## **Learning Outcomes**

By the end of this article, you will be able to explain the ethical and professional obligations around financial reporting estimates, distinguish between bias, prudence, and neutrality, and understand their application in making and disclosing accounting judgements. You will be able to identify common pitfalls in preparing objective estimates and apply professional scepticism to avoid bias in financial statements.

## **ACCA Strategic Business Reporting (SBR) Syllabus**

For ACCA Strategic Business Reporting (SBR), you are required to understand the ethical and professional responsibilities of accountants regarding estimates and judgements in financial reporting. Focus your revision on these key syllabus points:

- The ethical and professional responsibility to avoid bias and ensure neutrality in preparing financial information
- The concept and role of prudence as a safeguard against bias in estimates and judgements
- The importance of neutral, unbiased estimates in providing useful information to users of financial statements
- The risks of management bias and how ethical judgement prevents manipulation of reported results
- The application of professional scepticism and objectivity in making and reviewing management’s accounting estimates

## **Test Your Knowledge**

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision._

1. Which fundamental qualitative characteristic is most compromised when management deliberately alters estimates to achieve a desired profit?  
   a) Relevance  
   b) Understandability  
   c) Neutrality  
   d) Timeliness

2. Define prudence and explain its purpose in financial reporting estimates under the Conceptual Framework.

3. True or false? Bias in accounting estimates can arise from both deliberate manipulation and unintentional optimism.

4. List two professional actions an accountant should take to reduce bias when preparing or reviewing accounting estimates.

## **Introduction**

Judgement is at the core of financial reporting. Many balances, such as provisions, impairment losses, and fair values, depend on subjective estimates by management. The ethical and professional responsibility of accountants is to ensure these estimates remain free from bias and reflect a fair, neutral view of the business’s performance and position.

The Conceptual Framework for Financial Reporting states that neutrality and prudence are essential for financial information to provide a faithful representation. However, ethical dilemmas can lead to deliberate or unconscious bias, especially if management faces pressures to meet targets or secure financing. This article guides you on avoiding bias, applying prudence properly, and maintaining neutrality in reporting—key knowledge for success in ACCA SBR.

## **Bias in Accounting Estimates**

Accounting estimates are inherently subjective. Despite this, users of financial statements rely on these estimates to present a reliable view. The presence of bias—intentional or unintentional—undermines the credibility and usefulness of reported information.

> **Key Term: Bias**  
> The tendency for accounting estimates or judgements to be influenced in a particular direction, leading to information that is not neutral.

Bias can emerge from:

- Incentives to meet profit targets (bonus plans, loan covenants, market listings)
- Pressure from management or external stakeholders
- Overly optimistic or pessimistic assumptions

Even unintentional bias, born from habitual optimism or groupthink, can distort estimates and impact decision-making by users.

## **Prudence: A Safeguard Against Bias**

Prudence is a guiding principle that instructs accountants to exercise caution when making judgements under conditions of uncertainty. However, prudence serves as a safeguard against bias, not as a justification for deliberate under- or overstatement.

> **Key Term: Prudence**  
> The exercise of caution when making estimates under uncertainty, ensuring that assets and income are not overstated, nor liabilities and expenses understated.

Prudence does **not** mean that accountants should systematically understate assets or overstate liabilities. Purposeful understatement or overstatement introduces bias and breaches ethical standards.

## **Neutrality and Faithful Representation**

Neutrality requires that information presented in financial statements is free from bias—neither overly optimistic nor pessimistic.

> **Key Term: Neutrality**  
> The absence of bias in accounting estimates and judgements, resulting in information that is balanced and fair for all users.

Neutrality is a core part of the qualitative characteristic of faithful representation. Financial information must accurately reflect the fundamental economic reality, not management’s preferred outcome.

> **Key Term: Faithful Representation**  
> The requirement that information depicts the substance of transactions and events completely, neutrally, and free from error.

## **Examining Practical Ethics in Reporting**

Ethical behaviour by accountants goes beyond mere compliance. The ACCA Code of Ethics and Conduct sets the expectation that professional accountants maintain objectivity and avoid bias in all financial reporting activities.

Common sources of ethical risk include:

- Pressure to meet internal or external earnings targets
- Requests to manipulate provisions, impairments, or fair values
- Personal incentives or conflicts of interest

Professional scepticism and strong documentation of judgements are essential in addressing these risks.

### **Worked Example 1.1**

A finance director faces pressure to improve the year-end profit and asks you to increase the estimated useful lives of equipment, thereby reducing depreciation expense. The original estimate suggests a 5-year useful life, backed by maintenance records and industry standards. The director wants to use 8 years without new evidence.

**Should you agree to the director’s proposal?**

> **Answer:** No. Increasing the asset’s estimated useful life without sufficient evidence would introduce bias and compromise neutrality. It would fail the requirement for prudent, neutral judgement and could breach ethical obligations. You should advise the director that estimates must be based on objective evidence, not on desired results.

### **Worked Example 1.2**

An accountant calculates an impairment provision using overly optimistic cash flow forecasts for a key customer, despite evidence of deteriorating payment history. What ethical requirements are being breached?

> **Answer:** By relying on unrealistic assumptions, the accountant introduces bias and neglects prudence and neutrality. This breaches the requirement for faithful representation. The correct approach is to use reasonable, supportable, and unbiased forecasts in the impairment calculation.

### **Exam Warning**

> In the exam, you may be presented with scenarios where management applies “prudence” as an excuse for systematically understating profits. Be clear: prudent estimation does **not** mean bias. Always explain why both optimism and pessimism in estimates can breach neutrality and result in misleading information.

## **Applying Professional Judgement and Scepticism**

Applying judgement ethically means:

- Using the best available evidence when making estimates
- Disclosing estimation uncertainty and methods transparently
- Challenging overly optimistic or pessimistic assumptions
- Documenting the rationale for key estimates

You should apply professional scepticism, question information, and require evidence for changes in assumptions.

> **Key Term: Professional Judgement**  
> The application of relevant knowledge and experience, within the ethical framework, to make reasoned decisions about accounting treatments when rules do not precisely dictate an answer.
>
> **Key Term: Professional Scepticism**  
> The mindset of questioning and critically assessing all evidence before reaching a conclusion, particularly regarding estimates and management representations.

### **Revision Tip**

> In SBR questions involving estimates, always discuss the risk of bias and refer to the need for prudence and neutrality. Demonstrating scepticism and objectivity can help secure professional marks.

## **Summary**

Accountants must guard against both deliberate and unconscious bias in every estimate. Prudence is required—not to understate but to ensure caution in the face of uncertainty. Estimates and judgements must be neutral to faithfully represent the entity’s financial position and performance. Professional scepticism, strong documentation, and adherence to the ACCA ethical code are critical in meeting your professional reporting responsibilities.

## **Key Point Checklist**

_This article has covered the following key knowledge points:_

- Define and identify bias in accounting estimates
- Explain prudence and how it is applied to estimates under uncertainty
- Understand the requirement for neutrality in financial statements
- Recognise the ethical risks and responsibilities when making judgements
- Apply professional scepticism and objectivity in preparing and reviewing accounting estimates

## **Key Terms and Concepts**

- Bias
- Prudence
- Neutrality
- Faithful Representation
- Professional Judgement
- Professional Scepticism

Ethics and professional judgement in reporting - Bias, prudence, and neutrality in estimates