Significant judgements and estimates, uncertain tax positions, IAS 1 paras 122,125, restatement, principal risks, audit committee

Euromoney Institutional Investor PLC – Annual report – 30 September 2019

Industry: financial services

Strategic Report (extract)
Risk management (extract)

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Audit & Risk Committee Report (extract)
Financial reporting and significant financial judgements
The Committee, with input from the external auditor, assessed whether suitable accounting policies had been adopted, that management had made appropriate estimates and judgements, and whether disclosures were balanced and fair. For the year ended 30 September 2019, the Committee reviewed the following main issues noted below and is satisfied that all issues have been addressed appropriately and in accordance with the relevant accounting standards and principles.

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1 Accounting policies (extract)
Restatements
Discontinued operations
Following the Group’s decision to explore the strategic options for Asset Management, the segment has met the recognition criteria of discontinued operations under IFRS 5 ‘Non-current Assets Held for Sale and Discontinued Operations’ and is therefore presented as such throughout this report. In order to comply with this presentation, the 2018 Income Statement disclosures have been re-presented.

IFRS 9 ‘Financial Instruments’
The Group has adopted IFRS 9 using the modified retrospective approach. The adjustment on transition has therefore been recognised in opening reserves at 1 October 2018. The Group has applied the simplified approach for trade receivables and contract assets and recognised the loss allowance at an amount equal to lifetime expected credit losses. The reduction in the expected credit loss allowance of £0.8m at 1 October 2018 has been recognised against opening retained earnings. The Group has elected to classify as FVTOCI the equity financial asset which was previously classified as available-for-sale held at cost less any identified impairment losses in accordance with IAS 39. A fair value loss of £0.4m on transition has been recognised in opening fair value reserves. Further details for the adoption of IFRS 9 are on pages 112 and 113.

Payroll taxes
In December 2018, the Group engaged external advisors to undertake an independent review of the Group’s compliance with the off-payroll working rules. As a result of the review, the Group has identified an underpayment of payroll taxes to HMRC for the six years to 30 September 2019. A restatement has been made to recognise a historical exposure of £6.6m prior to the current financial period, consisting of £5.4m of payroll taxes underpaid, £0.4m of interest and £0.8m of penalties. The Group notified HMRC that a voluntary disclosure will be made with respect to the Group’s Pay as You Earn (PAYE) and National Insurance Contribution (NIC) obligations. This restatement is not excluded from adjusted measures, as defined on page 16 of the Chief Financial Officer’s review, as the related charges are expected to recur.

Value Added Tax (VAT)
During the second half of the year, the Group discovered a VAT exposure in the UK relating to the understatement of VAT on supplies made between entities within the Group in respect of the four years ended 30 September 2018. Based on the current assessment, the exposure at the end of 2018 is £11.0m, consisting of £10.7m of VAT and £0.3m of interest. A further £0.3m of interest accrued in 2019. The 2018 VAT expense has been classified as an exceptional item and the interest has been treated as an adjusted finance expense. As a result, this restatement is excluded from adjusted measures, as defined on page 16 of the Chief Financial Officer’s review, because these charges are not expected to recur.

The below is a summary of the restatements:

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1 At 1 October 2017, the Group’s net deferred tax liabilities were split between deferred tax assets of £1.6m and deferred tax liabilities of £23.4m. The restatements increased the Group’s deferred tax asset from £1.6m to £3.0m. At 30 September 2018, the Group’s previously reported net deferred tax liabilities were split between deferred tax assets of £1.3m and deferred tax liabilities of £28.5m. Included within the Group’s deferred tax liabilities at 30 September 2018 were UK deferred tax liabilities of £0.9m. The restatements resulted in a restated UK deferred tax asset of £0.8m. The Group’s restated deferred tax assets and deferred tax liabilities at 30 September 2018 are £2.2m and
£27.6m respectively.

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2 Key judgemental areas adopted in preparing these Financial Statements (extract)
Judgements (extract)
Taxation
European Commission (EC) investigation into state aid
On 2 April 2019, the EC concluded its state aid investigation into the Group Financing Exemption (GFE) in the UK controlled foreign company rules on the GFE and ruled that the GFE is only justified where there are no UK activities involved in generating the finance profits. The UK government has decided to appeal against the EC decision but an aid recovery process has also commenced as this is required under EU law.

The estimated maximum liability is approximately £8.0m. On the basis that the UK government has appealed against the EC decision, and the Group’s own analysis, no provision is being made in respect of this issue as management judges that it is not probable that the Group will suffer an outflow of funds.

Payroll taxes and VAT
During the year, the Group identified two tax exposures: (i) underpayments of PAYE and NIC to HMRC in respect to contractors; and (ii) VAT arising on supplies made between entities within the Group. The Group has notified HMRC that a voluntary disclosure will be made with respect to the PAYE and NIC understatement and is in the process of finalising this disclosure. The Group has also notified HMRC regarding the VAT exposure and discussion is ongoing with HMRC to finalise the underpayment of VAT. Further details are disclosed in the Estimates section in note 2. The Consolidated Financial Statements have been restated to reflect these two tax exposures due to their materiality and the information being available at the time of the respective restated years.

Estimates (extract)
Taxation
The Group’s tax expense on profit is the sum of the total current and deferred tax expense. The calculation of the total tax charge necessarily involves a degree of estimation in respect of certain items whose tax treatment cannot be finally determined until resolution has been reached with the relevant tax authority or, as appropriate, through a formal legal process.

The final resolution of some of these items may give rise to material profit and loss and/or cash flow variances.

The Group is a multinational with tax affairs in many geographical locations. This inherently leads to complexity in the Group’s tax structure and makes the degree of estimation challenging. This is especially the case where there has been a change in tax law in the year. The resolution of issues is not always within the control of the Group and it is often dependent on the efficiency of the legislative processes in the relevant taxing jurisdictions in which the Group operates. Issues can, and often do, take many years to resolve. Payments in respect of tax liabilities for an accounting period include payments on account and depend on the final resolution of open items. As a result, there can be substantial differences between the tax expense in the Income Statement and tax payments.

The Group has significant open items in several tax jurisdictions and as a result the amounts recognised in the Consolidated Financial Statements in respect of these items are derived from the Group’s best estimation. However, the inherent uncertainty regarding the outcome of these items means eventual resolution could differ from the accounting estimates and therefore affect the Group’s results and cash flows.

The Group considers each uncertain tax matter on the technical merits of the case in law, taking into account all relevant evidence, including the known attitude of tax authorities in making an assessment of the likelihood a matter will crystallise. The uncertain tax provisions are calculated by determining the single most likely cash flow for each issue rather than by applying a probability threshold and this methodology has been applied consistently year-on-year.

Direct tax
Where arrangements that have been adopted on the basis of professional advice are challenged by tax authorities and there is an expectation that there is more likely than not to be a cash outflow, this risk is provided for.

The Group has fully provided for an exposure relating to an HMRC enquiry, which has a maximum exposure of £10.7m. This matter is now proceeding to litigation. The outcome of the litigation is binary. The Group received HMRC’s statement of case in May 2019 and responded with its witness statements in September 2019. A court hearing date will be advised in due course and it is expected that the hearing will take place in mid to late 2020. No adjustment to the provision is being made at this time.

The maximum additional exposure for the Group in relation to challenges by tax authorities not provided for is approximately £20m which is for the challenge by the Canadian Revenue Agency (CRA) and the Quebec Tax Authorities (Revenu Quebec) on a foreign currency trade in 2009. The CRA views that the loss sustained by BCA on an intra-group derivative transaction cannot be deducted in computing income has not changed. The case will be heard in the Tax Court of Canada, Ottawa in June 2020. BCA has provided satisfactory security for payment to the CRA for 50% of the tax being contested of £3.5m and to Revenu Quebec for 50% of the tax owing amounting to £3.2m. The outcome of the case is binary. No provision is recognised based on external counsel’s opinion that the Group’s case should ultimately prevail.

Indirect tax
The Group reviews and assesses other indirect tax exposures across the Group and a £4.6m provision is the Group’s best estimate of the most probable outflow relating to these exposures, excluding the VAT and payroll tax exposures outlined below. This provision relates largely to US sales tax.

Payroll taxes and VAT
During the year, the Group has identified an underpayment of PAYE and NIC to HMRC in respect of contractors. The Group has notified HMRC that a voluntary disclosure will be made and is currently in the process of finalising this voluntary disclosure. The Group will seek to engage with HMRC to agree a settlement during the first half of 2020. As such, the provision recognised in the current period is subject to ongoing discussion with HMRC. The Group considered the most probably outcome at this stage is a cash outflow of £8.2m. A provision of £1.5m, including interest and penalties, has been recognised in the current year. The prior year has been restated to reflect the exposure up to the opening Balance Sheet position in October 2017 and a provision of £1.8m (including interest and penalties) for 2018. Further details on the restatement are included on page 114.

During the second half of the year, the Group discovered a VAT exposure relating to the understatement of VAT on intra-group transactions in respect of the four years ended 30 September 2018. The Group notified HMRC as soon as the exposure was identified in September 2019. A protective assessment was subsequently issued by HMRC in respect of the year ended 30 September 2015. Details of the potential exposure will be discussed and finalised with HMRC during the first half of the 2020 financial year. The Group considered that the most probable outcome at this stage is a cash outflow of £11.3m, including £0.3m of interest accrued in 2019. A prior year provision of £11.0m has been recognised and due to the amount being considered material the 2018 comparative financial information has been restated. The VAT element of the provision has been treated as an exceptional item in line with the Group’s accounting policy because it is material and not expected to recur. The interest element is excluded from the adjusted results as it relates directly to the exceptional item as explained in note 1 and in the Chief Financial Officer’s review on page 16.

The Group has estimated the combined potential exposure in respect of VAT and payroll taxes to be in the range of £6.9m and £26.4m. For VAT, the sensitivity relates to the amount of intra-group charges that are subject to VAT. For payroll taxes, the range of outcomes are based on assumptions around the applicable rate of PAYE and NIC; whether the look-back periods should be four years or six years; the risk classification of each contractor; and what levels of PAYE and NIC have already been paid by the individuals. Both of the exposures include estimates of interest and penalties applicable to the underpayment.