FASB votes to exempt private companies from disaggregation of income statement project

Private companies can breathe a sigh of relief: The Financial Accounting Standards Board (FASB) and the Private Company Council have agreed to give them a pass on a coming proposal that, if approved, would require expanded footnote disclosures about expenses. The reason for the exemption is that the projected costs of complying with the proposal are expected to outweigh the benefits for private companies.

However, some private entities — especially those contemplating an initial public offering or a merger with a public company — might want to voluntarily beef up their disclosures in this area. In addition, some public companies might want to demonstrate transparency ahead of the FASB’s proposal.

The importance of disclosure regardless of status

For private companies that do not have immediate plans to go public, it’s still important to consider the readers of their financial statements – both current and potential future readers. Different stakeholders, such as lenders, potential investors, suppliers, and customers, may have varying interests in the information provided. By including comprehensive expense disclosures, private companies can address the specific interests of these stakeholders and provide them with the information they need to make informed decisions.

If a private company is considering going public, the importance of expense disclosures becomes even more significant. Once a company becomes public, it must comply with various regulatory requirements, including providing detailed financial statement disclosures. Failure to meet these requirements can result in legal and regulatory consequences, which would impact the company’s reputation and valuation.

Remember, the devil is in the details. Providing granular expense disclosures allows stakeholders to gain a deeper understanding of a private company’s operations, cost structure, and overall financial health. It’s through these details that stakeholders can uncover potential risks, identify opportunities for improvement, and make well-informed judgments about the company’s financial position and performance.

Answering calls for improvement

The FASB started its income statement project in 2017 under the name “disaggregation of performance reporting.” The effort was paused in 2019 to allow the FASB to work on segment reporting, which had intertwining issues. In 2021, the income statement project was resurrected and rebranded with the name “disaggregation of the income statement.” Nonprofit organizations have been excluded from the scope of the project from the get-go. Now for-profit private businesses will be exempt, too.

Originally, the FASB planned to disaggregate three areas of expense:

1. Selling, general and administrative (SG&A) expenses,
2. Cost of services and other cost of revenues, and
3. Cost of tangible goods sold.

In October 2022, the FASB refined the project’s scope to include “any relevant expense line (excluding taxes).” The project aims to address investors’ concerns that companies combine (or aggregate) too many expense details under one caption in the income statement, thereby blurring the details underlying profits and future cash flows.

Being proactive, not reactive

How much detail does your company disclose about its expenses? An underlying goal when preparing financial statements is to provide investors, lenders and other stakeholders with relevant information to help them make well-informed business decisions. So if your company combines broad categories of expenses on its income statement, you might want to consider voluntarily disclosing more details — regardless of whether you’d be affected by proposed guidance that the FASB plans to issue by the end of 2023.

When it comes to reporting expenses, there isn’t a one-size-fits-all solution. Footnote disclosures that break down aggregated expense categories will vary depending on the industry and the company’s operations. Examples of expenses that may be of particular interest to stakeholders include compensation and discretionary items (such as advertising and research costs). You also could apply a “hurdle” to determine whether a line item should be disaggregated and disclosed. For example, the FASB is considering proposing that public companies disclose any item that exceeds, say, 10% of the cost of sales or SG&A expenses.

Eyes on expenses

As interest rates and operating costs — including labor and benefits, materials and supplies, shipping, and utilities — continue to skyrocket, lenders and investors are clamoring for more details. Contact us to determine the appropriate level of disclosure for your business.