How to achieve the required qualities of accounting information

It is useful not only to consider the purposes for which the information is required but also to consider the characteristics of useful information. The fundamental objective of corporate reports is to communicate economic measurements of, and information about the resources and performance of the reporting entity useful to those having reasonable rights to such information.

The qualities of Accounting Information include are divided into two: primary qualities and secondary qualities.

A) Primary qualities of useful accounting information:

1. Relevance

To be relevant, accounting information must be capable of making a difference in a decision by helping users to form predictions about the outcomes of past, present, and future events or to confirm or correct expectations. It is information’s ability to “make a difference” that makes it relevant to a decision. A report must give the user what he/she wants. This presupposes that accountants preparing the report know who the user is, what the purpose is and what information he/she requires for this purpose. These requirements may change as time goes on.

Relevant information has:

(a) Predictive value. Information must be able to help the user foresee the likely financial performance and the changes in the financial position expected.

(b) Feedback value. The user should be able to know the results of the investment and the transactions that took place. The user should be able to tell whether the results of the operation match his or her expectations.

(c) Timeliness. Information should be made available to the user in time for him/her to actually make use of it. Information presented should be as up-to date as possible. Approximate information; made available in time to assist with some decision or action is likely to be more useful than precise and accurate information presented after the decision has already been made.

1. Reliability

Accounting information is reliable if users can depend on it to represent the economic conditions or events that it purports to represent.. If the information is not reliable, then no investor can rely on it to make an investment decision. The user should be able to have a high degree of confidence in the information presented to him/her. This does not necessarily mean that the information has to be factually correct, but it should be as credible and as believable as possible.

Reliable information has:

(a) Verifiability. It is “the ability through consensus among measurers to ensure that information represents what it purports to represent or that the chosen method of measurement has been used without error or bias” (Concepts Statement 2, glossary). Verifiability is an essential component of reliability-to be reliable, accounting information must be both representationally faithful and verifiable. It should be independently verified say by an independent qualified auditor. However, unverified or unverifiable information may be better than no information. The reliability of a measure rests on the faithfulness with which it represents what it purports to represent, coupled with an assurance for the user, which comes through verification, that it has that representational quality

(b) Representational faithfulness/ Completeness. It is defined as “the inclusion in reported information of everything material that is necessary for faithful representation of the relevant phenomena”. The user should be given a total picture of the reporting business as far as possible i.e. a round picture of the economic activities of the reporting entity. It is desirable that all information required for decision making is made available. However this implies large and complex collections of information. It may also imply problems of understandability. Completeness of information is an important aspect of representational faithfulness, and thus of reliability, because if financial statements are to faithfully represent an enterprise’s financial position and changes in financial position, none of the significant financial functions of the enterprise or its relationships can be lost or distorted.

Financial statements are incomplete, and therefore not representationally faithful, if, for example, an enterprise owns an office structure but reports no “building” or similar asset on its balance sheet. Although completeness implies showing what is material and feasible, it must always be relative. Financial statements cannot show everything or they would be prohibitively expensive to provide.

c) Neutrality/ Objectivity. The information presented should be not be biased towards a predetermined result in that it should meet all proper user needs and should be neutral in the perception or opinions of the measurer. The preparer should not be biased towards the interests of anyone-user group. All figures presented must have a yardstick or basis for their measurement and not simply planted into the accounts. The stated need is not for reports with no personal opinion, but for reports with unbiased personal opinion. Accounting information is neutral if it “report[s] economic activity as faithfully as possible, without colouring the image it communicates for the purpose of influencing behaviour in some particular direction”. Accounting should not be without influence on human behaviour, but it should not slant information to influence behaviour in a particular way to achieve a desired end.

B) Secondary qualities of useful accounting information:

1. Understandability

Different users will obviously have different levels of ability as regards understanding accounting information. Understandability does not necessarily mean simplicity. It means that the reports must be adjusted to the abilities and knowledge of the users. Complex economic activities reported to an expert user may well require extremely complicated reports. Simple aspects being reported to users with little or no background knowledge will need to be very simple. The problems really arise when we have the task of reporting on complex activities but to the non-expert user.

1. Comparability

Comparability is a quality of the relationship between two or more pieces of information-“the quality of information that enables users to identify similarities in and differences between two sets of economic phenomena”. Information about anyone business for anyone period should be presented so that it can be easily compared with information about the same business or a different period and also be easily compared with information about a different business for the same, or even a different period.

Accounting information that has been measured and reported in a similar manner for different enterprises is considered comparable. Comparability is a pervasive problem in financial analysis even though there have been great strides made over the years to bridge the gap

Comparing alternative investment or lending opportunities is an essential part of most, if not all, investment or lending decisions. Investors and creditors need financial reporting information that is comparable, both for single enterprises over time and between enterprises at the same time.

Comparability is achieved if similar transactions and other events and circumstances are accounted for similarly and different transactions and other events and circumstances are accounted for differently using accounting standards.

Today, with the objectives of financial reporting focused on decision making, comparability is one of the most essential and desirable qualities of accounting information. Investors and creditors can no longer be expected to tolerate blanket claims of differences in circumstances to justify undue use of alternative accounting procedures. Only actual differences in transactions and other events and circumstances warrant different accounting.

3. Consistency

Accounting information is consistent when an entity applies the same accounting treatment to similar accountable events from period to period. Accounting changes hinder the comparison of operation results between periods as the accounting used to measure those results differ.

1. Cost effectiveness

The costs of providing the information must not outweigh the ‘value added’ benefits derived from its use. Information is subject to the same pervasive cost-benefit constraint that affects the usefulness of other commodities: Unless the benefits to be derived from information equal or. exceed the cost of acquiring it, it will not be pursued. Financial information is unlike other commodities, however, in being a partly private and partly public good since “the benefits of information cannot always be confined to those who pay for it” and the balancing of costs and benefits cannot be left to the market.

Cost-benefit decisions about accounting standards generally have to be made by the standards-setting body eg FASB and IASB. Moreover, individuals, be they providers, users, or auditors of accounting information, are not in a position to make cost-benefit assessments due to lack of sufficient information as well as probable biases on the matter.’ Cost-benefit decisions are extremely difficult because both costs and benefits often are subjective and difficult or impossible to measure reliably. Cost-benefit analysis is at best a fallible tool.

1. Volume

The detail and volume of the information communicated should be consistent with the needs of the user. The information should focus clearly on the issue and the main points highlighted and not crowding the report with examine volume.

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