What are Financial Statements
Financial statements are the statements that present an actual view of the financial performance of an organisation at the end of a financial year. It represents a formal record of financial transactions taking place in an organisation. These statements help the users of the information in determining the financial position, liquidity and performance of the organisation.
Financial statements reflect the impact of financial effects of the transactions on the organisation. Preparation of financial statements is done by both profit and nonprofit organisations. It forms a crucial part of the annual report of any organisation.
Financial statements are used by different stakeholders of an organisation which includes shareholders, staff, customers, investors, suppliers, stock exchanges, government authority and other related stakeholders.
Types of Financial Statements
There are five (5) types of financial statements that are required to be prepared by an entity. These statements are :
- Income statement,
- Balance Sheet or Statement of financial position,
- Statement of change in equity,
- Statement of cash flow,
- Noted (disclosure) to financial statements.
Let us discuss these statements in detail now
1. Income statement
Income statement of an organisation or business entity is the financial statement which contains financial information about the three important components, which are revenues, profit or loss and expenses incurred during the accounting period.
It is sometimes called as the statement of financial position performance as this statement helps users of financial information in determining the financial performance of an organisation from one accounting period to another of the same business or with that of the competitors.
The three components of income statement are explained as follows:
- Revenues: It refers to the sales of goods and services that the business generates during the current accounting period. Revenues can be obtained from both cash and credit sales.
- Profit or Loss: Profit or loss is the net income which is obtained by deducting the expenses from the revenues. Profit will happen if revenues are more than expenses and loss will occur if expenses are more than revenue.
- Expenses: Expenses are the cost of operations that an organisation incurs for running day to day operations. They can be administrative expenses like salaries, depreciation etc.
2. Balance sheet
A balance sheet is known as a statement of financial position as it shows the position of assets, liabilities and equity at the end of an accounting period. The net worth of a business can be determined by deducting the liabilities from the assets.
If the users of financial information are looking for information regarding the financial position of the company, a balance sheet is the most appropriate statement which will present the necessary information.
Components of a balance sheet are assets, liabilities and equity. These are described below:
a. Assets: Assets are resources that are owned by the company both legally and economically. There are two main classes of assets. They are current and non-current assets.
Current assets are short term assets which can be converted in the current accounting period, and these include cash in hand, raw materials, petty cash etc.
Non-current assets comprise tangible and intangible assets, and these include machinery, building, land, computer equipment, vehicles etc. Assets are equal to the sum of liabilities and equity of the organisation.
b.Liabilities: Liabilities are obligations of a company which they owe to other businesses or individuals. It includes interests payable, loans, taxes etc. Liabilities are of two categories current liabilities and non-current liabilities.
Current liabilities are due within a year that means the organisation has to pay the dues within that accounting year only. Non-current liabilities, on the other hand, are obligations that have a longer period of repayment, which is more than twelve months. For example, a long term lease which is due in more than twelve months.
c.Equity: Equity is defined as the difference between assets and liabilities. The examples of equity are retained earnings, share capital. Equity can be calculated by subtracting assets from liabilities.
3. Statement of changes in equity
This type of financial statement shows the contributions of shareholders, movement of equity and balance of equity at the end of an accounting period. It shows all the changes in equity that take place during the accounting period. It includes issue or purchase of shares, issuing of dividends etc.
4. Statement of Cash Flow
Cash flow statement reveals the movement of cash in an organisation. It comprises cash inflows and outflows. Cash flow can be classified into three activities which are operating activities, investing activities and financing activities.
5. Notes to financial statements
This is the fifth type of statement that is considered in accounting. It is mandatory to disclose information regarding the preparation of financial statements. It contains information on the valuation method used. Also, it includes the disclosures related to compliance with accounting standards. It is an important statement that must be included by the organisation.
The article helps the students to gain a better understanding of the types of financial statements which will help build a good foundation for the subject. For more such interesting concepts, stay tuned to BYJU’S.