Qualitative characterstics of Financial statements-Understandability, Relevance, Reliability, Comparability, Timeless (Commerce Achiever)

There are mainly five types of financial statements; statement of financial position, income statement, statement of changes in equity, statement of cash flows and disclosure notes. The former four mainly show the relevant financial data to a business but the last one mostly includes the non-financial data that assists the users of the statements to understand the numbers depicted in financial data.

The main purpose of the financial statements is to educate the shareholders about the financial status and financial performance of their company. This is because the shareholders are the real owners of the company but the company is governed and administered by directors. As directors act as stewards of shareholders, it is their duty to prepare financial statements that are free from material misstatements as well as also posses some qualitative characteristics which are important to enhance their quality and relevance.

Following are the main qualitative characteristics of financial statements:

• Understandability
• Relevance
• Reliability
• Comparability
• Timeless

Understandability:

The financial statements are published to address the shareholders of the company. So it is important that these statements must be prepared in such a way that is easy  to understand and interpret for the shareholders. The information provided in these statements must be clear and legible. For the sake of understandability, the management must consider not only the statutory data and information but also the voluntary information disclosures which would make financial statements easier to understand. The directors must elaborate the information provided in the statements where necessary.

Relevance:

The information provided in the financial statements must be relevant to the needs of its users. Although the main statutory recipients of these statements are ‘shareholders’, but there are many other stakeholders that rely on these statements during their decision making process e.g. Fund Providing Institutions (Banks, Insurance Companies, Assets Funding Firms etc.), potential investors (for making investments in prospective companies), suppliers (for the assessment of credit rating) etc. So the information provided in these financial statements must be relevant to the ‘information needs’ of all these stakeholders, which could affect their economic decisions.

Reliability:

The information provided in the financial statements must be reliable and true. The information extracted to prepare these financial statements must be from reliable and trustworthy sources. The financial statements must depict the true and fair picture of the status of the company affairs. This means that the information provided must not have any significant errors or material misstatements. The transactions shown must be based on the concepts of prudence and must represent the true nature of company’s transactions and operations. The areas that are judgmental and subjective in nature must be presented with due care and keen competence.

Comparability:

The financial statements must be prepared in such a way that they are comparable with prior year financial statements. This characteristic of financial statements is very important to maintain, as it makes sure that the performance of the company could be monitored and compared. This characteristic is maintained by adopting accounting policies and standards that are applied are consistent from period to period and between different jurisdictions. This enables the users of the financial statements to identify and plot trends and patterns in the data provided, which makes their decision making easier.

Timeliness:

All the information in the financial statements must be provided within a relevant span of time. The disclosures must not be excessively late or delayed so that while making their economic decisions the users of these statements posses all the relevant and up-to-date knowledge. Although this characteristic may take more resources but still it is a vital characteristic as delayed information makes any corrective reactions irrelevant.