International Financial Reporting Standard 18 – Presentation of Financial Statements
What is the purpose of IFRS 18?
In April 2024 the IASB issued IFRS 18, a new IFRS accounting standard that will become effective in 2027. This landmark standard introduces significant and unprecedented changes to the presentation of financial statements, replacing IAS 1. Its main objective is to enhance transparency, comparability and usefulness of financial reporting for investors.
How does IFRS 18 change the structure of the statement of profit or loss?
IFRS 18 reshapes the structure of the statement of profit or loss, dividing it into three main categories:
Operating activities
Investing activities
Financing activities
This structure mirrors the layout of the statement of cash flows and aims to provide a clearer understanding of the sources of income and expenses. It should be noted that the clear separation of the three categories, operating, investing and financing, provides a more transparent depiction of how an entity generates income and incurs expenses.
What subtotals are required under IFRS 18?
The standard also introduces three mandatory subtotals:
Operating profit
Profit before financing and income taxes
Net profit
What are operating activities under IFRS 18?
Operating Activities
Under the new definition, the operating activities category is a residual category, that is, it includes all income and expenses not classified as investing or financing activities. This residual approach prevents entities from excluding “unfavorable” items from operating profit and thereby enhances comparability across entities. For example, retail companies that previously presented credit card fees as financing costs will now be required to classify them as selling expenses, reducing their reported operating profit.
What are investing activities under IFRS 18?
Investing Activities
The investing category includes income and expenses that represent a return on assets that operate independently of the reporting entity’s main business resources. Examples include:
Rental income
Fair value gains on investment property
Interest income
Changes in fair value of financial assets
Share of profit from equity-accounted investments (associates and joint ventures)
This change will particularly affect holding companies, which must now present results from investments accounted for using the equity method below the operating profit line, potentially lowering their operating performance measures.
What are financing activities under IFRS 18?
Financing Activities
The financing category includes all income and expenses related to raising debt or equity, such as:
Interest expense on bank loans and bonds
Interest expense on lease liabilities
Unwinding of the discount on present value-based obligations, e.g., liabilities for post-employment benefits
However, financial institutions shall classify income and expenses from credit provision to customers as operating activities, reflecting their core business nature.
What are Management-Defined Performance Measures (MPMs)?
Management-Defined Performance Measures
A groundbreaking feature of IFRS 18 is the requirement to disclose “Management-defined Performance Measures” (MPMs) in the notes. These include non-GAAP metrics like Adjusted Operating Profit or Adjusted EBITDA, which entities often disclose outside the financial statements. For each MPM, entities shall disclose:
A statement that the MPM reflects management’s view of performance
A clear explanation of how the measure is calculated, and
A reconciliation to a defined line item in the statement of comprehensive income.
This aims to increase transparency, consistency and reliability of performance measures and to give investors a fuller and more accurate picture of the entity’s performance.
How does IFRS 18 affect the statement of cash flows?
Changes to the Statement of Cash Flows (IAS 7)
IFRS 18 also amends IAS 7, aligning the statement of cash flows with the new presentation model:
The starting point for the indirect method shall be operating profit (rather than profit before tax or net profit).
Interest and dividends received shall be classified as investing cash flows.
Interest and dividends paid shall be classified as financing cash flows.
These changes promote consistency across financial statements and enhance users’ understanding of cash flow sources and uses.
What is the significance of IFRS 18?
A Milestone in IFRS Evolution
IFRS 18 represents a historic milestone. It significantly improves the relevance, transparency and comparability of financial information and helps investors better assess entities’ financial performance.
The standard provides entities with an opportunity to improve communication with investors and to create more reliable cross-industry comparisons, aligning financial reporting more closely with modern business realities.