The Big Seven Say ‘Yes’ – UK Banks Back New Code for Financial Reporting Disclosure

November 11, 2009

The Turner Review, published in March this year, identified a concern that in spite of banks’ efforts to enhance disclosures during 2008 and 2009, investor confidence in financial reports appeared to remain low.

The seven largest UK-headquartered lending institutions — Abbey, Barclays, HSBC, Lloyds Banking Group, Nationwide, Standard Chartered and the Royal Bank of Scotland Group — have committed to voluntarily implementing the Code for Financial Reporting Disclosures, developed by the British Bankers’ Association ("BBA") (the "BBA Code"), in their 2009 year-end annual reports.

Reflecting their desire to respond to market expectations, the seven institutions and the BBA have agreed to the inclusion of the BBA Code in a Discussion Paper of the Financial Services Authority ("FSA") on financial reporting disclosures published on 26 October 2009.

The FSA Discussion Paper, entitled Enhancing Financial Reporting Disclosures by UK Credit Institutions, tracks the developments in financial reporting disclosure since the onset of the financial crisis. It examines the main issues that have an impact on the quality of financial reporting disclosures, with an emphasis on disclosures about financial instruments by large banks and other large credit institutions in the UK.

Most importantly, the FSA sets out in the Discussion Paper for consultation two possible approaches to enhance disclosures, being (i) a template approach, which would require UK banks to set out disclosures in a mandatory and pre-defined format issued by the FSA, or (ii) in line with the more high level / "spiritual" approach which has dominated the UK regulatory landscape for the past decade or so, a codified approach, which would require UK banks to comply with a code of practice for financial reporting disclosure, e.g., the BBA Code. In recognition of the potential for the BBA Code to be amended or perhaps withdrawn entirely in light of responses to the Discussion Paper, the BBA Code remains in draft form at present.

To provide the market with an understanding of the impact the BBA Code would have, the seven UK institutions have agreed to comply with the draft BBA Code in preparing their 2009 year-end financial reports. Market participants will therefore be able to assess the impact the draft BBA Code has made before responding to the Discussion Paper by the 30 April 2010 deadline.

Key Principles of the Draft BBA Code

The draft BBA Code sets out the following key principles, each of which is accompanied with explanatory paragraphs:

Overarching principle

1.  UK banks are committed to providing high quality, meaningful and decision-useful disclosures to users to help them understand the financial position, performance and changes in the financial position of their businesses.

In particular, the explanatory paragraphs note that:

• the Business Review section in the annual reports should clearly "tell the story" of the business performance for the period under review and the key risk exposures should reflect information provided to the Board.
• Disclosures should be made at an appropriate level of granularity to aid understanding of the information or activity being explained. Judgements about the level of detail should balance the necessary need for aggregation to avoid information overload against the need for granularity to enhance understanding and increase transparency and should be based on information provided internally to key management personnel. Significant balances should not be left unexplained.

Compliance with International Financial Reporting Standards ("IFRS")

2.  UK banks will continue to keep under review and are committed to ongoing re-evaluation and enhancement of their financial instrument disclosures for key areas of interest.

The explanatory paragraphs note that:

• UK banks will continue to seek to identify those areas of their activities which are of particular interest to market participants. In making this assessment institutions will consider internal management information provided to the Board, relevant guidance and directions provided by UK, European and international regulators and standard setters as well as representations made by stakeholder groups.
• UK banks acknowledge that high quality disclosures are particularly important in certain areas, for example: (i) judgements in applying accounting policies; (ii) key assumptions when estimating the carrying value of assets and liabilities; (iii) information about financial risks and exposures and how they are managed; (iv) assumptions supporting fair value estimates; and (v) information about credit quality of assets.

IASB Expert Advisory Panel, Senior Supervisors Group and other good practice guidance

3.  UK banks acknowledge the importance of good practice recommendations and similar guidance issued from time to time by relevant regulators and standard setters and will assess the applicability and relevance of such guidance to their disclosures.

In particular, the explanatory paragraphs note that:

• As necessary, UK banks should continue to consider going beyond what is required by IFRS, statutory and regulatory requirements and listing rules to ensure that the information they provide to stakeholders meets these objectives.
• UK banks will also keep under review topical and emerging issues. Even though topical issues may not be material in relation to their overall business, it may be material for the sector or otherwise important to the business and as such relevant for stakeholders. The UK banks will consider providing information to enable stakeholders to understand the effect on the bank’s business of these issues.
• Depending on the nature of the topical or emerging issue, the following types of disclosure may be appropriate: (i) balance sheet and income statement amounts for the activity; (ii) explanation of the business strategy; and (iii) explanation of opportunities and risks and the potential for any significant income statement charge.

4.  UK banks will seek to enhance the ability to compare financial statement disclosures across the UK banking sector.

In particular, the explanatory paragraphs note that:

• The UK banks acknowledge that disclosures in tabular form are a good way to facilitate understanding and enhance the ability to compare across institutions.
• Subject to responses to the FSA Discussion Paper, it is the intention of the UK banks that, beginning from their 2010 annual reports, they will seek to converge their definitions of non-IFRS terms.

5.  UK banks should clearly differentiate in their annual reports between information that is audited and information that is unaudited.

Whilst some regard the Code as no more than a commitment to act professionally, the FSA are firmly of the view that this "tough disclosure code" will put UK banks further ahead of the game internationally in addressing these concerns on lack of transparency. In particular, the "when applying this code to their 2009 year end accounts, the FSA expects firms to achieve significant improvement in the quality and comparability of disclosures." It will be well into 2010 before the market will be able to assess the effectiveness of the proposed new regime.

Related Links

BBA Code for Financial Reporting Disclosure (PDF)

FSA Discussion Paper "Enhancing Financial Reporting Disclosures by UK Credit Institutions": www.fsa.gov.uk/pubs/discussion/dp09_05.pdf

© 2009 Gibson, Dunn & Crutcher LLP

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