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Off-Balance Sheet Financing

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Off-balance sheet financing is potentially a serious problem as a tool to misstate financial statements. Furthermore, the problem is not likely to be easily resolved with deteriorated ethics in the US corporate world. (Remember balance sheet management and off balance sheet financing are not inherently bad management tools).

Given the current state of affairs, what do you think can be done to manage the potential risk to the financial statement users of off-balance-sheet financing being employed to misrepresent a company's financial position?

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Solution Summary

This posting gives you a step-by-step explanation of off-balance sheet financing. The response also contains the sources used.

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Step 1
Given the current state of affairs, users of financial statements cannot entirely eliminate the potential risk off-balance sheet financing being employed to misrepresent a company's financial position. However, by carefully studying the financial statements of the company the investor or other users of the financial statements can estimate the level of off-balance sheet financing being employed by a company.

Step 2
One approach that users of financial statements can take is to examine the footnotes of financial statements. Usually, the existence of large non-cancelable operating leases indicates the existence of ...

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