Whether you run your business for short term gains or sustainable goals, readers of your annual report should be able to tell
Never before has there been so much information about companies in the public domain. The click of a button can reveal terabytes of data, from past and present employees’ social media and online forums to the auditor’s report and financial results. And yet trust between business and the public is not improving. Investors too are also looking for greater insights into a company’s business, beyond merely good governance and into intangible value drivers such as corporate culture. So how do we begin to address this trust gap and what should be the way forward in terms of renewing business’ “social contract”?
Just 11 per cent of business leaders believe current financial reporting meets investors' needs
It’s clear that change is needed. Companies are struggling to communicate, measure and report on the value they are creating for their stakeholders over the long term. A recent EY survey of investors and other stakeholders revealed that just 11 per cent of business leaders and 17 per cent of investors polled believed current financial reporting meets the needs of investors. Only 29 per cent of investors polled said they thought financial reporting clearly conveys how a company will create long-term value through reinvestment.
One of the important issues is that financial reporting has failed to keep pace with business evolution and doesn’t report the measures that are crucial to today’s businesses. Typically, intangible assets account for 50 per cent of a company’s value, but they are largely absent from corporate reporting.
If you consider some of the largest technology companies in the world by market capitalisation, a considerable concentration of their value lies within intellectual property and human capital. And yet there currently aren’t any standards to measure and report these intangible components. This also raises questions about the relevancy of financial statements if they fail to evolve.
Accounting standard setting is not a process that can keep up with the pace of change we see today
Despite of a number of laudable initiatives to promote sustainability reporting, the corporate world is struggling to report on environmental and social impacts in an agreed or consistent way, creating a reporting environment ripe for evolution.
We don’t lack the technological tools to make progress on this front. Data analytics is capable of processing and extracting information from corporate reporting systems and detecting trends, risks and even cultural factors at play. We do however have to start asking questions about the kind of measures and key performance indicators we report on and how we reach consensus on how to report on them – how we arrive at a set of reporting standards for intangible assets and a means of assessing their impact on corporate performance.
We may not be able to use our traditional methods for this task. Accounting standard setting is a process that takes many years – both to reach a consensus point on a given standard and then to implement it. It is not a process that can keep up with the pace of change we see today.
We need corporate reporting that tells a transparent story about how businesses create value
We could, however, take our cue from the digital disruptors that play an increasingly important role in the business world and open source standard creation. Whether we want to set parameters for reporting on employee engagement, intellectual property, customer acquisition costs, or environmental impacts - if enough people participate in their standard setting and then go on to adopt them, we will have reached a point where they become de facto standards.
That is why at EY, we have been collaborating with academics, investors and businesses to develop a model that will help businesses to better communicate the long-term value they are creating for their stakeholders.
The time to begin this initiative is now. What we need is a version of corporate reporting that tells a transparent and coherent story about how businesses create value. At EY we’re agnostic about what the purpose of a company should be. It could be wedded to the sustainability agenda or it could be focused on short-term gains for shareholders. The point is that readers of corporate statements should be able to tell.