What are financial statements?
Financial statements involve the business activities and those activities make three statements – income statements which include expenses and revenue, cash flow statements which include operating activities, financing activities, and investing activities, and the balance sheet which includes assets and liabilities. A Financial statement is a combination of three statements that define the accurate position of the company and helps to compute many business expected results like revenue, net income, debts, cash.
A Financial Statement is a key that organizes the different statements for the business analyst so that they can set the goals and estimate the budget for the next financial year. Without making a financial statement, business analysts can’t express and define the real statement to the external analysts (who are the outsider or not part of the company). It is a way to record the final mixture of accounting that shows the financial accuracy and status of the business. It is like a “weighing machine” that shows the accurate weight of the people.
It is also like a calculator in accountants that includes all the activities in different ways such as expenses, revenue, income, cash, assets, liabilities which calculates at the end after adjusting all of them in different sections.
Who prepares the financial statement?
The whole accounting which has been recorded in bookkeeping is shown in financial statements with final records by analyzing and summarizing a single entry. When bookkeepers pass journal entries in ledger books, all those entities are transformed in the financial statement recorded by the accountants. Accountants know how to improve accounting entries for interchange into the financial statement so analysts can get a sheet of final records with a clear statement.
- An accountant must prepare financial statements along with accounting records to represent the real financial condition of the business.
- An accountant has to follow some rules while designing financial statements.
- Due to avoiding silly errors, he/she utilizes accounting software for consistency, stability to prepare statements.
- An accountant must be familiar with all prepared ledgers so that he/she can reach the improvement section and improve them by avoiding errors.
- An accountant defines the financial reality of the business.
- An accountant must record each entry in the right section so that the reader can easily get the point of the business.
- An accountant describes the improvement section for the future to the analysts by representing the financial statements.
- An accountant divides the accounting entries into three statements – income and expense statement, cash flow statement, and balance sheet. The motive of these statements is to avoid confusion and clears the mind of business owners for reaching their final decisions for the new financial business activities such as expenses, assets, liabilities, investment, and revenue.
- An accountant must be qualified with a certified public accountant (CPA) to prepare a sheet of financial records in three statements.
- An accountant provides accuracy, consistency, reality, stability in the financial statements.
Who analyzes the financial statement to get the outcome?
Business analysts can determine the actual performance of the business by reading all the statements recorded by the accountants. Business analysts can be anyone who offers financial service to the business in the form of money as a loan, stock, shares, and advice. Before taking the action for the business, analysts first check out the statements for analyzing the health of the business.
Types of Business Analysts
As we said above, business analysts can be anyone such as:
Loan provider (Banks or other financial institutions)
The banks are the first financial helpers who always perform for their clients by offering huge amounts of loans based on checking the financial performance. After taking the money from banks, the company becomes a debtor and the bank becomes a creditor.
Financial Consultants can be business analysts
Financial consultants and marketing consultants can be business analysts to check the identity of the business by scanning your financial statements. These consultants know the criteria of flowing a business with financial methods to achieve success in the business market. They help you to identify successful competitors and provide a chance to interact with them to explore business by sharing some strategies.
Investors have a right to take the name of analysts because they meet up with the company for investment purposes but before investment, they need to scan the statements so that they meet with all debts, revenue, profit, net income.
The Auditor is considered as an analyst but not permanent because they are called by the organization for completing the audit process. During auditing, they have the authority to check all the financial statements of the whole year. That’s why we can say that it can be a business analyst.
Types of financial statement
It contains three statements such as:
- Income and Expense statement
- Cash Flow Statement
- Balance Sheet
Let’s start to discuss these statements in brief :
Income and Expense Statement
This statement describes the outgoing expenses and incoming revenue to the business analysts so that they can measure the revenue and expenses of the business. Basically, it is prepared by the non-profit organization which takes out the entries of revenue and expenses from profit&loss account and transfers them into the income and expenditure account that shows the earned revenue and incurred expenses during the financial year. Such examples – Profit from the sales of assets (revenue) and transportation cost while selling the assets (expenses), not cash entries are recorded in this account.
Some important information regarding this account:
The Income and Expenditure account captures all the revenue and expenses on the side of debit and credit respectively to find out the surplus or deficit.
It is a part of the accrual basis of accounting or we can say that this account has the same procedure of recording entries. Example – Accrual accounting records all the transactions whether they are received or not and paid or not, so same as this accounts records all the incomes and expenses whether they are received or not and paid or not.
As we know that this account is a nominal account that is designed by the accountants of the non-profit organizations for getting the surplus or deficit. It is prepared at the end of the financial year so that accountants can easily transfer entries into the capital fund for fixing the assets and liabilities of the organization. Capital fund is necessary to prepare due to not being recorded in the Income and Expenditure account.
Items included in Income and Expenditure account
Credit includes all incomes
- Grants received
- Entrance fees
- General Donations
- Interest on Deposits
- Collection of Specific show
- Miscellaneous Incomes
- Receipt from sales
- Profit on sales
Debit includes all expenses
- Audit fees
- Salary and Wages
- Municipal taxes
- Depreciation on Fixed Assets
- Upkeep of Laws
- Printing and Stationery
- Entertainment expenses
- Expenses on events
These are some items of expenses and income which bind together and give a result in the form of surplus or deficit. The Surplus comes when the expenses side is less than the income Excess of income over expenditure) and deficit comes when the expense side is more than the income (Excess of Expenditure over income).
The surplus or deficit shows the end of the income and expenditure account, surplus shows the credit increases which is added to the capital fund and deficit shows the debit increases which is deducted from the capital fund. In other words, the result will be obtained only in the form of surplus or deficit.
Cash Flow Statement
Cash Flow Statement contains three activities –
- Cash from Operating activities
- Cash from Investing activities
- Cash from Financing activities
A Cash flow statement is a cash recorded statement that shows the amount of outgoing and incoming cash through operating, financing, and investing activities. It records only cash transactions, not any expenses and income like an income and expenses account. After calculating these three activities, it represents the cash flow in the business of how a company performs with cash and has available cash, pay all its debt or not and receive cash by selling assets.
Cash from operating activities
The cash flow statement allows all the accountants to record cash gain from business activities. In other words, it represents how much a company has earned through selling their assets, how much consumed in rent, wages and salary, how much interest paid, and other operating activities.
Cash from investing activities
Investors collaborate with companies before investing in business activities and have a right to get information regarding business financial health so they can overview the cash flow statement for analyzing the financial base. Investors can be creditors, other vendors, vendors who want to become a shareholder have legal right to know about cash position through cash flow statements. Investing activities include – sale of an asset, loans received from customers or paid to the creditors, and transactions related to investment.
It shows the company’s financial status in a good manner.
Cash from financing activities
Banks or other financial institutions, vendors, money provider agencies are involved in financing activities. All of the motives are to provide money in return for interest, shareholder’s position so they need to examine the cash flowing status of the non-profit organization before giving money. If they find the good status of the company then they are agreed to provide money by completing legal formalities. Investing activities include – notes payable.
The Cash Flow Statement can show the positive and negative of the company’s cash status by using two methods of cash flow – Indirect and Direct, both compute the same value but in different ways. They have different rules to record business activities in the statement.
It shows the company’s debts from creditors.
The Balance sheet is a final report prepared by the accountant and examined by the business owners so that they can start planning for the next financial year by arranging business activities and budgeting.
The Balance sheet shows an accurate picture and provides a real image of the company. It describes the company’s position by showing the available assets and left liabilities. It clears the mind of the statement reader by showing the accuracy in the sheet. The Balance sheet removes all the doubts put by the business owners from other statements.
A balance sheet is prepared only based on the other financial statements – Income and Expenditure, Cash Flow Statement. It is the end process that describes the real structure of the business with reliability.
What is Financial Performance analysis?
After preparing income and expense accounts and cash flow accounts, business owners can’t imagine the real position of the company, that’s why they need to prepare a balance sheet for getting a real outcome so that they can make plans regarding business. But always keep in mind one thing that always needs a professional reader who can explain the position of a whole year in a corrective way. To prepare only the balance sheet and other statements is not enough, rather need an expert reader who analyzes and examines the report, then gives the result in front of management so that they can reach the final decisions.
- Financial Statement analysis improves the scale of the business by showing real results.
- With this, business owners can find their earning capacity so that they can invest accordingly.
- Financial statements build strong mind power for better decisions.
- With these statements, management can find the way of improvement in all three activities – operating, investing, and financing.
- To encourage the ability of manpower resources for better efficiency.
- To compare the performance of all company’s departments whether it is finance, marketing, sales, and human resource.
- To know more about the market conditions through market consultants.
- To know more about the financial market through competitors, financial advisors, money market advisors, banks.
- To adopt the latest plans in the business and adopt technology for making the new formation of the business.
- Check the management decision by verifying all financial analysis through analytics software.
- Verify the paying capabilities as a debtor.
- Through financial ratio analysis, analysts can measure the business activities.
The Procedure of financial statement analysis
The objective is to compare the different accounts in the business to get final results. The Analysis process is done by the business analysts for fixing issues in business.
Reach to the results
The internal analysts who are in favor of the company for deciding the long-term solvency and debenture holder decide the short-term solvency of the business.
Mind the scope of the business
Analysts need to determine the scope of the business for taking out the result by analyzing all the statements with the owners, it will help to find competitors and be able to make good decisions.
Financial statements give positive direction
If analysts analyze the financial statements so they can get relevant data for reaching the final decisions and make improvement suggestions regarding business growth.
Create final reports
For completing the financial statement procedure, analysts need to submit a final report to the company’s management by using graphs, charts. It will help to measure the actual financial position of the company.
Importance of Financial Statement
Financial statements show importance through income and expense statements, cash flow statements, and balance sheets because of the key component of financial statements.
So we will discuss the key components of this statement:
Compares the past performance with current performance
As a business owner and analyst, you can compare your records with the current performance with the help of a financial statement. The data of these statements always involve new changes by applied new strategies. You can check the performance level of your business so that you can move towards your plans.
Current performance decides the future performance
With the current performance of data, you can do planning for the next year so that you can never face similar problems that you have faced in the current or past.
Get accurate results
With financial statements, you can get accurate results so that you will be motivated by your results and can take a huge step for your next step in your business.
Helps to take future decisions
Financial statements clear the confusion and doubts of analysts and business owners so that they can decide on new financial year activities. Decisions are not easy to make, it’s a hard process which we need to follow carefully without making a single mistake and follow up all the statements prepared by the accountants.
Gives clarity in business results
In the digital world, accounting software is used for preparing accounting records in the business. It saves time, effort, cost, and stress which helps to work more effectively. If a business owner adopts accounting software, it’s the best way to run our business on a new track.
It gives proficiency to get quick results
The statements give proficiency to get quick results so that they can move ahead for further processes such as planning for stock, capital, finding creditors and investors, and other business activities.
Our Financial Statements not for non-profit organizations?
Of course, Financial statements are prepared in non-profit organizations too, but they involve some unique steps and types to define the business financial statements. Non-profit organizations and Profit-organization are unique to each other due to their way of working, providing services, and different motives.
The Non-Profit organization is to offer the community services related to health, human resource, education and other social services which are done without any expected income by putting in some investment and expenses. They offer social as well as income-based services.
On the other hand, a profit organization is to offer the services related to their business which is done with the expectation of getting high income and revenue by putting in investment and expenses. They do not offer social services.
Both organizations need to prepare some statements to know the reality of the business at the end of the year. If we talk about the non-profit organization, the organization has four statements such as :
- Statement of financial position
- Statement of activities
- Statement of cash flow activities
- Statement of functional activities
Statement of financial position
Under a non-profit organization, management needs to find out the financial position through the balance sheet so that they can analyze how much capital is required to complete basic things for the community or how much assets have left and liabilities need to pay.
Statement of activities
Under a non-profit organization, management needs to find out the revenue and expenses through income and expenditure statements so that they can meet with the company’s revenue and expenses.
Statement of functional activities
UNder non-profit organization, management needs to find out the expenses incurred in each functional area, it takes out the report of expenses from each functional area. Functional is maybe marketing, sales, finance, promotion, event area, human resource.
Statement of cash flow activities
Under a non-profit organization, management needs to find out the cash inflows and outflows in the business during the whole accounting year and work accordingly.