Company formalities: financial reports

Corporate Law: Law principles and practice What purpose do financial reports serve? A system of books and records is important for providing information to: the company itself the members the regulatory authorities the public.

Corporate Law: Law principles and practice What purpose do financial reports serve? The books of the company show an overview of: the assets of the company how much the company owes the trading performance of the company

Corporate Law: Law principles and practice What purpose do financial reports serve? Reports allow members to make a judgement on the effectiveness of the company’s management (e.g. corporate governance). The requirement to produce financial reports is also a regulatory tool available to authorities and to members. Other interested parties are unions, employees and creditors.

Corporate Law: Law principles and practice Which entities must prepare reports? All large entities, particularly those who offer securities to the public, must prepare financial reports and a director’s report each financial year. Section 292(1) of the Corporations Act 2001 (Cth) requires the following entities to do so: all disclosing entities all public companies all large proprietary companies all registered schemes.

Corporate Law: Law principles and practice Lodging financial reports A company, registered scheme or disclosing entity that has to prepare or obtain a report for a financial year must lodge the report with ASIC (Corporations Act 2001 (Cth) s 319(1)). The time for lodgement is determined according to s 319(3): for a disclosing entity or registered scheme, within three months after the end of the financial year for all other entities, within four months after the end of the financial year. Lodgement also applies to an entity that produces a concise report for members (s 314).

Corporate Law: Law principles and practice Lodging financial reports cont … Financial reports must still be lodged even if no profits are made. ASIC can order a company to lodge a copy of specific reports, and will specify the period for lodgements (Corporations Act 2001 (Cth) s 321). The forms may be lodged in hard copy or online.

Corporate Law: Law principles and practice Exemptions from lodgement Some companies are exempt from having to lodge financial reports. The requirement to lodge does not extend to small proprietary companies (Corporations Act 2001 (Cth) s 319(2)) or small companies limited by guarantee that have produced a report as a result of a direction from a member (s 293) or from ASIC (s 294).

Corporate Law: Law principles and practice Exemptions from lodgement cont … ASIC can exempt an entity or modify the requirements to report or keep records (Corporations Act 2001 (Cth) ss 340, 341). ASIC must be satisfied that forcing financial reports to comply with the absolute accounting standards of pts 2M.2, 2M.3 and 2M.4 of the Act would: result in a misleading financial (or other) report be inappropriate in the circumstances impose an unreasonable burden on the entity.

Corporate Law: Law principles and practice Financial reporting law reform Corporate Law Economic Reform Program (Audit Reform and Corporate Disclosure) Act 2004 (Cth) Note the collapse of HIH in 2001. CLERP 9 made further notable changes to financial reporting requirements, including requirements that the chief executive officer (CEO) and the chief financial officer (CFO) sign off on reports as ‘true and fair’.

Corporate Law: Law principles and practice Financial reporting law reform cont … Directors are required to state in their annual declaration that they have received a ‘true and fair’ declaration from the CEO and CFO. Directors must further ensure that reports include a management discussion and analysis (MD&A) disclosure in the company’s annual report. There must be disclosure of executive remuneration at the annual general meeting (AGM) and members allowed a discussion and a (non-binding) vote on the remuneration report.

Corporate Law: Law principles and practice Reporting requirements for different entities General requirements Some entities are compelled by the legislation to prepare (annual) reports (Corporations Act 2001 (Cth) s 292). If an entity is required to prepare financial reports then, under s 295, they must prepare: balance sheets profit and loss statements cash flow statements. The financial statements should include various disclosures and notes of explanation.

Corporate Law: Law principles and practice Reporting requirements for different entities cont … A company (registered scheme or disclosing entity) must prepare a directors’ report for each financial year (Corporations Act 2001 (Cth) s 298(1)). The financial reports must be audited and an auditor’s report prepared (ss 301, 307, 308), with some special requirements: Small proprietary companies need only prepare a financial report if the request to do so includes a request for an audit (s 293). Section 312 requires an officer of a company to assist the auditor in the conduct of the audit. ASIC can use its exemption powers under ss 340 and 341 to relieve large proprietary companies from the audit requirements in appropriate cases (ss 342(2) and (3).

Corporate Law: Law principles and practice Reporting requirements for different entities cont … If a company must prepare financial reports, these must be in a format prescribed by the Corporations Act 2001 (Cth). Section 9 defines a financial report as ‘an annual financial report’ or ‘half-year financial report’, prepared according to the requirements of ch 2M. Section 295(1) states that the basic contents of the annual financial report are: the financial statements for the year the notes to the financial statements the directors’ declaration about the statements and notes. The financial statements must comply with appropriate accounting standards (s 295(2)).

Corporate Law: Law principles and practice Reporting requirements for different entities cont … The company must prepare a profit and loss statement, a balance sheet and a cash flow statement Corporations Act 2001 (Cth) s 295). The AASB may also require preparation of a consolidated profit and loss statement, balance sheet and statement of cash flows (if a group of companies).

Corporate Law: Law principles and practice Reporting requirements for different entities cont … Annual financial reports must be in the required format and contain particular information, in a specific format, as per the accounting regulations. Specific information required in reports includes information on the principal activities of the company, the capital of the company, any dividends and bad debts.

Corporate Law: Law principles and practice Reporting requirements for different entities cont … The Corporations Act 2001 (Cth) also requires explanatory notes to be provided in the statements (s 295(4)),including certain disclosures as to accounting standards and any information that gives a true and fair view of the reports. Financial reports should include a director’s declaration (s 295(4)) that they believe on reasonable grounds that the company will be able to pay its debts as and when they become due and payable. The directors must declare that the accounting standards are in compliance with international financial reporting standards.

Corporate Law: Law principles and practice Reporting requirements of guarantee companies Small guarantee companies may be exempt from any requirement to prepare audited financial reports, unless required to do so by a member or ASIC (Corporations Act 2001 (Cth) ss 292, 301, 316A). Companies limited by guarantee have certain obligations (s 285A): If the company has an annual revenue of less than $1 million consolidated revenue, a financial report and a directors’ report must be prepared but with less detail. If the financial report is not audited, it must at least be reviewed. If the company has an annual revenue (or consolidated revenue) of more than $1 million, it must prepare a financial report and a directors’ report, although they can be less detailed than those required of other companies.

Corporate Law: Law principles and practice Reporting requirements of guarantee companies cont … If a guarantee company is required to provide a directors’ report, it must provide specific information under ss 300B, 300B (1)(a)–(e) of the Corporations Act 2001 (Cth), and: contain a description of the short- and long-term objectives of the company set out the company’s strategy for achieving those objectives state the company’s principal activities during the year state how those activities assisted in achieving the company’s objectives state how the company measures its performance, including any key performance indicators it uses.

Corporate Law: Law principles and practice Australian financial services licensees Australian financial services (AFS) entities that hold a licence are required to prepare audited financial reports under ss 989B(1), (2) and (3) of the Corporations Act 2001 (Cth). AFS licensees must prepare and lodge audited financial statements and an audit report as a condition for holding a licence.

Corporate Law: Law principles and practice Small proprietary companies Small proprietary companies are defined under s 45A of the Corporations Act 2001 (Cth) and do not have to prepare and lodge annual financial reports. A small proprietary company may be required to prepare an annual financial report and directors’ report if: it is directed to do so under s 293 or 294, or it was controlled by a foreign company for all or part of the year and was not consolidated for that period in financial statements for that year lodged with ASIC by: a registered foreign company, or a company, registered scheme or disclosing entity.

Corporate Law: Law principles and practice Small proprietary companies cont … A small proprietary company must prepare financial reports and a directors’ report within 12 months after the end of the financial year if required by five per cent of members (Corporations Act 2001 (Cth) s 293(1)). The members may determine that directors are not required to comply with accounting standards or to prepare financial reports. A small proprietary company may be ordered by ASIC to prepare reports (s 294(1)).

Corporate Law: Law principles and practice Small proprietary companies cont … Small proprietary companies normally prepare reports both for tax purposes and in order to know what is happening within the company. Small proprietary companies that are controlled by a foreign company must prepare financial reports if the parent company does not lodge financial reports with ASIC (Corporations Act 2001 (Cth) ss 292(1), (2)).

Corporate Law: Law principles and practice The responsibilities of the director Directors must ensure that the reports comply with accounting standards (Corporations Act 2001 (Cth) s 296), and that they are true and fair (s 297). Directors have the right to inspect the company’s financial records in order to ensure the accuracy of reports. Directors are required to supply further information (s 297) if reports appear not to be true and fair (s 295(3)(c)).

Corporate Law: Law principles and practice Liability for non-compliance Directors commit offences (criminal and civil) if they fail to take reasonable steps in complying with their duty to prepare financial reports in accordance with the law (Corporations Act 2001 (Cth) s 344(1)). Directors who do not comply with the financial provisions may be fined or removed from managing the corporation.

Corporate Law: Law principles and practice Required information The directors of a company must prepare an annual directors’ report for each financial year (Corporations Act 2001 (Cth) s 298(1)). With the exception of a company limited by guarantee, the report must present information in a specified manner, with some entities such as listed companies having to satisfy further stringent requirements. Directors’ reports must contain certain specific information (ss 300, 300A), with additional information required for listed companies, along with a copy of the auditor’s declaration.

Corporate Law: Law principles and practice Required information cont … As set out in s 299(1) of the Corporations Act 2001 (Cth), directors must provide: a review of the results and operations during the year details of significant changes that occurred during the year a statement of the entity’s principal activities details of any significant changes since balance day likely future developments details of the entity’s performance in relation to environmental legislation.

Corporate Law: Law principles and practice Required information cont … Specific information required in the directors’ annual report is listed in s 300 of the Corporations Act 2001 (Cth). The directors’ report must contain details (s 300(1)) including: who is or has been a director any dividends paid and/or recommended any options over unissued shares granted to directors and certain senior officers any unissued shares under option any share issue following the exercise of options non-audit services provided by auditors (s 300(11)-(11E)) and a statement as to their independence indemnities given and insurance premiums paid during or since the end of the year to an officer or auditor.

Corporate Law: Law principles and practice Required information cont … A public company that is not a wholly owned subsidiary must disclose information about each director (Corporations Act 2001 (Cth) s 300(10)); i.e. each director’s qualifications, experience and special responsibilities, the shares they own in the company or in related companies, and how many meetings each director attended.

Corporate Law: Law principles and practice Determining that reports are true and fair Directors must determine that the financial reports are true and fair (Corporations Act 2001 (Cth) s 295(4)). There is no definition of ‘true and fair’; the emphasis is placed on directors’ compliance with accounting standards. Australian Securities and Investments Commission v Healey [2011] FCA 717

Corporate Law: Law principles and practice Solvency declarations Directors of a company are required to make a solvency declaration. Section 295(4) of the Corporations Act 2001 (Cth) defines the declaration as ‘a declaration by directors’ as to whether: in the directors’ opinion, there are reasonable grounds to believe that the company will be able to pay its debts as and when they become due and payable (s 295(4)(c)) the company has included in the notes to the financial statements, an explicit and unreserved statement of compliance with international financial reporting standards

Corporate Law: Law principles and practice Solvency declarations cont … in the directors’ opinion, the financial statement and notes are in accordance with the Act, including s 295(4)(c) of the Corporations Act 2001 (Cth) if the company is listed, that the directors, the CFO and CEO have been given the written declarations required by ss 295A and 295(4)(c). Australian Securities and Investments Commission v Healey [2011] FCA 717

Corporate Law: Law principles and practice Presentation of financial reports at the AGM The financial reports of a public company must be presented before the AGM (Corporations Act 2001 (Cth) s 317), unless it has only one member (s 250N). Directors are required to present to the meeting for the previous financial year: the financial report the directors’ report the auditor’s report.

Corporate Law: Law principles and practice Presentation of financial reports at the AGM cont … Except for a guarantee company, a directors’ report must include: general information required by ss 299 of the Corporations Act 2001 (Cth) (all entities) and 299A (additional requirements for listed entities) the specific information required by ss 300 and 300A a copy of the auditor’s declaration of independence under s 307C in relation to the audit for the financial year. The directors must know what the financial reports contain. Commonwealth Bank v Friedrich (1991) 9 ACLC 946 In a publicly listed company, the auditor is required to attend the AGM, or arrange to be represented by a person who is suitably qualified to answer questions on the audit (s 250RA).

Corporate Law: Law principles and practice Reporting duties of controlled entities Under AASB rules (AASB 127) a parent company is required to prepare consolidated and separate financial statements on the group of companies.

Corporate Law: Law principles and practice Reporting duties of listed companies Under ASX listing rules, a listed company must respond and report on any market rumours or speculation. Under s 299A of the Corporations Act 2001 (Cth), listed companies must include in their director’s report pertinent management discussion and analysis. Directors interests must be disclosed, as must any other directorships held by directors.

Corporate Law: Law principles and practice Reporting duties of listed companies cont … Section 299A(3) of the Corporations Act 2001 (Cth) allows for the omission of material from the directors’ report if it is likely to result in unreasonable prejudice to the company, although the report must state that the omission has been made. The CFO and CEO must declare that, in their opinion, under s 295A (the solvency declaration) the listed company’s financial statements and notes: have been prepared from financial records that have been properly maintained in accordance with s 286 comply with the accounting standards give a true and fair view (s 297) comply with all other prescribed regulations.

Corporate Law: Law principles and practice Reporting duties of listed companies cont … The CFO’s and CEO’s declaration must be in writing and dated, and state the status of the parties making the declaration (Corporations Act 2001 (Cth) s 299A(3)). A directors’ report must also include comments and details about the board’s policy of remuneration for directors and officers, discussing the relationship between remuneration and performance of officers (s 300A).

Corporate Law: Law principles and practice Reporting duties of listed companies cont … ASX also requires certain matters to be addressed, including: a statement about any differences between the annual and half-year reports (with explanations) whether it has an audit committee (and if not, why) a statement of corporate governance principles names of substantial members and the securities they hold, the class of shares, the 20 largest holders and the number and percentage of shares held. Jubilee Mines NL v Riley [2009] WASCA 62.

Corporate Law: Law principles and practice Companies operating on foreign exchanges Companies listed on foreign stock exchanges are required to disclose certain information to ASIC A registered foreign company must lodge: financial statements (Form 405) once each calendar year and at intervals of not more than 15 months (Corporations Act 2001 (Cth) s 601CK(1)) for exempted registered foreign companies, an annual return (Form 406) within one month after the date it is made up to, but also within each calendar year (ss 601CK(9), (10)).

Corporate Law: Law principles and practice Reporting to members A company, registered scheme or disclosing entity (not a company limited by guarantee) must prepare reports and provide members with a copy (Corporations Act 2001 (Cth) s 314). A company must provide either of all of the reports listed below or a concise report for the year that complies with s 314(2): the financial report for the year the directors’ report for the year (ss 298 to 300A) the auditor’s report on the financial report.

Corporate Law: Law principles and practice Reporting to members cont … Under s 314(1AA) of the Corporations Act 2001 (Cth), a company may provide the reports, or the concise report, for a financial year by doing all of the following: sending to each member who has elected to receive the report (see s 314(1AB)) a hard copy of the reports, or the concise report an electronic copy, if the member has elected to receive the reports, or the concise report making a copy of the reports, or the concise report, readily accessible on a website directly notifying, in writing, all members who did not elect to receive the reports that a copy is available on the website.

Corporate Law: Law principles and practice Reporting to members cont … Under s 314(1AB) of the Corporations Act 2001 (Cth), a company must, on at least one occasion, directly notify in writing each member that: the member may elect to receive, free of charge, a copy of the reports, or the concise report, for each financial year a member can access reports on a specified website a member may elect to receive the copy as either a hard copy or an electronic copy. Members can always call for a full report, free of charge, where the concise report is sent out. They can also elect not to receive a report altogether (s 316(1)(b)).

Corporate Law: Law principles and practice Continuous disclosure Entities listed on the ASX have obligations to both ASIC and the ASX itself in terms of how reports are prepared, the content of the reports and the timing of their preparation and lodgement. Entitiesspecified as continuous disclosing bodies are: entities listed on the ASX with quoted securities (Corporations Act 2001 (Cth) s 111AE(1)) securities (other than debentures and managed investment products) that are covered by the ch 6D disclosure document, with a minimum of 100 investors who hold this class of securities

Corporate Law: Law principles and practice Continuous disclosing cont … managed investment schemes with 100 or more persons participating (s 111AFA) securities (other than debentures) issued as consideration for an off-market takeover bid when 100 or more persons hold those securities securities issued under a pt 5.1 scheme of arrangement when 100 or more persons hold securities (s 111AG(2)) debentures, when a trustee is required to be appointed (s 111AT).

Corporate Law: Law principles and practice Continuous disclosure cont … Disclosing entities are required to prepare half-year reports, which must be lodged with ASIC within 75 days of the end of the year (Corporations Act 2001 (Cth) s 320). Listed companies generally must provide the ASX with an annual report, a half-year report, a preliminary final report, half-year ASIC accounts, annual audited financial statements, quarterly cash flows, and activities reports. Listed companies must also provide information that a reasonable person would consider would have a material effect on the price or value of their securities if it is not generally available (s 675). This rule is designed to prevent a ‘false market’.

Corporate Law: Law principles and practice Continuous disclosure cont … Note the exceptions to disclosure whereby a reasonable person would not expect the information to be disclosed, the information is confidential and one of the following exceptions applies (ASX LR 3.1A): It would be a breach of the law to disclose the information. The information concerns an incomplete proposal or negotiation. The information comprises matters of supposition or is insufficiently definite to warrant disclosure. The information is generated for the internal management purposes of the entity. The information is a trade secret.

Corporate Law: Law principles and practice Continuous disclosure cont … Non-disclosure of important information may lead ASX to suspend trading in that entity’s securities and remove it from the ASX register. The ASX can enforce further orders by applying to a court for enforcement of ASX rules (Corporations Act 201 (Cth) s 793C & s 1101B). ASX rules impose additional reporting obligations, such as providing the company’s annual and half-year reports, and corporate governance practices on listed companies (ASX LR 4.10.3). If a company fails to comply, it might be an offence if it can be proved it was deliberate and intentional as a crime.

Corporate Law: Law principles and practice The role of ASIC and associated regulatory bodies Financial Reporting Council (FRC) Advises and regulates on behalf of ASIC. It oversees the accounting and auditing standards, setting processes for the public and private sectors, monitoring the effectiveness of the auditor independence regime, and advising the minister on these matters. International Accounting Standards Board (IASB)

Corporate Law: Law principles and practice Regulatory bodies cont … Australian Accounting Standards Board (AASB) The AASB: develops the conceptual standards for evaluating proposed accounting and international standards; creates and promotes accounting standards under the Corporations Act 2001 (Cth) to Australian and international requirements; and in turn, contributes to the international development of accounting standards.

Corporate Law: Law principles and practice The role of ASIC in monitoring financial reports ASIC takes samples from listed and unlisted companies. ASIC provides guidance to companies regarding their reporting.

Corporate Law: Law principles and practice Auditing financial reports An audit committee is required to report on its board of directors in order for it to be listed on the ASX. ASX Corporate Governance Council’s best-practice guidelines outline how the audit committee should be composed and the duties it must carry out.

Corporate Law: Law principles and practice The role of auditors The role of an auditor is to provide independent and professional probing into the company’s financial records to ensure they are true and fair.

Corporate Law: Law principles and practice Who must be audited? All companies except small proprietary companies (Corporations Act 2001 (Cth) s 301(2)) must have an audit of their annual financial reports s 301). Small proprietary companies may require an audit if shareholders with at least five per cent of the votes require it, or ASIC requires it (ss 293–294).

Corporate Law: Law principles and practice What is an audit? An auditor forms an opinion on whether: the financial reports are in accordance with the Corporations Act 2001 (Cth), comply with appropriate accounting standards and give a true and fair view the auditor has been given all information, explanation and assistance necessary for the conduct of the audit the company has kept the financial and other records and registers required under the Act. The auditor also has the responsibility of reporting to ASIC on breaches of the Act and on any part of the audit that has not been appropriately dealt with.

Corporate Law: Law principles and practice Qualifications of an auditor An auditor must be a qualified accountant who has achieved qualifications in auditing with sufficient proficiency to conduct an audit, as prescribed by ASIC (Corporations Act 2001 (Cth) ss 1280(2A), (2B)). An auditor must be a fit and proper person (s 1280A), and must be registered with ASIC (s 324BA) unless ASIC grants an exemption under one of the exceptions (s 324B). An auditor must be a natural person (s 1279).

Corporate Law: Law principles and practice Appointing an auditor A public company must appoint an auditor within one month of the company registration, unless the members have done so already at a general meeting (Corporations Act 2001 (Cth) s 327A(1)). The auditor holds office until the next AGM, when it is up to the members to make an appointment (s 327B). An AGM fixes the auditor’s remuneration (s 250R). The directors of a proprietary company can appoint an auditor if the members have not done this (ss 325, 327B).

Corporate Law: Law principles and practice Removing an auditor An auditor, once appointed, can only resign from office with the permission of ASIC, although liquidation of a company may end the auditor’s role. An auditor may be removed if deregistered or disqualified (perhaps for conflict of interest).

Corporate Law: Law principles and practice Powers of the auditor The audit must be comply with legislation, which gives the auditor power to demand information when conducting an audit. An auditor has a right to access at all reasonable times the books of the company and may require any officer to give them information, explanations or other assistance for the purposes of the audit or review (Corporations Act 2001 (Cth) s 310). An officer of a company must allow the auditor access to the books and give the auditor any information, explanation or assistance required (s 312).

Corporate Law: Law principles and practice Duties and rights of the auditor An auditor ensures that the audit is conducted to appropriate auditing standards (Corporations Act 2001 (Cth) s 307A). The auditor must act independently and verify the financial reports of the company (ss 674, 675). An auditor who conducts an audit of the financial reports must form an opinion about whether the financial report is in accordance with the Act (s 307)—that is, with appropriate accounting standards (ss 296 or s 304)—and that it gives a true and fair view (ss 297, 305).

Corporate Law: Law principles and practice Duties and rights of the auditor cont … The auditor must determine whether they require additional information in order to assess whether: the financial reports are true and fair they have been given all information and assistance necessary to conduct the audit the company has kept appropriate financial records to enable a financial report to be prepared and audited.

Corporate Law: Law principles and practice Duties and rights of the auditor cont … An auditor of a listed company must attend the AGM Corporations Act 2001 (Cth) s 307). The auditor has the right to be given notice of any meeting of members (s 249K), and the right to attend any AGM (s 250RA). The auditor also has the right to appoint a representative to attend a meeting and to be heard at the meeting on any business concerning their role as auditor.

Corporate Law: Law principles and practice The duty to act independently Auditors have a duty to avoid a ‘conflict of interest’. If an auditor is aware of a conflict of interest, they must take all reasonable steps to end the conflict, or notify ASIC; if they do not, it is an offence Corporations Act 2001 (Cth) (ss 324(1A), 324CA(1)). A conflict of interest is arises when a reasonable person in their position would not be capable of exercising ‘objective and impartial judgment’ (s 324CD).

Corporate Law: Law principles and practice The liability of an auditor Auditors have both statutory and common law duties when conducting an audit. Contract liability An auditor has a contract with the company but is under a professional duty to complete the audit with appropriate skill and care (Corporations Act 2001 (Cth) ss 307A, 336)(e.g. to detect fraud). Frankston and Hastings Corporation v Cohen (1960) 102 CLR 607 An auditor must demonstrate skills of a professional standard. Pacific Acceptance Corp Ltd v Forsyth (1970) 92 WN (NSW) 29

Corporate Law: Law principles and practice The liability of an auditor cont … Tortious liability Auditors have a duty of care and skill at common law and reasonable skill and care according to the professions standards. Re Thomas Gerrard and Son Ltd [1968] Ch 445; [1967] 2 All ER 525 Daniels v Anderson (1995) 37 NSWLR 438

Corporate Law: Law principles and practice Reviewing and supervising the audit process ASIC’s annual reviews ASIC conducts an annual audit inspection program to promote high-quality external audits of financial reports of listed and other public-interest entities in Australia so that users can have greater confidence in financial reports. Supervision by the FRC to ensure auditor independence The FRC supervises the activities, independence and standards of auditors in Australia.

Company formalities: financial reports