CFA UK annual survey on Financial Reporting and Analysis The Financial Reporting and Analysis Committee devised a survey to investigate the

accounting concerns of the members of the CFA Society of the UK. The inaugural survey

was conducted between 25 March and 27 April 2015 and received a total of 292

responses.

Executive summary

Our survey sought CFA UK member views on a range of key reporting and accounting

matters. These covered the importance of the annual report and other forms of company

reporting, as well as perspectives on adjustments to IFRS numbers and issues with IFRS

accounts.

A persistent theme in the comments of participants was the “creep of seemingly

unproductive and irrelevant content” in annual reports. Most respondents indicate that

financial reports contain too much irrelevant information, yet suggest that at the same

time they omit important information. However, most agreed that the quality of financial

reporting hasimproved over the last 10 years.

The frequency of reporting has become an issue of debate with many (including, for

example John Kay in his Reviewof UK Equity Marketsand Long-Term Decision Making for

the Department of Business) arguing that quarterly reporting drives short-termism. Our

survey respondents were evenly split between those who favoured quarterly reporting and

those happy with just semi-annual with both options receiving 43% of the votes. The

remainder was split between those happy with just annual financial reports – making a

very slim majority overall favouring reporting less frequent than quarterly – and those at

the other end of the spectrum, who favoured increasing the reporting frequency to

monthly.

We asked participants what was their main source of financial information for analysing

companies and, contrary to frequent assertions that the annual report is irrelevant, the

statutory accounts were the most popular choice,at36%. Some respondents commented

that quarterly reports lack the level of detail seen inannual reports. However, at the same

time we received several comments that annual reports had “evolved into a corporate

brochure and regulatory box ticking exercise”. The area of the annual report that shows

greatest need for improvement is – by a considerable margin according to our respondents

–the disclosure of principal risks and uncertainties. Given that over 90% think this is a

useful disclosure this is clearly an area which deserves more attention from companies,

and perhaps also from regulators.

Non-GAAP reporting (also referred to as adjusted earnings measures, eg underlying or

recurring profits) remains a contentious issue. In our survey, 61% of respondents said

they use IFRS adjusted numbers in their analysis. However, only a third of respondents

say they that prefer non-IFRS measures over IFRS, with over half trusting the IFRS

numbers more. Some respondents commented that the management version of adjusted

earnings was useful “so long as the adjustments are disclosed”.One respondent noted that

even if the IFRS figures are subject to manipulation “seeing what management does to the

accounts through adjustments … is useful to see how transparent and honest they are”.

However, several respondents are not comfortable with management‟s adjusted figures

“because they tend to be inconsistent over time and across companies”. When asked to

consider which items should be excluded from IFRS figures to arrive at a measure of

underlying earnings, the majority of respondents were against exclusion of any the items

we had suggested. Two-thirds of respondents favour looking at both IFRS and adjusted

numbers as the combination of the two offers greater insights into the company and its

management.

Overall the biggest concerns that respondents have with regard to financial reporting are

in the following areas:

The abuse of non-GAAP/IFRS adjusted earnings measures

Excessive and redundant information in financial reporting

Fair value movements obscuring underlying earnings measures

Excessive focus on the income statement and not good enough disclosure of cash

flows

Poor disclosure of off-balance sheet exposures

Question 1: How useful do you generally find the following sections

of annual reports?

Respondents consider the financial statements (income statement, balance sheet, cash

flow statement) to be the most useful part of annual reports with 88% of respondents

opting for “Very” and 10% for “Somewhat” useful. This isfollowed by the CEO‟s review

(55% Very, 38% Somewhat), CFO‟s review (53%, 39%) and the principal risks disclosure

(47%, 44%). The Chairman‟s statement scored less well with just 33% finding it “Very”

useful and 17% considering it “Not at all” useful.

The weakest result, however, was for the Ethics report, which just 13% of respondents

find “Very” useful while 35% consider it “Not at all” useful.

In the free comment box several respondents highlighted the notes to the accounts and

the segmental analysis as important sections we had not included in the list. A number of

respondents noted the “creep of seemingly unproductive and irrelevant content continues”

and also called for “more and better disclosure” with “more clarity”.

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How useful do you generally find the following sections of annual reports?

Very

Somewhat

Not at all

Question 2: In which two of the following areas of annual reports

do you generally think there is the greatest need for improvement?

The section which respondents thinkgenerally has the greatest need for improvement

is“Principal risks and uncertainties” with 47% of respondents selecting this option. This

isfollowed by the “Financial statements” with 32% of the vote. The sections that

areconsidered least in need of improvement arethe CEO‟s and CFO‟s reviews –two of the

three most important parts of the annual report according to responses toQuestion 1. The

low vote for “Ethics committee report” in Questions 1and 2indicatesthat respondents do

not consider it important and are not interested in seeing it improved.

In the free comment box respondents again highlighted the notes to the financial

statements. One respondent noted how these “have grown exponentially – I am always

concerned as to what has been hidden in plain sight”. Another wrote that “often they are

opaque or presented inconsistently from year to year”.

There were also a number of comments about boilerplate language used in annual reports,

such as: “Annual reports now contain huge amounts of regulatory-induced useless

garbage”. Another respondent noted “Risks and uncertainties has become a general legal

tick-box exercise to note every risk and worst case rather than more bespoke review of

the firm‟s real current risks and smaller range of impacts.”

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In which two of the following areas of annual reports do you generally think there is the greatest need for improvement?

Question 3: How far into the future do you typically forecast

company financial performance?

Of our respondents, nearly 80% seek to forecast financial performance for 3 or more

years, with 47% forecastingon a 3 year horizon and 32% forecasting for longer than this.

In contrast,just 3% of respondents saytheir company financial forecasts arefor less than 1

year, and 18% forecast for a singleyear.

In the free comment box a number of respondents note they used a 5 year forecast

period. However, there were some sceptics including one who wrote “forecasting is often a

mug‟s game” and another who wrote “beyond 1 year is a waste of time but people still

try....”.

Less than 1 year

1 year

3 years

More

How far into the future do you typically forecast company financial performance?

Question 4: For what time horizon are your investment

recommendations made?

As with the previous question, the results here indicate a longer-term perspective is taken

than is generally assumed. Just 14% of respondents indicate thattheir investment horizon

isless than 1 year, 31% saya year, 26% say 3 years and 29% havea time horizon of more

than 3 years. It is interesting to note that while 79% of respondents forecast company

financial performance for 3 years or more (Question 3), only 55% havean investment

horizon of three years or more. There is a discrepancy between the time horizons of buy-

and sell-side analysts: only 35% of sell-side respondents look out 3 or more years, while

well over half of the buy-side (who form the bulk of respondents – see Question 13) do.

The free comment box showeda mix of responses with many noting a 3- to 5-year horizon

withsome indicating a horizon of 6 to 12 months iscommonplace.

One quarter

6 months

1 year

3 years

More

For what time horizon are your investment recommendations made?

Question 5: With what frequency do you think public companies

should report their results?

This is a live issue currently given that the requirement for interim management

statements for the first and third fiscal quarters was recently withdrawn in the UK. Many

companies continue to report quarterly results voluntarily or because of US listing

requirements; the results of our survey offer some encouragement for maintaining

quarterly reporting, but a slim majority would be supportive of this being less

frequent.Nearly 5% of respondents would like companies to report results on a monthly

basis, 43% support quarterly, 43% opted for semi-annually and 9% would be happy with

only annual reporting.

The free comments were mixed. One participant noted: “More frequent reporting is a

distraction, and fosters short-termism in the market”. Another agreed that “Monthly or

quarterly reporting is excessive and diverts management focus from running the business

towards managing the share price”. However, quarterly reporting still has its fans. One

respondent argued that“Quarterly reporting makes it harder to manipulate the numbers”.

Another stated: “I was happy with shorter interim management statements at 3 and 9

months. Six months is a long time to go without a mandatory update.”

Monthly

Quarterly

Semi annually

Annually

With what frequency do you think public companies should report their results?

Question 6: To what extent do you agree with the following

statements?

Most participants either agree or strongly agree with all three statements i.e.there seems

a strong consensus that financial reports both contain too much irrelevant information yet

omit important information. However, the strongest response of all saw71% agreeingthat

the quality of financial reporting hasimproved over the last 10 years.

There was a wide range of comments for this question. One respondent wrote: “IFRS has

been the biggest improvement (but has its own set of problems)”. Another observed: “I

dislike the trend of presenting non-statutory financial data ahead of the statutory numbers

or trying to pass it off as some more accurate picture of the business.”

Question 7: What irrelevant information do you often come across

in financial reports and what useful information is missing?? We received over 50 responses to this optional question, many on the topic of segment

reporting where further information onrevenue, profit and cash flow breakdown is sought.

There were also many comments suggesting annual reports have“evolved into a corporate

brochure and regulatory box ticking exercise”. Another respondent noted: “Most of it is

irrelevant. Useful things are the primary risks faced that get under-reported if reported at

all. Auditors are to blame for not focussing more on quality over quantity.”

22% 19% 12%

19% 26%

17%

60% 55%71%

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The majority of financial reports contain large amounts of irrelevant

information

The majority of financial reports omit important information about the company’s financial

performance and position

In general the quality of financial reporting has improved over the past

10 years

To what extent do you agree with the following statements?

Agree

Neutral

Disagree

Question 8: Do you routinely use the IFRS adjusted numbers

reported by management in your analysis?

Slightly over 60% of respondents said they use IFRS adjusted numbers (eg underlying

earnings) in their analysis.

In the comment box several respondents noted they made their own adjustments to IFRS

earnings but that the management version of adjusted earnings isuseful for a “quick

glance on reporting”. Others noted that they were comfortable with management-provided

adjusted numbers, “so long as the adjustments are disclosed”.However, many respondents

arenot comfortable with management‟s adjusted figures “because they tend to be

inconsistent over time and across companies”.Several respondentsexpresseda preference

for cash flow analysis over earnings.

Yes, 61%No, 39%

The majority of companies use IFRS adjusted numbers (eg underlying earnings) to communicate elements of their performance. Do you routinely use

the adjusted numbers reported by management in your analysis?

Question 9: To what extent do you agree with the following

statements?

Around two thirds of participants agree that having both IFRS and non-IFRS numbers

isuseful – with the commentary indicating that this allows greater insight into the company

and into management‟s approach. Just under 60% find it easier to compare IFRS numbers

across companies, and a similar percentage trust IFRS numbers more than non-IFRS. Only

one-third of respondents prefer the non-IFRS measures over IFRS, with nearly half neutral

on this point.

There were a number of sceptical comments about non-IFRS figures. One respondent

noted: “Management have an incentive to make their accounts obscure, release as little

information as possible, and select the most favourable light in which to portray their

company. This makes rules absolutely vital.” However, others noted that even if the IFRS

figures are subject to manipulation “seeing what management does to the accounts

through adjustments e.g. what they term a one-off event is useful to see how transparent

and honest they are”.

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120%

I prefer the non-GAAP measures

as they give more insight into

performance

I trust IFRS/GAAP

numbers more than adjusted

numbers

It is easier to compare

IFRS/GAAP numbers across

companies

Having both sets of numbers gives me greater scope to “kick the tyres”

To what extent do you agree with the following statements?

Disagree

Neutral

Agree

Question 10: Which of these items do you believe it is appropriate

to exclude from IFRS figures to arrive at a measure of underlying

earnings?

Respondents are not generally keen on excluding any of the listed items to arrive at an adjusted measure of underlying earnings – a majority favouring inclusion in earnings for each of the numbers flagged in our question. The most popular choice

is“revaluation of contingent consideration” with 46% in favour of excluding it, and a similar number are willing to see the exclusion of gains or losses on disposals.

The least popular choice isshare-based compensation which only 20% thinkshould be excluded from underlying earnings.

Several participants commented that the key with adjusted earnings measures isthe transparency and consistency of the adjustments. One respondent noted:

“as long as clearly disclosed I don‟t mind as I can make own adjustments”.

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Which of these items do you believe it is appropriate to exclude from IFRS figures to arrive at a measure of underlying earnings?

Exclude

Include

Question 11: How useful do you generally find these methods for

valuing assets?

Over 80% of respondents find fair value either useful or very useful. In contrast,

only 13% of respondents declare historical cost to be very useful while 30% consider it useful. Having said that, most comments reflected a desire for the disclosure of both valuation metrics, though both are regarded as having

shortcomings.

One respondent noted that fair value is“a number that you pay a 3rd party to

provide for you, to your specifications …. Historical cost has many virtues, not least reflecting cash movements, and its removal is causing enormous problems.”

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30%

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50%

60%

70%

80%

90%

100%

Fair value (ie current market price) Historical cost (with impairments as required)

How useful do you generally find these methods for valuing assets?

1 (Very useful)

2

3

4

5 (Useless)

Question 12: What are the biggest current problems in financial

reporting that can obscure your understanding of company

performance? This open question received 49 responses which can be broadly categorised as follows:

Adjusted earnings: several respondents lament companies‟ abuse of non-GAAP reporting which one suggests introduces additional uncertainty around valuations.

Performance reporting: a number of responses complain that large fair value movements obscure the underlying operating performance.

Excessive and redundant information: several respondents note that financial

reports contain too much information about irrelevant matters that obscures the more important issues.

Excessive focus on EPS: a number of participants note that financial reporting placestoo much emphasis on the income statement and that better reporting of

cash flow performance and return on capital employed is needed.

Off-balance sheet items: some participants note that disclosures around off-balance sheet exposures are still not good enough.

Question 13: How would you describe your role? The majority (62%) of respondents identifythemselves as being on the “buy side”.

A further 17% are“sell side” while the remainder mainly comprises consultants, preparers, accountants and credit analysts.

Buy side62%

Sell side17%

Other21%

How would you describe your role?

Question 14: What asset classes do you focus on?

Respondents were asked what asset classes they focus on with multiple selections being possible. The majority (73%) of respondents saythey areequity-focussed, 40% aredebt-focussed and 19% cited other asset classes. On average

respondents selected 1.3 options (e.g. equity and debt).

Other asset classes cited were property, commodities, derivatives and currencies, among others.

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60%

70%

80%

Equity Fixed income Other

What asset classes do you focus on?

Question 15: To what extent is security analysis part of your

current role?

Just over a quarter (27%) of respondents say that security analysis isan integral

part of their role. Just under a fifth sayit isan important part of their role that they engage in a least once a week. A quarter saysecurity analysisisrelated to their role but they rarely perform it themselves. Just under a fifthsaythey use but donot

perform security analysis. The remainder, 11%, donot use or perform any security analysis.

It is an integral part of my role

and I undertake it daily.27%

It is an important part of my role

and I am involved in it at least

weekly.18%

Security analysis is related to my role, but I rarely

undertake it myself.

25%

I use security analysis, but don’t

perform it.19%

I neither perform nor use security

analysis11%

To what extent is security analysis part of your current role?

Question 16: How often do you use the financial information

provided directly by the company? Information on companies‟ financial performance can be found through „indirect‟ sources, such as Bloomberg, sell-side reports etc. or directly from the company

e.g. through annual reports, interim reporting, investor presentations, and so on. We asked participants how often they use the financial information provided

directly by the company. Just under 20% saythey use this information daily, 28% at least weekly, and 36% at least monthly. Just under a fifth saythey rarely use financial information reported directly by management.

At least daily19%

At least weekly28%At least monthly

37%

I rarely rely on the financial

information reported directly by management

16%

How often do you use the financial information provided directly by the company?

Question 17: Which is your main source of financial information for

analysing companies? The most popular source of financial information among our participants isthe annual report (36%), closely followed by databases such as Bloomberg. Just

under a fifth cite quarterly or interim reports as their main source while 11% rely mainly onsell-side research.

A number of participants comment that they use all of the sources listed as well as SEC filings, presentation slides, survey data, etc. One participant notesthat the

annual report containsmore information than the quarterlies, especially if companies have to produce an SEC filing.

Annual reports36%

Quarterly/interim reports

19%

Sell-side research reports

11%

Databases (Bloomberg, etc)

34%

Which is your main source of financial information for analysing companies?

About CFA UK and CFA Institute

The CFA Society of the UK (CFA UK) represents the interests of more than 10,000 leading members of the UK investment profession. The society, which was founded in 1955, is one of the largest member societies of CFA Institute and is committed to leading the development of the investment profession through the promotion of the highest ethical standards and through the provision of continuing education, advocacy, information and career support on behalf of its members. Most CFA

UK members have earned the Chartered Financial Analyst® (CFA®) designation, or are candidates registered in CFA Institute‟s CFA Program. Both members and candidates attest to adhere to CFA Institute‟s Code of Ethics and Standards of Professional Conduct. CFA Institute is the global association for investment professionals. It administers the CFA and CIPM curriculum and exam programs worldwide; publishes research; conducts professional development

programs; and sets voluntary, ethics-based professional and performance-reporting standards for

the investment industry. CFA Institute has more than 100,000 members in 140 countries, of which more than 90,000 hold the Chartered Financial Analyst (CFA) designation.