Top 11 Qualitative Characteristics of Accounting Information

The objectives of (general purpose) financial reporting serve many different information users who have diverse interests, and no one predetermined result is likely to suit all users’ interests and purposes. The possibility of error in measuring information and business events may create difficulty in attaining high degree of reliability. Thus, measurement constraints in accounting place restriction on the accuracy and reliability of information. Adequate disclosure in annual reports, however, requires that users should be informed about the data limitations and the magnitude of possible measurement errors.

• An implication is that accounting researchers and policy-makers should not be content with merely trying to improve the relevance of accounting disclosures.
• The results of the study do not support that a substantial amount of one quality must necessarily be sacrificed or traded off in order to enhance the value of the other.
• Some environmental factors such as difficulty in measuring business events, limitations of available data, users’ diverse requirements, affect accounting and thus put constraint on achieving objectives.
• An error in inventory valuation may be material in a small enterprise for which it cut earnings in half, but immaterial in an enterprise for which it might make barely perceptible ripple in the earnings.

While every loss of reliability diminishes the usefulness of information, it will often be possible to approximate an accounting number to make it available more quickly without making it materially unreliable. If assets are valued at cost in some periods, and at replacement cost in others, the firm’s earning power may be distorted, especially when the difference in cost and replacement cost is significant over a period of time. Information, if comparable, will assist the decision-maker to determine relative financial strengths and weaknesses and prospects for the future, between two or more firms or between periods in a single firm. It is hardly ever a question of black or white, but rather of more reliability or less. Reliability rests upon the extent to which the accounting description or measurement is verifiable and representationally faithful. Neutrality of information also interacts with those two components of reliability to affect the usefulness of the information.

What are the qualities of accounting information?

Nevertheless, in general, standards that apply differently need to be looked at carefully to ensure that the criterion of neutrality is not being violated. Some common synonyms of relevant are applicable, apposite, apropos, germane, material, and pertinent. While all these words mean “relating to or bearing upon the matter in hand,” relevant implies a traceable, significant, logical connection.

A financial statement is relevant when it has data that is valuable enough to make predictions /estimations about future events like calculating the future cash flows, which will be important to the investors in making decisions. Characteristics are the attributes that make the information provided in financial reports useful to users. As figure 1 shows, the four principal qualitative characteristics are understandability, relevance, reliability and comparability (IASB, 2006). Finally, relevance requires that the financial information given must be needed by the decision maker. For instance, companies could report the type of car their CEO drives in an understandable and timely manner, but this doesn’t make this information relevant.

What does reliability mean in accounting?

This kind of information cannot be of any use to the company in making decisions. Without relevance, financial information would be useless to investors and creditors. The main purpose of financial accounting is to aid external users like investors and creditors in making decisions about the company.

For example, information regarding plant and machinery may be less reliable than certain information about current assets because of differences in uncertainty of realisation. Reliability is that quality which permits users of data to depend upon it with confidence as representative of what it purports to represent. Information is relevant if it helps users of the financial statements in predicting future trends of the business (Predictive Value) or confirming or correcting any past predictions they have made (Confirmatory Value). Same piece of information which assists users in confirming their past predictions may also be helpful in forming future forecasts.

What does relevance mean in business?

Lastly, the information should be useful for the banker in deciding whether to grant a loan to the company or not. As per GAAP, the information should be useful, understandable, timely, and pertinent for end-users to make important decisions. In accounting, the term relevance means it will make a difference to a decision maker.

Are accountants relevant?

If a change in accounting practices or procedures is made, disclosure of the change and its effects permits some comparability, although users can rarely make adjustments that make the data completely comparable. Financial reports of different firms are not able to achieve comparability because of differences in business operations of companies and also because of the management’s viewpoints in respects of their transactions. Also, because there are different accounting practices to describe basically similar activities. Quality information has a feedback value when it can confirm or correct previous expectations. In other words, users can examine financial information and confirm or adjust their predictions made on previous performance trends.

Understandability of information is governed by a combination of user characteristics, and characteristics inherent in the information. Understandability (and other qualifies of the information), should be determined in terms of broad classes of users (decision-makers) rather than particular user groups. There are many factors affecting the reliability of information such as uncertainties inherent in the subject-matter and accounting measurements. A continuing source of misunderstanding about accounting information and measurements is the tendency to attribute to them a level of precision which is not practicable or attainable.

Conversely, the company might report useful financial information that creditors aren’t interested in like employee salaries. Creditors are more concerned about cash flow and profitability—not smaller operational details. Out of date information does not do investors or creditors any good when they are trying to make current and future decisions. Financial reporting must be timely and current in order to be used by investors and creditors. However, the company suffering a causality loss because the factory burned down to the ground is a relevant piece of accounting information.

Therefore relevance in accounting indicates the capacity to relevance in accounting influence the end-users of the financial statement in their decision-making process. If these external users can’t understand the financial information, it loses meaning. That is why GAAP requires a standardized format for all financial statements. This way investors and creditors will understand the numbers and be able to compare them with other companies with financial ratios. FASB asked the question, “Will financial statement users’ decisions be affected by this information? ” If the answer is no, then the information isn’t relevant and can be excluded from the financial statements.

Another factor in materiality judgments is the degree of precision that is attainable in estimating the judgment item. The amount of deviation that is considered immaterial may increase as the attainable degree of precision decreases. FASB (USA) Concept No. 2 (pare 115, 1980) defines comparability, “….as the quality or state of having certain characteristics in common, and comparison is normally a quantitative assessment of the common characteristics. Clearly, valid comparison is possible only if the measurements used—the quantities or ratios— reliably represent the characteristic that is the subject of comparison”.