Financial statements overview and analysis

Accounting

This discussion contains research pertaining to the impact of cash-basis accounting on the distortion of the financial position and operating results of a business.

We began our discussion with a definition of cash base analysis. We concluded that this accounting tactic is used to examine cash and cash equivalents. This is done by separating cash flow transaction into one of three activities which include; operating, financing and investing activities.

Our investigation then explored why and how financial statements completed using cash-basis accounting can be distorted to present a misleading picture about the financial position and operating results of a company. Our investigation found that these distortions exist when accountants fail to provide a report of additional information that may not appear on the face of the financial statement. Additionally, we found that inconsistencies in the presentation of a financial statement can greatly influence the distortion of information that is found in the statement,

Introduction

Efficient accounting practices are essential to the success of any business. In recent years the accounting profession has come under great scrutiny for the use of questionable accounting methods. One method that has come into question is cash basis accounting. The purpose of this discussion is to examine whether financial statements prepared on a cash basis of accounting may distort the portrayal of financial position and operating results of a business.

According to a report published by the International Federation of Accountants, cash basis accounting is defined as, basis of accounting that recognizes transactions and other events when cash is received or paid. It measures financial results for a period as the difference between cash received and cash paid. The primary financial statement is the cash flow statement." (Financial Reporting under the Cash Basis of Accounting, 2000)

The report explains that the cash flow statement allows viewers to examine the sources pf cash that were raised and used throughout the period and the balance of cash and cash equivalents. (Financial Reporting under the Cash Basis of Accounting, 2000)

Arguments

In some cases the cash basis of accounting can distort the portrayal of financial position and operating results of a business depending on how the financial statements are prepared and presented. The purpose of financial statements is to illustrate to the investor the means by which the business generates cash. (Financial Reporting under the Cash Basis of Accounting, 2000)

The financial statements are designed to demonstrate the amount of capitol needed to conduct and sustain business.

The portrayal of financial position and operating results can be misconstrued when accountants use legal but immoral tactics while reporting the sources and the uses of cash in the business. One such tactic involves a firm's failure to report detailed additional information that does not appear on the face of the financial statement but is relevant to explaining the cash flows of the business. (Financial Reporting under the Cash Basis of Accounting, 2000)

The cash basis of accounting may distort the portrayal of financial position and operating results of a business when firms that use it fail to perform several tasks. According to the report these tasks include; the failure to faithfully represent the cash flows of the entity, failure to remain free from bias, and failure to complete the report in all material respects as outlined by generally acceptable accounting principles. (Financial Reporting under the Cash Basis of Accounting, 2000)

The International Federation of Accountants explains that;

When preparing the financial statement an assessment of an entity's ability to continue as a going concern should be made. The assessment should be made by those responsible for the preparation of the financial statement. When those responsible for the preparation of the financial statement are aware, in making their assessment, of material uncertainties related to events or conditions which may cast significant doubt upon the entity's ability to continue as a going concern, those uncertainties should be disclosed."

Obviously a firm's failure to properly disclose information that may be beneficial to stakeholder can distort the actual size and success and a firm. To void the alienation of stakeholders a firm must provide statements that are material. The international federation of accountants explains,

Information is material if its non-disclosure could influence the decision-making and evaluation of users about the allocation and stewardship of cash resources, and the performance of the entity, made on the basis of the financial statement. Materiality depends on the size and nature of the item judged in the particular circumstances of its omission. In deciding whether an item or an aggregate of items is material, the size and nature of the item are evaluated together. Depending on the circumstances, either the size or the nature of the item could be the determining factor. For example, individual receipts with the same nature and function are aggregated even if the individual amounts are large. However, large items which differ in nature or function are presented separately. " (Financial Reporting under the Cash Basis of Accounting, 2000)

In an effort to produce a financial statement does not distort the financial condition of the company accountants must examine whether or not an organization is deemed to be an ongoing concern. (Financial Reporting under the Cash Basis of Accounting, 2000) business may contribute to accounting distortion by ignoring some very simple indications of ongoing concern which include; the number of financial and debt assets, the ability to alter tax levels and the sustainability of the firm's physical stance. (Financial Reporting under the Cash Basis of Accounting, 2000)