ESEF Compliance & The Digitisation Of Reporting

Originally published on LinkedIn 09/08/2018

With robotics and AI on the rise, the way policymakers and investors perform analysis is still behind its time. Most regulatory bodies require unstructured financial reporting information for compliance, which usually take shape in a PDF or HTML file. While it’s easier to navigate through these types of files than a printed report, this format still makes comparing financial information across industries or states a manual chore – a task that’s highly inaccessible to stakeholders.

The SEC XBRL Implementation – Benefits and Lessons Learned

Reporting and compliance as we know it has started to gradually change over the course of the past 10 years. In this sense, the US Securities and Exchange Commission (SEC) has very much become a pioneer. In 2009, the SEC turned their originally voluntary structured digital reporting program into a mandate, applying to all the publicly listed companies on the American stock exchanges. The standard that the SEC chose for this was XBRL, to translate financial concepts into a machine language.

This initially very controversial step has radically changed transparency, comparability and access to information in the USA. With all SEC disclosures publicly available online, investors have started to use AI-driven analytics to determine trends and make better-informed decisions. One such tool is where around 7,000 US publicly listed companies are immediately accessible. These are available for digital analysis and can be score-carded against competitors and industry benchmarks.

Since its inception, there have also been several challenges and lessons learned. Firstly, the US filers found it quite inefficient and costly to maintain two sets of files for compliance – the XBRL (machine readable) and the EDGAR HTML (human readable). After coping with this requirement for almost 10 years, the SEC decided to switch to iXBRL, which provides both machine readable and human readable content, all in one single XHTML file. The second take away was around the extent of custom tagging, which has proven too flexible and led to the same lack of comparability which XBRL was supposed to solve.

ESEF Compliance

ESEF Compliance: How will the new ESMA requirements impact your financial reporting?

The new European Single Electronic Format (ESEF)

The SEC XBRL implementation has indisputably set a trend. As a result, other policymakers around the world have started following their example, while also learning from their early challenges. On the European continent one of such initiative is led by ESMA, the securities and markets regulator. In 2015, ESMA announced a consultation into reporting Annual Financial Reports (“AFRs”) in the European Single Electronic Format (ESEF), which is based on the iXBRL standard.

ESMA has published its own ESEF Taxonomy (still in draft), which is based on the IASB’s IFRS taxonomy, with very minor variations, and the final output as XHTML format. The standard applies to companies producing consolidated IFRS AFRs for reporting periods beginning on or after 1st January 2020.

ESEF claims to have mitigated the two main challenges that the US filers had by introducing the iXBRL format from the very beginning, which is both human and machine readable. They are also introducing the concept of anchoring, which only allows the creation of an extension tag if it can be related (aka ‘anchored’) to an existing concept from the base taxonomy.

ESEF Compliance: the impact on listed companies in the EU

This new requirement will significantly change the reporting process and how CFOs and Boards are treating the digitisation of data. No longer limited by the boundaries of a PDF or a printed document, the Annual Report will instead become a document for consumption by machines. With this in mind, filers will want to push top-quality reliable structured data onto the national gateways. This will ensure that on the one hand the regulator accepts the submission and on the other, that investors use the correct information when performing their automated-analytics reports.

Change in look and feel

In view of ESEF coming soon, some companies have already adjusted the look of their Annual Report into a simplified, more streamlined view. They understand that financial data is more often read by machines than humans nowadays, and that machines are not that good at understanding unstructured narrative data. A good example is AVIVA and the simplified version of their annual report for 2017. We expect that many other companies will use ESEF complaince as an opportunity to improve financial reporting quality and data governance.

Even in the UK, where it’s still unclear what Brexit will bring, the ICAEW anticipate ESEF to become a trend that the country will most likely follow. In their Brexit Implications for Financial Reporting paper, the ICAEW state that “decisions taken in Brussels on electronic reporting might, moreover, be viewed as a benchmark for progress in the UK in this fast-moving area of corporate reporting.”

What businesses must be doing straight away

Although there is still some time until ESEF becomes legally binding, it’s advisable that businesses start preparing for change. They should begin by making sure they understand the new requirements and assess how this will influence the way they are currently doing their reporting. The reporting timeline will need to include an additional, very specific step, and companies must make sure they are ready for it.

Additionally, businesses must start having conversations with their audit and accounting firms, design agencies and software suppliers. More than ever, businesses will need to increase communication and facilitate interactions with these third parties, which will play a key role in this new additional step of the reporting process.

A look into the future

The FRC’s Financial Reporting Lab is skeptical whether this change will bring as much benefit as anticipated. When examining the change driven in how corporate reporting will be “produced, distributed and consumed” after the introduction of ESEF, the Lab posed the question: “Will it meet the ultimate needs of producers and users of corporate reporting”?

According to the Lab, in order for XBRL to bring the expected benefits to preparers and users, it “will need a sustained focus from all those concerned and will need leadership and innovation from regulators, companies, investors and technology providers.”

If this will happen we cannot predict, but we can all play our part and start preparing for the future now.

To find out more about ESEF you can check out our previous article, and look out for our next piece at the start of September.

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