Explain the limitations of financial statements.


Kishore V, SME and ACW at Edumarz

Financial Statements are very useful to an organization but still, they suffer from the following limitations:

  • Historical Data: Financial Statements are prepared on the basis of historical cost. Since the purchasing power of money is changing, the values of assets and liabilities shown in the financial statements do not reflect the current market situation.
  • Assets may not realise: Accounting is done on the basis of certain conventions. Some of the assets may not realize the stated values, if the liquidation is forced on the company. Assets shown in the balance sheet reflect merely unexpired or unamortised costs.
  • Bias: Financial statements are the outcome of recorded facts, accounting concepts and conventions used and personal judgments, made in different situations by the accountants. Hence, bias may be observed in the results, and the financial position depicted in financial statements may not be realistic.
  • Aggregate Information: Financial statements show aggregate information but not detailed information. Hence, they may not help the users in decision-making much.
  • Vital Information Missing: The balance sheet does not disclose information relating to loss of markets, and cessation of agreements, which have a vital bearing on the enterprise.
  • No Qualitative Information: Financial statements contain only monetary information but not qualitative information like industrial relations, industrial climate, labour relations, quality of work, etc.
  • They are Only Interim Reports: Profit and loss account discloses the profit/loss for a specified period. It does not give an idea about the earning capacity over time similarly, the financial position reflected in the balance sheet is true at that point in time, and the likely change on a future date is not depicted.

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