Window dressing is presenting company accounts in a manner which enhances the financial position of the company. It is a form of creative accounting involving the manipulation of figures to flatter the financial position of the business.
It is also defined as: ‘A form of accounting, which while complying with all the regulations, nevertheless, gives a biased impression of the company’s performance.’ Though it is not illegal, it is considered by many financial pundits asunethical.
Reasons for Window Dressing:
•Enhance Liquidity position of the Co. – hiding a deteriorating liquidity position, and •Showcase stable Profitability of a company – massaging profit figures with methods such as income smoothing or profit smoothing
•Reduce Liability for Taxation
•Ward-off takeover bids
•Re-assure Lenders of Finance
•To influence share price
•Hide poor management decisions
•Satisfy the demand of major investors concerning the desired level of return •Achieve the sales or profit target, thereby ensuring that management bonuses are paid
Methods used for Window Dressing:
Income Smoothing: It redistributes income statement credits and charges among different time periods. The prime objective is to moderate income variability over theyears by shifting income from good years to bad years. An example is reducinga Discretionary Cost (e.g., advertising expense, research and development expense) in thecurrent year to improve current period earnings. In the next year, the discretionary costwill be increased.
Ambiguity in Capitalizing and Revenue expenditure – E.g. Computer software with useful life of 3 years. As revenue expenditure it is treated as negative item on P&Laccount. As capitalizing expenditure, it is treated as an asset in balance sheet, with yearlydepreciation in the P&L.
Changing depreciation policy - Increasing expected life of asset reduces depreciation provision in P&L account, hence, increasing net...