The Report, which which is based on a review of a sample of 100 companies drawn from the whole premium listed market, notes a general improvement in governance reporting especially relating to workforce and other stakeholder engagement and remuneration. However the Report also draws attention to improvement needed in areas such as monitoring and review of the risk management and internal control systems, avoiding boilerplate language in the application of the UK Corporate Governance Code ("the Code") and focussing on reporting the outcomes of governance processes and policies. 

The review highlights the continuing need for high quality governance which is linked to effective decision-making by boards and management, for greater clarity as to how a company is applying the Code’s principles, and for clearer explanations where there are departures from Code provisions so that shareholders and stakeholders have greater confidence in the quality of governance.

Across the Report, the FRC sets out a number of key messages to draw attention to areas recommended for further improvement, including:

• reporting on board considerations and decisions, the company’s activities and the associated outcomes will reduce boilerplate disclosure and provide more concise and meaningful disclosures to users;
• where there are departures from the Code, in addition to the timeline of anticipated compliance, reporting on how alternative arrangements provide benefits to shareholders and other stakeholders;
• reporting on intermediary outcomes or milestones from stakeholder engagement, which allows users to know the company is working on feedback received and explaining why companies consider stakeholder engagement mechanisms to be effective;
• demonstrating how diversity objectives and initiatives link to company strategy and how these initiatives have contributed to improving their diversity targets;
• discussing the specific internal and external safeguards used to protect the external auditor’s independence;
• highlighting how and why principal risks have changed from the previous year, together with any explanation of changes to the mitigation strategy; and
• explaining how the company’s purpose and values are linked to executive remuneration arrangements.

Monitoring and reviewing the effectiveness of the risk management and internal control systems

The FRC notes there has been ‘little year on year improvement’ in the quality of reporting of the assessment of risk management and internal controls systems and highlight the monitoring and review activities as an area for particular focus. Only 20 companies provided insightful information on how the monitoring and review activities were conducted or what areas were covered. With the increased focus on the UK’s approach to internal controls, the FRC notes that most companies need to do more work to demonstrate robust systems, governance, and oversight.

The Report sets out the FRC’s observations regarding what makes good reporting in this area:

• A clear statement describing the review undertaken: Avoid using general, boilerplate language such as “the board (or a relevant committee) reviews the effectiveness of risk management and internal control systems.” Instead, provide a definitive and clear statement of who performed the review and the scope of the review undertaken during the year.
• Process for the review: Good reporting on the process for the review includes details of how the board or its delegated committee have undertaken the review, who was consulted, what reports or evidence were received, and what areas were covered by the review.
• Reporting the outcomes of the review: Where the board has determined the risk management and internal controls systems to be effective, this should be clearly stated in the annual report together with how the board reached this conclusion. In addition, where material weaknesses or inefficiencies have been identified, the company should explain the nature of the weakness or inefficiency and include the future actions the Board has taken or will take to remediate these.

The FRC highlights that good reporting in this area will provide shareholders, markets, and other stakeholders with confidence in the systems companies have in place to identify, assess, and manage risk effectively and sustain their resilience.

Cyber and information technology

The Report also includes observations from cyber and information technology reporting. While the Code does not require reporting in these areas, the FRC commends companies which outlined the risks, opportunities, and importance of cyber security to their business. The FRC notes that boards should be comfortable with understanding the cyber risks in their business and how they are managed.

In addition, the FRC looked at the extent to which artificial intelligence (AI) was reported in the sample. Just under half of companies mentioned AI in their reports, however none of these companies disclosed the board’s involvement in their approach or oversight of AI. Once again, the FRC has encouraged boards to have a clear view on how AI is being used and developed in a responsible manner and ensure the necessary governance processes are implemented. This may warrant further training and education of boards.

The press release and the full FRC Review of corporate governance reporting are available on the FRC website.  A podcast discussing the key themes is available on the FRC website here.  The FRC will be hosting a webinar to discuss the findings of the review on 27 November.  Registration details are available on the FRC website.

Whilst the FRC was pleased with the overall level of disclosures provided in the interim reports sampled, it does identify a number of areas for improvement including transition disclosures, specificity and clarity of accounting policies, judgements and estimates and disclosures of choices made in areas where the standard is not prescriptive (such as the choice of transition method, the determination of risk adjustment and discount rates). 

The FRC expects in-scope companies to consider the findings and better practice examples in the thematic review when preparing their forthcoming year-end disclosures. 

Specifically it expects companies to:

• Provide quantitative and qualitative disclosures, which are both decision-useful and company-specific, which meet the disclosure objective of IFRS 17 and enable users to understand how insurance contracts are measured and presented in the financial statements.
• Ensure that accounting policies are sufficiently granular and provide clear, consistent explanations of accounting policy choices, key judgements and methodologies, particularly where IFRS 17 is not prescriptive.
• Where sources of estimation uncertainty exist, provide information about the underlying methodology and assumptions made to determine the specific amount at risk of material adjustment and provide meaningful sensitivities and/or ranges of reasonably possible outcomes.
• Provide sufficiently disaggregated qualitative and quantitative information to allow users to understand the financial effects of material portfolios of insurance (and reinsurance) contracts.
• Clearly explain the impact of transition to IFRS 17, including details of underlying methodology to measure insurance contracts at the measurement date and disclosure of reconciliations of the contractual service margin (CSM) and revenue by transition method.
• Ensure alternative performance measures, and any changes to such measures, are adequately explained, not given undue prominence and reconciled to the most directly reconcilable line item in the financial statements

Whilst the thematic review is predominantly focused on preparers and auditors of insurance companies, the messages will also be relevant for those non-insurers who may also have insurance contracts within the scope of IFRS 17.  Deloitte's A Closer Look publication additionally provides guidance on aspects of IFRS 17 that such entities should consider when they assess whether contracts they issue are within the scope of IFRS 17.

The FRC intends to follow up this thematic review with a similar review of the first set of annual financial statements under IFRS 17 next year.

The press release and the full publication are available on the FRC website. 

The FRC reviewed the sampling methodologies and guidance for audit sampling of the largest audit firms.  

The purpose of the thematic was to:

• Identify common practice, concerns, and good practice across the largest audit firms to drive improvement and support the FRC's monitoring of the firms’ systems of quality management.
• Share findings to educate the wider audit market, as sampling has been an area of repeated Audit Quality Review (AQR) findings for smaller firms, and
• Support Audit Committees in understanding and evaluating the approach taken by audit teams.

The review found all audit firms should:

• Ensure that they provide engagement teams with sufficient guidance and training to support their use of professional judgement in audit sampling; and
• Update their methodologies and guidance to drive better documentation of key professional judgements in this area.

A press release and the full thematic review are available on the FRC website.

The Economic Crime and Corporate Transparency Act 2023 will, amongst other things, simplify and increase transparency of reporting by companies, particularly small companies and micro-entities.

Under the Act:

• the option to prepare and file abridged accounts will be removed;
• the option for small companies to omit their profit and loss account and directors’ report from the filed accounts will be removed;
• micro-entities will be required to file their profit and loss account but the option to not prepare a directors’ report will be retained;
• there are powers to make regulations to restrict publication of some of the information within small and micro-entity profit and loss accounts, which are expected to be the subject of further consultation – the full P&L still being filed; and
• companies claiming an audit exemption will be required to include a statement by the directors on the face of the balance sheet confirming which exemption is being taken and to confirm that the company qualifies for the exemption.

It is expected that there will be further announcements from Companies House and The Department for Business and Trade (DBT) as to when these changes will be introduced. The Act also paves the way for filing of accounts at Companies House to become fully electronic, removing the ability to file hard copy.

The Act also introduces additional requirements regarding company formation and names, confirmation statements and identity verification of persons with significant control. It grants additional powers to Companies House (for example over company registration, verification, investigation and enforcement) and tightens registration and increases transparency requirements on limited partnerships.

A copy of the press release, full Act and fact sheets are available on the Government website.  Impact assessments are available on the government website here.

The SIL, which will be based in Singapore, will also provide capacity building within supply chains that are being asked to meet new information demands. Multi-stakeholder working groups are being established to focus on four priority areas: digital taxonomies, audit and assurance, smaller companies, and public sector reporting.

Please click for more information in the IFRS Foundation press release.

The webcast gives an overview of the new standard and explains why the IASB developed it, who are the subsidiaries eligible to apply the new standard and the benefits it will bring to subsidiaries and their parent companies, as well as the users of financial statements.

Further webcasts in the series will explain the expected effects of the future standard.

Please click to access the webcast (9 minutes) on the IFRS Foundation website.

The podcast highlights three projects which were discussed during the meeting in depth:

• Business Combinations Under Common Control.
• Post-implementation Review of IFRS 9 — Impairment.
• Provisions.

The podcast can be accessed here on the IFRS Foun­da­tion website.

An analysis of changes to the work plan resulting from the IASB dis­cus­sions can be found here.

In the podcast, three of the eight projects discussed during the meeting are discussed in depth:

• Amendments to IFRS 9 — Classification and measurement;
• Equity method; and
• Second comprehensive review of the IFRS for SMEs.

The podcast can be accessed here on the IFRS Foundation website.

An analysis of changes to the work plan resulting from the IASB discussions can be found here.

Background

The project on financial instruments with characteristics of equity was originally commenced as a joint IASB-FASB project addressing the distinction between liabilities and equity. The joint project saw a discussion paper discussion paper Financial Instruments with Characteristics of Equity published in February 2008, however, during their joint meeting in November 2010, the IASB and FASB decided to defer further work on this project. In December 2012, as part of its response to the Agenda consultation 2011, the IASB formally reactivated this project as an IASB-only research project. Board discussions were taken up in October 2014. In March 2017, the first phase of deliberations was concluded. A discussion paper DP/2018/1 Financial Instruments with Characteristics of Equity was published on 28 June 2018.

The objective of the project is to improve the information that companies provide in their financial statements about financial instruments they have issued, by:

• investigating challenges with the classification of financial instruments when a company applies IAS 32 Financial Instruments: Presentation; and
• considering how to address those challenges through clearer principles for classification and enhanced requirements for presentation and disclosure.

Suggested changes

The proposed amendments in exposure draft IASB/ED/2023/5 Financial Instruments with Characteristics of Equity (Proposed amendments to IAS 32, IFRS 7 and IAS 1) are:

• The effects of relevant laws or regulations on the classification of financial instruments:
  The IASB proposes to clarify that only contractual rights and obligations that are enforceable by laws or regulations and are in addition to those created by relevant laws or regulations are considered in classifying a financial instrument or its component parts. Moreover, a contractual right or obligation that is not solely created by laws or regulations, but is in addition to a right or obligation created by relevant laws or regulations shall be considered in its entirety in classifying the financial instrument or its component parts;
• The ‘fixed-for-fixed’ condition for classifying a derivative that will or may be settled in an issuer’s own equity instrument:
  The IASB proposes in respect of the fixed-for-fixed condition and when it is met that the amount of consideration to be exchanged for each of an entity’s own equity instruments is required to be denominated in the entity’s functional currency, and either is fixed or variable solely because of preservation adjustments or passage-of-time adjustments. The IASB also proposes clarifications on derivatives that give one party a choice of settlement between two or more classes of an entity’s own equity instruments and on contracts that will or may be settled by the exchange of a fixed number of one class of an entity’s own non-derivative equity instruments for a fixed number of another class of its own non-derivative equity instruments;
• The requirements for classifying financial instruments containing an obligation for an entity to purchase its own equity instruments:
  IAS 32 requires an entity to recognise a financial liability at the present value of the redemption amount (including when a variable number of another class of the entity’s own equity instruments is delivered). The IASB proposes to clarify which component of equity this amount is (not) removed from and how to measure the financial liability at the present value of the redemption amount through profit or loss. The IASB also proposes to clarify how an entity would apply the requirements if a contract containing an obligation for the entity to purchase its own equity instruments expired without delivery. Another clarification relates to the gross presentation of written put options and forward purchase contracts on an entity’s own equity instruments that are gross physically settled;
• The requirements for classifying financial instruments with contingent settlement provisions:
  The IASB proposes to clarify that some financial instruments with contingent settlement provisions are compound financial instruments with liability and equity components. The IASB also proposes that payments at the issuer’s discretion are recognised in equity even if the equity component of a compound financial instrument has an initial carrying amount of zero. In addition, the IASB proposes to clarify the term ‘liquidation’ and the term ‘not genuine’;
• The effect of shareholder discretion on the classification of financial instruments:
  The IASB proposes to clarify that whether an entity has an unconditional right to avoid delivering cash or another financial asset (or otherwise to settle a financial instrument in such a way that it would be a financial liability) depends on the facts and circumstances in which shareholder discretion arises. Judgement is required to assess whether shareholder decisions are treated as entity decisions. The IASB also proposes to describe the factors an entity is required to consider in making that assessment; and
• The circumstances in which a financial instrument (or a component of it) is reclassified as a financial liability or an equity instrument after initial recognition:
  The IASB proposes to add a general requirement that prohibits the reclassification of a financial instrument after initial recognition, unless paragraph 16E applies (reclassification of puttable instruments and instruments that impose on the entity an obligation to deliver to another party a pro rata share of the net assets of the entity only on liquidation) or the substance of the contractual arrangement changes because of a change in circumstances external to the contractual arrangement. The IASB proposes requirements on how to account for such reclassifications.

The IASB proposes amendments to the objective and scope of IFRS 7 Financial Instruments: Disclosures in respect of equity instruments and other amendments to the Standard to improve the information disclosed.

The IASB also proposes amendments to IAS 1 Presentation of Financial Statements to require an entity to present additional information about amounts attributable to ordinary shareholders. These proposed amendments affect an entity’s statement of financial position, statement(s) of financial performance and statement of changes in equity. The IASB proposes that the amendments would apply retrospectively subject to specific transition reliefs.

Moreover, the IASB proposes amendments to the draft Accounting Standard Subsidiaries without Public Accountability: Disclosures (Subsidiaries Standard), which will be issued before the proposals in the ED are finalised. It will permit eligible subsidiaries to apply the recognition, measurement and presentation requirements in IFRS Accounting Standards with reduced disclosures

Comments on the proposed changes are requested by 29 March 2024.

Effective date

The IASB will decide on the effective date for the proposed amendments after exposure. The IASB proposes to require an entity to apply the amendments retrospectively. Earlier application would be permitted.

Additional information

Please click for:

• IASB press release
• Access to the exposure draft on the IFRS Foundation website
• Snapshot offering an overview of the proposals
• Short video with IASB member Zach Gast explaining the proposals
• Our related Need to know publication
• Our UK Accounting Plus project page on Financial instruments with characteristics of equity

Key topics included the comprehensive review of accounting requirements for intangible assets, addressing software costs, goodwill, carbon credit accounting, and the interplay between tax and capital market incentives in choosing accounting standards. Breakout sessions explored recognition and measurement of intangible assets, reporting future-oriented expenses and disclosures of intangible items.

The forum featured a panel discussion moderated by Katherine Schipper of Duke University, engaging IASB members and academic experts on discussions related to the utility of existing guidance, managing diversity in the absence of authoritative instructions, ensuring comparability, and determining the scope of current standards

In addition, the IASB looks ahead to the 2024 Research Forum at the University of Sydney, Australia, on 4–5 November, with a call for papers open until 31 March 2024.

For more information, see the press release on the IFRS Foundation’s website.