What is Value Added Statement? | Financial Analysis and Reporting - B Com PDF Download

Meaning and Definition of Value Added Statements

In recent decades, the primary focus of financial accounting has shifted towards how we measure income, rather than whose income is measured. Traditional accountants often believed that profit belonged solely to proprietors, considering assets as owned by the proprietor and liabilities as their obligations. This proprietary notion was accepted and practiced as long as business operations remained relatively unchanged. However, the rise of corporate entities and the legal recognition of businesses as separate from their owners led to the rejection of the proprietary theory.

Nowadays, companies report value added in their financial statements through a Value Added Statement (VAS). The VAS supplements the existing corporate financial accounting and reporting systems by highlighting the value created and distributed among various interest groups, including employees, shareholders, capital promoters, and the government. This is significant from a national perspective, as it reflects how the wealth generated by an entity is shared among its stakeholders. According to the ICAI (1985), a Value Added Statement reveals the value added by an enterprise and its distribution among those who contributed to its generation.

The VAS is prepared to calculate the amount of value added and its distribution. Its primary purpose is to measure the wealth (i.e., value) that the entity has contributed to society through the collective efforts of various stakeholders. Although it is prepared and published voluntarily with annual financial reports, the presentation of a VAS aids in disclosing an enterprise's value added. In essence, the Value Added Statement shows the company's income as an entity and how that income is divided among those who contributed to its creation.

Assumptions in Value Added Statements

Here are the fundamental assumptions utilized in computing the income value added through the creation of value added statements:

• VAS is an additional report and not a replacement for the Profit & Loss account.
• The data utilized for the Value Added Statement is the same data recorded and processed by the traditional accounting system.
• The fundamental accounting concepts and principles are consistent in the preparation of Value Added Statements.

It is feasible to generate Value Added statements from conventional Profit & Loss accounts. However, there are significant differences between the two statements. For instance, income statements may include non-value-added items such as provisions, interests, non-trading profits and losses, etc.

Objectives of Value Added Statements

The objectives of creating Value Added Statements are:

• To demonstrate the value or wealth generated by a business, illustrating its capacity to create wealth.
• To exhibit how the generated wealth is distributed among employees, shareholders, and the government, providing a clear insight into the allocation of value added.
• To showcase the organization's contribution to the national income.
• To utilize it as a foundation for conducting inter-firm and intra-firm analyses, crafting financial plans and objectives, and establishing productivity-driven incentive programs.

Value Added Statements v/s Profit & Loss Account

The traditional Profit & Loss Account is based on the assumption that a company is established by its shareholders and operates for their benefit. However, this conventional accounting approach merely reflects the profits or losses generated by a business entity without shedding light on how much wealth the entity has created during a specific period. In contrast, the emergent concept of value added accounting seeks to enhance the conventional financial reporting system by disclosing additional insights into the wealth produced by an entity within a given timeframe and how this wealth is distributed among contributors to its creation.

• The Value Added Statement portrays the company as a corporate entity where both capital providers and laborers collaborate to generate wealth, which is subsequently shared among various stakeholders, including employees, government, and capital providers. This statement views the company as a wealth-generating entity comprising multiple groups, such as shareholders.
• It illustrates the wealth accrued by employees, government entities, capital providers, and the business itself over a specific period and elucidates how the generated value is apportioned among these stakeholders. Additionally, it highlights the company's contribution to the national income.

Advantages of Value Added Statements

• Reporting on Value Added (VA) enhances employees' perception of their organizations. This stems from the broader perspective on the company's goals and obligations that the VA statement provides.
• Implementing a productivity-linked bonus program based on VA becomes more streamlined with the VA statement. Employees can receive bonuses tied to metrics like VA/payroll ratio.
• Utilizing VA ratios (e.g., VA/Payroll, taxation/VA, VA/sales) serves as valuable tools for diagnosis and prediction. Analyzing trends in VA ratios, comparing them with other firms or international standards, offers significant insights.
• Value Added (VA) offers a robust indicator of a company's significance and magnitude. Relying solely on sales or capital employed figures for company rankings can lead to distortions. For instance, sales might be inflated due to substantial purchased expenses, or a capital-intensive company with few employees might erroneously appear more significant than a labor-intensive one.
• The VA statement establishes a direct link between a company's financial records and national income. By showcasing a company's VA, it highlights the firm's contribution to the national income.
• Ultimately, the VA statement aligns with fundamental accounting principles accepted in balance sheets and income statements. Concepts such as going concern, matching, consistency, and substance over form are equally applicable to the VA statement.

Criticisms and Limitations of Value Added Statements

The concept of Value Added (VA) statements, which illustrate how VA is distributed among various interest groups such as employees, government, and shareholders, faces criticism. Critics argue that while these statements show how VA is allocated, the risk associated with the company is primarily borne by shareholders. Employees, the government, and external financiers are concerned only with their share of the VA, leaving shareholders to bear the full brunt of any financial troubles the company encounters. Consequently, some academics question the validity of showing VA as benefiting multiple interest groups. They suggest that since shareholders are the ultimate risk takers, the residual profit, after fulfilling the obligations of external groups, should be the only VA shown as accruing to them. However, these academics also acknowledge that from an overall perspective, VA statements could serve as supplementary financial information. Nonetheless, they argue that VA statements cannot replace traditional income statements, such as the profit and loss account.

Another contemporary criticism of VA statements is their lack of standardization. This non-standardization issue, however, can be resolved by establishing an accounting standard for VA. Thus, this criticism is seen as a temporary issue.

Despite their advantages, VA statements have several limitations:

• The preparation and presentation of VA statements may lead to information overload and confusion, particularly for ordinary employees who might struggle to reconcile the VA statement with the earnings statement.
• There is a risk that management might focus on maximizing VA, potentially leading to a misalignment of goals by prioritizing the firm's value over other important objectives.
• Including VA statements in corporate annual reports could involve additional work, resulting in extra costs, delays, and a slight loss of confidentiality due to increased disclosure.
• The most significant limitation of VA statements is the lack of uniformity and consistency across different companies in their preparation and presentation. VA statements are often not standardized.
• The various methods of calculating VA make inter-firm comparisons challenging. Even intra-firm comparisons can be difficult if the treatment of items changes from year to year.
• VA statements can cause confusion, especially in cases where VA increases while earnings decrease.

Despite these limitations, VA statements are considered to shift the emphasis rather than change the content of traditional financial statements, making them a valuable means of social disclosure.