Financial Statements: Disclosure overload - What can be done to reduce the clutter?

Transcription

1 Financial Statements: Disclosure overload - What can be done to reduce the clutter? By Vik Bhandari Managing Partner Financial Reporting Specialists Agenda Problem with financial reporting Cutter in financial statements Practical example: review financial statements Recap and reflection.

2 Agenda Problem with financial reporting Cutter in financial statements Practical example: review financial statements Recap and reflection. Problem with financial reporting Lack of useability Complex and unintuitive Excessive disclosures Unable to be understood. Only will get worse with myriad of new standards/interpretations (eg AASB 9)

3 Problem with financial reporting Likely response from users: The financial statements are too complicated to read. I only look at profit figure, dividend figure, what the directors and auditors earn and, post GFC, whether the company is solvent. Press reports questioned the benefit of Australia adopting IFRS and the so called disclosure overload Some auditors are promoting streamlining. Problem with financial reporting Reduced Disclosure Regime (stage 1 of ED192 Revised Differential Reporting Framework) has added another layer of complexity: Full General Purpose Financial Statements (GPFS) General Purpose Financial Statements Reduced Disclosure Requirements (RDR) Special Purpose Financial Statements (SPFS) Is the right framework being used? Do users know which is which?

4 GPFS AASB concerned about abuse of SPFS: (i) Application (ii) Recognition and remeasurement (iii) Disclosures SPFS Tier 1 or not early adopt RDR Tier 2 and early adopt RDR Ch 2M.3 Other Full compliance with standards All recognition and measurement, reduced but mandatory disclosure All recognition & measurement. Disclosures of AASB 101, 107, 108, 1048, 1054 As appropriate for users. Disclose policies Agenda Problem with financial reporting Clutter in financial statements Practical example: review financial statements Recap and reflection.

5 Clutter in financial statements Too much detail in accounts Unnecessary/immaterial information Important information lost/obscured Investors/users being Blinded Information rolled forward with little/no thought Prior period accounts Explanatory information Disordered/non-logical layout.

6 Clutter in financial statements How true is this statement: generally, if regulations require a disclosure, it goes in the report regardless of the materiality or importance to the business UK FRC, April 2011 Auditors, company directors, preparers and regulators would rather over disclose i.e. when in doubt, disclose approach. Clutter in financial statements there is concern that the volume and complexity of disclosure has a potentially negative impact by distracting users from the information that is relevant to their decision making. In essence, there is a risk that quantity is outweighing quality. The Group of 100, Oct 2009

7 Clutter in financial statements since the introduction of IFRS, the accumulation of accounting rules and accompanying disclosures, the pace of change and the growing complexity of business, have led to calls for reductions in, and simplification of, various requirements. Managing Complexity Report Australian FRC, May 12 Clutter in financial statements Using model accounts/templates without thought Adding disclosures to comply with checklists for checklist sake! Not using materiality from disclosure perspective Financial reporting process an after thought (not enough time spent on them).

8 Significant focus in the area of clutter Less is more report Group of 100, Oct 2009 Concern about volume, complexity and usefulness of certain disclosures Contradiction: Principles-based approach => used in standards settings Rules-based approach => used for disclosures. Common pitfalls/clarity Clutter Losing the excess baggage Reducing disclosures in financial statements to what s important (July 2011) ICAS and NZICA joint project, on behalf of IASB Whilst requirement of each standard seemed reasonable at time of standard development, the combined impact of existing requirements has lead to lengthy financial statements cluttered by excessive detail Recommendation: Deleting specific requirements (A top down lens should be applied balanced and relevant to users); and Enhancing use of materiality in financial reporting disclosures 30-40% reduction in disclosure.

9 Current materiality approach Source: Losing the excess baggage discussion paper, July 2011, NZICA/ICAS Proposed materiality approach Source: Losing the excess baggage discussion paper, July 2011, NZICA/ICAS

10 Significant focus in the area of clutter FRC Australia Managing Complexity Report, Oct 12 FRC Survey on Financial Literacy of Australian Directors, Sept 12 Corporate Governance Principals to reflect steps entities undertake to ensure directors have adequate financial literacy when signing financial statements (post-centro) Examine current financial reporting regime better explained/understood, and (if necessary) rationalisation. Significant focus in the area of clutter ASIC bi-annual surveillance project Surveillance will focus on material disclosures of information useful to investors and other users of financial reports; and ASIC will not pursue immaterial disclosures that may add unnecessary clutter to financial reports.

11 Significant focus in the area of clutter Financial Reporting Specialists EFLICKS Reduce disclosure by thinking EFLICKS Essential Fundamental Legacy Important Critical Key Significant. Give the disclosures the EFLICKS Significant focus in the area of clutter To disclose or not to disclose: Materiality is the question AASB staff paper, Feb 2014 Identified following reasons for disclosure overload: Time pressure no time to reduce clutter Work (effort) required - time taken to justify something immaterial, easier to just disclose Lengthy debates with auditors - default position to include disclosure; discussion required on using AASB to reduce immaterial disclose.

12 Significant focus in the area of clutter To disclose or not to disclose: Materiality is the question Identified following reasons for disclosure overload (continued) : Judgement required for not disclosing; easier not to make decision and just disclose Following the leader follow others especially in same industry. Two wrongs don t make a right (auditors also guilty = point to other examples to justify disclosures being required) Fear of regulators ASIC! Significant focus in the area of clutter Use of materiality Although AASB 1031 has been withdrawn, AASB states: An entity need not provide a specific disclosure required by an Australian Accounting Standard, if the information is not material. AASB states: Items are considered material if their omission or misstatement, individually or collectively, could influence the economic decisions that users make on the basis of the financial statements.

13 Significant focus in the area of clutter Use of materiality Materiality Consider size and nature of the item Professional judgement required (consider both quantitative and qualitative aspects of information) Entity specific. Disclosure must be useful: For resource allocation decision making Possess the qualitative characteristics Not include immaterial information. Significant focus in the area of clutter Amendments to AASB 101 / IAS 1 ED issued Q1, 2014 with Final standard expected Q4, 2014 Limited clarifying amendments Removes language that prevents (perceived) rigid presentation/format Proposals: Materiality apply to primary statements and notes Line items disaggregation, subtotals Notes flexibility of ordering Significant accounting policies remove unhelpful examples.

14 Significant focus in the area of clutter Other activities of IASB AASB 7 amendment: Reconciliation of financial liabilities from financing activities Research projects on: Materiality consistent application Principals of disclosure that apply across IFRS (parallel with Conceptual Framework) Review of existing standards for redundancies, conflicts and duplications Digital reporting IFRS Taxonomy, XBRL. Streamlining restructuring financial statements Structure notes in order of importance Group notes by nature Disclose only those significant accounting policies combine with relevant notes

15 Streamlining restructuring financial statements Advantages Easier to understand? Bunching together like items More important items at front (least important at back) Looks different outside the norm Trendy? Improves shareholder communication Disadvantages Difficult to find things Logical layout? Requires judgement Not really reducing clutter Reduces comparability between companies Streamlining Wesfarmers 2014 Annual Report

16 Investor confidence Uncluttered and well thought-out financial statements improves investor/user confidence Cluttered financial statements (especially if riddled with errors) decreases investor/user confidence Consider materiality rather than just disclose everything but the kitchen sink. Agenda Problem with financial reporting Cutter in financial statements Practical example: review financial statements Recap and reflection.

17 Practical example Please review the example financial statements Pinnacle Defect Pty Limited and identify: - Areas of clutter that could be removed - Errors that you would want to change Note: - Assume all numbers tie in, add up and cross-cast and referencing is correct - Only look at what is there, not what is not there. Practical example directors report - Employee numbers no longer required - Why not round? - Comparatives not required - Potential breach of insurance policy.

18 Practical example P&L section - Function vs nature - Profit and loss. Practical example balance sheet section - Negative figure should be reclassified (this is also common for income tax).

19 Practical example equity section - consistency! Practical example New accounting standards adopted - Shopping list of irrelevant new standards that are not applicable or insignificant

20 Practical example Basis of preparation - Special purpose can not state compliance with IFRS. Practical example significant accounting policies - Policy not tailored to the client.

21 Practical example significant accounting policies - redundant policy as no disposal group or held for sale. Practical example New standards not early adopted - Simple way to comply with AASB without shopping list Caution: not advisable for listed entities.

22 Practical example Non-recourse loans - Non-recourse loans should be equity, not debtor. Practical example PPE missing on $56,500 - Redundant information about past history - Also consider removing PPE reconciliation (to be consistent with Intangibles).

23 Practical example employee benefits - New AASB 119, equally applies to AL as LSL. Practical example convertible note - No $, and why A$? - Where is equity component? - Current classification? - What about information on how conversion will occur? e.g. number of shares etc. rather than what happened in 2003.

24 Practical example - remuneration of auditors - Split wrong - Should be unrounded in accordance with CO 98/100 (similar comment to KMP and related party disclosures). Practical example finance leases How can the total commitment < 1yr be lower than the liability recorded?

25 Practical example economic dependency - Economic dependency no longer required. Practical example directors declaration - CFO/CEO declaration only required for listed entities.

26 Practical example Increase/(decrease) order Others not covered in practical example Profit/(loss) or (Loss)/profit => change for change sake! Always Other comprehensive income, and not: Other comprehensive income/(loss) Other comprehensive loss Not rounding in narrative Removing unnecessary notes that add no value?

27 Others not covered in practical example Auditors report Report referring to note 1 for going concern when it could be note 2 Referring to statement of profit and loss and other comprehensive income Referring to statement of comprehensive income (when statements have adopted new name) Referring to condensed in interim, when primary statements are not condensed. Agenda Problem with financial reporting Clutter in financial statements Practical example: review financial statements Recap and reflection.

28 Recap and reflection Quality of financial statements could improve by reducing clutter Good financial statements improves investor confidence Time and effort is required Co-operation between auditors and preparers required Ensure proper application of : - Checklists - Review procedures - Model accounts - Significant judgement - Materiality concept. Recap and reflection Use clear, concise, plain language Logical layout of financial statements Don t simply repeat last year, as circumstances change Don t blindly copy other entity disclosures Remove immaterial accounting policies Don t fear ASIC not pursuing immaterial disclosures Auditors not to qualify if non-disclosure is justified on materiality Think EFLICKS.

29 Disclaimer This slide deck is intended for presentation purposes only. It is general information and is not specific business advice or financial advice and no person should rely on the contents without first obtaining advice from a qualified professional person acting in that role or reference to source materials such as the Corporations Act or Accounting Standards. Neither Financial Reporting Specialists, related entities, directors, officers and employees do not accept any contractual, tortuous or other form of liability for this content or for any consequence arising from its use or for omissions or errors, including responsibility to any person by reason of negligence Financial Reporting Specialists