The basis for recognizing adjustments to the financial statements for events occurring after the reporting period and before the financial statements are authorized for issue (subsequent events) is that the event must provide evidence of conditions that existed at the reporting date.
A going concern exception must be applied, such that the going concern basis is not used if events after the reporting period lead to a conclusion that the entity is not a going concern, even if that condition did not exist at the report date.
If an event provides evidence of a condition arising after the reporting date, consideration should be given to whether it is material and requires disclosure. In some cases the distinction is clear, for example the destruction of plant by fire.
Guidance is provided, in the context of subsequent events, for the following examples in the respective standard:
- Closing a business combination – the criterion for whether a subsidiary is accounted for in the period or in the subsequent period is the date that the acquirer obtains control. In most cases, the date that control is acquired is the same as the closing date for legal purposes, however, it could be earlier or later than the legal closing date depending on the facts and circumstances.
- Announcing a plan to discontinue an operation and classifying a non-current asset as available for sale – the condition that must exist at the reporting date includes the commitment of senior management to the plan to sell.
- Announcing a restructuring – to recognize a provision for the restructuring at the reporting date a ‘present obligation’ has to exist at that date as a result of a past event. A present obligation requires that the entity has no realistic alternative but to settle the obligation. Therefore, the obligation may be enforceable by law or by a constructive obligation (meaning that other parties have a valid expectation that the obligation will be settled).
- Recognizing tax liabilities and assets – the tax rates to be used in measuring tax balances are those that are enacted or substantively enacted by the end of the reporting period. The exact date that rates become substantively enacted depends on the legislative process which can therefore vary between jurisdictions.
Dealing with other events requires application of the principle to the facts and circumstances of the case, and the term ‘conditions at the balance sheet date’ is strictly applied under IFRS. Consider an entity that has debt outstanding that has become payable on demand due to the breach of a financial covenant at the report date.
Prior to the financial statements being issued, the lender will often provide a waiver of the breach. However, because the breach existed at the balance sheet date, the debt should still be classified as current on the statement of financial position. The fact that the lender has waived its rights after the reporting date would be disclosed but does not affect the classification of the debt.
Under Canada’s Accounting Standards for Private Enterprises (ASPE) the debt would be classified as long term in this same scenario. This point is therefore a significant difference between the two frameworks and is often overlooked by preparers of financial statements under IFRS.