How to Understand Financial Statements

How to Understand Financial Statements

Financial statements such as your company’s financial announcements. They tell you where your money is going, where and how much to work. They are very useful for smart business movements. And they are 100% necessary if you want to get a loan or attract investors.

Financial statements are financial reports that contain details of the company’s financial information, including assets, liabilities, shares, income and expenses, shareholder contributions, cash flows and other related information during the reporting period. This report usually requires an annual independent review and is presented together with other information in the company’s annual report.

Financial statements are a useful tool for analyzing the financial condition and results of your company. They consist of three main components, of which the balance sheet and income statement are very important. The first element to consider when considering a degree range is whether it is external or internal.

If you are looking for a good introduction to financial statements , read on. We’ll take a look at the basics of any financial statement, and how to read (and use them) – to keep your business functioning.

What are Financial statements?

A financial statement is a report prepared by management to present financial results and conditions at a specific point in time. General annual financial statements usually contain balance sheets, income statements, equity statements and cash flow statements. This report is intended to provide more information to consumers outside the company, such as investors and creditors, about the company’s financial condition. Registered companies must submit this declaration together with others to the regulatory authorities in a timely manner.


The balance sheet summarizes the company’s position for a day at a specific point in time. The balance sheet lists assets, liabilities, and equity at a specific point in time. On the one hand, the balance sheet is a picture of the company at that time. Investors and lenders can use balance sheets to analyze how companies finance capital and operating assets, as well as current investor information.

An income statement details a company’s expenses and income over a specific time. Most companies issue annual income statements, but quarterly and semi-annual income statements are also common. Consumers can analyze the income statement to determine if the business is operating efficiently and is making sufficient profits to fund their ongoing operations and growth.

An owner’s equity statement summarizes all owner and redemption investments by the company over a specified period of time. In addition, the current income statement is recognized in retained earnings.

Understanding financial statement

Financial statements are basically reports that contain financial and accounting information related to business. Companies use these statements to communicate with external stakeholders. This includes shareholders, tax authorities, regulators, investors, creditors and others.

In general, financial statements focus on generally accepted accounting principles (GAAP) in the United States. Based on these principles, companies must prepare and maintain three main financial reports: balance sheet, income statement and cash flow statement. For reporting financial statements public companies have stricter standards rules. Public companies must comply with GAAP standards, which require accrual accounting. Private companies have more flexibility in preparing their financial statements and can use accrual or cash accounting.

Overview of three financial statements

According to the Securities and Exchange Commission, there are three main types of financial statements:

Income statement: An income statement, sometimes referred to as an income statement, shows the profitability of the business organization over a period of time. In accounting, we measure profitability for a period of time such as a month or a year by comparing the revenue generated with the costs of making it. This is the first financial report created because you will need information from this report for other reports. The income statement contains:

  • Revenue is the entry of money from selling products or providing services to customers. We measure sales at an agreed price on the stock exchange where companies deliver goods or provide services.
  • Expenses are the costs involved in generating income. Expenses are expenses related to the business (usually labeled as accounts that end with the word “expenses”).

Revenue – expenses = net income

Net income is often referred to as company profit. When costs exceed sales, the company incurs a net loss. Often the first thing investors or analysts look for is an income statement. The income statement shows the results of the activities for each period and the sales above. The declaration then subtracts the cost of goods sold (COGS) to find the gross profit. Therefore, depending on the type of business, gross profit is influenced by operating expenses and other income to produce a bottom-end net result – the “bottom line” of the business.

Basic functions

  • Shows company income and expenses
  • Expressed for a specific time period (i.e. 1 year, 1 quarter, previous year, etc.)
  • Uses accounting principles such as matching and conditions to present figures (not displayed in cash)
  • Used to assess profitability

Balance Sheet

Balance sheet provides an overview of the company’s total assets, liabilities and equity. This is most commonly expressed as asset = liability + equity. The balance sheet shows the current value of the asset at that time and the cost is amortized. Assets can include both physical and intangible assets such as real estate, inventories, or receivables. Liabilities include all funds owned by the company, including unpaid loans, liabilities and other forms of debt. Equity is the net worth of a company when it sells all of its assets and pays all of its liabilities.

Basic functions
  • Indicates the company’s financial situation
  • Expressed as a “portrait” or financial picture of the company at a specific point in time (i.e. as of December 12 2017)
  • There are three parts: Assets, Liabilities and Equity
  • Assets = liabilities + equity

Cash Flow Statement

The Cash Flow Statement provides an overview of how a company generates cash to pay off its debts, finance its business, and make investments. This will help you know where the company’s money is coming from and how it is being spent. This explanation does not use a specific formula, it only lists the company’s cash-generating activities during a certain period of time, how much money it had at the beginning of the period, and how much money ended at the end of the period.

Basic functions:
  • Shows increases and decreases in cash
  • Expressed for a specific period, billing period (i.e. 1 year, 1 quarter, previous year, etc.)
  • Cancel all accounting policies to show net cash flows
  • There are three parts: money from operations, money for investments, and money from financing
  • Shows the net difference in cash from the beginning to the end of the period

Purpose of the annual financial statement

Financial statements are prepared to provide information about the company’s financial position, the results and changes in the company’s financial position, and cash flows throughout the year so that users can compare results and make economic decisions. The objectives of the annual financial statements are as follows:

  • Determination of financial position, profitability and results.
  • Determine cash flow and flow.
  • Know the results of business operations.
  • Provide information relating to financial resources and company liabilities.
  • Disclosure of accounting policies.
  • Review of the efficiency and effectiveness of company management.

Financial statements are the main source of information for stakeholders to determine the profit or loss of a company during a certain period and its financial position at the end of a certain period, which helps make rational decisions.

Annual financial report components

  • Balance: The balance sheet is a report that shows net worth at the end of the financial year, i.e. H. March 31, 20XX. The remaining amount includes:
  • Assets: Assets on the balance sheet show the amount of assets the company has at the balance sheet date.
  • Liabilities: Liabilities on the balance sheet show the amount of liabilities that the company has to pay in the future (determined at the balance sheet date).
  • Equity and reserves: Equity and reserves are the sum of capital, including the reserve balance. A higher amount of equity and reserves indicates a higher net worth of the company.

Why are financial statements important?

The answer to this question lies in definition; This is a complete company health report that takes cash flow, sales and balances into account. The financial statements determine whether the company is able to repay loans, whether it has cash flow to close accounts and buy shares. It also shows where the business is making money and where the money is going.

The financial statements show whether the business is profitable, whether it will remain profitable, and if there are major problems such as: steady decline in sales over time. By reading financial reports, you will get a complete picture of the state of the business and whether there are warning signs of possible problems in the future. Banks or other similar institutions view financial reports as the first indicator of how the business is performing and whether further research is needed.

What analysts evaluate with Financial statement of cash flows?

The cash flow statement helps the analyst to assess:

  • Source of cash to pay off debts.
  • Source of funds for facility expansion.
  • Difference Between Net Income and Net Cash Flow.
  • Source of funds to finance investment.

Which financial statement is prepared first?

The first annual financial report to produce is your income statement. As you may already know, the income statement has a breakdown of all of your company’s income and expenses. You will need your income statement first as it will provide you with the information you need to prepare other financial reports.

Revenues is the income your company generates. The costs can be various operating costs, such as B. supplies, rent or additional costs. First, create an income statement so you can look at the company’s net income and analyze sales versus debt.

When preparing your income statement, be sure to state your income first. Then list all the expenses your company has during that period and deduct those expenses from your income. At the end of the income statement, you will find out whether you had a net profit or loss for the period.

  • Second is Balance sheet
  • Third is Cash flow statement

What is Financial Statement Analysis?

Financial analysis uses financial data to evaluate a company’s performance and make recommendations on how it can be improved in the future. Financial analysts do most of their work in Excel, using spreadsheets to analyze historical data and make predictions about how the company will perform in the future. This guide covers the most common types of financial analysis carried out by professionals. For more information, see the CFI Fundamentals of Financial Analysis course.

Company financial reports contain important financial information for every aspect of the business. Thus, they can be judged based on past, current, and forecast results.

  • Vertical
  • Horizontal
  • Influence
  • growth
  • profitability
  • liquidity
  • Efficiency
  • Money supply
  • Response rate
  • Evaluation
  • Scenarios and sensitivity
  • Variance

Various techniques are commonly used in balance sheet analysis. The three most important techniques include horizontal analysis, vertical analysis, and ratio analysis. Horizontal analysis compares data horizontally and analyzes line item values for two or more years. Vertical analysis examines the vertical effect of line items on other lines of business as well as the proportion of businesses. Coefficient analysis uses important ratio indicators to calculate statistical relationships.

There are several methods and techniques for carrying out the final analysis. However, the most common methods of financial statement analysis are:

  • Horizontal
  • Vertical analysis
  • Ratio analysis

Let us see about Horizontal analysis in this article!

Horizontal Analysis

Horizontal Analysis is a two-year comparison of the annual accounts analysis and its elements. This is also known as trend analysis, which is usually expressed in monetary and percentage terms. This comparison provides analysts with an overview of the aspects that can contribute significantly to the company’s financial condition or profitability.

For example, suppose a company earned 4 dollars in 2015 than in the previous year. This increase in sales appears to be a positive development. However, a closer look shows that the cost of purchasing goods and services increased by 4.5 dollars . This lovely picture of this additional sale of 4 dollars has now been adjusted to fit the less positive picture.


In the US, companies can choose the accounting standards on which to base their financial reports. Notes to Financial Statements provide information about policy decisions and other information that may be important for a thorough understanding of Financial Statements.

Are you looking to optimize your accounting process? There are many accounting software tools that help you keep your expenses and income organized and updated so that your financial reports are not in trouble.