7-Dec-2009

A study by Anglo-Indian research house Noble Group Ltd., revealed that International Financial Reporting Standards (IFRS), may cut down at least 10% of the net profit of firms in sectors such as real estate, financials, automobile and capital goods when the new global accounting rules gets introduced from April 2011.

“We expect to see a lot of cases where profits will reduce even if it’s a short-term impact,” said Jamil Khatri, Head of accounting advisory services at audit firm KPMG.

Collectively, property companies could see their net profits slide by 13% and their net assets reduce by half as the new rules call for more rigid accounting of revenues, and how firms can merge the financial numbers of their arms. Noble has premeditated these figures based on the fiscal year 2008 numbers and warns these might change as the economic environment changes.

Under existing accounting rules, once a project is 30% completed, companies can recognize sales from it. But IFRS rules forbid sales recognition unless a project is fully completed.

Secondly, companies sometimes lend or relocate money to third parties, who use the money and place “orders” back. Under IFRS, companies won’t be able to blow up sales and profits through the “creative” use of their own money.

“Companies will become more cautious about undertaking projects with longer gestation periods (as the risks would sit on the balance sheet of listed companies rather that in out-of-sight SPVs or special purpose vehicles),” wrote Noble’s Bhargav Buddhadev and S. Srikanth.

“There is a change only in the timing (in the sense that profit and sales would be spread across quarters),” said R. Nagaraju, General Manager of corporate planning at Unitech Ltd, India’s second largest property company. “Total revenue and profits remain the same.”

“Investors are likely to attach a premium to builders who can execute quicker (and hence book earnings quicker),” the analysts wrote. “At present, many Indian builders tend to take the advances from their customers quickly and then make the customer wait for at least three years for delivery of the flat/office.”

Unitech’s Nagaraju believes that once IFRS norms are adopted, investors would pay closer attention to cash flows rather than the price-earnings multiple.

The troublesome effects of IFRS on corporate numbers are not new, Noble noted. In the UK, for example, 12% of the firms listed in the FTSE 100 index saw their profit after tax to go down and around 20% of FTSE 100 companies saw net assets fall by more than 10% when the country adopted a new system in 2005.

Indian real estate companies are preparing for the blow. For example, Housing Development and Infrastructure Ltd, the country’s fourth largest developer by market value, started training its staff on these new standards three months ago, while Orbit Corp. Ltd started this process almost a year ago. Companies will need to present much more information than they are currently disclosing.

Source: Live Mint