Understanding The Basics Of Financial Statements: An Overview For Beginners

Assessing a company’s financial statements is an integral part of its business process. This statement provides data about a company’s expenses, revenue, profitability, debt load, etc.

If you want to understand financial statements and how they work, here is an article that might help. I have listed all the important portions of the complete financial information any business might have.

Go through this article for a brief gist of the concept of financial statements.

What Are Financial Statements?

As the name suggests, the financial statements describe a company’s financial activities and performance for a certain period. It is a collection of financial results, positions, and cash flows. The financial statement includes elements such as a balance sheet, income statement, cash flow statement, and the change of statements in equities.

Government agencies, firms, and accountants usually audit a company’s financial statements. It assures tax payment and fulfills investment purposes or financing.

Nonprofit entities use a similar but different set of financial statements. A company’s financial statement also includes the assets a company owns, its debts, and the amount of money it has made.

This statement is made in different timeframes. An annual financial statement covers all the expenses made by a company in a fiscal year. There are also interim financial statements on a company’s monthly, quarterly, or semi-annual basis.

But, interim financial statements are a bit different from the year-end financial statement, which include few more elements and statements than the interim financial statement. The cash retained earning statement’s cash flow statement might go missing on the interim cash flow statement.

Core Parts Of The Financial Statement

The financial statement, as described earlier, comprises some more core elements such as the –

• Balance sheet.
• The income statement.
• Statement of cash flow.
• Supplementary Notes.

Here is a brief description of some of the most important aspects of a financial statement –

Income Statement

The income statement of a business entity is an essential aspect of its financial statement. It lists the financial activities of a company. The income statement can often include the results of the previous financial month or the year before for different comparison purposes. Several periods are also included for comparison purposes.

The general structure of the income statement deals with the revenue generated within that timeframe, and the cost of goods sold should be subtracted from there. Then all the general, selling, and administrative expenses are subtracted. The income statement is the financial statement that helps a business foreshadow its ability to generate profit.

Here is what you see included in this financial statement –

• The revenue and expenses of the business are visible here.
• The income statement is expressed against a period like a quarter, year-to-date, etc.
• Accounting principles like matching and accruals are used to show figures.
• The income statement helps assess the profitability of a business.

How To Read The Income Statement?

Reading the income statement will require the business owners to go through the information related to the –

• Revenue
• Expenses
• Costs of goods sold (COGS)
• Operating income
• Gross profit
• Earnings per share (EPS)
• Income before taxes
• Net income
• Depreciation
• EBITDA

Business professionals, Accountants, and investors make it their daily habit to review their income statements.

Balance Sheet

A company’s balance sheet is the financial statement that shows the company’s assets, liabilities, and shareholders against a timeframe. Both sides of the balance sheet must match. The assets should be equal to the equity plus liabilities of the company.

The asset segment of the balance sheet starts with the cash and equivalents. This should equal the balance visible at the end cash flow statement. Following this procedure, the balance sheet then shows the ending balance in different major accounts in different periods. Net income found in the income statement also flows into the balance sheet as a change in retained earnings.

• It helps see the financial positions of the business.
• This financial statement is a pictography of a company’s financial picture at a given time.
• There are three sections: shareholders’ equity, assets, and liabilities.
• Assets = shareholder’s equity + liabilities.

How To Read The Balance Sheet?

The balance sheet includes the owner’s assets,s liabilities, and equities. But how do you read a balance sheet?

For that, you must go through the assets, liabilities, and equities a business owner has. The assets are anything under the business with a quantifiable value. The liabilities include rent, utility, debt payments, bonds payable, and taxes. The owner’s equity is the value that will remain once all the liabilities are paid and the assets sold.

Cash Flow Statement

The cash flow statement of a company reflects the cash flow of the company during a certain reporting period. These cash flows are then categorized under different activities like cash flow from operating, investing, and financing activities.

The inflows and the outflows of cash area are calculated using the changes in different balance sheets. In the statement, the change in cash per period is displayed along with the starting and ending balance of cash.

• The increase and decrease in cash are visible in this financial statement.
• The cash flow statement is expressed over a specific time period.
• The cash flow statement can undo accrual accounting principles for showing pure cash movements.
• The net change in the cash balance from the start to the end of a period is visible in this financial statement.

How To Read The Cash Flow Statement?

A business needs to assess its cash flow system. For this, they have to go through the positive and negative cash flow statements. The positive cash flow suggests that the business is getting more cash flowing inwards than going out from the business during a period.

A negative cash flow suggests that the business has more cash outflow than cash inflow. Also, positive cash flow does not mean that the company is on profit. It is possible to have positive cash flow without generating any profit. Negative cash flow can also result from a company’s decision to expand its business.

To effectively analyze cash flow statements, businesses can leverage various tech tools. Accounting software automates statement generation and integrates with bank accounts for real-time tracking. Spreadsheet software offers customizable templates and calculation functions for cash flow metrics. Financial management platforms provide insights into cash flow patterns and trends, while business intelligence tools visualize data for informed decision-making. 

Cash flow forecasting tools help predict future cash flows based on historical data and scenarios. Online banking portals offer transaction categorization and reporting features, and ERP systems centralize cash flow management across departments. Businesses should consider usability, scalability, integration, and compliance when choosing a tech tool. Ultimately, selecting the right tool empowers businesses to optimize cash flow management and make strategic financial decisions.

There are many other helpful tech tools that can help professionals and organizations review their income or fund sources. Training programs or courses on how to use these tools are available, such as Raiser’s Edge training for cloud-based fundraising software.

Statement Of A Shareholder’s Equity

Another important portion of the financial statement of a business is the statement of the shareholder’s equity in the business. This statement shows the changes in the valuation of the equity a stockholder has within a company. This change is measured within the duration of a specific accounting period. The timeframe here usually spans from the start of a year to the end of the same year.

The shareholder’s statement usually includes different statements such as –

• Preferred stock
• Treasury stock
• Common stock
• Additional paid-up capital
• Retained earnings
• Unrealized gains and losses

When reviewing a shareholder’s statement, pay close attention to each section for a comprehensive understanding of the company’s financial health. Preferred stock indicates the company’s commitments to preferred shareholders, while treasury stock represents shares repurchased by the company. Common stock reflects ownership stakes held by shareholders. Additional paid-up capital highlights funds received from investors above stock par value. 

Retained earnings signify accumulated profits or losses kept for future use. Lastly, unrealized gains and losses reveal fluctuations in the value of investments not yet sold. Understanding these components provides insights into the company’s financial structure and performance.

Bottom Line

The financial statements of a business help understand valuable metrics that help understand the profit and loss of the business, its tax returns, and its balance sheet. It is very crucial for a business to get all the information right in the financial statements of the same.

Here is a brief of all the information you need to know about the same. However, please raise any queries that you might have through the comment section below.

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