Principle of prudence

The principle of prudence is an accounting principle designed to ensure that assets and income are not overstated and that liabilities and expenses are not understated.

Detailed explanation/description:

The principle of prudence - also known as the principle of commercial prudence - is a central element of German accounting in accordance with the German Commercial Code (HGB). It obliges companies to make a cautious and realistic assessment of their financial position. The aim is to recognise and reflect potential risks and losses at an early stage, while possible profits are only taken into account when they are actually realised. SAP Business One follows this principle in the valuation and posting of assets, provisions and receivables.

Integration into business processes

The principle of prudence directly influences the valuation of inventories, the valuation of receivables, the recognition of provisions and the recognition of income and expenses on an accrual basis. It therefore has an impact on the balance sheet and the income statement.

Relevant modules and functions

financial accounting
Inventory management
Accounts receivable/accounts payable
Provisions management

Concrete application examples

Inventories are recognised at the lower of cost or market value (lower of cost or market principle).
Receivables are reduced by doubtful amounts through specific or general valuation allowances.
Provisions are recognised for uncertain liabilities such as warranty risks.

Key features/important aspects:

Protection of creditors through conservative accounting
Limiting risks by recognising losses at an early stage
Differences in application between HGB and IFRS

Related terms/cross-references:

Advantages/benefits (optional):

Reduces the risk of over-optimistic financial statements, strengthens the confidence of creditors and ensures a conservative and sustainable company valuation.