I will give a very simple example: suppose Netflix makes a deal where instead of you paying for a year’s subscription at a time, you can get a big discount if you pay for 2 years’ subscription.
Subscribers love the deal and pay for it….
….and then Netflix says their sales doubled in their financial reports. That’s IF they followed cash-based accounting, which records cash flows.
But they don’t, because accounting standards boards (outside the government sphere) know that this is just a trick to boost how financials look under cash accounting. And there are loads of these tricks. I just gave one simple example. The trick of getting people to pre-pay for sales to boost the numbers is a well-known ploy on the revenue side. A well-known ploy on the expenses side is to put off paying bills.
This is obviously distorting recognizing the true economic arrangement underlying these transactions, and some of the tricks make for a more fragile economic position for specific businesses. It was always the marginal businesses, which were barely hanging on, where cash-basis accounting tempts into trickery, which usually ends in financial failure. So accounting standards have developed to prevent this stuff.
Author(s): Mary Pat Campbell
Publication Date: 22 April 2021
Publication Site: STUMP at Substack