Creative Accounting Practices
Creative accounting, also known as aggressive accounting, is a method of accounting used by corporations and individuals to inflate a company or individual’s net worth or financial gain. It has been used for many years, and has recently been garnering attention as some of its users have seen criminal charges from using it. Creative accounting can be considered unethical, but is still widely used by major corporations and individuals alike.
Creative accounting practices can involve restructuring a company’s debt and using other techniques to manipulate the financial records. This is usually done to give a picture of higher profits and stronger performance than what is actually the case. Some creative accounting techniques that are used include: accounting for revenues at an earlier date (often known as revenue acceleration), classifying expenses as investments, and inflating revenues. Creative accounting is not illegal, but it can be in some jurisdictions.
One example of a creative accounting practice is the use of revenue acceleration. This includes deferring revenue to the current year instead of the year it was actually earned. This allows a company to show higher earnings and bolster their income statements, even though their actual performance may indicate an opposite trend.
Many companies use creative accounting practices to inflate their reported expenses and profits. This includes classifying expenses as investments to make them appear more favorable. This can be done by assigning high values to non-cash assets such as long-term assets or goodwill. It can also involve reclassifying expenses such as research and development into regular expenses, or misclassifying assets such as inventory or accounts receivable into assets for immediate liquidation.
In addition, creative accounting practices may also be used to create “cookie jar” reserves. This involves creating unspent reserves of money that can be used to offset any losses that may occur in later periods. This reserve can be used to increase reported profits when times are good, and dip into when times are bad.
Another form of creative accounting is known as “earnings management”. This involves either delaying or accelerating expenses and revenues. This is done to make sure that a company will appear to be profitable, even when it is not. Delaying expenses and accelerating revenues is an easy way to increase a company’s reported income, and is a popular but illegal form of earnings management.
Creative accounting is used by corporations and individuals alike. This practice has become increasingly popular, as some of its uses have led to charges of wrongdoing from the Securities and Exchange Commission, as well as criminal charges from other countries. While creative accounting is not illegal, it can be seen as unethical, and should be avoided if possible. That being said, it is important to know how to identify it when you see it, as it can be an important indicator of financial trouble. If you see it happening in the financial statements of a company you are researching, be sure to investigate further.
