The European Commission published on 25 October 2011 the draft text of a proposed directive (the Proposed Directive) to:
- Introduce a specific regime for small companies that will “considerably reduce” work that needs to be done by small companies when they prepare their accounts; and
- Improve the comparability and clarity of financial statements prepared by medium-sized and large companies.
The Proposed Directive would also repeal and replace the Fourth and Seventh Company Law Directives of 1978 and 1983 respectively, usually referred to as the “Accounting Directives”. The raison d’etre of the Accounting Directives – which the Proposed Directive will inherit – is to establish the requirement for limited liability companies to prepare financial statements and to set minimum requirements in order to improve the EU-wide comparability of financial statements. The Accounting Directives underlie the accounts requirements for UK companies contained in the Companies Act 2006
The Proposed Directive: Rationale
The Commission reports in its explanatory memorandum that the Accounting Directives have “generally functioned well over the years, but that consultations have shown a need for simplification, “especially to benefit smaller companies” – partly because the past thirty years have seen an accretion of additional requirements and amendments to the Accounting Directives which “have ultimately led to increased complexity and regulatory burden for all companies”. The purpose of the Proposed Directive is to replace the Accounting Directives with a simplified Directive.
The Proposed Directive: Simplified accounting for smaller companies
The Proposed Directive would introduce a specific regime for small companies with the aim of reducing their reporting burden. It would limit disclosures by way of notes to the accounts to:
- Accounting policies.
- Guarantees, commitments, contingencies and arrangements that are not recognised on the balance sheet.
- Post-balance sheet events that are not recognised on the balance sheet.
- Long-term and secured debts.
- Related party transactions.
Although in fact 3. and 5. above will be new requirements for smaller companies, as most Member States currently provide exemptions for small companies.
The Proposed Directive also seeks to harmonise thresholds for small, medium-sized and large companies “to ensure that the administrative burden reduction actually reaches all small companies in the EU” – because although those companies may be “small” under the Accounting Directives, Member States have imposed lower thresholds. Small companies will be undertakings which do not exceed two of the following criteria:
- Balance sheet total: EUR 5,000,000.
- Net turnover: EUR 10,000,000.
- Average number of employees during the year: 50.
The equivalent figures for medium-sized companies will be EUR 20,000,000, EUR 40,000,000 and 250. Large companies will be those that exceed two of these three criteria.
Proposed Directive: Other measures
The Proposed Directive seeks to improve the comparability and clarity of financial statements issued by medium-sized and large companies by reducing the number of options (for example, on presentation of the accounts – there would only be one balance sheet layout and only two P&L layouts) and by making general principles such as (i) materiality, (ii) substance over form and (iii) economic reality of transactions over legal form, mandatory for financial statements.
In its explanatory memorandum, the Commission confirms that it will be not be pursuing mandatory adoption of IFRS for SMEs.
Small companies will be totally exempt from audit from an EU company law perspective.
Proposed Directive: Next steps
The Proposed Directive now goes to the European Parliament and to the European Council for adoption; the present intention is that it should be implemented into national law by 1 July 2011.
See this post of October 2011 for the UK Government’s recent (unrelated) proposals to widen the small company and subsidiary exemptions from audit.
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