Accounting

IFRS 18: Presentation and disclosure of operating expenses by nature or function

One of the significant changes introduced by IFRS 18 Presentation and Disclosure in Financial Statements relates to the classification and presentation of operating expenses in the statement of profit or loss. The standard aims to improve comparability and transparency by providing clearer guidance on how entities should present operating expenses and what additional disclosures may be required.

General principle

The presentation and disclosure of expenses classified in the operating category is addressed in paragraphs 78 to 85 of IFRS 18. Operating expenses should be classified and presented in a way that provides the most useful, structured summary of an entity’s expenses. IFRS 18 allows entities to classify operating expenses based on:

the nature of the expense,
the function of the expense within the business, or
a combination of both approaches (mixed presentation).

Each line item must contain expenses aggregated using a single basis, either nature or function. However, different line items within the same statement of profit or loss may use different bases of aggregation.

The objective is to ensure that the users of financial statements receive information that best explains the drivers of an entity’s profitability and supports their analysis of future performance.

Classification by nature

A classification by nature presents expenses according to the type of economic resources consumed, irrespective of the activities for which those resources were used.

Typical examples include:

raw material consumption,
employee benefits,
depreciation and amortisation.

This approach provides users of financial statements with information about the components of operating expenses and may help them forecast future costs.

Where amounts included in these expense categories are capitalised into assets rather than recognised as expenses in the current period, IFRS 18 requires presenting an additional line item for the change in the carrying amounts of the affected assets. For example, entities may need to present a separate line item showing changes in inventories of finished goods and work in progress.

Classification by function

A classification by function allocates expenses according to the activities they support. Under this approach, expenses of different natures are combined within functional categories.

Examples include:

cost of sales,
selling expenses,
administrative expenses,
research and development expenses.

For example, a cost of sales line item typically includes raw materials, employee benefits, depreciation and other costs associated with production or revenue-generating activities.

When classifying expenses by function, an entity may:

allocate expenses of the same nature to several functions (e.g. employee costs split between production, sales and administration); and
combine expenses of different natures within a single functional line item.

Entities using a functional presentation must:

Present a separate cost of sales line item if such a function exists.
Provide qualitative descriptions of the nature of expenses included in each functional category (see below).

How to determine the appropriate classification

IFRS 18 does not prescribe a single approach for all entities. Management must assess which method provides the most useful information.

Factors to consider include:

Main drivers of profitability – the presentation should help users understand what primarily drives the entity’s performance.
Internal management reporting – entities should consider how management monitors and analyses costs internally.
Industry practice – industry-specific reporting conventions may provide evidence of the most informative presentation.
Reliability of allocations – if allocating expenses to functions would be highly arbitrary, the resulting information may not faithfully represent the business. In such cases, classification by nature may be more appropriate.

Mixed presentation

IFRS 18 explicitly permits a mixed presentation where some expenses are classified by function and others by nature.

This approach may be appropriate when:

certain expenses can be allocated reliably to functions while others cannot;
the entity operates multiple business models with different reporting needs; or
a mixed presentation provides the clearest view of profitability drivers.

For example, an entity may present:

cost of sales,
selling expenses,
administrative expenses,

while separately presenting a line item such as:

‘employee benefits not included in cost of sales’.

In such situations, line item descriptions should clearly identify which expenses are included and excluded.

New disclosure requirements for entities using a functional presentation

One of the most important changes introduced by IFRS 18 is the requirement to disclose additional information by nature whenever any operating expenses are presented by function.

The disclosure must be included in a single note and provide totals for:

depreciation,
amortisation,
employee benefits,
impairment losses and reversals,
inventory write-downs and reversals.

For each of these categories, entities must disclose:

the total amount recognised,
the amount included in each operating expense line item, and
any amounts recognised outside the operating category.

The disclosure requirement applies whenever an entity presents any operating expense line item classified by function.

Importantly, IFRS 18 does not provide exemptions based on why the functional classification exists. Consequently, the requirement also applies when functional expense categories arise from specific IFRS requirements, including amounts recognised under IFRS 9 or IFRS 17.

This interpretation is consistent with the conclusions reached by the IFRS Interpretations Committee in its March 2026 discussions.

Practical example of presentation of expenses

Presentation by nature	Presentation by function	Mixed presentation
Revenue	Revenue	Revenue
Raw materials	Cost of sales	Cost of sales
Employee benefits	Selling expenses	Selling expenses
Depreciation	Administrative expenses	Administrative expenses
Amortisation	R&D expenses	Employee benefits not included in cost of sales
Other operating expenses	Other operating expenses	Depreciation not allocated to functions
Operating profit	Operating profit	Operating profit

Conclusion

IFRS 18 moves away from viewing the choice between nature and function as a simple accounting policy decision. Instead, entities must determine which presentation provides the most useful, structured summary of their operating expenses.

While classification by nature may offer greater transparency regarding cost components, classification by function often provides greater insight into business performance and margins.

As a result, entities will need to carefully reassess existing income statement presentations and evaluate whether additional systems, processes and disclosures will be needed before adopting IFRS 18.