- IASB tackles a variety of ‘non-GAAP’ measures
- A new standard to improve financial statements communication might be coming up
- Comparability is at stake
Late December 2019, the International Accounting Standards Board (IASB) released its exposure draft on 'General Presentation and Disclosures'. The Exposure Draft includes proposals of the IASB to improve how information is communicated in the financial statements. The proposals were developed as part of the Primary Financial Statements project, which targets better communication in financial reporting
Tackling the variety of performance measures
Have you often been confused while trying to find the operating profit in financial statements or even more trying to understand the performance metrics used by companies?
Well, there is hope. With its exposure draft on 'General Presentation and Disclosures', the IASB is tackling the variety of performance measures (the so-called non-GAAP measures) used by companies to show management’s view on their core business. Non-GAAP financial measures are often reported in the management’s discussion and analysis (MDA) section of financial report filings, as well as in earnings releases and other forms of communication that companies use to provide additional insight into their business beyond the financial statements.
Many of these companies disclose unusual or similarly described expenses to steer information about what they consider as their underlying or normalized earnings. Some of them do the same with any unusual income. The way, however, entities provide this information varies significantly and for many readers or investors, it is unclear how and why certain items have been identified as unusual, or how they have been measured.
The flexibility that companies have in what they report and how they report it is a growing concern, as non-GAAP financial measures may be misleading or difficult to interpret.
How to report the exceptional negative impacts of Corona?
No doubt non-GAAP financial measures are useful for understanding a company’s underlying performance as they typically eliminate items deemed transitory, uncontrollable, or irrelevant by management. Non-GAAP measures supplement a company’s financial statements as they provide additional information that may be helpful in assessing the business. However, the flexibility that companies have in what they report and how they report it is a growing concern, as non-GAAP financial measures may be misleading or difficult to interpret. Moreover, it can be expected that the impact of the current Covid-19 crisis will not benefit the presentation of consistent and reliable financial measures.
Scanning the most recent press releases on the 2019 FY results of some Bel20 companies shows the use of performance metrics such as recurring/underlying/adjusted/normalized Revenue/EBIT/ EBITDA/Profit, free cash flow, non-recurring items, all having a variety of reconciling items between these non-GAAP measures and their IFRS counterpart.
On top comes the adoption of IFRS 16 where the lease costs are mainly replaced by amortization and financial charges and for which certain companies apply adjusted comparatives (“rebased recurring Ebitda”); others not. Are you still following?
Comparability is at stake. Try to compare 2 competitors with different bases or different non-GAAP performance metrics.
As already mentioned, the unprecedented Covid-19 crisis will be more pertinent than ever for the result announcements to come in 2020 and beyond: under which performance measures companies are going to report the exceptional negative impacts of Corona that killed their “business-as-usual” 2020 KPIs?
Time to reflect on results presentation.
A new standard to the rescue?
The objective of this new exposure draft is not only to specifically tackle the non-GAAP measures but to improve how information is communicated in the financial statements in general. Below is a summary of the most important proposals:
- Extra subtotals on the face of the income statement. Requiring additional subtotals in the statement of profit and loss would provide relevant information and create a more consistent structure to the income statement, thereby improving comparability
- Associates and joint ventures. Requiring separate presentation of income and expenses from investments in integral and non-integral associates and joint ventures, whereby integral is defined as “‘whose activities are integrated into an entity’s business activities and are thereby essential and fundamental in carrying out these activities”.
- Disaggregation. Requiring further disaggregation to provide relevant information. For instance, disaggregation of large ‘other’ balances, disaggregation of unusual income and expenses, or even a minimum number of line items in the statement of financial position (aka the balance sheet).
- Non-GAAP measures. Requiring disclosure of management-defined performance measures (i.e. performance measures not specified in IFRS standards), as well as reconciliations between management-defined performance measures and subtotals specified by IFRS.
- Cash flow presentation. Improving consistency by removing options for classification, such as dividends received/paid and interests received/paid. Also, the IASB proposes to start from the operating result in the presentation of the indirect cash flow statement.
Digital analytics is getting in trouble with the increasing use of different performance measures.
When is this coming your way?
The IASB has been discussing this already quite some time. The increasing digital consumption of financial data is certainly one of the main drivers of this exposure draft. How many readers still grab a hard copy of a financial report? Digital analytics is getting in trouble with the increasing use of different performance measures.
However, an exposure draft means no standard yet. It will take a considerable time before this draft turns into a mandatory standard. Then you need to give the reporters some time to adopt. It will not be there tomorrow. The current Covid-19 crisis might however change the speed of adoption. In any case, better be prepared than surprised. But better be prepared than surprised.