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Alternative Performance Measures – time for ground rules?

ESMA´s Alternative Performance Measures är en av frågorna som tas upp på årets upplaga av konferensen IFRS Symposium, som går på Bonnierhuset i Stockholm den 21 september. Jennifer Sisson på PwC, som medverkade som talade på förra årets symposium, har skrivit en intressant artikel om ämnet. Den är något år gammal – men lika aktuell för det:

Everyone seems to be talking about adjusted performance measures. While APMs are not new, we have seen a significant increase in activity from regulators as they consult on making these measures more useful and reliable for users of financial reporting.

APMs have been popular with management teams for many years. They believe that APMs can offer helpful information when telling the story of their company’s performance. But do investors and analysts agree? And what information exactly are they after?

Establishing “ground rule”

Generally accepted accounting principles (GAAP) such as IFRS are accepted as the bedrock of corporate reporting. But these principles may not always be adequate for explaining performance. Management teams commonly identify measures of performance in addition to the required GAAP-based earnings figures to tell their story of business performance.

Everyone has their own perspective but most investment professionals agree that having a list of “ground rules” seems like common sense. Some companies already follow these best practices – why isn’t everyone else?

Reaction from regulators and others

European Securities and Markets Authority (ESMA) is consulting on new guidelines for APM reporting. In South Africa, the Johannesburg Stock Exchange requires companies to disclose a specifically-defined APM – headline earnings per share. The US Securities and Exchange Commission sets out rules on how these types of measures can be disclosed.

The press has also caught on, particularly looking at the effect on executive and director remuneration which is also being scrutinised.

Earlier this year, Standard & Poor’s published research on the “underlying earnings” reported by the largest public companies in the UK (that is, FTSE100) over the last four years. Some of the headlines were:

– Adjusted operating profit exceeded the unadjusted operating profit in 73% of cases;
– 43 companies presented adjusted operating profit that was higher than IFRS operating profit in every one of the four years.

The S&P report also suggests that, in some cases, the use of these non-GAAP or APMs can be misleading.

The emerging message from investors

All of this discussion and debate prompted PwC to conduct a global survey of investment professionals. A clear message emerged – investment professionals think APMs are useful, but they need transparency to overcome their concerns about the balance and reliability of these numbers. Regulators appear ready to step in to ensure investors get what they need.

The survey asked 85 investors and analysts from around the world for their views on the disclosure of APMs. The report is the first in a new series of investor-focused research aimed at maximising the effectiveness of corporate reporting.

So, if adjusted performance measures are really useful to investment professionals, could their value be increased by changing the way they are disclosed? What we heard from the investment professionals was unambiguous.

Key messages from investor survey

– 95% of investment professionals would like management teams to provide clearer descriptions of the items they have adjusted when calculating their “underlying performance” measure, as well as why they thought it appropriate to make the adjustments.
– Investment professionals are sceptical about the balance that management teams display in reporting APMs. This is a concern because a lack of balance in APM reporting could damage management’s credibility with investment professionals.
– 81% of investment professionals say that if management’s adjustments to GAAP numbers seem aggressive or unusual, their evaluation of the riskiness of management increases.The lack of balance may be a case for considering assurance of APMs where not already obtained.
– Only 22% of investment professionals think that the measures that move markets (including APMs) are sufficiently reliable.
– Investment professionals would find it helpful to know that companies were applying some basic “ground rules” in their APM reporting. This would give them greater comfort in the relevance and reliability of the data they use in their own performance analysis.

Are “ground rules” the answer?

So what does all this mean? Do we need so- called “grounds rules’? What PwC has proposed is extracted below – but can the international reporting community reach consensus and consistent application? The debate continues.

Proposed “ground rules”

– Be clear and consistent in definitions of measures and the adjustments made.
– Apply balance when making adjustments and only use measures that are relavant for understanding performance.
– Explain the why as well as the what: why particular APMs are relevant to understanding performance and why those adjustments are made
– Provide comparative data and restate the comparatives if definitions do change
– Reconcile APMs to GAAP, showing adjustments clearly in a bridge, chart or table.
– Give balanced prominence to GAAP and non-GAAP measures in all communications.
– Be clear about which measures are non-GAAP, and about what is and isn´t audited or subject to some form of assurance.

Av: Jennifer Sisson, Senior Manager Corporate Reporting and Investment Community Engagement, PwC.

Jennifer Sisson, PwC.

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