principles for reporting of non-statutory profit

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2 Underlying Profit principles for reporting of non-statutory profit information

3 Published in 2009 by: Australian Institute of Company Directors (AICD) Level 2, NAB House 255 George Street Sydney NSW 2000 Telephone: (+61 2) Facsimile: (+61 2) Financial Services Institute of Australasia (FINSIA) Level 16, 1 Margaret Street Sydney NSW 2000 Telephone Australia: 1300 FINSIA ( ) or (+61 2) Facsimile: (+61 2) Telephone New Zealand: (+64 9) Australian Institute of Company Directors (AICD) Financial Services Institute of Australasia (FINSIA) Printed by Ligare Pty Ltd Typeset by Endnote Design, Collaroy, NSW National Library of Australia Cataloguing-in-Publication entry Title: Underlying Profit: principles for reporting of non-statutory profit information/australian Institute of Company Directors, Financial Services Institute of Australasia. ISBN Corporate profits. 2. Financial statements. 3. Corporation

4 AICD The Australian Institute of Company Directors (AICD) is a member institute for directors dedicated to having a positive influence on the economy and society by promoting professional directorship and good governance. AICD delivers education, information and advocacy to enrich the capabilities of directors, influence the corporate governance environment in Australia and promote understanding of, and respect for, the role of directors. With offices in each state and more than 23,000 members, AICD represents a diverse range of corporations, from the top 200 publicly-listed companies to not-forprofits, public sector entities and smaller private family concerns. Finsia Finsia is the only professional association representing the entire spectrum of the Australasian financial services industry including the wealth management, banking and finance, and capital markets sectors. It connects more than 17,000 members not only with each other, but with the latest thinking and information from across the industry and around the globe. Finsia's core purpose is to help its members succeed in their careers, and to support the growth and development of the financial services industry. This is achieved by providing members with relevant and high quality professional development and networking programs, a comprehensive suite of career support services and a range of industry-leading information resources and publications. Finsia's policy and advocacy initiatives ensure it plays a critical role in promoting industry growth both regionally and around the world. Disclaimer The material in this publication does not constitute legal, accounting or other professional advice. While all reasonable care has been taken in its preparation, neither AICD nor Finsia makes any express or implied representations or warranties as to the completeness, reliability or accuracy of any material in this publication. This publication should not be used or relied upon as a substitute for professional advice or as a basis for formulating business decisions. To the extent permitted by law, AICD and Finsia exclude all liability for any loss or damage arising out of the use of the material in the publication. Any links to third-party websites are provided for convenience only and do not represent endorsement, sponsorship or approval of those third parties or any products and services offered. Copyright Copyright strictly reserved. No part of the material covered by copyright should be copied or reproduced in any form or by any means without the written permission of AICD and Finsia. AICD and Finsia endeavour to contact copyright holders and request permission to reproduce all copyright material. There may be instances where AICD and Finsia have been unable to trace or contact copyright holders. If notified, AICD and Finsia will ensure full acknowledgment of the use of copyright material. 3

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6 Contents Acknowledgments 6 What this publication is about 7 Part A Background to this publication 10 Part B Principles for reporting underlying profit 15 Appendix 1 Potential adjustments to statutory profit 20 Appendix 2 Illustrative example 23 5

7 Underlying Profit: principles for reporting of non-statutory profit information Acknowledgments AICD and Finsia would like to formally thank their respective honorary committees and task-force members for the considerable time and effort contrbuted by them to make this publication possible. We also wish to thank the many individuals and organisations who provided comment on the discussion paper that led to this publication. This feedback was quite valuable and much appreciated. 6

8 What this publication is about Purpose Statutory financial reports prepared and audited in accordance with the Corporations Act are the primary financial accountability mechanism for Australian companies. 1 Reporting of additional, non-statutory financial information can provide valuable information to shareholders and the wider investment community about the performance of a company, where it is done appropriately and in accordance with the general duty of companies and their officers not to provide information that is false or misleading. This publication is intended to encourage companies to provide, in a responsible and consistent manner, additional non-statutory information about underlying profit and to present this additional information in communications to the investment community in a table that shows and explains adjustments made to the statutory profit. Meaning of underlying profit In this publication, the term underlying profit means a company's statutory profit as adjusted in order to present a figure which reflects the directors' assessment of the result for the ongoing business activities of the company. Meaning of statutory profit In this publication, the term statutory profit means net profit after tax (NPAT), as derived from statutory financial statements compiled in accordance with the Corporations Act 2001 and Australian Accounting Standards For ease of expression, the term company has been used throughout this publication. Similar principles would apply to listed trusts and stapled securities. 2. NPAT has been chosen as the starting profit figure because it enables all potential adjustment items to be captured in a reconciliation table prepared under principle 3 of this publication. In addition, the definition of statutory profit in the Australian Accounting Standards does not include earnings before interest and tax (EBIT) or earnings before interest, tax, depreciation and amortisation (EBITDA). If EBIT or EBITDA were used as the starting profit figure, certain significant one-off items (for example, a large one-off tax fine or an atypical financing cost ) would not be reflected in a reconciliation process. If a company selects a starting profit figure other than NPAT, it will be important for consistency and the integrity of the reconciliation process to maintain that selection in future reconciliations. If the starting profit figure is subsequently changed, a further reconciliation will be needed to relate the new starting profit figure to the prior year's starting profit figure. 7

9 Underlying Profit: principles for reporting of non-statutory profit information This publication seeks specifically to encourage companies to: 1. Recognise that the different users of financial reports have different information needs. 2. Adopt the term underlying profit in preference to normalised profit, result excluding exceptional items, underlying result or other terminology used to express adjustments made to the statutory profit figure. 3. When reporting underlying profit, present a table showing how the statutory profit has been adjusted to arrive at the underlying profit. 4. Adopt a transparent and consistent approach to the reporting of underlying profit. Transparency includes reporting both positive and negative adjustments to the statutory profit figure. In many instances, a transparent approach will also include a narrative to explain the adjustments. 5. Report on trends in the underlying profit across reporting periods. 6. Clearly show both the statutory profit and the underlying profit and their relationship in communications to shareholders and the wider investment community about the profit result, including annual and half-year reports, annual reviews, analysts' results briefings and other management result commentaries. 8

10 Structure Part A of this publication provides information about the background to the initiative by AICD and Finsia. Part B sets out principles that AICD and Finsia believe companies should adopt when providing non-statutory information about underlying profit. Appendix 1 lists some potential adjustments together with brief commentary. Appendix 2 provides an illustrative example of the preferred format for presenting underlying profit information. Scope This publication does not cover the provision of future earnings guidance by companies. The principles stated here relate only to the presentation of historical financial information. AICD and Finsia have attempted to couch the principles in this publication in a way that provides flexibility in the reporting of underlying profit, while encouraging reporting that is transparent and comparable, with the aim of assisting shareholders, analysts and others. 9

11 Underlying Profit: principles for reporting of non-statutory profit information Part A Background to this publication Introduction In April 2007, the Australian Institute of Company Directors (AICD) and the Financial Services Institute of Australasia (Finsia) established a working group to address the challenges posed by non-standard company reporting of underlying or normalised profits. The working group investigated whether there was scope for improving the quality and consistency of presentation of a company's results. The project team decided to develop a framework to assist companies when reporting an underlying profit. A discussion paper was issued in August 2008, and feedback solicited from accountancy bodies, regulators, standard-setters, AICD and Finsia membership, and other interested organisations. Comments received have been considered in formulating this publication. These principles and accompanying appendices are intended as guidance only. It is recognised that circumstances will vary between companies and between industries. Limitations of the statutory profit figure The statutory profit figure is the foundation for reporting historical financial information, and is also used to analyse the absolute and relative financial performance of a company. AICD and Finsia recognise the mandating of International Financial Reporting Standards (IFRS) for listed companies. 3 Equally, however, both organisations believe that companies should consider what supplementary information could be provided to assist shareholders and the wider investment community in understanding the company's financial position and performance. Among the users of financial statements are analysts seeking to perform valuations of companies. Companies are usually valued on the basis of expected future profits and cash flows. Rather than using past statutory profit as the starting point for such valuations, analysts typically make adjustments to derive an underlying profit. This underlying profit is then projected into the future, using various assumptions (for example, rate of sales growth), and then typically capitalised to determine a current company valuation. Alternatively, underlying profit is used as a basis for projecting cash flows, which are discounted to arrive at a present valuation. 3. When adopted in Australia, the International Financial Reporting Standards are currently known as AIFRS. 10

12 While IFRS has established a standard method to report the financial position and historical performance of companies, the accounting standards are not intended to provide the information needed to value a company. For many Australian companies and hence analysts of these companies a major impact of the introduction of IFRS has been the inclusion of asset revaluations (fair value adjustments) in the Income Statement. The International Accounting Standards Board (IASB) and the US Financial Accounting Standards Board (FASB) have acknowledged this impact in a discussion paper on financial statement presentation which was published in October 2008: Specifically, users are concerned that commingling gains or losses from fair value remeasurements and other components of comprehensive income results in measures of financial performance that are difficult to analyse. 4 The IASB-FASB discussion paper contains a proposal for a new reconciliation schedule, to appear in the notes to the statutory financial report, which would disaggregate income components of cash, accrual and remeasurement (for example, fair value changes). The IASB and FASB anticipate that the discussion paper will progress to an exposure draft for further comment in 2010, with a final standard not anticipated until The long lead time required to finalise and publish a new international standard means that industry-led initiatives will continue to be important for the near future. Widespread use of additional income measures In 2007, PricewaterhouseCoopers (PwC) published a survey of 2,800 European financial statements, focusing on the additional income measures that companies include in the financial statements beyond those required by IFRS. 6 The study found that the use and presentation of non-statutory measures of income, such as underlying profit, is widespread. 4. Preliminary Views on Financial Statement Presentation (18 October 2008), page Executive summary of the discussion paper 6. PricewaterhouseCoopers, Presentation of income under IFRS: flexibility and consistency explored (2007). 11

13 Underlying Profit: principles for reporting of non-statutory profit information A 2007 Ernst & Young study 7 examined financial reports and media releases of the top 20 Australian listed companies to determine, amongst other things: whether there is a trend towards communicating different earnings from those reported in statutory financial reports; and if there is a trend, whether there is any consistency in approach. The study showed a trend towards reporting adjusted earnings to the market and, while these results are reported in different ways, there is consistency in the nature of adjustments being made. The study also revealed that two types of adjustments are commonly made: (1) for significant one-off transactions and events; and (2) for IFRS-related matters. Type (1) adjustments are made to indicate what a stable earnings base for the company should be. Type (2) adjustments are also made for this purpose, and for additional reasons that indicate dissatisfaction with how IFRS reflects the company's business in that certain fair value adjustments (not reflected in cash) are included in IFRS financial reports incorporating unrealised profits/losses. The AICD/Finsia project team suggests that the increase in reporting of adjustments demonstrates that users of financial statements are not receiving, or are perceived to be not receiving, all the information they need. Demand for underlying profit disclosure and desire for greater consistency In November 2006, Finsia conducted a survey of equity analysts 8 on the quality of financial reporting. Respondents were generally positive about the quality of financial reporting in Australia, but noted that the normalising of earnings was one area that could benefit from greater consistency. When asked whether a separate and consistent disclosure of a normalised profit would be useful, 82 per cent 9 agreed to some extent or to a great extent. 7. Ernst & Young, Reported earnings - Trends, analysis and predictions (May 2007). 8. A media release, Finsia's Equity Analysts Survey reveals Normalised Profit and Segmental Reporting as key concerns, dated 11 December 2006, and summary of the survey results can be found at per cent of respondents agreed to a great extent and, equally, 41 per cent agreed to some extent. Fewer than 18 per cent of respondents agreed a little. See Company Reporting: the Equity Analyst Perspective, available at 12

14 The importance of the underlying profit figure to the investment community does not diminish the importance of companies preparing financial statements according to the law and applicable accounting standards. Furthermore, this guidance is not based on a view that financial reporting under IFRS is incorrect or misleading. Rather, in recognition that users of financial reports have a variety of information needs, these principles are intended to lead to a presentation of additional explanatory information not otherwise readily available. Other voluntary reporting guidance Simultaneous with the widespread use of additional profit measures, there has been a growth in other voluntary reporting guidance. In July 2005, AICD in conjunction with PwC issued the Shareholder Friendly Report (SFR). This provided a practical example of how Australian companies can present financial information in a relevant and understandable way to retail shareholders. In March 2007, as an adjunct to the SFR, AICD published a series of principles for good communication with shareholders. Like the SFR, these are targeted largely at communications with retail shareholders. 10 In May 2008, Ernst & Young and the Group of 100 published guidelines for preparation of annual reviews (non-statutory reports): Reporting to shareholders: a good practice guide. 11 This publication includes guidelines about the reporting of underlying profit in the performance highlights section of an annual review. The Institute of Chartered Accountants in Australia (ICAA) released in October 2008 a paper on Broad Based Business Reporting, which is designed to communicate operational and financial results as well as environmental and social issues affecting a business. 12 The paper was prepared by the ICAA's Broad Based Business Reporting advisory panel, which consists of representatives from KPMG, PricewaterhouseCoopers, governance research company Regnan, and the Australasian Investor Relations Association. Such initiatives are also occurring overseas. For example, the Generico annual report has been prepared as part of the improved reporting initiative known as the Report Leadership Initiative. This is a multi-stakeholder group that aims to challenge established thinking on corporate reporting. The contributors to the initiative are the Chartered Institute of Management 10. AICD Principles of Good Communications with Shareholders: Leadership: Broad Based Business Reporting - the complete reporting tool (October 2008): 13

15 Underlying Profit: principles for reporting of non-statutory profit information Accountants (CIMA), PwC LLP, Radley Yeldar and Tomkins plc. The initiative was launched in the United Kingdom during November Included within the Generico Annual Report are examples of non-statutory measures of profit. 13 Regulatory concerns about additional profit information in statutory reports, prompting need for industry leadership In July 2005, the Australian Securities and Investments Commission (ASIC) released a draft guide on disclosing pro forma financial information. 14 In the accompanying press release, ASIC stated that it had concerns with practices used by some listed entities in releasing financial reports containing alternative financial statements that are not in accordance with accounting standards. AICD and Finsia strongly endorse industry-driven standards for additional reporting such as underlying profit, provided the additional nonstatutory information is effectively distinguished from statutory information, and it is clear whether the additional information has been audited. Some companies seek to achieve this differentiation by including the underlying profit figure in the annual directors' report or a separate management commentary section of the annual report, rather than in the audited financial report. Conclusion AICD and Finsia believe that the market is assisted if a company can provide an underlying profit figure and explanation that reflects the directors' assessment of the company's result for ongoing operations. Part B of this publication sets out principles that Finsia and AICD believe companies should adopt when providing non-statutory information about underlying profit. A list of some potential adjustments together with brief commentary is given in Appendix 1. An illustrative example of the preferred tabular format is provided in Appendix Report Leadership Initiative: Draft ASIC Guide: Disclosing pro forma financial information (July 2005) can be found at As at January 2009, the guide was published in draft form only. 14

16 Part B Principles for reporting underlying profit Principle 1 report on the underlying profit, where relevant, in addition to the statutory profit As noted in Part A of this publication, there are limitations to the information provided by the statutory profit figure and other statutory financial disclosures. AICD and Finsia believe that the market is assisted by the additional reporting of an underlying profit figure that reflects the directors' assessment of the result for the ongoing business activities of the company. A company that reports on its underlying profit should do so in a way that: clearly differentiates underlying profit from statutory profit without giving undue prominence to the underlying profit figure (see also principles 3 and 4) is transparent (see also principles 4 and 5) is consistent (see also principle 6). Principle 2 use the term underlying profit Consistent use by companies of a single terminology to describe underlying profit promotes greater certainty for the investment community. AICD and Finsia support use of the term underlying profit in preference to other terminology to describe an adjusted profit figure. To date, companies have used a variety of terms including: profit before exceptional items result excluding exceptional items result before non-recurring items result before significant items result before special items result before specific items normalised result underlying result current operating result underlying earnings. 15

17 Underlying Profit: principles for reporting of non-statutory profit information According to the 2007 PwC survey of 2,800 European financial statements, 15 result excluding exceptional items is the most commonly used term in the United Kingdom, although the number of companies using underlying profit increased significantly from 2004 to 2005 following the introduction of IFRS. French companies tended to use result before nonrecurring items. The 2007 Ernst and Young study 16 noted that Australian companies have variously described their adjusted earnings figure as underlying profit, normalised profit, cash profit, underlying EBIT or underlying EBITDA. 17 AICD and Finsia recognise that terms such as normalised or adjusted have been widely used both in Australia and overseas. However, the term underlying profit has the following advantages: it is neutral about future expectations (in contrast to sustainable earnings, which arguably has a predictive element) expressions such as normalised profit carry with them connotations in some people's minds, for example, regarding smoothing of profit or adjustments based on management's judgments, rather than according to a standard or accepted procedure it does not seek to undermine the IFRS process by reintroducing or changing accounting terminology. Principle 3 reconcile the underlying profit figure to the statutory profit figure and present the adjustments in tabular form, with any accompanying explanation that may be necessary The underlying profit calculation should be presented in a table and reconciled to the statutory profit figure. 18 The reconciliation should show each adjustment, both gross and net of tax, and include an explanatory note about the adjustment if needed to make the tabular information meaningful (such as the reason for making the adjustment and how it has been quantified). Appendix 2 provides an illustrative example of the preferred format. Selecting and itemising adjustments The adjustments made to the statutory profit figure will depend on a range of factors, such as the size of the business, the industry sector and the nature of its operations. For example, although a mark to market revaluation 15. PricewaterhouseCoopers, Presentation of income under IFRS: flexibility and consistency explored (2007) Ernst & Young, Reported earnings - Trends, analysis and predictions (May 2007) 17. EBIT Earnings before interest and tax; EBITDA Earnings before interest, taxes, depreciation and amortisation. 18. Refer to page 7 for the definition of statutory profit in this publication. 16

18 for a manufacturing company may be adjusted in calculating underlying profit, this may not be appropriate for a financial institution. Appendix 1 lists some potential adjustments to the statutory profit figure that may be relevant for a company from time to time. This list is not exhaustive and other adjustments may also be appropriate in specific cases. Similarly, inclusion of an item in Appendix 1 does not mean such an item should always be an adjustment. Adjustments made to arrive at the underlying profit should be separately itemised if they are significant. The tax associated with each adjustment should also be clearly identified. What is significant will vary between companies, but as a guide, an item may be considered significant if it impacts the statutory net profit after tax figure by more than five per cent. One-off/non-recurring gains or losses will usually be significant and adjustments for these should be individually itemised. Smaller items that are not individually significant may be aggregated for adjustment purposes, but should still be disclosed and explained. In preparing the table, companies should be aware of the needs of shareholders, analysts and others. The objective is to provide a transparent, logical and justifiable reconciliation between the statutory profit figure and the underlying profit. 19 At the same time, the reconciliation may assist analysts and others who may wish to carry out valuations. Principle 4 present the underlying profit and accompanying explanation in the directors' report or other management discussion and analysis of the profit result The underlying profit reconciliation table and accompanying explanations should be: (a) clearly differentiated from the statutory financial report, for example, by its location; and (b) made available in communications to shareholders and the wider investment community about the profit result (including annual and half-year reports, annual reviews, analysts' results briefings and other management result commentaries). One way of differentiating the underlying profit figure from the statutory financial report is to include information about the underlying profit in the directors' report or in a separate management discussion and analysis section of the annual report. 19. The situation can also arise where either the statutory profit or the underlying profit (or both) is in fact a loss. The principles contained in this publication should still be applied in order to calculate and report the underlying loss. 17

19 Underlying Profit: principles for reporting of non-statutory profit information The extent to which the underlying profit reconciliation has been audited or reviewed should also be clearly disclosed. The concept of underlying profit is complementary to the reporting structure under IFRS, and does not replace IFRS financial statements. Other than through the reconciliation table, unaudited underlying profit information should not be incorporated within, or associated in any other way with, the IFRS-based financial statements. 20 Principle 5 include both positive and negative adjustments to the statutory profit figure Transparency requires that companies include adjustments whether they have a positive or negative impact on the underlying profit figure. The disclosure of underlying profit should not be seen as an opportunity to window dress the financial result. There is some history of companies cherry picking the items they wish to emphasise. Ultimately, this approach reduces the long-term confidence of the investment community in the individual company and in the market generally. Contra effects should also be disclosed. For example, if asset write-downs occur, the resulting reduction in depreciation charges should also be disclosed in a footnote to the reconciliation table. Principle 6 maintain consistent adjustments to the statutory profit figure between reporting periods The types of adjustments used to arrive at an underlying profit figure should be consistent between reporting periods. If, for example, a company makes an adjustment for foreign exchange impacts in the current year, it should disclose similar adjustments in following years (even if the adjustment is insignificant in those future years). However, to avoid the situation where insignificant adjustments are reported in perpetuity, with a resulting, ever-increasing list of adjustments, it would be acceptable to cease separately disclosing the item if it is insignificant for the second consecutive year and has been disclosed for the prior year despite being insignificant. Through the consistent application of these principles in compiling the underlying profit over several years, a company will present financial information about prior and subsequent years that is more indicative of underlying performance and its trend. 20. ASIC has indicated that underlying profit adjustments should not be made on the face of statutory financial statements. Draft ASIC Guide: Disclosing pro forma financial information (July 2005) can be found at As at January 2009, the guide was published in draft form only. 18

20 Principle 7 disclose whether these principles have been relied on in reporting an underlying profit figure These principles are the result of a market-driven initiative designed to improve the reporting of non-statutory profit information. AICD and Finsia are not seeking to mandate the reporting of underlying profit, but where an underlying profit figure is reported, AICD and Finsia consider that the company should state whether these principles have been applied in reporting that underlying profit. A statement, in conjunction with the underlying profit table, that the AICD/Finsia principles have been followed allows the investment community to differentiate those companies that have adopted these principles from those that have developed their own. The statement will also convey to the market that the company's underlying profit figure may be comparable with those of other companies. 21 An example statement appears below the reconciliation table in Appendix Users of underlying profit reports will need to make their own assessments of each company's interpretation of these principles. See the disclaimer information elsewhere in this publication. 19

21 Underlying Profit: principles for reporting of non-statutory profit information Appendix 1 Potential adjustments to statutory profit The particular adjustments to be included when compiling an underlying profit table will vary from company to company. Shareholders, analysts and others in the investment community will also arrive at different conclusions regarding the significance of one adjusted item over another. The decision by directors as to which adjustments are appropriate is inherently subjective, and will vary from company to company and industry to industry. However, by applying the principles in this publication, companies should be able to assist the investment community in making an informed decision about the relevance of each adjustment made to arrive at the underlying profit figure. The tabular presentation and explanation of these adjustments should be clear and comparable between reporting periods. Listed below are some items that are likely to be appropriate for treatment as an adjustment. This list is not exhaustive, but is intended to provide a guide to the nature of adjustments that could be included in the reconciliation table to derive the underlying profit. Other adjustments may also be appropriate in specific cases. Similarly, inclusion of an item in this list does not mean that the item should always be an adjustment. These example adjustments should be read in conjunction with the example reconciliation table in Appendix 2. To enable users to fully understand the effect of each adjustment, the tax effect of each adjustment should be shown. Comparative figures should also be presented: see principle 6. While there may be disagreement with the inclusion of some of the items discussed below, by including these in the reconciliation table, including the taxation effect, the market is able to select which items are of interest, and may elect to disregard other items. Significant transactions or events While significant is a subjective term, it is suggested that any transaction that on its own, or in combination with a number of similar transactions, may be considered significant if it impacts the statutory net profit after tax figure by more than five per cent. (Refer to the discussion under principle 3). These items should be identified and adjusted for where they are not expected to be repeated consistently over a number of years. Transactions giving rise to adjustments would include divestments of operating businesses or assets. Another example is the cost of a failed takeover attempt. The financial effects of significant events such as floods, fire and related unexpected events should similarly be noted. Where significant events are covered by insurance, the net amount should be included. 20

22 One-off provisions Provisions that are clearly one-off and not expected to recur can impact current year profits. Provisions may include expected costs for redundancies or restructuring, but are not limited to these cases. Fair value adjustments The unrealised profit/loss arising from the mark to market impact of revaluing assets (such as derivatives, financial instruments, property or agricultural assets) at reporting date to fair value is not reflected in any movement of cash and may be included as an adjustment. It is recognised that including a fair value adjustment may be contentious in some situations, and therefore particular caution should be exercised. For example, a share trading company would not adjust for fair value changes to financial instruments, because the value of financial instruments would generally be an integral part of the operating result. Impairment losses Impairment testing of assets may result in a large write-down to recoverable amounts that may be of a non-recurring nature. Income tax settlements Where a company has received a significant tax refund or paid a tax penalty that does not relate to the current year operating profit, this would typically be an appropriate item to include in the reconciliation. Defined benefit pension plans While not common in Australia, several companies have needed to top up defined benefit plans. Where this is the case, this may be an appropriate item to include as an adjustment. Revaluation of long-term liabilities Some companies have long-term, non-operating related legal obligations. Where the revaluation of the long-term obligation is included in the reported profit, this should be itemised. This discussion does not relate to long-term liabilities that exist or accrue in the normal course of a company's operations (for example, land rehabilitation for mining companies). Items for which an adjustment should not be made AICD and Finsia are of the view that some companies are adjusting their statutory profit for items that should not be adjusted for. These items include: Employee share schemes and related entries, which are a legitimate and real impost on the business from the perspective of shareholders. Amortisation and depreciation which, in the normal course, should not be included in the reconciliation table, but should be noted clearly elsewhere in a management discussion and analysis of the profit result. 21

23 Underlying Profit: principles for reporting of non-statutory profit information Where there has been a change to depreciation because of a significant event, this change could be disclosed as an adjustment in the reconciliation table. The following items may also need to be considered by some companies: Property sales or other items that could be classified either as one off or ongoing items. The company should determine whether these items are actually one off in nature given the context of the company and therefore be excluded from underlying profit. For a mining company, land rehabilitation is typically a normal expense incurred by the company. For a chemical or residential development company, removal of chemicals from land is expected to be a normal part of the business. Asset sales by a property company whose business model includes regular asset sales would typically not give rise to an adjustment. Impairment of loans for a financial company would be included as a normal part of doing business, but in some cases extraordinary loan losses may be adjusted. Hedging profits and losses would be considered normal items for a company that has a hedging policy that relates to its underlying business. 22

24 Appendix 2 Illustrative example The following example is illustrative only and demonstrates the preferred tabular format. The particular adjustments to be included when compiling an underlying profit table will vary from company to company. Shareholders, analysts and others in the investment community will also arrive at different conclusions regarding the significance of one adjusted item over another. UNDERLYING PROFIT RECONCILATION TABLE (Unaudited) 200Y 200X (current (prior year) year) Gross Tax Net Gross Tax Net Statutory Profit (NPAT) ($M) Impairment tile plant (note 1) Tax provision writeback Significant item flood damage Cost of failed takeover attempt Costs associated with inquiry (note 2) Redundancies (note 3) Currency hedges (fair value adjustment) Profit on sale of business Subtotal Underlying Profit ($M) This table has been prepared in accordance with the AICD/Finsia principles for reporting underlying profit. 23

25 Underlying Profit: principles for reporting of non-statutory profit information Explanatory Notes (further information is provided in the management discussion of the profit result). 1. Impairment tile plant: one-off due to change in technology 2. Costs associated with inquiry: participation in a government inquiry into the possible environmental impact of a proposed new plant 3. Redundancies: due to one-off business restructure. 24

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