What is the Full Disclosure Principle?
Definition: The full discloser principle is an accounting assumption that a company’s financial statement disclose and reveal any important information to financial statement users that would affect their decision making process.
This term is ubiquitous in the accounting world. More often than not, the full disclosure principle is applied in financial statements, and a majority of entities use it when making important investment decisions. The principle demands that entities must disclose financial and non – financial information to all parties who are part of the business. They include investors, customers, lenders, and suppliers.
Full Disclosure Principle Purpose
The interpretation of full disclosure holds massive information. Hence it is highly judgmental. Its core business is to ensure that the stakeholders have all the relevant information regarding the operations of the business. It means accountants and financial managers are not holding back financial information considered to be of great importance to the business. Otherwise, non – disclosure would also express a possible influence on the financial statements.
Many companies set up targets, goals, and objectives at the beginning of their financial year and provide quarterly updates on the performance of the business. The information on the financial statements fosters transparency and open communication, and the employees who are also stakeholders share in the success of the company. Besides, everyone feels accountable while sharing in the profits gets everyone paddling in the same direction.
What Information is Disclosed?
The Securities and Exchange Commission (SEC) enforces the full disclosure of information. The information disclosed to the outside world varies, but it must adhere to the Generally Accepted Accounting Principles (GAAP).
It includes all the transactions, which have taken place within a specified period. Other times, it accommodates future events and or a company’s anticipations.
The following is some of the detailed information considered very vital, and which must be reflected in the financial statements:
- Accounting policies applied when preparing them
- Any form of non – monetary transactions
- All-inclusive information of materials in the case where there was a selloff of a company’s subsidiary to the spouse of a company director.
- Information regarding the change of accounting principles or systems
- Information on obligations of asset retirement.
- All financial statements, including inventory losses, contingent assets, liabilities, and legal measures.
- Any future expectations regarding changes in the VAT rates.
Full Disclosure Concept Example
Company B bought a business building 5years ago and is the legal owner. Last year, David fell and was severely injured while passing by the property. David sued the company accusing it of negligence and seeking compensation on the same. The case is still in court, even though David is likely to win.
David’s win of the lawsuit will go obviously through Company B in a status of losses because it shall incur unbudgeted finances. Hence, on its financial statements and in the implementation of the full disclosure concept, Company B should outline the losses emanating from the lawsuit even though it is not concluded yet.
Limitations of Financial Statements
Financial statements should be made in such a way that they are entirely reliable by the user. However, there are instances whereby this is not applicable due to the following drawbacks:
No Verification
In many cases, the financial statements are not verified. Hence the accounting practices used to prepare them cannot be ascertained.
Non-Financial Issues
Non-financial issues of a company’s operations, including environmental attentiveness or its relationship with the community, are not addressed. Excellent financial results do not necessarily imply that there was no failure in any area.
More often, the information on the financial statements is, mainly, for a specified period. It can have an incorrect view of the business, given that information may vary during different operating times. On the other hand, the value of assets and liabilities changes with time. Thus the information on the balance sheet could be incorrect.
Financial statements are subject to fraud. The accounting managers and their teams may twist or manipulate the results presented. It happens when there is pressure for excellent performance, but on the contrary, the results are not as expected.