Financial Statements
When we talk about Financial Statements, what do we mean? How many are there? Why are they so important? In this quick read you will learn the answers to all these questions and more!
So how many financial statements are there? There are 4 main financial statements, which include balance sheets, income statements, cash flow statements, and statements of shareholders’ equity. Balance sheets show what a company owns and owes at a specific time. The income statement shows what a company has made and spent over a certain period of time. Cash flow statements show the exchange of funds between a company and the outside world over a period of time. The fourth is the statement of shareholders’ equity which shows changes in the interests of the company’s shareholders also over a period of time.
Now let us take a deeper dive into the 3 main financial statements.
Balance Sheets
The balance sheet provided detailed information on a company’s assets, liabilities, and shareholders’ equity.
Assets: Assets are things that a company owns that hold value. What this means is that the company can sell these assets to make products or services that can be sold. Assets include physical property like equipment, buildings, or inventory. Assets can also be things that can not be touched such as patents or trademarks. Assets can also include cash or investments that a company makes.
Liabilities: Liabilities are the different amounts of money that a company owes to other companies. This can mean a couple of different things such as, a loan from a bank to make a product or service, rent owed to property owners, payroll for the company’s employees, environmental cost, and even taxes owed to the government. Liabilities can also include an obligation in the future to provide a product or service.
Shareholders’ Equity: Shareholders’ Equity is also known as a company’s capital or net worth, meaning that it is the money leftover after a company has sold all its assets and paid off all its liabilities. This money that is leftover then belongs to the shareholders or the owners of said company.
Balance sheets are set up with the simple accounting equation Assets = Liabilities + Shareholders’ Equity.
Income Statements
The income statement shows how much a company has made within a specific period, which is usually for a year. Also, the income statement will show the cost and expenses that are associated with the revenue from that year. At the bottom of an income statement the company will have insight on the net earnings or losses from the year or the specified time.
Income statements will also report EPS or Earnings Per Share. What this provides is a calculation for how much shareholders would obtain if the company were to distribute all net earnings for that period.
Income statements are often compared to a set of stairs. Starting at the top will be the company’s total amount of sales made during the period. Now go down a step and then another, each step is associated to a deduction of cost or expenses. Once reaching the bottom as stated in the previous paragraph the company will now have insight into net earnings or losses. Many refer to the bottom of an income statement as “the bottom line”.
Cash Flow Statements
Cash flow statements will use and reorder all the information from the balance sheet and income statement to give the company a report on its inflow and outflow of cash. The reason this is so important is because the company needs to make sure that it has enough cash to cover the expenses and asset purchases. Cash flow statement differs from the income statement in that the income statement will show profit made and cash flow shows if the company generated cash.
Generally, a cash flow statement will be split into 3 types of activities: operating activities, investing activities, and financing activities.
Bring it all back together!
Although we have broke down each one of the 3 main financial statements, let’s not forget that they are all related. Not one single statement will show the full story but all three together provide great insight for finance managers to make decisions that benefit the company and allows investors the ability to invest smarter!