POFM - limitations of financial reporting Flashcards
our three financial statements are not perfect
o financial reporting and financial statements are simply a snapshot in time and sometimes must be presented in a simplified way
main limitations
- normalised earnings
- capitalising expenses
- problems with valuing assets
- timing issues
- debt repayments
- notes on financial statements
normalised earnings
o normalised earnings are those revenues and expenses that have been adjusted to take into account seasonal changes and one-offs that will have a disproportionate effect on profitability. This is done to give a true picture of the businesses earnings
capitalising expenses
o this is an accounting method where a business records what would normally be considered an expense as an asset or spreads the expense out over time.
o This is because they consider it an investment that will yield a return.
problems with valuing assets
o There are often difficulties in estimating the value of assets when recording them on a balance sheet due to appreciation (increase in value) and depreciation (loss of value
o Also some aspects of the business are intangible and do not have a verifiable value such as good will (established reputations vs new businesses), trademarks, ideas and other intellectual property. Accordingly, a estimated value is used
timing issues
o As financial statements are a snapshot I time, revenues and expenses may be recorded at different times across the financial statements distorted the results
debt repayments
o Financial reports do not have the capacity to disclose specific information about debt repayments including how long, when due or ability to repay
notes on the financial statements
o These notes (often at the bottom of the page or at the end of financial reports) report the details and additional information left out of the main reporting documents.
o They may include the methodology of how things were calculated
