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FRS 3 Reporting financial performance
This is a highly complicated standard. Essentially FRS 3 serves to make sure the information presented in a set of accounts is clear. Companies must issue a report stating the financial performance for review by its shareholders. Consistency and ease of understanding these reports allows the reader to compare the data for similar companies. This would allow a potential investor to compare competing oil or gas companies before deciding which company’s shares to buy.
In this example of Global Oil, there are three subsidiaries: International Gas, International Oil and International Petrochemicals. Each of these different companies or subsidiaries must also produce their own set of accounts as should the parent company, Global Oil. FRS 3 states how a company must set out the financial reports and accounts, the type of information that should be provided and where it should be categorised in the company statement of accounts.
FRS 3 Exceptional items
FRS 3 consists of several other sections including a note on ‘exceptional items’. These are one-off situations and may result in either a profit or loss to the company. These are included in a separate section in the profit and loss account. The reasons for incurring an exceptional item are varied. Examples include the general costs involved in splitting up or de-merging a utility company, such as telecommunications or gas, into their separate components.
In this case study, Global Oil decided to move its head office to Edinburgh. As this move is not expected to happen regularly in the normal course of business, the cost is regarded as an exceptional cost. Although this cost is included in the profit and loss account, it is clearly marked as exceptional so that shareholders realise that a marginal reduction in profit is not a result of a reduction in revenues. FRS 3 also states that exceptional charges must be shown separately in the profit and loss account and detailed in the notes to financial statements.
SSAP 25 Segmental reporting
Segmental information gives a breakdown of the different industrial sectors in which a company is involved and allows the reader of the accounts a much better understanding of where the money is made within the different parts of the company. This information may also be provided on a geographical basis if this is relevant. This standard is mostly applicable to the biggest public limited companies or if the company has a banking or insurance division.
So for Global Oil, the financial information should detail the amount of business generated in oil refining, gas and petrochemicals. It should also provide information on the different geographic areas in which it operates. SSAP 25 states that the annual report and accounts for a company needs to provide a geographical and industrial breakdown of the following information:
- Operating profit and loss
- Net assets.
SSAP 9 Stocks and long-term contracts
Stock is an asset on the balance sheet and is essentially the product that a company will sell. In the case of Global Oil, its stock is oil and gas. SSAP 9 deals with how to value this stock on the balance sheet. Typically the value on the balance sheet would be the cost to produce and refine the oil into a marketable state. However, if the price of oil drops to a value below these production costs, then Global Oil cannot sell the oil at a profit.
In these circumstances, the value of the oil stocks on the balance sheet must be reduced to the sale price minus all transaction costs. This is known as the net realisable value. SSAP 9 states that a company must value its stock at whichever is the lower value - the cost to produce versus the net realisable value.