Corporate reports need more context

The Accounting Standards Board (ASB) says companies are still failing to
adequately communicate their key risks, strategies and other non-financial
information in their annual reports. In some cases, the level of narrative
reporting is so bad that the standard setter dismisses it as “clutter”.

The report, Rising to the challenge, which reviews the narrative
reporting of 50 UK listed companies in 2008 and 2009, focuses on how companies
are complying with the enhanced business review content requirements as set out
under the Companies Act 2006, how these reporting requirements are communicated
and presented, and which areas are falling below standard.

Reporting challenge
The ASB first undertook a review of narrative reporting in 2006 when it
concluded that certain areas of reporting were a challenge for companies, such
as reporting on non-financial issues.

In its latest review, the ASB found that while financial reporting and
discussion of key performance indicators (KPIs) has improved, companies are
having difficulty with some of the new enhanced business review requirements.
For example, only 38% of companies provided discussion of trends and factors
that were relevant and forward looking and the ASB’s review found that it was
unclear whether 52% of the sample specifically addressed the requirement to
discuss contractual and other arrangements, adding that “for 12%, it was clear
they did not”.

The review found that risk reporting could be particularly bad. While many
companies started strongly by detailing their ‘principal’ risks, some opted to
provide a long list, which, said the ASB, “allowed their good work to
deteriorate to boilerplate”, adding that “listing every conceivable risk adds to
clutter”. One company had 33 risks, while eight companies had 20 or more. Some
companies had risk sections that were 10 pages long.

The ASB also said that a lot of risk reporting was generic and not specific
enough to the organisation’s business strategy. Examples include listing a flu
outbreak, insurance risk or terrorism as principal risks, without any discussion
of their context or why they had been deemed key by the board.

“A number of companies resorted to simply providing descriptions of generic
risks that could be easily cut and pasted into many other FTSE annual reports,”
says Ian Mackintosh, ASB chairman.

“Thirty-two percent of the sample did not disclose any non-financial KPIs,
despite the Companies Act requirement to do so where ‘necessary and
appropriate’,” he added.

The review is also critical of the quality of some corporate social
responsibility (CSR) reporting. The ASB says that companies have fallen into the
trap of delivering immaterial information, rather than simply saying that they
have no material issues to report. For example, one company listed football
coaching as a CSR policy, while another said it donated chocolate gifts to the
community at Easter.

Concise and precise
The ASB says companies need to be concise and precise about what activities
constitute their CSR policies and how these relate strategically and financially
to the business. Again, the review notes that nine companies had a CSR section
longer than their financial review and that only 20% of the sample provided a
convincing explanation of why CSR is important to their business.

The review also found that companies struggled with discussing their future
strategy, financial outlook and risk profile, even though the need to provide
such assurance has never been so necessary, particularly given the economic
environment. The ASB says that if companies are looking to improve, then “four
words come to mind ­ relevant, future-orientated, quantified, and evidenced.”

Recommendations
The FRC recommends companies:
• Provide context for principal risks and uncertainties ­ are they increasing or
decreasing?
• Don’t simply include generic descriptions of risks that could easily be cut
and pasted into another company’s report;
• Use tables to link principal risks to related actions to manage the risks and
don’t shrink the risk content down to fit the table ­ instead, expand the table
to fit the content;
• Ensure they describe what their goals are and how they plan to achieve them
when articulating strategy. Don’t make bland statements such as, ‘our plan is to
grow’, with no further explanation;
• Explain why corporate social responsibility is important to the business;

• Include non-financial KPIs to explain how the key drivers of the business are
monitored ­ don’t include peripheral measures, such as number of employees, just
to tick a box; and
• Support any discussion of relevant industry trends with external evidence.
Don’t be afraid to quantify the trends instead of relying on bland statements
such as the ‘outlook for our industry is good’.

Useful links
Read our corporate governance columnist Robert Bruce’s thoughts on narrative
reporting at
www.financialdirector.co.uk/comment

To read the ASB report Rising to the challenge, go to

www.frc.org.uk/asb/press/pub2148.html
FRC Louder than Words: Principles and actions for making corporate reports less
complex and more relevant
www.frc.org.uk/press/pub1994.html