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The most frequent errors in financial statements

Ewelina MĄDRAWSKA
Accounting Assistant at RSM Poland

Although financial statements are prepared at least once a year, errors found in them result both from  negligence occurring at the time of their preparation, as well as misstatements at the stage of registration of economic events and accounting policies applied by a company. The essence of these errors may have a significant impact on the perception of information conveyed in the financial statements, as they are a kind of a showcase of a given company. Reliable financial statements build trust and confidence with shareholders and stockholders but also with all other external entities interested in the company’s condition. Given the extensive nature of the subject, I will present here only the most common irregularities with regard to the preparation of financial statements.

The analysis of balance sheet entries shows that the most common errors in financial statements include:

  • adoption of tax rates as actual depreciation rates, without taking into account the useful economic life and periodic review of the degree of wear and tear of assets;
  • Lack of analysis of signed lease agreements, that is whether they meet the conditions of financial leasing under Art. 3. par. 4 of the Accounting Act for undertakings whose financial statements are subject to mandatory auditing and which, under Art. 3. par. 6 of the abovementioned Act, are not entitled to benefit from the simplification enabling them to classify agreements in accordance with tax regulations, resulting in the obligation to include property, plant and equipment among fixed assets of the user (it is, thus, worth noting that a significant number of concluded financial lease agreements are, under Art. 4 par. 1, a premise to declare them among property, plant and equipment of the user, also in undertakings to which, according to the abovementioned regulations, such obligations are not applicable;
  • incorrect classification of property, plant and equipment intended for the needs of core business and investment activities (including appropriate division applied within a single item), resulting, apart from inaccurate presentation of data, also in the application of a wrong pricing model;
  • disregarding impairment losses on fixed assets in the event of their value losses, including property, plant and equipment which have failed to bring economic benefits, as well as assets due to deferred tax if it is expected that the company should incur tax loss or tax profit, yet not high enough to take advantage of these assets;
  • lack of analysis of the value of inventories as regards the net selling price recoverable on the balance sheet day and, in result, lack of appropriate impairment loss;
  • failing to disclose financial instruments acquired primarily to hedge future cash flows mostly from foreign currency transactions which are often a result of a poor flow of information between financial accounting and management staff. This, in turn, leads to the lack of recognition of the initial value of assets and financial liabilities already on the day of the conclusion of the agreement, but also its valuation at the turn of the year;
  • failing to estimate and establish provisions in accordance with the precautionary principle requiring provisioning for risk know to the undertaking, as well as the principle of matching revenue and expenses related to the expenses from a given period which have not yet been incurred, as in the case of, among others, provision for leaves - despite the fact that employees may use the outstanding leave for a given year until 30 September of the following calendar year, undertakings are obliged to determine the amount for these provisions;
  • omitting to calculate interest on financial liabilities.

These are only some of the misstatements that can be spotted in financial statements. Apart from issues related to inaccurate presentation of figures in the balance sheet as well as profit and loss accounts, one may often encounter various shortcomings in relation to the cash flow account which is an important starting point for the analysis of the degree of financial liquidity of an undertaking as well as cash flow in the company. There may be also errors in respect to the notes to the financial statements and the most common one is the lack of adequate disclosures, including those relating to economic events which, in the given period, do not relate to the account books, yet they may have a significant impact in the future.

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