Financial Reporting and Disclosure

FIN 620

By
Dawit A Tariku

July 29, 2009

To

Dr. John M. Halstead

Contents

1
Abstract---------------------------------------------------------------------------------------------------------------3

Short Summary of the article--------------------------------------------------------------------------------------4

Introduction----------------------------------------------------------------------------------------------------------4

Why efficient and sufficient reporting, and how deep the disclosure should be? -------------------------6

What can be archived through financial report disclosure? --------------------------------------------------7

What can be avoided through financial report disclosure? ---------------------------------------------------8

The new reporting and disclosure and financial market-------------------------------------------------------8

Conclusion----------------------------------------------------------------------------------------------------------10

Exhibit---------------------------------------------------------------------------------------------------------------11

Bibliography-------------------------------------------------------------------------------------------------------12

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Abstract

The purpose of this research paper is to highlight the change coming in financial

reporting and disclosure requirement and its effect on the financial market. The paper is

written based on an article “CFOs Anticipate a Filing Crunch” on CFO.com dated on

August5, 2008 by Sarah Johnson. Ever since the emergence of the current financial

crisis, discussions in the professional community has focused on regulation and stream

lined financial disclosure and reporting. The question is how to find the solution to

alleviate the crisis and deter further and future crisis.

In the process, this paper will try to address issues related to financial reporting and

disclosure and its implication in the financial market taking into account the various

concern investors and analysts may have. The coming reporting format will also

challenge the traditional analysis methods and models used by Wall Street analysts.

Profits and operating incomes are considered to be misleading in assessing the financial

status of a company, therefore, analysts will in the future shifting their attention towards

cash flow statements which shows the actual financial activities of a firm.

How sufficient is sufficient reporting and disclosure, what can be achieved through

financial reporting and disclosure and what can be averted through financial reporting

and disclosure will be discussed.

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Short Summary of the Article

Financial Accounting Standards Board's is now working on a new format for

financial statements different from the current one. This new structure is structured

to focus on earnings of the future rather than historical facts and events of past

periods. The project is being designed to capturing all income-related information in

a single line. Some items such as gains and losses on cash-flow hedges, available-for-

sale securities, and foreign-were footnoting as other comprehensive income which is

going to change. (Sarah Johnson, 2008)

The others effort in the process is to redefine the notions of revenue and fair value.

The issue of fair value in the financial statements need to reflect the changes and where

the change coming from. (Sarah Johnson, 2008)

Companies will be required to disclose there segments to the same level of detail

as they currently report for the consolidated statements. The other major change in

the horizon is the elimination of net income by design, and the promotion of income

from operations though earnings per share computation are not defined. (Sarah

Johnson, 2008)

Introduction

Financial reporting and disclosure is the most important tool for users of financial

statements (inside and outside investors) to evaluate the performance of a firm through

various techniques of evaluation of financial statements. The information included in

financial reports and their disclosures provides managers with a tool to make critical

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decisions in capital markets. The new GAAP format which is simplified and informative

is an issue with in CFO’s, investors and other professionals who are dealing with the

capital market and Accounting reporting. The role of public financial statements is being

transformed from a simple document recording and reporting of the company’s financial

activities to a tool for analyses, compile and predict financial futures. In addition to

reporting and disclosing the financial status of affirm financial statements are now being

used as an explanation of the general business environment and management actions.

(Alex Stuart, 2008)

As mentioned earlier financial reporting and disclosure are potentially the framework

for analyzing managers’ reporting and disclosure decisions in a capital markets. The

availability of information is critical to the operation of efficient markets. The newly

evolving financial reporting and disclosure format is crafted in a way to address the issue

of lack of transparency which makes risk evaluation difficult to achieve efficient

outcomes particularly with regard to financing and investing. (Alix Stuart, 2008)

As proposed, the coming change will reorganize balance sheet and the income

statement to follow the three categories of the cash-flow statement which requires

companies to report cash flows with direct method; and introducing a new reconciliation

schedule that would highlight fair-value changes. This reconfiguration will increase

firm’s transparency and fulfill the efficient market hypothesis aiding investors to make

educated decision and managers to make strategic decisions. (Sarah Johnson, 2008)

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Why efficient and sufficient reporting, and how deep the disclosure

should be?

Be it non-profit or profit oriented organization, publicly traded or not the essence

of financial reporting and disclosure is the backbone of their operation, decision and

evaluation. When making capital decisions such as investing and financing, whether an

investor or a company's management need to have sufficient information to make

strategic decisions.

Financing decision to maximize shareholders benefit by increasing the value of a

firm is a way in which a company can inadvertently signal its prospects to investors.

Financial, managerial or market decisions are the reflection of an existing business

activity based on trend analysis to make prediction for the future. Here the most

important part of the analysis process is the future. The future depends the past

occurrences, business culture and business environment shows how business is conducted

in the firm. As very well known external factors like systemic risk are beyond the control

of individual firm that firms have to make them selves ready for such a situation through

decisions that keep firms liquid. On the other hand, other risks (un-systemic risk) which

can come from bad management decisions are manageable through diversification. But,

to make diversification, decision makers and analysts need reliable information. Reliable

information comes through accurate evaluation, valuation, timely information and

transparency to financial statement users. Transparency comes through proper reporting

and most importantly through disclosure. Disclosure justifies unusual occurrences,

changes to be noticed, and clarification to events mostly focusing on nonfinancial aspects

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of the firm. Nonfinancial aspects such as legal issues, related party transaction and the

company board meeting minutes are as important as financial reports. The newly coming

reporting format is being designed keeping this in mind.

What can be archived through financial report disclosure?

The very life of financial market relies on the availability of information to make

decisions as to how to invest, finance and manage resources in general. Obviously,

financial analysts, regulators, investors and business decision makers are in their highest

demand for high-quality financial reporting, since the quality of financial reporting

directly affects capital markets. The success of capital financing and investing decision is

directly dependent on the quality of accounting and disclosure information availability.

The higher the quality of the disclosure the higher the investor’s confidence. Efficient

market can only be achieved through the availability of private, public and insider

information. If all stakeholders, the public, private and insider information is available

through reporting and disclosure we will have an efficient market which will be fair to the

active and non-active participants.

Some of the benefits of efficient and sufficient financial reporting and disclosure that the

new format will provide better than the traditional reporting are:

1 Properly reported and disclosed financial statement will Facilitates

Mergers and Acquisitions by providing the necessary information for
investors and managers

2 Given information is reported and disclosed sufficiently, the Market will

reflect fair price to make decision on Warrants, Convertibles, and
Derivatives by both investors and managers.

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 3 Leasing and option decision by either investors or management will be
done with relative confidence. Confidence comes from reliable and timely
information when needed.

What can be avoided through financial report disclosure?

The lack of information or inadequate reporting and disclosure will lead to wrong

decisions. Investors and management of firms’ will make bad business decision of the

following type in the absence of sufficient and efficient financial reporting and disclosure

which the new format is hopped to help:

1 In the absence of sufficient information businesses or investors will make

decisions on Long Term Debt that may lead the business to bankruptcy.

2 Information is critical in investment and financing decisions. Wrong or

insufficient information will lead to wrong decision.

3 APV, NPV, WACC, etc decisions depend partly on outside or market

information.

4 Warrants, Convertibles, and Derivatives will be transparent

The new reporting and disclosure and financial market.

It is high time to revise the accounting reporting system so that Accounting, Finance

professionals and Investors avoiding controversy which data to use, how to use it and

when with out difference in using the output. The value of reported earnings should

provide the market with more relevant valuation information and accelerate the process

of absorption of that information into prices. (Jeffrey. M., et al, 2009) A standardized

financial report focusing on showing the true nature of firms’ activity evidencing for easy

comparison and correction when errors are made is needed. In the era of information

abundance and easy distribution the data firms produce need to be easy to read,

understand, interpret and compare with in or across the market. (Andrew J., et al, 2008).

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 Thus, the efficient use of information in the capital markets by creating market

efficiency. The proposed new model will provide investors and analysts with more

information for predicting future cash flows. The new reporting standard reconciles the

cash flow statement to the statement of comprehensive income in three reconciling

columns. (Jeffrey. M., et al, 2009). The proposed financial statements are supposed to

help predict cash flows for equity valuation. The goal of the new standard is to create a

common standard for the form, content, classification, aggregation and display of line

items on the face of financial statements. It would also help equity investors and other

financial statement users to better understand a business's past and present financial

position and assess potential future cash flow. (Andrew J., et al, 2008). A complete set of

financial statements for a reporting period should include a statement of financial

position, a statement of comprehensive income, a statement of changes in equity and a

statement of cash flows. In addition, each financial statement should be shown with equal

prominence, and a minimum of two years comparative information is required. (Guy

MCClain etal2008).

The topics covered in FIN 620 significantly use financial and market information of

hypothetical firms. The information used to do exercises and discussion is provided based

on a hypothetical firm financial reporting and disclosure. Therefore, we have learned a

great deal of the importance of information in doing analytical decision and discussions.

Conclusion
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 The significant importance of financial reporting and disclosure in investment or

management decision making is undoubtedly very important. The dynamics of financial

market has changed so much with accelerated advancement of information technology.

The financial reporting and disclosure should catch-up with the changing environment.

The availability of information makes the market efficient. In an efficient market

information is unbiased and evenly distributed to its users. The information mentioned

here comes in the form of financial reporting, disclosure, news and press release.

Focusing more on financial reporting and disclosure, the tradition reporting and

disclosure is now becoming irrelevant. Net income is the focal point where the change

revolves around. Relying on net income is misleading rather operating income need to be

used. Fair value is another issue given emphasis. Disclosure also will change in such a

way that it discloses more information than it used to. Overall, the purpose of the new

format is to produce sufficient and efficient report and deep disclosure which greatly

provides ample and clear information about individual firms or the general economy.

Systemic risk will be managed better and un-systemic risk could possibly be avoided.

The format is summarized as follow:

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 Source: (Andrew J., et al, 2008).

Bibliography

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2 McClain, G., & McLelland, A. J. (n.d.). Shaking Up Financial Statement

Presentation. Retrieved August 1, 2009, from
http://www.journalofaccountancy.com/Issues/2008/Nov/ShakingUpFinan
cialStatementPre

3 Planning now for a 2010 IPO. | Banking & Finance > Financial Markets
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6 Albrecht, C. O., Albrecht, C. C., & Albrecht, W. S. (2005). Fraud

Examination. Mason, OH: South-Western College Pub.

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