Financial statements represent a formal record of the financial activities of an entity. These are written reports that quantify the financial strength, performance and liquidity of a company. Financial statements reflect the financial effects of business transactions and events on the company.
Statement of financial position, also known as the Balance Sheet, presents the financial position of an entity at a given date. It is comprised of the following
- Assets: Something a business owns or controls (e.g. cash, inventory, plant and machinery, etc)
- Liabilities: Something a business owes to someone (e.g. creditors, bank loans, etc)
- Equity: What the business owes to its owners. Equity therefore represents the difference between the assets and liabilities.
Income statement, also known as the Profit and Loss Statement, reports the company’s financial performance in terms of net profit or loss over a specified period. Income statement is composed of the following :
- Income: What the business has earned over a period (e.g. sales revenue, dividend income, etc)
- Expense: The cost incurred by the business over a period (e.g. salaries and wages, rental charges, etc)
Net profit or loss is arrived by deducting expenses from income.
Cash flow statement, presents the movement in cash and bank balances over a period.
- Operating Activities: Represents the cash flow from primary activities of a business.
- Investing Activities: Represents cash flow from the purchase and sale of assets other than inventories (e.g. purchase of a factory plant)
- Financing Activities: Represents cash flow generated or spent on raising and repaying share capital and debt together with the payments of interest and dividends.
Statement of Changes in Equity, also known as the Statement of Retained Earnings, details the movement in owners’ equity over a period. It is derived from the following components:
- Net Profit or loss during the period as reported in the income statement
- Share capital issued or repaid during the period
- Dividend payments
- Gains or losses recognized directly in equity (e.g. revaluation surpluses)
- Effects of a change in accounting policy or correction of accounting error
Financial statements are used by so many different types of people from investors, to creditors, managers and even employees. These statements are proven useful tools that provide valuable information about a business enabling the user of the statements to make the most appropriate business decisions.