Accounting / Bookkeeping Basics: What Is A Financial Statement?

What Is A Financial Statement?
Financial statements of the collective term used to refer to a financial report prepared by a business to gauge its financial performance as well as a position at a specific time. Financial statements are prepared with the objective of providing information about the financial health of a business to all those who are interested in the business. It caters to the needs of the investors of creditors, the internal team of management of a business, and also all those other users outside the business. It is the main source of financial information for decision-makers. Apart from this, it also helps check the accuracy and reliability of the books of accounts.

Benefits Of Financial Statements
Financial statements help understand the financial status of a business. The difference between success and failure is based on monitoring the financial health for business. For instance, by properly analyzing the financial statements, you can regulate the  way the business spends money and deploy funds towards those activities that are important for the development and growth of the business. In this section, you’ll learn about the different benefits associated with financial statements.
The balance sheet provides detailed information on everything that the business owns and owes. The income statement shows the profitability of a business, whereas the cash flow statement covers all finances engaged in business from an accrual to a cash basis. It essentially helps measure the flow of funds in and out of business. So, the first benefit of a financial statement is the provision of a detailed analysis of the financial health of a business.
Since financial statements provide a bird’s eye view of the financial position of a business, they are believed to be helpful while making business decisions. They help identify any business trends, the rate at which the businesses are collecting its receivables, any cash flow problems, and the rate of payment of debts. For instance, any report associated with the Accounts Receivable bill helped identify all those who are making timely payments and those who are falling behind on their payments. By using this financial statement, you can determine the list of customers who are in good standing and the ones who are not. Financial statements essentially help with strategic decision-making.
Obtaining credit is an important part of running a business. After all, it is not possible to cater to all the financial requirements of a business from the funds available. Whenever a business applies for a loan, the first thing a lender or a financial institution will look at are the financial statements. A balance sheet shows the creditor all the debts the business has to repay. Apart from this, by maintaining these internal accounts, you can ensure timely and prompt payments of all debts and bills. This, in turn, helps improve the credit standing of the business. Another advantage of preparing financial statements is that they help with tax compliance. To calculate the quarterly state and federal tax obligations, you require financial statements. Sales and annual taxes are state tax obligations. Federal tax obligations include any taxes associated with payroll and annual income. In case of an audit, all these statements come in handy.

Limitations Of Financial Statements

The nature of the figures, along with the way they are reported, usually gives the impression that financial statements are accurate, final, and precise. However, that is not the case. Yes, the statement certainly has a lot of benefits, but there are certain limitations that suffer from too.

Whatever the profit reported by the income statement and the financial position disclosed by the balance sheet cannot be exact in that since these are just an interim report. The exact position can only be determined whenever the business is liquidated.
The balance sheet is also influenced by various accounting concepts. For instance, fixed assets are always valued by using the going concern concept, whereas detectors and stock in trade are valued using the conservatism concept. Because of this, the balance sheet does not show the financial position of the concern, as it usually claims.
The net income disclosed by the income statement is not always absolute but is relative because the statement is the outcome of different conventions and concepts used, proper recognition of revenue. The concept and conventions affecting the calculation of income are many, the calculation of expired cost is a tricky process, and the recognition of revenue is also affected by different considerations.
Financial statements don’t record and reveal any fact that cannot be expressed in monetary terms. For instance, important aspects of a business like the quality of the work done by the employees, the efficiency of the Management, their sales policy, the product or service quality provided by the company, and so on are not exhibited in the financial statements. Anything that cannot be expressed in monetary terms is effectively excluded.
 

Types Of Financial Statements
The four financial statements prepared by every business are explained below.

Income Statement
The income statement is also known as the profit and loss statement. It shows the financial performance of a business in terms of net profit or net loss incurred for a specific period. There are two main elements in an income statement. The first element is the income. It refers to the revenue that the business has during a financial period. The second element is the expense. All the costs associated with running and maintaining the business are included in this portion of the income statement. The balance of an income statement essentially shows whether a business on the profit or sustain the laws during a specific financial period.

Balance Sheet
The balance sheet is also known as the statement of financial position. As the name suggests, it shows the financial position of a business entity at a given time. There are three elements of a balance sheet, and they are the assets, liabilities, and equity. Everything that business owns or possesses a known as its assets..

Cash Flow Statement
The cash flow statement shows the movement of funds between the cash in the bank balances of business over a period of time. There are three aspects of a cash flow statement.

These aspects are the operating activities, investing activities, and the financing activities business has undertaken during a specific period. Any cash flow from the primary activity of a business is known as an operating activity. Any cash flow from the purchase or sale of an asset is known as investing activity. Any cash flow associated with obtaining and repaying debts in a business is known as a financing activity.

Statement of Retained Earnings
The statement of retained earnings is also known as the statement of changes and equity. It essentially provides details about the flow of owners' equity in business over a period. This statement is prepared by taking into account net profit or loss, any share capital issued or repaid, payment of dividends, profits or losses arising from changes and equity, and any effect caused because of change in accounting policy or accounting errors.

Why Do We Need A Financial Statement?
The financial statement of a business serves different purposes to a different set of people and the statement is provided for dissemination. There are parts of the financial statement that may be of interest to certain parties as they will divulge that information  that helps decision making, checking the status of the company and planning.
Basically, the financial statement provides accounting information about the company, which shows how the business is being run, the way cash and assets are used and what is left after a certain period of time.
The production of financial statements is a collation of bookkeeping for a set period of time. It is expected that a company provides its financial statement to shareholders and the public, so the information provided for that period will be collated and presented. That is why it is important to record every piece of financial information and transactions in an ordered account method for ease in using them to produce such information.
The financial statement is made up of different parts, which provide a different interpretation of how the operation is carried out, the cash flow and how the assets of the company are used.
The income statement is an important financial statement of the company and one that investors are primarily interested in analyzing. From the income statement, the profitability of the Company can be ascertained, as it shows the volume of sale and how the company spends money - that is its expenses. A good income statement shows that the company is healthy and can generate income for investors who will be assured of profit in due time.
The income statement mentioned contains all the expenses the company has operated on over time. With these statements, the person studying the statement can find out the trends within the company. With such knowledge, a decision can be made that will affect the business based on the knowledge of how the company has been spending its cash in their expenses statement.
The balance sheet is another important financial statement that will show the present state of the company at the period the statement was presented. This statement will enable you to analyze the future of the company and if the present way of running the business is sustainable. With this point of view, you can make a decision on how the operation of the business will be handled. From the statement, the liquidity of the business, its funding and debt status of the company can be analyzed. Major decisions affecting businesses can be made when such information is studied.
The statement of cash flow shows the cash movement and the  purposes of the operations made. A business owner will want to know the flow of cash and the purposes that cash was used for and how this affects the business. Such statements will determine specific spending in the next business budget. Such statements are important to planning the next business period, after the statement had been produced.
The financial statement contains all major information analyzed, which is a compilation of data recorded over a period of time. All these statements are important for the shareholders, public, investors and for the people running the business.

The aggregates of financial statements are used for:
This can be used by investors to analyze the prices of the business if they intend or are interested in investing in the business. The information is required by the investors as they want to know how the business has been faring over time and determine the profitability of their investments.
Government entities also require the financial statements of a business to estimate the tax or exemption offered to the business. You can calculate your tax returns, which will enable you check for errors by government entities that come to analyze your accounts.
With proper financial statements, you will also be able to check for bank errors, which will save you from paying more than you should pay.
Financial statements are required by lenders to determine if your business is qualified for credit facilities. They will analyze your information to ascertain that the information provided is accurate, which will determine the status of the company to receive credit.
Financial statements provide the public with information on how the business is being operated for a public company.
The financial statement is also essential for internal decision making of the company. The statement, which provides information on how the company is being run, will be used to make future decisions that will affect the business.
The financial statements are a compilation of various information and are used for different purposes depending on who is viewing it.