In this blog post, Balaji AG, a qualified ACA, ICWA, ACS and CIMA (UK) Industry Consultant and a CFO of a Listed Company for over five years, and who is currently pursuing his Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata, analyzes the need for a responsive corporate reporting system in India.
Evolution of Corporate Reporting in India
Separate legal entity and its ability to raise funds from Public at large without yielding control of operations have paved the way for a corporate form of entity being the most preferred option for doing and scaling up businesses. This has also resulted in the need to communicate about the financial and non-financial information relating to the resources, actions, and performance of the company. In the context of increased economic market and regulatory pressures that corporates are faced with, corporate reporting system has gained significant focus.
Historically, Corporates focussed on providing information required under the statute under which they were incorporated, i.e., Companies Act, 1956 in respect of companies incorporated in India. These disclosures were typically required to be made in the Annual Report which is published by each company once in a year. With the evolution of Indian stock markets and increased participation of general public in investments in corporates, the demand for information started increasing. Stock exchanges through listing agreements sought disclosure of information in a more timely manner. Financial performance was required to be provided on a quarterly/half yearly basis. Further, price sensitive information was required to be disclosed immediately.
Post liberalization, with the influx of foreign institutional investors (FIIs) and corporates raising funds from outside of India, the demands of corporate reporting system has increased manifold. Global best practices and framework for corporate reporting became the guidelines for corporate reporting
Wide and Deep
The requirements of corporate reporting have been increasing horizontally and vertically. The regulations concerning corporate reporting arise principally from statute and accounting standards, with the listing requirements of Stock Exchanges being a further consideration for listed companies. Broad components of Annual Report include the following, Financial Statements with notes, Directors’ Report, and Auditors’ Report.
Financial Statements
Financial statements initially comprised of Profit & Loss Account, Balance Sheet, Schedules and Notes to Financial Statements. There have been continuous changes both under Company Law and the accounting standards. For that matter, both company law and accounting standards themselves have changed in recent years.
Disclosure requirements under Schedule VI of Companies Act have undergone continuous revision. There has been the addition of quantitative particulars about capacities, production, etc., the inclusion of cash flow statement as part of financial statements. In addition to this, a couple of years back the Schedule VI was revamped, and a revised Schedule VI was introduced. Under the Companies Act, 2013, the disclosure requirements are mainly covered under Schedule 3.
Accounting Standards determine the disclosures for the various types of economic events of entities. Accounting standards have undergone revisions resulting in changes in disclosure requirements. Fresh accounting standards have been issued providing guidance for new types of transactions/economic events. Recently, Ind AS, an entire set of accounting standards which are based on International Financial Reporting Standards have been made mandatory for listed companies with a net worth more than Rs. 500 crores. This brings in a significant change in disclosure requirements.
Directors’ Report
Directors’ report initially reviewed operational and financial performance. Companies Act has been introducing a lot of additional reporting requirements like Particulars of Employees drawing salary above a certain amount, details of energy conservation, technology absorption, foreign exchange earnings and outgo. In the recent years with lot of focus on corporate governance, Companies Act, and SEBI has introduced additional disclosures to be included as part of Directors’ Reports, like:
- Directors’ Responsibility Statement.
- Management Discussion and Analysis.
- Policy on nomination, remuneration, board diversity, evaluation and succession of Board members, key management personnel.
- Remuneration of Managerial Personnel.
- Internal Financial Controls concerning financial statements.
- Corporate Social Responsibility philosophy and projects, etc.
Auditors’ Report
Auditors’ report format has also undergone changes given Companies (Auditor’s Report) Order being amended at periodic intervals. Further, Auditors are required to report on Internal Financial Controls, Corporate Governance compliance, etc. Also, an auditor is now required to include his opinion on certain matters under Companies (Audit and Auditors) Rules 2014
Summary
From the above, it is clear that there is a significant increase in the range of matters to be reported to shareholders. It is also evident that the details required on matters reported have also been continuously expanding. This is only in respect of the annual report.
Apart from this, there are periodical disclosures to be made to stock exchanges regarding the listing agreement. Some of these disclosures are required to be published in newspapers. The main aspect of this relates to quarterly results and associated disclosures. Another important requirement of listing agreement is disclosure relating price sensitive information.
Voluntary Disclosures
Details about many new areas have been included in the annual reports of the major Indian Companies recently. This is given the voluntary effort on the part of companies to educate the shareholders to give a better insight of the management, operations, economy and prospects of the Corporation. These deal with:
- Management objectives and policies – The current trend in annual accounts is to impart more transparency by disclosing various corporate and management objectives and policies, analyses of financial conditions and prospects.
- Economic Value Added (EVA) – Extensive equity research has now established that it is not earnings per share, but the value which is important. EVA is a new concept being applied to understand and evaluate financial performance.
- Brand Value – It is becoming increasingly clear that intangible assets have a significant role in the growth of a company. Intangible assets which are created through research or acquired find a place in financial statements. However, a brand is much more than a trademark, or a logo is built over many years of operation. It is a trust mark of the promise of quality and authenticity that client can rely upon. The value of the corporate’s brand is not captured as part of financial statements. Some companies provide information on independent valuation of the brand.
- Human Resource Accounting – Service sector’s contribution to India’s GDP is significant. Non-human assets are recognized in the books of accounts whereas human assets are not recorded. The fact that intellectual capital is important and the valuable asset have been validly recognized. Valuation of the same popularly called as human resources accounting.
Responsive Corporate Reporting System
The current corporate reporting framework was largely established during the pre-liberalisation era. Subsequent changes to the reporting framework have been largely appended rather than integrated into a system that is now increasingly stressed and reliant on information provided outside of the mainstream financial reporting system.
Considering the humongous increase in corporate reporting requirements over the recent years, the system should be made comprehensive and integrated. While financial information would be an integral part and fulcrum of the overall corporate reporting system, it is essential to have a comprehensive Corporate Reporting System which also tracks the non-financial information essential for decision making and communication.
The environment in which the corporate reporting system operates has changed beyond all recognition, with the pace of change now increasing at a phenomenal rate. Globalization, unprecedented growth and giant leaps in technology present a whole new series of challenges to a fragmented reporting system. The way forward is not going to be any different. Given that these three key aspects are here to stay, the corporate reporting system should:
- Be able to deliver continuously increasing information requirements of the shareholders/investors in line with increasing complexity of the business environment.
- Be organized and structured so that it can anticipate and respond effectively to shifts in the business environment.
- Go beyond mere compliance with regulatory requirements and be used to build the corporate image, a leading example in Indian context would be “Infosys.”
- Be aligned with management reporting system. Rather, information management system should be built in such a manner that the information used for external reporting is effectively used in an internal decision-making process.
- support shareholder/investor decision-making.
The ability of corporate reporting system to evolve and meet business and society’s changing needs is an essential part of minimizing the threat of future systemic risk.
References:
- Companies Act 1956/2013
- Article – Recent Trends in Corporate Reporting – Akshay Gupta
- CIMA Global.com Article – The need for a responsive Corporate Reporting System
- The Corporate Reporting Practices in India – An Analysis – Dr. K Sudhakara Rao
