It is common for companies to provide alternative measures of performance in their financial reports.  Reporting of ‘underlying profit’ is a common mechanism by which directors can provide shareholders, analysts and other users of the report with additional information deemed necessary for a proper understanding of operating performance and financial position. This information is particularly useful for valuation analysts whose models are based on underlying maintainable earnings and cash flows of the entity.

ASIC has expressed some concern at the use and consistency of such information, particularly in light of the global financial crisis whereby there is a perceived risk that alternative profit measures may be used to draw attention away from statutory profit figures and thereby influence the reader’s comprehension of financial information.  This is an area that ASIC will be reviewing in financial reports lodged as part of their surveillance program.

The Australian Institute of Company Directors (AICD) and the Financial Services Institute of Australia (FINSIA) have jointly issued a document titled ‘Underlying Profit – Principles for reporting of non-statutory profit information’ with the objective of establishing some consistency in the reporting of alternative profit measures, and encouraging reporting that is transparent and comparable.  ASIC has recommended that entities consider this guidance when reporting and adopt the tabular format of reconciling statutory profit to underlying profit.

The document includes the following principles.

1. Report on the underlying profit, where relevant, in addition to the statutory profit
   
   •  clearly differentiate between the profit figures and do not give undue prominence to the underlying (adjusted) profit figure
     
     
2. Use the term “underlying profit
   
   • consistent terminology will promote greater certainty to the investment community
   • terms such as ‘profit before exceptional items’, ‘result before significant items’, ‘underlying EBITDA’ or ‘current operating result’ should be avoided
     
     
3. Reconcile the underlying profit figure to the statutory profit figure and present the adjustments in tabular form, with any accompanying explanation that may be necessary
   
   • include an explanatory note on the reason for the adjustment
   • significant adjustments (i.e. >5% effect on NPAT) should be separately identified
   • tax associated with each adjustment should be stated
   • Appendix 1 to the document has listed some potential adjustments that might be considered appropriate
     
     
4. Present the underlying profit and accompanying explanation in the directors’ report or other management discussion and analysis of the profit result.
   
   • underlying profit information should not be incorporated within, or associated with the statutory profit figure other than through the reconciliation table
     
     
5. Include both positive and negative adjustments to the statutory profit figure
   
   • being selective in identifying adjustments to make is likely to perceived as window dressing of results and introduces the risk of regulatory intervention
     
     
6. Maintain consistent adjustments to the statutory profit figure between reporting periods
   
   • the adjustments will be indicative of what the Board considers necessary to present a profit figure that they consider represents an appropriate assessment of the result of the ongoing business.  The adjustments should therefore remain consistent each year unless there is a change in the nature of business operations
     
     
7. Disclose whether these principles have been relied on in reporting an underlying profit figure
   
   • such a statement will indicate whether underlying profit figures of other companies may be comparable