Introduction
Financial statements play a critical role in reflecting a company’s financial position and performance. However, corporate entities often make common mistakes in their preparation and presentation, which can lead to misinterpretation, compliance issues, or audit observations. This PPT highlights frequently observed errors to help improve accuracy and transparency in financial reporting.
Following are the Common mistakes frequently observed in Financial Statements for Corporate entities-:
>Misclassification of Capital and Revenue Expenditure
Provision– As per AS -10, Capital expenditures should be capitalized as part of asset cost; repairs and maintenance are to be charged to revenue.
Error– Misclassification of Capital and Revenue Expenditure
Impact– Misstatement of assets and profits; incorrect depreciation; distorted financial performance.
>Incorrect Depreciation Calculation
Provision– As per Schedule II of Companies Act, 2013– Depreciation should be based on useful life and method prescribed under Schedule II.
Error– Depreciation is often miscalculated using outdated methods or incorrect useful lives, ignoring the Schedule.
Impact– Incorrect depreciation affects both asset values and net profit.
>Revenue Recognition
Provision– Revenue must be recognized only when the significant risks and rewards of ownership are transferred, and there is reasonable certainty of realization.
Error– Companies sometimes recognize revenue before actual delivery of goods or completion of services.
Impact– Premature recognition overstates revenue and profit.
>Related Party Disclosures
Provision– All material related party transactions and relationships (subsidiaries, associates, directors, etc.) must be disclosed in financial statements.
Error– Many companies fail to disclose loans, guarantees, or transactions with related parties.
Impact– Lack of disclosure can conceal conflicts of interest and lead to regulatory non-compliance.
>Provisions, Contingent Liability and Contingent Assets
Provision– As per AS-29, Contingent liabilities (e.g., tax cases, legal disputes) must be disclosed unless the possibility of outflow is remote.
Error– Companies sometimes omit disclosure of significant contingent liabilities.
Impact– This leads to incomplete risk presentation.
>Disclosure of Accounting Policies
Provision– As per AS-1, Significant accounting policies must be clearly disclosed and applied consistently.
Error– Changes in methods (e.g., depreciation) or assumptions are made without disclosure.
Impact– This reduces transparency and comparability, and may mislead stakeholders.
>Net Profit or Loss, Prior Period Items and Changes in Accounting Policies
Provision– As per AS-5, Prior period items must be disclosed separately to show their nature and impact.
Error– Companies mix prior period expenses or incomes with current period results.
Impact– This distorts the true performance of the current period.
>Deferred Tax Assets (DTA) Created Without Future Profitability Assessment
Provision– As per AS-22, DTA should be recognized only to the extent there is reasonable certainty of future taxable profits.
Error– Companies often create DTA based on past losses, assuming future profits without concrete evidence.
Impact– It overstates assets and net worth, and if profits don’t materialize, it creates reversals and audit qualifications later.
>Incorrect Recognition of Government Grant
Provision– As per AS-12, requires government grants to be recognized when there is reasonable assurance that the company will comply with attached conditions and the grants will be received.
Error– Recognizing grants before conditions are met or not disclosing the nature of the grant.
Impact– Premature income recognition; increased risk or audit qualification.
>Provisions for Warranty or After Sales Service
Provision– As per AS-14, requires a provision for warranties or after-sales service costs based on historical trends.
Error– Not creating any provision where warranty liability exists.
Impact– Lack of transparency in profit changes and comparability issues
>Key Management Personnel (KMP) Disclosure
Provision– As per AS-18, requires disclosure of remuneration and transactions with KMP, including non-executive directors if they influence decisions.
Error– Not disclosing benefits or loans to non-executive KMP or their relatives.
Impact– Governance transparency compromised; risk of regulatory non-compliance.
>Asset Retirement Obligation (ARO) Not Provided
Provision– As per AS-10, requires disclosure of remuneration and transactions with KMP, including non-executive directors if they influence decisions.
Error– Companies ignore provisioning for such future obligations (e.g., warehouse restoration or plant site clearance).
Impact– Understated fixed assets and liabilities; potential hit in future when cash outflow arises.
>Employee Benefits
Provision– As per AS-15, Provision for gratuity and leave encashment should be made on actuarial basis, even if not funded.
Error– Non-provision or provision based on management estimate without actuarial valuation.
Impact– Understatement of liabilities and expenses; may result in a qualified audit opinion.
>Revenue from Loyalty Points / Coupons
Provision– As per AS-9, Revenue for future obligations (like loyalty programs) must be deferred and recognized on redemption.
Error– Recognizing full sale value as revenue without deferring part for reward obligation.
Impact– Inflated revenue and profit in the current period, possible reversal in future.
>Failure to Test for Impairment of Intangibles Assets
Provision– As per AS-26, Intangibles Assets must be tested annually for impairment.
Error– Skipping impairment test
Impact– Overstated assets
>Non-Preparation of Cash Flow Statement
Provision– As per AS-3, preparation of a Cash Flow Statement is mandatory for all companies (except small and dormant companies as per Companies Act, 2013)
Error– Non preparation of cash flow statement
Impact– Financials are incomplete, leading to audit qualification or limited assurance.
Conclusion
Financial reporting errors, even when unintentional, can significantly affect a company’s transparency, compliance, and credibility. The common mistakes highlighted from misclassification of expenditures to non-compliance with disclosure norms underscore the importance of adhering strictly to applicable Accounting Standards. By proactively addressing these issues, corporate entities can ensure accurate, reliable, and stakeholder-friendly financial statements that withstand audit scrutiny and support sound decision-making.
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