Corporate reporting has never before been so complex, with increased mandated content and listing rule provisions, resulting in increased length and complexity of annual reports. Added to this, a wider range of information is also voluntarily disclosed in areas including environmental, social, risk, and sustainability reporting, where the multiplicity of frameworks have led to fragmentation in practice. This has led to increasing concern over the past 10 years that the annual report is no longer a useful tool for investment decision making.
The International Integrated Reporting Framework, published by the International Integrated Reporting Council (IIRC) in 2013, aims to solve these problems by promoting a more cohesive, efficient, and decision-relevant approach to corporate reporting that, focuses “on the creation of value over the short, medium, and long term.” A market-driven initiative, the Framework aims to ‘improve the quality of information available to providers of financial capital to enable a more efficient and productive allocation of capital.” In the longer term, the IIRC envisages that the Framework will become the corporate reporting norm.
Although providers of financial capital play a central role in driving the widespread adoption of integrated reporting, research into the level of investor demand for integrated reporting has so far been sporadic. A new research report, Meeting Users’ Information Needs: The Use and Usefulness of Integrated Reporting, commissioned by the IIRC, International Association for Accounting Education Research, and Association of Chartered Certified Accountants, draws upon rare access to senior level investors to provide a frank discussion of the investors’ knowledge and perception of integrated reporting as a source of decision-relevant information.
Background
In the study that led to the report, Professor Richard Slack of Durham University and Professor David Campbell of Newcastle University directly canvass the views of the users of financial information on integrated reporting and, in doing so, explore how providers of financial capital perceive integrated reporting and the Framework’s potential for providing decision-useful information.
Conducted through interviews with providers of financial capital, including fund managers and equity analysts, the report aims to answer:
- How familiar are providers of financial capital and other financial users with integrated reporting?
- What is the use and perceived potential of integrated reporting in decision making by providers of financial capital and other users of financial reports?
In addressing these questions, the report highlights the information needs of investors and other financial users, identifies integrated reporting’s key challenges, and makes useful recommendations about how such barriers to widespread adoption may be overcome.
Findings
Familiarity with, and demand for, integrated reporting among investors are mixed. Buy-side fund managers (those who analyze and invest in securities in line with each specific fund’s investment strategy) involved in environmental, social, and governance fund decision making are the most knowledgeable and on-board. Sell-side equity analysts (equity analysts and traders who analyze companies and sectors, take a view on future stock performance and make general public recommendations in relation to securities) remain uniformly cynical, reflecting perhaps the shorter-term horizons and incentive structures on the sell-side.
However, consensus does emerge among investors and other financial users that they would welcome a form of corporate reporting that is more closely linked to business strategy, and focused on long-term value.
Additional findings include:
- There is mixed evidence of awareness of integrated reporting among buy-side market participants. The level of awareness is low on the sell-side.
- Buy-side: “It’s an intelligent discussion of your business.”
- Sell-side: Had you ever heard of integrated reporting? “No.”
- Investors agree that integrated reporting can benefit investor decision making in principle.
- Buy-side: “If we had that sort of four to ten page summary of an integrated report which shows what the company are trying to achieve in terms of creating value, that becomes a great template for us to look at.”
- Sell-side: “What we need as a minimum is...KPIs, some quantitative, some qualitative, not one hundred but perhaps four, five, six to be sure, in terms of results but also objectives linked to key strategy.”
- The Capitals Model is the most contentious part of the Framework for interviewed investors; some welcome it but others find the concept of capitals difficult to relate to.
- “Companies will realise over time they have to report more on some of these issues and integrated reporting will be the most obvious, easiest, most evident way of doing that.”
- “Too many jargons, which if you’re trying to turn it mainstream just doesn’t help.”
- Critical mass for widespread integrated reporting adoption is still some ways away—to gain critical mass, it is necessary to get investors and other users of corporate reports to talk more about integrated reporting.
- “A real challenge, I think, is to get that critical mass and there is a risk that it does stall.”
- “I think gradually, awareness will come through as more companies produce [integrated reports] and more companies use [integrated reports] as a tool to communicate with fund managers and sell-side, then it will gradually evolve.”
- Short-term sell-side culture is a key barrier to widespread demand for integrated reporting.
- “I would only do it [read an integrated report] if I think it’s affecting the financials.”
- “I’m interested in it [wider capitals] as a person but as a financial analyst I’m only interested in profit, performance, and maximum return.”
- “I am assessed…weekly…so long term performance is not a key driver.”
- A common theme emerged among the interviewees that it would be beneficial for capital market announcements to be structured in such a way as to allow investors to focus on integrated reporting.
- Buy-side: “It’s easy, I think, for them to just…have a capital markets day and just take the integrated report from the annual report and say ‘right let’s talk about this document...let’s talk about it as a basis for a conversation’.”
- Sell-side: “If the integrated reporting strategy document said we have adopted this year... and we are going to come back to you in a year’s time, then that would be more useful for us.”
Key Challenges and Recommendations
What conclusions can we take away from this research? The investor interviews have highlighted several potential barriers to widespread integrated reporting adoption.
Firstly, there is currently a lack of critical mass in adoption of integrated reporting among preparers. To encourage more companies to adopt, empirical research is needed to translate the evidenced investor demand for granulated KPIs, a strategic link to reporting, and clear metrics into market benefits (e.g., lower cost of capital, lower risk premiums, etc.).
Secondly, the current lack of familiarity with integrated reporting among investors is slowing the pace of user demand. More emphasis needs to be placed on building awareness among investors at senior levels. At the same time, increase coverage of integrated reporting at capital market events will help to promote it more widely among investors.
Thirdly, the capital market culture and prevalence of short termism, in particular amongst sell-side capital market participants, are also holding back demand. This culture may take time to change, but the influence from the Integrated Reporting Investor Network can be used to push for long-term outlook in investment decision making.
Finally, the interviews have highlighted crucial misconceptions around the International Integrated Reporting Framework, with some investors perceiving it as a template or a set of mandatory requirements, and others commenting that they find the jargon in the capitals model alienating. To resolve this, regulators and professional bodies should seek to present the capitals model in a practical, jargon-free way. The inclusion of integrated reporting in financial services staff training programs will also help to educate the user population.
