Introducing Financial Statements
This lesson will introduce you to financial statements, their uses, and their limitations. This broad overview will help frame the upcoming lessons on each individual statement.
Define the purpose of a financial statement
- Financial statements are formally prepared documents communicating an entity's financial activities to parties including investors, management and tax officials.
- An entity's financial statement typically includes four basic components: a balance sheet, income statement, cash flow statement, and statement of changes in equity.
- The balance sheet reports a point-in-time snapshot of the assets, liabilities and equity of the entity.
- An income statement reports on a company's expenses and profits to show whether the company made or lost money.
- The cash flow statement reports the flow of cash in and out of the business, dividing cash into operating, investing and financing activities.
- A statement of changes in equity explains the changes of the company's equity throughout the reporting period, including profits or losses, dividends paid and issue or redemption of stock.
The residual claim or interest to investors in assets after all liabilities are paid. If liability exceeds assets, negative equity exists and can be purchased through stock.
an obligation of an entity arising from past transactions or events, including any type of borrowing
economic resources that represent value of ownership that can be converted into cash (although cash itself is also considered an asset)
A financial statement is a formal report of the financial activities of a business, person, or other entity. Financial statements are a key component of accounting; the process of communicating information about a financial entity . Financial statements are presented in a structured manner with conventions accepted by accounting and regulatory personnel. An entity's financial statement typically includes four basic components: a balance sheet, income statement, cash flow statement, and statement of changes in equity:
Financial Statements help keep money organized.
- The company's balance sheet reports on a company's assets, liabilities and ownership equity. A balance sheet is often described as a "snapshot of a company's financial condition" at a single point in time. Balance sheets are usually presented with assets in one section and liabilities and net worth in the other.
- An income statement reports on a company's expenses and profits to show whether the company made or lost money. It also displays the revenues of a specific period, and the cost and expenses charged against these revenues. In contrast with the balance sheet, which represents a single moment in time, the income statement represents a period of time
- A cash flow statement shows how changes in income affect cash and cash equivalents, breaking the analysis down to operating, investing and financing. Essentially, the cash flow statement is concerned with the flow of cash in and out of the business. As an analytical tool, a cash flow statement is useful in determining the short-term viability of a company.
- A statement of changes in equity explains the company's equity throughout the reporting period. The statement breaks down changes in the owners' interest in the organization and in the application of retained profit or surplus from one accounting period to the next. Line items typically include profits or losses, dividends paid, redemption of stock, and any other items credited to retained earnings.
For complex entities, financial statements often include an extensive set of notes as an explanation of financial policies. The notes typically describe each item in detail. For example, the notes may explain financial figures or the accounting methods used to prepare the statement.
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