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Limitations of Financial Statements (Valuing Assets (Investors (They see a…
Limitations of Financial Statements
Normalised earnings
Over exaggerated earnings that were a one-off
Investors
Do not have a long-term indication of the businesses stabilty
Makes them think the business has high sales and profits
Does not indicate standard sales
Example
Opera showing the product on her show, increasing sales
Valuing Assets
Over valuing assets to increase business value on balance sheet
Only an estimation
Intangible assets are guess work and subjectively valued
Investors
They see a high value business (though it is not)
Example
Two Accounting Firm: - - - - - 1) says assets are $100,000 2) says assets are $300,000
Timing Issues
Matching Principle ---
Income and expenses should be recorded for the same time period
Example
An employee works at the end of June but is paid in July. (Expense should be put under June expenses)
Investors
Makes particular periods look better than they were in reality
Not following the Matching Principle
Capitalising Expenses
Marking an expenses as an asset that depreciates over time
Investors
Makes the business seem like it has less liabilities than it does in reality
Increase the value of the business (not really though)
Example
A computer system
Debt Repayments
Example
When they are due
How long the business has had them
When they will occur
What they are for (late payment)
Statement does not indicate specific details of debts
Investors
Mislead
Notes to the Financial Statement
Small footprints under financial statements that contain additional information that may be useful to better understanding the data
Example
Small font (size 6)
Jargon
Investors
Misleading
Hard to read
Requires an expert to understand it