The Impact of Off-balance Sheet Financing on Corporate Fraud

Abstract

Off-Balance Sheet Financing (OBSF) is an accounting practice in which companies record certain assets or liabilities in a way that prevents them from appearing on the balance sheet. This procedure is used to keep the debt-to-equity ratio and leverage ratios low, especially if adding large expenses would overturn negative debt covenants. Examples of off-balance sheet financing include joint ventures, research and development partnerships (R&D), and operating leases. Companies sometimes take a creative approach when making large purchases. Holders of large debts often do whatever it takes to ensure that their leverage ratios do not lead to a breach of their agreements with lenders. Companies are also aware that a healthier-looking balance sheet is likely to attract more investors, and that banks tend to charge highly leveraged companies to borrow money since they are more prone to default. If a company takes on financing services, it must show these in its balance sheet. These include loans and other types of financial instruments. An off-balance sheet financing allows a company to get the financing without having to report it in the financial statement. Although it is a smart way of management to manage the company's finances, off balance sheet financing can sometimes create doubts about the company's operations. This type of accounting procedure is used to maintain the company's financial position and keep the investors' faith. The goal of this process is to show a low debt equity ratio to keep the investors' confidence. There are many ways to enter into a sheet financing agreement. It can be done through a partnership, a joint venture, an investment in an associate company, or leasing.