Doesn’t time fly! I have noticed that it is almost a year since my last posting on the subject of performance reporting. Towards the end of 2007, performance reporting and earnings measures were the hot topics. At the time, we were anticipating a discussion paper on financial statement presentation and some were concerned that this might sound the death knell for ‘earnings’ or ‘net income’ as key performance measures. How times have changed – it is fair to say that other topics are making the headlines nowadays.
The IASB and FASB finally issued their discussion paper last month, and it seems that reports of the death of earnings were exaggerated. The key proposals in the discussion paper are as follows:
• Performance is reported in a single statement of comprehensive income that combines the current income statement and statement of recognised income and expense, with a subtotal for net income (that is, ‘earnings’).
• Each of the items shown in the primary statements (comprehensive income, financial position and cash flows) is classified into business activities, financing activities, income taxes and discontinued operations. Business activities are further subdivided into operating and investing activities.
• Classification is based on the way management uses a particular item. So, for example, if inventory is an operating asset, then purchases of inventory are operating cash flows and movements in inventory are included in the operating section of the statement of comprehensive income. This is an obvious example, but other items might be treated differently by different types of businesses or even different businesses within the same industry.
• The statement of cash flows is presented using the ‘direct’ method. This is a change for most companies, possibly quite a significant one, as it will require explicit presentation of cash received from customers and paid to suppliers, instead of a reconciliation from profit to operating cash flow.
• A line-by-line reconciliation is required between the statement of cash flows and the statement of comprehensive income, showing the amounts of revenue and expenses that arise from cash flows and the amounts that arise from movements in accruals and valuation adjustments.
We are speaking to many people as we form our views about the discussion paper. Some of the proposals are proving to be reasonably popular, but views about the direct method of cash flow reporting and the reconciliation from that to the statement of comprehensive income are, at best, mixed.
It is worth also reflecting on what the discussion paper doesn’t consider. Progress around some of the most complex topics in financial reporting − such as reporting movements in fair value, distinguishing debt and equity, and accounting for defined benefit pension plans − is frustrated by deficiencies in the current presentation model, particularly as regards the treatment of re-measurement adjustments, and there had been hope that a new model might help to solve some of the problems. It seems, however, that the proposals in the discussion paper do little to advance the debate on these particular topics. Is this a missed opportunity?
This is an unusually busy time for everyone involved in the financial reporting supply chain. But the proposals in the discussion paper have important implications for preparers and investors alike. I would therefore encourage you to participate in the debate, either here, in other public forums or directly with the IASB.
As always, I'd be interested in your thoughts, either by commenting here or by email.
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