Introduction
The primary goal of financial reporting is the provision of financial statements to the relevant uses for the purpose of making credit and informed investment decisions. As such, the reporting of financial information is a significant element in enhancing the transparency and accountability of organizations (Sikka 868). For this reason, such information ought to be accurate as far as the presentation of the financial position of any given organization is concerned. This is attributed to the fact that investors and creditors use such information to assess the potential of any organization in paying its creditors as well as determining its productivity potential (Hutton 67).
In spite of this, there have been a number of cases where companies fail to provide the correct information about their financial position. As such, concerns have been raised recently regarding the need to have effective corporate reporting regulation as a measure to counter financial fraud (Arnold 806). This has been instigated by the fact that numerous cases of accounting scandals and fraud such as the case of US’s WorldCom, and the Enron have been reported in the past. In addition, the financial crisis in India that was experienced in 1997 was attributable to poor corporate financial regulations.
The review of the scandals that happened in the past indicates that they all occurred as a result of the misrepresentation of the affected company’s financial information for selfish gains (Cumming and Walz 727). For this reason, there is a need to have better platforms aimed at improving the financial regulation standards within all sectors for the purpose of ensuring that such financial scandals do not occur in the future (Hutton 67). Despite the realization of the significance of financial reporting and effective regulation, a number of studies have indicated that there is a lot to be done since the majority of organizations are yet to embrace effective financial reporting practices. This research focuses on the current financial reporting issues in the society as well as examines the concept of partial disclosure of financial reporting to establish whether or not there it has any impacts on the investors.
Research Questions
All companies are required to often ensure that they adhere to the requirement of effective financial reporting. In spite of this, there have been numerous cases of financial scandals witnessed in the society. As such, it is important to examine the current financial issues as well as their impacts as far as investors and organizations’ future are concerned. For this reason, this research seeks to answer the following research questions:
- What are the current financial reporting issues in the society?
- How does the partial disclosure of financial reporting impact the investors
Motivation
Over the past decades, cases of collapse in large corporate organizations have been reported, which according to a number of scholars and economists can be attributed to the fact that there is a lot of laxity within the current regulatory framework of financial reporting (Hutton 67). There are arguments that stringent measures have been adopted to ensure the regulation of organizations’ financial reporting practices. In spite of this, considering the past financial scandals, the credibility of the current financial reporting regulations becomes questionable. Several studies have been carried out to examine the concept of financial reporting in organizations and its link to the occurrence of financial scandals and crisis (Cumming and Walz 727; Leuz 229).
For example, Leuz found out that regulatory interventions influence the occurrence of financial crisis as well as other accounting related scandals (229). Such findings align with the review that followed the consolidation of the financial regulations in the United Kingdom after experiencing a number of financial reporting frauds in 1990s. Similarly, in the United States, the Sarbanes Oxley Act of 2002 was introduced following an increase in the number of accounting scandals including the case of Enron.
Nowadays, a lot of pressure has been put on the need to have better standards as far as the financial accounting and financial reporting are concerned. In spite of this, concerns have been raised over current financial issues within the society as well as the impacts of partial disclosure reporting on investors’ decisions (Cumming and Walz 727). Therefore, the subjects of financial reporting and partial disclosure reporting are worth investigating.
Hypothesis
- It is more likely that there are numerous current financial reporting issues in the society.
- The concept of partial disclosure of financial reporting has adverse impacts on the decisions of investors.
Literature Review
The rapid change in the competitive business environment has led to numerous financial reporting issues. A number of studies have been carried out regarding the regulation of financial reporting. For example, there are concerns that the standardization of financial reporting regulation can be instrumental in the reduction of some of the negative financial issues in the market (Leuz 230). This is attributed to the fact that such an approach would lead to the spread of expert knowledge for the purpose of rising awareness of the need to ensure consistency, transparency, and accountability in organizations’ financial reporting. If the necessary standardization strategies are adopted, it would be easy for auditors to offer justification regarding any financial decisions as well as actions a given organization adopts (Cumming and Walz 727). Nevertheless, there are a number of issues related to financial reporting and regulation that tend to have significant impact on the decisions of investors and organizations.
Partial financial disclosure and investment efficiency
Empirical evidence indicates that there is a strong relationship between the efficiency of investment and the availability of high-quality financial information (Cumming and Walz 727). This assertion is based on the fact that accounting information of any organization as well as its competitors is important as far as the investors and managers are concerned since it helps them in decision-making especially in the differentiation between good and bad investments. For this reason, investors are in a position to allocate capital more accurately to investment opportunities that have the highest value (Leuz 229). Moreover, such information helps investors and managers to carry out estimation risk for the purpose of ensuring reduced cost of capital.
Secondly, financial information plays a significant role in controlling the operations of corporates. This is based on the fact that financial reporting should meet various standards to ensure that resources are used in projects that are worth. This is always done as a means to ensure that do not expropriate the investors’ wealth.
Lastly, the availability of timely disclosure of financial information of high quality ensures that the risk of loss of investors’ capital is reduced significantly due to the fact that the investors make decisions based on the correct financial position of the concerned company (Epstein and Jermakowicz 34). Such an approach ensures that an organization attracts more funds from the capital markets, thereby, lowering the liquidity and risk of any investment. In turn, such a scenario leads to leads to improvement in the operating decisions of any given organization. This implies that investors are interested in the quality of a company’s disclosure.
Financial reporting regulations have changed the manner in which companies provided their disclosures (Leuz 230). Nowadays, firms are govern by extensive network of regulations that compel them to disclose detailed information regarding the firms’ performance, compensation, management, funding, risks, operations, as well as assets. In spite of this, many organizations have practiced partial financial disclosure for a long (Epstein and Jermakowicz 34). While such practices are done for the purpose of concealing certain information for the benefit of the organization and perhaps its management, they may have detrimental impacts on investors as well as the future of the affected organization. This is based on the fact that the concealed information may have adverse impacts on the success of any investment that was based on the partial disclosures. For this reason, it is evident that particle disclosure of financial information has the potential of increasing transaction costs as well as hindering long-run economic growth.
Expansion of auditor reporting and disclosure
There have been concerns to expand the reporting and disclosure of auditors. Such concerns are attributed to the need for reliable auditing reports. According to the proponents of this approach, users of financial statements require informative data regarding any given company’s financial position and productivity (Cumming and Walz 727). One significant approach to this problem to increase the volume of information in audit reports, as well as change a few areas as far as the responsibilities and roles of auditors are concerned. According to the current practices, audit reports only contain few paragraphs about the financial position of a given organization (Leuz 229). For this reason, it is considered that such reports provide little information that it is required by the users of financial information, which makes effective decision-making based on such information challenging.
The rationale for the expansion of audit reports is that such an approach could ensure that other aspects of an organization are addressed comprehensively. Some of the aspects that could be covered in expanded audit report include the relative conservatism of an organization’s management as well as any limits used during the auditing process (Leuz 229). The proposal to adopt the expanded auditing strategy has led to numerous debates. It is expected that increasing the disclosure information would have significant impacts in the scope as well as the amount of information that organizations present to various users (Epstein and Jermakowicz 34). The increase in the volume of information available in audit reports is expected to bring about high level of transparency as well as relevance of audit reports to users of financial information. In addition, such approach is aimed at enhancing the value of the auditing process. In spite of this, little evidence exists on the impacts that such changes would have on different parties.
Empirical evidence indicates that providing important information to accounting information users plays a significant role as far as their decisions are concerned. Moreover, such information helps to reduce cost of litigation (Arnold 803). This assertion is based on the fact that it can be quite economical for organizations to have a background on which they can compare their financial reporting, and much more economical whereby firms can voluntarily provide disclosures if needed.
Concerns regarding the adoption of full disclosure
Calls to adopt the full disclose of accounting information increase with the occurrence of each accounting scandal. For the first time, issues of manipulative accounting were raised following the collapse of corporate organizations such as Tyco, Enron, and WorldCom. Such scenario led to numerous reforms as far as accounting and legislation practices were concerned (Leuz 229). The reason for such changes was to ensure that organizations are transparent in reporting their financial position. In spite of this, recent concerns question the significance of full disclosure in solving the existing problems associated with financial reporting.
In addition, a number of scholars have expressed concerns over the impacts of the adoption of full financial disclosure on the market (Arnold 803). This is attributed to the fact that the managers of an organization risk their jobs by fully disclosing the financial data of their organization, especially where losses are incurred. In most of the cases, managers conceal any losses incurred in an organization and use deceptive footnotes. Therefore, one of the significant expectations from full disclosure is doing away with the manipulative approaches that most organizations adopt to reporting the accurate information.
Transparency and volumes of disclosures
As noted, the role of financial reporting is to offer the necessary financial information about any given company to users of such data to help them in decision-making. In spite of this, users have been looking for more information about the performance of any given organization, its exposure to internal and external risks, as well as its strategic direction (Epstein and Jermakowicz 34). Such scenario has led to increased debates regarding whether or not th existing disclosure framework has been significant in meeting the goals of financial reporting including effective communication of the necessary material information as required by the users of financial statements, at the right time and effectively.
A review of the volume of disclosures over the recent years indicates a significant growth. This is attributed to the need among users of financial information to demand for more data about the performance and productivity of any given company (Leuz 229). in spite of this, there have been concerns regarding the availability of more information that is highly repetitive in audit reports such that it becomes quite difficult to ascertain which information is important for making either credit or investment decisions.
According to investors, making the right decisions regarding whether to make investment in a given company requires the right disclosure about its performance and general financial position. As such, users of financial information seem to be interested more on the effectiveness of the entire process as opposed to having large volumes of disclosure. The implication is that the disclosures ought to put more emphasis on the right information, as well as the primary principles of communicating such information appropriately, and the need to focus on the necessary information needed for decision-making.
Opportunities and Challenges
There have been alarms raised by organizations regarding challenges as well as opportunities in several areas as highlighted below. First, in the case of business disclosures, managers have expressed concerns that their disclosures have improved over the recent years necessitating the addition of new information about such developments (Arnold 803). The implication is that it is important for organizations to review their performance over time for the purpose of deleting redundant as well as obsolete disclosure. Such an approach gives them the platform to update users of its financial information about its present position financially.
Secondly, organizations can ensure improvement in their disclosures regarding the critical accounting estimates through the provision of better insights into their variability as well as the uncertainties. In addition, carrying out a cross-reference of the significant accounting policy footnotes can reduce the repetitiveness of any financial disclosures.
Thirdly, organizations have always been faced with the challenge of streamlining risk factor disclosures. In most of the cases, challenges of streamline such disclosures are attributed to the availability of resistance from either external or internal legal counsel.
On the other hand, while stock compensation, financial instruments, loss contingency, and pensions are lengthy topics, it is important to ensure that all necessary disclosure requirements involving these aspects are met. This can be done through challenging as well as eliminating the non-material disclosures.
There are a number of factors that affect the efficiency of companies’ disclosure. For example, in most of the cases, companies provide “defensive disclosures” which overloads the legal reports but does not communicate the required information. This is attributed to increased litigation threats. As such, organizations provide compliance-driven disclosures due to legal pressures and such disclosures may eventually fail to help the final users.
Secondly, elimination of immaterial disclosures is a challenge that affects many organizations nowadays as far as financial reporting is concerned. This assertion is based on the need for organizations to have strong documentation regarding their judgment about the immaterial disclosures. As such, concerns have been raised that it is costly to eliminate immaterial disclosures.
Lastly, although companies should be consistent and transparent in their financial reporting, the threat of competitive harm remains to be a big hindrance to transparent disclosures. As such, there is always the need to balance organizations’ goals as far as their position in the market is concerned.
In spite of the challenges of improving organizations’ disclosures, there are associated benefits as well (Arnold 803; Leuz 229). For example, improved disclosures ensure reduction in the coast of capital, as well as improvement of the performance of an organization’s stock. In addition, such disclosures are necessary for strong coordination within an organization, as well as the availability of better communication between companies and their investors. As such, it is important for financial analysts to ensure the development of the right impressions concerning management teams as well as the companies in general for a chance to understand their specific attitude towards disclosure. Such an approach makes it possible for the analysts to identify the possibility of transparent reporting in an organization.
Data/Design
A study design refers to the plan of action that a researcher follows in the investigation of a given study phenomenon. In the case of this research, the primary objective is to establish whether or not there are any current financial reporting issues in the society, as well as to examine the concept of partial disclosure of financial reporting for the purpose of establish its impacts on investors. According to the scope of the study, secondary sources of data are better placed to provide the necessary information about the phenomenon under investigation. For this reason, the required information will obtained through a review of past studies on this subject. The implication is that the research relies extensively on findings from studies that have been carried out to examine the impacts of partial disclosure reporting and the current financial reporting issues in the society. Therefore, electronic databases are used in the investigation of this subject.
On the other hand, three companies are studied to provide more insight about the subject. The use of the three companies in this case, is aimed at examining how the partial disclosure of financial reporting affects the investors. As such, the financial statements of stock prices as well as other information about the three companies is examined for the chance to identify which of the companies an investor would be interested.
The companies used in this include, Samsung, Apple Inc., and Nokia. The random sampling technique was used to identify the companies to examine. The choice to use this approach was informed by the fact that it avoids human bias as well as the classification of errors. In addition, the three companies are key competitors of one another. On the other hand, Samsung, Apple Inc., and Nokia are within the same industry, which makes it easy to carry out a comparative analysis of their performance over a given period. The analysis of their financial information is based on the years between 2008 and 2012. To determine which company would interest investors, a comparative analysis of the key financial ratios of these companies is carried out.
The table below provides the financial analysis of Samsung Electronics, Apple Inc., and Nokia for 2014.
Table 1: Financial analysis of Samsung Electronics, Apple Inc., and Nokia for 2014.
According to the data on the table above, the gross margin profit for Nokia in 2014 is higher than in the case of Samsung and Apple. However, the operating margin of Apple is higher than the rest of the companies. The review of the asset turnover of the three companies indicates that Samsung Electronics has a higher asset turnover (0.93) compared to Apple (0.83) and Nokia (0.55). On the other hand, Apple has a higher return on assets (18.01) than Samsung (10.39) and Nokia (14.97). Lastly, the return on invested capital is high in the case of Nokia (30.42) followed by Apple (26.20) and Samsung (13.41), while the ROE for Samsung, Apple and Nokia is 15.07, 33.61, and 45.92 respectively.
Based on the analysis above, it is evident that Nokia has a large gross margin, Net margin, and high ROE and ROI compared to Samsung and Apple. Often, investors are interested in companies where there is a potential for better generation of returns based on invested capital. A high ROE is indicative of a company’s ability to effectively use funds from investors. As such, investors would be more likely to choose Nokia based on the three companies’ 2014 ROE.
Apple Inc.
Table 2: Financial analysis of Apple, 2010-2014.
Nokia Corporation
Table 3: Financial ratios of Nokia, 2010-2014.
Table 4: Financial ratios of Samsung Electronics, 2010-2014.
Conclusion
According to the literature review, it was evident that financial reporting is significant as far as decision-making among investors and organizations’ managers is concerned. As such, investors prefer full financial disclosure for them to make informed decisions. Lack of such disclosures has adverse impacts on investors in that they tend to make the right decisions based on wrong information, which eventually leads to losses.
This study had a number of limitations. For example, there was a lot of overreliance on findings from previous studies. The implication is that any errors and assumptions from such findings are carried forward to the present study. Secondly, the focus on the analysis of the financial ratios of the selected companies was based on five years, which might not have been enough time to judge the performance of any of the selected companies given that different organizations have diverse operational strategies. Therefore, future studies should put a lot of emphasis on the collection of primary data since such an approach would limit the chances of replicating errors and assumptions from past studies. In addition, the years considered for the analysis should be increased from 5 to 10 to ensure that all the performance aspects of the examined companies are considered.
Works Cited
Arnold, Patricia. “Global financial crisis: The Challenge to Accounting Research.” Accounting, Organizations and Society, vol. 34, no. 6, 2009, pp. 803- 809.
Cumming, Douglas, and Uwe Walz. “Private Equity Returns and Disclosure around the World.” journal of international business studies, vol. 41, no. 4, 2010, pp. 727- 754.
Epstein, Barry and Eva Jermakowicz. Wiley IFRS 2008: Interpretation and Application of International Accounting and Financial Reporting Standards 2008. John Wiley & Sons, 2008.
Hutton, Amy. “Opaque Financial Reports, R 2, and Crash Risk.” Journal of financial Economics, vol. 94, no. 1, 2009, pp. 67-86.
Leuz, Christian. “Different Approaches To Corporate Reporting Regulation: How Jurisdictions Differ and Why.” Accounting and business research, vol. 40, no. 3, 2010, pp. 229-256.
Sikka, Prem. “Financial Crisis and the Silence of the Auditors.” Accounting, Organizations and Society, vol. 34, no. 6, 2009, pp. 868-873.