Disclosure
Derek Deonarain, Robbie Glenn, Mike Oudyk, Kyle Robinson
S
Videos
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CICA 1400
General Standards of Financial
Statement Presentation
S Fair presentation, in accordance with GAAP for financial
statements and note disclosures
S Provide information on financial position, operations, and cash
flows that are necessary in decision making
S Information should be clear and understandable
S Assess the going concern of the company
S Statements should be comparative
CICA 1505
Disclosure of Accounting Policies
S To increase usefulness of accounting information policies must
be disclosed in a clear and concise manner
S Policies to be disclosed
S Those that are significant to the companies operation
S Policies where judgment has been exercised
S Peculiar policies
S When selecting an acceptable alternative policy
IFRS (IAS 1) Comparison
S Both CICA 1400 and 1505 are considered under IAS 1
S IAS 1 has a few additions and changes from CICA 1400 and
1505
IFRS (IAS 1) Comparison – CICA
1400
S Differences are:
S IAS allows departure from standards when the relevant
regulatory framework permits or requires it
S Statement of retained earning not required, Statement of
Changes in Equity is required
S Cannot omit comparative information even if considered not
meaningful
IFRS (IAS 1) Comparison – CICA
1505
S Differences are:
S Requires disclosure of judgments made in applying accounting
policies
S Required disclosure of assumptions on certain Canadian
standards on individual financial items
7 Steps for Better
Disclosure
S
Increasing Investor Demands
S Many people make investments through stock exchanges and rely on
corporate disclosure to make their investment decisions
S Disclosure must begin to provide not only quantitative data but
qualitative data as well
S Investors are demanding real-time value added disclosures, which
puts increased responsibility on public companies
Why?
S Good disclosure can reduce uncertainty and improve share valuation
while poor disclosure could negatively impact a companies reputation
The MD&A
Investors rely on MD&A to learn about:
S Historical and recent results
S Financial conditions and future prospects, plans and
opportunities
S Exposures to risks and uncertainties
S Past trends that are indicative of future performance
Current MD&A Issues
S Poor performance is rarely discussed or significantly
downplayed
S Positive matters are overemphasized
S Liquidity and capital resources are described as static
elements
S The future is scantily described
Why Issues Arise
S Raising capital during recession is quite difficult – thus
management is careful how to report bad news
S Financial statements have become more complex and harder to
understand yet many companies take a “boiler plate” (the same
year to year) approach to MD&A reporting
S Until recently Canada has had a limited regulatory involvement
with the MD&A due to resource limitations at the OSC
S The focus has been on regulatory filings however this does not
guarantee the firm meets MD&A regulatory expectations
The Need for Better MD&A
Disclosure
S SEC Message: “Corporate management and Wall Street
need to undergo a wholesale cultural change, rewarding
those who practice greater transparency and punishing those
who do not… In an attempt to meet Wall Street earnings
expectations, those involved in the financial reporting
process may be overriding common sense business
practices”
S Executives are now being held liable if flawed reporting can
be attributed to any of their actions
7 Steps to Better Disclosure
Public companies would do well to consider the following
suggestions:
1.
2.
3.
4.
5.
6.
7.
Avoid Boiler Plate Disclosure
Clear Communication
Provide Forward Looking Information
Reconsider Static Disclosures
Segmented Disclosure
Ensure Accountability
Develop Proactive Processes
Avoid Boiler Plate Disclosure
S Need for information that provides explanations not merely
calculations that investors can perform themselves
S It would be useful for management to provide investors with
guidance as to what items will have the most significant
impacts on profits and future performance
S This includes identifying both market and firm specific factors
that impacted performance
Clear Communication
S Companies should not forecast only bad news and
selectively disclose a few positive events
S Companies should communicate events that are under their
control and those that are not
S If future threats are identified then contingency plans should
be revealed
S This should help to build confidence and credibility with
shareholders
Provide Forward Looking
Information
S Companies are required to comment on known trends,
commitments, events and uncertainties
S A two-step analysis is required:
S A determination must be made whether trend is likely to occur
S Whether event would have material effect on issuer’s financial
condition or results of operations
Provide Forward Looking
Information Cont.
S Often companies are reluctant to disclose forward-looking
information that is required
S Rather they just disclose general macro-economic forecasts
that are not company specific
S Company may potentially fear future litigation however
omission of material info may be as costly as litigation
triggered by actual disclosure
Provide Forward Looking
Information Cont.
S Companies should strive to provide well thought out,
unbiased, understandable forward-looking information
S To help reduce uncertainty in the market place by providing
greater clarity on how management views the future
S Segmented information should be provided if risks vary
across business units
Reconsider Static Disclosures
S Liquidity and capital ratios are usually revealed only at a
specific point in time
S Companies should consider providing discussion about
trends that occurred throughout the year
S There should be discussion about historical and prospective
basis – both short term and long term
Segmented Disclosure
S Must disclose each segment separately when one or more
segments has a disproportionate impact on revenues,
profitability or cash needs
S This helps to prevent companies from lumping 2 or more
segments together with different revenue profiles
S Allows readers to better understand business and risks
involved
Ensure Accountability
S Ensure that the someone in the company has the final say
for what is disclosed in the MD&A (usually the CFO)
S This way someone can be held accountable for what is
disclosed
Develop Proactive Processes
S Ensure the CEO, board members and audit committee is
familiar with the company’s disclosure philosophy, culture
and the processes involved with disclosure
S External auditors can provide oversight to ensure that firm
policies are working as they should
Auditors
Auditors can aid with financial reporting in the following ways:
S Critique and verify that the clients MD&A reconciles to FS
S Compare MD&A to the OSC and SEC requirements
S Benchmark against industry trends
S Recommend disclosure improvements
Preparation of MD&A
S People who prepare MD&A information should review the
board minutes for items related to future
S OSC’s MD&A Guide Published 1993
S SEC MD&A Review Program
7 Steps to Better Disclosure
1.
2.
3.
4.
5.
6.
7.
Avoid Boiler Plate Disclosure
Clear Communication
Provide Forward Looking Information
Reconsider Static Disclosures
Segmented Disclosure
Ensure Accountability
Develop Proactive Processes
Overall objective: to give investors the opportunity to look through the
eyes of management, this time without rose-colored glasses
How investors use the MD&A
S Most investors are not satisfied with MD&A disclosures
S Majority believe MD&A should be audited
S Generally only unsophisticated investors use the MD&A
Case: Selective Disclosure and Poor
Segmented Reporting
S Sony acquired Columbia Pictures and Guber Peters
Entertainment Company and resultantly acquired $3.8 billion of
goodwill
S Sony combined Sony Pictures and Sony Music as one business
segment – “entertainment”
S Sony’s internal projections for Sony Pictures showed five years of
losses after financing and goodwill write-downs
S Eventually Sony incurred losses greater than projected – neither of
which were disclosed to investors
Case: Selective Disclosure and Poor
Segmented Reporting
S The success of Sony Music masked the losses incurred by
the Sony Pictures division
S By 1993 Sony had incurred losses even before considering
goodwill amortization and financing costs
S In 1995, Sony announced they would change their method
of goodwill accounting and was writing off $2.7 billion
S The SEC reacted by taking action against Sony
The SEC Claimed
S Sony’s disclosure prior to goodwill write-off was inadequate as they
did not describe the nature and extend of net losses incurred by Sony
Pictures
S Sony did not explain the impact of Sony Picture’s losses on
consolidated results
S Sony “omitted to state material facts necessary in order to make the
statements made, in light of the circumstances under which they were
made, not misleading”
S Sony failed to disclose known negative results and trends, such as
operating income, net income and operating cash flow
Other Things Sony Failed to Do
S Disclose extent to which net losses of a subsidiary were
reflected in Sony’s net income
S Disclose a known trend reasonably expected to have
material impact (requirement in Canadian MD&A
requirements)
S Disclose the potential write-off of a substantial portion of
goodwill
SEC Action:
S The SEC took action against not only Sony but also the general
manager of Sony’s Capital Markets and Investor Relations
Division
S He was responsible for drafting the companies press releases and
MD&A
S SEC stated that he should have been aware of the losses Sony
Pictures incurred and the effects on consolidated results
S "The issuer's legal obligation extends not only to accurate
quantitative reporting of the required items in its financial
statements, but also to other information, qualitative as welt as
quantitative."
The Result:
S Sony was required to pay $1 million to the SEC and agreed
to engage an independent auditor to report on it’s MD&A
S Sony agreed to comply with FASB segment reporting rules
and designated its CFO as the officer primarily responsible
for ensuring public financial disclosures were accurate and
in compliance with law
Article: Dissemination
of information for
investors at corporate
website
S
Internet Financial Reporting
S Prior research on Internet financial reporting looks at
disclosure of financial information on corporate websites
S This article researches two type of disclosure; voluntary and
required
S Use regression analysis to test the relationship between
several variables and proxies to determine the effect on the
amount of voluntary and required disclosure
Background
S With the advancement of the internet a powerful channel
for communicating financial information has emerged
S Accountants have become interested in the provision of
financial information via websites
S Any type and amount of information can be disclosed as
long as it is not fraudulent
Financial information contained
S Financial information contained in a firms website can be
material filled with SEC or in press releases
S A firms website gives the firm access to a wider audience
Prior Research
S Ashbaugh et al. 1999 is the only prior research provided on the
analysis of required wed disclosures
S This study extends research in two ways by looking at two things
1)
Characteristics of firms disclosing information already reported
with the SEC
2)
Characteristics of firms disclosing other information through
their website
S
Goal is to see if web based disclosures are motivated by same
factors as traditional disclosures
Ashbaugh et al. 1999
S Documents internet financial reporting practices and provides
preliminary evidence on why some firms disseminate SEC filings
at their Web sites, while others do not
S Find that firm size is the sole significant variable in a regression
model explaining the dissemination of either
1) a comprehensive set of financial statements
2) a link to the annual report on the internet
3) a link to the SECs EDGAR site
Lang and Lundholm 1993
S Looks at a sample of up to 751 firms per year from 1985 to
1989
S Identifies six variables that explain differences in analysts
rating of firms disclosure practices
S Proxies for firm performance, firm size, correlation between
returns and earnings and issuance of securities to the public
Hypothesis
Relationship
Effect
Reason
Amount of information
and a firms need for
equity
Positively
Managers have incentive to
disclose favorable
information prior to release
Amount of information
related to performance
Positive
Absence of disclosure
thought to indicate bad
news
Amount of information
and firm size
Positive
Larger firms have less costs
and prior research
Information disclosed and Negative
correlation between
earnings and returns
Larger the correlation in
earnings and returns the less
surprises to disclose on
website
Amount of information
disclosed and quality of
disclosures
Higher the perceived quality
the more realizable
information is
Positive
Samples and Variables
S Sample was obtained from the Association for Investment
Management and Research
Level of Disclosure
S To form the dependant variable of level of disclosure the
firms were scored
S Characteristics were filed as either VOL for voluntary of
REQ as required
S Then the sum was recorded as the value for VOL or REQ
and the combined score was INDEX
Explanatory variables
S Equity- A firms need for external capital, either one firm
was a issuer of net stock or 0 otherwise
S Return- The annual return for the year
S LNSize- Natural logarithm of market value of common
equity
S Correl- The correlation between return and annual earnings
S Aimr- overall quality of reporting score
S Quality- Aimr subtract mean divided by standard deviation
to get a measure of quality
S ¾ more than half for REQ
S 3/12 more than half for VOL
Results
S Hypothesises were correct
S Rising equity leads to more disclosure
S Disclosure for website is not related to previous year return
S Larger firms disclosed more
S Firms with low information asymmetry provide less information
(CORREL)
S Firms with higher quality information disclosed less
Analysis
S When Quality is omitted nothing changes significantly
S Indicates that firms use more than websites to disclose since
the website is correlated but does not cause
S Looking at the results its VOL driving INDEX
Conclusion
S We use regression to link the variation in the information
disseminated through corporate Web sites to factors that
also influence the initial disclosure of financial information
S Our model is significant for the dissemination of both
required and voluntary disclosures
S Required items are size and a proxy for information
asymmetry
S Voluntary information item are size, information
asymmetry, demand for external capital, and companies
traditional disclosure reputations
S Our results confirm that incentives motivating initial
voluntary disclosure also explain the subsequent
dissemination of voluntary material
Article: R&D Progress,
Stock Price Volatility, and
Post-Announcement
Drift: An Empirical
Investigation into Biotech
Firms
S
Purpose of the Article
S Investigate the effects of R&D progress on the dynamics of
stock price volatility and post announcement drift
S To provide insights into whether or not and how capital
markets react to corporate R&D progress in the context of
the biotech industry
Findings
S Stock price volatility and the post announcement drift
decrease in R&D progress
S The decrease is proportional to the increase in the drug
development success rate driven by R&D progress
S Findings suggest that R&D progress conveys useful risk-
relevant information and plays an important role in
explaining stock price volatility change and market
anomalies
Introduction
S This study takes a dynamic approach to investigate whether or
not and how stock price volatility varies with R&D progress
through studying stock price volatilities after typical R&D
progress announcements
S This study looks at for a given R&D project, if its uncertainty is
reliant on the project’s advancement
S A R&D project is less uncertain in terms of future earnings
generation when it reaches a more advanced product development
stage than when it remains in an earlier product development stage
Introduction
S The biotech industry is used for 3 reasons:
1.
2.
3.
The drug discovery and development process (DDP) in this
industry takes an average of 12-15 years which allows a better
chance to study stock price volatility dynamics driven by R&D
progress
DDP in the biotech industry contains several unique, clearly
separated but highly sequentially correlated stages/phases:
discovery and pre-clinical trials, phases
R&D in the biotech industry is more risky
Hypothesis (1)
Volatility Hypothesis
S Stock price volatility is a diminishing function of R&D progress
Test of Hypothesis (1)
S Hypothesis 1 predicts that stock price volatility is a diminishing
function of R&D progress
S Stock price volatility is calculated in the testing period for each
R&D progress announcement of interest and for each firm
S
In common with other event studies, the cross-sectional average of stock
price volatility is used to test hypothesis 1
S The findings of this test suggest that capital markets do consider
R&D progress as a risk-reduction signal and act on it
Hypothesis (2)
This predicts that stock price volatility decrease caused by a R&D
progress is positively associated with the drug development success
rate increase brought by this R&D progress
Test of Hypothesis (2)
S To test this, an abnormal stock price volatility measure was
designed to capture the stock price volatility decrease caused by an
announced R&D progress
Test of Hypothesis (2)
Results:
S Each and every R&D progress can benefit biotech firms through
reducing stock price volatility
S The uncertainty reduction benefit is not equal across R&D
progresses
S As hypothesized, the magnitude of the stock price volatility
decrease depends on the degree of the uncertainty reduction
implied by the increase in the drug development success rate
Hypothesis (3)
Post Announcement Drift:
S Post announcement drift suggests a fact that capital markets
fail to fully incorporate released info on announcement
dates but continue to react on the original signal for up to 60
days
Hypothesis (3)
S The study examines the effect of R&D uncertainty because
it is believed that it constitutes the most crucial part of the
uncertainty inherent in a biotech firms business model
S No prior study examines the post announcement drifts for
R&D progress announcements, so it assumed that these drifts
exist
S The issue that is particularly investigated is whether or not the
post announcement drift decreases in R&D progress
Test of Hypothesis 3
S The high market reactions to late stage R&D progresses are
attributed to the high information contents of these progresses
S It is argued that the observed high abnormal returns from late
stage R&D progresses in the event window can also be attributed
to capital markets quicker and more full incorporations of total
information contents
S These results showed that hypothesis 3 is strongly supported
Summary and Conclusion
S Investors in R&D intensive firms have a major concern with
R&D uncertainty
S Risk assessment is vital to their investment decisions
S To shed light on uncertainty dynamics:
S Investigated how R&D progress affects stock price volatility
S The effect of R&D progress on a closely related issue: post
announcement drift
Summary and Conclusion
S It was argued that R&D progress can proportionally reduce
R&D uncertainty, thus, having an influence on both stock
price volatility and the post announcement drift
S Find that both stock price volatility and the post
announcement drift decrease in R&D progress
Summary and Conclusion
S Findings suggest:
S R&D progresses, especially late-stage progresses convey useful risk-
relevant information and play an important role in explaining the
dynamics of stock price volatility and post announcement drift
S The study also contributes to existing literature by shedding light on
the limited knowledge about the time series associations among
R&D progress, stock price volatility and the post announcement
S Also by advocating a dynamic approach to examine associations
between firm fundamentals and financial market phenomena