Indian companies have reported their first annual financial results under the new Indian accounting standards (IndAS) in FY17, where financial performance and balance sheet position of companies are presented in a consolidated manner as those of a single economic entity.
An analysis of the results shows that on an average companies have seen a significant change on their balance sheet position and also a reduction in their earnings even as many companies used the first time adoption exemptions to minimise adverse impacts on their net worth and profitability.
For many companies net profit as well as earnings before interest, tax, depreciation and amortisation (Ebitda) have seen a decline under IndAS due to cost of several items showing an increase under IndAS affecting their profitability.
While overall balance sheet size has shrunk under IndAS, companies have chosen to use the one-time exemptions to boost their net worth with the BSE100 companies recording an increase of approximately Rs 1.16 trillion in their net worth.
Shift to IndAS has resulted in a 6.2 per cent decline in the reported net profit of 500-plus listed companies for the financial year ended March 2016. A study of 500-plus listed companies by accounting firm Grant Thornton India has found that their profit fell by Rs 13,680 crore over the previous year under the older system of calculation, which is a decline of 6.2 per cent.
Meanwhile, net worth of these companies has improved by 1.7 per cent as they have chosen to use the one-time exemptions to boost net worth. “The rise in net worth “reflects the net result of certain accounting policy choices made by these companies upon transition to the IndAS,” the firm said in the report.
“Financial instruments, property, plant and equipment and revenue recognition have had a considerable impact on profitability and net worth of all sectors, warranting several decision-making points by financial statements prepared to reflect the true commercial substance and business rationale,” said Grant Thornton partner Siddharth Talwar.
Companies in the construction, engineering and infrastructure sectors have been hit the most with a negative 117.5 per cent impact on their profitability due to the transition, the report said.
The manufacturing sector, which accounted for 40 per cent of companies in the study, had an adverse impact of 42 per cent in profit, it added. But logistics, telecom and real estate sectors witnessed a positive impact on their profitability due to transition to the new accounting system, it added.
While fair valuation of financial instruments and property, plant and equipment (PPE), and intangible assets had increased the net worth substantially, the recognition of revenue from contracts with customers in line with IndAS had a negative impact, the study said.
It further said adjustments in the area of financial instruments have positively impacted net worth by 1.8 per cent. For PPE and intangible assets, the adjustments upon IndAS transition boosted net worth for these companies by 4.1 per cent.
“If one goes deeper into these numbers, there are a few common threads across most sectors -– the areas of financial instruments, property, plant & equipment and revenue recognition have had a considerable impact on profitability and net worth of all sectors, warranting several decision-making points by financial statement makers to reflect the true commercial substance and business rationale,” said Talwar.
Financial instruments, PPE and intangible assets are also the areas where companies have experienced the highest negative impact on their total income under IndAS vis-à-vis the reported I-GAAP profitability. The former resulted in a negative impact of 4.7 per cent, while the latter resulted in a decline of 8.3 per cent.
Telecom: According to Grant Thornton, deferral of revenue for future performance obligations is one of the most common adjustments in the telecom sector, which resulted in an impact of Rs 2,356 crore on the equity as of March 31, 2016. These adjustments are likely to impact Ebitda and hence, some of the key performance ratios like finance cost coverage and return on capital employed on an ongoing basis.
IT: Assessment of entities to ascertain control under IndAS 110 may significantly impact the asset and liability size of the consolidated financial statements. On account of these adjustments, there is a negative impact on the IT sector – approximately Rs 1,204 crore on equity reported as of March 31, 2016. This is clearly indicative of loss-making entities that were outside the ambit of group under existing Indian GAAP, but which now will continue to reflect in the results of the holding company reporting, Grant Thornton study said.
Construction & infrastructure: Most companies in the sector had an impact in the range of +/-5 per cent on Ebitda, which consequently affected finance cost coverage.
Manufacture: The impact of fair value as deemed cost exemption has been massive for some companies and insignificant for others on equity. But the average impact was only to the tune of Rs 5,900 crore approx. with maximum impact reported at Rs 21,000 crore approx and minimum impact at Rs 1,700 crore. The impact of reduction of depreciation was Rs 18,666 crore, Grant Thornton study said.
Real estate: The impact of accounting for such adjustments has resulted in reduction in revenue, thereby impacting equity by Rs 6,658 crore and net profit by Rs 152 crore as of and for year ended March 31, 2016. But maximum impact was increase in net profit by 35 per cent and minimum impact was decrease in net profit by 118 per cent on account of revenue adjustment.
It has been over a year since India moved to the IndAS accounting standards and the transition has been a gradual one with listed companies having net worth of over Rs 500 crore making the move in phase one, that is the last financial year – 2016-17.
As phase two rolls out this year with all listed companies as well as unlisted companies with net worth of over Rs 250 crore will adopt the new standard.