Process of Financial Management 3

Question 1

Limitations of Financial Reports

Answer 1

• Normalised Earnings
• Capitalising Expenses
• Valuing Assets
• Timing Issues
• Debt Repayments
• Notes to the financial statement

Question 2

Normalised Earnings

Answer 2

Adjusting earnings to remove one off items affecting profitability
- Is done to give an accurate representation of true earnings

• E.g removing a one-off big expense will represent earnings better as even though it affects short-term liquidity, it will not be accurate for long term performance

Question 3

Capitalising Expenses

Answer 3

Putting an expense in the asset category
- Makes profit seem larger, but will affect future peformance as the asset may not be in use by then
- Under represents expenses, while overvaluing assets

Question 4

Valuing Assets

Answer 4

Estimating value of assets on balancing sheet
- May be difficult for NCAs due to depreciation / appreciation (historical value VS current market value)

• Can lead to misleading worth of a business’s assets

Question 5

Timing Issues

Answer 5

Recording unfavourable expenses in another period than it actually was (not following matching principle)
E.g Selling a property with 2% commission in June, but was not paid until July (should be recorded in June)
- Leads to misleading funds for periodds

Question 6

Debt Repayments

Answer 6

Can be limited when it is not clear about level of debt the business is under
- When repayments must be made
- The ability of the business to recover debt
- When it was incurred, if it has been renegotiated
- When it is due

Question 7

Notes to Financial Statements

Answer 7

Report details not in financial reports, can be helpful for stakeholders to make sense of financial statements

Question 8

Ethical Issues related to financial reports

Answer 8

• Audited Accounts
• Record Keeping
• Reporting Practices

Question 9

Audited Accounts

Answer 9

Independent check of accurate financial records and accounting procedures
- Internal audit
- Management audit
- External audit

Question 10

Record Keeping

Answer 10

Accounting processes depend on how accurately and honestly data is recorded in reports
- E.g recording all transactions

Question 11

Reporting practices

Answer 11

Accurate financial reports are needed for taxation and information for stakeholders