UNDERSTANDING FINANCIAL STATEMENTS

Ever heard the term financial statements or FS (as accounting professionals like to call it)? What does it really mean? Let’s find out! 

Financial statements refer to a set of structured, summary-level reports about an organization’s financial results, financial position, and cash flows prepared at the end of its financial reporting period with comparative amounts for the preceding period (including comparative amounts in the notes) (Bragg, 2021; Murphy, 2020).

The financial statements typically comprise the following components:

  • Statement of profit or loss and other comprehensive income; 
  • Statement of financial position; 
  • Statement of cash flows;
  • Statement of changes in equity; and
  • Notes to the financial statements comprising a summary of significant accounting policies and other explanatory information.

The Statement of profit or loss and other comprehensive income shows the profitability of an entity for the financial reporting period specified. It pitches all items of revenue against expenses incurred to show the profit earned by the entity. It also shows two types of profits: the gross/operating profit (revenue earned less the direct costs of the revenue earned) and the net profit (the gross/operating profit less the indirect costs of operating the entity).  

The Statement of financial position, formerly referred to as Balance sheet, shows the financial position of the reporting entity as at the date of reporting. It compares the total assets with the total liabilities of the reporting entity to arrive at the Shareholders’ Equity, also called the Net Worth of the entity. The net worth of the entity comprises the capital contribution by the shareholders into the entity as well as Retained Earnings. The Shareholders’ equity balance could be negative or positive. A negative balance shows that the shareholders of the entity still have some residual distributable value in the entity while a positive balance shows that the shareholders’ investment has been eroded by the entities’ liabilities to external parties.  

The Statement of cash flows shows the liquidity status of the reporting entity. This statement captures all cash movement within the financial reporting period. 

These movements of cash and cash equivalents are arranged to show the cash amounts utilized and received from the operating, investing, and financing activities of the entity within the financial reporting period respectively. 

The Statement of changes in equity presents the movement in the shareholders’ equity within the financial reporting period.

The Notes to the financial statements give further explanations regarding the individual items on the presented in the other statements previously mentioned. It also comprises the significant accounting policies the entity used in arriving at the amounts disclosed in the financial statements. Financial statement disclosures, both mandatory and voluntary, about the reporting entity within the financial reporting period are also reported within this component. 

The goal of the financial statements is to give a true and fair view of the overall financial health of an entity from multiple perspectives, such that it aids the many users of the financial statements in their decision-making process. 

Please drop your questions, comments and other suggestions in the comment box.

Thank you for reading and look out for our next article!

REFERENCES

Bragg, S. (2021, April 19). Financial Statements Definition. AccountingTools. Retrieved 02 May, 2021, from https://www.accountingtools.com/articles/2017/5/10/financial-statements

IFRS Foundation, 2021. IAS 1 Presentation of Financial Statements. (n.d.). IFRS. Retrieved April 28, 2021, from https://www.ifrs.org/issued-standards/list-of-standards/ias-1-presentation-of-financial-statements/

Murphy, C.B. (2020, September 9). How to Interpret Financial Statements. Investopedia. Retrieved 02 May, 2021 from https://www.investopedia.com/terms/f/financial-statements.asp

Murphy, C. B., & James, M. (2021, January 16). Understanding the Cash Flow Statement. Investopedia. https://www.investopedia.com/investing/what-is-a-cash-flow-statement/

Olarenwaju, O. O. (2012). IFRS PAL (New Edition ed.). DIMKEM PUBLICATIONS LIMITED.

PricewaterhouseCoopers. (n.d.). IAS 7 Cash flow statements. PwC. Retrieved April 28, 2021, from https://www.pwc.com/hu/pwc_digital_learning_solutions/IFRS_e-learnings_modules/IAS-7-cash-flow-statements.html

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