Full Disclosure Principle

The full disclosure principle is the accounting guideline that a company's financial statements should include all information that would be likely to influence the judgment of an informed reader. If something is important to understanding a company's financial position, results or cash flows, it must be reported, either as an amount in the statements themselves or as an explanation in the accompanying notes. The principle exists because numbers alone rarely tell the whole story: two companies with the same profit may face very different risks.

The principle is not a stand-alone standard but runs through US GAAP and IFRS, and it is tempered by materiality and by the cost of providing information. It does not require a company to disclose every fact, only those that matter. The general topic of what companies report beyond the main figures is covered in the entry on disclosures.

Most required disclosures appear in the notes to the financial statements, which in a large company can run to dozens of pages. Typical items include:

• A summary of significant accounting policies, such as the inventory cost method, depreciation methods and revenue recognition approach.
• Details behind balance sheet figures, such as the maturities and interest rates of debt, lease commitments and the make-up of inventory.
• Uncertainties and commitments that are not, or not fully, recorded, such as pending lawsuits and guarantees treated as a contingent liability.
• Related-party transactions, such as loans to directors or purchases from companies owned by the chief executive.
• Subsequent events, which are significant events after the balance sheet date but before the statements are issued, such as a major acquisition or a factory fire.
• Substantial doubt about the company's ability to continue as a going concern, and management's plans to address it.

Suppose a manufacturer has total assets of $80 million and net income of $6 million. At year end it is being sued by a customer for $9 million over a product failure. Its lawyers believe a loss is reasonably possible but not probable, so under US GAAP (ASC 450) no liability is recorded. The full disclosure principle still requires a note describing the lawsuit and an estimate of the possible loss, or a statement that it cannot be estimated. Without that note, a reader would see a profitable company with no sign that a single claim could wipe out more than a year's earnings.

Similarly, if the same company signed an agreement in February to sell a major division, before its statements for the year ended 31 December were issued, the sale would be disclosed as a subsequent event, even though it did not affect the year's figures.

Full disclosure is balanced against several other considerations. Information that is immaterial can be left out, and including too much detail can obscure what matters, a problem often described as disclosure overload. Standard-setters, including the FASB through its disclosure framework project and the IASB through its disclosure initiative, have worked to make notes more focused. Companies are also not required to disclose forecasts or detailed competitive information, although public companies discuss known trends and uncertainties in management's discussion and analysis. Disclosures must be factual and neutral; they cannot be used to bury bad news in long, technical wording.

For US public companies, the Securities and Exchange Commission adds extensive disclosure requirements of its own and reviews filings, often sending comment letters asking companies to explain or expand their disclosures. Auditors check whether disclosures are adequate as part of forming their opinion, and inadequate disclosure can lead to a qualified or adverse auditor's report. Many of the best-known accounting scandals, including Enron's use of off-balance-sheet partnerships, involved failures of disclosure as much as errors in recorded numbers. A reader who understands the principle knows to treat the notes as an essential part of the annual report, not as fine print, and to pay particular attention to any change in accounting estimate or policy explained there.