The Valuation of Assets (and/or Liabilities) in Financial Reporting An Ethical Question - Essay Example

?The Valuation of Assets (and/or Liabilities) in Financial Reporting – An Ethical Question Throughout history financial ments have been used to evaluate the financial performance of companies to present others, as well as internal stakeholders, a firm analysis of where the company stands and what potential strengths and weaknesses it poses for the future. Due to such a function, financial statements are vitally important both from a trust as well as an ethical standpoint. Ultimately, two approaches underlie the approach that a firm/entity/business/organization can leverage as a means of approaching this issue. Both of these perspectives will be analyzed and elaborated upon within this brief analysis as a means of impressing upon the reader which ethical perspective is the most ethical and why it should be pursued. As such, the two perspectives which will be discussed are whether it is ethical and appropriate to allow management of the firm to present financial information in a “flexible” manner so that the “dips” and “lows” of a business are not directly translated via each and every market pressure. The rationale behind this is that without such an approach a freely floating publicly traded firm could quickly lose the trust of its investors and see an overnight loss of a very large percentage of its overall assets merely due to the fact that the stakeholders inferred that the company was somehow troubled; whether an understanding was legitimate or not (Mitra et al 159). Similarly, perspective two is much simpler and merely states that firms should use a conservative accounting approach so that the “highs” of a firm are minimized in favor of presenting a more moderate expectation of profits or growth; regardless of the scenario or outcome. As such, both of these perspectives will be presented in a greater degree of depth and a definitive determination will be made with regards to which approach is the more ethical and salient towards applying within the world of accounting and financial statements. Perspective # 1 Those that put forward the benefits of the first approach necessarily see the benefit of having a “flexibility” with regards to what financial information is presented to the stakeholders; both within and without of a business entity. Although restricting many activities, the FASB of 2007 does not restrict the means by which a firm can engage in a flexible approach to accounting (Palmon et al 169). This allows a firm to adjust its reporting metrics so that room for growth, changes in the competition structure, or other difficulties can be assuaged by utilizing legal but alternative methods of financial analysis and reporting standards. However, the GAAP itself strictly prohibits any and all accounting approaches that would seek to write up of fair value assets or any other accounting practice that seeks merely to dispel relevant information in light of pressing needs. Fair value accounting requires or allows firms to report certain types of assets and liabilities, usually financial instruments like stock or debt securities, at the price estimates the firm would receive if it sold the assets today, or the price it would pay to be relieved today of its liabilities (Heyward 5). Mark-to-market accounting is a commonly used name for fair value accounting. This “current value” approach can be beneficial to a firm that finds that the current value of these assets reflects positively as compared to alternative financial reporting structures. With fair value accounting, firms report a loss on their financial statements when their assets decrease in fair value or their liabilities experience an increase. This causes changes to the equity reported on a company's balance sheet, and may also cause changes in the net income reported on its income statement. Although critics of fair value accounting claim it to be misleading, fair value accounting allows investors to see more accurate and timely financial information from companies than other accounting approaches allow, even in a difficult economy. It prompts companies to keep their balance sheets updated regularly, and limits the ability to manipulate the company's net income, since any gains and losses are reported when they occur, rather than being realized in later periods, after a transaction has happened (Etheridge & Hsu 121). Yet, from an ethical standpoint, this approach engenders many problems. The first of these is with respect to the fact that reporting in such a structure necessarily leads only one direction that the financial analysis can turn if the in fact the market works against the firm in the near future (Li 129). This unspecified direction is either they will be forced to reveal to the stakeholders that they have utilized alternative accounting procedures to mask their hardships or they will seek out an illegal means of rectifying the damage; in the hope that the future will be brighter. Ultimately, this is something of a slippery slope by which the firm is trapped in a situation that they must find a way out or be faced with the dire consequences of what many will see as both an unethical and deceptive accounting structure (Fan & Zhong 44). Perspective #2 The secondary perspective that will be discussed is what is known as a “conservative approach” to accounting and financial statements. Ultimately, rather than seeking to boost each and every bit of “good news” and maximize the impacts of key financial changes that reflect positively, such an approach instead seeks to provide a level of hopeful optimism while at the same time representing any and all financial statistics in the form of a conservative approach. As such, assets are valued at a lower cost or market value, an overly optimist view of other accounting practices is suppressed in favor of always representing a moderate case of what is expected (Francis et al 327). This particular approach, although useful, does engender a certain level of issues; due in part to the fact that it risks sending the firm into a death spiral by depressing the value of assets by reporting lower than current market value. Ultimately, such an approach should be engaged carefully and must be begun in the early years of a firm’s existence or during an era of immense profitability and gain. As such, the ethical standards of financial accounting are best served by utilizing the conservative approach. This is due to the fact that it is the belief of this author that the conservative approach, although not detailing the potential success or profitability of a firm, allows for a more nuanced and reflexive reporting standard. Whichever approach is engaged, the most important question that should be asked is what the ultimate purpose of financial reporting is. Without an acute delineation of assets and liabilities, stakeholders within or without of the firm are unable to make informed decisions. As such, it is not only unethical to approach the issue from a standpoint where potential worth is determined based upon a never-ending system of altered financial reporting; it is also unhelpful in seeking to formulate future strategy or engage potential stakeholders with outlining the best path ahead. Works Cited Etheridge, Harlan, and Hsu Kathy Hsiao Yu. 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"Internal Control Weaknesses And Accounting Conservatism: Evidence From The Post–Sarbanes–Oxley Period." Journal Of Accounting, Auditing & Finance 28.2 (2013): 152-191. Business Source Complete. Web. 2 Aug. 2013. Palmon, Dan, Marietta Peytcheva, and Ari Yezegel. "The Accounting Standards Setting Process In The U.S.: Examination Of The SEC-FASB Relationship." Group Decision & Negotiation 20.2 (2011): 165-183. Business Source Complete. Web. 2 Aug. 2013. Read More