Question

Statement of Financial Accounting Concepts No.5 identifies four characteristics that an item must have before it is recognized in the financial statements. What are these four characteristics?

Short answer

Four characteristics that an item must possess in order to be recognized in the financial statements include:

• Understandability
• Relevance
• Reliability
• Comparability

Step-by-step solution

Meaning of Financial Statements

Financial statements are annual statements that disclose the financial performance and business activities of a firm. These statements are regarded as a means for decision-making by the management as well as outsiders like investors and shareholders, government authorities as well as creditors and financiers.

Four characteristics of financial statements

Four characteristics are essential for an item to be recognized in the financial statements. They are:

• Understandability: The information must be presented in such a way that it is easily understandable by the users of the financial statements. The additional information should also be provided as a supporting footnote so as to help in clarification.

• Relevance: The information provided must be suitable to the needs of the users so that it influences their decisions. This may include reporting appropriate information or information whose misstatement could affect the economic decisions of users.

• Reliability: The information must be reliable in nature, which means it must be free from error and should not mislead the users.

• Comparability: The information must be comparable in nature, which means it can be used to compare with the financial information presented in previous or future accounting periods, so as to enable the users in assessing the performance and financial position of the business.