ADOPTION OF THE 4200 SERIES AS PART OF THE TRANSITION. After determining which specific standards required further exploration, teams of two assumed responsibility for conducting research on each and preparing a briefing to share with the other members of the working group. Sharing and Communicating Sustaining collaboration like the COFO PSAB working group requires continuous attention. Frequent meetings, conference calls, and communication over the past two years have enabled the group to maintain strength and momentum. Ongoing dialogue with stakeholders contributes to continued learning. The members of the team have also become adept at reassessing goals, direction, pace, and progress in order to sustain their commitment to collaborative action. Successes along the way helped to motivate them. This inclusive, cooperative approach to identifying and acting on PSAB transition issues has enabled the working group to achieve productive results while also enjoying the experience. The members of the group, unfamiliar with PSAB accounting standards just two years ago, are now well prepared to adapt financial statements for their own colleges. Having learned the value of partnering, they re also preparing to support their counterparts in other colleges as they begin preparing their financial statements under the new accounting framework. The team s comprehensive briefings and tools will likely be welcome resources as these transitions get underway. With 24 organizations involved, transitioning to PSAB is in fact a major change management project for the Ontario college sector, especially since the working group has no authority regarding the decisions of individual colleges. This is why relationship building is such an important factor in the group s achievements. Advice, decisions, and approvals must be secured from senior personnel of multiple organizations, including: each college; Colleges Ontario; the Ministry of Training, Colleges and Universities; an actuarial firm; and others. The experience of the Ontario college sector s PSAB working group demonstrates the benefits of starting early and working together with others in the sector in order to share concerns and to learn from one another. For the colleges, this proactive, collaborative approach has given them a broad and deep understanding of PSAB accounting standards and equipped them with best practices and resources to guide their own transition. For every public sector organization involved in the massive shift to new accounting standards, this could be the most valuable lesson. 11

15 TRANSITION TO TRANSFORMATION This transition of standards is uncharted territory. There is no certainty surrounding the definitive effects a transition will have on an organization s financial reporting. The more planning that is conducted upfront, however, the lower the risk of detrimental surprises. Thus, management, the board, and an organization s auditors and financial advisors should confer together to address each aspect of the GNPO s accounting and financial reporting that might be impacted by the transition to the new standards. It s decision time. While change can be painful, it can also be productive. This transition to new accounting standards could be an ideal opportunity for many GNPOs to streamline and strengthen accounting policies and practices. Management should develop a project plan as soon as possible since transitioning requires a significant amount of time to identify and acquire all of the necessary information, to assess the potential outcomes, and then to make a decision regarding the best course of action. About BDO BDO has helped over 2,000 public sector organizations work through regulatory changes and limited funding while addressing increased operational and technological demands. BDO in Canada BDO is one of the leading accounting and advisory firms in Canada with over 100 offices from coast to coast. With 90 years of experience serving Canadian businesses, we have the expertise to serve owner-managed, large and mid-market companies, communities and non-profits in a broad range of industries. Our team of partners and professionals offers value-added services to our clients, with a strong focus on business and community relationships. BDO Around the world The international BDO network is comprised of public accounting firms around the world, called BDO Member Firms. We are the fifth largest accounting and advisory network in the world, with a full range of related services tailored to each respective locale. As part of this worldwide network, our Canadian member firm has access to more than 1,000 offices in over 100 countries. 12

16 Public sector digest INTELLIGENCE FOR THE PUBLIC SECTOR. Public Sector Digest is a specialized, monthly research publication written to advance the knowledge and managerial capacity of the public sector. In addition to the monthly issues, we regularly publish policy analyses and technical discussion papers, including the Critical Knowledge Series. Organizations that contribute to the publication and collaborate with us on research include global consulting and advisory firms, think tanks, leading academic institutions, and practitioners in the public sector. Our target readership comprises the senior executive in all levels of government, as well as general staff and elected officials. We vet ideas, debate policy, and examine theory. To become a member and to download a full PDF of this document, visit or send us an at info@publicsectordigest.com. Contacts BILL COX PARTNER, AUDIT AND ASSURANCE BDO CANADA bcox@bdo.ca ERICA TEKLITS PARTNER, NATIONAL NOT-FOR-PROFIT & PUBLIC SECTOR LEADER BDO CANADA eteklits@bdo.ca ROB WILKES PARTNER, ASSURANCE AND ACCOUNTING BDO CANADA rwilkes@bdo.ca SHANNON BROOKS DIRECTOR OF FINANCIAL SERVICES CENTENNIAL COLLEGE sbrooks@centennialcollege.ca ISRAR AHMAD MANAGING EDITOR PUBLIC SECTOR DIGEST iahmad@publicsectordigest.com 2013 PUBLIC SECTOR DIGEST All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by means electronic, mechanical, photocopying, recording, or otherwise, without the permission of Public Sector Digest. w w w. p u b l i c s e c t o r d i g e s t. c o m