In April 2024, the International Accounting Standards Board (IASB) issued International Accounting Standards Board’s new accounting standard, IFRS 18, replacing IAS 1. The standard significantly reshapes the presentation of the statement of profit or loss by introducing a more structured and principles-based classification framework.
The central objective of IFRS 18 is to improve comparability, transparency, and consistency in financial reporting by requiring entities to classify income and expenses based on the nature of the underlying asset, liability, transaction, or event - rather than the nature of the income or expense itself.
Five New Categories in the Statement of Profit or Loss
Under IFRS 18, the statement of profit or loss is divided into five distinct categories:
- Operating
- Investing
- Financing
- Income taxes
- Discontinued operations
Two new mandatory subtotals are also introduced:
- Operating profit or loss
- Profit or loss before financing and income taxes
These changes are expected to enhance users’ understanding of operating performance and improve comparability across entities.
Operating Category Becomes the Default Classification
The operating category functions as the residual or default category. Income and expenses are classified here unless they specifically meet the requirements for classification within investing, financing, tax, or discontinued operations categories.
Importantly, IFRS 18 clarifies that operating results may include volatile or non-recurring items if they arise from operating activities.
Examples commonly classified within operating activities include:
- Revenue and related costs from core business operations
- Interest income on trade receivables and contract assets
- Certain government grant income
- Current and past service costs relating to pension obligations
Investing Category Focuses on Independent Returns
- The investing category includes income and expenses arising from:
- Investments in associates and joint ventures
- Unconsolidated subsidiaries
- Cash and cash equivalents
- Assets generating returns independently from the entity’s other resources, such as investment properties and certain financial investments
Typical items classified as investing include:
- Dividend income
- Rental income from investment properties
- Fair value gains and losses on investments
- Gains or losses on disposal of investment assets
However, property, plant and equipment used in production activities generally remains within operating activities.
Financing Category Driven by Liability Nature
IFRS 18 introduces a distinction between:
- Type 1 liabilities: liabilities arising solely from raising finance (e.g., bank loans, bonds, mortgages)
- Type 2 liabilities: liabilities arising from broader operating arrangements (e.g., lease liabilities, trade payables, pension obligations)
For Type 1 liabilities, all related income and expenses are classified in financing activities.
For Type 2 liabilities, only:
- Interest expense/income
- Effects of changes in interest rates are classified as financing, while other associated costs remain in operating activities.
Special Rules for Certain Industries
IFRS 18 introduces exceptions for entities with specified main business activities, particularly entities that:
- Invest in financial assets as a core business activity
- Provide financing to customers
Examples include:
- Banks and lending institutions
- Investment entities
- Insurance companies
- Investment property businesses
For these entities, some income and expenses that would ordinarily be classified as investing or financing are instead presented within operating activities to better reflect core business performance.
New Guidance on Complex Transactions
The standard also provides detailed guidance on:
- Hybrid financial instruments
- Derivatives and hedging instruments
- Foreign exchange differences
- Derecognition of assets and liabilities
- Insurance finance income and expenses
- Lease-related income and expenses
A key principle is that derivative gains and losses should generally follow the classification of the underlying risks being managed.
Implications for Preparers and Users
IFRS 18 represents more than a presentation change. The classification decisions directly influence:
- Operating profit metrics
- EBITDA-style measures
- Debt covenant calculations
- Investor perceptions of performance
The standard will therefore require significant judgement and careful assessment of business activities, particularly for diversified groups and financial institutions.
Entities are encouraged to begin evaluating:
- Their current reporting structures
- Internal performance measures
- Segment reporting
- Systems and chart of accounts
- Communication with investors and stakeholders
Conclusion
IFRS 18 marks a major evolution in financial statement presentation under IFRS. By introducing clearer categories and principles-based classification requirements, the standard aims to provide more transparent and decision-useful information to investors and other stakeholders.
While the framework improves consistency, its application will require careful judgement, especially in complex financing arrangements, investment activities, and sector-specific transactions. Early preparation will be critical for a smooth transition and effective stakeholder communication.
