NARRATIVE REPORTING, Exercises of Acting

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It has long been established that a set of company accounts should be accompanied by a directors' report that provides additional information about the company that may be of interest to its shareholders.

In recent years there has been a series of developments that have increased the amount of information that companies have had to include as part of their annual report. These narrative reporting obligations provide an opportunity for management to aid users of the financial statements in their understanding of the company, its activities and performance.

This will not be achieved by including standard or 'boilerplate' wording that solely aims to ensure that the legal requirements have been met. Rather directors need to carefully consider what they disclose to not just meet their regulatory obligations, but also to provide narrative that is useful and meets the needs of the users of the financial statements, which increasingly can represent a wide range of the company's stakeholders and not just its shareholders.

This factsheet aims to provide a clear explanation of the narrative reporting requirements faced by private companies.

Company size

The key to understanding your company's requirements is to first ascertain its size. The narrative reporting requirements become more onerous as a company increases in size.

The current size limits are as follows:

Micro Small Medium

Turnover £632,000 £10.2m £36m

Total assets £316,000 £5.1m £18m

Employees 10 50 250

A company needs to meet two out of three of the above criteria for two consecutive years to qualify as a micro, small or medium-sized company, unless it is the first year of the company's existence, in which case only that year has to be considered. The turnover limit is adjusted if the financial year is longer or shorter than twelve months.

There are certain exclusions from the above size limits which are set out in the Companies Act 2006. In addition special rules apply to parent undertakings which need to be taken into account.

Micro-entities

Companies that meet the micro-entity size criteria, and have opted to prepare their annual report in accordance with the micro-entity provisions, have no narrative reporting requirements due to the simplified arrangements that exist for such companies.

In practice many companies, despite meeting the size criteria, find the reporting requirements for micro-entities inappropriate for their needs, and voluntarily choose to prepare their annual report using the small-entity provisions instead. In such circumstances they will be subject to the narrative reporting requirements applicable to small entities.

Small entities

Companies that are able to and choose to adopt the small-entity reporting provisions are required to include a directors' report as part of their annual report that is distributed to the company's members. Note though that the directors' report does not need to be included as part of the annual report that is filed at Companies House: it (and the profit and loss account) can be removed from the annual report in a process commonly known as filleting.

The directors' report of a small company is required to include the following:

• The names of all the directors who held office at any time during the financial year. It is also common practice to include details of any changes to the board that have arisen since the year end.
• Whether any qualifying third party indemnity provision is in force at the time of the approval of the report or during the period, for the benefit of one or more directors.
• Unless the company is a wholly-owned subsidiary undertaking of a UK parent company, details of any political donations made or similar expenditure where the total amount incurred exceeds £2,000. In addition the total contributions paid to non-UK political parties should be disclosed.
• Where the average number of employees exceeds 250, the company's policy for the employment of disabled persons.

Although not required, many small companies will also provide a brief description of the company's trading activity.

A statement that advantage has been taken of the small companies exemptions in preparing the directors' report is also required, which is presented immediately above the signature of the director or secretary who is signing the report on behalf of the board.

way he or she considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole, and in doing so have regard (amongst other matters) to:

• The likely consequences of any decision in the long term,
• The interests of the company's employees,
• The need to foster the company's business relationships with suppliers, customers and others,
• The impact of the company's operations on the community and the environment,
• The desirability of the company maintaining a reputation for high standards of business conduct, and
• The need to act fairly as between members of the company.

This disclosure will need to reflect the issues, factors and stakeholders the directors consider relevant to their decision making, the main methods used to engage with stakeholders and understand the issues to which they must have regard, and information on the effect of that regard on the company's decisions and strategies during the financial year.

Note that this statement will also need to be published on the company's website.

The regulations also have the following implications for the directors' report:

• Where the average number of employees in the UK exceeds 250 a summary of how the directors have engaged with employees and had regard to employee interests, including the effect of this engagement on the principal decisions taken during the year. This builds upon the existing requirement to disclose details of employee involvement.
• Large companies are required to summarise how the directors have fostered engagement with suppliers, customers and others in a business relationship with the company, again including the effect of this on the company's principal decisions.
• The need to include a statement giving certain details about the corporate governance arrangements applied by the company. This only applies to companies with either more than 2,000 employees globally or which have turnover in excess of £200 million and total assets over £2 billion.

New environmental reporting

requirements applicable to

periods commencing on or after

1 April 2019

As part of the need to address climate change and encourage companies to consider their responsibilities towards the environment new regulations have been introduced that apply to large companies for periods commencing on or after 1 April 2019 that require them to include disclosures in their directors' report on environmental matters.

For low energy users, that is a large company which has consumed 40MWh or less of energy in the UK (including offshore areas), the directors' report merely needs to state that energy and carbon information is not being disclosed as it is a low energy user. In assessing whether the 40MWh threshold is met large companies must consider all the energy from gas, electricity and transport fuel usage. For parent companies the energy consumption of the parent and its subsidiaries must not exceed 40MWh if it is to qualify as a low energy user.

Large companies that do not qualify as low energy users will need to disclose the following:

• The UK annual quantity of emissions in tonnes of carbon dioxide equivalent from activities for which the company is responsible involving combustion of gas or consumption of fuel for the purposes of transport.
• The UK annual quantity of emissions in tonnes of carbon dioxide equivalent resulting from the purchase of electricity for its own use, including for the purposes of transport.
• The aggregated figure in kWh of the UK annual quantity of energy consumed from activities for which it is responsible involving combustion of gas or fuel for the purposes of transport, and the purchase of electricity for its own use, including for the purposes of transport.
• The methodology used to calculate its energy consumption and emission levels.
• At least one ratio that expresses the company's annual emissions in relation to a quantifiable factor associated with the company's activities.
• If the company has taken any measures for the purpose of increasing the company's energy efficiency, a description of the principal measures taken.
• Where it is impractical to obtain all or some of the emissions or energy consumption data requiring disclosure, what information is not included any why.

Although this new requirement only applies to large companies (and limited liability partnerships (LLPs)) other entities are encouraged to consider whether it would be

helpful to the users of their financial statements to also make these disclosures. For LLPs, the disclosures are presented in an 'Energy and Carbon Report'.

Clearly these disclosure requirements are going to prove challenging to many companies. The Government had produced detailed guidance to assist companies meet their obligations which is available online using the following link:

https://www.gov.uk/government/publications/ environmental-reporting-guidelines-including-mandatory- greenhouse-gas-emissions-reporting-guidance

How we can help

We will be very pleased to discuss the impact on your company of the narrative reporting requirements outlined above. If you would like to discuss these issues in more detail, please contact us.

For information of users: This material is published for the information of clients. It provides only an overview of the regulations in force at the date of publication, and no action should be taken without consulting the detailed legislation or seeking professional advice. Therefore no responsibility for loss occasioned by any person acting or refraining from action as a result of the material can be accepted by the authors or the firm.