A statement of cash flow ties these two together by tracking sources and uses of cash. Together, financial statements communicate how a company is doing over time and against its competitors. A balance sheet, along with the income and cash flow statement, is an important tool for investors to gain insight into a company and its operations. It is a snapshot at a single point in time of the company’s accounts—covering its assets, liabilities, and shareholders’ equity. The purpose of a balance sheet is to give interested parties an idea of the company’s financial position, in addition to displaying what the company owns and owes. It is important that all investors know how to use, analyze and read a balance sheet.
Ratios fall under a variety of categories, including profitability, liquidity, solvency, efficiency, and valuation. While there are many metrics you can use to evaluate financial health, one of the surest means is through financial statement analysis. Here’s a look at the different types of analyses you can conduct to gain a better understanding of your company’s financial health.
Keep in mind that your financial statements are only a starting point for analysis. Individual numbers aren’t good or bad in themselves—you may have to dig for the reason behind any numbers that seem out of order. The key is to use your statements to spot trends and anomalies, and then follow these up with further investigation.
Depending on the company, the exact makeup of the inventory account will differ. For example, a manufacturing firm will carry a large number of raw materials, while a retail firm carries none. The makeup of a retailer’s inventory typically consists of goods purchased from manufacturers and wholesalers.
Current liabilities are the company’s liabilities that will come due, or must be paid, within one year. This includes both shorter-term borrowings, such as accounts payables (AP), which are the bills and obligations that a company owes over the next 12 months (e.g., payment for purchases made on credit to vendors). Thus, with the above information, we can conclude that the company’s balance sheet is balanced as both the factors, such as assets and liabilities or shareholder’s equity, are the same. On the financial position statement, assets are represented on the left, and liabilities and equity on the right. Assets and liabilities are further subdivided into current and noncurrent (or long term) depending on the ease with which assets can be converted into cash and liabilities can be settled.
Cash from financing activities includes the sources of cash from investors or banks, as well as the uses of cash paid to shareholders. Financing activities include debt issuance, equity issuance, stock repurchases, loans, dividends paid, and repayments of debt. On the balance sheet, assets and liabilities are broken into current and non-current items. Current assets or current liabilities are those with an expected life of fewer than 12 months. The purpose of a cash flow statement is to provide a detailed picture of what happened to a business’s cash during a specified duration of time, known as the accounting period.
Results of the audit are summarized in an audit report that either provide an unqualified opinion on the financial statements or qualifications as to its fairness and accuracy. The audit opinion on the financial statements is usually included in the annual report. Personal financial statements may be required from persons applying for a personal loan or financial aid. Typically, a personal financial statement consists of a single form for reporting personally held assets and liabilities (debts), or personal sources of income and expenses, or both.
A financial analyst guides companies or individuals on business investment decisions by analysing economic trends, current business news, and companies’ overall business strategy. Generally speaking, however, attention to detail making a payment is a key component in accountancy, since accountants must be able to diagnose and correct subtle errors or discrepancies in a company’s accounts. The ability to think logically is also essential, to help with problem-solving.
For instance, gross profit margin will show the difference between revenues and the cost of goods sold. If the company has a higher gross profit margin than its competitors, this may indicate a positive sign for the company. At the same time, the analyst may observe that the gross profit margin has been increasing over nine fiscal periods, applying a horizontal analysis to the company’s operating trends. Companies use the balance sheet, income statement, and cash flow statement to manage the operations of their business and to provide transparency to their stakeholders. All three statements are interconnected and create different views of a company’s activities and performance.
Although financial statements provide a wealth of information on a company, they do have limitations. The statements are open to interpretation, and as a result, investors often draw vastly different conclusions about a company’s financial performance. Long-term liabilities are debts and other non-debt financial obligations, which are due after a period of at least one year from the date of the balance sheet.
In the United States, especially in the post-Enron era there has been substantial concern about the accuracy of financial statements. Accounts receivables (AR) consist of the short-term obligations owed to the company by its clients. Companies often sell products or services to customers on credit; these obligations are held in the current assets account until they are paid off by the clients.
Financial strength ratios, such as the working capital and debt-to-equity ratios, provide information on how well the company can meet its obligations and how the obligations are leveraged. These ratios can give investors an idea of how financially stable the company is and how the company finances itself. Activity ratios focus mainly on current accounts to show how well the company manages its operating cycle (which include receivables, inventory, and payables). Suppose that we are examining the financial statements of the fictitious publicly listed retailer The Outlet to evaluate its financial position.