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A new approach to accounting and reporting for long-term value

An increasing number of companies and investors realise the way value is defined, measured and reported no longer reflects how it is created. For example, most industries show intangibles such as intellectual property represent more than 50 per cent of market value, but this is rarely communicated to stakeholders

The traditional annual report and accounts need to evolve to reflect the reality of the modern business. A growing number of business leaders are concerned that the current version, which has its roots in the 19th century, doesn’t tell investors and other stakeholders enough about the long-term value of the company. Nor does it give an organisation’s leadership enough useful information from which to make informed decisions.

“Today there’s a growing disconnect between what is covered in traditional reporting and the true value of a company,” says Hywel Ball, UK managing partner for assurance, at EY, a global leader in assurance, tax, transaction and advisory services. “It’s partly measuring the wrong things. In particular, it doesn’t take into account intangible items such as intellectual property (IP) and human capital, which form a growing part of how companies are valued by investors and other stakeholders. The real concern here is that this disconnect, with the lack of clarity it brings, is exacerbating the breakdown of trust between the corporate world and society as a whole.”

EY is collaborating with academics, business leaders and investors to develop a new approach to reporting, helping businesses to communicate the long-term value they are creating for their stakeholders. They have expressed concerns about the inadequacy of current reporting practices. As well as encouraging short-termism, the current arrangements are based on a narrow set of simplistic measures and a limited concept of value.

Meanwhile, the value of a company is increasingly being affected by issues of governance and trust, equity and fairness in society, and environmental pressures. As such these factors are becoming more relevant to organisational performance, and investors are demanding better disclosure of them and the way organisations manage the risks associated with them.

This new approach to financial reporting could offer major benefits to all parties

Barend van Bergen, an EY partner and part-time Yale fellow in the area of impact valuation, points out that as companies are being required to publish more pages of facts and figures in their reporting, rather than helping audiences to understand a company, this quantity of information can often have the opposite effect. Deluged with information, they can’t see the wood that is the company’s true, long-term value including its intangibles, for the trees of the detailed, but less significant, figures and regulatory requirements.

“Big data and new technology offers great opportunities here,” he says. “They can help enable companies to measure and express the value of their intangible assets, such as an organisation’s culture, by looking at a whole range of different metrics. They’re able to convey a true sense of what an organisation is worth now and how its leaders are going to use their growing portfolio of IP and their vital human capital to grow the business and create long-term value for shareholders in a rapidly changing business environment.”

However, this technology can also pose a threat to those companies who are slow to adopt it. Mr Ball says: “If you’re not using it to understand the true value of your company, you can bet that other organisations and investors will be doing so. As a result, a board can find that it has less and less control over the reporting of the company and the information that’s being circulated about it.”

The collaboration with academics, investors and business leaders will help to understand these issues better and develop a new approach to reporting to take into account long-term value and measure intangibles such as IP more effectively. The aim is to provide a simpler and more concise, but more insightful and holistic, picture of the organisation and how well it is creating the long-term value its shareholders are looking for.

“This new approach to financial reporting could offer major benefits to all parties. By adopting it, organisations should be able to communicate to investors more effectively and maintain a clear sense of where they’re going by identifying opportunities to create value,” says Mr van Bergen.

Organisations that adopt this new reporting model have an opportunity to improve their understanding of macro-economic, technical, social and environmental trends so they can make better-informed decisions. They will also be able to account for intangible value drivers based on six key capital inputs – financial, human, social, natural, manufactured and intellectual.

There is a wider benefit too. As Mr Ball says: “Enabling businesses to communicate the long-term value they are creating for their stakeholders should in turn help to re-establish the trust and the social contract between the corporate world and society as a whole – and that’s increasingly important.”

For further information please visit www.ey.com/longtermvalue

BETTER REPORTING, BETTER UNDERSTANDING, BETTER LONG-TERM VALUE

EY has worked with academics, investors and business leaders, to identify six criteria for effective long-term value reporting:

01 Clear about context – it must look at the industry as a whole plus business cycles, competition and macro trends.

02 Material to stakeholders – should be informative enough to help stakeholders make evidence-based decisions.

03 Core to purpose, strategy and business model – it must define what the organisation stands for and how that affects stakeholders and strategy.

04 Assured and trusted – information must be seen to be accurate and well sourced.

05 Provide a more complete view of value – as well as financial reporting, it should include information about all the key drivers of value.

06 Simple to understand – the new reporting framework must be more transparent, concise and understandable.

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