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Don’t obscure relevant GAAP measures with alternatives, warns FRC

Author: ICAEW Insights

Published: 15 Oct 2021

An FRC review of Alternative Performance Measures by UK listed companies has warned that their context needs to be better explained amid concerns that profit-based measures tend to be more favourable than their GAAP results.

The Financial Reporting Council’s (FRC) thematic review found that while companies generally provided good-quality Alternative Performance Measures (APM) disclosures, there was a risk that relevant GAAP information could be obscured by the high usage of alternative measures. Net debt, adjusted EBITDA, adjusted profit before tax and adjusted operating profit were the most frequent APMs, each was used by at least 18 of the 20 companies in the FRC’s sample. 

The industry regulator is urging companies to consider the number of APMs they present. It also says companies should clearly define their APMs and explain why they are needed, but not display them more prominently than their GAAP equivalents or give them greater focus in their narrative reporting. Around half of the 20 companies in the FRC’s sample gave APMs more prominence or authority than GAAP measures in some areas of reporting. 

According to the review, several companies adjusted for the effects of significant multi-year restructuring programmes, but did not disclose relevant information such as cumulative costs, total expected cash costs and expected durations of the programmes. Many companies used terms such as ‘underlying profit’, ‘non-underlying items’, and ‘core operations’ but the terms were not explained.

Meanwhile, disclosures about tax relating to individual categories of adjusting items were not always provided, and APM accounting policies rarely explained tax matters, including companies’ policies for classifying unusual tax items as adjusting items, the FRC said. It was also evident that certain adjusting items such as restructuring and litigation costs had potential cash implications, but companies did not always disclose the cash flow impacts.

The FRC’s Corporate Reporting Review Director, Carol Page said companies need to be more transparent about their use of, and linkage to their IFRS or UK GAAP results: “While the use of APMs can provide investors and other users of accounts with valuable insights into companies’ overall performance, these supplementary measures should not be given greater focus than GAAP measures. Users of accounts should also be able to clearly understand how APMs have been calculated, the rationale for any adjustments and the inherent limitations of such measures.” 

Accurate and informative labels are important as they enable users to understand APMs and distinguish them from GAAP measures, the FRC says. However, its review found that some companies used inconsistent labels and descriptions for the same APM in different sections of their reports. 

“We were concerned that some companies referred to APMs as ‘statutory’ or ‘reported’ measures in an attempt to distinguish them from similar adjusted measures, for example ‘statutory net debt’ and ‘statutory EBITDA'). “We expect such companies to revise their disclosures as APMs cannot be ‘statutory’ measures. Similarly, describing APMs as ‘reported’ measures is potentially misleading as most companies use the term to refer to GAAP measures,” the review says. 

A link to the full report is available here.

Read more of ICAEW‘s coverage of the regulation of non-financial reporting at icaew.com/nfr.

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