Qualitative Characteristics of Financial Information

By: Vanessa Tattao

Jefferson Recana Gilbert Bilagantol

Understandable Accounting information must be understandable. This is an important qualitative characteristic for small business owners. Many small business owners do not have a strong accounting background. Financial information that is too technical or cannot be understood by a layperson can be ineffective for business owners. Small business owners often use professional accountants to complete various accounting functions. Business owners should choose an accountant who can prepare information in an easily understandable manner. Comparable Comparability allows business owners to review their companies' accounting information against that of a competitor. Business owners use comparison to gauge how well their companies operate under certain market conditions. Owners often use the leading company of an industry for the comparison process. These companies usually have the most efficient and effective business operations. Noncomparable accounting information can make this a difficult process. For example, business owners should consider preparing financial statements according to standard accounting principles. The statements can then be compared to other company’s financial standard prepared in a similar manner.

Reliability This requires that information can be trusted and depended upon for one to make a knowledgeable decision. The information presented should be free

from errors or misinterpretations. Financial statements cannot be useful if they are based on unreliable and inaccurate recordings of transactions. There is no greater example of the garbage in, garbage out principle than financial statement preparation. The problem is that financial statement users cannot usually assess the presence of garbage simply by reading the statements. The statements may look fine, but in reality be riddled with inaccuracies. Representational faithfulness, completeness and prudence compliment reliability in that the information must be honest and competently done. A firm can safeguard itself from fraudulent and inaccurate financial reporting by hiring an outside accounting firm to audit their financial statements. Adoption of adequate internal controls is another way to combat the problem. Internal controls are the policies and procedures that a business can take to safeguard its assets, insure accuracy of financial reporting, and prevent fraud. If financial information is to be both relevant and reliable it is necessary that the substance rather than the form of transactions or events be reported. For example, an entity may "sell" an asset to another party and this may be documented in a way which purports to pass legal ownership to that party, despite agreements which ensure that the vendor continues to enjoy the economic benefits involved. To report a sale in such circumstances would be unreliable as it would not be a true reflection of the type of transaction entered into (if indeed there was a transaction) and would omit the appropriate asset from the vendor's general purpose financial reports, thus depriving the users of relevant information about the resources of the vendor. ( Case of Justice Corona or Erap assets jose velarde account ) General purpose financial reporting should, if it is to be reliable, be free from bias (that is, Neutrality). It should not be designed to lead users to conclusions that serve particular needs, desires or preconceptions of the preparers. Bias can stem from deliberate misstatement of financial information for fraudulent purposes and it can also stem from misguided conservatism, resulting in preparers filtering the information provided and thereby usurping the rights of users to make their own decisions.

Quiz : Qualitative Characteristics of Financial Information Identify the qualitative characteristics that best describe each of the following situation: Concept: Neutrality Consistency Timeliness Relevance

Representational Faithfulness Understandability

Materiality

Reliability

Verifiability

Adequate disclosure

1. ____________________ For accounting to provide useful information in making decisions, it must be trustworthy. 2. ____________________Income to be earned by Jan 1, 2011 should not be included for the year 2010. 3. ____________________Financial statements are general purpose reports. It serves the common needs of all users. 4. ____________________The company is using the allowance method to recognizing bad debts. This method has been observed from one accounting period to another period to facilitate comparability. 5. ____________________A statement user must have reasonable knowledge of accounting and the economic activities for one to appreciate the financial reports. 6. ____________________Transactions must be supported by documents. 7. ____________________Reports must be submitted promptly. 8. ____________________If an additional event occurs that will support/ explain financial information included in the financial statement, a supplementary note regarding this matter should be attached. 9. ____________________The financial information contained in the financial statements helps a reader assess the companys past, present and future performance/ position. 10. ____________________This convenience rule guides us on whether an item should be expensed or capitalized as an asset depending on its influence to decisions made by statement users.