Focus On Footnotes

Have you ever had the feeling that 10-Ks and 10-Qs have ballooned in recent years? Studies have borne this out: KPMG in 2011 noted that 10-Ks have “…expanded approximately 16 percent overall during the six-year period (prior to 2011) and footnote disclosure has grown 28 percent over the same period1.”

Less studied is the apparent expansion in voluntary disclosures by public companies in the forms of earnings release packages and investor presentations. While there is vastly more information available to investors and other financial statement users than there was ten years ago, it is unclear whether the increase in information helps or hinders their analysis of companies’ performance and prospects.

Accounting standard setting surely is contributing to the volume increase in the footnotes. New disclosures are contemplated in each project the FASB undertakes. They build up like the tax code, with new requirements introduced without taking any away. Also, the disclosures are often worded in ways that appear to limit flexibility.

The objective of the work is not necessarily to decrease the volume of disclosures; instead, the Board has been focusing on ways to improve the effectiveness of disclosures in the financial statements.
What is the FASB doing about this? The Board has been working on a Disclosure Framework project recently, which was originally suggested by our investor advisory group. Importantly, the objective of the work is not necessarily to decrease the volume of disclosures; instead, the Board has been focusing on ways to improve the effectiveness of disclosures in the financial statements. If the focus on using the financial statements as a communications vehicle is sharpened, disclosures will naturally be reduced because irrelevant items can be excluded.

There are two active elements to the Board’s current work. The first is focused on helping the FASB develop better disclosures in future projects. The timing is good in that the FASB is in varying stages of finalizing some very major projects. They include revenue recognition, accounting for financial instruments, accounting for leases, and insurance contracts. This workstream will help the Board word disclosure requirements more effectively, more consistently consider what disclosures are required, and set boundaries for the type of information included in the footnotes.

Companies have been successful in working collaboratively with their auditors and counsel to achieve the objective of reduced volume, with arguably more effective disclosures.
The second element is trying to identify ways in which reporting companies and other organizations can more effectively exercise appropriate flexibility in meeting disclosure requirements. This workstream appears to be quite difficult. We have learned that there are many incentives in the financial reporting system for companies to simply retain disclosures—period after period—even if the information is of marginal value to users. We performed field testing of various proposals with companies during 2013. We have learned that it’s much more difficult in terms of time commitment and judgment to exercise flexibility. In a quote attributed to many after him, Blaise Pascal once said, “The present letter is a very long one, simply because I had no leisure to make it shorter.”

So far, we have heard some encouraging anectodes. A handful of corporate executives and audit committees have set corporate objectives to improve the effectiveness and reduce the volume of their filings. By having the goal set by top management, some of these companies have been successful in working collaboratively with their auditors and counsel to achieve the objective of reduced volume, with arguably more effective disclosures. Pascal would be proud.

____________________
1Disclosure Overload and Complexity: Hidden in Plain Sight, KPMG, 2011