Financial reporting is important for taking strategic decisions regarding a business. However, the financial data may not reveal the true situation of a business because of its a several limitations. The current report includes discussion on the key issues such as accounting for non-current tangible assets and creative in financial accounting .
Critically Evaluate Accounting for non current tangible assets:
The non- current assets are considered to be capitalized instead of being expensed. It means that the cost incurred for such an asset is allocated over the years. In other words, a non-current tangible asset can be used for a number of years instead of the year in which it was purchased. On basis of the type of asset , a non –current intangible asset can be depreciated or its economic value over the years can reduce.
Attributes for qualifying as the non-current tangible asset: Before presenting the non-current assets in the financial reports, it is necessary for the organizations to realize the true nature of non-current assets. A tangible asset qualifies as non-current when its value is realized over a period more than one year after its acquisition (Warren & Jones, 2018). If the business entity expects that a particular asset would provide the financial benefits over a longer period of time, the asset is considered as the non-current one. For categorizing an asset as the non-current item the business has to measure its production cost. However, the organizations have to realize also whether the acquisition cost exceeds the minimum value of the asset. On possession of a non-current tangible asset , the risk associated with it is transferred to the business entity. In addition, the entity also gains the right for managing and disposing the asset. However, the businesses also become eligible for enjoying all the benefits associated with the particular asset. It the discussion indicates that the businesses need to review its investment decisions on the non-current tangible asset as it can cause both the benefits and risks for businesses.
Balance sheet classifications for the non-current assets: Although the value of non-current assets is realized over several years, it needs to be mentioned in the balance sheet under the headings such as the property, investment, equipment or other investments (Robson et al.2017). As per the accounting practices, an asset is considered to be non-current if its value is not realized within the next 12 months. Even the land, machinery and vehicles possessed by an organization are considered as non-current assets of their full value are realized over the years.
Prepaid assets as non-current tangible assets: The prepaid assets of an organization are considered as non-current assets if their future benefit is not realized by the organization within one year.
Accounting practices for the non-current tangible assets: The non-current assets in the financial reports reveal the different aspects of then financial status of the organization. The carrying amount of a non-current tangible assets indicates the amount which is presented in the balance sheet. In other words, the carrying amount of a non-current tangible asset is equal to its book value. For non-current tangible assets, the acquisition cost equal to the lowest cost of the asset decided by the entity.
Investment properties are other type of non-current tangible assets. The properties such as land, buildings possessed by the owner fall into the category of such assets. The tangible assets held by the owner or by a lessee for earning rentals are also called non- current tangible assets as the organizations obtain financial benefits from such assets for a period more than a year . However, the assets which are used for supplying goods or manufacturing purposes are not considered as the non-current tangible asset (Henderson et al.2015). The assets which are kept to sell are also not considered as the non-current tangible asset. Such assets are classified as inventory as per the accounting standards.
Presenting the non-current tangible assets in the financial reports in a systematic way helps the businesses to reveal its financial status fully. The acquisition cost of an n asset can be significantly high which can affect the profitability of an organization in its financial reports. On the other hand, the tangible assets which are non-current in nature can generate income for an organization over a longer period. Mentioning such earnings in the financial reports indicates that the financial status of the organization can improve in future. It, in turn, increases the attractiveness of the organization to the lenders and the investors.
Tracking the cash-flow within an organization is essential for measuring the financial performance of an organization. Presenting the items like acquisition cost of an asset in the financial report indicates that how the organization allocates its financial resources (Bushman, 2014). Reviewing such data help the organizations to invest the financial resources in a better way in future. From the book value of an asset, a business can understand whether investing on it would be profitable or not. On the contrary, the book value also includes the expenses caused to fix the impairments in an asset. Excessive cost of impairment can reduce the true value of an asset and hence makes the asset less investment worthy. Therefore, it can be concluded that reviewing the acquisition cost and the book value of an asset assists an organization to make better investment decisions.
The residual value is another important measure for realizing the true value of a non-current tangible asset. It represents the value that an organization expects to receive after the using period of an asset. However, the residual value is calculated after deducting the estimated costs required for future liquidation. The useful life of a non-current asset indicates the estimated period over which an entity expects to utilize the asset. The estimated number of the production or the similar units created by a non- current tangible asset can represent the useful life.
Before investing on an organization, it is important for the investors to realize how the organization would perform in future. Assessing the residual cost of a business is an effective way to get an idea on the future performance of the organization (Mullinova, 2016). So, presenting the amount of residual value helps the investors to take decisions for investing on a business after assessing its proper financial status. On the other hand, it also helps the organizations to review own investment decisions and investing on more profitable assets in future.
Value of the non-current tangible assets tends to reduce over time. Such reduction in the value of an asset is called depreciation. The depreciable amount is the amount equal to the acquisition cost and the estimated residual cost. The depreciation cost includes the total amount of expenses incurred for an asset over a finite time or its useful life as expected by the organization.
The actual value of a non-current tangible asset is also influenced by the level of impairment. The impairment cost indicates to what extent the carrying amount of an asset exceeds its recoverable amount (Macve, 2015). Assessing fair value is another way to realize the true worth of an asset. The fair value indicates the amount by which the asset can be exchanged between knowledgeable parties.
Before investing on an asset it is important for the organizations to realize its true value and the usability. The estimation on fair value and impairment cost gives the organizations with an idea on the extent an asset would remain usable. It also helps the organization to assess profitability of an asset and the expenses associated with the asset. It also helps the organizations to take better investment decisions.
Critically evaluating creative accounting:
Creative accounting: a key issue in financial reporting:
Nature of creative accounting: There are standard accounting formats which every business follows while creating the financial reports. However every business has unique financial status and therefore the standard accounting practices may not be the best suited option for every organization (Beaumont, 2015). The flexibility principle in the accounting n standards indicates that the accounting information system of an organization requires being able to accommodate the changes according to the business needs. In other words, flexibility principle in the accounting practices facilitates the n organizations to modify the accounting information system according to their own need. The flexibility principle also allows the companies to let their own accounting system grow within the system.
Creative accounting exploits the limitations of financial data:
Evaluating the uses and limitations of financial information: The primary purpose of creating financial statement is providing information regarding the results of operation, analyzing the financial position and cash flows within the organization (Callen, 2015). The financial statements help the audiences to make better decisions regarding the resource allocation. However, the financial statements are of different types and each of these financial statements serves different purposes (Huber, 2015). For instance, the income statement of a business helps the audience to make aware of its ability fir generating profit. Additionally, it also makes the audience aware of the sales volume, different types of expenses created by the business. On basis of the presentation of the expense information and the time period considered for presenting the financial information, the income statement can help the decision-makers to realize the company operations trends.
Balance sheet is another important piece of financial statement that assists the reader regarding the current financial status of the business. The balance sheets include information for estimating the funding, liquidity, debt positions and the liquidity ratios.
Statement of cash flows shows the nature of disbursements and cash receipts of an organization. The information presented in the statement of cash flows is of considerable use as cash flows often do not match with the revenues and expenses presented in the income statement.
The financial statements together can serve several purposes:
Making credit decisions: Prior to lend a business, the lenders need to determine whether the business is eligible for receiving the credit or the organization does not qualify for receiving the credit (Richardson, 2017). Using the financial reports like income statement, balance sheet and cash flow, the lenders can easily understand whether the business is able to repay the loans.
Making investment decisions: Before investing on an organization, it is necessary for the organizations to decide whether the investment would bring satisfactory results. Similarly, reviewing the financial information helps the acquirers to decide the price at which the business can be bought.
Decisions regarding taxation policies: The financial reports are used for taking the decisions regarding the taxation policies of a business. The government entities often utilize the financial information in order to know the actual financial status of an organization and modify the taxation policies accordingly.
Making the bargaining decisions of Unions: The bargaining decisions of unions are taken on basis of the perceived ability of a business to pay its workers (Lovell, 2014). The financial reports help the businesses to negotiate on the payment terms.
Apart from the above stated users, the financial reports help the individual subsidiaries and the business segments to analyze their performance. In shorter words, the financial statements can be used for different purposes depending upon the nature of audience.
Although the financial information can be used for several purposes, it has the following limitations:
Historical costs: The value of assets and liabilities can change over time. On the contrary, the transactions made by an organization are recorded at their own cost. The balance sheets generally cannot provide any information on the changes in the costs of assets and liabilities.
Variation in the inflation rate: Because of the high rate of inflation, data recorded in the balance sheets may look apparently low. It can affect the evaluation of the assets of an organization.
Improper assessment on basis of the data recorded in one reporting period: taking decisions on the financial status of an organization on basis of its performance over one period only may not be effective (Brown & Jones, 2015). The sale or income of a business may increase suddenly which causes the changes in financial status. However, assessing the financial records for a period does not give the accurate results.
No discussion on the non-financial issues: The financial statements of an organization do not address the non-financial issues such as operational issues of an organization or its relation with the local community. Therefore, the financial information does not reveal the true performance of an organization.
Purpose and motivation for using creative accounting: The primary purpose of the organizations for using creative accounting is developing a financial healthier image of the organization. In this accounting practice, the organizations can use imaginative ways to represent the financial status of an organization. It, in turn, indicates that the financial practices used in case of creative accounting deviate from the standard practices.Showing the profit figures in an inflated manner is one of the main goals of creative accounting. However, the firms prefer showing a consistent financial status over the period. Therefore, some organizations use creative accounting for minimizing the amount of profit. This technique also helps the organization to smooth out their findings. manipulating the assets and liabilities of an organization is another reason behind the use of creative accounting by the organizations. Use of these accounting techniques helps the businesses to hide their problems and it improves their financial condition.The creative accounting enables the organizations to practice off the balance-sheet accounting. It also facilitates the organization to show an over-optimistic approach for representing the generated revenue.
Examples of creative accounting: There are several instances when the creative accounting techniques are practiced. However, the creative accounting techniques change with time. According to the accounting standards, rules and regulations, the creative accounting techniques also need to be modified (Richardson, 2017). The regulators focus on making strict accounting standards so that the true financial status of an organization can be revealed. On the contrary, a creative accountant identifies new ways to creating a better image of the business. However, there are some changes in the accounting standards which create new opportunities for the accountants.
Creative invoices: In some cases, an organization can send the invoice for a client before the accounting period ends. However, service to the client is delivered after the period. The practice of sending invoices in advance n increases the sales and profit during the first period.
Creative service contracts: In some cases, the organizations charge the amount payable for their services on the first quarter of the year. However, the service is delivered after that. If the amount collected from the clients is presented in the first quarter, it would be presented that the organization is running in a profitable manner. The financial reports of subsequent quarters may reflect losses as there would be no income. However, the true financial situation f an organization cannot be identified from such creatively presented partial reports.
Presenting property values in a creative manner: The balance sheets need to project the property values. However, the accountants can represent the property amount in order to create a better image in the balance sheet. In other words, the creative accounting practices help an accountant to show an over-optimistic image of the financial health of the organization by presenting the property valuation creatively.
Presenting the loans in a creative way: If an organization lends money , it requires being presented in the financial reports. However, the common tendency of organizations is hiding the transactions from the accounts as presence of loans presents poor financial health of the organization. To avoid it, businesses often show that the loan has been repaid at the end of a period. It indicates that the financial status of an organization is improving. However, to meet the financial needs, businesses take loan at the beginning of the next period. The limitation of financial information is – it does not show the actual status of an organization if the data is reviewed over a period. In these cases, presenting the partial report may create a false image of the organization.
The above discussion indicates that although creative accounting is not illegal, it helps the organizations to hide their financial weaknesses. On the contrary, several users of the financial reports make investment or lending decisions on basis of the financial reports. Creative accounting generates a better financial image of the organization which can influence the decision makers for taking wrong decisions. Therefore, it can be stated that the businesses need to reveal their actual financial status instead of using creative accounting.
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