25 October 2004
Speech by John Tiner

 

Thank you very much for that introduction, may I say that I am extremely pleased to be here today amongst such a cast of distinguished speakers. As mentioned, I am here in my capacity as Chairman of CESRfin which is CESR's permanent group of experts in the field of financial reporting. This is a role which I took over in November of 2003 from Henrik Bjere-Nielsen, Director General of the Danish Financial Supervisory Authority.

My main focus today is on the important role that CESR is playing in the endorsement, implementation and enforcement of IFRS and auditing practices in the EU. However I would also like to take the opportunity to update you on some work CESR is undertaking on the equivalence of other accounting standards with IFRS.

Firstly to Improve co-ordination among securities regulators - this is achieved mainly through the development of effective operational networks and mechanisms to enhance day to day consistent supervision and enforcement of the Single Market for financial services.

Secondly to Act as an advisory group to assist the EU Commission - this is particularly relevant in its preparation of draft implementing measures of EU framework directives in the field of securities; As we will see later, it is in this capacity that CESRfin is advising the Commission on equivalence of other GAAPs with IFRS; and

Thirdly Working to ensure a more consistent and timely day-to-day implementation of community legislation in the Member States : this work is carried out by the Review Panel under the Chairmanship of CESR's Vice Chairman.

As I mentioned, CESRfin is CESR's permanent operational group of experts in financial reporting. CESRfin co-ordinates the work of CESR members in the area of financial reporting, allowing CESR to play an effective role in the implementation and enforcement of IFRS in the EU.

In order to deliver on this mandate CESRfin has established three sub committees:

  • the subcommittee on Enforcement or SCE chaired by Mr Lars Ostergard of the Danish Financial Supervisory Authority;
  • the subcommittee on international standards endorsement or SISE which is chaired by Paul Koster who is Board Member at the Netherlands Financial Market Authority (AFM); and
  • the Audit task force or ATF which is chaired by Philippe Danjou who is Director of Corporate Accounting at France's market regulator - Autorit des Marchs Financiers (AMF).

We operate in a world where securities markets are global, but securities regulators are national. It is therefore essential that CESRfin has good links on an international level both through IOSCO and with the SEC. In June of this year CESR and the SEC agreed terms of reference for enhanced co-operation and collaboration regarding market risks and regulatory projects. Such cooperation will afford the opportunity to discuss, at an early stage, issues of regulatory concern in the US and the EU securities market. The intention is to allow CESR and the SEC to develop coherent and converging solutions which are both effective and timely.

We also intend to share experiences relating to enforcement matters involving multinational market participants who are active in both the US and EU. I will touch upon further interaction with the SEC when we look at the work of the CESRfin Subcommittees.

CESRfin has strong links with the EU Commission in the areas of endorsement and enforcement of IFRS and auditing. CESRfin has an observer at the EU Accounting Regulatory Committee (ARC) and is seeking representation at any equivalent EU Auditing Regulatory Committee that the Commission may set up.

EU Commission representatives attend all CESRfin meetings and actively participate in all debates - except of course for confidential discussions involving specific individuals or firms.

I think that covers some of the background, now looking more specifically at the endorsement, implementation and enforcement of IFRS.

With the introduction of EC Regulation 1606, the vision under the Financial Services Action Plan of a single set of financial statements for listed companies became a reality. The primary objective being to allow community companies to compete on an equal footing for financial resources available in the capital markets.

I think we can say that a single set of globally applied, high quality accounting standards, that are consistently applied, interpreted and enforced is key to underpinning investor confidence and is a prerequisite for the wider acceptance of IFRS.

CESRfin and its three subcommittees on Enforcement, Endorsement and Auditing are play a key role in ensuring that standards are of a high quality, are consistently applied, interpreted and enforced in the EU.

So how does CESRfin contribute to high quality accounting standards?
Well this contribution achieved mainly through CESR-Fin's subcommittee on international standards endorsement - the endorsement subcommittee.

The Subcommittee has a close working relationship with the European Financial Reporting Advisory Group (or EFRAG) and the Members and staff of the IASB Board many of whom are regularly invited to participate in the group's discussions.

Through its observer status in the European Accounting Regulatory Committee (ARC), the subcommittee also actively participates in the preparatory discussion for the endorsement of existing accounting standards. Throughout this process, CESR's key objective has been to ensure investors' needs are kept at the very heart of the revised approach to financial reporting based on these new accounting standards.

The subcommittee closely monitors the development of the new draft accounting standards published by the International Accounting Standards Board (IASB) and provides comments on new proposals through EFRAG where the endorsement subcommittee has a permanent observer seat - Mr Ludger Hanenberg from the BAFIN represents CESRfin at these meetings.

We have sent written comments to EFRAG on IASB's exposure drafts, among which the most important and recent ones were the new proposed standards for First Time Adoption of IFRS (now IFRS 1), Business Combination phase I, Share-based Payments, Improvements of IAS 32 and 39 and Insurance contracts phase I.

Having mentioned IAS 39, I would like to describe the role CESRfin played in the endorsement process. We closely followed and participated in the discussions which preceded the endorsement decision of the ARC. Various letters sent to the Commission by CESRfin expressed a series of technical comments on the proposed partial endorsement, from the point of view of securities regulators. Some of our concerns were addressed in the final Regulation adopted by the ARC but other concerns remain open, in particular the need for appropriate disclosures and explanations on assumptions and methods used for the determination of values referred to in hedging a portfolio of core deposits.

This concern relates to the possible risk of reduced reliability of information when financial reporting is not based on the complete set of provisions of a given standard, in particular when this implies relaxation of important strict provisions (e.g. the effectiveness test) or when it includes more judgemental elements in the preparation of the accounts (valuation of portfolio of core deposits). It is likely, therefore, that companies will use different versions of the standard in the area of hedge effectiveness and, as a consequence, it may be difficult for investors to make comparisons.

The possible risk of volatility resulting, in some instances, from the carve-out of the Fair Value Option was also underlined.

As the partial endorsement is basically a temporary solution, CESR will continue to monitor closely the future developments on these issues. In terms of enforcement, the implementation of the partial IAS 39 will also need increased attention from regulators.

Whether an issuer uses the partial endorsed version of IAS 39 or whether they are able to assert compliance with the full version of IAS 39 may have important implications for SEC registrants. SEC registrants are required to include 2 years comparative numbers in their filings which would mean producing IFRS numbers for 2003. We believe that, helpfully, the SEC may allow issuers that can assert full compliance with IAS 39 to avoid the requirement for the second years IFRS comparative. It is unlikely that compliance restricted to the partially endorsed version of IAS 39 will elicit any concession.

Given the current intense round of lobbying and discussion on the endorsement of IFRS 2, I would like to mention that, CESR-Fin has expressed its unanimous support for the adoption in Europe of IFRS 2. Considering the potentially significant impact of share based payments (including stock option plans) on existing shareholders and the very nature of such payments, the expensing of these payments as required by IFRS 2 is fully justified in light of investor protection considerations.

Recognising that the transition to international accounting standards in 2005 will undoubtedly pose significant challenges for the approximately 7000 EU listed companies, CESR-Fin through SISE prepared a draft recommendation to facilitate the financial information of the investors during the transition phase. Following a public consultation that ended on 28 November 2003, CESR approved in December 2003 the final text of the recommendation regarding the transition to IFRS along with a feedback statement reflecting the public consultation.

The recommendation of CESR sets out how listed companies can ensure a seamless transition to IAS/IFRS, focusing in particular on the need for them to implement a well thought-through communication strategy tailored to for the market and the investors' needs.

The Endorsement subcommittee identified a number of other specific topics not dealt with by the Accounting Regulation which we believe need further consideration by European Securities Regulators if a proper implementation of IAS/IFRS is to be ensured. This includes for example an analysis of issues linked to the application of IAS/IFRS by "investment companies".

I believe I have covered the way in which CESRfin is contributing to high quality accounting standards and would now like to turn to the role we play in the enforcement of those standards.

Accounting standards may be of a high quality but without effective and consistent enforcement there can be no confidence that the standards are being consistently or correctly applied - this can undermine market confidence itself.

Enforcement is therefore a key part of any regulatory regime and is summed up by recital 16 of the accounting regulation:

"A proper and rigorous enforcement regime is key to underpinning investors' confidence in financial markets. Member States, by virtue of Article 10 of the Treaty, are required to take appropriate measures to ensure compliance with international accounting standards. The Commission intends to liaise with Member States, notably through the Committee of European Securities Regulators (CESR), to develop a common approach to enforcement."

Clearly the quality of enforcement and how rigorously the standards are enforced is going to be a key factor in determining the success of any move to a single set of standards. Enforcement of accounting standards is at national level and therefore it was important that CESR develop a common framework for use by its members for enforcing compliance with financial reporting standards. Such a framework would reduce the scope for any regulatory arbitrage in the EU by moving towards consistently applied harmonised standards of enforcement.

Further a robust and consistent enforcement regime in the EU is likely to be a prerequisite for the SEC easing access for EU companies to the US Markets.

With this in mind CESRfin published a draft Statement of Principles on the enforcement of standards of financial information on October 22nd 2002. Following consultation this document was finalised and published in March 2003 as CESR's Standard No 1 on financial information.

Standard no 1 identifies 21 principles related to the enforcement of financial information. The standard was subject to public consultation. We also took informal soundings from the SEC. CESR members are expected to comply with the standard on a best endeavours basis.

The standard itself is a relatively short, some 11 pages with 21 underlying principles and related explanatory guidance. The main areas covered by the principles include:

the Purpose of enforcement
which is defined as being to protect investors and promote market confidence by contributing to greater transparency of financial information.

the Scope of enforcement
i.e. which issuers and harmonised documents are covered by the standard - A key point here is that the scope of enforcement is not just restricted to IFRS. To the extent that issuers are able to use other GAAPs these will need to be enforced.

Who carries out the enforcement
the standard specifies that enforcement should be carried out by independent administrative authorities in each member state. Such authorities must have the necessary minimum powers such as information gathering and investigation powers along with sufficient resources.

Selection
the Standard requires that there should be a risked based approach to enforcement. This recognises that enforcers have limited resources and that they should direct those resources where they will be of most benefit. Due to the intrinsic limitations of any risk based system of external monitoring, enforcement will not provide a zero failure assurance.

Actions
a consistent policy of actions should be developed whereby similar actions are taken where similar infringements are discovered.

Coordination
there must be coordination between authorities to promote harmonisation of enforcement practice - coordination is the subject of a second CESR standard which I will talk about in a minute.

Finally reporting
Enforcers should report periodically to the public on their activities. In order to be effective enforcers need to tell people what they are doing and get the right messages into the market place.

CESR is clear that the enforcers should not become standard setter by virtue of issuing detailed application guidance. Enforcement should not lead to a body of detailed rules of acceptable application of IAS, this would contradict the principles based approach of the standards or close options where different accounting treatments are allowed by the standards themselves. We already have a standard setting body - the IASB and issuance of general interpretations is the responsibility of bodies such as IFRIC. Enforcers may contribute to the standard setting process by providing their experience to the interpretation debate but should not attempt to create a parallel body of interpretations.

I mentioned coordination as a key principle - if we are to achieve a consistent approach to enforcement then enforcers from different jurisdictions must expect to talk to one another and take similar decisions in similar circumstances. At the time standard No 1 was produced the subcommittee on enforcement undertook to develop further principles and guidance on the issue of coordination - ie how should decision making on a national level be coordinated with other enforcers to achieve harmonisation and convergence of decision making?

Following work by the subcommittee on enforcement and a public consultation, CESR published its final standard no 2 "Coordination of Enforcement Activities" in April 2004. In summary this standard introduces 4 principles:

  • Firstly, that enforcers should take into account existing precedent when making a decision and where practicable discussion with other enforcers should take place. Such decisions include both ex-ante and ex-post decisions. As a minimum enforcers are expected to consult the database to ensure that they are fully informed of existing precedent before taking a decision.
  • Secondly, enforcers should make available details of their decisions taken to other EU enforcers. If account is to be taken of existing precedent then enforcers must know about other enforcer's decisions. CESR envisaged at the time of standard no 2 that the requirement to share information on decisions could best be achieved through the use of a private CESR database accessible to all those EU National enforcers responsible for taking enforcement decisions.
  • Thirdly, that everyone should follow an appropriate confidentiality regime
  • And fourthly, recognising the fact that not all EU Enforcers are CESR members, establishing the European Enforcer Coordination Sessions or EECS where all EU National Enforcers whether CESR members or not are invited to exchange views on enforcement cases and discuss decisions taken at national level and experiences. The European Enforcer coordination Sessions are extended sessions of the Subcommittee of enforcement chaired by Lars Ostergard.

The involvement of those EU National Enforcers that are not CESR members under principle 4 is crucial to the success of the coordination mechanism. To achieve harmonisation those tacking the enforcement decisions must be involved.

Following further work by the Subcommittee on enforcement guidance dealing with the terms of reference for the EECS and the database input policies was published for consultation in June 2004. This guidance is due to be finalised shortly.

The paper provides guidance on what constitutes a decision, sets out criteria for determining when decisions should be submitted to the database, what information should be submitted, and when.

It is important to note that we are not only interested in decisions where an enforcer decides to take an action but also those decisions where an enforcer decides not to take any action - so called non-action decisions. The guidance also deals with pre clearance decisions i.e. where some enforcers provide an opinion on a particular financial reporting issue before an issuers accounts have been finalised.

The EECS mechanism described is not intended to act as a second chamber and has no power to revise national decisions. The coordination mechanism is aimed at improving convergence of future decisions and is intended to work on an efficient and flexible basis gaining authority from the practical cooperation of its members and from the quality of its output. The mechanism is designed to ensure that potentially contradictory decisions are identified for discussion by the EECS so that convergence can occur. If agreement cannot be reached by enforcers this indicates an underlying interpretation issue with the standard itself and in these circumstances such issues would be referred to IFRIC.

The most important issues that we still have to resolve are the IT technical aspects of the database and the most appropriate way for allowing exchange of confidential information between CESR Members and non-CESR members. The last element is probably not easy, but CESR-Fin believes that the harmonisation of enforcement practices and harmonisation in the application of financial reporting standards would be hampered if the exchange of information between enforcers has, on an ongoing basis, to be limited to non-confidential information.

Whilst CESR is currently working on the technological aspects of the database, we expect to have the first full European Enforcer Coordination Session in January 2005.

Finally, on coordination, we should remember that the use of IFRS exists outside Europe and the ultimate goal should be consistency on a global level.

Building on the experience of CESR, the Standing Committee No 1 of IOSCO has recently started a project similar to that developed by CESR-Fin for the co-ordination of enforcement of financial information, with a particular interest for multi-national enterprises reporting under IFRS.

The two groups have to learn from each other. Many practical issues are common for CESR and IOSCO. Broadening the co-ordination of enforcement beyond the boundaries of Europe will become a necessity as the application and recognition of IAS/IFRS progresses worldwide. Where possible, we should try to avoid duplication and incompatibility of databases and procedures for input to co-ordination mechanisms.

Both groups agreed to have regular meetings and exchange of experiences over the next months. From the CESR point of view it is, however, important to finalise the enforcement project in the short term, even independently of continued discussions at IOSCO level, because the co-ordination of enforcement of financial information in Europe is an immediate operational responsibility and commitment for CESR in the context of the upcoming application of IFRS by all listed EU companies.

And now I turn to CESR's role with regard to endorsing, implementing and enforcing audit practices in the EU. There are various defences against corporate malpractice, but one of the key lines of defence is the work of independent auditors who provide their professional opinion on the truth and fairness of the financial statements of the company. In recent global financial scandals, the spot light has turned onto the role of the auditors and what appear to have been significant audit failures. It is therefore not surprising that CESR-fin should have set up an Audit Task Force to provide input in the area of audit to continue to fulfil CESR's mandate to improve co-ordination among securities regulators, act as an advisory group to assist the EU commission and work to ensure more consistent and timely day-to-day implementation of community legislation in the Member States.

What is the remit of the audit task force (ATF)? What has it done? And what does it propose to do in this area?

What is its remit?
The ATF has been set up with a mandate to monitor the current work undertaken in the area of auditing. This broadly means that the ATF will consider general issues in the areas of the application of common auditing standards in the EU, auditor independence and oversight of the profession - from the perspective of securities regulators. This translates into actively monitoring the implementation of the 8th Directive on Company law; reviewing the work of the International Auditing and Assurance Standards Board which issues international standards on auditing (ISAs); providing input to the Commission on directives or recommendations where there is an auditing dimension, and liaising with other international organisations on new legislation and standard setting in the field of auditing.

What has it done?
The ATF had its first meeting in July, where it established its priorities over the next few months. Since that meeting it has been looking at the area of audit in relation to auditor review for half-yearly reports as proposed under the Transparency directive. DG Internal Market has asked CESR to provide technical advice on possible implementing measures for the nature of the auditors' review of the half-yearly report. I must emphasise that CESR-fin has no mandate to establish which standards an auditor should comply with for conducting such a review. The results of the ATF work mainly serve as an indication to the market and the Commission as to the existence of any convergence in this area between member states. ATF concluded that there is a great deal of convergence in the way in which audit reviews are conducted in member states in that most are voluntary and based to a large extent on the international standard in this area.

What does it propose to do?
The ATF will be meeting and working over the next few months to provide input to the future process of adoption in the EU of ISAs, to act as an observer on EU audit committees and to provide input on the area of auditor involvement in the new EU prospectus directive. With the new international exposure draft from the IAASB of the Clarity Project, I am sure that the ATF will also provide helpful comments to the IAASB on this major project.

The task of the ATF is to provide technical input through CESR-fin such that it can assist the EU commission and work to ensure more relevant and reliable implementation of community legislation. Over the next year, with the introduction of the revised 8th Directive on Statutory Audit, there will be plenty of work.

Finally I would like to update you on the work that CESR is doing on assessing Equivalency of other GAAPs with IFRS.

CESR-Fin has started actively to work on a mandate received on 29 June 2004 from the European Commission. The Mandate asks for technical advice on the equivalence between third countries GAAP (specifically the US, Japan and Canada) and IFRS. The mandate also requires CESR to describe the enforcement mechanisms in place in the considered countries.

CESR-Fin proposes to fulfil this important mandate into two steps. The first step is to publish for consultation a concept paper which sets out the methodology by which equivalence is to be assessed. The concept paper I mention has been approved by the CESR Chairmen and will be published shortly. The second step following the consultation and agreement on methodology, is the actual technical assessment of GAAP equivalence itself and the analysis of enforcement mechanisms.

The concept paper is an important milestone in the process as it describes the methodology that CESR will follow for conducting the technical work. It also indicates which criteria will be used. The concept paper will serve as an objective reference to be used for any GAAP equivalence assessment. I would therefore encourage you all to read it and respond.

The most important issue is to determine what is meant by equivalence. CESR-Fin is of the view that equivalence should not be defined as meaning 'identical'. In CESR's view his means that third country GAAP can be declared as equivalent when financial statements prepared under such GAAP enable investors to take at least similar decisions in terms of whether to invest, hold or divest, as if they were provided with financial statements prepared on the basis of IAS/IFRS.

Some differences between third country's GAAP and IAS/IFRS would not give rise to differing investment decisions.

The concept paper develops equivalence around three fundamental elements:

  • Firstly, a review of general principles and adequacy of the third country GAAP for financial reporting in the EU. CESR will consider the primary objectives of the GAAP, their conceptual frameworks and their relevant general characteristics.
  • Secondly, a technical assessment of the significant differences between accounting standards. The assessment should not aim at identifying every difference between third country GAAP and IAS/IFRS as the cost of undertaking an exercise at this level of detail would outweigh the benefits to investors. The main difficulty is to know what "significant differences" are. As this largely depends on an issuer's activities and financial position, we have concluded that the only possible approach is to limit the scope to differences commonly found as significant by practitioners and users of information. Hence we will need to ask detailed questions to third countries and to consult publicly on the concept paper.
  • Thirdly, we need to consider appropriate remedies to meet investors' needs in case of non-equivalence. The Prospectus Regulation does not currently provide for any remedy other than restatement for non-equivalence. However the EC mandate requires CESR to analyse possible other remedies.

In this framework, and considering the need to meet investors' needs and to avoid burdensome restatement requirements for issuers, CESR-fin believes that there should be a hierarchy of potential remedies that are designed to achieve the objective of equivalence. The remedies differ according to the nature of the difference between the accounting models and their application depending on the issuers' activities and financial position. Basically, three remedies have been identified: additional disclosures, statements of reconciliation and supplementary statements (which are less than full restatements). Issuers and their auditors are primarily responsible for identifying the applicable remedies.

One difficulty CESR-Fin faced was to know how to articulate the review of general principles and the technical assessment with each other. Two different approaches seem possible.

One approach would be to first review the general principles. Depending on the results of this review, a technical assessment would then be carried out only if there is equivalence between general principles.

A second approach is that the technical assessment should be systematically performed as a first step and the review of general principles would intervene at a later, conclusive level (like an overall review and assessment of technical equivalence). We would welcome feedback on the options.

For the part of the mandate that relates to the enforcement mechanism of third countries, the solution proposed in the concept paper is to use the principles in CESR Standard No 1 on financial information as "reading grid" for describing the third countries mechanisms.

In conclusion, I would like to sum up by saying that we are in a period where major changes are expected in the financial reporting framework, in many cases over a relatively short time frame. As you will have seen today, CESRfin has a key role to play in ensuring that these changes are successfully implemented. Through the work of our endorsement subcommittee we are working to ensure that standards are robust and meet investor protection needs. Through our enforcement subcommittee we are helping achieve a coordinated and harmonised approach to enforcement. Through the Audit Task Force we plan to contribute to strengthening audit quality in the EU.

Thank you for your time today.

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