Getting the most from interim profit reports
Half-year company results provide vital clues for investors.
Fifty years ago, British Prime Minister Harold Wilson famously quipped that “a week is a long time in politics”. And in keeping with this quote I would like to suggest that a year is an extremely long time in the business world.
That presents a potential problem for information-hungry investors given that, by definition, listed companies only produce an annual report once a year.
Corporate and market regulators, ever keen to protect the investing public, have overcome this potential dearth of financial reporting by requiring companies to supplement their annual report with more regular communication.
This article aims to explain how companies go about delivering more timely information. It explores one of these, the interim report, and how it differs from the full-year report – and, very importantly, how investors can best go about interpreting it.
(Editor’s note: Many ASX-listed companies release their interim results in February. ASX Announcements publishes company announcements as they are released.)
Ever-changing reporting requirements
First, it is important to realise that the rules dictating financial reporting are constantly changing, and the following is a powerful example of how much things can change over time.
In 1895 a radical idea was proposed in the United States – that companies distribute annual earnings reports to shareholders. Many responded to the idea with shock and horror, particularly company directors. Here’s a typical comment by a director of the day: “Stockholders should be wholly satisfied in receiving regular dividends and financial disclosure would likely subject the directors to annoying inquisitions from tax gatherers.”
Following the 1895 proposal, financial reporting by US companies remained optional for many years. It was not until the wake of the 1929 Crash that standards were tightened substantially. That’s scary stuff considering today’s stringent reporting standards.
Now let’s focus on Australia.
Keeping the market informed
To keep the market informed in a timely manner, listed companies are required to supplement the information contained in their annual report with financial and operational updates during the year. This is done in two main ways: first, under the continuous disclosure requirement, and second, through the production of an interim report.
- Continuous disclosure requirement. ASX Listing Rules require listed companies to continually keep the market informed of any price-sensitive news. The Listing Rules state: “Once an entity is or becomes aware of any information concerning it that a reasonable person would expect to have a material effect on the price or value of the entity’s securities, the entity must immediately tell ASX that information.”
- Interim reporting. Listed companies are also required to deliver a set of abbreviated results between annual reports. In Australia, these are produced at the half-year mark. In the US, results are delivered quarterly (three interim reports between each annual report).
Information in interim reports
The most obvious difference between interim and full-year reports is that interim reports are much briefer. There is nothing to stop a company from providing the same high level of detail and information in its interim report as it does in its annual report, but there is no obligation to do so.
But interim reports are still bound by disclosure requirements. An interim financial report must contain, as a minimum, the following:
- A condensed balance sheet.
- A condensed income statement.
- A condensed statement showing changes in equity.
- A condensed cash flow statement.
- Selected explanatory notes.
Interim accounts must also include an explanation of events and transactions that are significant to an understanding of the changes in financial position and performance of the company since the end of the last annual reporting period.
How interim reports differ from the annual report
Another significant difference, although subtle, is that although annual reports must be audited, that is not a requirement for interim reports. This is not surprising given the cost and time involved in an audit.
An audit provides some comfort to users of financial statements in that it is a detailed process undertaken by a third party (the auditor) to determine whether the financial report is prepared in accordance with the correct framework and applicable accounting standards.
Which raises the question: if interim reports are not audited can they be trusted?
The answer is “sort of”. For a start, most companies aim to do the right thing. Interim reports are checked for their correctness, but it is a lesser form of checking. Rather than being audited, interim reports are reviewed. So, what’s the difference between an audit and a review?
Simply put, an audit aims to detect material misstatements and to reduce the risk of fraud. In contrast, a review is not designed to dig as deeply into how the facts and figures making up the reported results were compiled. Therefore, the review process does not provide the same level of assurance that a financial report is free from material misstatement. A review might unearth a problem but there is no guarantee of that.
The bottom line is a review does not provide the same degree of comfort to statement users that an audit does. There’s a trade-off; it’s a case of the “timeliness” of the information that the interim report delivers, over the “reliability” of the information it contains.
Considerations when interpreting interim reports
When reading an interim report, there are a few important things to keep in mind:
- It is intended to provide an update on the most recent annual report, so you should have that annual report handy to refer to.
- Accordingly, it focuses on new activities, events and circumstances that have occurred since the last annual report.
- There is no requirement for it to duplicate information previously reported.
- The revenue, cash flow and profit figures in an interim report might not be typical of a full year’s trading. Many businesses experience seasonal peaks in sales and expenditure. For example, retailers and beverage distributors typically earn higher revenues over the summer. When these situations exist, the company is required to highlight this in the report.
This should influence how the investor or analyst makes inter-period comparisons of corporate performance. Rather than comparing the most recently reported six-month period with the six months immediately preceding it, the comparison should be made with the same six-month period in the previous year (or years), referred to as the prior corresponding period.
About the author
Michael Kemp is the chief analyst for the Barefoot Blueprint and author of Uncommon Sense (published under the Wiley label), which gives a deeply considered and logical approach to the otherwise complex world of investing. Twitter: @tweetbarefoot
Michael Kemp is the chief analyst for the Barefoot Blueprint and author of Uncommon Sense (published under the Wiley label), which gives a deeply considered and logical approach to the otherwise complex world of investing.
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