SJ Berwin comments on proposed IAS changes

10 June 2004

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The debate about the application of proposed new rules on consolidation of accounts rumbles on. The main issue arises because under International Accounting Standards (IAS) as currently proposed, private equity funds would need to produce accounts which consolidate portfolio companies in which they hold a majority stake. The result would be a nonsense and misleading, according to law firm SJ Berwin. To produce accounts which show, on a consolidated basis, the results of a range of disparate businesses which are held for investment purposes is a time consuming and apparently purposeless exercise.

The change - and for most it would be a change, since under current rules it is usually possible to avoid consolidation - will affect the whole industry. It is true that IAS rules will only be mandatory for listed companies from January next year, and optional for others. But for two main reasons that limited effect will be short lived. First, it is unlikely that the two sets of standards will co-exist for very long. Many companies will voluntarily convert to IAS as those standards begin to dominate. Secondly, all major national accounting standards boards are committed to a process of convergence with IAS, and it is likely that the two sets of rules will be virtually identical before too long. Inevitably, national rules will change to reflect the IAS standards, rather than the other way around.

So IAS matters to the private equity community, even those operating outside the public markets. The European Private Equity and Venture Capital Association (EVCA) has made its position very clear, and published case studies illustrating that the rules will create very odd results for funds which are forced to consolidate. Coming up with some sensible and widely respected valuation policies is a project on which the BVCA, the EVCA and a number of other national associations, have spent a considerable amount of time. Finding the right way to value investments in illiquid private companies is not easy. It will be a retrograde step if published accounts are encouraged, let alone required, to use a rule which works well for trading companies, but looks very odd in an investment context.

There is still time, and the private equity industry is working hard to secure an exemption for investment companies. Given that the purpose of the international accounting project is to improve the quality of financial information available to users of financial statements, it would be paradoxical if the lobbying were unsuccessful.