A Good Looking Set of Financial Statements:
By Fahad Suleman, CPA
September 7, 2020
A good looking set of financial statements of a business are a set of financial documents that provide a snapshot of a business’s financial position and performance at a certain point in time. These statements can provide overview of financial activities and health of a business during the period and provide required financial information to shareholders, lenders and other interested groups. A set of good looking financial statements are always prepared in accordance to the accounting standards that are being followed by the business (e.g. Public companies are bound to follow International Financial Reporting Standards (“IFRS”) and private businesses usually follow Accounting Standards for Private Entities (“ASPE”)). Until unless, it’s the first period of operations, comparative statements include prior period amounts for each item in the financial statements to show the change in amounts within the two periods. A set of financial statements usually includes the following statements:
· A Balance Sheet
· A Statement of Retained earnings
· An Income Statement
· A Statement of Cash Flows (usually included in reviewed or audited set of financial statements)
· Note disclosures
A balance sheet (also known as a statement of financial position) is essentially a snapshot of a business’s financial position on a particular date. It provides an overview of a business’s assets, liabilities and equity. A balance sheet is based on the following formula:
Assets = Liabilities + Shareholder’s equity
A good looking balance sheet will list all of the assets in an order based on liquidity. For assets, a balance sheet will start with Cash as being the most liquid asset to Capital assets which will take the most amount of time to convert into cash. Liabilities are usually listed based on when they are required to be paid. Short term liabilities like accounts payable are usually listed first until Long-term liabilities. Shareholder’s (Owner’s) Equity is the last section which generally includes share capital and retained earnings of an organization.
Statement of Retained Earnings:
Statement of retained earnings is usually a financial statement which is produced under ASPE. This statement helps portray private enterprises in Canada to provide a focus on
understanding how net income is accumulated and distributed in the organization. This statement provides details regarding the amount of net income or profit that is left in a business after dividends have been distributed to its shareholders. This statement can be prepared as a standalone schedule or be appended to the bottom of another financial statement such as balance sheet. Statement of Retained earnings usually lists the beginning value of the retained earnings in a business; Generally, Net income or loss in the period are added to this value and dividends paid in the period are deducted from this value to calculate the Retained earnings at the end of the period.
An income statement is also known as statement of Profit or loss. An income statement shows a company’s financial performance over a period. By reviewing this financial statement, one can determine if the business is generating a profit or loss through its operations and where the revenues are being generated from and what are the operating costs related to running the business. An income statement includes all revenue generated by a business. This revenue is reduced by cost of sales for an organization to calculate gross profit which is further reduced by operating expenses and income tax to calculate net income of an organization. Revenue and expenses in an income statement are usually listed in a descending order for the dollar amount related to each category.
Statement of Cash flows (Usually provided with reviewed or audited set of financial statements):
A statement of cash flows is a financial statement that portrays how changes in the balance sheet and income statement affects cash and cash equivalents in a business. This financial statement is usually used to understand the solvency of a business which is if the business will have sufficient funds to meet its current obligations. This statement when read with other financial statements provides a clear view of the viability of a business. For example, even though a business could be profitable in a period but if a substantial portion of the funds are not collected for credit sales in a timely fashion it could result in lack of cash to meet its current debt obligations.
Statement of cash flows usually portrays changes in the cash flow of a business through breaking down cash flow through the following business activities:
· Operating Activities: This section includes in and outflows of cash which is related to operations of a business. Generally, Inflows reflect activities related to sales of products or services and interest, dividends which are received by the business. Outflows generally include cash paid to suppliers, subcontractors or to employees, overhead expenses, income taxes and other cash payments related to operations of a business.
· Investing Activities: Inflow from investing activities generally includes any inflows from business investments, sale of business assets (except inventory) and other income usually not generated from operating activities of a business. Outflows can usually include any amounts invested in capital markets (marketable securities) and purchase of capital assets or acquisition of other business or companies.
· Financing Activities: This section usually includes any inflow of cash activity regarding issuance of stocks or repayment of debt. Outflows in this section generally includes issuance of long term debt or bonds and payment of dividends to shareholders.
Last section on the statement of cash flows includes a reconciliation of the total cash position from the beginning of the period to the end of the period which should match the cash amount listed on the balance sheet of the business.
Note disclosures usually provide a detailed explanation of various items included in the financial statements. Various note disclosures are required as per the accounting standards followed by the business to provide a better understanding of the business, its policies and individual items on the financial statements to its users.
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