The Purpose of Financial Statements
The financial statements of a business are used to provide information
about the status of the business, set performance targets and impose
restrictions on the managers of the firm as well as provide an easier
method for financial planning. The financial statements consist of the
Profit and Loss Account, Balance Sheet and the Cash Flow Statement.
There are four areas of information, which we can collect from a
company's financial statements. They are:
Å¸ Profitability - This information comes from the Profit and Loss
account. Were we can compare this year's profit with the previous
Å¸ Liquidity - This information comes from the Balance Sheet and the
Cash Flow Statement.
Å¸ Efficiency - This information can be found in the Balance Sheet but
also some information from the Cash Flow Statement. They both show the
use of company assets and the management of working capital.
Å¸ Capital structure/investment - This information is taking from the
Balance sheet, but also from the Profit and Loss Account. This is
examining the sources of finance the company has used and also looking
at it as a potential investment opportunity.
There are certain features, which must be present if financial
information is to meet the needs of the user. The two most important
features are that:
Å¸ The information should be relevant to those who are using it.
Å¸ The information should also be reliable so the user can make
Other features are:
Å¸ The information should be free of any bias. The information should
be understandable. It should be presented in a clear format and should
not contain irrelevant information.
Å¸ The information should be able to be compared with accounts form
pervious years and accounts from competitors
Å¸ The information should give a true and fair view of the company.
Å¸ The information should be consistent in its presentation.
Å¸ The information should be up to date.
Å¸ The information should be economically presented. The information
should just be what is important. Also since gathering information can
be costly, the cost should never be greater than the benefits, which
are gain from it.
Å¸ The information should always give a complete picture of the state
of the company whether the information is good or bad.
Financial accounting is concerned with reporting information to
external and internal users of financial statements. External users
are people not involved with the day-to-day running of the company.
Internal users are people who are involved. Among the people who use
information collected from accounts are:
Å¸ Shareholders (present and potential)
Å¸ Short and long term creditors