Financial statements are believed to be the most significant reports to analyze the performance and position of a firm. The four main kinds of statements are a balance sheet, income statement, cash flow statement, and the statement of shareholders' equity. These reports give an overall report on assets, liabilities, revenues, expenses, and inflows and outflows of cash change over time to stakeholders such as government, investor, manager or lender in making informed decisions.
Financial statements are used by the government and investors to determine whether the firm is profitable or non-profitable, whether it is stable or unstable, and whether it has possibilities of growth or not. They are accounted according to accounting standards, such as the Generally Accepted Accounting Principles (GAAP), in order to be comparable and consistent across different entities. The balance sheet presents the financial position of the company, while the income statement presents its profitability. The cash flow statement helps to estimate the liquidity of a company and reflects the flow of cash within the company. All these statements together depict the real picture of the financial health of the company and hence help in decision-making regarding strategic direction and investment.
There are four primary types of financial statements:
- Balance sheets
- Income statements
- Cash flow statements
- Statements of shareholders’ equity
Balance Sheet
A balance sheet provides the position of a company at any point in time, what the company owns and owes. There's also a value to the shareholders, and this is usually given at the end of the fiscal year.
Assets: They include liquid items such as cash and equivalents, accounts receivable, or customer debts; inventory of goods available for sale; prepaid expenses representing future benefits already paid for; and long-term assets like property, plant, and equipment (PPE), investments, and intangible assets, such as trademarks or patents.
Current assets are assets that can be converted into cash within a normal operating cycle. Examples of current assets are cash, cash equivalents, marketable securities.
Non-current assets are resources used for more than one accounting period; examples include tangible and intangible items such as machinery, buildings, and vehicles.
Liabilities: These are obligations, representing what the firm owes in forms of accounts payable bills, wages payable employee salaries, notes payable formal debts, dividends payable declared but unpaid dividends, and long-term obligations such as loans and mortgages are due more than a year later.
Current liabilities are those liabilities that need to be returned within one year.
Non-current liabilities have a period for repayment above one year.
Shareholders' equity: Residual interest in the company after subtracting liabilities from assets. It includes retained earnings, amounts of profit retained in the company which is not paid out as dividends.
Income statement
An income statement is one of the most important financial statements of a company showing their financial activities over some period of time; it shows revenues and expenses in a firm along with gains and losses associated with the company. It is also known as the profit and loss statement, it helps stakeholders analyze whether a business is managing its resources well or not; it also helps find out areas in which improvements can be made.
A step-by-step report on the income statement of the company, from total revenues down to net income, calculates how profitable the company is. It also gives an insight on the efficiency of a firm's operations and how effective its managers are.
Cash flow statement
A cost statement is also called a cost sheet. It accounts for all the expenses made by the company over a particular period. The cost statement will help one track the cost of producing goods or services. It helps in managing costs, and it makes better decisions. All costs are classified into direct and indirect costs.
Direct costs include those costs having direct relation with production, such as raw materials and labor.
Indirect costs are overheads that cannot be traced to production in the direct line, including administrative expenses and factory maintenance.
The statement generally includes prime cost-direct material and labor-the factory cost or addition of factory overheads, total cost of production-including work-in-progress adjustments and cost of goods sold-with adjustments for finished inventory.
A cost statement for business will help determine optimal prices for products or services, control expenditure by identifying areas where the cost may be improved for efficiency, and thus increase profitability.
Statements of shareholders’ equity
The statement of shareholders' equity shows the changes in a firm's equity over a specified period of time. It relates to the balance sheet, where the final equity number is identical to the equity appearing on the balance sheet for the same time period. Investors use this statement to analyze how profitable a firm has been as well as to calculate the distribution of wealth among its shareholders.
The basic elements include opening equity (equity that existed from previous years), income (profit received in the period, added to retained earnings), dividends (comparison with shareholders that are a reduction to equity), and other comprehensive income (which may be an addition or reduction to equity based on certain types of transactions). Companies also may account for preferred and common stock, treasury stock (repurchased shares), and unrealized gains or losses on investments. Thus makes the statement of shareholders' equity a tool that helps analyze what percentage of the profits of a business should be retained to grow the business and which to redistribute among its shareholders. This gives an investor a much better view of whether the company's financials are healthy and worth investing in.
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