10(a). Definition
As part of its oversight activities, the Oversight Committee of the Financial Accounting Foundation interviewed and requested written comments (collectively, "the interviews") from thought leaders among the FASB's constituencies. There were 107 interviews in total, including 12 with representatives of financial statement users and 17 with regulators (a special class of financial statement users). [FASOversight, p. 1]
While the interviews were not designed to elicit criticisms of financial reporting, in general, or to identify the needs of users of financial information, interviewees did comment on those matters. [FASOversight, p. 1]
Following is a summary of the principal comments received [on the subject] from users and regulators relating to . . . the needs of users. [FASOversight, p. 1]
Additional disclosure of risks and uncertainties, commitments, and off-balance-sheet transactions should be made in the financial statements. [Also included in 9 and 19] [FASOversight, p. 2]
[Context] Meeting of the Investor Discussion Group on January 13, 1993. Part of the meeting was devoted to the topic of disclosure about operating opportunities and risks.
Committee/Staff/Observer
Let's move on to the third and final category of questions for today; information about operating opportunities and risks. We define operating opportunities and risks as beneficial or detrimental circumstances in which the reporting entity is involved at the reporting date that are not assets or liabilities but that may cause the reporting entity to have increases or decreases in cash flows in the future. In previous meetings, you have emphasized to us the importance of understanding the operating opportunities and risks facing the company. Thus, the Special Committee is considering how external reporting could provide the information that investors and creditors need to help them assess the potential effects of operating opportunities and risks that are not yet recordable in the accounts and recognized in the financial statements. What sources do you currently use to get information about a company's opportunities and risks, as the Special Committee has defined that term? [TI 1/13, p. 43]
Is the Special Committee's definition of operating opportunities and risks a workable definition? If not, how would you change the definition? [TI 1/13, p. 43]
Participant I-11
I think that's a reasonable definition. [TI 1/13, p. 43]
Participant I-12
Where does the notion of steps the company has taken to mitigate risks come up? I'm thinking particularly about swaps and derivatives. [Also included in 19] [TI 1/13, p. 44]
[Context] Meeting of the Creditor Discussion Group on February 2, 1993. Part of the meeting was devoted to the topic of disclosure about operating opportunities and risks.
Committee/Staff/Observer
Let's stop questions about cash flow at this point and go to page 18. The discussion at the top of the page explains that there are really two sets of risks and uncertainties. And we've already talked about one earlier today when we talked about risks and uncertainties with respect to things already on the balance sheet, for example-agings of accounts receivable, slow moving inventory, things like that. But there's a whole bunch of other risk and uncertainties that have to do with things that have happened or may happen that change future cash flows, but don't have any corresponding recorded balances in the income statement or the balance sheet. For example, things like changes in relationship with customers, or suppliers, changes in relationship with lenders. A lot of things that have to do with the external world. The question that is one the table is whether or not these need to have a more formal form of being addressed in a financial reporting package? That is, should there be a discussion of risks and opportunities and certainties that relate to things that are more than simply recorded balances? Operating opportunities risk are beneficial and detrimental circumstances in which the company is involved with at the reporting date, and these are the key words, that are not assets or liabilities, but that may cause the reporting entity to have increases or decreases in cash flows in the future. The first thing that the special committee is interested in your comments about is, is that a useful working definition? [TC 2/2, p. 27-28]
Participant C-7
I'd go along with it because I guess I'm focusing on the word "operating" and in discussions we had before we said operations are those items within the purview or control, or potential control of management. If that's what we're trying to evaluate, I thing that's appropriate. [TC 2/2, p. 28]
Participant C-11
Would this be something like in a prospectus for a somewhat speculative security? Are there any legal or accounting or SEC guidelines that have been framed from that? [Also included in 10(b)] [TC 2/2, p. 28]
Committee/Staff/Observer
I think you can view it as somewhat of a Venn diagram where some of the things that you see under the risk section of a prospectus, and some of the things you see in a MD&A, may be well scooped up under this definition. There may be other things that are not in that area, that would also be scooped up, particularly things that might be outside MD&A. Now, they may not be outside risk factors. But they would be things that are not yet known trends, but could be trends. That's where MD&A slices off. Did I answer your question? [Also included in 10(b)] [TC 2/2, p. 28]
Participant C-11
Just to be contrarian, I'm not sure that I know what this means. And I'm talking about the borderline between concerns you may have or just strong beliefs about positive things at the time you're doing your statements. I don't see that this definition really gives you any guidance as to the difference between those two things. For example, thinking about the current method of loan loss reserving where companies I think very appropriately may have an element of unallocated reserves reflecting the risks and uncertainties of loans on the books that are not performing or future loans. [Also included in 10(b)] [TC 2/2, p. 28-29]
Committee/Staff/Observer
To my knowledge, reserves relate to loans on the books. [Also included in 10(b)] [TC 2/2, p. 29]
Participant C-11
I think perhaps we're having a semantic problem here. [Also included in 10(b)] [TC 2/2, p. 29]
Participant C-17
In financial statements today, what's being evaluated is really what the risks are. It's not so much the opportunities. But I certainly get a little uncomfortable when you start talking about getting together with the auditor to project opportunities. You know, I'm not sure that's what we should do. [Also included in 17(b)] [TC 2/2, p. 29]
Participant C-5
I would say that I like the definition. I would focus the disclosures on environmental factors, over which management has no control, that may affect the company's business and future cash flow prospects. [TC 2/2, p. 29]
Participant C-4
I've got an example that I think has worked very well. In Pennsylvania, workers' compensation is 3%; if a contractor has a job locked in at certain prices, you know that there's going to be a profit; under current accounting, I would say that's neither a liability or a contingent liability. But it's going to have a major impact on the cash flows of that contract and it should be disclosed. So that's the type of information that, if I'm a creditor and I'm loaning somebody doing business, I would want that information disclosed to me. Another example would be a major change in their insurance program and the risk management program. [Also included in 10(b)] [TC 2/2, p. 29]
Participant C-2
Perhaps I'm guilty of reading this far too literally, but for me the word that troubled me most I guess was this "involved". Just how involved? Directly involved or indirectly involved? And it seems to me that this opens up a universe of possibilities that would result in huge cost to the preparer and to the preparer or the attester and that really concern me. [TC 2/2, p. 30]
[Context] Responses to the postmeeting questionnaire of the December 9, 1992 and January 13, 1993 Investor Discussion Group meetings.
QUESTION 19 - Definition of Operating Opportunities and Risks and Relative Importance of Each
The Special Committee has defined operating opportunities and risks as follows:
Operating opportunities and risks are beneficial or detrimental circumstances in which a company is involved at the reporting date that are not its assets or liabilities but that may cause the reporting entity to have increases or decreases in cash flows in the future.
Examples of events and circumstances that can affect a reporting entity in the future as much as the assets and liabilities and changes in them that are displayed in its financial statements include trends in sales, sales prices, unit costs, and other factors; changes in markets, competition, or technology; and concentrations that develop in sources of supply, customers, or employees of the reporting entity. Those and other operating opportunities and risks are related to information in financial statements and often result from the same transactions and other events as assets, liabilities, revenues, expenses, and other items in financial statements, but one or more future transactions or other events must occur before the company obtains assets or incurs liabilities from transactions or other events that are still in progress or as a result of circumstances that are still developing.
a. Is the Committee's definition consistent with the way you think of operating opportunities and risks in evaluating the companies that you follow?
Yes 6 No
If No, how would you change the definition?
[PMQI 12/9 and 1/13, p. 37]