Non Executive Director BriefingsUpdate on corporate reporting andassurance matters28/29 January 2014

www.pwc.com/jg

PwC

Contents

• Summary of 2013 reporting changes

• UK Corporate Governance Code

- Directors’ statement – fair, balanced and understandable

- Changes to audit committee reporting

• New style audit reports – ISA (UK&I) 700

• BIS narrative reporting regulations (the strategic report) & FRCimplementation Guidance

• Accounting update

• Audit tendering and mandatory firm rotation

2

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Summary of 2013 reporting changesDemonstrating stewardship

3

BIS narrativereporting regulations

BIS remunerationreporting regulations

FRC UK CorporateGovernance Code

FRC Sharman –going concern

FRC audit reports –ISA (UK&I) 700

Strategic report replacesBusiness review

Strategic, forward-looking focus for quotedcompanies

Remuneration report intwo parts:- Forward-looking

policy part- Backward-looking

implementation part

Directors statement thatthe annual report, takenas a whole, is ‘fair,balanced andunderstandable’

Distinguishes betweenfinancial reporting andstewardship purposes ofgoing concern

Audit report to providemore insight intojudgements made as‘inputs’ to theaudit process

Strategic report part ofinitiative to drive upquality of annual reports

Proposed Guidance fromFRC issued forconsultation

Corresponds to votesunder Enterprise andRegulatory ReformAct 2013 - binding onpolicy; advisory onimplementation

Audit committee reportshow it has addressed thekey judgements andestimates in the financialstatements

Going concern is part ofongoing riskmanagement; liquidityand solvency risk bothrelevant; and looksbeyond the currenthorizon

Company-specificinformation on auditrisks, materiality andgroup audit scopereported publicly

Also replaces summaryfinancial statements

New disclosures on bothpolicy &implementation,including single totalfigure for pay

Audit tenders at leastevery ten years oncomply-or-explain basis

Combined consultationwith updated guidanceon internal control andrisk management issuedon 6 November 2013

In the meantimecompanies areencouraged to ‘considerand abide by ‘theSharman principles’

Final – published August 2013 Final – publishedSeptember 2012

Final – published June2013

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FRC UK Corporate Governance CodePulling the stewardship agenda together

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A ‘fair, balanced and understandable’annual report

“The directors should explain in the annualreport their responsibility for preparing theannual report and accounts, and state thatthey consider the annual report andaccounts, taken as a whole, is fair, balancedand understandable and provides theinformation necessary for shareholders toassess the company’s performance, businessmodel and strategy...”

[UK Corporate Governance Code provisionC.1.1]

The audit committee reportshould include...

“the significant issues that the committeeconsidered in relation to the financialstatements, and how these issueswere addressed”

[UK Corporate Governance Code provisionC.3.8]

Advisory role for audit committee onfair, balanced and understandable

“Where requested by the board, the auditcommittee should provide advice on whetherthe annual report and accounts, taken as awhole, is fair, balanced and understandableand provides the information necessary forshareholders to assess the company’sperformance, business model and strategy...”

[UK Corporate Governance Code provisionC.3.4]

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Fair, balanced and understandable

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FRC UK Corporate Governance CodeFair, balanced and understandable – FAQs

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• Making formal statement based onCode provision, usually in theDirectors’ responsibilities statement

• Sometimes outlining the process usedto support the statement

• Audit committees acknowledging theirrole, where they have advised the board

• Matters on which to report byexception on ‘fair, balanced andunderstandable’ statement (andsignificant issues reporting) underISAs (UK&I) 700

• Along with the formal statement by thedirectors, this will raise the bar onborderline issues

• Fair, balanced and understandable all pre-existed

• Case-by-case judgement, in the context of the annualreport taken as a whole

• Also opportunity to re-visit particular aspects of theannual report

• ‘Understandable’ is in relation toa reasonably informed reader

• Build in enough time to review thereport as a whole and for changes tobe processed

• Ensure appropriate information will beprovided on which to base judgements

• Have right people involved and providedirection early – preparers need encouragementto innovate or be transparent

• Check progress regularly

• Extent of change depends oncurrent process

What arecompaniesdoing inpractice?

What are theauditors’responsibilities?

What processis needed tosupport thestatement?

What is newabout this?

CompetitionCommission final

report – establishesadvisory vote on the

audit committee report

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What we’re seeingFindings from survey of September 2013 year-ends

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Audit committees usually advising the board

70%: audit committeeadvising board on FBU

statement

90%: FBU statements in theDirectors’ responsibilities

statement

90% 30%

30%: audit committeedescribes FBU process in

annual report

70%

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FRC UK Corporate Governance Code – examplesDirectors’ statement – fair, balanced and understandable

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BAE 2012Directors’ responsibilities statement

BAE 2012 - Audit committee report

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Supporting the fair, balanced and understandable statementThe audit committee’s role

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Overview checks

• Annual reportreflects thestoryboard or keymessages

• Messages arecredible andrealistic

Linkage checks

• The links throughfrom strategy toperformance to payare clear

• The story is joinedup across theannual report

Insight checks

• Difficult messageshave beenidentified andhandledappropriately

• Challenges havebeen anticipatedand addressed

Fair, balanced andunderstandable

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Changes to audit committee reporting

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Changes to audit committee reportingReporting Lab project report

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Focused on provision C.3.8- Significant issues- Auditor appointment & safeguarding independence around

non-audit services- Effectiveness of the external audit process

Specific observations

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What we’re seeingFindings from survey of September 2013 year-ends

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Focus is on significant issues

70%: reported between 2and 5 significant issues

25%: consistently met theFRC Reporting Lab criteria

25%70% goodwill impairment

70% 45% tax

40% provisions

25% going concern

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Changes to audit committee reportingSignificant issues reporting – what investors will value most (per the Lab report)

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Changes to audit committee reportingAudit committee reporting of significant issues

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Land Securities 2013

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Changes to audit committee reportingAudit committee reporting of significant issues

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Lonmin 2013

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New style audit reports – ISA (UK&I) 700

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FRC audit reports – ISA (UK&I) 700Providing more insight into audit to facilitate engagement

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• Aim is to facilitate engagement betweeninvestors and companies about the auditprocess

• The FRC believes this complements the auditcommittee’s disclosure of significant issues

- The FRC proposal preserves the principlethat the auditor does not directly reportinformation on the company; internationalinitiatives do not do so as clearly

• The FRC proposals do not go farenough – and do not provide theinformation that engaged investors areasking for

• Investors want auditors’ views onoutcomes not just on audit process

Investor views to be sought on new-stylereports over the coming months

• The auditor’s report on the financial statements includescompany-specific information on the auditor’s assessment of risksand materiality and how the scope of the auditaddressed those assessed risks

• This introduces non-template wording to auditreports for the first time

• The changes are to audit reporting ratherthan audit procedures

• A number of the same areas will appearin the audit committee list of‘significant issues’ and in the auditreport

• Need to plan for consistency

• Will be differences – e.g. audit risks that donot give rise to accounting judgements orestimates

What’s thepurpose?

Our viewLink to auditcommitteereport

What will bereported?

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What we’re seeingFindings from survey of September 2013 year-ends

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Consistency with audit committee significant issues

70%: of audit reportsincluded between 2 and 5

areas of focus

50%: of Big 4 includepresumed significant risks

– fraud in revenuerecognition and

management override ofcontrols

50%65% goodwill impairment

75%

25% tax

45% provisions

10% going concern

35% revenue

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FRC audit reports – ISA (UK&I) 700Thomas Cook Group plc - audit committee reporting of significant issues

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Thomas Cook Group plc 2013, page 61

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FRC audit reports – ISA (UK&I) 700Thomas Cook Group plc - auditor reporting of assessed risks and responses (1)

20Thomas Cook Group plc 2013, page 91

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FRC audit reports – ISA (UK&I) 700Thomas Cook Group plc - auditor reporting of assessed risks and responses (2)

21Thomas Cook Group plc 2013, page 91

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FRC audit reports – ISA (UK&I) 700Thomas Cook Group plc - auditor reporting of materiality and scope

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Thomas Cook plc 2013, page 90

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FRC audit reports – ISA (UK&I) 700Easyjet plc - audit committee reporting of significant issues

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Easyjet plc 2013, page 71

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FRC audit reports – ISA (UK&I) 700Easyjet plc - auditor reporting of assessed risks and responses

24Easyjet plc 2013, page 92

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Narrative reporting and the strategic report

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BIS narrative reporting regulationsKey information together, with a forward-looking emphasis

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• Strategy & business model

• Gender diversity

- Number of directors, seniormanagers and employees ofeach sex

• Human rights issues

• Greenhouse gas emissions(directors’ report)

• Read the strategic report as“other information” issued withthe financial statements

• No specific audit responsibilitybut will be closely related to thefair, balanced andunderstandable statement

• Strategic report at same level as directors’ report inthe annual report – replaces business review

• Strategic report replaces summary financialstatements

• A number of specific disclosures

• No ‘annual directors’statement’ ofstanding data

• No guidance onuse of online reporting

Regulations not issued until August 2013;may not encourage innovation this year

What are thespecific newdisclosurerequirementsin theRegulations?

What are theauditors’responsibilities?

What’s notcovered in theRegulations?

What’s new intheRegulations?

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FRC Exposure Draft of proposed GuidanceImplementation guidance requested by BIS

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Strategic report should be:

• Fair, balanced andunderstandable

• Concise

• Forward-looking

• Linked and signposting

• Entity specific

• Material

• The Regulations are therequirements

• Possible to make minorchanges and comply

BUT

• The Guidance indicates the realpurpose

• Need to think about structure,content and giving the reportthe appropriate strategic slant

• Consultation period on Exposure Draft – ended midNovember 2013

• Final Guidance expected early 2014

• Uses introduction of strategic report ascatalyst to look at narrative reportingas a whole

• Content elements – consistentwith Regulations

• Strategic report = ‘core’;rest = ‘supplement’

• Content of strategic report needsto be sufficiently material

• Rest as ‘appendix’ – online infuture?

Communicationprinciples

SummaryCore &supplementstructure

Details ofconsultation

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What we’re seeingFindings from survey of September 2013 year-ends

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Remuneration report is the major piece of work

55%: increase in length ofaverage remuneration

report

5%: increase in length ofstrategic report content(compared to equivalent

sections)

0

5

10

15

20

2013 201220

25

30

35

40

2013 2012

100%

100%: compliance withform of regulations – but

what about substance?

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Core & supplement - examplesLonmin 2013 - strategic report

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Core & supplement - examplesNational Grid 2013 - strategic report

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Base reporting on strategic themes

Current practice - how aligned is annual report content?Observations from 2013 reporting cycle - % of FTSE 100 companies

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34%

Include strategic priorities

99%

Include the term ‘business model’

94%

Link their business model to otheraspects of their reporting

11%

Identify their principal risks and howthey’re mitigated

94%

Explain how the risks have changedover time

32%

Explicitly identify their KPIs

96%

Align their KPIs to strategicpriorities

38%

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Linking strategy KPIs and risksBalfour Beatty example

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Development of strategic themesARM Holdings example

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Accounting update

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Spotlight on the FRRP and accounting mattersWho are the FRRP and the Conduct Committee ?

• Established as part of the FRC

• From July 2012 following reform under direction of the ConductCommittee of FRC

• Review annual reports of public and large private companies

• Compliance with law and accounting standards

How do they work?

Selection of accounts:

• risk based approach

• select from certain industries (“priority sectors”)

• complaints from the public

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FRRP – Greater transparency

• Seek publicity where appropriate

• Take credit where they have effected change

- Expect more press notices

- Expect more committee references

• Improve transparency of reporting

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FRRP – Increasing effectiveness

• Prioritise FTSE 350 cyclical reviews

• Aim to complete before publication of next accounts

• Revised opening letter to company chairman; more direct

• Copy to Audit Committee chair and Finance Director

FRRP proposals to achieve effectiveness

• Expect auditor and Audit Committee Chair engagement

• Aim for quicker turnaround of correspondence

• Anticipate response within 28 days

• Be more ready to use the FRRP power

- to get company to respond

- to evidence board/auditor’s assertions

• Be ready to establish Review Groups at earlier stage

• Liaison with Audit Quality Review

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2013 Annual report - published 17 October 2013

Panel activity 2013 2012

Accounts reviewed 264 326

Companies written to 91 130

Review groups 4 5

Press notices 1 -

Committee references 10 6

Key messages – quality of corporate reporting

• FTSE 350 – complex or unusual transactions

• Smaller listed and AIM quoted companies – focus for 2014/15

• Making annual reports and accounts more concise and relevant

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FRRP – Press Notices

Pendragon – August 2012 – operating versus investing cash flows

WH Smith – October 2013 – Non-recognition of a liability in its accounts relatingto a schedule of contributions agreed between a subsidiary of the company andthe company’s pension trustee. Following correspondence with the FRRP, thecompany has accepted that the schedule of contributions is a minimum fundingrequirement within the meaning of IFRIC 14 and should have been accounted foras a liability in its accounts for the year ended 31 August 2012. Under IAS19, thecompany had a unrecognised surplus of more than £100m.

The effect of recognising the liability on the comparative amounts was to reducenet assets at 31 August 2012 from £149 million to £95 million (at 31 August 2011,a reduction of net assets from £156 million to £94 million). Profit after tax for theyear ended 31 August 2012 was reduced by £4 million. There is no change to profitbefore tax and no impact on cash.

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FRRP – What does the accounts disclosure look like?

The Group has recently concluded discussions with the Financial ReportingCouncil’s Conduct Committee (‘FRCCC’) with regard to certain aspects of its assetimpairment testing process. As a result, the Group has (i) amended its definitionof a cash generating unit so that non-monetary assets are reviewed forimpairment at a branch level, rather than at a brand level; (ii) refined itscalculation of the pre-tax discount rate; and (iii) restated and extended thecomparative sensitivity disclosures made below in respect of 2011.

The changes agreed with the FRCCC have not impacted the income statement,balance sheet or cash flow statement for 2011 or 2012; the Directors’ originalassessment that no impairment had occurred to goodwill, other intangible assetsor other non-monetary assets remains unchanged.

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FRRP – Key areas of questioning

Business reviews

• “Balanced and comprehensive”

• “Principal risks and uncertainties”

Revenue

Cash flow statements

• Cash flow information critical to investors particularly in difficult tradingconditions

Non-GAAP measures/Financial KPIs

Business combinations

Impairment

• Focus on value in use calculations with higher risk of impairment charge

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FRRP priority sectors for 2012/2013

Prioritysectors

2012/2013

Supportservices

Commercialproperty

Retail

Looking ahead? Retail,construction, naturalresources and businesssupport

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Important disclosure considerations

Business reviews –balanced andconsistent with backhalf disclosures.Include both goodand bad news (andwatch materiality)

Principal risks anduncertainties –mitigating actions toreduce risks

Accounting policiesnot specific –particularly revenuerecognition

Significantjudgements andestimates generic –need to be specific

Classification of cashflows – (operatingversusinvesting/financing)

Income taxes–deferred tax assetand liabilityrecognition

Impairment of assets– significantassumptions requiredisclosure

FRRP Interest inPensionrestructuringarrangements

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Expectedreturn /

discount rate

Old Method

£ £ £

Pension assets 800 8% 64

Pensionliabilities

(1,000) 6% (60)

Deficit (200) -

Net income /(expense)

4

NewMethod

£

-

-

(12)

(12)

6%

What is changing in accounting standards?

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For most, the only significant change is IAS 19 – defined benefit pensionsaccounting....

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Other changes that should be on the agenda - The future ofUK GAAP

• FRC has now issued three standards that will replace the current UK GAAP

- FRS 100 ‘Application of financial reporting requirements’

- FRS 101 ‘Reduced disclosure framework’

- FRS 102 ‘The financial reporting standard applicable in the UK and Republic ofIreland’

• These standards must be applied for years beginning on or after 1 January 2015– they may be early adopted.

• The options now are:

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• EU IFRS with reduced disclosures +amendments to comply with law

FRS 101(RDF based on IFRS)

• ‘New’ UK GAAP (reduced disclosuresalso available)

FRS 102(New UK GAAP)

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Audit tendering and mandatory firmrotation

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Audit tendering and mandatory firm rotation

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Discussion pointsWhat about the FRC’s tendering regime?Will the CC align their transition regime?

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