How is the Progress on IFRS Convergence in Malaysia now?

Crowe Horwath AF 1018
Member Crowe Horwath International
<strong>How</strong> <strong>is</strong> <strong>the</strong> <strong>Progress</strong> on IFRS Convergence
in Malaysia now?
July E-Newsletter | 31 May 2012
Malaysian accounting standards have gone through a
good amount of refreshing in recent years. Previously,
Malaysia had adopted <strong>the</strong> Financial Reporting
Standards (FRS) which was largely based on <strong>the</strong>
International Financial Reporting Standards (IFRS)
<strong>is</strong>sued by <strong>the</strong> International Accounting Standards Board
(IASB). From 1 January 2012, Malaysia undertook a full
convergence of Malaysian accounting standards to
IFRS. <strong>How</strong>ever, <strong>the</strong> adoption of two new accounting
standards was deferred until a later date. These were
MFRS 141 Agriculture (IAS 41) and IC Interpretation 15
Agreements for <strong>the</strong> Construction of Real Estate (IFRIC
15).
The convergence with IFRS takes <strong>the</strong> form of <strong>the</strong>
Malaysian Financial Reporting Standards (MFRS),
which <strong>is</strong> <strong>the</strong> name of <strong>the</strong> accounting standards in
Malaysia. Th<strong>is</strong> new accounting framework applies to all
entities o<strong>the</strong>r than <strong>the</strong> following:-
1. private entities; and
2. those engaged in <strong>the</strong> agriculture and real estate
industries, including <strong>the</strong>ir parents, significant
investors and venturers (Transitioning
Entities).These entities can defer <strong>the</strong> adoption of
MFRS for one year, i.e. adoption for annual periods
beginning on or after 1 January 2013.
Most of <strong>the</strong> public l<strong>is</strong>ted companies had publ<strong>is</strong>hed <strong>the</strong>ir
first set of MFRS-based quarterly reports by end of May
2012. Interestingly, not much financial impact was
observed upon <strong>the</strong> transitioning to MFRS because our
FRS <strong>is</strong> identical to IFRS in all major aspects.
Th<strong>is</strong> article d<strong>is</strong>cusses <strong>the</strong> development of IAS 41 and
IFRIC 15 and <strong>the</strong>ir potential implications to companies
in <strong>the</strong> agriculture and property development industries.
From 1 January 2012,
Malaysia undertook a full
convergence of Malaysian
accounting standards to
IFRS.
IAS 41
Impact on financial statements and <strong>the</strong>ir
users
IAS 41 sets out <strong>the</strong> accounting principles relating to
agricultural activities such as <strong>the</strong> measurement of
biological assets, which are assets that are used to
produce <strong>the</strong> agricultural products. An example of a
biological asset <strong>is</strong> oil palm trees. Th<strong>is</strong> standard
introduces <strong>the</strong> fair value concept which replaces <strong>the</strong>
h<strong>is</strong>torical cost convention. The fair value concept
requires <strong>the</strong> biological assets to be marked to <strong>the</strong>ir fair
value at each reporting date. The changes in fair value
are taken to <strong>the</strong> income statement.
In Malaysia, IAS 41 will affect mainly plantation
companies. Presently most plantation companies
record <strong>the</strong>ir biological assets at h<strong>is</strong>torical costs.
Maintenance costs of <strong>the</strong> plantations are charged to <strong>the</strong>
income statement. As an example, an oil palm
plantation company would capitalize costs incurred in
planting its oil palm trees up to maturity. Subsequent
costs are charged to income statement. Revenue from
sale of fresh fruit bunches less cost incurred to run <strong>the</strong>
plantation represents <strong>the</strong> plantation company’s net
profit.
Under IAS 41, <strong>the</strong> income producing assets of a
plantation company <strong>is</strong> defined as biological assets. In
<strong>the</strong> same example above, <strong>the</strong> palm trees are
considered biological assets. IAS 41 requires that
biological assets be carried in <strong>the</strong> financial statements
at <strong>the</strong>ir fair values.
Audit | Tax | Adv<strong>is</strong>ory

Crowe Horwath AF 1018
Member Crowe Horwath International
As a result, <strong>the</strong>re would be two factors affecting <strong>the</strong>
results of a plantation company. Firstly, <strong>the</strong>
operational results from <strong>the</strong> running of <strong>the</strong>
plantation. Secondly, <strong>the</strong> fair value changes of
<strong>the</strong> biological assets.
The Real Estate Industry
Impact on <strong>the</strong> financial statements and
<strong>the</strong>ir users
In <strong>the</strong> past, property developers recognized profits
progressively. Th<strong>is</strong> has been accepted as reflective of
<strong>the</strong> progress of work that <strong>is</strong> being carried out.
IFRIC 15 requires property developers to account for
profits only when a project <strong>is</strong> completed, if <strong>the</strong>
properties are homogeneous. Exception allowed by
IFRIC 15 applies only when <strong>the</strong> properties are
customized, for example, properties which <strong>the</strong> buyers
dictate <strong>the</strong> design and materials to be used. As most
properties developed in Malaysia are homogeneous,
IFRIC 15 will affect most if not all developers.
The <strong>is</strong>sues which we foresee from <strong>the</strong> implementation
of IAS 41 are as follows:-
1. The fair value changes in <strong>the</strong> biological assets do
not have any cash flow impact as it <strong>is</strong> merely an
accounting adjustment to report <strong>the</strong> biological
assets at <strong>the</strong>ir fair values. As a result, it remains to
be seen whe<strong>the</strong>r financial statements users, such
as analysts, will take <strong>the</strong> fair value changes in
assessing <strong>the</strong> value of plantation companies;
The thinking behind IFRIC 15 <strong>is</strong> that in <strong>the</strong> case of
homogeneous properties, <strong>the</strong> developer <strong>is</strong> selling a
product as opposed to providing a service. Hence,
profit can only be recognized upon <strong>the</strong> transfer of r<strong>is</strong>ks
and rewards to <strong>the</strong> customers i.e. upon completion and
handover of <strong>the</strong> properties. Th<strong>is</strong> <strong>is</strong> a departure from our
present practice of recognizing profit as construction
progresses.
2. The results may not reflect <strong>the</strong> profitability of <strong>the</strong>
plantation companies’ operations. In extreme
cases, where prices of commodities are volatile,
such accounting treatment may mask an
unprofitable operation; and
3. The costs of valuation.
Status of implementation
The Malaysian Accounting Standards Board (MASB),
<strong>the</strong> accounting standards setting body in Malaysia,
believes <strong>the</strong> ex<strong>is</strong>ting IAS 41 <strong>is</strong> outdated. It <strong>is</strong> not
surpr<strong>is</strong>ing as since 2008, MASB toge<strong>the</strong>r with several
o<strong>the</strong>r standard setters have been in d<strong>is</strong>cussion with <strong>the</strong>
IASB to rev<strong>is</strong>e IAS 41. Th<strong>is</strong> proposal had been added
to <strong>the</strong> 2011 IASB project agenda. It <strong>is</strong> because of th<strong>is</strong>
that MASB has provided <strong>the</strong> one year transition period
to implement IAS 41.
<strong>How</strong>ever, it <strong>is</strong> still uncertain whe<strong>the</strong>r all <strong>the</strong> proposals in
<strong>the</strong> 2011 IASB project agenda will be accepted.
Obviously, th<strong>is</strong> uncertainty <strong>is</strong> not ideal for <strong>the</strong>
agricultural industry players.
In our view, th<strong>is</strong> change in <strong>the</strong> fundamental accounting
concept may not be completed by end 2012. It may
take a longer time for IASB to re-v<strong>is</strong>it IAS 41. In <strong>the</strong>
meantime, <strong>the</strong> jury <strong>is</strong> still out <strong>the</strong>re as to whe<strong>the</strong>r MASB
will defer <strong>the</strong> adoption of IAS 41 for ano<strong>the</strong>r year.
IFRIC 15 requires property
developers to account for
profits only when a project <strong>is</strong>
completed, if <strong>the</strong> properties
are homogeneous.
Audit | Tax | Adv<strong>is</strong>ory
© 2012 Crowe Horwath AF1018
www.crowehorwath.com.my
2

Crowe Horwath AF 1018
Member Crowe Horwath International
The implications of IFRIC 15 are significant to <strong>the</strong>
property industry and can be summarized as follows:-
1. Volatility in earnings – as profit <strong>is</strong> recognized only
upon completion of projects which can span 3
years, <strong>the</strong>re will be reporting periods when a
property developer does not report any profit. On
<strong>the</strong> o<strong>the</strong>r hand, it will report bumper profit in <strong>the</strong>
year <strong>the</strong> project <strong>is</strong> completed;
… <strong>the</strong> IFRIC Committee felt
that <strong>the</strong> property developers
in Malaysia have
‘continuously’ transferred
<strong>the</strong> r<strong>is</strong>ks and rewards of <strong>the</strong>
2. Valuation of property counter – th<strong>is</strong> will be made
more difficult and subjective, as results cannot be
used as a bas<strong>is</strong> to value property companies.
Adjustments may need to be made to financial
numbers and questions will be ra<strong>is</strong>ed as to <strong>the</strong>
reliability of such adjustments; and
3. Tax treatment – we understand that <strong>the</strong> tax
authorities will continue to compute tax using <strong>the</strong>
previous accounting treatment where profit <strong>is</strong>
recognized progressively. Th<strong>is</strong> will give r<strong>is</strong>e to a
property developer preparing a second set of
accounts to compute tax, <strong>the</strong>reby incurring
additional costs.
Status of implementation
Given <strong>the</strong> significant impact to <strong>the</strong> property industry,
MASB has approached <strong>the</strong> International Financial
Reporting Interpretations Committee (IFRIC
Committee) to d<strong>is</strong>cuss th<strong>is</strong> IFRIC. In November 2011,
<strong>the</strong> IFRIC Committee reviewed <strong>the</strong> implications of
IFRIC 15 in Malaysia.
The silver lining from th<strong>is</strong> review <strong>is</strong> that our property
developers may be able to recogn<strong>is</strong>e profit on a
progressive bas<strong>is</strong>. Th<strong>is</strong> <strong>is</strong> because <strong>the</strong> IFRIC
Committee felt that <strong>the</strong> property developers in Malaysia
have ‘continuously’ transferred <strong>the</strong> r<strong>is</strong>ks and rewards of
<strong>the</strong> properties’ ownership to <strong>the</strong>ir customers while <strong>the</strong>
developments are in progress.
properties’ ownership to <strong>the</strong>ir
customers while <strong>the</strong>
developments are in progress.
In <strong>the</strong> same month, IASB <strong>is</strong>sued exposure draft for IAS
18 Revenue for public comment which brings in a new
recognition concept on revenue that may replace IFRIC
15. IASB planned to final<strong>is</strong>e th<strong>is</strong> new IAS 18 by <strong>the</strong>
second half of 2012.
In view of <strong>the</strong> <strong>the</strong>se proposed changes to IAS 18 and
IFRIC 15 and <strong>the</strong> significant implications to <strong>the</strong> property
industry, it <strong>is</strong> not surpr<strong>is</strong>ing that MASB had decided on
a one year transition period to implement IFRIC 15.
Th<strong>is</strong> article <strong>is</strong> written by James Chan
Audit Partner
Audit | Tax | Adv<strong>is</strong>ory
© 2012 Crowe Horwath AF1018
www.crowehorwath.com.my
3