The Financial Reporting Council (FRC) has taken UK-listed companies to task for not being more transparent in their presentation of results.
A review of the annual reports of 20 companies by the FRC found that, while companies generally provided good quality alternative performance measure (APM) disclosures, their context needs to be better explained, particularly as profit-based APMs tended to be more favourable than results calculated using generally accepted accounting principles (GAAP).
The FRC’s review found that around half of the companies examined gave APMs more prominence or authority than GAAP measures in some areas of reporting.
Companies should clearly define their APMs and explain why they are needed, but not give them greater focus than their GAAP equivalents, the FRC said.
“We expect companies to ensure that these supplementary measures are not displayed more prominently than GAAP measures and that their narrative reporting does not give them greater focus,” the report said.
Relevant GAAP information can also be obscured by high usage of alternative measures, the FRC grumbled.
“While the use of APMs can provide investors and other users of accounts with valuable insights into companies’ overall performance, these supplementary measures should not be given greater focus than GAAP measures,” said Carol Page, the FRC’s corporate reporting review director.
“Users of accounts should also be able to clearly understand how APMs have been calculated, the rationale for any adjustments and the inherent limitations of such measures,” she added.
READ the full report from the FRC
Unsurprisingly, perhaps, the FRC found that companies are more likely to make non-GAAP adjustments to downplay so-called “one-off” costs than they do to exceptional items that flatter profits.
The FRC said that 19 of the 20 companies in its sample excluded more expenses than income from their APMs, with the result that they reported adjusted results that cast performance in a more favourable light than the GAAP results. In six of these cases, the adjustments changed a GAAP loss into an adjusted profit.
“We remind companies to be even-handed in the treatment of gains and losses when classifying amounts as adjusting items. Companies should avoid practices that systematically present a more favourable view of their adjusted results than GAAP measures,” the FRC advised.
In general, UK PLC got a pat on the back from the FRC for largely avoiding the temptation to strip out the effects of the coronavirus pandemic as a way of buffing up perceived profit performance.
Other observations made in the report include:
- Several companies adjusted for the effects of significant multi-year restructuring programmes, but they did not disclose relevant information such as cumulative costs, total expected cash costs and expected durations of the programmes.
- Many companies used terms such as ‘underlying profit’, ‘non-underlying items’, and ‘core operations’ but the terms were not explained.
- Disclosures about tax relating to individual categories of adjusting items were not always provided, and APM accounting policies rarely explained tax matters, including companies’ policies for classifying unusual tax items as adjusting items.
- It was also evident that certain adjusting items (e.g., restructuring and litigation costs) had potential cash implications, but companies did not always disclose the cash flow impacts.