Financial Statement Analysis - Term Paper Example

Introduction: ‘Accounting’ merely means, ‘reckoning’ or ‘recounting.’ To be specific, the process of accounting involves recording, ifying and summarizes of past events and transactions of financial nature, with a view to enabling the user of accounts to interpret the resulting summary. [5, ICFAI, 2004] An effective financial regulation is a multi dimensional function in fact. Financial regulation does not simply mean regulating the law and other similar aspects related to finance. It has a broader meaning, which means the maintenance of a balance between the capital market players, ethics and the corporate governance. Capital market players include, fund managers, commercial banks and investment banks etc. [4, Stella Fernley, Richard Brant and Vivien Beattie, 10 May, 2002] Answer no. 1: The Companies Act, 1989 brought in many significant changes in the regulatory framework in the United Kingdom with respect to financial reporting and auditing. In the year 1991, a new auditors’ regulatory system was also introduced according to which it is necessary for the auditors to hold a recognized qualification along with relevant experience proof. [1, Beattie and Fernley, 1994] Additionally, the work quality of the auditing firms also would be monitored frequently and the failure to meet the prescribed quality would lead to penalties and also may result in the license cancellation of the individuals or firms. [2, Beattie and Fernley, 1998] The dual roles of the professional bodies also lead to another change i.e. the setting up of ‘The Accountancy Foundation.’ The purpose of the setting up of The Accountancy Foundation is the independent supervision of both the regulatory standards and ethical standards of the accounting profession. Apart from this the foundation also sets auditing standards and also investigates public interest cases if accountants are involved in the case. [4, Stella Fernley, Richard Brant and Vivien Beattie, 10 May, 2002] Answer no. 2: According to the Standard Setting Process in the United Kingdom, all Limited Companies are subject to preparation and publishing of their company accounts on an annual basis. Usually, a number of fundamental concepts of accounting are taken into consideration while preparing the financial statements of the company. Generally, it so happens that the figures in the financial statements vary from one statement to the other. This is because people who prepare those statements arrive at those stated figures based on their judgment in practical. This fact can be understood by considering the following examples: Let us say that, there is freehold property held by a business which was purchased by the company for £500,000. This transaction would appear in the following different ways: (a) Some people might argue that no depreciation should be charged on the building because property prices are always rising. The building would appear in the accounts permanently at £500,000. (b) (b) Others would say that this does not go far enough. If property prices are rising, not only should no depreciation be charged, but the book value of the building should be increased each year by revaluation. (c) (c) Still others might say that the £500,000 is expenditure incurred by the business and that all expenditure should at some time be charged to the profit and loss account, perhaps by equal annual depreciation charges over the buildings useful life. [3, The context and purpose of Financial Reporting, Learning Media] This kind of mismatch in the figures stated in the financial statements can be more significant in case of manipulation of accounts. This led to the origin of Standard Setting process in the United Kingdom. Standard Setting Principles (1960 – 1990): During the period of 1960-1990, the accounting standards that were set by the Accounting Standards Committee (ASC) aimed at minimizing the difference and variation in accounting practices. With this aim, a 25 statement standard accounting practice was set and published. According to this, all the limited companies are required to give a fair and true view of their company’s accounts. After 1990, certain changes took place and a two-tier system of standard setting was established. As a result of the changes made, the standard setting process was to be governed by The Financial Reporting Council. All the standards of accounting would be issued by the Accounting Standards Board (ASB). In contrast to the Accounting Standards Council, The Accounting Standards Board had a strong staff and also the former was being financed by the ASB. This increased financing led to the origin of The Stock Exchange, the accountancy bodies and various industries. [6, Accountancy books, 1998 edition] Answer no. 3: The International Accounting Standard Committee is a statutory board that issues a set of standards called the International Accounting Standards (IAS) which describe how different transaction should appear in the financial statements of a company. [8, 12manage, 1999] SSAP 8 dealing with taxation, which was issued in the year 1997, was proposed to be replaced by FRED 18. According to SSAP 8, dividends received from the companies of the United Kingdom are required to reflect in the profit and loss account inclusive of the tax credit. Now, under the FRED 18, the dividends inclusive of the tax credit, instead of getting reflected in the profit and loss account, should be included to the net amount received. All such dividends, under FRED 18 are distinguished from other forms of income subject to a withholding tax, and are recognized by the recipient before deducting the withholding tax. Suggestions also came in stating that net-of-tax treatment for dividends from UK companies should be applied only to dividends received after 5 April. But according to the FRED, the application of the revised standard will be right from the starting date of every entity’s financial year. This is with an intention to avoid any errors regarding mixed transaction for the same accounting period. [7, ASB PN 141, 24 June, 1999)] Conclusion The variations and confusions with respect to the different methods of preparation of accounts can be drastically reduced by the help of the Accounting Standards. The accounting standards require companies to disclose the different accounting policies used in the preparation of their company accounts. As far as the regulatory framework of the UK and the changes those were made over the passing of time are actually aimed at the strengthening of the financial regulation. The changes were brought in as a result of the various mishaps that occurred in different companies’ accounts and many other similar incidents. In the near future, even more number of changes can be expected. References: 1. Beattie and Fernley (1994), ‘The changing structure of the market for audit services in the UK: A descriptive study,’ Vol.26, British Accounting Review. 2. Beattie and Fernley (1998), ‘What companies want from their auditors,’ ICAEW. 3. http://www.bpp.com/accandtax/studyguides/acca/ACF3ST_CH02.pdf 4. http://eprints.gla.ac.uk/773/01/JoFinReg10(3)254-265.pdf 5. Financial Accounting &Financial Statement Analysis, published by the ICFAI University, 2004. Ref. no. FA & FSA – 04200402. 6. “The Financial Reporting Review Panel: An Analysis of it Accounting Activities”, 1998 edition. 7. http://www.frc.org.uk/asb/press/pub0142.html 8. http://www.12manage.com/methods_ias.html Read More