Accounting conservatism simply is a set of bookkeeping guidelines that call for a superior degree of verification, before a firm can make a legal claim to profit. Fred Glynn mentions that in this system, the worst-case scenario of the financial future of a firm is taken into consideration, and uncertain liabilities are instantly recognized upon discovery. The principles of accounting conservatism go a long way in motivating a company management to execute better care when making decisions. Fred himself has worked in the domain of finance for several years, and hence is well-acquainted with the concept of accounting conservatism. He currently is a Hamilton County councilman and practices fiscal conservatism to make the most out of the community’s financial resources.
There are diverse types of accounting conventions that are followed today to make sure that companies precisely register their finances. Accounting conservatism is one such principle. Fred Glynn mentions that this principle requires accountants to be cautious and select solutions that delineate least favorably on the bottom line of the firm during any uncertain situation. It additionally provides guidance when any need for estimation takes place during uncertain times.
The system of accounting conservatism has several advantages, according to Fred Glynn. Here are some of them:
- While working under this accounting approach, one would find an asymmetric timeline of profits. Hence, any bad news that takes place in an organization in relation to its accounting shall be reflected on the profits faster than any good news. This invariably means that negative revenues shall fully reflect the whole profit during the period they represent. The positive earnings dividends would subsequently reflect a partial period, thereby creating a result that is closer to the movement of share prices.
- Using the conservative approach of accounting can make it easier for people to measure the cash flows that take place when there are asymmetric receivables involved in the calculation. As losses are assumed in this process, anything that is overdue when it comes to the receivables department is not counted as a potential profit. This helps in maintaining a highly realistic approach to the diverse cash flows that take place in an organization. It also provides people with the chance to plan for the worst, while also hoping for the best when it comes to dealing with liquidity.
- Whenever there is any economic uncertainty, the stakeholders of a firm will try to evaluate the chances of survival. The conservatism approach of financial accounting helps anyone to carefully understand the bare minimum possible outcome. In case the situation suggests a probable loss, then prompt steps can be taken to improve the condition. The evaluation of losses compared to guaranteed income significantly aids in creating a realistic plan for the future.
In addition to the risks mentioned above, it also is important to note that whenever people take a conservatism approach in financial accounting, they are able to obtain a better idea of what risks they are likely to be faced within the next evaluation period.