What is Faithful Representation?

Faithful representation is the concept that financial statements be produced that accurately reflect the condition of a business. For example, if a company reports in its balance sheet that it had $1,200,000 of accounts receivable as of the end of June, then that amount should indeed have been present on that date. The faithful representation concept should extend to all parts of the financial statements, including the results of operations, financial position, and cash flows of the reporting entity. Financial statements that faithfully represent these aspects of a business should have the following three attributes:

Complete Presentation

All of the information that a user needs in order to form a clear picture of the results, financial position, and cash flows of a business are included in the financial statements. This also means that no information is omitted that might have led a user to have a different opinion of the business. For example, a business could report that it had a $500,000 loan as of the balance sheet date, but this would not be considered complete unless additional information about the loan were provided, such as its maturity date.

Error Free Presentation

The financial statements should contain no errors, so that the information contained within them presents a fair view of the organization. If there is a continuing series of "errors" that tend to bias the results of the financial statements in a certain direction, this may be considered a case of financial reporting fraud.

Unbiased Presentation

The financial statements represent the actual state of an organization, without trying to amplify its results unnecessarily or make them look worse than they really are. For example, biased financial statements could be used to give an overly optimistic view of a business in order to encourage a prospective buyer to pay a higher price for it. Conversely, financial statements could be made to look worse in order to reduce its related income tax liability.

Example of Faithful Representation

The Excalibur Shaving Company owns a machine that produces razor blades in high volume. It is a critical million-dollar machine that comprises a large part of the firm’s fixed assets. In order to show a complete presentation of its financial statements, Excalibur’s controller should include in the associated footnotes a description of the presumed useful life of the machine, as well as the depreciation method used. In addition, the controller should ensure an error-free presentation by verifying that the useful life of the machine is reasonable, and that the associated depreciation calculations are correct. Finally, the controller must ensure that the presentation of information about the machine is unbiased, which includes consideration of whether the machine is properly valued, and whether it is impaired in any way. These issues must be addressed to ensure that the business faithfully represents the impact of the machine on the company’s financial statements.