Although accounting may be heralded as being the language of the business, it is definitely not error free. This has been highlighted by the fact that accounting scams have occurred one after the other for many years. In fact, even after stricter regulation and tightening of accounting rules, accounting scams just don’t cease to stop.
As a student and practitioner of accounting, it is therefore imperative to know the limitations of accounting. Knowledge of limitations helps to factor them in and work with them. Here are the major limitations of accounting.
Subjective Measurement Accountants have to attach a monetary value to every event or transaction that has taken place within the organization. Sometimes the monetary value of the transaction is impossible to be ascertained. Consider the case of depreciation. Accountants can at best provide estimates of the depreciation that should have taken place given the scale of operations. However, these estimates are usually way off the mark. This makes accounting policies open to debate as well as manipulation.
Qualitative Factors Accountants try to attach a monetary value to everything. The things they cannot attach a monetary value to are not accounted for! Consider the case of goodwill. Until the organization has explicitly paid for the goodwill it purchased from another company, it cannot account for goodwill. According to accountants, the goodwill generated by the firm internally is worthless. We all know that this is not the case and therefore accounting is flawed as far as goodwill is concerned.
Unstable Unit of Account Accountants have to measure all transactions in a single unit of account. This unit of account is usually the currency that is being used in a particular country. However, it is common knowledge that the value of currencies is not stable. Inflation, deflation and such other forces make currency values dynamic. When accountants express assets purchased in last year’s rupees with the same unit as purchased by this year’s rupees, it presents a distorted image. Many companies have low book values because their assets were purchased a long time back during periods of no inflation.
No Information about Opportunity Cost Accountants provide information about what has happened. However, management would be better off if they had information about what could have happened if they used their resources in the optimum manner. This feature is also lacking in accountancy making its usefulness limited from the managerial point of view.
Despite its limitations, the importance of accounting is unquestionable. It is difficult to imagine running a firm without accounting.