Question

You meet your senior, who graduated a year ago, for lunch. Your senior mentions that managerial accounting is not regulated, unlike financial accounting, which is heavily regulated. The income statement, for example, is based on stringent financial accounting standards. Despite this, the income statement does not really measure the performance of a firm, and therefore is of limited use in assessing a firm’s future prospects. She also opines that the managerial accounting output is more useful to financial analysts. Your senior asks for your views on this matter.

Required:

1. Do you agree with your senior’s stance that the statement of financial performance (income statement) is of limited use to financial analysts? You may agree or disagree with this view. You must justify your stance. You must cover at least two weaknesses of the income statement in your answer and indicate whether, in your opinion, these limit the usefulness of the statement for various users.

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2. Do you agree with your senior’s opinion that managerial accounting output is more useful for analysts? Note whether the reliance on managerial accounting could pose any problems for analysts.

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(5 + 5 = 10 marks)

Answer 1

a) To an extent , I agree with the senior's stance that income statement is of limited use to the financial analysts .

Weaknesses

Income statement just mentions the figure of various incomes and expenditure but that does not correctly shows the financial health of the organisation. The profit figure does not actually mean that the organisation has sufficient funds. Also the figures stated in the financial statements are historical figures and assumptions and biasness are a part of it.

The second thing is that the income statement enlists a number of items which may not be of any use to the analysts. It is very time consuming to study the whole of the statement and then separate the important points and then draw conclusions out of it .

Managerial accounting is quite uselful in the sense that it revelas the solvency position of the organisation, the interest payment capacity, the growth prospects of the organisation, the efficiency with which it works and helps in taking a number of decisions regarding investment, operations, raising funds, redemption of funds. But complete reliance on the managerial accounts can be harmful as the input for the managerial accounts is taken from the income statement and to check the accuracy of the managerial accounts , we need to have knowledge of the income statement also. Otherwise we can be fooled .