Economic decision making
The annual report is the most important way of communicating with the share-holders to let them know the financial situation of the company. It is also used by management and employees to help decision making about the strategic goals of the firm. The annual report usually consists of a Profit and Loss account and a Balance Sheet, but can also contain other reports and items of financial information that the users may find helpful. It is governed by the Accounting Standards Steering Committee to make sure that the Standard Accounting Processes (S. A. P.’s) are adhered to and there is the possibility of disciplinary action if these are not followed strictly. This is to standardise each company’s reports and eliminate bias as much as possible. Specific groups of people will use the reports for different purposes. Share holders will use the reports to help them make investment decisions on whether to buy, hold or sell the shares of a particular company. Managers will use the reports to aid decision making about the future of the company and which strategy will make the firm the most profit in the long run.
Employees will use the reports to make sure the firm is running with their best interests in mind. A questionnaire survey was conducted by Bryan Carsberg, Anthony Hope and R. W. Scapens in which 600 members of British professional accounting bodies were asked to rank the importance they thought should be attached to a set of objectives for published accounts. The results were that, of the 121 replies they received, assisting shareholders investment decision making was perceived to be the second most important objective.
Another stated objective for the reports was to assist managers in managing the company. This was perceived to be less important with an average rank given at approximately the mid point of the scale. This suggests that members of the accounting profession would class the reports as more useful for shareholders to aid decision making than for managers. The same people also conducted an unstructured interview survey in which of the 26 representatives of six large firms of chartered accountants “Several interviewees stressed the difference between investors of small sums and investors of large sums.
The small investor was characterized as ignorant of accounting, dependent on financial advisors, incapable of getting information elsewhere and unlikely to switch investments because of apathy or loyalty. ” (Carsberg, Hope and Scapens, The Objectives of Published Accounting Reports. Accounting and Business Research. ) This indicates that Annual Reports may be useful as an aid for economic decision making of investors of large sums, but are less useful for investors of small sums. Often the intended user of the annual report will be stated and reports will vary with regards to who they have been written for.
This is because they are likely to be more useful if they have stated objectives as to who they are for and which decisions they intend to aid. The reports are unlikely to be biased if they adhere to the above-mentioned S. A. P. ‘s, but it is possible for a company to make the figures look slightly more favourable using certain techniques. For example, they may lease a vehicle instead of buying it, so that they do not need to show it as a fixed asset on the Balance Sheet. In this way the annual report may not necessarily be an accurate indication of a company’s financial situation.
Shareholders who are intending to use the report to compare to another firms report will therefore not be comparing like for like and so the best decision may not be made. However, in Paul F. Williams’ article, The Legitimate concerns with Fairness (Pergamon Articles Ltd. ), the author states that “Decision usefulness possesses conceptual problems that make it not wholly proper as a principal for organizing accounting research and practice” and that “accountants cannot avoid making certain judgements characterized as fairness judgements”.
He is saying that there is too much room for the accountants own personal judgement and that the Standard Accounting Practices should be updated to leave less for variation. In this opinion, the annual reports could be classed as possibly biased in some ways and therefore not such a good tool for economic decision making, for any of the parties involved. Another point to mention is that past events are not necessarily a good indicator of future events. The environment in which we live is constantly changing and so what may have been a good strategy in the past may be a bad strategy to adopt for the future.
The Financial markets and exchange rates are constantly fluctuating and even though they may seem stable, an event such as the September 11th disaster can cause unexpected chaos. It is very difficult to give an accurate prediction of the future. Methods such as interpolation can be useful, but there is no guarantee that even in a similar situation the same thing will happen again. Predictions are always based on luck and will never be perfect. Paul F. Williams also describes the idea that annual reports can be constraining for management economic decision making as well as facilitating them.
The details in the reports will not take into consideration managers’ inclinations and desires, and will make decision making less of a personal decision, and more of a course of action. Annual reports do not incorporate details which are not measurable, for example, a company may have a good reputation, or goodwill of the employees. This is a negative aspect of annual reports as these could be important indications of the firms’ future performance. These factors could also be relevant when making managerial decisions.
In a detailed report with several items of information, decision makers can look at the piece of financial data which is the most likely to agree with the decision that they wish to make. For example, if a manager does not want to change his current strategy he may look at certain ratios which show that the company is performing to a decent standard, when other financial figures would suggest otherwise. To conclude the essay, it is possible to say that there are several groups of users of the annual reports and that each of the groups may use them to assist their decision making in different ways.
The shareholders (in particular those with large investments) who wish to use the information to aid their economic decisions may find them the most useful and according to the survey conducted by Bryan Carsberg, Anthony Hope and R. W. Scapens, these are the parties that are expected to use them the most. Managers may use the reports for economic decision making in terms of the future of the company, but they have to be aware that the reports may be biased.
All groups must be aware that the past is not necessarily an accurate indicator of the future as society is constantly changing and that predictions no matter how similar the situation is, will never be totally accurate. Annual reports are a good aid to economic decision making, but must be taken context and should not be used in isolation. Decision makers should look at a range of sources of information as there is a great deal of company information, which will not be shown.
References
- Accounting and Business Reseach (1993) Vol 23, No.91 Benston, G. J. (1982a). “An Analysis of the Role of Accounting Standards for Enhancing Corporate Governance and Social Responsibility”, Journal of Accounting and Public Policy, Vol 1, pp5-17.
- British Accounting Review (2000) Vol 32, No. 4. Brief, R. (1975). “The Accountants Responsibility in Historical Perspective”, Accounting Review, Vol. 50. No. 2, April, pp285-297. Carsberg, B. , Hope, A and Scapens, R. W. (1974). “The Objectives of Published Accounting Reports”, Accounting and Business Research, Vol. 5, No. 15, Summer 1974 pp162-173.
