Also, the use of fair market values is a big plus because it also follows the accounting principle of conservatism. Conservatism means that the investor or corporation must present financial accounting data that has the least effect on the shareholders’ equity portion of the financial statement, more specifically the balance sheet. Conservatism means that the people accomplishing the financial accounting data must recognize all estimated future losses but must not record estimated future gains.
In this light, the fair market values are a good example of the application of the conservatism principle. For, the fair market value is the agreed price that the seller and the seller of an asset that includes a derivative or two. Conservatism is applied here because the accountant or other accounting personnel generates accounting data recorded what has transpired which is the agreed selling and purchase price of the asset. Also, the financial statement is a plus if fair market values are used because it follows the accounting principle of adequate disclosure.
Implementing adequate disclosure means that the company or the person responsible for the financial statements must present all relevant, reliable as well as understandable information needed to make an informed decision. Simply, the preparers of the financial statements must present the accounting information with the end in mind that the financial data must not be misleading. This shows that presenting financial data with total disregard of the fair market values would definitely make the financial statements a bit misleading.
The use of the fair market values would produce a big plus in the preparation of the notes to the financial statements because the notes would be more realistic. Whereas, not using the fair market values would not be a plus. For, only a few investors would be interested in using a financial accounting data that is based on the estimates mathematically done in the head of the accountant or other persons working in the corporation with the responsibility of presenting financial accounting information.
The financial information is a plus if the company uses fair market values because it is in compliance with the accounting principle of consistency. Consistency can be defined as the application of the same accounting principle between two financial accounting periods or between two competing companies. Many of the companies would prefer to use the fair market values in generating financial data. It is easier to compare and contrast the financial statements of two different accounting periods if only one type of accounting method, procedure or standard is used.
On the other hand, not using the fair market values in the preparation of financial accounting data would have a high probability of violating the accounting principle of consistency between the financial accounting data between two competing companies for the other company. The other company would be using the fair market values whereas the other company would still be other non fair market value accounting methods such as presenting only the historical or estimated values of the assets. The financial information is a plus if the company uses fair market values because it is in compliance with the accounting principle of comparability.
Comparability can be defined as the company’s ability to bring together different sets of financial information for the purpose of noting their similarities and differences. Comparability includes comparing financial accounting data between different accounting periods or between the financial accounting data of two competing companies. It is also easier to compare and contrast the financial accounting data between two competing companies like coke and beer if both competitors use the same accounting procedure, standard or accounting principles.
The compare process is needed in to determine the difference between the two accounting periods in terms of sales, expenses, assets, liabilities, shareholders’ equity, gross profits as well as net profits. The contrast process is needed to differentiate what makes one accounting period excel as compared to another accounting period. This process of contrast applies also to determine where and why one company excels when contrasted with another competitor.