14.
How is financial information tailored for different users?

14.1 Introduction

Different users of financial information have differing needs which may be satisfied by tailoring financial information to their individual needs. For example, the investor will have different needs from the tax authority, while senior management will require different data from the sales team. We will consider how financial information is presented and how organisations adapt it for different types of users to enhance its usefulness.

14.2 Organisations preparing financial information

Organisations typically prepare financial information for either internal purposes (management accounting) or external purposes (financial reporting). While management accounting has few constraints and is easily tailored to the needs of users, how financial reporting is presented is often prescribed by reporting standards and legal requirements that outline who is required to report, and what they must declare. Unsurprisingly, such requirements differ across jurisdictions.

Sole traders

Small business owners typically prepare financial information in a way that supports their business decision-making. Often, they will primarily or solely focus on cash flow rather than the income statement and statement of financial position. Many sole traders might never even prepare a statement of financial position and may only prepare an income statement for use by the tax authorities.

Partnerships

Partnership accounting ensures that accounts reflect the terms of the partnership agreement including the capital provided by each partner, any drawings and their share of any profits. Partnership agreements outline the terms of the partnership, including the split of profits, interest earned on capital, salaries and other key items. As several parties are involved, partners will typically rely on an accountant to prepare the accounts. This typically establishes trust that the accounts reflect the partnership agreement terms.

By necessity, partnerships will always require the preparation of a balance sheet to identify the owner’s stake in the business. As these accounts very rarely need to be published and may be of limited interest to the tax authorities, this identification of an individual partner’s claim on the business is the primary purpose of such balance sheets.

Most large partnerships in the UK and US are now established as limited liability partnerships. These usually restrict the liability of the partners to the capital they have invested in the business, meaning that they are similar in many respects to a company. One advantage of this business structure is that by restricting liability, partners are unlikely to face financial ruin for the actions of other partners. It could also be argued that much of the social moderation of behaviours has been replaced by formal accountability arising from the common requirement to publish the balance sheet.

Limited companies

The separation of ownership from control is implicit in the structure of a limited company (see Unit 4) and leads to the need for regulation of limited companies and their accounts. Limited companies are typically required to file accounts on public record, for example with the companies registrar or the tax authority of a jurisdiction, although the amount of detail required varies considerably and may be less than that required to be presented to shareholders. Micro-entities are often granted some exemptions and can file less information, reducing the regulatory burden.

Tax havens

Jurisdictions known as tax havens or secrecy jurisdictions allow companies to avoid some of the normal public reporting requirements through the application of strict confidentiality laws. They also normally have low or zero tax rates for companies that claim to be resident in that location. This confidentiality, combined with the tax rate, tends to attract those who do not want to disclose their affairs in the normal manner and can enable tax avoidance (the legal reduction of tax liabilities) or tax evasion (the illegal non-declaration of tax liabilities owed to a relevant tax authority).

Some examples of tax havens include the following: Jersey, the Isle of Man, the British Virgin Islands, the Cayman Islands, Bermuda and Switzerland.

It has been argued that tax havens exist to subvert the democratic will of major democracies by undermining the reach of its regulation, not least regarding corporate and tax transparency.

Larger private companies may need to provide more information than small and medium-sized entities (SMEs). They will report either under local reporting requirements or less commonly the International Financial Reporting Standards (IFRS) standards for SMEs. Not all IFRS jurisdictions apply IFRS for SMEs.

Some criticisms of IFRS for SMEs include the following:

• Some feel that it remains too complex for SMEs, which are very diverse in terms of scale and nature.
• The cost of implementation is disproportionate to the benefits derived from adopting IFRS for SMEs. This regulatory burden may constrain growth.
• Accountants preparing the financial statements must ask clients to sign them, even though many of them have a limited understanding of the basis of preparation of the accounts, resulting in increased risk for all parties.

Larger companies and designated public-interest entities (PIEs) will usually be required to apply IFRS or equivalent local accounting standards. For those applying IFRS, the conceptual framework states that investors are presumed to be the primary users of the financial accounts. This is not necessarily the case; for example, when IFRS are used for the preparation of government accounts, there are no investors to report to, creating a conflict that cannot be resolved. This might also be true in the case of large state-owned corporations, where IFRS-based accounts add little to the information already available to the shareholder but might add considerable value to other interested parties.

Financial institutions

Financial institutions such as banks play a key role in economic development by providing financial services to individuals, businesses and governments. This includes accepting deposits, granting loans, facilitating transactions and offering various financial products and services such as savings accounts, current accounts, mortgages and credit cards. Therefore, the failure of such institutions is more likely to cause greater harm to the whole economy compared to other, non-financial, institutions.

Given the importance of financial institutions and their unique nature compared to other industries, they are heavily regulated and required to follow accounting treatments that are more specific or exclusive only to banks and some other financial institutions.

Firstly, financial institutions tend to hold a large portion of their items in the financial statements in the form of financial assets and liabilities (these are non-physical items that derive value from contractual claims or obligations such as deposits, loans and shares in companies). These items are subject to certain accounting treatments that are typically detailed and complicated, such as fair value accounting.

Secondly, regulatory authorities require banks to calculate a safety net or financial cushion measure called the capital adequacy ratio. Banks are required to maintain a minimum level of this ratio, which is calculated based on the numbers reported in the financial statements.

Thirdly, because traditional banks offer loans, they are at risk of not being able to collect these loans from clients. Therefore, they are required to estimate economic loss provisions (ELPs), which are the amount of money set aside by a bank or financial institution to cover potential losses from loans that may not be repaid by their clients.

All of these issues need to be referred to in their published accounting data to satisfy the needs of the users of their financial statements who are exposed to risk as a result of using the services of these banks.

Groups and consolidated accounts

Large businesses are frequently made up of a number of individual companies. In this case a single parent company will usually control one or more subsidiary companies – up to hundreds or even thousands – usually through the ownership of the shares of those subsidiary companies. This can arise from growth into new business lines or from spreading into operations in multiple jurisdictions, or from acquisition activity.

The requirement in this case is that the parent company of the group must prepare consolidated accounts for the group as a whole. This means that the accounts are prepared as if there was just one company in operation rather than a whole group of separate companies. The approach is to look through the complex structure and shareholdings and to prepare the financial statements based on the sphere of control. This is referred to as the ‘single entity concept’.

This presentation can, however, mislead those trading with group companies. They may enter transactions with the expectation that the financial resources of the group can be applied for their benefit when this is not the case because individual group companies are legally separate with their own limited liability.

In complex groups with many subsidiaries, the accounting rules do not require companies to disclose every subsidiary. Nor is it necessarily the case that they must all use the same generally accepted accounting principles, for example, the IFRS. In fact, it is quite common for a parent company to prepare its own individual company accounts according to one generally accepted accounting principle and for the group as a whole to use another. There are opportunities for abuse in this arrangement.

Country-by-country reporting

The concept of country-by-country reporting (CBCR) was created in 2003. It became a legal requirement in the EU for banks and some of the financial services companies plus extractive industries in 2013. Since its adoption by the Organisation for Economic Co-operation and Development (OECD) as an international standard for tax reporting in 2017, most of the world’s largest corporations must produce data on this basis for their tax authorities, but do not have to put the information on public record, although some do.

The data produced can be used to estimate whether a multinational corporation is shifting its profits to low-tax jurisdictions. Whether this practice is legal (tax avoidance, which consists in exploiting legal loopholes) or illegal (tax evasion, which is a form of fraud) is a grey area that can only be tested in court.

Even if legal, it may not be ethical or desirable that companies operate this way. Civil society campaigners (for example, the Fair Tax Foundation), want this data from all large companies to be made publicly available. Many are especially concerned about apparently small subsidiary companies in tax havens, as this is where tax abuse often takes place.

Alternative performance measures

Many companies use what the International Accounting Standards Board (IASB) now refers to as management (or alternative) performance measures (MPMs or APMs) to provide additional information. These are often

conveyed by an entity as an alternative (i.e. competing) measure of performance, to which the entity gives more emphasis than it does to the IFRS measures. These APMs tend to exclude some income or expense items to convey management’s view of profit or loss. Common terms used to identify these measures include, among others, ‘underlying earnings’, ‘normalised profit’, ‘pro forma earnings’, ‘cash earnings’, ‘EBITDA’, ‘adjusted earnings’, and ‘earnings before non-recurring items’.¹

Why might such adjustments be required?

Essentially this is an example of a trade-off between relevance and reliability. For example, adjustments can help users to:

• better understand company’s financial statements and to evaluate it through the eyes of the management (that is, ‘decision usefulness’); for example, the use of like-for-like sales in retail businesses
• understand underlying performance by excluding one-off items
• compare companies in the same sector, market or economic area; Clinch (2023) found that country differences and firm characteristics were important reasons for differences in reporting.²

However, there are also several drawbacks that need to be considered including:

• use by some companies to present a confusing or optimistic picture of their performance by removing negative aspects
• bias in the calculation method; for example, companies tend to exclude a range of different expense items when calculating ‘underlying profit’ but remove far fewer items of income
• inconsistent basis of calculation from year to year, reducing comparability.

Employee ownership

The UK Government website defines employee ownership as a business in which ‘all employees have a “significant and meaningful” stake in a business. This means employees must have both a financial stake in the business (for example, by owning shares) and a say in how it’s run, known as “employee engagement”’.

Establishing a financial stake for employees is best achieved through companies limited by shares or as cooperatives.

Different ways of engaging employees are suitable for different businesses, but can include:

• an employees’ council or other consultation group
• a constitution defining the company’s values and its relationship with employees
• employee directors on the board, with the same responsibilities as other directors
• working with trade unions on issues like pay and conditions.

Employee ownership is an uncommon structure and one which calls into question some of the assumptions that underpin financial reporting. In the UK, John Lewis plc (operating since 1929) is one of the most well-known cases, combining a traditional management structure with employee ownership. Different ownership structures operate depending on the jurisdiction and tax regime. Other well-known employee-owned businesses include Publix (US), Mandragon (Spain), Nikkei Inc. (Japan) and Amul (India).

In the following video clip Guy Singh-Watson, the founder of Riverford Organics, explains why he sold his remaining holding of shares to the employees in 2023, making the company 100% employee-owned.

Partial employee ownership

In addition to companies wholly owned by employees, another common form of employee involvement in ownership is through partial employee ownership plans. These plans often encourage employees to buy company shares or receive them as part of their compensation package. Companies implement such plans to enhance productivity, performance and employee retention. Furthermore, increased employee involvement in ownership can lead to greater motivation and loyalty among employees.

For instance, around 14.8% of Voestalpine’s (see case study below) shares are owned by employees. This makes employees the second-largest shareholder in the company.

The implications of employee ownership extend to the information provided by companies, including their financial statements. Employees who also hold ownership stakes in the company have strong incentives to ensure that the company discloses more financial information. This improved transparency enables users of financial information (including employees) to assess the company’s financial position and performance accurately.

On the other hand, managers may sometimes be inclined to present a more favourable outlook of the company’s financial performance to attract talent. However, in the context of employee ownership, where employees have a vested interest in the company’s success and are more committed to the company, there is less pressure on managers to paint an overly optimistic picture. As a result, financial information tends to be more reflective of the company’s true economic conditions.

Overall, employee ownership is associated with better-quality financial information, benefiting both the company and the users of its financial statements.³

Public sector

Public sector accounting varies internationally. The progress towards international harmonisation of accounting standards remains at an earlier stage of development and adoption than IFRS. The public sector standards are known as International Public Sector Accounting Standards (IPSAS). The key users of public sector accounting information are the government, its citizens and funding organisations, for example, the World Bank.

For example, in France, the conseil de normalisation des comptes publics (CNOCP) (known in English as the Public Sector Accounting Standards Council), is an advisory body under the authority of the Minister of Finance and Public Accounts. The council is in charge of setting the accounting standards of public and private entities with a non-market activity and primarily funded by public funding. The entities falling under the council’s oversight include central government, government-controlled organisations, territorial authorities, local public agencies and social security organisations. Since 2023, in an expansion of its mandate, the CNOCP is empowered to propose guidelines for the content and presentation of sustainability information supplementary to the financial statements of public entities. In France, there is a specific conceptual framework for public accounting.

The lack of international comparability may be less relevant for users of public sector financial reporting since the users are also typically different parts the public sector and the electorate.

A great deal of non-financial data on the nature of service supply tends to be required from a reporting entity, either for regulatory purposes or to aid the users of the accounts. These ratios are called key performance indicators (KPIs). Some examples from different parts of the UK public sector are discussed below.

• Health authority reports might focus on waiting times for treatment, the number of appointments or treatments supplied, the timeliness of interventions and some measures of successful interventions. To learn more, read the Wirral University Teaching Hospital published accounts.
• Schools’ reports typically focus on the percentage of students meeting national benchmarks at various levels (for example, GCSE or A level), regulatory inspection outcomes (for example, by OFSTED) and progression rates into higher education. For more information, refer to the Harris Federation published accounts.

• One common misconception in the UK is that universities are part of the public sector. Universities are currently classified as ‘non-profit institutions serving households’ in the UK national accounts. This has implications for the type of regulations that are applicable to them. For example, universities do not have to apply public sector bodies accessibility regulations, although several of them have adopted them voluntarily. Read ‘Are universities really at risk of ending up in the public sector? for more information.

State-owned enterprises: The importance of transparency

State-owned enterprises (SOEs) play an important role in many countries, delivering essential services to the population. Despite moves to privatise many of these enterprises, for example water supply in the United Kingdom, Orange in France and Alfa Romeo in Italy, they remain important contributors to the economy in many countries, employing significant numbers of people and affecting the general population’s everyday lives. SOEs are those in which the state retains ownership and/or control and have many different legal forms. For example, many are listed on the local stock exchange. Transparency in reporting is important to enable service users to hold SOEs to account. Given the variety in structures, this is not always easily achieved. In 2024 the OECD updated its guidance for corporate governance of state-owned entities.

Concerns related to SOEs include those with monopoly status at risk of operating inefficiently, along with those enjoying preferential treatment from the state.

Non-governmental organisations

Non-governmental organisations (NGOs) are independent organisations that are normally not for profit. Charities are a subset of NGOs that must be established for public benefit and are subject to strict reporting requirements to ensure that they meet their charitable objectives. They come under significant scrutiny due to the separation between the donors and the beneficiaries. The nature of charitable work means that the beneficiaries are often members of vulnerable groups and are often not able to hold the charity to account for its delivery of its objectives.

The exact reporting requirements for such organisations is a matter for local laws which may require an enhanced level of scrutiny. One example is the United Kingdom, where charities are defined by the Charities Act 2016 and overseen by the Charities Commission, with which they must file certain documents, including their accounts.

As a result, they are required to file accounts with the Charities Commission even if they are relatively small. Charities with an income over £25,000 must submit accounts to the Charity Commission. Independent verification is required for income between £25,000 and £1 million, with professional verification necessary for income exceeding £250,000. To date the focus has been on financial accountability to donors for the responsible disbursement of their donations for the purposes for which they were intended. In some cases, donors include additional conditions with their donations, resulting in restricted funds which are shown separately in the financial accounts.

In common with government organisations, NGOs and charities often have non-financial goals. As a result, they often use KPIs related to their non-financial targets in their reporting. See the annual reports of the WWF-UK for an example.

Owned by nature

In 2022 Patagonia, the outdoor clothing company, announced that its owners were transferring their ownership to ‘nature’. This was a bold move that has reinforced the company’s commitment to addressing overconsumption and the impact of climate change.

Read the announcement Patagonia’s next chapter: earth is our only shareholder for further details.

14.3 Summary

• Financial information is often tailored for different users. The extent to which it successfully meets their specific information needs varies.
• Different organisation structures have varying degrees of flexibility to tailor their financial information to the needs of interested parties.
• Tailoring of financial data for defined user groups can support informed decision-making. This can better support the needs of different types of users, for example, employee-owners, charity donors or business partners.
• APMs prepared by large public companies can confuse users about the underlying performance of the business. The IASB has taken steps to mitigate some of these limitations by making the calculation of such measures more transparent through the introduction of a new IFRS.