What is financial statement analysis?

What is financial statements

Financial statements are a collection of summary-level reports about an organizations financial results, financial position, and cash flows.

They include the income statement, balance sheet, and statement of cash flows.

,Advantages of Financial StatementsFinancial Statements are useful for the following reasons:,To determine the ability of a business to generate cash, and the sources and uses of that cash.

,To determine whether a business has the capability to pay back its debts.

,To track financial results on a trend line to spot any looming profitability issues.

,To derive financial ratios from the statements that can indicate the condition of the business.

,To investigate the details of certain business transactions, as outlined in the disclosures that accompany the statements.

,To use as the basis for an annual report, which is distributed to a companyu2019s investors and the investment community.

,Disadvantages of Financial StatementsThere are few downsides to issuing financial statements.

A possible concern is that they can be fraudulently manipulated, leading investors to believe that the issuing entity has produced better results than was really the case.

Such manipulation can also lead a lender to issue debt to a business that cannot realistically repay it.

,The Balance SheetOne of the financial statements is the balance sheet.

It shows an entitys assets, liabilities, and stockholders equity as of the report date.

In this report, the total of all assets must match the combined total of all liabilities and equity.

The asset information on the balance sheet is subdivided into current and long-term assets.

Similarly, the liability information is subdivided into current and long-term liabilities.

This stratification is useful for determining the liquidity of a business.

Ideally, the total of all current liabilities should exceed the total of all current liabilities, which implies that a business has sufficient assets to pay off its current obligations.

The balance sheet is also used to compare debt levels to the amount of equity invested in the business, to see if its leverage level is appropriate.

,The Income StatementAnother financial statement is the income statement.

It shows the results of an entitys operations and financial activities for the reporting period.

It usually contains the results for either the past month or the past year, and may include several periods for comparison purposes.

Its general structure is to begin with all revenues generated, from which the cost of goods sold is subtracted, and then all selling, general, and administrative expenses.

The result is either a profit or loss, which is net of income taxes.

,The Statement of Cash FlowsThe final financial statement is the statement of cash flows.

It shows changes in an entitys cash flows during the reporting period.

These cash flows are divided into cash flows from operating activities, investing activities, and financing activities.

The bulk of all cash flows are generally listed in the operating activities section, which state the cash inflows and outflows related to the basic operations of the business, such as from changes in receivables, inventory, and payables balances.

The investing activities section contains cash flows from the purchase or sale of investment instruments, assets, or other businesses.

The financing activities section contains cash flows related to the acquisition or paydown of debt, dividend issuances, stock sales, and so forth.

,Supplementary NotesWhen financial statements are issued to outside parties, then also include supplementary notes.

These notes include explanations of various activities, additional detail on some accounts, and other items as mandated by the applicable accounting framework, such as GAAP or IFRS.

The level and types of detail provided will depend on the nature of the issuing entityu2019s business and the types of transactions in which it engaged.

,Presentation of the Financial StatementsIf a business plans to issue financial statements to outside users (such as investors or lenders), the financial statements should be formatted in accordance with one of the major accounting frameworks.

These frameworks allow for some leeway in how financial statements can be structured, so statements issued by different firms even in the same industry are likely to have somewhat different appearances.

Financial statements that are being issued to outside parties may be audited to verify their accuracy and fairness of presentation.

,If financial statements are issued strictly for internal use, there are no guidelines, other than common usage, for how the statements are to be presented.

,At the most minimal level, a business is expected to issue an income statement and balance sheet to document its monthly results and ending financial condition.

The full set of financial statements is expected when a business is reporting the results for a full fiscal year, or when a publicly-held business is reporting the results of its fiscal quarters.

Types of financial statements

A financial statement is a statement that is mainly prepared to show the financial PERFORMANCE of an entity for a certain period of time, or to show the financial POSITION of an entity at a particular date.

They are 4 main financial statements.

,The Statement of Profit or Loss and other Comprehensive Income.

This shows the performance of an entity regarding whether it has made a profit or a loss, and how much.

,The Statement of Financial POSITION.

This shows the financial position of an entity at a particular date, usually the financial reporting date.

It shows the balances of the entitys assets, liabilities and equity.

,The Statement of Changes in Equity.

This shows the movements that have occurred, which affect the overall equity balances at the financial reporting date.

It shows items such as issue of new shares, revaluation of assets, issuance of dividends etc.

,The Statement of Cash Flows.

This shows the movement of the businessu2019 cash and cash equivalents during a financial period.

Financial statements examples

A financial statement is a statement that is mainly prepared to show the financial PERFORMANCE of an entity for a certain period of time, or to show the financial POSITION of an entity at a particular date.

They are 4 main financial statements.

,The Statement of Profit or Loss and other Comprehensive Income.

This shows the performance of an entity regarding whether it has made a profit or a loss, and how much.

,The Statement of Financial POSITION.

This shows the financial position of an entity at a particular date, usually the financial reporting date.

It shows the balances of the entitys assets, liabilities and equity.

,The Statement of Changes in Equity.

This shows the movements that have occurred, which affect the overall equity balances at the financial reporting date.

It shows items such as issue of new shares, revaluation of assets, issuance of dividends etc.

,The Statement of Cash Flows.

This shows the movement of the businessu2019 cash and cash equivalents during a financial period.

Financial statement analysis

The better way of analyzing a financial statement is totally depend upon your purpose.

Stil in a generalize way there are some important points need to consider in analysis :-,First understand the domain of the industry.

One need to gather basic understanding of industrail scenario of the entity because every industry has their own set of ideal practices.

For eg.

A Banking company has totally different perespective with regards to the liquidity and capital adiquacy as compared to the company belongs to real estae domain.

Understand the business of a particular industry is the first step to conduct fundamental analysis of financial statement.

,Obtain comparative details and arrange it on a spreadsheet in a summarize way.

,Calculate the following ratios :,Profit ratios(Operating profit, Cash Profit, Net Profit etc),Liquidity Ratios( Current Ratio, Quick Ratio etc),Capital Adiquacy and debt ratios(Debt equity, capital gearing, DSCR, Leverage analysis),Growth ratios(growth in sales, individual cost, profit, finance cost, net worth, debt, other current assets and liabilities, working capital etc),If you want to analyze business in depth then some Advance ratios (Yield analysis, Inventory & debtor turnover ratios, Sensitivity analysis with regards to external factors etc),Prepare valuation model through different methods of valuation (Book Value, Market Value, Earning model value etc),4.

Here the real work begins.

Now the quality of analysis is depends upon your knowlede and experience.

Understand the operating and financial performance of the entity.

Draw a detail comparative analysis over a specific period of time.

Prepare a rough future forecast considering comparative details and all the relevant external factots.

Asses the future earning potential through such projections.

,Scope of analysis are vast though depend upon the purpose.

I am sharing with you some extracts of my first analysis during my articleship days :-),Though these are very basic analysis but still you get a rough idea about it.

Messege me if need any detail info related to same.

,Hope this would help.

:-)

Financial statements of a company

If itu2019s a publicly traded company, they often put their financials on the website.

You can also call their inventor relations department and request a copy.

Another way to get it is to just buy a single share of the companyu2019s stock, And as a shareholder they will semd you a copy.

,If itu2019s a private company, good luck trying to get one unless youu2019re a banker and the company is trying to borrow money from you.

Components of financial statements

Taken together, the components of a financial statement provide (only) the financial condition of a business.

They include:,Balance sheet- on look at the assets, liabilities and net worth at a specific point in time,Profit & Loss - provides sales, expenses and profit over a length of time,net worth reconcilement - compares profit or loss to a prior periodu2019s net worth,net cash income statement - measures overall income converted to cash movement,cash flow statement - show how cash is used

Statement of financial position

The reason is described at length in Basis of Conclusions of IAS 1 para BC14 - BC21.

In summary, IASB views that the new title better reflects the function of the financial statement.

The old title pretty much describes the structure of the statement not so about the function.

The board is also in opinion that the new title is more consistent with the references made in the IFRS Framework and what people use to describe on the objective of the statement which is no other than to present the financial position of an entity.

,The relevant excerpts from the standards are as follows for your convenience.

Hope this helps.

,Titles of financial statements.

,[BC14] The exposure draft of 2006 proposed changes to the titles of some of the financial statementsu2014from balance sheet to statement of financial position, from income statement to statement of profit or loss and from cash flow statement to statement of cash flows.

In addition, the exposure draft proposed a statement of recognised income and expense and that all owner changes in equity should be included in a statement of changes in equity.

The Board did not propose to make any of these changes of nomenclature mandatory.

n,[BC15] Many respondents opposed the proposed changes, pointing out that the existing titles had a long tradition and were well understood.

However, the Board reaffirmed its view that the proposed new titles better reflect the function of each financial statement, and pointed out that an entity could choose to use other titles in its financial report.

n,[BC16]tThe Board reaffirmed its conclusion that the title statement of financial position not only better reflects the function of the statement but is consistent with the Framework for the Preparation and Presentation of Financial Statements, which contains several references to financial position.

Paragraph 12 of the Framework states that the objective of financial statements is to provide information about the financial position, performance and changes in financial position of an entity; paragraph 19 of the Framework states that information about financial position is primarily provided in a balance sheet.

In the Boards view, the title balance sheet simply reflects that double entry bookkeeping requires debits to equal credits.

It does not identify the content or purpose of the statement.

The Board also noted that financial position is a well-known and accepted term, as it has been used in auditors opinions internationally for more than 20 years to describe what the balance sheet presents.

The Board decided that aligning the statements title with its content and the opinion rendered by the auditor would help the users of financial statements.

n,[BC17]tAs to the other statements, respondents suggested that renaming the balance sheet the statement of financial position implied that the cash flow statement and the statement of recognised income and expense do not also reflect an entitys financial position.

The Board observed that although the latter statements reflect changes in an entitys financial position, neither can be called a statement of changes in financial position, as this would not depict their true function and objective (ie to present cash flows and performance, respectively).

The Board acknowledged that the titles income statement and statement of profit or loss are similar in meaning and could be used interchangeably, and decided to retain the title income statement as this is more commonly used.

n,[BC18]tThe title of the proposed new statement, the statement of recognised income and expense, reflects a broader content than the former income statement.

The statement encompasses both income and expenses recognised in profit or loss and income and expenses recognised outside profit or loss.

n,[BC19]tMany respondents opposed the title statement of recognised income and expense, objecting particularly to the use of the term recognised.

The Board acknowledged that the term recognised could also be used to describe the content of other primary statements as recognition, explained in paragraph 82 of the Framework, is the process of incorporating in the balance sheet or income statement an item that meets the definition of an element and satisfies the criteria for recognition set out in paragraph 83.

Many respondents suggested the term statement of comprehensive income instead.

n,[BC20]tIn response to respondents concerns and to converge with SFAS 130, the Board decided to rename the new statement a statement of comprehensive income.

The term comprehensive income is not defined in the Framework but is used in IAS 1 to describe the change in equity of an entity during a period from transactions, events and circumstances other than those resulting from transactions with owners in their capacity as owners.

Although the term comprehensive income is used to describe the aggregate of all components of comprehensive income, including profit or loss, the term other comprehensive income refers to income and expenses that under IFRSs are included in comprehensive income but excluded from profit or loss.

n,[BC20A]tIn May 2010 the Board published the exposure draft Presentation of Items of Other Comprehensive Income (proposed amendments to IAS 1) relating to the presentation of items of other comprehensive income (OCI).

One of the proposals in the exposure draft related to the title of the statement containing profit or loss and other comprehensive income.

The Board proposed this change so that it would be clear that the statement had two components: profit or loss and other comprehensive income.

A majority of the respondents to the exposure draft supported the change and therefore the Board confirmed the proposal in June 2011.

IAS 1 allows preparers to use other titles for the statement that reflect the nature of their activities.

n,[BC20B]tSeveral other IFRSs refer to the statement of comprehensive income.

The Board considered whether it should change all such references to statement of profit or loss and other comprehensive income.

The Board noted that the terminology used in IAS 1 is not mandatory and that statement of comprehensive income is one of the examples used in the standard.

The Board decided that there was little benefit in replacing the title statement of comprehensive income in other IFRSs or income statement with the statement of profit or loss.

However, the Board did change the terminology when an IFRS made reference to the two-statement option.

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