Improving the conceptual framework – except for the bits about stewardship?

As we discussed here, the IASB has published for public consultation proposals to improve the Conceptual Framework for Financial Reporting, with comments to be received by October 26, 2015.

Here’s one of the proposed new passages:

  • “Information about how efficiently and effectively the entity’s management has discharged its responsibilities to use the entity’s resources helps users assess management’s stewardship of those resources. Such information is also useful for predicting how efficiently and effectively management will use the entity’s resources in future periods and, hence, is useful for assessing the entity’s prospects for future net cash inflows. Information about management’s discharge of its responsibilities is also useful for decisions by existing investors, lenders and other creditors who have the right to vote on or otherwise influence management’s actions.
  • Examples of management’s responsibilities to use the entity’s resources include protecting the entity’s resources from unfavourable effects of economic factors, such as price and technological changes, and ensuring that the entity complies with applicable laws, regulations and contractual provisions.”

This reflects the assertion that “Investors’, lenders’ and other creditors’ expectations about returns depend on their assessment of the amount, timing and uncertainty of (the prospects for) future net cash inflows to the entity and their assessment of management’s stewardship of the entity’s resources. Consequently, existing and potential investors, lenders and other creditors need information to help them make those assessments. The information set out above is considered to “help existing and potential investors, lenders and other creditors make those assessments.”

In the basis for conclusions document, the IASB supplies some background to this change:

  • “Some respondents to the (2010) Discussion Paper… feared that giving more prominence to stewardship could lead to competing objectives of financial reporting and could appear to justify introducing inappropriate management bias into recognition and measurement decisions. However, many of the respondents who commented on stewardship stated that one of the purposes of financial reporting is to hold management to account. They argued that the existing Chapter 1 (of the conceptual framework) gives too little prominence to this notion.
  • The IASB noted that many have interpreted Chapter 1 as ignoring the need for information to help users to assess management’s stewardship. In addition, although in most cases that information is the same as the information needed to assess the prospects for future net cash inflows to the entity, this may not always be the case. For example, some information about management remuneration or other related party transactions may be important for assessments of stewardship, but arguably may be less important in assessing the prospects for future net cash inflows. Hence, the IASB proposes to make more prominent, within the discussion of the objective of financial reporting, the importance of providing information needed to assess management’s stewardship of the entity’s resources.”

That may all sound fine, taken at face value, but it’s largely meaningless as a contribution to anything the IASB is likely to do in our lifetimes. One certainly hopes that the disclosure regime as a whole provides some insight into management’s effectiveness at “protecting the entity’s resources from unfavourable effects of economic factors, such as price and technological changes, and ensuring that the entity complies with applicable laws, regulations and contractual provisions.” But such insight is much more likely to come from the MD&A, from news releases and other sources than from the financial statements. For instance, if an issuer’s revenues decline from one period to the next, there’s no obligation to address in the statements whether that’s because of pricing pressures, changes in the product mix or suchlike.

The reference to management remuneration and related party transactions particularly underlines the flimsiness of the IASB’s efforts in this regard. As I put it before, regarding the first of these:

  • The IASB says this is important, among other reasons, because “the structure and amount of compensation are major drivers in the implementation of the business strategy.” Now there’s a hot button issue…but I don’t think the IAS 24 disclosure requirement does much to address it, nor to address anything at all really.
  • The disclosure gives you some numbers, but there’s no requirement to disclose how many people the numbers cover. It wouldn’t tell you if 90% of the share-based payments went to one person and 90% of the cash to someone else. It doesn’t tell you whether the share-based payments represent easy money or whether there’s some genuine, rigorous incentive there. It doesn’t address deferral mechanisms, clawbacks, and so forth….
  • Given these limitations, no one could meaningfully compare the data provided by two competitor entities, or reach any informed conclusions from it on how compensation might drive the business strategy. In any event, aren’t there a myriad of other things that are equally major drivers in implementing the business strategy, but which financial statements make no attempt to address?

There’s not a glimmer of a chance of anything changing in this regard. I’m not saying anything should – obviously, financial statements can’t do everything. But wouldn’t it be more intellectually honest to acknowledge these limitations in the proposed conceptual framework, rather than puffing it up with implied promises and intentions which aren’t worth the paper they’re written on…?

The opinion expressed are solely those of the author

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