Finance and Accounting - Essay Example

? Essay, Finance and Accounting November 16, Accounting entails the preparation of financial reports. The research delves on the companies’ compliance with International Financial Reporting Standards. The research delves on cosmetic accounting. The companies’ compliance with reporting standards enhances reliance on financial reports. The companies’ compliance with IFRS standards can effectively help predict the future financial outcomes and reduce irresponsible cosmetic accounting practices. The company’s compliance with all International Financial Reporting Standards will translate to better prediction of forecasting future business outcomes. For example, the compliance with standards requires that the company present the historical sales amount s for the past two years. If the sales for 2010 is $ 250,000 and sales for 2011 is $295,000. Any keen financial statement analyst or reader can easily forecast next year’s forecasted sales will exceed $300,000, all other factors being equal (Wiley 14). Further, relevant and valid financial information (balance sheet, income statement, and statement of cash flows) must be relevant to the needs of the financial statement users. To relevant, the financial statements must comply with the predictive value tenets of the International Financial Reporting Standards. Consequently, the financial statement users can increase the reliability of the decision makers (Epstein 13). The International Financial Reporting Standards required that the financial statement should be prepared to enhance the decision making process (Jermkowcz 29). For example, International Financial Reporting Standards require the entities to report long term loans under the liabilities section of the financial reports. The same standards require the financial statement preparers to record all investors’ financial cash inflows under the stockholders’ equity portion of the financial statements. Thus the companies should consistently comply with these reporting standards every year, to make forecasting an easier activity. The International Financial Reporting Standards also require that the preparation of the statement of cash flows should include the cash flows from operating activities, cash flows from financing activities, and cash flows from investing activities. Compliance will make the forecasting activity more realistic (Porter799). In terms of forecasting value of the International Financial Reporting Standards, the financial reports should be prepared using the fair market value in recording sales or other related amounts. For example, the buyer agrees to the seller’s ?2,000 selling price pegged for one factory production equipment. Consequently, the factory production equipment is recorded in the company’s assets portion of the company’s balance sheet at ?2,000. The amount represents the customer’s fair market value of the purchased equipment. Specifically, the fair value portion of the International Financial Reporting Standards can be found in IFRS no. 2, IFRS no. 3, IFRS no 7, International Accounting Standards Board (IASB) no 16, IAS no. 39, IAS no. 40, as well as IAS no 41 (Walton 13). During the preparation of financial statements, there are many situations when International Financial Reporting Standards insists on focusing on ensuring the predictive or forecasting goals. For example, the standards describe the company’s financial assets as any resource that is controlled by the entity as a consequence of the entities’ prior transactions. Such asset items must have future economic benefits flowing into the business equation. Consequently, the standards require the companies to raise or lower their asset values, depending on external factors (Shamrock 8). (b) Creative accounting (causes, techniques, & effects) Cosmetic accounting causes trigger some impacts. The company’s desire to seek the bank’s approval of their long term loan applications prods the company to increase its revenues. Normally, banks base their loan approvals on the company’s historical financial data. In addition, the banks use the bank loan applicants’ forecasted financial statements as basis for either approving or disapproving the bank loan applications. Banks usually approve the bank loans if the financial statements and feasibility studies show that the financial statements indicate the company generated prior years’ net profits and are estimated to generate future net profits. Cosmetic accounting includes presenting window-dressed or improved financial reports. Further, other companies engage in cosmetic accounting to persuade current and future investors to funnel their funds into the company. The infamous Enron affair is a vivid example of companies who prop up the true revenues in order to attract more investors (Bauer 4). The Enron Company instructed its accountants, other Enron officers, and its external auditor, Arthur Andersen, to hide the company’s liabilities for the financial statements. As expected many gullible investors were fooled by the Enron cosmetic accounting perpetrators. Upon discovery of the cosmetic accounting act, Enron’s stock market price drastically fell to bankruptcy levels, forcing the company to close shop. Consequently, the external auditor, Arthur Andersen, also closed shop because the public lost their trust in the auditing company. Further, reducing the company’s net profits discourages employees from seeking salary increases, is the successful prevention of the labor union members’ desire to force management to increase the employees’ salaries and other benefits. Lastly, the impact of management’s desire to present lower net profits is to reduce tax payments. The implementation of some cosmetic accounting techniques has some impacts. The company’s refusal to write off customers’ accounts due to bankruptcy will create a false impression that the company is able to collect more than the amount that is actually collectible. Consequently, banks may falsely get an impression that the company will be able to pay the bank loans on time. If the company wrote off-tainted accounts, the banks may not approve the company’s bank loan applications. In addition, companies may not record the liabilities in the financial reports in order to create a cosmetically done accounting picture that the companies’ net assets are fraudulently higher the actual financial picture. Consequently, many gullible investors may be tricked into investing their cash and other assets into the business. Had the companies known that the companies’ net assets (total assets - total liabilities = net assets) were actually lower, the investors may not invest in the company. Overview of the concepts of cosmetic accounting. Cosmetic accounting is similar to the literal cosmetic activity of individuals. Individuals, usually females, use cosmetics to improve their looks. Using a lipstick will surely attract more individuals from the opposite gender. Placing a makeup on a lady’s face will normally increase the number of male suitors. In the same light, cosmetic accounting increases the companies’ attractiveness. The company’s presenting a higher revenue amount will increase the interest of current and future investors. Replacing a net loss financial statement with a net profit financial picture will persuade the best and the brightest individuals to apply for any job vacancies. Had the job applicants known that the company is currently bankrupt, the job applicants will not apply for a job vacancy in the company. Cosmetic accounting includes reducing expenses. By not recording some expenses, the company’s net profit picture is increased. By not writing off bankrupt customers’ accounts, the company presents a cosmetically prepared financial report indicating the company has more collectible cash what the companies can actually collect. An explanation why cosmetic accounting is considered as blessing or curse Cosmetic accounting can be a blessing. By presenting cosmetically done accounting reports, the company will be able to receive the bank’s approval of their bank loans. Cosmetically engineered accounting reports will encourage many current and future investors to invest in the company. Likewise, cosmetically done accounting reports can lower the company’s tax payments. Reduced net profits translate to lower taxes. On the other hand, cosmetic accounting can be a curse. The Enron case shows that many interest parties were victims of Enron’s cosmetic accounting procedures. Had the banks been given a true financial report, the banks will definitely not approve the bank loans. Had the stock market investors seen the true financial reports of the company (showing a historical 3 year net loss trend), the current and future investor should shy away from the company and investor their money in other profitable business ventures. Causes, techniques and effects of Cosmetic Accounting. There are many causes of cosmetic accounting. First, companies want to invite more investors. Second, the company wants to reduce tax payments. Third, the company wants the banks to approve their bank loans. Lastly, the companies want to discourage the labor unions from continuing its demand to raise the employees’ salaries and wages. There are several techniques used in cosmetic accounting. First, the company can increase its revenues. The companies’ presenting higher revenues will enhance the company’s financial picture. Second, the companies can lower the recorded expenses. Presenting lower expenses translates to indicating higher net income picture. Consequently, the false financial reports generate the interested parties’ higher interest in the companies presenting the cosmetically done accounting. Another technique is not recording loans and other liabilities in the financial reports. Lastly, the companies can avoid writing off accounts of bankrupt customers. Consequently, the company’s receivables are higher than what is the real picture. Five Solutions of Cosmetic Accounting. There are five solutions to eliminate cosmetic accounting. First, the users of the financial reports should require the financial reports be audited by reliable external auditors. Second, the users of the financial reports should conduct their own audit of the financial reports, including background investigation of industry trends. Industry trends will indicate whether the company is implementing cosmetic accounting. Third, the government’s imposition of stricter laws and higher penalties will discourage the companies from engaging in illegal cosmetic accounting activities. In the United States, the Sarbanes- Oxley Act of 2002 (Holt 87) imposes higher financial report conditions and penalties. Consequently, there will definitely lesser cosmetic accounting perpetrators. Fourth, the government’s revising the tax laws will deter companies form presenting cosmetically done accounting reports (Truax 25). Lastly, the interest parties, including the board of directors, can require the installation of internal control procedures. The procedures will deter cosmetic accounting practices (Lunt, 5). Summarizing the above discussion, accounting includes the preparation of business reports. The companies must implement International Financial Reporting Standards. Cosmetic accounting should be reduced to allowable levels. Evidently, the companies’ compliance with IFRS standards and legal cosmetic accounting procedures can effectively increase future financial report prediction and trust in the companies’ financial reports. Works Cited Bauer, Andreas. The Enron Scandal and the Sarbanes-Oxley Act of 2002. London: Grin Press, 2009. Print. Epstein, Barry. Wiley Interpretation and Application of International Financial Reporting Standards. London: J. Wiley & Sons Press, 2010. Print. Godwin, Norman. Financial Accounting 2. London: Cengage Learning Press, 2012. Print. Holt, Michael. The Sarbanes-Oxley Act: Costs, Benefits, and Business Impacts. London: Butterworth-Heinemann Press, 2007. Print. Jermakowicz, Eva. IFRS Policies and Procedures. London: J. Wiley & Sons Press, 2008. Print. Lunt, Henry, Fundamentals of Financial Accounting. London: Elsevier Press, 2009. Print. Porter, Gary. Financial Reporting: The Impact on Decision Makers. London: Cengage Learning Press, 2010. Print. Shamrock, Steven. IFRS and U.S. GAAP: A Comparison. London: J. Wiley & Sons Press, 2012. Print. Truax, Martin. The Evergreen Portfolio. London: J. Wiley & Sons Press, 2010. Print. Walton, Peter. The Routledge Companion to Fair Value and Financial Reporting. London: Routledge Press, 2012. Print. Wiley Press. International Financial Reporting Standards. London: J. Wiley & Sons Press, 2011. Print. Read More