Managements discussion and analysis

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Managements Discussion and Analysis (MD&A) is a section in financial statements as part of the disclosures section. In this statement previous performance and forecasted results are discussed. Because a reader can easily interpret the management's opinion about performance of business and forecasted prospects, this part of the statement is playing a very crucial role in reviewing financial statements section. Any publicly listed companies are required to present the MD&A section as part of the financial reports (quarterly and annually), which is positioned as mandatory by the SEC (Securities and Exchange Commission). However, privately held companies are not required to do so (Muslu V., Radhakrishnan S., Subramanyam K.R., Lim D. 2010, p. 1-3).

The SEC mandates MD&A section to present:

  • The cost of goods sold,
  • Opportunities,
  • Trends,
  • Risks,
  • Challenges,
  • Key performance indicators,
  • Future plans,
  • Changes in revenues,
  • Assets and liabilities,
  • Other expenses.

Requirements of SEC related to financial reporting

These are the requirements of SEC's three objectives related to financial reporting:

  • To provide the perspective of the management for a narrowed-down description of the financial statements of the business,
  • To augment the financial statements numerical disclosures,
  • To deliberate the cash flows, the variety of possible earnings and the quality of it.

The MD&A section is very important part of the financial statements due to the SEC's critiques. The SEC personnel would like to see explicative comments and explanations from the company about the operations result rather than stereotypical reasons given for the company's performance changes. During the earnings calls with the stakeholders and investment analysts, the questions asked in the call are recorded and checked if they could have been answered with reference pointing to the MD&A section.

SEC imposes upon, till some degree, what is mandated to be mentioned in the MD&A (Clarkson P.M, Kao J.L., Richardson G.D. 2011, p. 111-113):

  • A deliberation of financial state of the company,
  • The changes in financial state and outcome of the company operations,
  • A deliberation of the liquidity of the company and resource of capital that includes risks, demands, commitments, trends, list of potential risks on liquidity and the actions management teams have taken to reduce shortcomings of the company's liquidity and resource of the capital,
  • A deliberation and explanation of capital source of the company, capital limitations and capital cost,
  • A deliberation of information about subdivisions of the company if any in a division-by-division position,
  • Specifications of uncommon or non-frequent operational events that impacts the revenue,
  • A deliberation of how inflation impacts the business,
  • A deliberation of off the balance-sheet dispositions of the company,
  • A sheet explaining the obligations binding company contractually which can include the size, the nature and the duration of the obligations.

Requirements for the MD&A

Securities law mandates that companies have to employ an independent auditor to audit company's financial statements. Auditors examine whether the financial statements are accurate, however these Auditors don't examine the data in the MD&A section. The MD&A also presents the management's opinion and forecast, hence sheds light on the potential future operations. Therefore, these data cannot be distorted by the auditors. That being said, the Management's Discussion and Analysis section must satisfy specific standards. According to the Financial Accounting Standards Board (FASB), MD&A should present an objective presentation pointing out positive-negative information on the agenda that has been conversed. Even that management intends to provide its thoughts on the business condition, it is rival, business risks, facts should be the base of these statements. Therefore, there should be an intend to draw an objective frame on the future prospects of the business (Eikner A.E., Hefzi H., Glezen G.W. 2000, p.13-15).

Results of Operations

In the time of the conversation of the results of the company's business operations, the company's management definitely should be able to focus on the uncommon series of the events or the transactions that have been made or any other important financial and material changes that have impacted the income due to on-going business operations. The company's management team should be able to clearly articulate and explain the potential trends and/or uncertainties that have already had or that management team forecasts to have a positive or negative affect on the net revenues from the business operations. In the event of the company when it is experiencing a significant increase in sales operations or revenues generated comparing to the previous quarters or years, management team should articulate and explain the correlation of this increase whether it attributes to the price increase or new product or services that have been released (Schroeder N., Gibton Ch. 1990, p. 79-80).


Managements discussion and analysis — recommended articles
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References

Author: Iryna Vasilieva

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