I doubt that Bananarama were thinking of financial statement presentation and disclosure when they sang ‘It ain’t what you do (it’s the way that you do it)’, but the sentiment still resonates – with me, at least.
The new standard on the subject, IFRS 18, comes into force from January 2027 and it is a huge opportunity for companies to rethink how they communicate with investors. As I wrote in a previous article (‘IFRS 18 needs to deliver’), it will all come down to the quality of implementation.
But what does good implementation look like in practice, especially with non-GAAP measures?
Let’s start with the new accounting term of ‘operating profit’, although it’s not new to the investing world, which has been using it for decades. This is a welcome change. I don’t like the inclusion of amortisation charges from artificial intangibles created during acquisitions, but at least that is fairly easy to adjust for. I was also pleasantly surprised that the standard-setter, the International Accounting Standards Board, didn’t decide to invent a new term for an old concept.
The level of disclosure lets investors derive a number they are happy with
MPMs
I think that the most important development in IFRS 18 is the introduction of management-defined performance measures (MPMs), which are reconciled to the statutory accounts. I expect many companies to introduce an MPM called something like ‘adjusted operating profit’. A lot of companies already report an equivalent number but the way they do it varies enormously.
There has never been any obstacle to voluntary reconciliation and some companies do it very well. I especially like the table in Spirax’s 2024 annual report, which starts with ‘IFRS operating profit’ (despite the lack of any definition) and ends with ‘adjusted operating profit’. The table has up to 12 adjustments and each number is itemised with simple intuitive descriptions. Top of the list is, encouragingly, ‘amortisation of acquisition-related intangible assets’, which immediately tells me that Spirax has designed this table with investors in mind.
Splitting the adjustments into different categories is important for several reasons. First, it minimises the use of opaque sub-totals such as ‘other’. Second, some investors might consider some items (such as restructuring expenses) to be non-exceptional in nature. This level of disclosure allows investors to derive a number they are happy with.
I am hopeful it will spur companies to improve cashflow disclosure
The Spirax example is not perfect. It’s buried way back on page 206, more than 200 pages after the first use of the term and with no easy way to navigate from one to the other.
At the other end of the scale we have a FTSE 100 company whose adjusted operating profit is routinely half or double the IFRS version, with the gap simply being called ‘exceptional items’. The items are described in a footnote that is notable for its opacity. It makes it very hard for the reader to know which numbers to trust.
Cashflow advance
Another important change in IFRS 18 is that cashflow will start with operating profit. This is a welcome, if minor, change and I am hopeful that companies will use it as a spur to improve cashflow disclosure. A new cashflow standard is still years away, but there is nothing stopping companies introducing better statements. It would be hard to make the statutory statement worse (read my earlier thoughts on this in ‘Fixing cashflow reporting’).
IFRS 18 does have major gaps. The requirement to reconcile MPMs applies only to profit-related numbers. And there is no requirement to reconcile other common metrics such as organic growth and free cashflow.
Equally, there is no prohibition on applying the same methodology to these metrics. Why not reconcile all your favourite KPIs to the IFRS numbers? Investors will approve. And hopefully the new standard will mean, as Bananarama proclaimed, ‘your jive will swing’.
More information
Read more AB articles on this subject: ‘IASB should be braver over cashflows’; ‘Replacement plans for IAS 1’; ‘Preparing for IFRS 18’
