Communication from the Commission to the Council and the European Parliament EU - Financial Reporting Strategy: the way forward
Date: 2000-06-13
Institutions: European Commission
Subjects: access to information, capital market, financial market, international standard, securities

COMMISSION OF THE EUROPEAN COMMUNITIES

Brussels, 13.6.2000
COM(2000) 359 final

COMMUNICATION FROM THE COMMISSION TO THE COUNCIL AND THE
EUROPEAN PARLIAMENT

EU Financial Reporting Strategy : the way forward

COMMUNICATION FROM THE COMMISSION TO THE COUNCIL AND THE
EUROPEAN PARLIAMENT

EU Financial Reporting Strategy : the way forward

EXECUTIVE SUMMARY

The Lisbon European Council Conclusions have underlined the importance of an efficient and
transparent capital market for fostering growth and employment in the EU. Globalisation and
information technology developments have created a unique momentum to realise a single,
efficient and competitive EU securities market.
In order to accelerate the completion of a
single securities market, urgent action in the field of financial reporting is required to enhance
comparability of financial statements, as requested by the European Council in Lisbon. The
present Communication includes the following key actions

• Before the end of 2000, the Commission will present a formal proposal requiring all
listed EU companies to prepare their consolidated accounts in accordance with one single
set of accounting standards, namely International Accounting Standards (IAS). This
requirement will enter into effect , at the latest, from 2005 onwards. Member States will
be allowed to extend the application of IAS to unlisted companies and to individual
accounts. This proposal will also contain transitional arrangements to encourage the early
take-up of IAS together with the rules for the establishment of an EU endorsement
mechanism, which will:

(i)

(ii)

oversee the integration of IAS in the EU, and

confirm that IAS will represent an appropriate basis for financial reporting by
EU listed companies

The endorsement mechanism will consist of a two-tier structure; a political level and a
technical level.

• The development of an enforcement infrastructure that will ensure rigorous application by
listed EU companies of International Accounting Standards confirmed by the endorsement
mechanism. The key focus will be on disseminating implementation guidance,
encouraging high quality audit and reinforcing coordinated regulatory oversight.

• Before the end of 2001, the Commission will bring forward a proposal to modernise the
Accounting Directives so they can remain the basis for financial reporting for all limited
liability companies.

The Commission is seeking the urgent agreement of the Council and the European
Parliament for its overall approach for this strategy.

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INTRODUCTION

The Lisbon European Council1 underlined the key importance of a single financial
market
in contributing to the Union’s central objectives of growth and high
employment. The European Council conclusions underlined the need to accelerate
the completion of the Internal Market for Financial Services and set deadlines of
2005 and 2003 respectively to implement the Financial Services and Risk Capital
Action Plans. The essence of the Lisbon conclusions was derived from the Financial
Services Action Plan2 and the Commission’s Communications on Financial Services3
and Risk Capital4 – each of which call for the development of deep and liquid
European capital markets to benefit both issuers and investors.

Among the priority objectives mentioned in the Lisbon European Council
Conclusions is the need to enhance the comparability of companies’ financial
statements to benefit companies and investors. To achieve this objective, the Union
requires common financial reporting standards – standards that are transparent, fully
understood, properly audited and effectively enforced. Only with such standards will
there be potential to allow the EU securities markets to grow from its present level
of around half the size of the US capital markets.

Member States’ securities markets are in a period of dramatic change and increasing
consolidation, driven by new technologies, globalization and the effect of the Euro.
in
The rapid development of information and communication technologies and,
particular, electronic trading platforms, are changing how transactions take place and
the way financial information is disseminated. Financial reporting itself is also
changing. Internet financial reporting facilitates access to information by investors,
enhances analysis and the comparison of information. Increasingly investors want to
make decisions on the basis of a continuum of standardised company financial and
non-financial information. Similarly, periodic financial reporting also has a crucial
role to ensure transparency, provide safeguards for investors and contribute to the
overall stability of markets.

INTERNATIONAL ACCOUNTING DEVELOPMENTS

reporting rules and differing
There are currently many different
interpretations based on distinct traditions within the European Union. Unless reform
is undertaken, inconsistencies – many of them of major importance – will continue.
thereby hampering the
European financial reporting will
development of a deep liquid single EU capital market.

remain fragmented,

financial

Standard setting itself is evolving rapidly. There is a strong pressure towards the
international
convergence of accounting standards,
standard setting and thereby encouraging national standard setters to cooperate more
closely. The Commission’s “New Accounting Strategy”5 focused on the need to

raising the importance of

Pts.20, 21 Presidency Conclusions from the Lisbon European Council (23 and 24 March 2000).
COM (1999) 232, 11.05.99 “Financial Services: Implementing the Framework for Financial Services
Action Plan”.
COM (1998) 625, 28.10.98 “Financial Services: Building a Framework for Action”.
SEC (1998) 552 final, 31.03.98 “Risk Capital : A key to job creation in the European Union”.
COM (1995), 14.11.95 “Accounting Harmonisation: A new strategy vis-à-vis
harmonisation”.

international

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International Accounting Standards (IAS).

facilitate the access of European global players to international global capital markets
The
by advocating the use of
Commission supported the efforts of
the International Accounting Standards
Committee (IASC) and the International Organization of Securities Commission
(IOSCO) to create a single body of financial reporting standards that could be used
for listing purposes around the world. The core set of standards contained in the
agreement between IASC and IOSCO has now been finalised. IOSCO announced on
17 May 2000 the completion of its assessment
of IAS and recommended its
members to allow multinational issuers to use IAS for the preparation of their
financial statements for cross-border offerings and listings.

Recently, major developments have also taken place within the IASC itself. Its new
organisational structure should become effective next year driven by a clear
determination to make IAS the highest quality, comprehensive accounting standards
for use in capital markets throughout the world.

THE EU STRATEGY

This Communication sets out the Commission’s views on the broad lines of the
Union’s future approach to financial reporting. The Commission seeks broad
political endorsement of this approach so that it can prepare proposals to introduce
the strategy by the end of this year. A central objective – and one against which
success can be measured – is that the policy should ensure that securities can be
traded on EU and international financial markets on the basis of a single set of
financial reporting standards.
It will also be crucial that the strategy be firmly
anchored to best international practice.

the heart of the Commission’s approach.
Sound financial reporting remains at
Relevant, timely, reliable and comparable information about the performance and
financial position of an enterprise continues to be of central
importance in
safeguarding the interests of investors, creditors and other stakeholders to ensure a
level playing field between competitors. Financial statements underpin the entire
system of market information. They are the vital link between issuers and investors
and are essential to deliver the high level of comparability the EU needs for a single
securities market. Agreed accounting standards must be properly applied and
enforced to ensure efficient markets. Accounting standards have to be enforced at an
equivalent level throughout the EU and the world. Authoritative guidance must thus
be available to assist preparing these financial reports.

FINANCIAL REPORTING IN THE EU

Whilst the EU’s Accounting Directives remain the basis of the EU’s accounting rules
for limited liability companies, our existing directives do not meet the needs of
companies that wish to raise capital on pan-European or international securities
markets. This is because transparency, comparable financial reporting and more
demanding disclosure requirements for listed companies are being sought by both
investors and supervisors.

The present diversity of accounting approaches in the EU results from the many
options being available in the Directives and from different levels of enforcement
throughout the EU. Adaptation of financial statements to take account of local legal
and tax conventions was justifiable when investors and other stakeholders were

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generally of the same nationality as the company. But today the securities of any one
company tend increasingly to be held by an internationally diverse group of
investors. The interests of investors from another Member State are not served by
having to interpret, or decipher, financial statements prepared in accordance with the
local conventions of the country where the company is incorporated.

EU legislation is also silent on many aspects of accounting thereby permitting, by
default, differing national specifications. National authorities may also allow
companies to prepare their accounts on the basis of internationally accepted financial
reporting frameworks (IAS or US-GAAP – Generally Accepted Accounting
Principles – in the United States), provided they conform with the Accounting
Directives. It is not unusual for different companies to report to different accounting
standards within the same Member State and even on the same stock exchange. The
co-existence of different reporting frameworks is both confusing and costly.
It
makes effective supervision and enforcement of financial reporting requirements of
Investors are deprived of comparable
publicly traded companies more difficult.
accounts and therefore essential information. Cross border trade is hampered.
In
short, the result is market fragmentation that puts EU securities markets globally at a
severe competitive disadvantage.

With the accelerating pace of business the need for a more dynamic and responsive
legislative framework for financial reporting increases.
The Union’s lengthy
legislative processes need close examination to ensure they meet the challenges of
the market.6 Ways to move from the rigid, sometimes overly-prescriptive nature of
EU directives to a more efficient and responsive system for financial reporting best
suited to the needs of securities markets have to be considered.

A single set of financial reporting standards

A NEW WAY FORWARD

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The Lisbon European Council set the goal of a fully integrated financial services
market by 2005.
The
accounting standards chosen must meet investors’ needs and be compatible with
global developments. An internationally recognized financial reporting framework is
essential for financial reporting by listed EU companies.

is comparable financial reporting.

The starting point

There are two financial reporting frameworks, currently in use in the EU7 that could
provide internationally recognized standards : US GAAP and IAS. Both are
investor-oriented financial reporting systems that provide generally equivalent levels
of investor protection. There are, however, numerous differences in their practical
reporting requirements.

COM (1999) 232, 11.05.99 “Financial services: Implementing the Framework for Financial Markets:
Action Plan” Section IV, states that EU solutions must be characterised by a degree of flexibility so that
they are not immediately rendered obsolete by the pace of change in the markets. This objective is put
at risk by the length of time needed formally to agree legislative solutions.
In 1998, some 210 EU companies reported in accordance with IAS while 235 reported under US
GAAP. Most recent statistics issued by the IASC show that at present 275 EU companies use IAS.

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this would cause delay by prolonging, unnecessarily,

Although market forces could be left to determine the preferred set of reporting
the period of
standards,
competition between competing standards. In the interim, costs would not be
reduced, nor transparency be improved. Delay could also undermine the Lisbon
financial
European Council’s goal of enhancing EU-wide comparability of
statements by 2005.

In its 1995 Accounting Strategy5 the Commission expressed its preference for IAS as
the set of standards for EU companies wishing to raise capital on an international and
pan-European basis. Since then, the IASC has undertaken a gradual, but in-depth
process of revision of its standards. Already IAS provides a comprehensive and
conceptually robust set of standards for financial reporting that should serve the
IAS also has the distinct advantage
needs of the international business community.
of being drawn up with an international perspective, rather than being tailored to the
US environment. US GAAP, on the other hand, is voluminous and is based on very
detailed rules and interpretations. Considerable education and training is necessary
in order to use its standards.
In the US its effective application stems largely from
the strong regulatory and enforcement powers exercised by the US Securities and
Exchange Commission. The European Union does not, of course, have influence on
the elaboration of US GAAP.

Application of IAS – the Scope

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The Commission proposes that all EU companies listed on a regulated market8
(estimated at around 6,700) should be required to prepare consolidated accounts in
accordance with IAS. Within two years this requirement should be extended to all
companies preparing a public offer prospectus9 in accordance with the Listing
Particulars Directive.10 Unlisted companies planning to make an initial public
offering of its securities might also wish to use IAS. The Commission therefore
proposes that Member States be permitted either to require or to allow unlisted
companies to publish financial statements in accordance with the same set of
standards as those for listed companies. More specifically for unlisted financial
institutions and insurance companies, Member States may wish to extend the
requirement to apply IAS to facilitate sector wide comparability and to ensure
efficient and effective supervision.11

The requirement to use IAS relates to the consolidated accounts of listed companies.
As far as the national statutory individual accounts are concerned, regulatory and tax
requirements could make the use of IAS inappropriate or even invalid. Nevertheless,
the Member States should encourage even to the point of
whenever possible,

Within the meaning of Article 1(13) of Council Directive of 10 May 1993 (93/22/EEC OJ L 141
11.06.93 P.27) on investment services in the securities field
Regulated by Council Directive of 17 April 1989 (89/298/EEC OJ L 124 05.05.89 P.8) coordinating the
requirements of the drawing-up, scrutiny and distribution of the prospectus to be published when
transferables securities are offered to the public.
Council Directive of 17 March 1980 ( 80/390/EEC OJ L 100 17.04.80 P.1) coordinating the
requirements for the drawing up, scrutiny and distribution of the listing particulars to be published for
the admission of securities to official stock exchange listing.
The Commission proposal does not address supervisory issues and the specific information required by
supervisory authorities. The implementation of the proposal should not lead to a lessening of the
prudential requirements for regulated entities.

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requiring the use of IAS for individual accounts as well. This would facilitate the
preparation of consolidated accounts in the future.

Shelf-registration

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The Commission is examining the importance of linking the approach outlined above
with its forthcoming actions to modernize the existing Prospectus Directives12 which
will involve, probably a greater use of “shelf-registration” procedures for EU
securities issuers. At the heart of shelf-registration is a “reference document”
(supplemented with a “securities note”) which would be filed with the relevant
national authorities. The objective of shelf registration is to secure access to other
Member State markets by means of a common registration system based on
information. Basing shelf-
comparable market
registration on one set of transparent, international accounting standards for financial
reports would not only simplify matters for the companies concerned, but would also
contribute to enhancing market dynamism throughout European financial markets.

including financial

information,

THE NECESSARY INFRASTRUCTURE REQUIRED FOR THE NEW ACCOUNTING
STRATEGY

This strategy will need to take full account of public policy interests. The European
Union cannot delegate responsibility for setting financial reporting requirements for
In national jurisdictions,
listed EU companies to a non-governmental third party.
competent authorities can delegate the drafting of accounting standards to a national
standard setting body having defined its governance structure. To achieve legal
certainty for users of IAS in the European Union, international standards must be
integrated into the EU financial reporting legislative framework. EU authorities
must have the means to exercise the necessary regulatory oversight and correct any
material deficiencies or concerns in relation to IAS.

Exercising oversight

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In order to provide for
the necessary public oversight, an EU endorsement
mechanism is needed. The role of that mechanism is not to reformulate or replace
IAS, but to oversee the adoption of new standards and interpretations, intervening
only when these contain material deficiencies or have failed to cater for features
specific to the EU environment. The IAS used in the EU will be the standards
endorsed by this mechanism.

The central task of this mechanism should be to confirm that IAS are in full
conformity with the Union’s overall approach - more specifically,
if there is
conformity with the EU’s Accounting Directives and that a suitable basis for
financial reporting by listed EU companies is provided. There would, however, be a
presumption that IAS meet these needs: the mechanism would confirm that this
presumption is right.

The endorsement mechanism should have a two-tier structure – one at political level
and the other at technical level - to ensure sufficient EU public oversight. The
Commission will present a proposal on the structure and institutional aspects of this

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See Financial Services Action Plan COM(1999) 232, (11.04.99).

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two-tier endorsement mechanism later this year. The proposal will pay particular
regard to the mechanism’s legal status, powers, detailed composition and possible
involvement of securities regulators.

The technical level will need to be under control set at a political level. This control
will have to be based on appropriate EU institutional arrangements under established
commitology rules. At the technical level a group of highly qualified experts
should be nominated. They should be selected on the basis of their knowledge of EU
In addition, specialised ad hoc
and international financial reporting requirements.
groups may be necessary to deal with particularly complex issues or where there are
standards that could have a particular impact on supervisory and prudential issues (in
particular with regard to banks, other financial institutions and insurance companies).
into the IASC
Not only should they scrutinise IAS, they should provide input
standard setting process at all stages, particularly in the early phases.

The endorsement mechanism will ensure that IAS, in practice, can be applied in the
EU environment.
It will, in particular, need to identify whether there is a need for
specific implementation guidance to ensure a common and consistent application of
the standards. This should not mean revisiting the general interpretations on IAS: the
Standing Interpretations Committee (SIC) of the IASC has this function. The
objective must be to establish a constructive, dedicated and continuous dialogue with
the IASC, in particular with the SIC, when implementation guidance is required.
This task will require coordination with national standard setters and, in particular,
with securities markets supervisors.

The endorsement mechanism will confirm the dates by which new IAS apply with in
the EU. It may conclude that additional disclosures are necessary or certain options
set out in a particular standard do not conform with the EU Accounting Directives.
The mechanism would advise the Commission whether or not an amendment to the
Directives is recommended in the light of international accounting developments.

Objections to IAS – probably infrequent - would have to be substantiated and
publicly recorded. Recommendations made at the technical level on a particular IAS
standard will need ratification at the political level. To avoid such a situation
concerns about emerging IAS will need to be expressed at the earliest stage in the
IASC’s drafting process.
the Union will need to develop internal
coordination at all stages of the IAS standard setting process not least to influence
the debate. The endorsement mechanism can help coordinate the European position
within the IASC.

Indeed,

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Enforcement infrastructure

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Clearer internationally-based accounting standards and increased comparability in
the financial reporting requirements for listed companies will greatly simplify
enforcement particularly in the securities markets.

However, only IAS that are properly and rigorously enforced will improve the
functioning of the EU securities market. Enforcement comprises a cascade of
different elements including (1) clear accounting standards (2) timely interpretations
and implementation guidance, (3) statutory audit, (4) monitoring by supervisors and
(5) effective sanctions. Each of these must work efficiently : the system will be as
strong as its weakest part in delivering strong investor and creditor protection.

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If this framework is to provide high quality financial reporting, the statutory audit
function, which ensures a proper application of accounting standards, will need to be
carried out to uniformly high levels across the EU. This requires giving urgent
attention to the establishment of benchmarks for auditing,
the development of
professional ethics standards and the implementation of effective quality assurance
systems
issue a
function.
Recommendation on Quality Assurance for Statutory Audit. Further work of the EU
Committee on Auditing will also be undertaken to determine a common approach for
auditing standards and professional ethics.

The Commission will

the statutory audit

for

Securities supervisors also have a critical role in ensuring that listed companies
comply with financial reporting requirements. There is clearly a major interest in
ensuring accurate and consistent application of accounting standards in the securities
In the EU securities markets regulators must be actively
markets they oversee.
involved in enforcement issues.
In particular, the Commission looks to European
securities markets supervisors (through FESCO - the Forum of European Securities
Commissions) to develop and implement a common approach to enforcement. Such
an approach would establish a level playing field and avoid the danger of regulatory
arbitrage.
Peer-reviews of securities markets supervisors’ practices could be
considered as a useful instrument for ensuring a common approach.

IMPLEMENTATION, TIMING AND TRANSITION PERIOD

Before the end of 2000, the Commission will present proposals to introduce the
requirement that all listed EU companies report in accordance with (endorsed) IAS
and provide an option for Member States to allow (or require) unlisted companies to
report in accordance with IAS. This proposal will also establish the basic rules of the
endorsement mechanism, transitional modalities, the timetable for implementation,
and a review clause to permit an assessment of the approach.

The Commission considers that in order to implement the IAS requirement within
the 2005 deadline set by the Lisbon European Council for the completion of the
Financial Services Action Plan, a transition period will be needed to allow the
transposition of the legislation into national
law and the adjustment of listed
companies to the new set of rules. The Commission will limit the duration of that
transition period, which will begin from the date of implementation of the initial
legislative proposal so that, at the latest, from 2005 onwards all listed EU companies
will be preparing IAS consolidated accounts. During the transition period, Member
States will be entitled to decide what listed companies could (or should) use IAS in
advance of the full implementation date. The Commission considers that five years
after the adoption of the proposal, the provisions, procedures and mechanisms should
be reviewed in the light of national, European and international experience. The
Commission will benchmark progress.

Within the EU, some large companies apply US GAAP, often because they are listed
on the US capital markets or because they operate in industries where the IASC has
not yet provided an equivalent industry standard. Member States could permit the
use of US GAAP during all or part of the transitional period.

introduce proposals to modernize the EU Accounting
The Commission will
Directives before the end of 2001 which will continue to be the basis for financial
limited liability companies in the EU. Modernization of the
reporting by all

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Accounting Directives should reduce potential conflicts with IAS and bring the
Directives into line with modern accounting developments. This is particularly true
where new technological developments call
traditional
accounting methods, such as the recognition and measurement of intangible assets.
The Commission will seek advice through the relevant advisory committees on
whether new communications and information technology, in particular the internet,
will affect financial reporting and require legislative action.

for an adaptation of

CONCLUSION

The Lisbon European Council has requested that steps should be taken to enhance the
comparability of companies financial statements. This Commission Communication
this objective. The Commission invites the
presents a new orientation to fulfil
European Parliament,
the Economic and Social Committee and the
Committee of
the Regions to urgently endorse the approach outlined in this
Communication.

the Council,

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