Objectives of Financial Statements

FINANCIAL STATEMENTS
Objective of Financial Statements
Financial statements are a central feature of accounting because they are the primary
means of communicating important accounting information to users. It is helpful to think of
these statements as models of the business enterprise, because they are attempts to show
the business in financial terms. As is true of all models, however, financial statements are
not perfect pictures of the real thing but rather the accountant’s best effort to represent
what is real.
The main objective of financial statements is to provide information about the entity's
financial position, performance and changes in financial position that is useful to many
users in making important economic decisions. Users of financial statements are the
investors, lenders, suppliers, creditors, customers, governments and their agencies and the
general public. These users are called external users because they do not have direct access
to financial information of an entity and therefore, rely heavily on financial statements.
Information presented in the financial statements, are primarily quantitative in nature and
serve as the basis to help users make informed judgments and better decisions.
Example of users and the type of information they need are:
a. Investors are interested mainly in returns from dividends and in the market prices of
their investment
b. Creditors want to know if the business can repay a Ioan according to its terms.
c. Government and their agencies want to determine if the entity is complying with
government rules and regulations
d. Employees want to know if the entity is stable for their security of tenure
e. Customers and the general public are interested if the entity could provide them with
their needs for better products.
Qualitative Characteristics of Accounting Information

Qualitative characteristics are standards for judging the information that accountants give
to decision maker. They are the attributes that make the information provided in the
financial statements useful to users. The four principal qualitative characteristics are:
1. Relevance
2. Reliability/ Faithful Representation
3. Understandability
4. Comparability
Relevance and reliability refer to the content of financial statements, understandability and
comparability refer to the way financial statements are presented
Relevance
An information is relevant if knowledge of the information will affect the evaluation or
decision of the users. To be relevant the Information must be related to the needs of the
users or decision makers. A relevant information has the following attributes:
1. Predictive value----------an Information is relevant if it has a predictive value, that it helps

in predicting an entity's activities in the future periods. Example is the preparation of a
company’s budget for the year 2021. One of the relevant sources of information for making
the budget of 2021 would be prior periods financial statements.
2. Confirmatory value---------to be relevant, information must provide feedback. For

example, the income statement provides information about how a company did in the past
year. It shows the results of operations in the past year whether it is gain or a loss. This
makes the financrai statements historical in nature.
3. Materiality---------- information is material if its omission or misstatement could influence

the economic decisions of users taken on the basis of the financial statements. The
materiality of an item is normally determined by relating its peso value to parts of the
financial statements. Thus P 5,000 may be material if compared to P 10,000 but it may be
considered immaterial if compared to several millions of pesos.
Reliability/ Faithful Representation
In addition to being relevant, accounting information must have reliability. In other words,
the users must be able to depend on the information. It must represent what it is meant to
represent. It must be regarded as credible or verifiable by independent parties using the
same methods of measuring. It must be neutral or objective. Accounting should convey
business activity as faithfully as possible without coloring the picture being presented in
order to influence anyone in a certain direction.
A reliable information has the following attributes:
1. Faithful representation----- an information that is representationally faithful is truthful

and reports what actually takes place. Thus if sales in 2020 amount to P 500,000, reliable
financial statements should show this amount as part of its 2020 income statement.
2. Substance over form----- if an accounting information presents the actual Intention of the
parties to a transaction and not only its legal basis, then, it applies substance over form.
Example: Land owned by Lorenzo Company was sold to George Company on installment
basis. Title is to be retained by Lorenzo Company (seller) until all installment payments have
been received from George Company (buyer). From a legal Lorenzo Company is the owner
of the land (because Lorenzo Company still holds the title). From an accounting viewpoint,
George Company is already the owner (because the economic substance of the transaction
transfers control of the land to George Company). Lorenzo only retains title as a security
not because it is still the owner of the land.
3. Neutrality------ the quality of accounting information to be fair, neutral or free from bias.
Income statement should reflect correct revenue and expenses. T'he balance sheet, on the
other hand, should contain the correct assets, liabilities and capital.
4. Prudence------- is the inclusion of a degree of caution in the exercise of judgment needed
in making the estimates required under conditions of uncertainty, such that assets or
income are not overstated and liabilities or expenses are not understated. Prudence
requires being careful, so as not to encourage undue optimism on the part of the users.
5. Completeness--------- refers to the degree to which information is free from omissions. An

omission can cause ap accounting data to be false misleading and therefore unreliable.
Understandability
Financial data should be expressed in forms or terminologies adapted to the users' range of
understanding. For this purpose, users are assumed to have a reasonable knowledge of
business activities and must have a willingness to study the information with reasonable
diligence.
Comparability
Accounting users must be able to compare the financial statements of a business entity for
different accounting periods. This is called intracomparability. Example: Financial
Statements of ABC Company for 2020 can be compared to its financial statements for 2019
and other prior periods to determine if there is improvement in operating performance as
well as in financial position.
The other type of companson is inter-comparability where accounting users compare the
financial statements of different business enterprise in order to evaluate their
performances, financial positions and cash flows.

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FINANCIAL STATEMENTS

Objective of Financial Statements

Example of users and the type of information they need are:

Qualitative Characteristics of Accounting Information

1. Predictive value----------an Information is relevant if it has a predictive value, that it helps

2. Confirmatory value---------to be relevant, information must provide feedback. For

3. Materiality---------- information is material if its omission or misstatement could influence

Reliability/ Faithful Representation

A reliable information has the following attributes:

1. Faithful representation----- an information that is representationally faithful is truthful

5. Completeness--------- refers to the degree to which information is free from omissions. An

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