Public companies have grumbled for ages about “disclosure overload,” and for just as long those complaints have mostly fallen on deaf ears. That may be changing.
Accounting rulemakers indicate that they may finally consider ways to pare back the reams of disclosure companies are forced to make by way of a long-term project to reconsider what companies should be required to tell investors.
The Financial Accounting Standards Board is in the early stages of a comprehensive project to develop a framework for how decisions about financial statement disclosures are made—including how FASB decides what to require, and eventually how companies decide what they disclose. “The fundamental purpose is to give us a thought process, or a framework, to make decisions about disclosures,” FASB member Larry Smith said during a recent meeting. “Hopefully that will lead to a reduction in disclosures.”
There's little dispute that disclosure overload is taking a toll in the financial reporting chain, says Salome Tinker, director of financial accounting and reporting for the Association for Financial Professionals. “Disclosure requirements are really way out of control,” she says. “There's so much of it, it's hard to filter through all of it and understand: What are my risks?”
Excessive disclosure is a recurring theme when FASB asks for comment on proposed accounting standards that map out new reporting requirements, says Mark Crowley, a partner with Deloitte & Touche. “A lot of times the comment letters will say it's good information, but it's too much,” he says. Users of financial statements have hugely varied demands for information; that makes establishing a baseline rule of disclosure to satisfy everyone exceedingly difficult.
Even FASB's own Investor Technical Advisory Group, as well as the Securities and Exchange Commission's Committee on Improvements in Financial Reporting, have both advised FASB to take a broad look at how to reduce disclosure requirements. To start, FASB is working on a draft of a document meant to guide its decision making when it considers new disclosure requirements in the context of new accounting standards.
The goal is to ensure the board focuses on improving the efficiency and effectiveness of financial statement disclosures by zeroing in on issues most important to a particular company's business. “The desired result is a net reduction in the disclosure volume and a net increase in the utility of the information disclosed,” the board wrote in a summary of its early decisions.
Lisa Filomia-Aktas, a partner with Ernst & Young, says FASB's overall goal is to make disclosures more relevant in the long run. “When you look at the cost to preparers of preparing disclosures, at some point, is it too much data? Are they providing the right data from the investor's perspective?”
What's on Deck
FASB is considering a change in the basic reporting structure, allowing more customization by companies. Such “disclosure sets” would be tailored by each public company to focus on what is important to that particular company's circumstances. As an example, FASB says a company with a tiny, barely material pension plan would be expected to provide much less disclosure about that than a company with a large, highly material plan that requires significant contributions. FASB staff have tested the idea against some selected requirements in the Accounting Standards Codification, and the board is pleased with the results so far. FASB expects to publish a discussion paper in early 2012 to share its conclusions and gather feedback.
The following excerpt was taken from FASB's project update on the disclosure framework:
At the August 24, 2011 board meeting, the Board discussed a first draft of a decision process for use in establishing disclosure requirements for financial statement line items (the decision process). Although its final form has not yet been determined, the decision process would be more closely akin to a Concepts Statement than a reporting requirement.
The goal of the decision process is to improve the efficiency and effectiveness of financial statement disclosures by focusing on matters that are most important to users of a particular entity's financial statements. The desired result is a net reduction in disclosure volume and a net increase in the utility of the information disclosed.
Achieving that result would require decisions by the Board in standard-setting projects about a range of possible disclosure sets that would be customized by each reporting entity to focus on what is important in its own circumstances. For example, an entity with a pension plan that is barely material would be expected to provide less information about its plan than an entity with a pension plan that requires future payments that are so large that they are extremely important to the future of the entity.
The staff has tested the decision process by applying it to selected Topics of the FASB Accounting Standards Codification and comparing the indicated disclosures with existing requirements. The results of those limited tests, which indicated some disclosures that could be eliminated and a few that could be added, had been discussed with Board members at an educational meeting. Board members provided some suggested revisions to details of the decision process at that meeting.
Board members stated that the decision process generally is appropriate and workable. The Board directed the staff to evaluate the suggested revisions, change the process as necessary, and test the process further by applying it to additional Codification Topics. After satisfactory completion of those steps, the staff will begin consultation with stakeholders after revising the draft based on Board member comments.
This decision process is one of three parts of the disclosure framework project. The other two parts, which the Board has not yet considered in detail, are:
1. A decision process for disclosures about other events and conditions that affect prospects for future cash flows but that are not yet recognized in the financial statements (including many matters usually referred to as risks and opportunities)
2. A decision process for general information about the reporting entity.
Other matters that the Board will discuss in future meetings include:
1. What guidance to provide to a reporting entity in judging which disclosures are important in its own financial statements and the extent of the information to be disclosed
2. How to judge whether the benefits of specific disclosures would justify their cost
3. How to identify information that could be harmful to the entity if disclosed
4. How to apply the decision processes to not-for-profit entities
5. Characteristics of nonpublic entities that might require disclosure decisions different from those of public entities.
Still, thorny issues abound. FASB says it needs to think through what guidance it would have to give companies to help them judge which disclosures are important to their own financial statements and how much information related to those issues should be disclosed. It needs to think about how to weigh the costs of disclosure against the benefits, and how to identify information that could be detrimental if disclosed.
Those decisions won't be easy, says John Hepp, a partner at Grant Thornton.
“The demand for information is virtually unlimited,” he says. “It's very difficult to get the users of financial statements to identify which information they use or which information could be left out. [FASB] has their work cut out for them if they're trying to do some kind of scaled disclosure requirements.”
If FASB succeeds in developing an approach that allows companies to forego disclosures that are required now, that could create auditing headaches, Hepp warns. “The disclosure checklist is going to be difficult,” he says. “To evaluate whether you need to disclose certain information, you're going to have to have that information to evaluate it.” In the long run, companies might find it more cost effective and more efficient to disclose something than to justify why something doesn't need to be reported, he says.
Adam Brown, a partner with audit firm BDO USA, says he envisions FASB's idea for disclosure sets to suggest FASB would develop different disclosures that might be required for different circumstances, leaving companies to choose which set most closely applies to their situation. “The goal would be to carve away what's not relevant or not important, so companies would be emphasizing the stuff that is more important,” he says.
Brown sees the potential for such a system to drive a need for new internal policies about how companies would make such choices. “It would not be a free choice every time a company puts together its financial statements,” he says. “To the extent those judgments vary from one company to another, it could lead to questions about comparability.”
Smaller public companies and private companies especially will take a strong interest in anything that might reduce their disclosure requirements, says David Rubenstein, chairman of the SEC practice group at audit firm WeiserMazars. New accounting requirements in recent years focused on things like consolidation, variable interest entities, and fair-value measurement have become especially burdensome for those companies, he says. “Providing very significant amounts of disclosure on certain elements or items in the financial statements is just not worth it,” he says.