European Common Enforcement Priorities for 2024 Corporate Reporting
The European Securities and Markets Authority (ESMA) has issued its annual Public Statement outlining the European Common Enforcement Priorities (ECEP) for the 2024 annual financial reports of issuers on European Economic Area (EEA) regulated markets. ESMA and national enforcers will focus on these priorities and other entity-specific issues during their examinations. They will take enforcement actions if material misstatements are found and report their findings.
ESMA urges issuers, auditors, and supervisory bodies to consider the detailed recommendations in the Public Statement when preparing, auditing, and supervising the 2024 annual financial reports, taking into account their materiality and relevance.
These Enforcement Priorities are mandatory for listed companies but are also highly relevant for non-listed companies. In general, auditors will insist on compliance even for non-listed companies.
Priorities related to IFRS financial statements
ESMA has addressed topics from the areas of financial statements, sustainability statements, ESEF reporting as well as general remarks on topics, which include the connectivity between financial and sustainability statements, as a reminder of prior recommendations. In this article, we focus on the recommendations on financial statements.
Priority 1: Liquidity considerations
Supplier Finance Arrangements (SFA)
ESMA emphasizes the importance of liquidity risk disclosures, particularly the new requirements in IAS 7 Statement of Cash Flows related to supplier finance arrangements. Issuers must identify all material SFAs and disclose terms and conditions, such as extended payment terms and guarantees provided.
Key information to be disclosed includes:
- Carrying amounts and line items of financial liabilities that are part of an SFA, with separate disclosure of liabilities for which suppliers have already received payment from finance providers.
- Payment due dates for SFA-related financial liabilities and comparable trade liabilities that are not part of an SFA.
- Non-cash changes in SFA-related financial liabilities.
Disclosures should be aggregated appropriately, with separate details for arrangements with different terms. Issuers should provide explanatory information when using wide ranges of payment due dates and consider additional disclosures to meet IAS 7 objectives. Access to SFA facilities that provide the issuer with extended payment terms or the issuer’s suppliers with early payment terms should be considered when providing disclosures on how the issuer manages the liquidity risk inherent in the related liabilities (see IFRS 7.39(c) and IFRS 7.B11F(j)).
Covenants
ESMA highlights the new disclosures under IAS 1 related to non-current liabilities with covenants and the required disclosures by IFRS 7 for loans payable, especially in cases of defaults, breaches, or renegotiations.
Key Points include:
- IAS 1.76ZA requires disclosures to help users understand the risk of liabilities that could become repayable within twelve months after the reporting period, even if classified as non-current and subject to compliance with covenants within twelve months after the reporting period.
- Issuers must disclose the timing of settlement to show the impact on financial position, including non-adjusting events like borrowing or covenant renegotiations occurring after the reporting period.
- Reclassification: Liabilities must be reclassified as current if covenants are not met at year-end, even if a waiver is obtained afterward.
These disclosures aim to provide a clearer understanding of the financial risks and positions related to covenants.
Statement of Cash Flows (SCF)
Based on cases of non-compliance, that enforcers have identified in the past, ESMA draws issuers’ attention to the following requirements concerning SCF:
- Cash flows in the SCF must be presented on a gross basis.
- Non-cash transactions cannot be presented in the SCF.
- Material non-cash transactions related to investing and financing transactions must be disclosed elsewhere in the financial statements.
- Bank borrowings are generally classified as financing activities.
- However, bank overdrafts that are repayable on demand and are part of an entity’s cash management can be included in cash and cash equivalents.
- If a fluctuation of balance between positive and negative does not often occur, bank borrowings should be presented as financing activities.
Issuers should be transparent about their accounting policies and judgments regarding the classification of cash flows, including interest, dividends, leases, supplier finance arrangements and other complex or infrequent transactions.
Priority 2: Accounting policies, judgements, significant estimates
General remarks
Entity-Specific Disclosures: Disclosures of material accounting policies, judgments, and sources of estimation uncertainty should be specific to the entity. Issuers should only describe the accounting policies and valuation methods used by them, such as those used in impairment tests or fair-value determinations.
Consistency and Clarity: Disclosures should be consistent with other information in the financial statements. Issuersshould avoid boilerplate disclosures and instead provide clear, relevant information. Sensitivity analyses should be included when small changes in assumptions or estimates could lead to material adjustments.
Significant Judgments and Assumptions: Issuers should clearly disclose the judgments that have the most significant impact on the financial statements and the assumptions about the future that could result in material adjustments to asset and liability carrying amounts within the next financial year.
Impact of Current Developments: Issuers should assess and explain how significant current developments, such as macroeconomic, technological, social, climatic, and geopolitical factors, affect estimation uncertainty.
Control, joint control and significant influence
Determining whether the issuer controls or jointly controls an entity or has significant influence over an investee may require significant judgement beyond just voting rights.
Significant judgement may particularly be the case in the following:
- Special rights under existing contracts (e.g., articles of association or shareholder agreements) related to voting or nominating directors.
- Specific legal regimes, including government agency involvement or director nomination requirements.
- Legal provisions limiting capital involvement in the investee.
- Temporary circumstances, such as holding options on the investee’s equity.
Issuers should comply with paragraphs 7-9 of IFRS 12, providing clear and detailed disclosures about the significant judgments made when assessing control, joint control, and significant influence.
Revenue from contracts with customers
Judgment in Long-Term Contracts: Assessing whether long-term contracts (e.g., rental agreements) meet the definition of a contract with a customer may require significant judgment. Issuers should disclose the judgments used in this assessment.
Uncertainty in Long-Term Contracts: For long-term contracts (e.g., construction contracts) that span multiple accounting periods, there is often uncertainty regarding revenues and costs. Issuers should ensure that forecasts are reasonable and supportable, especially in the current macroeconomic environment.
Onerous Contracts: For loss-making contracts, the present obligation should be recognised and measured as a provision. Disclosures should include uncertainties about the amount and timing of outflows of economic benefits and major assumptions about future events, as required by IAS 37.
Principal vs. Agent: When another party is involved in providing goods or services, revenue recognition under IFRS 15 depends on whether the issuer acts as principal or agent, which may require significant judgment.
Revenue Disclosures: Issuers should provide detailed disclosures about the amount and timing of revenue expected from existing contracts (“backlog”), including significant judgments and potential effects of changes in estimates. Reconciliations between opening and closing balances of remaining performance obligations should also be provided.
Compliance with APM Guidelines: When including backlog measures in the management report, issuers may need to comply with ESMA Guidelines on Alternative Performance Measures (APMs).
