Company Reporting - Telling it like it is

Annual reports are getting bigger, but not necessarily better. Asf the pound, and FRS10 on goodwill seeks allies. their pages expand to accommodate remuneration committee reports, operating and financial reviews (OFRs) and the like, many are full of accounting and business jargon and unexplained references to regulatory requirements.

Two companies this month make their stands: Stakis, against jargon, and YJ Lovell, against unnecessary length.

In its accounting policies note, Stakis adds narrative that explains in plain English why certain policies have been adopted, what they entail and how they may evolve in future, given the present work of the Accounting Standards Board.

It provides also a glossary of terms that are used throughout the financial statements, giving understandable definitions of accounting terms and jargon used in the hotel and gaming businesses. It would be a positive development if other companies were to follow Stakis’ lead in this respect.

While Stakis adds extra information to help the reader understand its annual report better, construction company YJ Lovell takes a different approach and attempts to rid its accounts of superfluous and duplicated information.

The company has resolved to cut the size of its accounts to a set number of pages. One victim of this decision is the company’s financial review, which is dropped this year. YJ Lovell tells us that any valuable information that was previously located in the financial review is now contained in other sections of the report.

Innovative treatment of hedges

Many companies in the past year or so have made mention of the adverse effect that the rising pound has had on their reported earnings. This month, we report on two companies that have had the foresight to hedge the results of their overseas operations against the surge in sterling.

Both take innovative steps to incorporate their hedges into their profit and loss accounts.

Compass goes into some detail about the mechanics of its hedge, in a clear narrative. The company hedges its cash flows from foreign operations using borrowings and swaps in the same currency. Compass allocates a part of its foreign currency borrowings to a hedge against movements in the average exchange rate for the period, as this is the rate at which foreign earnings are translated. Exchange rate differences on this amount are taken to the profit and loss account, which should negate the effect of volatile exchange rates.

Airtours goes further and translates the results of some overseas subsidiaries at hedged rates. Although not providing as much information as Compass, Airtours discloses its approach in its accounting policies note. With this interpretation of SSAP 20 foreign currency translation, Airtours aims to provide a profit and loss account that is a better reflection of the effects of its treasury policy.

Mixed responses to new creditor days regulation

YJ Lovell illustrates the flaw inherent in the new requirement to disclose the average number of days credit outstanding at the end of the year.

Because the legislation requires disclosure in terms of a company rather than a group as a whole, and YJ Lovell is a holding company with no trade creditors, the accounts state that the amount owed to trade creditors at the end of the year was nil.

Airtours takes a more progressive approach. While following regulations to the letter by supplying the number of creditor days outstanding in respect of the company, it augments this figure by also disclosing the same information in relation to the group as a whole and the range of days’ credit taken by members of the group. If more companies follow suit, the spirit of this regulation may yet overcome its weak drafting.

New FRS not proving too popular

We usually find that early adoption is the sign of a welcome standard; on this basis, FRS10 goodwill and intangible assets does not seem to have been received particularly well. Although FRS10 is not yet effective, it follows closely the long-standing proposal of FRED 12 goodwill and intangible assets that purchased goodwill be capitalised. There is nothing to stop companies adopting this approach early, as capitalisation is permitted by SSAP 22 accounting for goodwill (which will be superseded by FRS10 on its effective date). Nevertheless, companies appear to be hanging on until the last possible minute before changing policy – only 5% of accounts published in the past 12 months have evidence of capitalised goodwill.

Two companies this month have changed their policy with regards to their treatment of goodwill, but neither has adopted a stance that will please the drafters of FRS10.

Both Chrysalis Communications and investment company SEC continue to write off goodwill to reserves, but each has selected a different reserve to receive it. Chrysalis has created a dedicated goodwill reserve, whereas SEC moves in the opposite direction, closing down its goodwill reserve and utilising instead the profit and loss reserve.

Under FRS10, any goodwill eliminated previously that is left in reserves may not be shown in a separate goodwill reserve on the balance sheet.

FRS10 is not effective until accounting periods ending on or after 23 December 1998, and Airtours is another company that accounts for goodwill in a manner that conflicts with its pending requirements. As shown in its fair value table, an associated undertaking of Airtours acquired a subsidiary.

Negative goodwill arose on the transaction and Airtours wrote off its share to reserves. This particular feat is not one that can be repeated in the future because FRS10 will require negative goodwill to be capitalised and disclosed separately on the face of the balance sheet.

Asset revaluations losing their appeal

In recent months we have suggested that the general thrust of the Accounting Standards Board’s work may result in a move away from the revaluing of assets. This month, we find further evidence that this may be the case.

Last year’s fixed asset schedule of construction company Bellway included land and buildings at 1979 and 1985 valuations. During this year, however, all revalued assets have been disposed of and the schedule shows that net book values now all equate to historical cost less accumulated depreciation.

Analysis of our database shows that 72% of accounts published in the past three months had a stated policy of modified historical cost, whereas for the corresponding period in 1996/1997 the figure stood at 77%.

Perhaps the proposals outlined in FRED 15 impairment of fixed assets and goodwill and FRED 17 measurement of tangible fixed assets are making companies think twice about embarking on new revaluation regimes.

Issue of the month

With a full FRS on impairments just around the corner, our issue of the month examines current practice in this area. We find that only 8% of accounts have evidence of impairments, a level that may well increase as and when mandatory impairment reviews are introduced and the different accounting treatment of temporary and permanent impairments is dropped.

We find there is little or no evidence of companies taking the FRED 15 impairments of fixed assets and goodwill approach of searching for impairments on an income-generating unit basis, and any forthcoming FRS may be based more on academic and theoretical models.

This is an edited version of the review published in Company Reporting, a monthly publication monitoring financial reporting practices in the UK. Company Reporting is available on subscription. Details from Company Reporting, 0131 558 1400.