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It was always going to be the case that second time around companies would be bolder and more adventurous with their Strategic Reports. After all the regulator has been encouraging experimentation and innovation. Scanning the first few of these second efforts suggests the regulator may well have its work cut out this year.
First time around there was a lot to learn. There was a welter of regulatory and statutory reporting changes to absorb and apply in addition to the Strategic Report. The guidance from the Financial Reporting Council had also arrived late in the day in the summer of 2013 and even that was draft. So, there has inevitably been a degree of forbearance in assessing these first efforts. There had to be. But, second time around surely the FRC will have to be much more censorious if these reporting changes are to be of any real value to investors, the primary target audience of all these changes.
The regulator has also been encouraging more concise reporting and many companies seem to have taken this exhortation as their primary instruction, particularly those with an army of retail investors expecting to receive a print version of the Strategic Report. The banks are a case in point. Of those that have reported so far this year Barclays has cut its Strategic Report from 50 pages to 33; Lloyd’s has cut from 44 pages to 33; and HSBC has cut from 46 to 33 pages.
Clearly, the banks will save a lot of money on distributing all those print copies of their Strategic Reports to the myriad investors who have side-stepped deemed consent. But are they, and other reporting companies, bending the reporting regulations in the name of innovation just to save money, and in the process doing a disservice to their investors? Brevity comes at a price and banks are now relegating the more comprehensive operating reviews on their business units to the Directors’ Report outside of the Strategic Report. Financial reviews are also finding their way to a later chapter. All three of these banks have adopted this approach to make their Strategic Reports more concise, but the final product is very different in each case. In the case of Lloyds and Barclays there is a rigour and clarity of underlying strategic thinking that makes these shorter Strategic Reports effective and, in Lloyd’s case, even engaging. In the case of HSBC there is a complete absence of precision in the way the framework of strategy-related information is structured and presented. The HSBC Strategic Report is a muddle by comparison. Its all-encompassing business model of fourteen pages will raise a few eyebrows.
Just these three cases point up the flaws in the legislation and the dilemma facing the FRC. On a tick-box basis all three banks are compliant. Each has some information on the performance of its business units in its Strategic Report. But the more disordered and less engaging HSBC Strategic Report seems to make its omission of that more comprehensive information more noticeable. Report users will search for more reliable performance information to try and make sense of what is there. Whereas the rigour and clarity of the information and its effective communication by the other two, particularly Lloyds, makes the omission of operational review information much less of an issue. This suggests that the FRC has to assess reporting companies not just on tick-box compliance but also on the inherent reassuring quality of the strategy-related content and on the apparent effectiveness of its communication.
Herein lies the flaw in principles-based reporting as opposed to the disdained rules-basis found in the US. It requires the regulator to apply a much broader set of competences beyond financial reporting to apply judgements as to whether companies have adhered adequately to the principles and to the spirit of the reporting regulations. Impending changes to the UK Corporate Governance Code regarding viability, risk and remuneration will put an even higher premium on the application of this broader set of skills. There is no evidence yet that the FRC has the preparedness, let alone the array of competences required to make judgements about the critical quality of reporting beyond compliance.