Reading company financial statements in 2016 is not as easy as it was in the past. Modern financial statements for any public company often exceed 100 pages of financial tables, statements by auditors, disclosures and management commentary. Although the wealth of information available to the public in these pages is enormous, untrained readers can find it extremely difficult to decipher the essential information they seek from a company's financial statement. Here are just four reasons that financial statements in 2016 are more complicated to read than ever.
Use of Non-GAAP Performance Measures
Historically, the Financial Accounting Standards Board (FASB) has set the rules for company financial statements with technical support and detailed guidelines issued by the American Institute of Certified Public Accountants (AICPA). The codification of that guidance is referred to as Generally Accepted Accounting Principles (GAAP) and is intended to create uniformed financial reporting across different companies. These rules dictate how each line item on a financial statement is to be calculated and presented and what, if any, additional information must be disclosed in the financial statements. However, since readers and users alike often find GAAP financial statements arduous to prepare and read, other Non-GAAP measures are frequently given to refer to a company's performance. For example, EBITDA is often presented as a key figure indicating the profitability of a company's performance, but because it is non-GAAP, the reader must understand that one company's EBITDA may not be calculated exactly the same as that of another company.
Prevalence of Companies in Foreign Countries and Currencies
As globalization has progressed, operating abroad has become the norm rather than the exception. However, understanding how foreign currencies may impact a financial statement can be complicated. Companies often use constant currencies, which are intended to show performance without the impact of currency fluctuation from activities abroad, to calculate performance measures. These calculations and measurements are most often non-GAAP. Also, currency fluctuations do impact a company's financial well-being and should be understood by the financial statement reader. However, when many countries and currencies are involved, this may feel impossible without a sizable time and research investment. The trend of U.S. companies operating or selling overseas is certainly not new, but it continues to grow each new year as companies are pushing into lesser developed countries, further adding complexity to their financial data.
Increase in GAAP Requirements
Further complicating financial statements is the fact that GAAP is constantly being expanded to include more specific rules and more detailed disclosures. An example of this is the simple fact that PWC's 2014 Financial Statement Presentation guide for 2014 was 997 pages, and it frequently refers to other guides for direction on certain types of transactions and disclosures. While each additional financial reporting requirement is intended to provide more information to the public, it has ballooned financial statements into massive documents bulging with technical information.
For example, it's not uncommon for a public company's disclosure on its pension or defined contribution plans to be five pages long. This has occurred because of several updated disclosure requirements, the most recent of which was approved by FASB in 2012 and implemented in subsequent years. It may require a certified public accountant (CPA) or actuary to interpret these disclosures and provide that information to someone who simply wants to know the financial state of a company's benefit plans.
Mergers and Acquisitions
Another trend that has made financial statements issued in 2016 harder to interpret is the consolidation of smaller firms into larger firms. Increased compliance costs and other economic factors have led many industries to consolidate into fewer firms over recent years. The Dodd-Frank Wall Street Reform and Consumer Protection Act was passed in 2010, after the financial turmoil in 2008, and began enforcement in the following years. Although many tout this act as a victory for consumer protection, it is also clear that its compliance requirements have led to significant consolidation of firms in the banking industry.
When a company buys another, the accounting and financial statement presentation to combine their reporting is extremely complex. This can make it difficult to understand exactly how an acquisition has helped or harmed a company's performance. The smaller company's performance is rolled together with that of the larger organization and consolidated into one entity. Furthermore, the transactions themselves have become more complicated, often including complex debt or equity financing structures that are not easily understood.
Hope for Simplification in the Future
Although financial statements in 2016 are more complex than they used to be, the regulators and standard setters also seem to agree that simplification is needed. In 2013, the AICPA published a non-GAAP alternative financial reporting framework which certain small- to medium-sized private companies may now follow instead of using the full GAAP requirements. In December 2013, the SEC created a commission to review all public reporting requirements for simplification, and in June 2014, FASB launched a Simplification Initiative, as well. All of these initiatives take years to fully develop and become adopted by companies issuing financial statements, but there does appear to be hope for less complexity in the future.