Understandability is one of the enhancing qualitative characteristics of useful financial information (FASB Concepts Statement No. 8, Chapter 3, paragraph QC19). Information is understandable when it has been classified, characterized and presented clearly and concisely (FASB Concepts Statement No. 8, Chapter 3, paragraph QC30). The characteristic assumes a reader, because financial reports are prepared for users who have a reasonable knowledge of business and economic activities and who review and analyze the information diligently (FASB Concepts Statement No. 8, Chapter 3, paragraph QC32). Enhancing puts it below relevance and faithful representation rather than beside them, so it improves information that is already useful and cannot rescue information that is not. Outside accounting the word is an ordinary English noun for how easily something can be grasped, and it carries no reporting sense there.
Understandability Never Justifies Leaving Something Out
The characteristic has a limit written into it. Some phenomena are inherently complex and cannot be made easy to understand, and excluding information about those phenomena from financial reports might make the information in those reports easier to understand, but those reports would be incomplete and therefore potentially misleading (FASB Concepts Statement No. 8, Chapter 3, paragraph QC31).
The Board explained why the characteristic was ranked where it was. If understandability considerations were fundamental, it might be appropriate to avoid reporting information about very complicated things even if the information is relevant and faithfully represented. Classifying understandability as an enhancing qualitative characteristic is intended to indicate that information that is difficult to understand should be presented and explained as clearly as possible (FASB Concepts Statement No. 8, Chapter 3, paragraph BC3.42).
The ceiling is stated directly as well. Enhancing qualitative characteristics should be maximized to the extent possible, but either individually or as a group they cannot make information useful if that information is irrelevant or not faithfully represented (FASB Concepts Statement No. 8, Chapter 3, paragraph QC33).
What the Assumed Reader Must Do
The framework puts a duty on the reader as well. Users are responsible for actually studying reported financial information with reasonable diligence rather than only being willing to do so, and they may need to seek the aid of advisers to understand economic phenomena that particularly are complex (FASB Concepts Statement No. 8, Chapter 3, paragraph BC3.43). Who those users are, existing and potential investors, lenders and other creditors, is settled in financial accounting and in stakeholder.
Where It Bites in a Firm’s Work
Understandability lands on drafting rather than on measurement. The verbs in the definition are classifying, characterizing and presenting, so the characteristic reaches how a balance is grouped on the face of a statement, how a note names the thing it is describing, and how tightly that note reads by the time it goes to a lender or an owner after the close.
What it does not reach is the decision to include the item at all. That is a relevance and materiality question, and the threshold behind it, which is entity specific and fixed at no percentage, is worked through in materiality. A note that is hard to follow gets explained, not dropped.
What Understandability Sits Beside
The enhancing qualitative characteristics are comparability, verifiability, timeliness and understandability (FASB Concepts Statement No. 8, Chapter 3, paragraph QC19). Timeliness is the one of those closest to it in daily work, and the reporting interval that timeliness forces on a close is worked through in periodicity.
Accountably places trained offshore accountants and tax preparers inside US CPA and EA firms, and a firm can grade a real block of its own close and disclosure work through a trial task.
