ASIC focusing on non-disclosure of business risks in the Operating and Financial Review of listed en

The Australian Securities and Investments Commission’s (ASIC’s) financial reporting surveillance program has traditionally focussed on identifying material accounting misstatements and areas where disclosure is not sufficient. However, since 2021, ASIC is paying greater attention to disclosure of business risks in the Operating and Financial Review (OFR) of listed entities.

In its 31 December 2021 financial reporting surveillance program, almost one third out of a total of 31 inquiries made to entities related to deficiencies in the reporting of business risks in the OFR (refer Media Release MR22-153). Directors need to be aware that failure to disclose business risks, and how they could affect the achievement of the entity’s achievement of its strategies and prospects, could lead to a ‘please explain’ letter from ASIC.

What are listed entities required to disclose regarding business risks?

Section 299A(1) of the Corporations Act 2001 requires listed entities to include a discussion in their directors’ report or OFR which contains information that members of the listed entity would reasonably require to make an informed assessment of:

  • The operations of the entity reported on
  • The financial position of the entity reported on
  • The business strategies, and prospects for future financial years, of the entity reported on.

Although s299A(1) does not specifically refer to discussing business risks in the OFR, ASIC Regulatory Guide 247 Effective disclosure in an operating and financial review (RG 247) notes that it is important that the discussion about future prospects is balanced. That is, it is likely to be misleading to discuss future prospects without also discussing material business risks that could adversely affect the entity achieving those prospects.

What are material business risks?

RG 247 explains what ASIC means by material business risks.

‘By ‘material business risks’, we mean the most significant areas of uncertainty or exposure, at a whole-of-entity level, that could have an adverse impact on the achievement of the financial performance or outcomes disclosed in the OFR. Equally, it may be appropriate to disclose factors that could materially improve the financial prospects disclosed.’

Extract of RG 247.62

Material business risks are likely to be different from one entity to another. Entities therefore should not be including an exhaustive list of generic risks that might potentially affect a large number of entities. These types of boilerplate disclosures should be removed from the OFR.

The discussion on material business risks should specifically discuss:

  • Taking into account the nature and business of the entity and its strategy - how each risk relates to the entity, and how each could affect the entity’s ability to achieve its financial prospects
  • Environmental, social and governance (ESG) risks and the extent to which they could affect the entity’s ability to achieve its financial performance or outcomes

What should be disclosed?

RG 247 notes that each risk disclosed should:

  • Be described in its context (i.e. why is it significant and how it could impact the entity’s future prospects)
  • Include commentary about whether the risk is expected to increase or decrease in the foreseeable future
  • Where the risk relates to factors within management’s control, how these factors will be controlled or managed by the entity.

Entities must include discussion of all relevant risks. ASIC is particularly concerned that entities are not telling users of financial reports information about all material business risks. Many of ASIC’s inquiries result from obvious questions about risks in particular industries.

Repeating discussions about material business risks already included in other market announcements

Directors should be aware that s299A is a mandatory requirement. Entities therefore cannot avoid discussing business risks in the OFR on the basis they have been mentioned somewhere else. ASIC’s view is that even if information has already been disclosed (e.g. through continuous disclosure announcements), it may reasonably be required to be included in the OFR so that shareholders can make an informed assessment of the entity’s business strategies and future prospects. That is, the OFR is a ‘one stop shop’ for shareholders to be able to read about all risks relating to the entity.

Using the unreasonable prejudice exemption

Section 299A(3) of the Corporations Act 2001 permits information otherwise required to be included under s299A(1) to be omitted from the OFR if it is likely to result in unreasonable prejudice to the entity. However, ASIC usually takes a dim view of this approach, particularly when information regarding prospects and risks has been omitted from the OFR, but appears in other market announcements such as offer documents or analyst presentations. In such cases, the information has already been presented in the public domain, and should therefore be repeated in the OFR.

RG 247, paragraphs 67 to 81 provide extensive guidance for entities to assess whether information regarding future prospects and related business risks is indeed prejudicial.

ASIC does not favour blanket prejudicial exemptions because it is unlikely in practice that whatever an entity tells the market is prejudicial. In other words, there may be certain aspects of the discussion that could be prejudicial, but not everything. Entities should therefore ‘start big’, and prepare all the information regarding future prospects. They should then assess whether specific pieces of information should be excluded on the basis of unreasonable prejudice. Information already contained in market announcements is unlikely to give rise to unreasonable prejudice. For many entities, information can be presented at a level of detail that does not give rise to any likely material detriment to the entity.

Table 2 of RG 247 contains examples of inadequate versus adequate disclosures for material business risks.

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