In 2018, the Financial Accounting Standards Board (FASB) revised its definition of materiality when it amended Statement of Financial Accounting Concepts 8 (SFAC/CON 8). The attached press release indicates that the new definition of materiality is consistent with the Supreme Court`s definition and that the definitions of materiality currently used by the Securities and Exchange Commission (SEC), the Public Company Accounting Oversight Board (PCAOB) and the American Institute of Certified Public Accountants (AICPA) are also consistent with the legal definition of the U.S. Supreme Court. In addition, comments from accounting firms and government accounting bodies on the FASB`s proposal to amend its definition of materiality focused on the implications of future developments in interpretation based on future jurisprudence. If these concerns result in sufficient uncertainty about changes to other definitions of materiality, our analysis suggests that they would result in fewer positive errors, lower bid and ask prices, a smaller bid-ask spread, and fewer opportunities to finance negative capital projects. [1] Especially in our game, the manager takes the definition of materiality for granted, learns privately the real performance of the company and decides what he brings in. Liquidity providers look at the report and choose the prices at which to buy and sell the company`s shares. The manager observes these offers and asks and decides whether or not to trade the shares of his company. The results of our analysis suggest that the legal definition is associated with the largest false positives, the highest bid and ask prices, the smallest bid-ask spreads, and the greatest opportunity to finance negative NPV projects. Our analysis also suggests that definitions related to more flexible thresholds and/or less uncertainty increase interactions with the company`s corporate governance structures, which focus on the manager`s current and future compensation tied to the company`s share price and restrictions on the manager`s ability to buy or sell the company`s shares. Therefore, the impact of the legal definition of materiality is more easily influenced by this type of corporate governance decision. This suggests that moving closer to the legal definition of materiality allows for greater misrepresentation and requires users of financial statements and the entity`s board of directors to pay more attention to the form of compensation earned by the manager in order to understand the interaction between the definition of materiality and the manager`s incentives to misrepresent.
As a concept borrowed from accounting and auditing, materiality was the perfect idea to promote the integration of non-financial issues into business thinking and decision-making. It sounds professional, financially relevant, familiar to investors and listeners. Based on these results, we compare current and historical definitions of materiality. This allows us to examine differences in the impact of convergence on the legal definition of materiality, and then examine the impact of another type of uncertainty: uncertainty related to future changes to definitions or the application of definitions. We interpret materiality definitions that use “would affect” as narrower probabilistic thresholds than “could have an impact,” and those that focus on less experienced users and probabilistically use narrower thresholds. We interpret “material likelihood” as being associated with lower uncertainty above materiality, “could reasonably be expected” as being associated with greater uncertainty, and “could be expected” as being associated with greater uncertainty. In 2006, the concept of materiality was brought to public attention in the context of sustainability by the Global Reporting Initiative (GRI) in its G3 guidelines – the cornerstone of the GRI sustainability reporting framework. A definition of materiality provides guidance to preparers and users of financial statements on what constitutes a non-material (non-material) misstatement and what constitutes a material (material) misstatement. The Supreme Court defines information as material if “there is a substantial likelihood that disclosure of the omitted fact would have been considered substantially altered by the reasonable investor in order to materially alter the `overall mix` of information provided.” This definition has served as the legal standard for materiality since 1976, although standard-setters and regulators have historically relied on their own definitions of materiality. Materiality analysis provides insights into future trends as well as business risks and opportunities that affect their ability to create value. It helps companies identify the issues they want their stakeholders to focus on. Materiality assessment generally informs sustainability or integrated reporting and is an essential tool for internal engagement.
“It helps to review the approach to managing important issues and assess where we can improve,” suggests the head of sustainability at ING when discussing the bank`s materiality journey: integrated delivery accelerates integrated thinking.