The financial performance of a company reflects the health of that organisation. Many factors depend on the balance sheet of a company. The amount of investment, the value of shares, the credibility in the market, the longevity of the company and the credit score etc. get decided by the financial results.

Suppose company X is doing pretty well. Investors will find the company ideal to invest in and the company can also plan for future expansion seeing the market response in every aspect. But if X starts losing profit or X does not even want to make profit due to some veiled reasons, then there is only one thing that could help in covering up the real situation of the company and that is Creative Accounting.

Why is it done?

While preparing the company balance sheet, the accounts department has to follow certain rules and provide information to comply with the government regulations. ‘Creative accounting’ refers to such accounting practices that stay within the written norms and rules but exploits the loopholes of those regulations to achieve false standards. It is the use of accounting tools to offer a false yet good image of the company. Creative accounting is not an illegal practice but many companies use its norms to hide facts.

Let me simplify. As we grow old, our skin tends to wrinkle. It is the established way of nature. But people go to parlours and beauty salons to hide the over powering age. It is not unethical but it is like hiding what it actually is. And running a parlour is a demand of the society thus it is legal too. Creative accounting is like having a facial of the balance sheet. It can be used for various reasons which are not always devious in nature.

How does it benefit the organization?

In countries where accounting laws are very stringent, the companies accommodate their accounts with innovative rules to meet the standards provided by the laws. Such policies help in matching the reported income with the predicted profit in a fiscal year. The company reaps the benefit of such creative accounting when the products and services are sold and the profit amount is deferred from the reported fiscal accounting statement. A company can use the same in case of an expected bad and big loss. To keep the company sailing, it hides the losses to bring in more investment for the betterment of the company in future.

The earning management aspect of creative accounting, analysts believe, is a deciding factor behind the assessment of a company within the market. It helps in diminishing the risk factors as well as ensures the company securities. Creative accounting is used to mend such situations when account departments expect a capital market transaction of great value or they see a gap between the expectation and the actual presentation of a company.

Every company wants a growing economic flowchart to present and for that a steady growth is the primary requirement. No company wants to show the ups and downs in graph and in such cases, creative accounting is used with the good intention of portraying a healthy picture of the company.

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