The corporate annual report is a kaleidoscopic mosaic: an ever-changing composite of disparate elements. Once little more than the carrier of a set of rudimentary financial accounts, these days it provides more complex and ever more regulated financial and corporate governance statements.

It also contains an accelerating proportion and sophistication of discretionary presentational words and pictures. From their beginnings as modest explanations and embellishments within the annual report, presentational aspects have, in many cases, virtually supplanted the accounting information in the financial reporting process.

A recent study, Words, pictures and intangibles in the corporate report, sponsored by the Institute of Chartered Accountants of Scotland, starts to address the importance of these presentational issues. The research includes all UK FTSE 100 companies, all the reporting documents they produced for one reporting year and a detailed examination of their contents, extending to 20,000 observations.

Intangible assets

The need to effectively communicate ‘intangible assets’ means the presentational aspects of company reports have never been more important. Intangible assets could include elements such as a company’s products, management or brand. It is believed by some financial commentators that when Procter & Gamble acquired Gillette in 2005 for $56bn (£28.4bn), up to 97% of the price was for Gillette’s intangible assets.

Traditional accounting does not adequately deal with the recognition, measurement and disclosure of intangible assets. Research suggests that companies resort to alternative ways of communicating these assets to investors through the use of discretionary words and pictures.

While words, and especially pictures, have traditionally been regarded by accountants as lightweight elements of the annual reporting package, it can be argued that they are heavyweight ingredients, both in the richness and variety of their messages, and in their potency.

Visual communication

Research in psychology has shown the importance of ‘framing’, and the special power of visual communication. The corporate world has not been slow to grasp this. The communicative power of graphical representations in financial reporting is well recognised. However, discretionary words and pictures now occupy much greater space than graphs in annual reports, and are arguably more powerful communication tools, yet their import has been neglected by the profession.

Discretionary words and pictures in the annual reporting package are here to stay. The past few years have also witnessed the increasing use of presentational material in the annual review document. Introduced in response to surveys of users’ needs and changes in company law in the UK, an increasing number of large companies now send this document to shareholders and other interested parties in place of the annual report. The annual review commonly devotes only a small part of its content to summary accounting statements and their graphical representation, amid a much greater proportion of narrative information, photographs and other creative design material than is usually included in the annual report.

Most strikingly, pictures constitute on average one-quarter of the annual review. The rapid increase in regulated disclosures has, paradoxically, resulted in their migration to a less circulated document produced primarily for filing purposes. Meanwhile, the discretionary material has gained pre-eminence in the more widely circulated annual review that has developed beyond the original notion of summary financial statements. Since research has shown that both lay and expert readers pay attention to this discretionary material, it is an issue to which accountants should be sensitive.

Presentation is everything

Companies have recognised the importance of communicating, rather than simply recording, their activities. Media and corporate communications departments commonly use websites and presentations in addition to annual reports to communicate with stakeholders. They are telling a story that goes beyond the bottom line. Accounting practitioners, regulators and researchers have lagged behind. They are inclined to side-step presentational issues to focus on the financial statements. Yet accountants should involve themselves in questions of communication and its potential for perception engineering.

Intangible assets have also become progressively more important to companies. Our research shows that there is a systematic link between intangible assets and presentational material. Companies, particularly those with high intangible values, are using presentational material to promote the intangible aspects of their business. It is well accepted that accounting for intangibles is cruder than for other assets, with the result that they are generally excluded from the accounts. It is also clear that companies are finding alternative ways of communicating such information to stakeholders.

At present, auditors vary in the degree of responsibility that they accept for such material in annual reports: while some report that they have reviewed the ‘other information’ for inconsistencies, others affirm that their opinion does not extend to ‘any other information’. Our research has not sought to examine the objectivity of individual cases, but has demonstrated that specific and systematic use is being made of the discretionary words and pictures. It should not be ignored any longer.

Fundamentally, these are all issues of communication. Accountants have traditionally not been eager to involve themselves in communication matters, but they should be wary of disassociating themselves from customs which are not a vogue, but an established trend.

Key recommendations

Discretionary words and pictures should be taken as seriously by policy makers as graphs;l Accountants’ training should include issues of communication and presentation,and they should be aware of the ways in which narrative and visual material can enrich the financial statementsl The reporting documents should clearly separate and identify discretionary and regulatory material.

For an executive summary of the report go to: http://www.icas.org.uk/site/cms/contentviewarticle.sp?article=5007

 Jane Davison is a senior lecturer in accounting at Royal Holloway College, London and is one of the authors of the ICAS report