ASIC wants to restrict the use of non-AASB financials in all sorts of corporate documents, from annual reports and corporate communications to transaction documents (prospectuses, bidder's statements, etc).
This new policy proposal from the regulator could have major repercussions, given that the use of non-AASB financials is both widespread and accepted in the business community and the market.
A particular focus of the proposal is the use of "underlying profit". ASIC says that:
"Alternative profit information presented to the market often excludes particular expenses, such as impairment losses, and has sometimes been used with an objective of removing ‘bad news’ rather than providing meaningful information to the market."
What is ASIC proposing?
Overall ASIC is targeting the use of what it calls "non-conforming financial information":
"financial information that is required to be prepared and presented in accordance with the accounting standards when it appears in a financial report prepared under the requirements of the Corporations Act, whether that information appears in the financial report or another document, but is presented on a basis that is not in accordance with all relevant accounting standards."
(Or, to put it more briefly, financial information that isn't prepared in accordance with the accounting standards.)
It identifies three categories of document where it has concerns about the use of "non-conforming financial information":
- statutory financial reports
- documents related to statutory financial reports
- transaction documents.
Statutory financial reports
Unsurprisingly, ASIC see little scope for the use of non-conforming financial information in statutory reports (given that the law requires those reports to be prepared in accordance with the accounting standards).
It does, however, address the always-vexed issue of departures from the accounting standards in order to present a true and fair view.
The Commission reiterates its longstanding position that is only in very rare cases that the accounting standards don't give a true and fair view. On the odd occasion where non-conforming financial information is necessary to give a true and fair view, the ASIC warns that it should not be misleading or given undue prominence.
Documents related to the statutory financials
While there is little scope to depart from AASB in statutory financial reports, companies increasingly use other accounting methodologies when preparing non-statutory information about financial performance, such as:
- the Chairman's and CEO's messages and directors' report contained in the annual report
- market announcements
- investor presentations
- analyst briefings.
ASIC is wary about departing from the AASB standards in these types of communications. It notes that the accounting standards are intended to ensure consistent and comparable financial information over time and between companies. Therefore, says ASIC, it can potentially be misleading to present financial information in other ways, even in non-statutory documents.
In other words, ASIC is relying on the Corporations Act rules against misleading or deceptive conduct to regulate departures from the accounting standards.
The types of potentially misleading conduct identified by ASIC include:
giving undue prominence to alternative profit information compared to the prominence given to AASB-compliant financial information;
changing the emphasis given to the statutory profit and an alternative profit information from period to period (eg, emphasising whichever profit number gives the most favourable outcome for a period);
presenting a hypothetical profit figure that does not reflect actual historical performance or alternative profit information based on an average of prior period profits without prominent and adequate explanation of the basis adopted;
disclosing alternative profit information with a footnote to say that it excludes one-offs, without detailing or explaining the one-offs;
describing items as "one-off" or "non-recurring" when they have occurred in the past or are likely to occur in a future period; and
including adjustments to the statutory profit in the current period to calculate an alternative profit number, but excluding the equivalent adjustments from the comparative disclosure.
The new policy proposal sets out a long list of guidelines to be followed when using non-conforming financial information in these documents. These guidelines, ASIC says "should help to reduce the possibility of non-conforming financial information being misleading". They include:
- there should be clear explanations about how the information is calculated and why it is necessary to include such information;
- the information should not be presented with greater prominence than the statutory information;
- there should be reconciliations between the non-conforming financial information and the statutory information; and
- the non-conforming information should be consistently presented from period to period.
The Commission believes that transaction documents (prospectuses, takeover documents, related party transaction disclosures, etc) should generally comply with the accounting standards, even when preparing pro forma financials for combined entities (although it recognises that, in hostile takeover situations, the bidder will often not have the necessary financial information about the target).
ASIC proposes a very detailed set of guidelines for pro forma financials. These include:
- non-conforming financial information should be accompanied by corresponding information prepared in accordance with the standards;
- pro forma combined income should incorporate the effects of tax (i.e. should not stop at the EBIT or EBITDA level);
- the amount and nature of all material adjustments to the statutory financial information to derive the pro forma financial information should be disclosed by way of a reconciliation.
ASIC already relies on the "misleading or deceptive" provisions of the Corporations Act as the basis for its "Truth in Takeovers" policy. As is well known, that policy has effectively taken on a life of its own and now forms a de facto set of rules for communications in takeover situations. The Commission is presumably hoping that its proposed guidelines for non-conforming financial information will assume the same status.
In the meantime, it is taking public submissions on the proposals, with a closing date of 12 May.