Before starting this topic, let’s just ponder for a while about the purpose and use of financial reporting… YES! Numerous uses of financial reporting come into our minds. For instance, apart from financial reports being internally used by the management of the business for monitoring of activities and decision-making purposes, these are used by several other stakeholders as well such as potential investors, lenders, creditors, customers, Government organizations etc. Financial information will only be useful if it has certain qualitative characteristics. These characteristics are discussed below.
- Reliability (or faithful representation)
- Comparability and consistency
Let’s briefly discuss all these characteristics of useful financial information.
Financial information should be relevant to the decision-making needs of the users of that financial information. For example, lenders are concerned with the financial position and liquidity position of an entity. Relevant financial report submitted to lenders should present all the material information about the entity’s assets and liabilities. From the concept of relevance, another concept is linked that is materiality. Users of financial information are looking for relevant information which is material to their decision-making. Information is considered material if its omission or misstatement can affect the decisions of users.
Reliability (or faithful representation)
Financial information should be reliable and faithfully represented if it is to be of use for the intended users. It means that financial information should be complete, unbiased, and free from errors. Users of financial information will only make decisions based on financial information if they consider it reliable and accurate.
Verifiability of information is a characteristic which assures the users that this financial information can be relied upon. Verifiable information is reliable information, and only reliable information will be used by the stakeholders for decision-making purposes.
Comparability and consistency
Comparability of information is a characteristic which helps the users to identify similarities and differences among various items. Financial information of an entity which can be compared to the entity’s prior periods information or which can be compared to similar financial information of other entities in the same industry is often useful for analysis purposes, for example, trend analyses, various industry specific analyses etc. This useful characteristic of financial information can only be achieved through consistency, which means that specific accounting policies and methods are consistently followed by the entity or various entities in an industry.
It is particularly important that the financial information is made available to its intended users when they need it for decision-making purposes. This is the reason why various regulatory authorities all over the world specify deadlines for annual reporting, specially for companies listed on stock exchanges.
Last but not the least, financial information should be understandable. It should be clear and concise, and structured in such a way that it facilitates its users in understanding the financial information.