Management Discussion and Analysis (MD&A): Definition and Example

What Is Management Discussion and Analysis (MD&A)?

Management discussion and analysis (MD&A) is a section of a public company's annual report or quarterly filing. The MD&A addresses the company’s performance. In this section, the company’s management and executives, also known as the C-suite, present an analysis of the company’s performance with qualitative and quantitative measures.

Understanding Management Discussion and Analysis (MD&A)

In the management discussion and analysis (MD&A) section of the annual report, management provides commentary on financial statements, systems and controls, compliance with laws and regulations, and actions it has planned or has taken to address any challenges the company is facing. Management also discusses the upcoming year by outlining future goals and approaches to new projects. The MD&A is an important source of information for analysts and investors who want to review the company’s financial fundamentals and management performance.

The MD&A is just one of many sections required by the Securities and Exchange Commission (SEC) and the Financial Accounting Standards Board (FASB) to be included in a public company’s annual report to shareholders. A company that issues stock or bonds to the public at large must register its offerings with the SEC, which oversees public companies’ compliance with U.S. securities laws and ensures investors are given adequate information about companies they invest in. The SEC mandates 14 items to be included in the 10-K report. The MD&A section is Item #7.

The FASB is a nonprofit, private regulatory organization, which the SEC has designated as the body responsible for promulgating accounting standards for public companies in the United States. FASB outlines its requirements for the MD&A section of filings.

Requirements for Management Discussion and Analysis (MD&A)

Securities law dictates that companies must hire an independent auditor to verify a company’s financial statements, such as its balance sheet, income statements, and statement of cash flows. Auditors perform test work to determine if the financial statements are materially correct, but these certified public accountants (CPAs) do not audit the MD&A section. The MD&A represents the thoughts and opinions of management and provides a forecast of future operations. Therefore, these statements can’t typically be authenticated.

That said, the MD&A section must meet certain standards. According to FASB, “MD&A should provide a balanced presentation that includes both positive and negative information about the topics discussed.” Even if management is giving its opinion on the state of its business, competition, and risks, these statements must be based on fact, and there must be an attempt to paint a balanced picture of the company’s future prospects.

What Is Covered in MD&A?

The MD&A section often includes an "Overview and Outlook" section. This part of the financial statement is used to explain what the future of the organization looks like. It is also management's opportunity to explain why variances (both positive or negative) occurred and what they expect from the market.

Next, management also typically discusses liquidity, solvency, and capital resources. Management must identify trends, demands, or long-term commitments that may strain capital. This section also usually contains information about management's future plans for material, major capital expenditures.

Management uses this section to explain the results of operations. Management can explain unusual events, material transactions, or significant economic changes. The company often uses this opportunity to explain why net revenues and expenses varied from expected or budgeted financial plans. The company may also use this section to explain its successes, such as how a specific product outperformed during its new launch or how new markets have beat expectations.

Last, this section is often used to shine light on management's estimates used for accounting practices. Some accounting rules require professional judgement; management can explain why they valued capital assets, inventory, or other assets as a certain amount. It can also explain how it arrived at estimates for other balance sheet or income statement amounts, such as an allowance for bad debt and resulting bad debt expense.

Limitations of MD&A

The MD&A section of a 10-K primarily uses words to explain a financial position instead of numbers. Therefore, management can use soft or hard language to manipulate how financial performance has been going or is expected to occur. Whereas financial reporting via generally accepted accounting principles (GAAP) have strict rules, a company can choose how to represent itself using the MD&A section.

When management prepares this section, they are aware that this information is going to be publicly available. This means that competitors will be able to extract information on the company's strategy. Therefore, in addition to wanting to paint a rosy picture, the company wants to be as secretive as possible without revealing information that could take away its competitive advantage.

Last, the MD&A section is entirely up to management interpretation. This means a company may interpret data one way, when in reality the markets will play out an entirely differently way. Even if management puts forth a projection to the best of its knowledge, its analysis is still prone to error and may not materialize.

Example of MD&A

The images below are from Amazon's 2021 10-K filing. In Item 7 of the notes to its financial statements, the company provides a forward-looking projection of what's to come for the company. You'll note that to protect intellectual property and not reveal too many strategic plans, the wording in this section is a bit vague.

Next, Amazon provides an overview of operations. This includes the primary sources of income, its strategic financial focus, and other means of success. Again, the company provides some insights into operations without revealing too many strategies that companies can directly steal.

There are other sections after the critical accounting judgements section, but this is the last example shown here. This section confirms that the financial statements have been prepared in conformance with GAAP and explains how management arrived at certain estimates.

The Bottom Line

The management discussion and analysis section of a set of financial statements is management's opportunity to explain how the company did and how it will perform. The section is buried in the notes to the financial statements, and it usually contains an overview, forward-looking projection, and explanation of management's judgements.