Two rulebooks say what must be there. In the US, Reg S-K Item 303 requires a period-over-period discussion of results of operations and of liquidity and capital resources. Can they fund themselves for 12 months? What's the revolver capacity and the covenant status? It also requires critical accounting estimates and known trends and uncertainties. That last one is legally the most dangerous thing for management to leave out, so hunt for hedged phrasing ("we have recently observed…"). India's LODR Schedule V requires industry structure and developments, opportunities and threats, segment performance, outlook, risks and concerns, and internal control adequacy. Since FY19 it has also required a table of key financial ratios, with any change ≥25% vs the prior year explained. Those ratios are debtors turnover, inventory turnover, interest coverage, current ratio, debt-equity, operating profit margin and net profit margin, plus any change in return on net worth.
That ratio rule is a gift. Management has to put the deterioration in writing and explain it, and the quality of the explanation tells you something. Compare "receivable days rose due to extended credit to key institutional customers in Q4" with "due to market conditions". Only the first is specific and checkable, and it hints at the channel-stuffing pattern the earnings games module names. "Market conditions" is evasive, and worse.
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How do you audit the MD&A?
Management writes MD&A for shareholders, and lawyers review it. It's advocacy, so audit it like advocacy and test the promises against delivery:
- Build a promises ledger. Pull MD&A/outlook sections from the last 3–5 ARs. Extract every dated or quantified promise: "capex cycle completing next year," "margins to normalize to 18%," "net debt to halve by FY24." One line per promise, with the year made.
- Grade delivery. Check it against actual filings. If management keeps promising "asset-light next year" while gross block doubles, they've told you who they are. The IL&FS group ran this pattern for years before its 2018 default. Leverage was described as temporary, every year, until ₹90,000+ crore of group debt failed. Its scale here is illustrative, and the case files are in Forensic Case Files.
- Run the blame audit. Are good years put down to strategy and bad years to weather, currency or "macro headwinds"? Symmetric honesty is rare and precious. Buffett's shareholder letters are the benchmark. He names his mistakes and puts his own name to them.
- Detect KPI switching. The metric that disappears is the metric that went bad. A retailer trumpeting same-store sales growth for six years that suddenly reports only "total footprint growth" has answered your question. Keep a list of which KPIs each company leads with, and diff it yearly.
- Watch the adjective-to-number ratio. Paragraphs of "strong," "resilient," "industry-leading" without a single number are filler at best and camouflage at worst.