Subtopic

ASC 235, Notes to Financial Statements, contains one Subtopic:

• ASC 235-10, Overall, which addresses “the content and usefulness of the accounting policies judged by management to be most appropriate to fairly present the entity's financial statement.”

The topic does not address specific disclosures. Those are addressed in the related topics. The topic does, however, list accounting policy disclosures commonly required:

• Basis of consolidation
• Depreciation methods
• Amortization of intangibles
• Inventory pricing
• Accounting for recognition of profit on long-term construction-type contracts
• Recognition of revenue from franchising and leasing operations.(ASC 235-10-50-4)

Technical Alert

Disclosures have drawn the attention of both the FASB and the SEC. As the disclosure requirements have accumulated over the years, there has been a growing concern about information overload and whether more is necessarily better.

The FASB has a project to develop a framework to increase the effectiveness of disclosures. The framework will address the process for establishing disclosure and for determining which disclosures to make. More information can be found on the FASB's website.

The SEC is reviewing specific sections of regulations S-K and S-X, with a goal of updating requirements and eliminating duplicate disclosures. The Commission also wants to continue to provide material information and reduce cost burdens on companies. There are several suggestions for decreasing disclosure overload. Here are some excerpts from an April 2014 speech by Keith Higgins, SEC Division of Corporation Finance Director. The full speech is available on sec.gov.

• Reduce Repetition—Think twice before repeating something. There are plenty of examples of companies including—verbatim—disclosure from their significant accounting policies footnote in their MD&A discussions of critical accounting estimates. Setting aside the fundamental question of whether our MD&A guidance on critical accounting estimates requires a recitation of the accounting principle itself, if there were ever a place in a report that cried out for a cross reference—and there are likely plenty of them—this is near the top of the list. The purpose of the discussion of critical accounting estimates is to educate the reader about the aspects of the particular accounting policy that are the most uncertain and subject to possible revision, not to repeat how the accounting policy works, which is described elsewhere. Before you repeat anything in a filing, please step back and ask yourself—do I need to say it again?
• Focus Your Disclosure—I wonder if Abe Lincoln—who wrote the Gettysburg Address in 272 words—ever dreamed we would have annual reports with risk factor disclosure exceeding 30 or 40 pages. Some have suggested, only partly in jest, that we implement a page limit for risk factors or require companies to list their top ten risk factors. We can all probably agree that risk factors could be written better—less generic and more tailored—and they should explain how the risks would affect the company if they came to pass. There is no question that many companies have come to view these discussions as an insurance policy. After taking into account the safe harbor in the Private Securities Litigation Reform Act of 1995, and courts' lack of uniformity about the interpretation of “meaningful cautionary statements,” the result is that companies have little incentive to limit the number of risk factors. I recognize this is a problem. But, are there effective ways to incentivize companies—and their lawyers—to write better risk factors that would allow investors to zero in on the material risks?

  Turning to a different example, the transparency of our review and comment process has had a generally salutary effect, which has been far reaching. One effect that may not be as salutary is the tendency for companies to simply follow what others have done when making disclosure decisions or to include disclosures because a client alert says that it is a “hot button” issue for the staff. However, the first question should be “does this issue apply to the company?” And when the answer is no, it should be the last question as well.

• Eliminate Outdated Information—Disclosure should evolve over time. In a survey of 122 public companies, 74% said that once they include disclosure in a public filing in response to an SEC comment, it is rarely, if ever, removed.¹ Companies and their representatives should regularly evaluate their disclosures to determine whether they are material to investors. If they are not material, and they are not required, you can take them out. Yes, as unsettling as I am sure this can be for some, it is perfectly all right to remove disclosure when it is immaterial or outdated even if it was included in a prior filing in response to a staff comment. A response to a staff comment is not carved in stone and enshrined for time immemorial in each filing going forward—unless, of course, it remains material. And if it does, keep it in.

For those interested in the SEC's disclosure project, a staff report to Congress was issued in December 2013 and is also available on the SEC site at http://www.sec.gov/news/studies/2013/reg-sk-disclosure-requirements-review.pdf. This report was mandated by the Jumpstart Our Business Startups (JOBS) Act. It provides the staff's preliminary conclusions and recommendations about disclosure reform.

Accounting Policies

The reporting entity's management is responsible for adopting and adhering to the highest quality accounting policies possible. ASC 235 requires management, in discharging this responsibility, to adopt accounting principles and methods of applying them that are “the most appropriate in the circumstances to present fairly financial position, results of operations, and cash flows in accordance with generally accepted accounting principles.”

There are many different methods of valuing assets, recognizing revenues, and assigning costs. Financial statement users must be aware of the accounting policies used by an entity so that sound economic decisions can be made. Per ASC 235, financial statement disclosures should identify and describe:

• All significant accounting policies followed by the entity, and
• Methods of applying those principles that materially affect the determination of financial position, changes in cash flows, or results of operations.

This requirement applies even in reporting situations where one or more of the basic financial statements have been omitted. However, it does not apply to unaudited interim statements where the accounting policies have not changed since the issuance of the last annual statements. (ASC 275-10-50-2)

The accounting policies disclosure should encompass those accounting principles and methods that involve the following:

1. Selection from acceptable alternatives
2. Principles and methods peculiar to the industry
3. Unique applications of GAAP.

In theory, if only one method of accounting for a type of transaction is acceptable under GAAP, it is not necessary to explicitly cite it in the accounting policies note, although many entities do routinely identify all accounting policies affecting the major financial statement captions.

In the accounting policy disclosure, it is not necessary to repeat details that are provided in other disclosures. Many preparers simply cross-reference accounting policy disclosures to relevant details provided in other notes to the financial statements.

The “summary of significant accounting policies” is customarily, but not necessarily, the first note disclosure included in the financial statements. A more all-encompassing title such as “Nature of business and summary of significant accounting policies” is frequently used.

Disclosure Techniques

The following five disclosure techniques are used in varying degrees in contemporary financial statements:

1. Parenthetical explanations
2. Notes to the financial statements
3. Cross-references
4. Valuation allowances (sometimes referred to as “contra” amounts)
5. Supporting schedules.