Reference no: EM131132986
Concepts of disclosure and materiality- Discuss this view point that the article below is about
I chose Berkshire Hathaway as my company on to which to review and report. The annual report for Berkshire Hathaway, a multi-billion dollar corporation, is famous for its introductory chairman's letter. The chairman, Warren Buffet, is known as the Oracle of Omaha and as one of the greatest corporate investors in history.
Following the chairman's letter, you will find the requisite annual report components of which the lion's share of information is contained in the consolidated financial statements and the independent auditors report. Assets, including cash, investments, receivables, inventory, property and other intangible assets are found here. The liabilities and shareholders' equity follow the assets in the report and include losses, unearned premiums, accounts payable, notes payable, common stock and retained earnings.
Retained earnings are the accumulated portion of net income that is not distributed to shareholders. Because the net income was not distributed to shareholders, shareholders equity is increased by the same amount. Berkshire Hathaway Inc's quarterly retained earnings increased from Sep. 2015 ($182,225 Mil) to Dec. 2015 ($187,703 Mil). A further review of the company's history indicates that the retained earnings have grown every year since 2006. Rate of growth of retained earnings is a good indicator that it's benefiting from a competitive advantage. The more earnings retained, the faster it grows and increases growth rate for future earnings.
The Berkshire Hathaway Owner's Manual as of 1983 actually discusses the use of retained earnings and offers the following:
We feel noble intentions should be checked periodically against results. We test the wisdom of retaining earnings by assessing whether retention, over time, delivers shareholders at least $1 of market value for each $1 retained. To date, this test has been met. We will continue to apply it on a five-year rolling basis. As our net worth grows, it is more difficult to use retained earnings wisely.
We continue to pass the test, but the challenges of doing so have grown more difficult. If we reach the point that we can't create extra value by retaining earnings, we will pay them out and let our shareholders deploy the funds.
There have been revisions to this statement since but the ultimate intent of the concept remains in place.
The materiality concept is the principle in accounting that trivial matters are to be disregarded, and all important matters are to be disclosed. Items that are large enough to matter are material items. Financial statement items are considered material (large enough to matter) if they could influence the economic decisions of users. The materiality concept is the universally accepted accounting principle that all material matters are to be disclosed.
Not being an accountant, it is hard to understand the fact that not all financial information must be accounted for and that "trivial" errors are acceptable. But, as a company such as Berkshire Hathaway grows in size, the accounting for the minutiae could be laborious and provide little to no value to the investor.
I searched the document for both nominal and temporary and was unable to identify any nominal or temporary accounts in the 2015 statement. Examples of nominal accounts are service revenue, sales revenue, wages expense, utilities expense, supplies expense, and interest expense. These may, or probably are, contained within other components of the financial report.
References:
Berkshire Hathaway Annual Report
https://www.berkshirehathaway.com/2015ar/2015ar.pdf
Berkshire Hathaway Retained Earnings
https://www.gurufocus.com/term/Retained+Earnings/BRK.B/Retained-Earnings/Berkshire-Hathaway-Inc
https://www.rationalwalk.com/?p=13422
Materiality
https://www.business-case-analysis.com/materiality-concept.html
Nominal Accounts
https://study.com/academy/lesson/real-accounts-vs-nominal-accounts-definition-differences-examples.html