As we discussed here, the IASB has issued a revised Practice Statement on management commentary. 

One of the six specified “areas of content” to be included in such a commentary relates to an entity’s “business model,” defined as follows:

• the integrated set of processes by which the entity seeks to create value and generate cash flows, including in the long term. Information about an entity’s business model provides a context for understanding other information in management commentary, and information in other general purpose financial reports, including the related financial statements.
• An entity’s business model is a matter of fact. It is observable through the entity’s actions.

Not too surprisingly, that’s somewhat fancier language than one often finds in definitions or explanations of “business model.” Here’s a sample:

• At its heart, a business generates value for its customers. A business model is a specific method used to create and deliver this value.
• A company’s business model is a plan that outlines what it will do to create and deliver value to customers, with the goal of generating profit.
• A business model serves as the blueprint for how a company operates and thrives in the marketplace. It encompasses essential components that collectively define the organization’s strategy and approach
• A business model describes how a business organization creates, delivers, and captures value, in economic, social, cultural or other contexts. The model describes the specific way in which the business conducts itself, spends, and earns money in a way that generates profit.

Some of those definitions appear to focus on a current state (“a specific method used to create and deliver…”) whereas others view a business model as being somewhat more aspirational (a blueprint, a plan for “what it will do…”) The IASB definition seems to tilt more toward the former:

• ‘Business model’ is a term commonly used in narrative reporting requirements, guidelines and practice, and also in academic literature. The IASB’s research indicated that there is no single widely accepted description of business model.
• The IASB intends the term ‘business model’ to refer to what an entity does and how it does it.

That said, the IASB acknowledges of course that the concept of a business model isn’t static (“An entity’s business model can evolve as management responds to internal and external factors and trends. Management commentary provides information about the entity’s business model that operated during the reporting period and explains whether, how and why that model has changed since the previous reporting period.”) Further, an entity could have more than one business model, or various operations within a single business model. To illustrate:

• Management might view a vertically integrated entity as having a single business model. If so, management commentary would describe operations within that model and explain dependencies between those operations and synergies gained from integrating them.
• Management might view a conglomerate as having several business models: the business model of its corporate office—acquiring, maintaining, developing and disposing of business units—and the business models of key business units within the conglomerate. Management commentary for that entity would provide information about each business model.

The practice statement requires disclosing “key features” of the business model, these being those “that fundamentally underpin the entity’s ability to create value and generate cash flows.” These include such matters as “features that underpin the entity’s value proposition to its customers— for example, product development (which might be a key feature of a business model that relies on frequent renewal of the entity’s product base) or after-sales service quality (which might be a key feature of a business model that relies on customer retention)” and “features that differentiate the entity’s products or services to provide the entity with a competitive advantage—for example, technology adapted to meet individual customers’ needs.” The challenge, as can easily be seen, is that despite the overriding emphasis on neutrality (on providing information that is balanced, so is not slanted, weighted, emphasized, de-emphasized or otherwise manipulated to make it more likely that users will receive that information favourably or unfavourably), a company’s disclosure of its business model will almost invariably be weighted toward positivity: the discussion of features underpinning the entity’s value proposition to its customers will inevitably be more prominent and compellingly-written than that of the reasons why this might not be achieved.

Yet again, this brings us back to the use in financial reporting of narrative, of “telling one’s story,” a seductive approach to disclosure which nevertheless by its nature flattens, omits and simplifies. An aspect of the business model that management might view as, say, a secondary imperfection, might strike others as its most notable feature (take Tesla, for example). In that light, an ideal disclosure might counterbalance management’s own description of its business model with one sourced from its keenest detractors, moving beyond management “commentary” to an engagement, an interlocution, even an argument. Clearly no one’s going to mandate such a thing any time soon, but in that case, a good first step for an investor in engaging with management commentary might be to deploy AI to dig into all that’s wrong with it…    

The opinions expressed are solely those of the author.