Limitations of the Balance Sheet
Thank you for your response. I especially liked your point regarding ratio use and how seasonal factors can influence the ratios. In my previous position, we had to deal with seasonality quite a bit. Our sales of smoothies at Jamba Juice were extremely seasonal, with more than half of the year’s sales occurring in the three summer months. Also, we adopted what is referred to as a 52/53 week year, with 13 4-week periods each year, rather than a traditional monthly reporting cycle. This enabled us to make sure we picked up the same number of pay periods and purchasing cycles in each period, which provided a more consistent level of comparability. We generally did not compare within different periods, but rather we compared and ran ratios on previous years (also referred to as “comp sales”, or comparable sales). This way, we could study the year-over-year data and use it to make strategic decisions.
There are many other ways to overcome seasonality as well. I am curious to hear if anyone else has experienced these types of situations…
#6 YOU CAN’T HANDLE THE TRUTH!! (Professor respond to student Post)
Did anyone else get the vision of Tom Cruise versus Jack Nicholson in the courtroom scene of “A Few Good Men”?? “YOU CAN’T HANDLE THE TRUTH!” I usually don’t reference movies, but this scene is actually quite applicable to the full disclosure principle. In the movie, Col. Jessup (Jack Nicholson) didn’t want to disclose the truth of the “Code Red” situation at Gitmo because he felt he was protecting the integrity of the United States Marine Corp. While Lt. Kaffee (Tom Cruise) wanted to ensure that the whole truth was brought out for the court to decide.
I think there is a way to look at this, relating it to financial statements and full disclosure. Thoughts, anyone??
#7 Limitations of the Balance Sheet (Student Post)
The Balance Sheet or the Statement of Financial Position reports company’s assets, liabilities, and owner’s equity at a specific date. “Analysts also use information in the balance sheet to assess a company’s risk and future cash flows. In this regard, analysts use the balance sheet to assess a company’s liquidity, solvency, and financial flexibility.” (Kieso, Donald E., Jerry Weygandt, Terry Warfield, 2016). The balance sheet is very useful but has several limitations, the major ones are:
Most assets and Liability are reported at historical cost instead of fair value under US GAAP. I also find this not to be useful because the cost that certain assets appreciate in value.
Judgment and estimates are used to determine many items on the balance sheet, like the estimated amount of receivables a company may collect, useful lives of certain assets and returns under warranty.
The balance sheet omits items that are of financial value because these items are usually hard to measure. Such as customer base, research, and reputation.
Kieso, Donald E., Jerry Weygandt, Terry Warfield. Intermediate Accounting, 16th Edition. Wiley, 2016-03-21. VitalBook file.
#8 Increase in Reporting Requirements (Student Post)
According to our textbook it states that ddisclosure requirements have increased substantially. One survey showed that the size of many companies’ annual reports is growing in response to demands for increased transparency.
The reasons for this increase in disclosure requirements are varied. Some of them are:
Complexity of the business environment. The increasing complexity of business operations magnifies the difficulty of distilling economic events into summarized reports. Such areas as derivatives, leasing, business combinations, pensions, financing arrangements, revenue recognition, and deferred taxes are complex. As a result, companies extensively use notes to the financial statements to explain these transactions and their future effects.
Necessity for timely information. Today, more than ever before, users are demanding information that is current and predictive. For example, users want more complete interim data. Also, the SEC recommends published financial forecasts, long avoided and even feared by management.
Accounting as a control and monitoring device. The government has recently sought public disclosure of such phenomena as management compensation, off-balance-sheet financing arrangements, and related-party transactions. An “Enronitis” concern is expressed in many of these newer disclosure requirements, and the SEC has selected accountants and auditors as the agents to assist in controlling and monitoring these concerns.
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