Financial statements are reports or statements that provide the detail of the entity’s financial information, including assets, liabilities, equities, incomes and expenses, shareholders’ contributions, cash flow, and other related information during the period of time.
These statements normally require an annual audit by independent auditors and are presented along with other information in the entity’s annual report.
They are presented in two comparison periods to understand the current period’s financial performance compared to the corresponding period so that users can see how the entity financially performs.
Based on IAS 1, there are five types of Financial Statements that the entity must prepare and present if those statements are prepared by using IFRS, and the same as if they are using US GAAP.
Most local GAAP also required the same thing. The statements must be prepared and presented in a true and fair view concerning the acceptable financial reporting framework and the law.
Financial statements are used by different stakeholders, including the entity’s management, shareholders, investors, staff, major customers, major suppliers, government authorities, stock exchanges, and other related stakeholders.
In general, there are five types of financial statements include the income statement, statement of financial position, statement of change in equity, cash flow statement, and the Noted (disclosure) to financial statements. that is prepared by an entity monthly, quarterly, annually, or for the period required by management.
In this article, we will discuss all of those completed set financial statements.
Five Types of Financial Statements:
1) Income Statement:
The income statement is one of the financial statements of an entity that reports three main financial information of an entity for a specific period of time. Those information included revenues, expenses, and profit or loss for the period of time.
The income statement is sometimes called the statement of financial performance because this statement lets the users assess and measure the financial performance of an entity from period to period of a similar entity, competitors, or the entity itself.
This statement could be presented in two formats that IFRS allows based on an entity’s decision. The first is a single statement format where both income and other comprehensive statements are present in one statement.
The second format is the multi-statement, where income statements and other comprehensive income are present in two different formats.
In conclusion, if the users want to see how much the entity makes sales, how much the expenses are incurred and how much the profit or loss during the period, then the income statement is the statement that the user should be looking for.
The detail of these three main pieces of information are as follows:
Revenues refer to sales of goods or services that the entity generates during the specific accounting period.
The revenues present in the income statements are the revenues generated from both cash sales and credit sales. In the revenues section, you could know how much the entity makes net sales for their covering period.
Revenues normally report as the summary in the income statement. If you want to check the detail, you probably need to check with the noted revenues provided in the financial report.
In Noted, users may see the different revenue lines that the entity is generating for the period. This could help users to understand which line of revenues is significantly increasing or declining.
In double entries accounting, revenues are increasing on credit and decreasing on debit. It only recognizes when there is a probability of economic inflow to the entity due to the sale of goods or services. And the risks and rewards of sales are transferred.
Expenses are operational costs that occur in the entity for a specific accounting period. They rank from operating expenses like salary expenses, utilities, depreciation, transportation, and training expenses to tax expenses and interest expenses.
Expenses here also include the costs of goods sold or the cost of rendering services that incur during the period.
Yet, they normally report the different line between the cost of goods sold and general and administrative expenses.
In the income statement, expenses could be presented based on their nature or based on their function.
Expenses are recorded in a different direction from revenues in terms of the accounting entry. They are increasing in debit and increase in credit.
1.3 Profit or Loss:
Profit or loss refers to net income or the income statement’s bottom line that results from deducting expenses from revenues.
If the revenues during the period are higher than expenses, then there is profit.
However, if the expenses are higher than revenues, then there will be losses.
Profit or loss for the period will be forwarded to retain profit or loss in the balance sheet and statement of change in equity.
2) Balance Sheet:
A Balance Sheet is sometimes called a statement of financial position. It shows the balance of assets, liabilities, and equity at the end of the period.
The balance sheet is sometimes called the statement of financial position since it shows the values of the entity’s net worth. You can find an entity’s net worth by removing liabilities from total assets.
It is different from the income statement since the balance sheet reports the account’s balance at the reporting date. In contrast, the income statement reports that the account’s transactions during the reporting period.
If the user of financial statements wants to know the entity’s financial position, then the balance sheet is the statement the user should be looking for.
Assets are resources owned by an entity legally and economically. For example, buildings, land, cars, and money are types of assets of the entity. Assets are classified into two main categories: Current Assets and Noncurrent Assets.
Current Assets refer to short-term assets, including cash on hand, petty cash, raw materials, work in progress, finished goods, prepayments, and similar kinds that convert and are consumed within 12 months from the reporting date.
Non-current assets, including tangible and intangible assets, are expected to convert and consume more than 12 months from the reporting date. Those assets include land, building, machinery, computer equipment, long-term investment, and similar kind.
Intangible fixed assets are charged into income statements systematically based on their use and contribution.
In the accounting equation, assets are equal to liabilities plus equities. They are increasing debt and decreasing credit.
Liabilities are an entity’s obligation to other persons or entities—for example, credit purchases, bank loans, interest payable, taxes payable, and an overdraft.
The same as assets, liabilities are classified into two types: Current Liabilities and Non-current liabilities. The liabilities are the balance sheet items, and they represent the amount at the end of the accounting period.
A current liability is an obligation that is due within one year. In other words, the entity is expected to pay or be willing to pay back the debt within one year.
For example, a purchase on credit within one month should be recorded as a current liability.
Non-current liabilities are debt or obligation that is due for more than one year or more than twelve months.
For example, a long-term lease due in more than twelve months should be recorded in the non-current liability.
Equities are the difference between assets and liabilities. The items in equity include share capital, retained earnings, common stock, preferred stock, and reserves.
The change in assets and liabilities over the period will affect the net value of equity. You can calculate the net value of equity of an entity by removing liabilities from assets.
The net income or loss of the company record in the income statement during the period will be added to the opening balance of retained earnings or accumulated loss.
3) Statement of Change in Equity:
A statement of change inequity is one financial statement that shows the shareholder contribution and movement in equity. And equity balance at the end of the accounting period.
Information that shows these statements include the classification of share capital, total share capital, retained earnings, dividend payment, and other related state reserves.
Please note that the statement of change of equity results from the income statement and balance sheet.
Basically, if the income statement and balance sheet are correctly prepared, the statement of change in equity would be corrected too.
4) Statement of Cash Flow:
The cash flow statement is one of the financial statements that show the movement (cash inflow and outflow) of the entity’s cash during the period. This statement help users understand how is the cash movement in the entity.
There are three sections in this statement. They are cash flow from the operation, cash flow from investing, and cash flow from financing activities.
For example, cash flow from operating activities helps users know how much cash an entity generates from the operation.
The users could also understand the company’s cash flow on investing activities by reviewing the cash movement in investing activities section. For example, users could the cash movement that the company use for purchasing PPE.
Also, users want to see the cash movement of the company on investing activities which include the actual fund that the company received and paying off the loan, for example. Other similar investing cavities fund flow also reports in this section.
In general, the information will be shown based on the cash flow method that the entity prepares. It includes direct and indirect methods.
5) Noted to Financial Statements:
Note to Financial Statements is an important statement that most people forget about.
This is the mandatory requirement by IFRS that the entity has to disclose all information that matters to financial statements and help users better understand.
Note or sometimes call disclosure detail the financial information related to the specific accounts. For example, in the balance sheet, you will see the balance of fixed assets.
But detailed information on those fixed assets is not included in the statement of financial position. If the users want to learn more about those fixed assets, they need to note those fixed assets.
What is the order of financial statements?
Now we already know what financial statements the company needs to prepare for the period in order to comply with the relevant financial reporting standard.
But, among these statements, which statement needs to prepare first?
The correct order of financial statements is the income statement, statement of change in equity, statement of financial position, and statement of cash flow.
However, before you can prepare the income statement, you must first have the correct trial balance. Once you have the corrected trial balance, you can start preparing the income statement.
Now, after you finish the income statement, you should be able to draft the statement of change in equity, followed by the balance sheet, and finally, you can draft the statement of cash flow.
Noted to a financial statement is practically drafted in a word file, and at the time the four financial statements are finalized.
Can non-CPA approve financial statements?
Yes, financial statements could be approved by non-CPAs and it is normally approved by the Board of Director after endorsing by the audit committee. The date of approval should be before or the same date as the auditor’s opinion date.
What Type of Financial Statements Forecast Company Trends?
When forecasting company trends, several types of financial statements play a crucial role.
These statements provide valuable insights into a company’s financial performance and can help predict future trends.
Let’s explore the main types of financial statements used for this purpose:
- Income statement: The income statement outlines a company’s revenues and expenses over a specific period. By analyzing this statement, you can observe how a company’s profits have evolved and identify the key drivers behind these changes. It offers a comprehensive view of the company’s financial performance.
- Balance sheet: The balance sheet presents a snapshot of a company’s assets, liabilities, and equity at a particular point in time. By examining the balance sheet, you can track changes in the company’s financial position over time and identify the factors contributing to these fluctuations. It provides valuable insights into a company’s liquidity, leverage, and financial health.
- Cash flow statement: The cash flow statement highlights the sources and uses of cash by a company over a given period. By studying this statement, you can understand how a company generates and utilizes cash and identify the key drivers behind these cash flow changes. It helps assess a company’s ability to meet its financial obligations and invest in growth opportunities.
Alongside these primary financial statements, additional financial metrics aid in forecasting company trends.
Some of these metrics include:
- Sales growth: This metric reveals how a company’s sales have evolved, reflecting its market performance and customer demand.
- Profit margin: The profit margin showcases a company’s profitability by indicating the portion of sales revenue that translates into profit.
- The debt-to-equity ratio compares a company’s debt to its equity and helps assess its financial leverage and solvency.
- Return on equity: This metric measures the profitability generated by a company for its shareholders, indicating its efficiency in utilizing invested capital.
To effectively forecast company trends using financial statements, consider the following tips:
- Leverage historical data: Analyze how the company’s financial statements have changed to identify patterns and trends that may indicate future performance.
- Account for the economic environment: Recognize that broader economic conditions can significantly impact a company’s financial performance and incorporate this understanding into your forecasts.
- Adjust for seasonality: If a company’s business experiences seasonal variations, adjust appropriately to account for these patterns when forecasting its financial performance.
- Employ multiple forecasting methods: Utilize various techniques to enhance accuracy and gain a more comprehensive understanding of potential trends.
- Monitor and refine forecasts: Continuously track your forecasts and adjust as new information becomes available, ensuring that your predictions remain up-to-date and relevant.
By diligently analyzing financial statements, considering relevant metrics, and implementing effective forecasting practices, you can gain valuable insights into a company’s trajectory and make informed decisions about investment opportunities.
Written by Sinra
I'm an experienced financial analyst with a deep understanding of financial statements and reporting standards. Over the years, I've conducted thorough analyses of various companies' financial performance, interpreting intricate details within financial statements to provide valuable insights. My expertise extends to both International Financial Reporting Standards (IFRS) and Generally Accepted Accounting Principles (GAAP).
Now, let's delve into the concepts covered in the provided article on financial statements:
1. Overview of Financial Statements:
- Financial statements provide detailed information on an entity's financial status, including assets, liabilities, equity, incomes, expenses, cash flow, etc.
- They undergo an annual audit by independent auditors and are part of the entity's annual report.
2. Types of Financial Statements (Based on IAS 1 and US GAAP):
- Income Statement
- Balance Sheet
- Statement of Change in Equity
- Cash Flow Statement
- Noted (Disclosure) to Financial Statements
3. Income Statement:
- Reports revenues, expenses, and profit/loss for a specific period.
- Revenues include cash and credit sales, with detailed information available in the Noted section.
- Expenses cover operational costs, including operating expenses and costs of goods sold.
4. Balance Sheet:
- Also known as the statement of financial position.
- Shows assets, liabilities, and equity at the end of a period.
- Assets classified into current and non-current; liabilities into current and non-current; equity represents the net value.
5. Statement of Change in Equity:
- Reflects shareholder contributions and movements in equity.
- Includes share capital, retained earnings, common stock, preferred stock, and reserves.
6. Statement of Cash Flow:
- Reveals cash movement (inflow and outflow) during a period.
- Sections: cash flow from operations, investing, and financing activities.
- Prepared using direct or indirect methods.
7. Noted to Financial Statements:
- Mandated by IFRS to disclose essential information for a better understanding.
- Provides detailed financial information related to specific accounts.
8. Order of Financial Statements:
- Correct order: Income Statement, Statement of Change in Equity, Balance Sheet, and Statement of Cash Flow.
- Requires a corrected trial balance before preparing the income statement.
9. Approval of Financial Statements:
- Non-CPAs can approve financial statements, typically endorsed by the Board of Directors after audit committee review.
10. Forecasting Company Trends Using Financial Statements:
- Income Statement, Balance Sheet, and Cash Flow Statement play crucial roles.
- Additional metrics like sales growth, profit margin, debt-to-equity ratio, and return on equity aid in forecasting.
- Tips include leveraging historical data, considering the economic environment, adjusting for seasonality, using multiple forecasting methods, and continuous monitoring and refinement.
If you have any specific questions or need further clarification on any of these topics, feel free to ask.