In another large step towards the most dramatic overhaul of financial statements in decades, the Financial Accounting Standards Board Wednesday laid out a series of subtotal figures that companies would be required to include on their balance sheets, income statements and cash flow statements.
The new look for financials will break all three statements into five general categories: business, discontinued operations, financing, income taxes, and equity (if needed). Each of those groupings will carry its own total. In addition, the business, financing, and income tax categories will be segmented into even more narrow sections, each of which will include a subtotal. For example, the business category will be broken down into operating assets, operating liabilities and a subtotal; and investing assets, investing liabilities, and a second subtotal.
(Although FASB will not officially release its proposal until the second quarter of 2008, it has made public some initial peeks at the proposed format.)
The addition of totals and subtotals is an extension of FASB’s broader principle on disaggregating financial statement line items. It is the board’s belief that separating line items into their components gives investors, creditors, analysts and other financial statement users a better view of a company’s financial health. For example, the new format should make it easier for an investor to see how much cash a company generates by selling its products versus how much it generates by selling-off a business unit or through financial investments made by the corporate treasurer.
FASB staffers say buy- and sell-side analysts typically scrutinize financial statements by breaking them down into categories similar to the ones the board is proposing.
In keeping with its promise to strip accounting standards of complexity, the board also agreed to issue two overarching principles in its draft document on financial statement presentation. One principle instructs preparers to keep the category order consistent in each of the three financial statements. For example, if income tax is the last category shown in on the balance sheet, then it should also be the final category on the cash flow and income statement. “We’re not going to tell you what order [to use], just that you should use the same order in all three statements,” noted FASB Chairman Robert Herz during the meeting.
In addition, the board wants companies to “clearly distinguish” between operating assets and operating liabilities, as well as short-term assets and liabilities and their long-term counterparts. But the board is not going to prescribe how that should be done. Regarding the issue of common sums, “the only requirement will be that totals and subtotals are segmented by activities,” noted board member George Batavick, “the rest will be principles.”
Updating the look and functionality of financial statements is one of the joint projects that FASB is working on with the International Accounting Standards Board as the two organizations work to converge U.S. and global accounting rules. On Thursday, IASB will discuss the common totals issue and is expected to release its recommendations.
FASB expects the draft proposal to spark a healthy debate among users and preparers, and staffers are planning for a four- to six-month comment period to follow its release. One issue that will have to be thrashed out, for example, is whether discontinued operations should be relegated to its own category, or run through the income statement or financing activities.
To avoid any last-minute confusion with the Securities and Exchange Commission, Herz asked the FASB accountants working on the project to “touch base with the SEC staff just to get their input.” Herz noted that last time the two groups discussed disaggregation principles, Scott Taub, not James Kroeker, was the SEC’s deputy chief accountant.