Advantages and Disadvantages of Financial Accounting

Advantages and Disadvantages of Financial Accounting

There are certain misconceptions regarding financial statements. A common man presumes that an income statement shows the correct income or loss of the enterprise and that a balance sheet depicts a perfectly true and fair picture of the financial standing of that enterprise. It must be recognised that accounting as a language has its own advantages and limitations. The figures of profit or loss generated by the accounting process are subject to various constraints within which the accounting works. The assumptions and conventions, on which the accounting is based, become the limitations of accounting. The financial statements are never free from the subjectivity factor as these are largely the outcome of the personal judgment of the accountant with regard to the adoption of the accounting policies. Following are certain instances:

ADVANTAGES OF FINANCIAL ACCOUNTING

• Financial Information about Business: Financial Performance during the accounting period, i.e., profit earned or loss incurred and also the financial position at the end of the accounting period is known through accounting.

 

• Assistance to Management: The management makes business plans, takes decisions and exercises control over the affairs on the basis of accounting information.

 

• Replaces Memory: A systematic and timely recording of transactions obviates the necessity to remember transactions. The accounting record provides the necessary information.

 

•  Facilitates Comparative Study: A systematic record enables a businessman to compare one year’s results with those of other years and locate significantly factors leading to change if any.

 

• Facilitates Settlement of Tax Liabilities: A systematic accounting record immensely helps in the settlement of income tax, GST, and Excise Duty liabilities.

 

• Facilitates Loans: Loan is granted by the banks and financial institutions on the basis of growth potential which is supported by performance.

 

• Facilitates Sale of Business: If someone desires to start his business, the accounts maintained by him will enable the ascertainment of the proper financial reports.

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•  Helps in Decision Making: Accounting helps in taking a large number of decisions like the amount to be withdrawn by the proprietor, the price at which goods should be sold. Etc.

 

DISADVANTAGES /LIMITATIONS OF FINANCIAL ACCOUNTING

• The factors that may be relevant in assessing the worth of the enterprise don't find a place in the accounts as they cannot be measured in terms of money. The balance sheet cannot reflect the value of certain factors like loyalty and the skill of the personnel which may be the most valuable asset of an enterprise these days.

• Balance The sheet shows the position of the business on the day of its preparation and not on the future date while the users of the accounts are interested in knowing the position of the business in the near future and also in long run and not for the past date.

•   Accounting ignores changes in some money factors like inflation etc.

•  There are occasions when accounting principles conflict with each other.

• Certain accounting estimates depend on the sheer personal judgment of the accountant, e.g., provision for doubtful debts, method of depreciation adopted, recording certain expenditure as revenue expenditure or capital expenditure, selection of the method of valuation of inventories, and the list are quite long.

• Financial statements consider those assets which can be expressed in monetary terms. Human resources although a very important asset of the enterprise are not shown in the balance sheet. There is no generally accepted formula for the valuation of human resources in money terms.

• Different accounting policies for the treatment of the same item add to the probability of manipulations Though through various laws and Accounting Standards, efforts are made to reduce these options to a minimum but certainly could not be reduced to one.