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    Relevance vs. Reliability

    Relevance and reliability are considered to be the two fundamental characteristics of accounting information according to the conceptual framework of accounting. That is, in order for accounting information to be useful to the primary users of the financial statements, we say that it must have both of these attributes: relevance and reliability. 

    Relevance: Relevant financial information is information that is capable in making a difference in the decisions made by investors, lenders and other creditors.1 To be relevant, information must had a predictive value (can predict future outcomes) and must have a confirmatory value (it provides feedback.1 Materiality plays an important role in determining relevance. 

    Reliability: "To be reliable, information about an item must be representationally faithful, verifiable, and neutral, [and] reliability may affect the timing of recognition [when] the first available information about an event ... is sometimes too uncertain to be recognized".2 In FASB Concept Statement No. 8 (which replaced Concept Statements 1 and 2), reliability is replaced by "faithful representation." Faithful representation is described as information that is complete, neutral and free from error.3 Conservatism plays a role in faithful representation. 

    We typically view relevance and reliability as two competing attributes in a piece of information. That is, in order to make a piece of information more reliable, a trade-off exists that often makes the information less relevant, and vica versa. This is a fundamental challenge in the accounting discipline. For example, under accrual accounting, when make a sale on credit we recognize this sale as revenue. This makes our revenue information more relevant, since it reflects sales we've actually made, but less reliable - since we don't have the cash in the bank, and the customer might default on their account.

    Items currently reported in the financial statements are measured by different attributes (for example, historical cost, current [replacement] cost, current market value, net realizable value, and present value of future cash flows), depending on the nature of the item and the relevance and reliability of the attribute measured.4 We might recognize changes to the value of an item on the financial statement, usually with the goal of improving either the relevance or reliability of the reported amount. 

    An interesting example of the trade-off between relevance and reliability presents itself in accounting for oil and gas reserves. Under reserve recognition accounting (RRA), these firm's recognize the present value of proven reserves in their net income when found (known as present value accounting). This technique is considered more relevant than historical cost information, since the firm's future earning power from operations is tied to the sale of proven reserves. However, because of fluctuations in proven new reserves, cost information, and price, the net income the firm must recognize today from proven oil and gas reserves (under this present value method) is both highly volatile, and typically dwarfs a firm's current earnings from operations. This makes the information from RRA less reliable.


    1. FASB CON8 QC6
    2. FASB CON5-20
    3. FASB CON8 QC12
    4. FASB CON5-3

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