Business Models and Corporate Reporting

Defining the Platform to Illustrate Value Creation

Lorenzo Simoni

• Publisher: Routledge
• Year: 2021
• ISBN:
  9781000439618
• Edition: 1
• Topic: Business
• Subtopic: Financial Accounting
• Index: Business

This book discusses the role of business models in corporate reporting. It illustrates the evolution of non-financial reporting, the importance of business model reporting, and the main conceptualisations of business models. It also offers a methodological contribution to the assessment of business model reporting. Finally, it discusses the main implication of business model reporting for different categories of subjects and some challenges related to this kind of disclosure.

Readers will understand the role of business models in the non-financial reporting landscape. They will also gain an understanding of how business models can help users of the annual report contextualise other non-financial items disclosed. However, effective business model reporting implies paying attention to certain features that define its quality. This theme is discussed in the empirical part of the book and in the section devoted to implications for preparers, users, and regulators.

As large companies in the EU and the UK have to disclose the business model in the annual report, this book will be of interest to preparers and users of financial statements, regulators involved in the ongoing non-financial regulatory process, and professional bodies. It will also be of interest to academics interested in the investigation of non-financial reporting.

1   Introduction

DOI: 10.4324/9781003016793-1

Businesses all over the world have become more and more complex in recent years. Evaluating companies and predicting their future performance has become increasingly difficult for investors and analysts, who need information that can help them understand the main sources of competitive advantage of a company and how an entity can defend that advantage. In this context, the concept of business model (BM) has emerged as a tool that allows the identification of the main drivers of value for a firm. By offering a simplified representation of how a business generates value, the BM becomes a tool that companies can internally use to identify and manage the most relevant aspects of their operational model. At the same time, the availability of information about the BM allows external users to understand the business logic of a company.

For this reason, the BM has become popular in the field of reporting. While the concept of BM has found applications in some accounting standards, its definition for the purpose of financial reporting differs from the conceptualisation of BM as a managerial tool. For instance, in IFRS 9, a BM test allows to distinguish companies that hold financial instruments for the purpose of collecting contractual cash flows from companies that actively trade financial instruments. Some documents also discuss the opportunity to use the BM to inform financial reporting standards (EFRAG research paper, 2013). Accounting standards and documents that propose the BM as a concept that is capable of informing accounting principles consider the BM as a tool to identify the structure of transactions or to define how a company manages some assets. However, the view of the BM that emerges from the managerial literature reflects a more complex concept, which is able to synthetise and represent all the main sources of value of a company and their mutual relationships (Bukh, 2003; Beattie and Smith, 2013; Nielsen and Roslender, 2015; Bini et al., 2018, 2019). For its nature, the information about how a company generates value usually takes on the narrative form (Holland, 2004). Thus, if the concept of BM as not solely a representation of transaction structure or an approach to asset management but an overall picture of value creation is embraced, the natural channel to communicate the BM as a story of value creation is the narrative section of the annual report.

The use of BM narrative to convey information about how value is generated and capture has been the object of an important academic debate, which has placed this story of value creation at the heart of narrative reporting (Beattie and Smith, 2013). Regulators have underlined the importance of providing narrative information that supports financial statements. The Securities and Exchange Commission (SEC) and the International Accounting Standards Board (IASB) have devoted great attention to the management discussion and analysis (MD&A) and the management commentary, respectively. Moreover, several entities have proposed frameworks that aim to facilitate the integration of narratives in the annual report. The most important examples are the International Integrated Reporting Council (IIRC) and the World Intellectual Capital Initiative (WICI). Both entities have been established to support companies in the transition from a traditional financial reporting model to an enhanced reporting model, which incorporates narrative information that helps investors assess a company’s resources and activities. The reporting model proposed focuses on the communication of information that cannot be reflected in the financial statements, such as information on intangible items that cannot be clearly identified or reliably measured but contribute to value creation. All these frameworks consider the BM as one of the most important items that narratives should address.

By offering a comprehensive picture of the value creation process, the BM has been identified as the tool that allows companies to illustrate the contribution of different resources and activities to the generation of that value. In the view of scholars, the contribution of the BM is not limited to activities and resources but considers all potential sources of value (Nielsen and Roslender, 2015). For instance, the BM has also the potential to show how a company benefits from relationships with third parties. The interest of academics and practitioners towards this theme has led regulators in the UK and the EU to require large entities to communicate information about the BM in the narrative part of the annual report, believing that this kind of information has the power to improve the quality of communication and to enrich the information set that investors and other stakeholders can use to evaluate a company.

Hence, academics and regulators are attempting to pave the way to a better model of corporate reporting, which is able to offer a platform to define the value creation process. This path towards an enhanced reporting model needs a reflection on the main challenges and opportunities that companies are exposed to. The disclosure of the BM as a value creation platform can find its place in this path, which places emphasis on using narrative reporting to disclose information about intangible factors that are not represented in the financial statements and on the importance of comprehensive reporting frameworks for environmental, social, and governance (ESG) information.

BM reporting has the same ambitions of narrative reporting about intangibles and ESG, which consist in a more faithful representation of a company’s overall value. Nonetheless, the disclosure of BM distinguishes itself from other forms of narrative disclosures, offering new possibilities. Being the story of how the value, which is the object of reporting, has been created and how a company can defend its competitive advantage, the BM offers a framework for other information disclosed in the annual report. Hence, the disclosure of the BM has the potential to inform investors about the role that different resources play in value creation (Beattie and Smith, 2013; Nielsen and Roslender, 2015). This distinctive trait emphasises the importance of BM. While other information, like information about intangibles, ESG factors, and risks, enriches the information environment by providing investors with additional information, the contribution of the BM can go beyond the sole production of new information. The BM can become a piece of information that allows users to correctly assess other information disclosed, thus enhancing the value of information about intangibles, ESG factors disclosed, key performance indicators, and risks.

Despite the interest in the topic and the potential of BM in narrative reporting, the process of developing sound BM reporting practices and effective regulations is still in its early stages, and several questions remain unanswered. For instance, regulators have required the disclosure of BM but have not offered detailed guidelines about how companies should be compliant. Preparers of financial statements, which have to comply with norms, can either see an opportunity in showing their capability to create value or withhold information to avoid loss of competitiveness. These contrasting results have been identified by early empirical research (Bini et al., 2016; Di Tullio et al., 2019).

From the academic research perspective, the first stage of enquiry into the BM has offered several conceptual contributions, which have emphasised its potential in corporate reporting. A second stage, which has just started, consists in the empirical investigation of BM disclosure practices. Studies have moved from being explorative studies to investigate factors associated with BM disclosure. In this phase, the research approach to the investigation of BM can be further improved and examined. The main issues relate to the different frameworks and attributes that are used to assess BM disclosure, which may consistently vary among different pieces of research. Hence, a definition issue emerges in the literature, which needs further reflection.

In light of these premises, academics and regulators will have to answer questions like: how are companies approaching the duty to communicate the BM? Which value do users assign to information about the BM? How can the regulations of BM disclosure be revised and improved? How can academics further contribute to the debate around BM reporting and support policymakers?

This book offers a review of the role of BM in corporate reporting and a discussion around early evidence about BM disclosure practices. It also offers insights on methodological issues related to the assessment of BM disclosure by companies and future research directions. The successful achievement of the goal to offer a wider and more meaningful value creation story through the annual report can be realised by means of the BM. The capability of regulators and practitioners to solve these issues and to correctly evaluate the opportunities offered by a reporting centred around the BM will be fundamental to reach the aim of improving reporting in the next years. Scholars can contribute to this debate in several ways. Academic research can shed light on BM disclosure practices and their consequences, identifying potential gaps. Regarding the issues related to the definition of BM, scholars have defined and identified several conceptualisations and definitions of BM and its main components. Advancing the research in this field can help academic research further develop empirical studies on BM reporting but has also practical implications. The use of these frameworks and conceptualisations can help regulators develop more detailed guidelines and assist companies in the identification and disclosure of the main BM elements.

The rest of the book is organised as follows. Chapter 2 discusses the role of non-financial information in modern economies and examines the literature on non-financial disclosure. It offers an overview of the most popular frameworks and of the results of empirical studies on non-financial disclosure. It also illustrates the most important issues that characterise non-financial disclosure according to several academics. The BM is introduced as a concept that can help overcome non-financial reporting limitations. The potential of BM reporting in shaping non-financial information is largely debated and emphasised, as well as some issues and challenges associated with BM reporting, which are mainly related to the absence of a shared definition of this concept and to the loose requirements companies are subject to.

Chapter 3 focuses on the disclosure of the BM in corporate reports. It offers a review of existing empirical evidence on BM disclosure practices, how companies approach BM reporting, and the effects of the communication of this kind of information. In the chapter, I review current methodological issues in the assessment of BM disclosure in annual reports. In the absence of strict requirements and shared definitions, the assessment of BM disclosure can pose several challenges to researchers and professionals aiming at understanding the value creation process. Starting from the main BM disclosure assessment issues and methods employed by previous studies, a new BM disclosure index is proposed. An application of the index to a sample of listed companies is offered. Chapter 4 presents the most important implications that BM reporting has for preparers, users, regulators, and academics, indicating potential research avenues for the future. Concluding remarks are presented in Chapter 5.

References

1. Beattie, V., & Smith, S. J. (2013), “Value creation and business models: Refocusing the intellectual capital debate”, The British Accounting Review, Vol. 45 No. 4, pp. 243–254.
2. Bini, L., Dainelli, F., & Giunta, F. (2016), “Business model disclosure in the Strategic Report Entangling intellectual capital in value creation process”, Journal of Intellectual Capital, Vol. 17 No. 1, pp. 83–102.
3. Bini, L., Bellucci, M., & Giunta, F. (2018), “Integrating sustainability in business model disclosure: Evidence from the UK mining industry”, Journal of Cleaner Production, Vol. 171, pp. 1161–1170.
4. Bini, L., Dainelli, F., Giunta, F., & Simoni, L. (2019), Are non-financial KPIs in annual reports really “key”. An investigation of company disclosure and analyst reports in the UK. Edinburgh: The Institute of Chartered Accountants of Scotland (ICAS).
5. Bukh, P. N. (2003), “The relevance of intellectual capital disclosure: a paradox?”, Accounting, Auditing & Accountability Journal, Vol. 16 No. 1, pp. 49–56.
6. Di Tullio, P., Valentinetti, D., Nielsen, C., & Rea, M. (2019), “In search of legitimacy: a semiotic analysis of business model disclosure practices”, Meditari Accountancy Research, Vol. 28 No. 5, pp. 863–887.
7. EFRAG (2013), The role of business model in financial statements, research paper, Bruxelles: European Financial Reporting Advisory Group (EFRAG).
8. Holland, J. (2004), Corporate intangibles, value relevance and disclosure content. Edinburgh: Institute of Chartered Accountants of Scotland (ICAS).
9. Nielsen, C., & Roslender, R. (2015), “Enhancing financial reporting: The contribution of business models”, The British Accounting Review, Vol. 47 No. 3, pp. 262–274.

2 The disclosure of non-financial information and the role of business models

DOI: 10.4324/9781003016793-2

2.1 Non-financial information and value creation

The interest of academics and practitioners in the disclosure of non-financial information has steadily grown over time (Ferenhof et al., 2015). Since the 1990s, many scholars have investigated non-financial disclosure, adopting different perspectives, such as agency theory (Li et al., 2008), legitimacy theory (Guthrie et al., 2006), or signalling theory (Whiting and Miller, 2008). The main reason behind the popularity of non-financial information is the shift from a traditional economy to an economy based on intangible, knowledge-based resources (Porat and Rubin, 1977; OECD, 1981), i.e. an economy “(…) directly based on the production, distribution and use of knowledge and information” (OECD, 1996, p. 3). In this kind of economy, knowledge-based assets represent the main source of a company’s competitive advantage and a major driver of corporate performance (Edvinsson and Malone, 1997; Ittner et al., 1997; Stewart, 1997; Bontis, 2001). The term intellectual capital (IC) was created in order to distinguish those resources from material assets.

IC refers to all those intangible resources that are based on knowledge, like know-how, expertise, relationships, and reputation. Stewart (1997) defines IC as intellectual material – knowledge, information, intellectual property, and experience – that can be put to use to create wealth. The OECD (1999) defines IC as “the economic value of two categories of intangible ...

Table of contents

• Cover
• Half Title
• Series Page
• Title Page
• Copyright Page
• Table of Contents
• 1 Introduction
• 2 The disclosure of non-financial information and the role of business models
• 3 Business model communication in corporate reporting
• 4 The implications of business model disclosure
• 5 Concluding remarks
• Index