Drafting a clear and compelling annual report and accounts (ARA) requires boards and management to consider legal and regulatory obligations, and make judgements about matters that are material to investors. With the reporting season underway for December year-ends and planning underway for March year-ends, preparers may find the recent report from the Financial Reporting Council Lab (the Lab), Materiality in practice: applying a materiality mindset, a useful starting point. 

Deciding what information is material can be a difficult process. Materiality is subjective and requires boards and management to use judgement about what matters most. Identifying what matters, however, is an incredibly important activity, not only for strengthening the value of reporting, but also for strategic planning and internal controls. In this article, the Lab explores an approach to help companies apply a materiality mindset to reporting.

Start with investor needs and decision making

In the UK, reporting frameworks typically define the users of ARAs as investors. While investors have different motivations and interests, understanding what investors look for in ARAs and how this feeds into their capital allocation decisions can be a good place to begin. The Lab heard three common questions that investors ask when making an investment decision:

• How does the business generate value? Understanding the current business model and strategy is especially key for investors who are new to the business.
• What’s the future strategy? Beyond current performance, investors are interested in what the board and management are planning for the future as it impacts their assessment of expected returns. 
• What potential risks are there? Intertwined with understanding the likelihood of future returns, is understanding potential risks and mitigation plans. 

Take a holistic approach 

Investors are interested in how the board and management think about issues holistically. However, many companies are currently reviewing materiality through three broad, separate lenses: 

• Quantitative financial thresholds – typically a monetary threshold that is used for correcting errors and disclosing transactions. 
• Qualitative financial aspects – usually an informal review of what’s important for reporting.
• Sustainability-related information – often a separate, formal review of sustainability issues. 

Each of these broad lenses has a role. However, individually they cannot tell the whole story of what’s important to the business. Taking a holistic approach to materiality means connecting wider considerations, such as strategy, risks and controls. 

Companies can bring together their existing processes and connect these topics in one materiality assessment. Questions that companies may find helpful to ask themselves during assessments include:

• Have we got the right people together? Setting up a cross-organisation materiality working group can help connect issues and serve as a completeness check.
• What are we already doing? Leveraging and connecting what is already being done will help with connecting issues and filling gaps.
• What are the real priorities? A materiality assessment is likely to bring many issues to the surface, but not all of them will need to be reported on. Reviewing, ranking and only reporting on the highest priority (or required) ones will help investors understand what the board and management are focusing on. 
• How have we challenged our assessment? Audit committees may find it useful to regularly review and challenge the assessment.
• How are we documenting and communicating our views on materiality? The outputs of a materiality assessment can be useful within the business and may also be of interest to investors. 
• How will we keep this assessment up to date? What impacts investor decision making will change over time – consider setting up processes to regularly review and update the assessment. 

Embed a materiality mindset

A materiality mindset means not only undertaking an assessment of what information is material, it also means applying it to the corporate reporting process. Asking the following questions can help companies embed materiality into that process: 

• Is there a common understanding of the key messages? Many teams are involved in the reporting processes and drafting the ARA. To ensure the ARA has a consistent voice and focus, senior management should determine the key messages based on their materiality assessment process. 
• Does senior management need to set central goals? Companies often struggle to remove legacy pages or content. Having a target set by leadership can help ensure everyone plays their part in cutting clutter. 
• Can we start from a blank sheet of paper for all or some of the report? Rather than rolling forward the ARA, it may be helpful to start afresh on a rolling basis for some sections. 
• When did we last review our accounting policies? Check whether any disclosures may no longer be material to understanding the accounts. 
• Have we obscured any key information? Checking the balance of disclosures can be helpful, as too much information on any one topic can make it harder to find other information.
• Are we duplicating information? Replicating text in multiple places in the ARA is not helpful.
• How does the report work as a package? Many companies find using fair, balanced and understandable a useful framework when reviewing the overall ARA.
• How are we engaging with our auditors? Speaking to your auditors early on, as well as providing clear documentation on judgements, can be helpful.
• Can we leverage our website and other formats? Some information, while interesting, may not be material or required in your ARA. Consider whether such information can be better presented on your website or through other communication formats. 

In summary

Assessing materiality is not an easy task, but it is a worthwhile one. As you get ready for year-end reporting, taking a holistic view of the company, its strategy and operations will help with identifying the issues that matter, and help improve your communication with investors and others. Explore the Lab’s resources on materiality for more tips and practical advice and questions.

Karlien Conings, Project Manager, FRC Lab