For the novice: What do we consider Financial Statements?
Financial statements provide a snapshot of a corporation's financial health, giving insight into its performance, operations, and cash flow. Financial statements are essential since they provide information about a company's revenue, expenses, profitability, and debt. There are three major financial statements.
Balance Sheet
The balance sheet shows a company's assets (what they own), liabilities (what they owe), and stockholders' equity (or ownership) at a given moment.
Financial position (i.e., listing of resources and obligations) on a specific date
Assets = Liabilities + Stockholders’ Equity
This equation must always balance!
Income Statement
The income statement reports the revenue generated from sales, the operating expenses involved in creating that revenue as well as other costs, such as taxes and interest expense on any debt on the balance sheet. The net amount or the bottom line of the income statement is the net income or the profit for the period. Net income is revenue minus all of the costs of doing business.
Results of operations over a period of time using accrual accounting (i.e., recognition tied to business activities)
Net income = Revenues – Expenses
Statement of Cash Flows
The cash flow statement (CFS) measures the cash generated for a period, including all of the transactions added to or subtracted from cash. Cash flow is important because it shows how much cash is available to meet short-term obligations, invest in the company, or pay dividends to shareholders.
Sources and uses of cash over a period of time
Operating, Investing, and Financing Activities
Financial Statements highlights:
Balance Sheet
Assets – Resources owned by a business that are expected to provide future economic benefits
Liabilities – Claims on assets by “creditors” (non-owners) that represent an obligation to make future payment of cash, goods, or services
Stockholders’ Equity - Claims on assets by owners of business. T here are two main components:
Contributed Capital (arises from sale of shares)
Retained Earnings (arises from operation: Increased by Revenues and Decreased by Expenses and Dividends .
Typical Assets
• Cash: Cash plus short-term, liquid investments
• Accounts Receivable: Amounts owed by customers – Sales already recorded, cash collection in future
• Inventory: Cost of goods available for sale – Cash already paid; expense (COGS) in future
• Prepaid Expenses: Operating costs paid in advance – Cash already paid; expense (SG&A) in future
• Property: Carried at historical cost; not depreciated
• Plant & Equipment: Carried at depreciated cost, Accumulated Depreciation: Sum of past depreciation; Net PP&E = PP&E – Accumulated
Depreciation
• Intangible assets: Contractual rights like patents or trademarks
Typical Liabilities & Stockholders’ Equity
• Accounts Payable: Amounts owed to suppliers on purchases – Inventory already recorded; cash payment in future
• Notes Payable: Amounts owed to banks on loans – Split between current (due w/in year) and long-term
Accrued Payables: Operating costs (wages, salaries, interest, taxes) not yet paid in cash – Expense (SG&A) already recorded; cash payment in future
• Common Stock and Additional Paid-in-Capital: Proceeds from issuing shares of stock
• Retained Earnings: Sum of all prior net income less dividends
Income Statement
Revenues
Increases in stockholders’ equity from providing goods or services
Also called “Sales”, “Credits”, “Gains”
Expenses
Decreases in stockholders’ equity incurred in the process of generating revenues
Also called “Provisions”, “Charges”, “Losses”
Net Income (or Earnings or Net Profit)
= Revenues - Expenses => DOES NOT EQUAL CHANGE IN CASH!!!
Typical Income Statement Accounts
• Sales or Revenue: Value of goods delivered to customers during the period (using sales price)
• Cost of Goods Sold (COGS): Cost of goods or services delivered to customers during the period (using historical cost of acquiring goods)
• Selling, General, and Admin (SG&A) Expenses: Operating costs incurred during the period
• Interest Expense: Interest incurred during the period
• Other gains/losses: non-operating gains and losses usually from long-term asset sales (e.g., equipment, investments)
• Income Tax Expense: Taxes owed based on pre-tax income
Statement of Cash Flows
Cash transactions during the period are summarized on the Statement of Cash Flows
Operating Activities – Transactions related to the provision of goods or services and other normal business activities
Investing Activities – Transactions related to the acquisition or disposal of long-lived productive assets
Financing Activities - Transactions related to owners or creditors
Which financial statement is most important to shareholders? No single financial statement is most important, since the balance sheet, income statement, and statement of cash flows all contain crucial pieces of information
Financial statements are important to investors because they can provide enormous information about a company's revenue, expenses, profitability, debt load, and the ability to meet its short-term and long-term financial obligations.
