The Aggregation Problem in Financial Statements: An Informational Approach

Financial statement preparation can be defined as a process of aggregation. A large number of individual balances, whose detailed report is often prohibitive, are aggregated so that a relatively small number of items are reported in the financial statements. We assume that users of financial statements would in principle prefer to have access to detailed rather than aggregated figures in their decision making; therefore, aggregation results in a loss of information to these users. This paper reports an attempt to measure this loss and to design aggregation procedures to minimize it. Aggregation is an integral part of the accountant's materiality concept. As stated in SEC Regulation S-X, "If the amount which would otherwise be required to be shown with respect to any item is not material, it need not be separately set forth in the manner prescribed." I A recent editorial expresses some concern that the materiality concept has not received sufficient attention. "Useful discussions of the materiality problem in the literature of accounting are unfortunately scarce. In this period of renewed evaluation of basic concepts of accounting, and increased public attention focused on financial statements, materiality should receive major attention." 2 The limitation in the present concept is the lack of quantitative measures and criteria for determining whether an item is material. The accountant is usually advised to exercise his best judgment when facing problems of