Financial Statements Are Summaries Of Monetary Data Accounting Essay


Financial Statements are summaries of monetary data that forms part of the process of financial reporting. The most common financial statements include a balance sheet, an income statement, a cash flow statement and notes and other statements and explanatory material that form a fundamental part of the financial statements. Financial statements may be drawn up for (1) a sole trader; (2) partnerships or a corporate limited liability company. The nature of a business determines the kind of data that will be available in the financial statements. The main objective of financial statements is to provide information about the financial position, performance and changes in financial position of a business that is useful to a wide range of users in making economic decisions. These statements are useful for different reasons; the purpose of the user determines the data he or she will seek. Financial statements also portray the results of stewardship of management and the user should be able to assess the accountability of management, which may influence the users' decision making process. Information on financial position is primarily provided in a balance sheet, that of performance in the income statement and changes in financial position through the presentation of a cash flow statement (IAS7).

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The main users of financial statements include present and potential investors, lenders, suppliers, employees, lenders, suppliers and other trade creditors, government and their agencies, employees, managers and the general public. They use financial statements in order to satisfy some of their different needs for information. These needs include the following:

(a) Investors. The providers of risk capital and their advisers are concerned with the risk inherent in, and return provided by, their investments. They need information to help them determine whether they should buy, hold or sell. Shareholders are also interested in information which enables them to assess the ability of the entity to pay dividends. to help them determine whether they should buy shares in the business, hold on to the shares they already own or sell the shares they already own. They also want to assess the ability of the business to pay dividends.

(b) Employees. Employees and their representative groups are interested in information about the stability and profitability of their employers. They are interested in the financial information which helps them to assess the ability of the business to provide remuneration, retirement benefits and employment opportunities. This in turn affects their expectations when negotiating salaries and wage reviews, bonuses, or for new / prospective employees of the business.

(c) Lenders. Lenders are interested in information that enables them to determine whether their loans, and the interest attaching to them, will be paid when they are due. Lenders and potential lenders of the business will be concerned with how safe or otherwise it will be to deal with the company and to advance initial or further loans. The lenders will be looking at the assets the company may possess so that it may be used as security for loans as well its liquidity to pay interests from time to time and the principal when it is due.

(d) Suppliers and other trade creditors. Suppliers and other creditors are interested in information that enables them to determine whether amounts owing to them will be paid when due. Trade creditors are likely to be interested in the business over a shorter period than lenders unless they are dependent upon the continuation of the business as a major customer. Businesses supplying goods and materials to other businesses will read their accounts to see that they don't have any problems: after all, any supplier wants to know if his customers are going to pay their bills.

(e) Customers. Customers have an interest in information about the continuance of a business, especially when they have a long-term involvement with, or are dependent on, the business for the products or services it provides. The customers of a business will be concerned with the financial health of the business as they want to see that the business will remain viable and continue in operation at least throughout the period of their business relationship with the company. Some customers may only be concerned with the immediate liquidity of the business where the relationship is one-off or short term.

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(f) Governments and their agencies. Governments and their agencies are interested in the allocation of resources and, therefore, the activities of entities. They also need the information in order to regulate the activities of entities, determine taxation policies and as the basis for national income and similar statistics. The governments look at how well a business complies with statutory laws governing companies and the financial reporting, what taxes are payable and whether taxes such are paid when they fall due. They will also look at the company policy on social responsibility, health and safety standards for compliance.

(g) Public. Business establishments affect members of the public in a number of ways. Businesses may make a substantial contribution to the local economy in many ways including the number of people they employ and their patronage of local suppliers. Financial statements assist the public by providing information about the trends and recent developments in the prosperity of the entity and the range of its activities.

(h) Managers. The Managers need of financial information to assist them to manage the business properly. They need past information on the business to make their forecasts or information of related businesses to use in planning. This helps with budget preparation and planning, they need operational information for management direction and control. They also need to have strategic data for analysis and conversion into long term, medium and short term goals for the business.


The IASB's Framework for the Preparation and Presentation of Financial Statements describes the basic concepts by which financial statements are prepared. The Framework serves as a guide to the Board in developing accounting standards and as a guide to resolving accounting issues that are not addressed directly in an International Accounting Standard or International Financial Reporting Standard or Interpretation.

In the absence of a Standard or an Interpretation that specifically applies to a transaction, management must use its judgment in developing and applying an accounting policy that results in information that is relevant and reliable. In making that judgment, IAS 8.11 requires management to consider the definitions, recognition criteria, and measurement concepts for assets, liabilities, income, and expenses in the Framework. This elevation of the importance of the Framework was added in the 2003 revisions to IAS 8.

The Framework:

defines the objective of financial statements

identifies the qualitative characteristics that make information in financial statements useful

defines the basic elements of financial statements and the concepts for recognizing and measuring them in financial statements

provides concepts of capital maintenance

General Purpose Financial Statements

The Framework addresses general purpose financial statements that a business entity (whether in the private or public sectors) prepares and presents at least annually to meet the common information needs of a wide range of users external to the entity. Therefore, the Framework does not necessarily apply to special purpose financial reports such as reports to tax authorities, reports to governmental regulatory authorities, prospectuses prepared in connection with securities offerings, and reports prepared in connection with business combinations.

The financial statements must "present fairly" the financial position, financial performance and cash flows of an entity. Fair presentation requires the faithful representation of the effects of transactions, other events, and conditions in accordance with the definitions and recognition criteria for assets, liabilities, income and expenses set out in the Framework. The application of IFRSs, with additional disclosure when necessary, is presumed to result in financial statements that achieve a fair presentation. [IAS 1.15]

IAS 1 requires that an entity whose financial statements comply with IFRSs make an explicit and unreserved statement of such compliance in the notes. Financial statements shall not be described as complying with IFRSs unless they comply with all the requirements of IFRSs (including Interpretations). [IAS 1.16]. Inappropriate accounting policies are not rectified either by disclosure of the accounting policies used or by notes or explanatory material. [IAS 1.16]. IAS 1 acknowledges that, in extremely rare circumstances, management may conclude that compliance with an IFRS requirement would be so misleading that it would conflict with the objective of financial statements set out in the Framework. In such a case, the entity is required to depart from the IFRS requirement, with detailed disclosure of the nature, reasons, and impact of the departure. [IAS 1.19-20]

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Accounting policies are defined in FRS18 as: those principles, bases, conventions, rules and practices applied by an entity that specify how the effects of transactions and other events are to be reflected in its financial statements through recognizing, selecting measurement bases for, and presenting assets, liabilities, gains, losses and changes to shareholders' funds. Accounting policies do not include estimation techniques. Accounting policies define the process whereby transactions and other events are reflected in financial statements.

Some simple examples of accounting policies are the choice between treating expenditure on items such as tools and equipment, and development expenditure, as expenses in the profit and loss account or as fixed assets in the balance sheet. Another example given in FRS18 is whether to include certain expenditure as a part of the cost of sales or alternatively under the heading of administrative expenses in the profit and loss account. A similar example is whether to show investments in the balance sheet as either a fixed asset or a current asset.

Financial information is relevant if it has the ability to influence the economic decisions of users and is provided in time to influence those decisions. Relevant information possesses either predictive or confirmatory value or both. Financial information is reliable if: it can be depended upon by users to represent faithfully what it either purports to represent or could reasonably be expected to represent,

and therefore reflects the substance of the transactions and other events that have taken place; it is free from deliberate or systematic bias (i.e. it is neutral); it is free from material error; it is complete within the bounds of materiality; and under conditions of uncertainty, it has been prudently prepared (i.e. a degree of caution has been applied in exercising judgement and making the necessary estimates)


Though financial statements are the responsibility of management, shareholders hire auditors to protect their interests and to add credibility to the financial information disclosed by their businesses. Auditors need to have qualities of both expertise and integrity to add this credibility. Expertise assures us that if there is any type of irregularity in financial reporting, the auditor will discover it. Integrity assures that any irregularity found by the auditor shall be disclosed. If either of these qualities is missing, the other has no value.

They are hired to provide an independent, external opinion that can certify the truthful status of an entity's own financial reports. Independence is the only explanation that justifies the existence of accounting firms that provide external audits. If it were not for the claim of independence, there would be no purpose for external auditors to exist, as their function would be redundant with those of an entity's inside auditors. The assurance of independence is therefore crucial to all of those who rely on audited financial statements for reliable information regarding a firm's financial health, including strategic partners, investors, employees, customers lenders and employees. For independence to exist, external auditors' reports must not be affected by any goal other than accuracy.


Since the scandal of Enron, the question that has been repeatedly asked is how Arthur Andersen ever signed off on Enron's accounting procedures. Financial accountants, legislators and investors have been struggling with questions of how best to standardize the accounting profession and the implications of unethical financial reporting. Permitting Arthur Andersen to both audit and consult with Enron created at an appearance of a conflict of interest; added to that the subsequent hiring of Arthur Andersen employees as Enron employees made this fiasco a real ethical conflict of interest. Over the years, too cozy relationships formed between Andersen and its consulting clients, in some cases leading to laxness on the part of the company's auditing arm, according to the Bloomberg News. Andersen clearly was gravitating toward the Enron scandal for many years, and company management needed to more carefully train its partners to make ethical judgments when dealing with difficult, high-pressure clients.

According to media reports, no Andersen cash-cow client was bigger than Enron, paying $52 million a year for audit and consulting fees. Nonetheless, Andersen should have been forewarned since Enron had enduring previous accounting scandals going back to an oil trading the late 1980s, according to the Bloomberg News. By 2001, some Andersen executives clearly had become over-wrought by some of the dealings their company had experienced with Enron. According to the Bloomberg News, Enron auditors were concerned about indications that Enron was hiding losses from Enron shareholders, but instead of disconnecting from Enron, the accounting firm, foolishly in retrospect, continued its auditing and consulting work in expectation of even higher payments-more than $100 million annually perhaps-to come in future years. The independence and integrity of financial auditing organizations are fundamental to the stability and growth of business entity. It is clear that auditing and consulting must be two separate functions. It is argued that many behaviors in the area of conflicts of interest begin as minor questionable calls that have the tendency to spiral into violations of ethical standards and law. The escalation in the acceptance of unethical behavior will be especially pronounced to the degree that acting ethically would require one to disappoint those with whom one works every day and accept immediate punishment (loss of income and social status, and perhaps legal penalties).

It's clear that the issue of financial accountability and management is of paramount importance in today's society due to a number of high-profile businesses failures. In the long run, poor financial accounting and management practices hurt the company, the employees, the shareholders and the general public. In the future, it is likely that the government will more closely regulate major corporations that are similar to the now-defunct Enron and Lehman Brothers, by establishing more rules about financial accountability to avoid future problems.