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In the field of accounting, when reporting the financial statements of a company, accounting constraints (also known as the constraints of accounting) are boundaries, limitations, or guidelines.
These constraints may allow for variations to the accounting standards an accountant is trying to follow. Types of constraints include objectivity,costs and benefits, materiality, consistency,industry practices,timeliness, and conservatism, though there may be other types of constraints not listed. These constraints deal with issues such as requiring evidence, balancing the costs and benefits of providing financial information, deciding the precision of a report, remaining consistent within a report and from year-to-year, following the practices of an industry, reporting in a timely manner, and not overstating profits and/or assets. [1] [2] [3]
Accounting constraints may be confused with constraints accounting the latter of which, much like throughput accounting or cost accounting, is a method of accounting. [4]
The constraint of objectivity deals with the issue of needing objective, verifiable evidence. [5]
The costs and benefits constraint, also called the cost-effectiveness constraint, is pervasive throughout the framework. [6] Companies must spend time and money to provide financial statements. [7] To be more specific, Costs can constrain the range of information when providing financial reporting [8] on the grounds that the companies must "collect, process, analyze and disseminate relevant information" [3] which need time and money.
For investors, they want to know all financial information if possible in ideal condition, which may cause tremendous financial burden in the corporations. [9] Moreover, some financial information may not be valuable for external users to acquire a huge benefit, for example, how much money does a company spend for its greening of headquarters. Therefore, while deciding the components of financial reporting, companies need to measure the sense of particular financial information and the expenditure of providing particular information and the benefits they can acquire from this particular information. [10] Properly speaking, if the costs in particular information exceed the benefit they can acquire, companies may choose not to disclose this particular information. [11] For example, if there is a $0.1 difference between checkbook register and bank statement, accountant should ignore the $0.1 rather than waste time and money to find the $0.1. [12]
Companies need to consider materiality when providing financial information. [10] Particularly, companies must disclose the material information which can influence the financial performance and some immaterial information can be excluded. [13] For example, a company owns $10 million net assets and therefore a default of customer with $1000 is immateriality and in contrast if the amount of default is $2 million, which can influence the financial decisions and thus means material. However, there are also some small items which can transfer net profit to net loss and these item can be considered as material items. [14] In order to judge whether the information is material or not, companies can based on the following materiality process: [15]
Expected: [15]
Advanced:
Expected: [15]
Advanced:
Expected: [15]
Advanced:
Excepted: [15]
Advanced:
Expected: [15]
Advanced:
Expected: [15]
Advanced:
Expected: [15]
Advanced:
Accounting statements made over a long period of time should be consistent or similar to one another. If they are formatted similarly then comparisons can more easily be made between these documents. [5]
Industry Practices is a less dominant constraint compared to cost-benefit and materiality in financial reporting. [3] This constraints means in some industries, it is hard and costly to calculate the production costs and therefore companies in these particular industries choose to only report the current market prices instead of production costs. [16] For example, in agriculture industry, calculating cost per crop is difficult and expensive and hence they choose to report the price in the current market which is easier for farmers. [17]
Accountants estimate the transactions and then choose whether to record the transactions or not based on their own judgment. In terms of that, conservatism is helpful for accountants to make a choice between two similar alternatives and it makes accountants choose to record the less optimistic choice. [18] For example, If there is a possibility that customers will sue the company and they may also not to sue the company. In this case, accountants need to disclose this situation to investors. [12]
Moreover, the Conservatism is also a less dominated constraint, which means firms also need to consider more about bad news than good news when reporting financial statements. [18] In particular, firms need to choose the method that "least likely overstates assets and income or understates liabilities and losses" [3] when encountering accounting issues. For example, if the staff believe there will be 2% bad debt in terms of receivables based on historical information and another staff believe there will be 5% because of a sudden drop, the company needs to use the 5% figure when providing financial statements. [19]
Perhaps most obviously, statements should be relevant in terms of date. Quarterly reports should not be made available only on a half-year basis, as some of the information in the report would not be very useful. [20]
Financial Constraint is defined as a temporary restriction of internally generated funds which may require resources to be cut for investments [21] including marketing resources, so that managers can achieve their financial goals.
During the past two decades, researchers have conducted a large number of empirical studies related to financial constraints, and the measurements they use have generated controversy, Fazari et al. (1987) in their seminal work, find a positive relationship between resources available for investment and cash flow. [21] Because external financing, such as taking on debt or acquiring capital, is not immediately available, such firms are heavily dependent on their internal cash flow. [22] However, many research papers show doubt on the idea that the relationship between investment and cash flow indicates financial constraint. The authors of another seminal study on the subject, Kaplan and Zingales (1997), find that firms classified as having financial constraint, such as in Fazzari et al (1987), appear to have less constriction and less sensitivity to cash flow, [23] which contradicts the initial hypothesis. [22] Therefore, Kaplan and Zingales (1997) and Whited and Wu (2006) present new financial-constriction indexes. Whited and Wu (2006) develop a widely use financial constriction called index WW. [24] Despite controversy regarding financial constraint measurement, the literature recognizes its generalized use of cash flow as measure of financial constraint. [22] [25] [26] [27]
Recent research demonstrates that financial constraint is continue present in firms from The US and Latin America. The uncertain and volatile environment of global markets causes companies financial constraints. In addition to the fact that financial markets have increased the pressure on companies to obtain positive short-term results, in a situation of financial constraint, managers generally address this situation by decreasing the intensity of marketing to show acceptable short-term results to shareholders; however, these decisions impact negatively the long-term firm value. [28]
In management accounting or managerial accounting, managers use accounting information in decision-making and to assist in the management and performance of their control functions.
In microeconomic theory, the opportunity cost of a choice is the value of the best alternative forgone where, given limited resources, a choice needs to be made between several mutually exclusive alternatives. Assuming the best choice is made, it is the "cost" incurred by not enjoying the benefit that would have been had by taking the second best available choice. The New Oxford American Dictionary defines it as "the loss of potential gain from other alternatives when one alternative is chosen". As a representation of the relationship between scarcity and choice, the objective of opportunity cost is to ensure efficient use of scarce resources. It incorporates all associated costs of a decision, both explicit and implicit. Thus, opportunity costs are not restricted to monetary or financial costs: the real cost of output forgone, lost time, pleasure, or any other benefit that provides utility should also be considered an opportunity cost.
The net present value (NPV) or net present worth (NPW) applies to a series of cash flows occurring at different times. The present value of a cash flow depends on the interval of time between now and the cash flow. It also depends on the annual effective discount rate. NPV accounts for the time value of money. It provides a method for evaluating and comparing capital projects or financial products with cash flows spread over time, as in loans, investments, payouts from insurance contracts plus many other applications.
International Financial Reporting Standards, commonly called IFRS, are accounting standards issued by the IFRS Foundation and the International Accounting Standards Board (IASB). They constitute a standardised way of describing the company's financial performance and position so that company financial statements are understandable and comparable across international boundaries. They are particularly relevant for companies with shares or securities publicly listed.
Financial statements are formal records of the financial activities and position of a business, person, or other entity.
Generally Accepted Accounting Principles is the accounting standard adopted by the U.S. Securities and Exchange Commission (SEC) and is the default accounting standard used by companies based in the United States.
This page is an index of accounting topics.
An audit is an "independent examination of financial information of any entity, whether profit oriented or not, irrespective of its size or legal form when such an examination is conducted with a view to express an opinion thereon." Auditing also attempts to ensure that the books of accounts are properly maintained by the concern as required by law. Auditors consider the propositions before them, obtain evidence, roll forward prior year working papers, and evaluate the propositions in their auditing report.
A financial audit is conducted to provide an opinion whether "financial statements" are stated in accordance with specified criteria. Normally, the criteria are international accounting standards, although auditors may conduct audits of financial statements prepared using the cash basis or some other basis of accounting appropriate for the organization. In providing an opinion whether financial statements are fairly stated in accordance with accounting standards, the auditor gathers evidence to determine whether the statements contain material errors or other misstatements.
Corporate governance are mechanisms, processes and relations by which corporations are controlled and operated ("governed").
In finance, valuation is the process of determining the value of a (potential) investment, asset, or security. Generally, there are three approaches taken, namely discounted cashflow valuation, relative valuation, and contingent claim valuation.
Financial accounting is a branch of accounting concerned with the summary, analysis and reporting of financial transactions related to a business. This involves the preparation of financial statements available for public use. Stockholders, suppliers, banks, employees, government agencies, business owners, and other stakeholders are examples of people interested in receiving such information for decision making purposes.
In financial accounting, a cash flow statement, also known as statement of cash flows, is a financial statement that shows how changes in balance sheet accounts and income affect cash and cash equivalents, and breaks the analysis down to operating, investing and financing activities. Essentially, the cash flow statement is concerned with the flow of cash in and out of the business. As an analytical tool, the statement of cash flows is useful in determining the short-term viability of a company, particularly its ability to pay bills. International Accounting Standard 7 is the International Accounting Standard that deals with cash flow statements.
Throughput accounting (TA) is a principle-based and simplified management accounting approach that provides managers with decision support information for enterprise profitability improvement. TA is relatively new in management accounting. It is an approach that identifies factors that limit an organization from reaching its goal, and then focuses on simple measures that drive behavior in key areas towards reaching organizational goals. TA was proposed by Eliyahu M. Goldratt as an alternative to traditional cost accounting. As such, Throughput Accounting is neither cost accounting nor costing because it is cash focused and does not allocate all costs to products and services sold or provided by an enterprise. Considering the laws of variation, only costs that vary totally with units of output e.g. raw materials, are allocated to products and services which are deducted from sales to determine Throughput. Throughput Accounting is a management accounting technique used as the performance measure in the Theory of Constraints (TOC). It is the business intelligence used for maximizing profits, however, unlike cost accounting that primarily focuses on 'cutting costs' and reducing expenses to make a profit, Throughput Accounting primarily focuses on generating more throughput. Conceptually, Throughput Accounting seeks to increase the speed or rate at which throughput is generated by products and services with respect to an organization's constraint, whether the constraint is internal or external to the organization. Throughput Accounting is the only management accounting methodology that considers constraints as factors limiting the performance of organizations.
An engagement letter defines the legal relationship between a professional firm and its client(s). This letter states the terms and conditions of the engagement, principally addressing the scope of the engagement and the terms of compensation for the firm.
Return on investment (ROI) or return on costs (ROC) is a ratio between net income and investment. A high ROI means the investment's gains compare favourably to its cost. As a performance measure, ROI is used to evaluate the efficiency of an investment or to compare the efficiencies of several different investments. In economic terms, it is one way of relating profits to capital invested.
Strategic financial management is the study of finance with a long term view considering the strategic goals of the enterprise. Financial management is nowadays increasingly referred to as "Strategic Financial Management" so as to give it an increased frame of reference.
Corporate finance is the area of finance that deals with the sources of funding, and the capital structure of corporations, the actions that managers take to increase the value of the firm to the shareholders, and the tools and analysis used to allocate financial resources. The primary goal of corporate finance is to maximize or increase shareholder value.
The convergence of accounting standards refers to the goal of establishing a single set of accounting standards that will be used internationally. Convergence in some form has been taking place for several decades, and efforts today include projects that aim to reduce the differences between accounting standards.
Management accounting principles (MAP) were developed to serve the core needs of internal management to improve decision support objectives, internal business processes, resource application, customer value, and capacity utilization needed to achieve corporate goals in an optimal manner. Another term often used for management accounting principles for these purposes is managerial costing principles. The two management accounting principles are:
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