This paper examines four accounting policy choices that ANZ Limited may have made in the preparation of its financial statements that could have increased reported profit. Drawing on IAS 8 and financial accounting literature, the paper discusses the selection of depreciation methods, inventory valuation approaches (FIFO vs. LIFO), accounts receivable valuation, and changes in accounting estimates. Each choice is analyzed in terms of its potential effect on earnings reported in the financial statements, with reference to specific figures from ANZ Limited's balance sheet for 2011 and 2012.
An accounting policy is a decision made in advance regarding the manner in which, when, and whether to record and recognize an accounting item (Trotman and Gibbins, 2009). It encompasses the specific principles, rules, and approaches executed by a firm's management team in the preparation of financial statements. These accounting policies are employed to address intricate accounting practices such as depreciation approaches, recognition of goodwill, treatment of research and development expenses, inventory valuation, and the consolidation of financial accounts (Investopedia, 2016). Importantly, accounting policy choices can be used to alter the earnings reported by a firm in its financial statements.
One example of an accounting policy choice that ANZ Limited may have made in determining profit — one that may have increased reported profit — is the choice of depreciation method. There are various methods of computing depreciation that the company can utilize, including the straight-line method, the double-declining balance method, the accelerated depreciation method, and the sum-of-years digits method. The accelerated depreciation method is more often than not employed by larger companies to smooth earnings. As a result, this method is more commonly associated with greater earnings determination and, consequently, better earnings quality (Fields et al., 2001).
A second accounting policy choice that may have been made by the company is the method used for valuing inventory. The inventory for ANZ Limited was $290,000 and $700,000 for 2011 and 2012 respectively. Many firms are permitted to report inventory levels using either the first-in, first-out method (FIFO) or the last-in, first-out method (LIFO). Under LIFO, when a product is sold, the most recently manufactured or acquired inventory is deemed sold first. Under FIFO, when a firm sells a product, the inventory manufactured or acquired first is deemed sold first.
These approaches can be used to increase reported earnings in the financial statements. During financial periods of rising inventory prices, a firm can employ one of these accounting policy choices strategically. In particular, it is more beneficial to employ the FIFO method during periods of rising inventory prices, as it results in lower cost of goods sold and therefore higher reported profit (Investopedia, 2016).
"Methods for valuing receivables on financial statements"
"Changes in accounting estimates under IAS 8"
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