Autumn 2021 - Latest developments in corporate reporting

The Corporate Reporting Agenda – An insight into some of the key developments in financial reporting impacting Annual Reports for 2021/22.

Corporate reporting continues to evolve at pace. However, the emphasis has clearly switched from financial reporting to narrative reporting with an ever-increasing focus on transparency, value creation and telling stakeholders the corporate story. This shift from financial to non-financial information is easily evidenced by simply considering the relative number of pages of an annual report which are now dedicated to non-financial reporting. With the scales already in favour of non-financial reporting matters for larger entities, the current corporate reporting agenda means that this shift is set to continue for the next few years at least.

Whilst stakeholders are still looking to understand business models and value creation, there is also a rising demand for a reporting entity to be more transparent and accountable including a widespread appeal for better information on wider factors affecting society and the environment.

At this juncture, it is really important for companies to avoid a boilerplate and compliance-led approach to their corporate reporting and really look to reaping the benefits of quality narrative reporting.

Climate

Climate change and sustainability matters are global challenges. The UK is hosting the 26^th UN Climate Change Conference of the Parties (COP26) in November 2021 with a backdrop demanding real change and action.  This will undoubtedly have direct consequences for many businesses.

2021/22 Annual Reports need to be prepared in the context of these changing expectations and stakeholder demand for improved climate-related disclosures. The International Financial Reporting Standards (“IFRS”) Foundation is hoping to have the new International Sustainability Standards Board (“ISSB”) set up in time for COP26. This new board has climate firmly at the top of its agenda but is also expected to quickly gather pace on other sustainability-related issues important for enterprise value.

Also with other bodies and initiatives operating in the climate reporting space, not least the Task Force on Climate-related Financial Disclosures (TCFD), the Sustainability Accounting Standards Board (SASB) and the Global Reporting Initiative (“GRI”), it is fast becoming more difficult for finance teams to navigate the guidance in this crowded arena. The Treasury has recently published its Roadmap for the transition to a greener financial system. As part of moving towards a net-zero economy, this roadmap sets out progress to make reporting in line with the TCFD.  As announced by the Chancellor, the UK intends to make TCFD-aligned disclosures fully mandatory across the UK economy by 2025, with a significant portion of requirements in place by 2023 and some as early as 2021 including premium listed companies and financial institutions supervised by the UK Prudential Regulation Authority (PRA) - there is more coverage on TCFD in our Global-Regulation Update - link. Hopefully, global sustainability reporting standards to be issued by the ISSB which look to build upon existing frameworks will prove pivotal to bring this cohesively together. The UK Government expects that ISSB standards will form a core component of the Sustainability Disclosure Requirement (SDR) framework, and provide the backbone of its corporate reporting element.

However, it is not simply all about narrative reporting. Whilst IFRS standards themselves do not refer explicitly to climate-related matters, companies must now carefully consider climate-related matters in applying IFRS standards when the effect of those matters is material to the financial statements.  Climate-related matters may affect the recognition, measurement and/or disclosure in areas such as judgements and estimates, R&D, residual values, impairment, insurance liabilities, provisions and levies.

Reporting on risks and uncertainties

There is also a growing demand for better disclosure to help investors understand the most relevant uncertainties that companies face.  The FRC’s Financial Reporting Lab’s September 2021 report on “Reporting on risks, uncertainties, opportunities and scenarios” has highlighted there is still much more that boards need to be thinking about in this area. This includes:

• A demand for greater transparency regarding estimates including key assumptions;
• Improved linkage to strategy and business model;
• Understanding resilience through scenarios and stress testing; and
• Greater clarity on risk appetite, risk direction and mitigating activities.

Cyber, data and digital risk

Like climate change, cyber and data risks are fast becoming a topic of enhanced concern. The potential consequences of cyber threats, and other data risks, are significant and increasing. There is less guidance and less established reporting frameworks when it comes to cyber and data risk compared to other narrative reporting areas, such as climate. Nevertheless, effective cybersecurity governance and risk management programs start with the right tone at the top.  Lessons may potentially be learnt from the US in this area with the SEC currently looking to bolster its existing 2018 guidance in light of increased risk in this area.

Alternative Performance Measures (APMs)

The spotlight for this reporting season will still be on the quality of APM reporting. Whilst significant improvements in APM reporting have occurred, the FRC in its recent thematic review on APMs have highlighted a number of key expectations including ensuring:

• That these supplemental disclosures are not displayed more prominently than GAAP measures;
• Narrative reporting does not give them greater focus;
• Adjustments are even-handed with gains and losses; and
• Companies do not have too many APMs.

Where companies are using terms such as “underlying profit” and “non-underlying items” these terms need to be properly explained. The report highlights that companies should avoid practices that systematically present a more favourable view of their adjusted results than GAAP measures.

The regulator is clearly expecting better disclosures and for companies to continue to improve their disclosures. The audit committee is likely to have an increasingly key role in monitoring and challenging APM disclosures.

Conclusion

Whilst the focus is undoubtedly shifting towards narrative reporting at the current time, financial reporting still remains at the heart of corporate reporting. Whilst there are no major new accounting standards issued for the forthcoming reporting season, there are plenty of amendments, clarifications and best practice recommendations.  Furthermore, it is important to consider the potential for stronger linkages between the narrative and financial reporting aspects of annual reports. The demand for transparency and high-quality reporting has never been greater. Boards need to ensure they focus extra hard on their annual reports for the forthcoming reporting season. Whilst the disclosure expectation gap between companies and investors may remain for the foreseeable future, the short-term focus needs to be on quality and transparent reporting.