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Financial reporting has seen great advancements since its very conception as societies trusted form of corporate communication. Disclosures required within sets of financial accounts is an area which has attracted many different viewpoints for a number of years. Some argue that sets of accounts provide all the essential information in one central place, allowing comparisons to be made and vigorous calculations to be carried out. On the other hand the vast majority are of the mindset that all information provided is historical and certain bits of material are missed out which inevitably influences decision making. This essay will ascertain the extent to which shareholders can make reliable and informed decisions from the information laid out in sets of financial accounts containing examples that arise in Tesco’s published annual accounts of 2018. When evaluating future movements of a company it is crucial that shareholders have a full understanding of the published sets of accounts.
Sets of financial accounts are the means in which the business world communicate their performance over the past financial year. This is seen to be a 12 month period in which you acquire varied information on the operations of the entity (GOV, 2018). These accounts subsequently can be broken down into particular categories amongst which include the statement of financial position, profit and loss accounts, statement of changes in equity and cash flow statements (IAS,2018). The set of financial accounts will amalgamate all of the essential components seen within the accounting profession into one statement which is easily accessible. Financial statements, although initially independent of one another, all contain interrelated information which is then used to contribute to the finalisation of other statements. An example of this is evident when the profit calculated within the Profit & Loss account is easily transferrable into the equity section of the Statement of Financial Position, also known as the Balance Sheet. Complete sets of financial accounts are based upon the accounting equation and primarily within the market, specifically for the purposes of the shareholders, as well as external stakeholders (Weetman, 2016). All companies, whether trading or not, are obliged to retain their accounting records (GOV, 2018), including all of the business’ income and expenditure as well as detailing the value of their assets and liabilities. Throughout the UK there are two types of accounting systems, being the International Accounting Standards Board (IASB) and a similar system run by the Government , based on UK law as well as the accounting standards of the UK FRC (Weetman, 2016). Entities are required to adhere to such financial reporting standard frameworks which primarily detail accounting policies, within one single document, upon which firms should apply in the preparation of financial accounts (Weetman, 2016). Both organisations similarly allow accountants to adhere to the current standards consequently signifying that accounts are relevant, reliable and can be efficiently compared with numerous corporations in the market.
Shareholders worldwide focus their attention on financial accounts when important investment decisions regarding equity arise. The financial condition of an entity is one which sparks a great deal of interest from both creditors and investors. Sets of financial accounts permit users to review the current condition of a business without having to access various individual financial statements. The review section of financial accounts details specifically how the business has performed over the latest financial year. When evaluating sets of accounts, shareholders can adopt a wide range of ratio techniques which subsequently allows them to further analyse the entity’s advancements and progress (Bragg and Bragg, 2018). Profitability ratios are obtained with the objective of identifying an entity’s ability to generate a profit from their ongoing activities (Nissim D, 2003). From a shareholders perspective the return on equity ratio is the most influential ratio as this allows them to gather data on whether or not there is a substantial amount of return being produced from investments being made within the company. Return on equity (ROE) is calculated by taking the amount of net income within an entity and dividing it by shareholder’s equity (Weetman, 2016). With regards to Tesco’s financial accounts all of the required information in order to obtain this ratio is shown within the statement of profit and loss along with the balance sheet with the company having a net income of over £51 Billion in 2018 (Tesco Plc, 2018). This will allow Tesco’s shareholder’s to evaluate exactly how much return is being contrived giving them the knowledge and power needed in order to drive themselves forward in what is seen to be an extremely saturated market. Liquidity ratios enable the investigating of how well entities manage their cash flow and within every organisation, the liquidity management is an immense matter of interest for shareholders (Saleem Q, 2011). By shareholders having the ability to deepen their insight regarding how an entity can pay debtors, then this may allow them to make effective decisions regarding how flexible the company can be in meeting its outstanding financial obligations. The liquidity ratio used most frequently by entities is the current ratio whereby companies collect data on their current assets and divide this by the liabilities, indicating certain obstacles that specific entity may face (Gombola, 1983). With sets of financial accounts apparently holding all information needed to precisely determine how strong an entity is, it can be argued that financial accounts are needed to ensure successful decision making amongst shareholders within a firm.
Although being able to calculate ratios from sets of published financial accounts is an invaluable task, shareholders look to accounts for additional reasons. Shareholders acknowledge the fact that financial accounts are issued on a systematic basis. This enables a full understanding of when the business is excelling and when there are apparent financial burdens. With the accounting standards apparent throughout the country, it consequently means that no company can hide. Shareholders are able to identify comparisons between their own business and different ones in the market. After Tesco’s shareholders have analysed their own performance over the past financial year and gathered various bits of information, such as their £1.208 billion profit ,they then have the chance to review their competitors such as Asda, Sainsbury’s and Morrisons. This in essence, gives shareholders a perception of the market as a whole and knowledge of where they need to improve. The IASB system is more flexible regarding layout of accounts within the UK however they set out specific essential items that have to be included (Weetman,2016).
With there being such differing opinions regarding this issue as a whole, many perceive sets of financial accounts to be a non-useful source of information. This stems from all sets of accounts being historic forms of documentation and based solely around a specific time period. Triggered by fluctuations in sales or seasonality of certain products, it is apparent that two separate periods of accounts will never be identical (Bragg and Bragg, 2018).This resultantly provides users with information that may not portray the real picture of an entity due to possible significant changes within these time periods. When analysing the historical aspect of financial accounts, it is evident that there is no proper indication of how the business will perform in the future (Bragg and Bragg, 2018). The financial position of a company varies day to day and can change with every transaction being made (efinance, 2018). This in turn creates a more difficult job for shareholders regarding the decision making process as they may not possess all of the knowledge required to make tactical and powerful decisions. Although Tesco’s annual report gives a wide range of data from 2017-2018, there is no indication of how this entity was performing before this time period, so it can be argued that shareholders may receive a capped view which will cloud their judgement if solely evaluating one annual report.
With sets of financial accounts there is a chance that senior management of an entity will falsify or deliberately adjust results included within them to not reflect true value (Cheshire Police, 2018). It is of common opinion that no business likes to prepare accounts which makes their organisation be seen in a bad light (Hines RD, 2018).By offering management attractive incentives should company performance improve, as is common within the market, managers may be encouraged to deliberately falsify financial statements in order for the entity to be perceived successful. This initiates a fraudulent process which is most evident when there is a concentration of power inside a company (Dunn P, 2004). This again provides shareholders with information that will impact on their future decisions which could be of destructive nature to the entity. Additionally, the fact that sets of published accounts do not contain any management accounting can be off putting for shareholders. Published accounts are focused around financial accounting and by doing so it foregoes vital information such as actions taken surrounding future sales, production and capital expenditure (Weetman, 2016). Management accounting is focused on reporting a business’ accounts for internal managers only (Weetman, 2016). This type of accounting enables management to make strategic decisions and by sets of published financial accounts overlooking the external potential usefulness, shareholders are arguably disadvantaged.
To argue that the statement “published sets of financial accounts provide shareholders with all the information they require to make informed decisions” is a true reflection of today’s society is naïve. Whilst some may argue that they allow accurate comparisons and calculations to be made, it is fundamental to remember that all accounts are produced in the past. Over and above this there is absolutely no way of knowing if consequential information has been purposely omitted. Shareholders have the responsibility of enhancing businesses into the future and in order to do so, sets of accounts require further rectification before decision making exhibits remarkable improvement.
References
- Bragg, S. and Bragg, S. (2018). Limitations of financial statements. [online] AccountingTools. Available at: https://www.accountingtools.com/articles/limitations-of-financial-statements.html [Accessed 21 Jan. 2019].
- Cheshire Police. (2018). False accounting fraud – Cheshire Police. [online] Available at: https://www.cheshire.police.uk/advice-and-support/fraud-and-scams/false-accounting-fraud/ [Accessed 19 Jan. 2019].
- Dunn, P., 2004. The impact of insider power on fraudulent financial reporting. Journal of management, 30(3), pp.397-412.
- efinance. (2018). Limitations of Financial Statements | Investor’s Caution Area. [online] Available at: https://efinancemanagement.com/financial-accounting/limitations-of-financial-statements [Accessed 21 Jan. 2019].
- Gombola, M.J. and Ketz, J.E., 1983. A note on cash flow and classification patterns of financial ratios. Accounting Review, pp.105-114.
- GOV(2018). Company accounts guidance. [online] Available at: https://www.gov.uk/government/publications/life-of-a-company-annual-requirements/life-of-a-company-part-1-accounts [Accessed 16 Jan. 2019].
- Hines, R.D., 1988. Financial accounting: in communicating reality, we construct reality. Accounting, organizations and society, 13(3), pp.251-261.
- IAS. (2018). IAS 1 — Presentation of Financial Statements. [online] Available at: https://www.iasplus.com/en/standards/ias/ias1 [Accessed 18 Jan. 2019].
- IFRS(2018). IFRS. [online] Available at: https://www.ifrs.org/groups/international-accounting-standards-board/ [Accessed 18 Jan. 2019].
- Nissim, D. and Penman, S.H., 2003. Financial statement analysis of leverage and how it informs about profitability and price-to-book ratios. Review of Accounting Studies, 8(4), pp.531-560.
- Saleem, Q. and Rehman, R.U., 2011. Impacts of liquidity ratios on profitability. Interdisciplinary Journal of Research in Business, 1(7), pp.95-98.
- Tesco Plc. (2018).- Annual Report and Financial Statements 2018 [online] Available at: https://www.tescoplc.com/media/474793/tesco_ar_2018.pdf [Accessed 16 Jan. 2019].
- Weetman, P. (2016). Financial and management accounting. 7th ed.
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