Characteristics of Externally Reported Information
Financial information that is reported to investors, creditors, and others external to the reporting enterprise has certain qualities that must be understood for the information to have maximum usefulness. Some of these qualities are discussed in the following paragraphs.
Financial Reporting—A Means. Financial information is a means to an end, not an end in and of itself. The ultimate outcome of providing financial information is to improve the quality of decision making by external parties, and, in so doing, helping to create a prosperous society. Financial statements themselves are simply a means by which that end is achieved.
Financial Reporting versus Financial Statements. Financial reporting is broader than financial statements. Stated another way, financial statements are a subset of the total information encompassed by financial reporting. Investors, creditors, and other external users of financial information learn about an enterprise in a variety of ways in addition to its formal financial statements. For example, investors and creditors gain information from press releases sent directly by the company, articles in The Wall Street Journal, and more recently, open communications via the Internet. Serious investors, creditors, and other external users take advantage of many sources of information that are available to support their economic decisions about an enterprise.
Historical in Nature. Externally reported financial information is generally historical in nature. It looks back in time and reports the results of events and transactions that already have occurred. While historical information is very useful in assessing the future, the information itself is more about the past than it is about the future. However, in recent years, accounting standard setters are requiring greater use of fair values, rather than historical costs, and other forward-looking information in preparing financial statements.
Inexact and Approximate Measures. Externally reported financial information may have a look of great precision, but in fact much of it is based on estimates, judgments, and assumptions that must be made about both the past and the future. For example, assume a company purchases a piece of equipment for use in its business. To account for that asset and to incorporate the impact of it into the company’s externally reported financial information, some assumptions must be made about how long the equipment will be used by the company—how many years it will be used, how many machine-hours it will provide, will its use vary from year to year, and so on. The fact that a great deal of judgment underlies most accounting information is a characteristic of financial information that is sometimes misunderstood.
General-Purpose Assumption. As we have already mentioned, we assume that, by providing information that meets the needs of investors and creditors, we also meet the information needs of other external parties. We might be able to provide superior information if we were to treat each potential group of external users separately and prepare different information for each group. This approach is impractical, however, and we instead prepare what is referred to as general-purpose information that we believe is useful to multiple user groups (that is, “one size fits all”).
Usefulness Enhanced via Explanation. The value of externally reported financial information is enhanced by including explanations from management. This information is often more qualitative than quantitative and helps to interpret the financial numbers that are presented. For this reason, financial information, including financial statements, is accompanied by notes and other explanations that help explain and interpret the numerical information.
- William J., Bettner M., & Carcello, J. (2021). Financial & Managerial Accounting19th Edition. McGraw-Hill Education. ISBN13: 9781260247930
- Google Image (2021).