There’s A Material Thought Buried In Here

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We’re not sure if what we write in today’s blog posting could reasonably be expected to influence any reader’s use of the term: “material” in documents she or he prepares. If it could, then this posting would meet the criteria for materiality under a newly proposed, revised definition of “material” to be used by accountants in preparing financial statement or in conducting audits.

Long-time Ruminators with good memories might recall that we covered the topic of “materiality” before, specifically in late 2012. For those who were not then clued into Ruminations or for those with sieve-like memories like our own, that posting can be seen by clicking: HERE.  In yet another posting, this time only a year ago, we labeled “material” as a “weasel word,” but not as a term of derision.[That blog posting can be seen by clicking: HERE.]

We’ve met people who object to the use of the word “material,” such as when writing that one party will not materially interfere with the other’s business operations. Another place this “discussion” arises is when something (usually bad) happens if a party makes a material misstatement. The question in each of these cases and in all of the other cases readers can conjure up is; “What is material –can’t we be more definite and make a list of what would be material or, at least, include a definition for the word?” The position Ruminations has taken is that, at the end of the day, when something happens and the parties disagree whether the “something” was material, a judge will decide. And, judges, when resolving a dispute, will take into account all of the facts and circumstances that actually come up, and not all of the things that could have happened, but didn’t. That’s what judges are paid to do – make judgments. That’s why they are called judges.

The funny thing about the use of the word “material” to condition one thing or another in our agreements is that there aren’t a lot of cases where a judge has been asked to use her or his judgment as to what is material. That’s not to say there aren’t any court decisions, nor is it to say that there aren’t important court decisions in other areas about the word, but given how many agreements use the word, almost always multiple times, perhaps “material” “works.”

The business of real property agreements isn’t the only business where these “discussions” arise. As noted at the outset, accountants have the same discussion. But, in the case of accountants, they have a definition for the word. The definition differs depending on whether one looks to the Financial Accounting Standards Board (FASB) or to the International Accounting Standards Board (IASB). Today, we’ll work with the international standards because right now those are in the process of being updated.

Here is the most recently proposed language:


Information is material if omitting, misstating or obscuring it could reasonably be expected to influence the decisions that the primary users of a specific reporting entity’s general purpose financial statements make on the basis of those financial statements.

Materiality depends on the nature or magnitude of information, or both. An entity assesses whether information, either individually or in combination with other information, is material in the context of its financial statements. Material information might be obscured if it is not communicated clearly—for example, if it is obscured by immaterial information. A misstatement of information is material if it could reasonably be expected to influence decisions made by the primary users.

Assessing whether information could reasonably be expected to influence decisions of the primary users of general purpose financial statements requires consideration of the characteristics of those users judged in the entity’s circumstances.

Compare that to FASB’s understanding of the US Supreme Court’s definition of materiality:

… the U.S. Supreme Court’s definition of materiality, in the context of the antifraud provisions of the U.S. securities laws, generally states that information is material if there is a substantial likelihood that the omitted or misstated item would have been viewed by a reasonable resource provider as having significantly altered the total mix of information.

These two approaches are rooted in the same concept: if it really didn’t matter to the person who used the information (i.e., if that person didn’t rely on it), then the information (e.g., “representation”) was not material (a/k/a: it was immaterial).

What the proposed, revised definition from the IASB adds to the discussion is the concept of “obscuring.” When we write our agreements, the most likely battlefield upon which the “material” fight takes place is within the sections dealing with representations and warranties. But, in those sections we write about “material misstatements or omissions.” We don’t think about the burying of a true, but not very pretty, disclosure inside long boring prose or within voluminous documents “incorporated by reference.” Basically, our profession resorts to the principal of “caveat emptor,” something described by Investopedia as “a neo-Latin phrase meaning ‘let the buyer beware.’ It is a principle of contract law in many jurisdictions that places the onus on the buyer to perform due diligence before making a purchase.”

Should we impose greater responsibility on a party to a specific agreement to scrutinize every word in that agreement than we place on someone in the amorphous class of people who might read a financial statement? Probably, “Yes.” But what about a professional reader of financial statements such as a lender considering whether to make a loan? Great minds will differ and some will conclude that it is acceptable to obscure material (damaging) facts in an agreement or in a data dump of 10,000 due diligence documents, but somehow it doesn’t seem right to allow that to happen.

So, with that in mind, what do our loyal readers think about adding the underlined text to the following, pretty common words we all see in agreements:

[Seller represents that] this Agreement contains no untrue statement of material fact and does not omit a material fact necessary in order to make such information not misleading, and no material facts have been presented in this Agreement in a way that a reasonable person would conclude those facts have been intentionally obscured such that such obscured material facts were, in effect, omitted.

Yes, even to us, the underlined addition sounds like an unmanageable (unprovable) standard. That is, it does, until we compare it to the generally acceptable standard that precedes it: “and does not omit a material fact.” Placing a material (adverse) fact (expressed with 10 words) inside a 30 page exhibit might “technically” be disclosure of that fact, but, as we are starting to see, doing so is just a sneaky way of “omitting a material fact.”

Ruminations has no belief that anyone will be running to revive their documents or, if they do, that anyone will accept the added text. Nonetheless, this blog is aimed at provoking thought and discussion. If it has, then we’ve been successful (today, at least).



  1. Accountants casting aspersions on the obscuration of relevant facts within irrelevant information – how novel.

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