Small and medium sized enterprises (SMEs) in Africa account for more than 90% of economic activity and serve as engines for achieving other important objectives such as economic growth and job creation. As such, anything that can be done to improve their chances of success will also ultimately help economies flourish.
A key impediment to expansion is lack of capital, compounded by limited access to finance. One reason why investors are wary of risking their money with SMEs is that they often fail to keep formal or comparable financial records, which investors use to make decisions about where to invest. Adoption of IFRS for SMEs, especially the preparation of globally accepted financial statements, is a simple and cost-effective way to attract funding for growth.
IFRS for SMEs is a standalone standard that incorporates accounting principles derived from full IFRS Standards, simplified to suit the businesses covered by its scope: SMEs. The standard is aimed at organisations with no public accountability that are required or opt to publish general purpose financial statements for external users.
An organisation is deemed to have public accountability if its debt or equity instruments are traded publicly, or if it is a financial institution or another organisation that maintains and manages client-entrusted financial resources as part of its core activity. Other entities that could use the standard include closely held corporations, partnerships, one-person businesses and trusts as permitted under the trust deeds.
IFRS for SMEs significantly reduces the number of accounting standards applicable
In contrast to full IFRS Standards, IFRS for SMEs significantly reduces the number of accounting standards applicable to smaller businesses by excluding disclosure requirements that are irrelevant to them.
It also simplifies recognition and measurement criteria, for example in relation to financial instruments, and typically chooses the simpler alternative when faced with a policy choice.
Adoption of the standard will aid the preparation of general-purpose financial statements that are comparable and ease access to international capital and investors, to bank loans and to higher credit ratings from international rating agencies.
Despite the advantages, however, IFRS for SMEs has not been widely accepted by small enterprises, as ACCA’s recent report, State of the profession in Africa, noted. In West Africa, concern has centred on the standard’s significant risks, notably the possibility that the costs of adoption will outweigh the benefits, compounded by a general lack of awareness and clarity on its usefulness.
A number of other issues have also mitigated against the extensive and successful adoption and implementation of the standards (see panel). These need to be addressed if progress is to be made.
Next steps
The International Accounting Standards Board should engage and collaborate with Africa's national regulators, who could make explicit announcements to encourage SMEs to adopt IFRS for SMEs. This would entail defining clearly what SMEs are, in accordance with the principles and guidelines in the standard. In addition, the obligation to prepare financial statements should place equal emphasis on accurate reporting and understanding the firm's financial position.
Obstacles to progress
- Inconsistent definitions among national regulators as to what constitutes an SME for the purposes of the standard have led to a lack of clarity.
- Regulators have placed greater emphasis on financial reporting as a tool for tax compliance rather than for improving the financial position of companies and the quality of reporting itself.
- National authorities, which set adoption dates for standards, have largely focused their attention on large, publicly accountable companies rather than on smaller businesses.
- Due to a low degree of global engagement, many small businesses remain unaware that reporting via the framework offers a foundation for access to foreign capital and investors.
- A lack of awareness among finance professionals, both about the requirements of the standard and its usefulness for their clients, has hindered uptake.
- Business owners, optimistic about growth, want to be seen to apply the full IFRS Standards in the way that large companies do, rather than the simplified IFRS for SMEs.
Other factors affecting uptake include unbudgeted training costs; the high cost of hiring and maintaining accountants with IFRS competences; and the expense of duplicating reporting across regulatory bodies.
Financial regulators can encourage adoption by raising the credit rating of compliant SMEs
Training has a critical role to play in accelerating the adoption process. SMEs are more likely to understand the significance of the standard when experts are knowledgeable and capable of having open talks about it. This would speed up the adoption process and create greater awareness among relevant stakeholders.
The requirements and benefits of adoption could be shared through awareness workshops offered by accounting professional bodies and training companies. University accounting curricula should also cover the standards, and resources be made available online to help implementation.
Financial regulators can encourage adoption by prioritising lending access and raising the credit rating of compliant SMEs. Small enterprises would be exposed to options for innovative solutions to obtain funding because of their improved financial reporting.
The developing world, particularly in Africa, trails behind developed nations in adopting IFRS for SMEs. This causes a trust gap in the region's confidence in utilising financial reports as a basis for decision-making. Emerging economies have a tremendous opportunity waiting upon successful implementation of the standard; let's hope that this is achieved as soon as possible.
More information
Watch out for Adam Deller's update on changes to the IFRS for SMEs standard in the August and September issues of AB
