Limitations Of The Financial Statements

June 4th, 2006 Comments off
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WHAT DO YOU THINK ARE THE LIMITATIONS OF FINANCIAL STATEMENTS?

Some of the limitations of the financial statements are as follows:

  • As the historical costs and money measurement concepts govern the preparation of the balance sheet and income statements, hence these financial statements are essentially statements reflecting historical facts. It ignore inflationary trend and does not reflect the true current worth of the enterprise,
  • Certain important qualitative elements are omitted from the financial statements because they are incapable of being measured in monetary terms like the quality and reputation of the management team, employee and other,
  • There are still items in the assets side of the balance sheet which has no real value and are merely deferred charges to future incomes like preliminary / pre-incorporation expenses and other.
  • There are still the following issues or challenges in preparing the financial statements which may amount to overstatement of the accounting profit of an entity:

ISSUES OR CHALLENGES

  • When to and how much to recognize revenue in the Income statement,
  • The constant challenge of when to expense or to capitalize the expenses. It is important to determine definitely what is revenue expenditure and capital expenditure otherwise the accounting profit will be overstated or understated – for example, capitalization of borrowing costs,etc
  • Method of depreciations and the rates to depreciate into the income statement are selected by management to suit their business needs. Are the rates intentionally been made lower or the depreciation rates are higher to accelerate the depreciation of the fixed assets,
  • Adequacy of provisions and method of providing for doubtful debts. Are the trade debtors recoverable and to what extent the accounting method for provision for doubtful debts shows the realistic picture,
  • Basis of valuation of assets- when can costs change to reflect current values? Using replacement or current costs?
  • Consolidation challenges -what to eliminates to reflects the overall group performance. Some items might be omitted to show a higher accounting profits.

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Financial Accounting

 
 

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