Firstof all, the conservative concept is designed to counteract the optimism of somemanagers.
Its use prevents an overstatement of performance and financialposition (Atrill and McLaney, 2016). Forinstance, to counter the loss of income from debts, an allowance for bad debtsis established. This adjusts the accounts receivable to the amount expected tobe returned, thus preventing the overestimation of current assets. Basu (1997) interpretedconservatism as resulting in earnings reflecting ‘bad news’ more quickly than’good news’ – suggesting that greater emphasis is put on loses that earnings. Despitethis, Barker and McGeachin’s (2015) research coupled with the literarydocumentation perspective provides strong evidence that the prudence concept isessential to making accounting based decisions: if IASB’s Conceptual Frameworkand the substantial requirements of IFRS would reconcile given the uncertainty ofreal life circumstances, such anagreement would re-locate accounting standards as central to the practice ofaccounting conservatism. In fact, a study conducted byHu, Li and Zhang (2014) has found that the conservative principle has apositive impact on the improvement of corporate information environment in 43 countries,confirming that the principle is to be noted as a valuable aspect of financial informationeven though the majority of critics believe that most Generally AcceptedAccounting Principles (GAAP) are outdated. In addition to the statements madepreviously, we can further argue that the prudence concept makes it possible tocompare financial information.
Not only does it serve to reinforce anotherprinciple, the faithful representation one but also amplifies the relevance ofthe financial statement and then evaluate a company’s position against itsrivals.