FRC publishes thematic review on judgements and estimates

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26 Jul, 2022

The Financial Reporting Council (FRC) has published its latest thematic review on judgements and estimates. The review identifies areas of good practice, opportunities for improvement and outlines the FRC's expectations for future reporting.

The FRC performed limited-scope desktop reviews on 20 Main Market and AIM-listed companies with half of the selection comprising companies from the natural resource sector (with the review focusing on mineral reserve estimates and how well they were integrated with the discussions of the relevant financial statement components) and the remaining ten companies being selected from a variety of different industries (with the review focusing on the extent to which information about sensitivities to changes in assumptions or ranges of outcomes had been provided and how practice had developed since its November 2017 review).  For all 20 companies the review also considered the extent to which the impact of climate change was incorporated into estimate disclosures in the financial statements. 

The thematic identified many good examples of detailed, granular disclosure explaining management’s judgements and the nature of the uncertainties relating to significant estimates.  The FRC did not find many instances of boilerplate narrative and in most instances companies had provided disclosures that were tailored to the company’s circumstances.  Significant estimates were supported by quantification and almost all of the non-natural resource sector companies selected had provided some degree of sensitivity disclosure.  The FRC also found many instances of effective linkage and cross referencing which enabled better integration of the estimate disclosures within the rest of the annual report.

The FRC found that many companies mentioned climate change within their estimate disclosures with several explaining that the impact was factored into significant estimates.  Better disclosures clearly articulated the expected timing of any impact and provided specific clarification as to whether climate change had a risk of material adjustment to the carrying values of assets and liabilities in the next year or did not but could have medium or longer-term impacts.  Where longer-term sensitivities are disclosed, the FRC indicates that it is important to make a clear distinction between these sensitivities and those shorter-term sensitivities required by IAS 1.129.   

Whilst improvements have been made, the review highlights that there is still room for improvement.  It includes a number of expectations that companies should consider when preparing their annual reports.

For significant estimates the FRC expects companies to:

  • Clearly specify which estimates have a significant risk of material adjustment to the carrying amount of assets and liabilities in the next financial year.
  • Quantify the specific amount at risk of material adjustment.
  • Provide sufficient granularity in the descriptions of assumptions and/or uncertainties to enable users to understand management’s most difficult, subjective or complex judgements.
  • Clearly distinguish the disclosure of other estimates, and associated sensitivities, from significant estimates and explain their relevance.
  • Provide meaningful sensitivities and/or ranges of reasonably possible outcomes for significant estimates; these should not be limited to those required by other IFRS Accounting standards.
  • Quantify the assumptions underlying significant estimates when investors need this information to fully understand their effect; for example, commodity prices.
  • Explain any changes to past assumptions if the uncertainty remains unresolved.

For significant judgements the FRC expects companies to:

  • Separately identify the judgements that do not relate to a source of estimation uncertainty and those that do.
  • Give detailed descriptions of the specific, material judgements made by the directors in applying their accounting policies

For climate change the FRC expects companies to:

  • Assess whether disclosure of climate-related significant judgements or assumptions and sources of estimation uncertainty are required by paragraphs 122 of 125 of IAS 1 Presentation of Financial Statements and consider whether information about assumptions with a longer-term effect is required.

To encourage improvement in the general quality of company disclosures, the review includes examples of good practice, including: quantified assumptions and amounts at risk of material adjustment; detailed explanations of management’s judgements and the nature of the uncertainties relating to significant estimates; and discussion of the effects of climate change on estimates.

A press release and the full report are available from the FRC website.

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