Generally Accepted Accounting Principles (GAAP)

Why should financial statements be prepared according to Generally Accepted Accounting Principles if they are to be given to people outside of the company management? The idea is to have every company’s financial statements prepared in the same way so that, for instance, a banker could compare two similar companies and decide which one was in better shape and deserving of his or her loan services. Does it work? Only “sort of.” Every company is different, so every company puts its financial statements together a little differently, but still within the framework of Generally Accepted Accounting Principles. Throughout this book we will find instances where the rules provide a company with alternative ways to report a given transaction.^[*]

^[*] A good example of different, but acceptable, ways of preparing financial statements is in inventory valuation. See Chap. 3.

Generally Accepted Accounting Principles is a mouthful of a phrase if it has to be repeated several times. Accountants, not being given to verbosity, therefore shorten it to GAAP. When you hear these number crunchers talking about “gap,” they are not talking about a pass through the Blue Ridge Mountains. They are referring to Generally Accepted Accounting Principles.