Unit 13 Assignment on Financial Reporting Management

Introduction

Accounting is the process which involves recording and summarising the transactions in a manner which assists in the effective reporting and presentation of relevant information to the concerned parties. This financial reporting management is based on the accounting issue which relates to the effectiveness of financial reporting framework for the reporting entities in context of its benefits and limitations for both entities and its stakeholders including external and internal parties. The arguments are included in this discussion to evaluate the use of the framework in overall context. Also financial reporting management iscusses the objectives and motives for adopting the practices of earnings management.

Regulatory Financial Reporting Framework:

Financial Reporting Framework refers to as the set of policies, procedures and guidelines which are used to determine the structure and format in accordance of which the financial reporting is being done by the organizations. It includes all the policies, principles and standards that are applied for reporting the information in the financial management  of the organization. In UK, the financial reporting regulation is governed by the Financial Reporting Council (FRC). The financial reporting regulation is the statutory requirement which defines the principles that shall be essentially adhered to while preparing financial statements of a company or any other form of business to which the regulation applies. The regulations provide for different types of guidelines for different forms of businesses which are designed in such a manner that they enable the presentation and reporting of that particular business form in an effective manner which is easily readable and understandable by the users of such financial information. The statues, laws and regulations that relate to the financial reporting framework may be in any form such as International Accounting Standards (IAS), Generally Accepted Accounting Principles (GAAP), International Financial Reporting Standards (IFRS), internal accounting controls,  policies for notes to accounts, quality standards for financial reporting, auditing standards etc. (Leuz, 2010) All these financial reporting regulations aim to provide the guidance and assistance to the preparers of these financial statements to ensure that they are properly and accurately interpreted by the users of financial statements. In order to discuss how the regulation of financial reporting helps in the effective and appropriate reporting of financial information for the businesses, the arguments are presented as follows in favour of and in against of the financial reporting regulation:

Arguments in favour of regulation: 

The argument in favour of regulation of financial reporting is related to the public interest theory which suggests that the first and foremost need of financial reporting regulation is to prevent the market failure of the business or organization. Market failure is the stage which arises when the conditions for the functioning of market are not complied with completely by the business. For example if the product launched by a business is good for public but if the benefits of the product are not properly reported to the potential customers, the launching of product will not achieve its purpose.

Accounting information is the base of performance of business in the market. Therefore an organization shall supply the optimum and relevant amount of financial information to its users so that they correctly interpret the information with regards to the benefits they might get from the accurate use of such information. The standards and guidelines of regulatory framework provide a uniform reporting structure which is understood by the users very easily and thus it becomes easy to present the optimum and relevant information only. This also ensures that such crucial information is not used by the competitors for their own benefits since the same information is also reported by them in a similar patter and same extent.

The regulation provides for the mandatory disclosure of some relevant information by all the organizations of similar nature and same level. This increases the confidence of general public and builds their trust in the company on one hand and reduces the costs for general public to gather the relevant information about the company’s business from diversified sources on the other hand. It will also enhance the comparability of accounting information so that the government intervention assists the company in dissemination of information to a large group of people (Pervan, 2010).

Arguments against regulation:

The proponents who support the arguments against the financial reporting regulation suggest that the non0-complaince of regulation with regards to financial reporting result in the fines, penalties and compensations for the businesses and organizations whereas in absence of external intervention in the form of statutory regulations, the market and customers believe that the accounting information supplied to the users is at right level and is appropriate.

In absence of a regulation the firms and businesses will be willing to publish the financial information as the uncertaininties and doubts of the investors and lenders will overcome which relates to the reduction of cost of capital from the publishing of financial information.

The regulations and legislations which provide for reporting of financial information will result in over burdening of information reporting for the companies since the beneficiaries who do not pay for the costs of generating information will ask for more information in such a case which the company will have to provide free of costs.

The regulations results in deterioration of innovative capacity of the businesses and managers who in absence of information might be willing to publish information in an advanced and more efficient manner. The regulations are captured by the regulated parties of the organizations.

Once the regulations are put in place by the organizations, they cannot be reversed. The accounting standards applied in the financial reporting structure are very difficult and time consuming to change with retrospective effect (Altamuro, 2010).

From the above mentioned arguments in favour of and in against of the financial reporting regulations, it can be analysed that despite of some limitations of these regulations, they are quite essential for the effective financial reporting of the businesses to convey proper and relevant information to all the important users of financial information.

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Earnings Management:

Earnings are the financial benefits or profits which are earned as a result of management operations of a firm, or an entity. The achievement of gains is the main goal or objective of every business. Management is the process of coordinating, controlling and monitoring the processes or resources involved in a particular operation or task so that the intended results from the performance of those operations are achieved effectively. Earnings Management is the process which combines both these terms ‘earnings’ and ‘management’. Basically, it is the legal and reasonable decision making and reporting process which aims at achieving the stable results (He, 2016). Thus earnings management is the process of managing the earnings from a particular activity or business so that they increase with the increase of efforts and are properly deployed to generate more funds and gains. The earnings arise from the business in the form of cash inflows and are the surplus remaining after the costs of operating business are fully met. Thus earnings management is the basis of managerial decision making and basis of estimates on which other processes are also based.  The objectives and motives behind adopting the practices of Earnings Management are as follows:

Wealth maximization – It is the most significant objective behind management of earnings since the goal of earning profits from business is the development of long term wealth for the shareholders of the company. Shareholders are the owners of the businesses, therefore the surplus remaining with the business after deduction of all the relevant costs shall be retained for the owners of business so that their wealth can be maximised for long term to achieve the growth and sustainability of the business.

Optimum use of financial resources – The earnings from the business operations are the financial resources for the business which shall be utilised in an optimum manner so that these resources are not wasted and can be used potentially to generate more gains and profits. Earnings are the only result of the operations of business which can be used for the increase of these profits.

Stock market incentives – The earnings of the company affect the share price movement in the share market. Thus with the intent of investors to get themselves involved with the portfolio of successful firms the companies adopt the practices of earnings management. The effective management of earnings result in deriving the incentives from the stock market in the form of rise in price of its shares.

Management compensation – The compensation of managers of company are directly linked to the performance of company and profits and gains generated by them from the businesses. Therefore the earnings management is adopted by the managers to ensure that the earnings reported by them are accurate and proper so that their incentives and compensation increase in form of bonuses.

Lending contracts motivation – The creditors of the company impose restrictions on the payment of dividends, issue of additional debt, buyback of shares with regards to the reporting of accounting figures and to ensure the repayment of borrowings of firm. Thus in this case the earnings management process is needed so that the firms do not breach their debt obligations.       

Regulatory motivations – The regulations and legislations that apply to the financial reporting framework of the businesses and accounting figures and ratios require the entities to go for earnings management process. Some specific forms of businesses such as banks, financial institutions, insurance firms etc are the business forms which are under the legal and statutory obligation to ensure that the capital And assets of their business meet their required specifications. Similarly the financial and accounting legislations such as listing guidelines for public companies, IFRS, accounting standards etc also require the companies to manage their earnings effectively and make proper reporting (Flores, 2016).

Conclusions

From the above analysis and discussion about the accounting and financial framework which relates to the regulation of financial reporting and earnings management process, it can be concluded that the regulations and legislations are essential for the effective reporting of the financial information for the users of such information. Also from the analysis of the motives behind the process of earnings management, it can be concluded that the earnings of the company are the most important part of business operations and business results. Thus proper and effective management of earnings is an essential tool for the effective reporting mechanisms of the company. This rep[ort has been prepared on the basis of reliant and appropriate information which assists in developing the understanding of the concepts of financial reporting and application of accounting principles and theories. The effective understanding of these theories has also been achieved with the help of arguments presented as part of discussion and the objectives and motives presented as part of analysis of both earnings management as well as financial reporting framework. 

References

Altamuro, J. & Beatty, A. 2010, "How does internal control regulation affect financial reporting?", Journal of Accounting and Economics, vol. 49, no. 1, pp. 58-74.
Flores, E., Weffort, E.F.J., Silva, A.F.d. & Carvalho, L.N.G. 2016, "Earnings management and macroeconomic crises: Evidences from Brazil and USA capital markets", Journal of Accounting in Emerging Economies, vol. 6, no. 2, pp. 179-202.
He, G. 2016, "Fiscal Support and Earnings Management", The International Journal of Accounting, vol. 51, no. 1, pp. 57.
Königsgruber, R. 2012;2011;, "Capital Allocation Effects of Financial Reporting Regulation and Enforcement", European Accounting Review, vol. 21, no. 2, pp. 283-14.
LEUZ, C. & WYSOCKI, P. 2016, "The Economics of Disclosure and Financial Reporting Regulation: Evidence and Suggestions for Future Research", Journal of Accounting Research, vol. 54, no. 2, pp. 525-n/a.
Pervan, I., Horak, H. & Vasilj, M. 2010, "FINANCIAL REPORTING REGULATION FOR THE LISTED COMPANIES: ANALYSIS FOR SELECTED EASTERN EUROPEAN TRANSITIONAL COUNTRIES IN THE PROCESS OF EU ENLARGEMENT", Ekonomska Misao i Praksa, vol. 19, no. 2, pp. 277.