Financial statements
Overview
 
A financial statement is a formal record of the financial activities of a business, person, or other entity. In British English
British English
British English, or English , is the broad term used to distinguish the forms of the English language used in the United Kingdom from forms used elsewhere...

—including United Kingdom company law
United Kingdom company law
United Kingdom company law is the body of rules that concern corporations formed under the Companies Act 2006. Also regulated by the Insolvency Act 1986, the UK Corporate Governance Code, European Union Directives and court cases, the company is the primary legal vehicle to organise and run business...

—a financial statement is often referred to as an account, although the term financial statement is also used, particularly by accountant
Accountant
An accountant is a practitioner of accountancy or accounting , which is the measurement, disclosure or provision of assurance about financial information that helps managers, investors, tax authorities and others make decisions about allocating resources.The Big Four auditors are the largest...

s.

For a business enterprise, all the relevant financial information, presented in a structured manner and in a form easy to understand, are called the financial statements.
Encyclopedia
A financial statement is a formal record of the financial activities of a business, person, or other entity. In British English
British English
British English, or English , is the broad term used to distinguish the forms of the English language used in the United Kingdom from forms used elsewhere...

—including United Kingdom company law
United Kingdom company law
United Kingdom company law is the body of rules that concern corporations formed under the Companies Act 2006. Also regulated by the Insolvency Act 1986, the UK Corporate Governance Code, European Union Directives and court cases, the company is the primary legal vehicle to organise and run business...

—a financial statement is often referred to as an account, although the term financial statement is also used, particularly by accountant
Accountant
An accountant is a practitioner of accountancy or accounting , which is the measurement, disclosure or provision of assurance about financial information that helps managers, investors, tax authorities and others make decisions about allocating resources.The Big Four auditors are the largest...

s.

For a business enterprise, all the relevant financial information, presented in a structured manner and in a form easy to understand, are called the financial statements. They typically include four basic financial statements, accompanied by a management discussion and analysis
Management Discussion and Analysis
Management Discussion and Analysis or MD&A is an integrated part of a company's annual financial statements. The purpose of the MD&A is to provide a narrative explanation, through the eyes of management, of how an entity has performed in the past, its financial condition, and its future prospects...

:
  1. Statement of Financial Position: also referred to as a balance sheet, reports on a company's asset
    Asset
    In financial accounting, assets are economic resources. Anything tangible or intangible that is capable of being owned or controlled to produce value and that is held to have positive economic value is considered an asset...

    s, liabilities
    Legal liability
    Legal liability is the legal bound obligation to pay debts.* In law a person is said to be legally liable when they are financially and legally responsible for something. Legal liability concerns both civil law and criminal law. See Strict liability. Under English law, with the passing of the Theft...

    , and ownership equity
    Ownership equity
    In accounting and finance, equity is the residual claim or interest of the most junior class of investors in assets, after all liabilities are paid. If liability exceeds assets, negative equity exists...

     at a given point in time.
  2. Statement of Comprehensive Income: also referred to as Profit and Loss statement (or a "P&L"), reports on a company's income, expenses, and profits over a period of time. A Profit & Loss statement provides information on the operation of the enterprise. These include sale and the various expenses incurred during the processing state.
  3. Statement of Changes in Equity: explains the changes of the company's equity throughout the reporting period
  4. Statement of cash flows: reports on a company's cash flow activities, particularly its operating, investing and financing activities.


For large corporations, these statements are often complex and may include an extensive set of notes to the financial statements
Notes to the Financial Statements
Notes to financial statements are additional notes and information added to the end of financial statements to supplement the reader with more information. Notes to financial statements help the computation of specific items in the financial statements as well as provide a more comprehensive...

and explanation of financial policies and management discussion and analysis. The notes typically describe each item on the balance sheet, income statement and cash flow statement in further detail. Notes to financial statements are considered an integral part of the financial statements.

Purpose of financial statements by business entities

"The objective of financial statements is to provide information about the financial position, performance and changes in financial position of an enterprise that is useful to a wide range of users in making economic decisions."
Financial statements should be understandable, relevant, reliable and comparable. Reported assets, liabilities, equity, income and expenses are directly related to an organization's financial position.

Financial statements are intended to be understandable by readers who have "a reasonable knowledge of business and economic activities and accounting and who are willing to study the information diligently." Financial statements may be used by users for different purposes:
  • Owners and managers require financial statements to make important business decisions that affect its continued operations. Financial analysis
    Financial analysis
    Financial analysis refers to an assessment of the viability, stability and profitability of a business, sub-business or project....

     is then performed on these statements to provide management with a more detailed understanding of the figures. These statements are also used as part of management's annual report to the stockholders.

  • Employees also need these reports in making collective bargaining
    Collective bargaining
    Collective bargaining is a process of negotiations between employers and the representatives of a unit of employees aimed at reaching agreements that regulate working conditions...

     agreements (CBA) with the management, in the case of labor unions or for individuals in discussing their compensation, promotion and rankings.

  • Prospective investors make use of financial statements to assess the viability of investing in a business. Financial analyses are often used by investors and are prepared by professionals (financial analysts), thus providing them with the basis for making investment decisions.

  • Financial institutions (banks and other lending companies) use them to decide whether to grant a company with fresh working capital
    Working capital
    Working capital is a financial metric which represents operating liquidity available to a business, organization or other entity, including governmental entity. Along with fixed assets such as plant and equipment, working capital is considered a part of operating capital. Net working capital is...

     or extend debt securities (such as a long-term bank loan or debentures) to finance expansion and other significant expenditures.

  • Government entities (tax authorities) need financial statements to ascertain the propriety and accuracy of tax
    Tax
    To tax is to impose a financial charge or other levy upon a taxpayer by a state or the functional equivalent of a state such that failure to pay is punishable by law. Taxes are also imposed by many subnational entities...

    es and other duties declared and paid by a company.

  • Vendors who extend credit to a business require financial statements to assess the creditworthiness of the business.

  • Media and the general public are also interested in financial statements for a variety of reasons.

Government financial statements

The rules for the recording, measurement and presentation of government financial statements
Government financial statements
Government financial statements are annual financial statements or reports for the year. The financial statements, in contrast to budget, present the revenue collected and amounts spent. The government financial statements usually include a statement of activities , a balance sheet and often some...

 may be different from those required for business and even for non-profit organizations. They may use either of two accounting methods: accrual accounting, or cash accounting, or a combination of the two (OCBOA). A complete set of chart of accounts
Chart of accounts
__FORCETOC__A chart of accounts is a created list of the accounts used by a business entity to define each class of items for which money or the equivalent is spent or received...

 is also used that is substantially different from the chart of a profit-oriented business

Financial statements of non-profit organizations

The financial statements that non-profit organization
Non-profit organization
Nonprofit organization is neither a legal nor technical definition but generally refers to an organization that uses surplus revenues to achieve its goals, rather than distributing them as profit or dividends...

s such as charitable organization
Charitable organization
A charitable organization is a type of non-profit organization . It differs from other types of NPOs in that it centers on philanthropic goals A charitable organization is a type of non-profit organization (NPO). It differs from other types of NPOs in that it centers on philanthropic goals A...

s and large voluntary association
Voluntary association
A voluntary association or union is a group of individuals who enter into an agreement as volunteers to form a body to accomplish a purpose.Strictly speaking, in many jurisdictions no formalities are necessary to start an association...

s publish, tend to be simpler than those of for-profit corporations. Often they consist of just a balance sheet and a "statement of activities" (listing income and expenses) similar to the "Profit and Loss statement" of a for-profit. Charitable organizations in the United States are required to show their income and net assets (equity) in three categories: Unrestricted (available for general use), Temporarily Restricted (to be released after the donor's time or purpose restrictions have been met), and Permanently Restricted (to be held perpetually, e.g., in an Endowment).

Personal financial statements

Personal financial statements may be required from persons applying for a personal loan or financial aid
Welfare
Welfare refers to a broad discourse which may hold certain implications regarding the provision of a minimal level of wellbeing and social support for all citizens without the stigma of charity. This is termed "social solidarity"...

. 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. The form to be filled out is determined by the organization supplying the loan or aid.

Audit and legal implications

Although laws differ from country to country, an audit
Audit
The general definition of an audit is an evaluation of a person, organization, system, process, enterprise, project or product. The term most commonly refers to audits in accounting, but similar concepts also exist in project management, quality management, and energy conservation.- Accounting...

 of the financial statements of a public company is usually required for investment, financing, and tax purposes. These are usually performed by independent accountants or auditing firms. Results of the audit are summarized in an audit report
Auditor's report
The auditor's report is a formal opinion, or disclaimer thereof, issued by either an internal auditor or an independent external auditor as a result of an internal or external audit or evaluation performed on a legal entity or subdivision thereof...

 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.

There has been much legal debate over who an auditor is liable to. Since audit reports tend to be addressed to the current shareholders, it is commonly thought that they owe a legal duty of care to them. But this may not be the case as determined by common law precedent. In Canada, auditors are liable only to investors using a prospectus to buy shares in the primary market. In the United Kingdom
United Kingdom
The United Kingdom of Great Britain and Northern IrelandIn the United Kingdom and Dependencies, other languages have been officially recognised as legitimate autochthonous languages under the European Charter for Regional or Minority Languages...

, they have been held liable to potential investors when the auditor was aware of the potential investor and how they would use the information in the financial statements. Nowadays auditors tend to include in their report liability restricting language, discouraging anyone other than the addressees of their report from relying on it. Liability is an important issue: in the UK, for example, auditors have unlimited liability.

In the United States
United States
The United States of America is a federal constitutional republic comprising fifty states and a federal district...

, especially in the post-Enron
Enron
Enron Corporation was an American energy, commodities, and services company based in Houston, Texas. Before its bankruptcy on December 2, 2001, Enron employed approximately 22,000 staff and was one of the world's leading electricity, natural gas, communications, and pulp and paper companies, with...

 era there has been substantial concern about the accuracy of financial statements. Corporate officers (the chief executive officer
Chief executive officer
A chief executive officer , managing director , Executive Director for non-profit organizations, or chief executive is the highest-ranking corporate officer or administrator in charge of total management of an organization...

 (CEO) and chief financial officer
Chief financial officer
The chief financial officer or Chief financial and operating officer is a corporate officer primarily responsible for managing the financial risks of the corporation. This officer is also responsible for financial planning and record-keeping, as well as financial reporting to higher management...

 (CFO)) are personally liable for attesting that financial statements "do not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by th[e] report." Making or certifying misleading financial statements exposes the people involved to substantial civil and criminal liability. For example Bernie Ebbers (former CEO of WorldCom) was sentenced to 25 years in federal prison for allowing WorldCom's revenues to be overstated by billion over five years.

Standards and regulations

Different countries have developed their own accounting principles over time, making international comparisons of companies difficult. To ensure uniformity and comparability between financial statements prepared by different companies, a set of guidelines and rules are used. Commonly referred to as Generally Accepted Accounting Principles
Generally Accepted Accounting Principles
Generally Accepted Accounting Principles refer to the standard framework of guidelines for financial accounting used in any given jurisdiction; generally known as accounting standards...

 (GAAP), these set of guidelines provide the basis in the preparation of financial statements.

Recently there has been a push towards standardizing accounting rules made by the International Accounting Standards Board
International Accounting Standards Board
The International Accounting Standards Board is an independent, privately funded accounting standard-setter based in London, England.The IASB was founded on April 1, 2001 as the successor to the International Accounting Standards Committee...

 ("IASB"). IASB develops International Financial Reporting Standards
International Financial Reporting Standards
International Financial Reporting Standards are principles-based standards, interpretations and the framework adopted by the International Accounting Standards Board ....

 that have been adopted by Australia
Australia
Australia , officially the Commonwealth of Australia, is a country in the Southern Hemisphere comprising the mainland of the Australian continent, the island of Tasmania, and numerous smaller islands in the Indian and Pacific Oceans. It is the world's sixth-largest country by total area...

, Canada and the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 (for publicly quoted companies only), are under consideration in South Africa
South Africa
The Republic of South Africa is a country in southern Africa. Located at the southern tip of Africa, it is divided into nine provinces, with of coastline on the Atlantic and Indian oceans...

 and other countries. The United States
United States
The United States of America is a federal constitutional republic comprising fifty states and a federal district...

 Financial Accounting Standards Board
Financial Accounting Standards Board
The Financial Accounting Standards Board is a private, not-for-profit organization whose primary purpose is to develop generally accepted accounting principles within the United States in the public's interest...

 has made a commitment to converge the U.S. GAAP and IFRS over time.

Inclusion in annual reports

To entice new investors, most public companies assemble their financial statements on fine paper with pleasing graphics and photos in an annual report to shareholders
Annual report
An annual report is a comprehensive report on a company's activities throughout the preceding year. Annual reports are intended to give shareholders and other interested people information about the company's activities and financial performance...

, attempting to capture the excitement and culture of the organization in a "marketing brochure
Brochure
A brochure is a type of leaflet. Brochures are most commonly found at places that tourists frequently visit, such as museums, major shops, and tourist information. Brochure racks or stands may suggest visits to amusement parks and other points of interest...

" of sorts. Usually the company's chief executive will write a letter to shareholders, describing management's performance and the company's financial highlights.

In the United States, prior to the advent of the internet, the annual report was considered the most effective way for corporations to communicate with individual shareholders. Blue chip companies went to great expense to produce and mail out attractive annual reports to every shareholder. The annual report was often prepared in the style of a coffee table book
Coffee table book
A coffee table book is a hardcover book that is intended to sit on a coffee table or similar surface in an area where guests sit and are entertained, thus inspiring conversation or alleviating boredom. They tend to be oversized and of heavy construction, since there is no pressing need for...

.

Moving to electronic financial statements

Financial statements have been created on paper for hundreds of years. The growth of the Web has seen more and more financial statements created in an electronic form which is exchangeable over the Web. Common forms of electronic financial statements are PDF and HTML. These types of electronic financial statements have their drawbacks in that it still takes a human to read the information in order to reuse the information contained in a financial statement.

More recently a market driven global standard, XBRL
XBRL
XBRL is a freely available, market-driven, open, and global standard for exchanging business information. XBRL allows information modeling and the expression of semantic meaning commonly required in business reporting. XBRL is XML-based...

 (Extensible Business Reporting Language), which can be used for creating financial statements in a structured and computer readable format, has become more popular as a format for creating financial statements. Many regulators around the world such as the U.S. Securities and Exchange Commission have mandated XBRL for the submission of financial information.

The UN/CEFACT
UN/CEFACT
UN/CEFACT is an organisation that makes international EDI Electronic Data Interchange standards for electronic trade documents in XML format.- UN/CEFACT History, A UN mission to support trade:...

 created, with respect to Generally Accepted Accounting Principles, (GAAP
Gaap
In demonology, Gaap is a mighty Prince and Great President of Hell, commanding sixty-six legions of demons. He is, according to The Lesser Key of Solomon, the king and prince of the southern region of Hell and Earth, and according to the Pseudomonarchia Daemonum the king of the western region and...

), internal or external financial reporting XML
XML
Extensible Markup Language is a set of rules for encoding documents in machine-readable form. It is defined in the XML 1.0 Specification produced by the W3C, and several other related specifications, all gratis open standards....

 messages to be used between enterprises and their partners, such as private interested parties (e.g. bank) and public collecting bodies (e.g. taxation authorities). Many regulators use such messages to collect financial and economic information.

See also

  • Accountable Fundraising
    Accountable Fundraising
    Accountable Fundraising is the term used to describe a Non-profit organization holding its members "accountable" for their donations by showing them the direct impact of their fundraising efforts...

  • Center for Audit Quality
    Center for Audit Quality
    The Center for Audit Quality is an autonomous public policy organization dedicated to enhancing investor confidence and public trust in the global capital markets...

     (CAQ)
  • Corporate finance
    Corporate finance
    Corporate finance is the area of finance dealing with monetary decisions that business enterprises make and the tools and analysis used to make these decisions. The primary goal of corporate finance is to maximize shareholder value while managing the firm's financial risks...

  • Financial statement analysis
    Financial statement analysis
    Financial statement analysis is the process of understanding the risk and profitability of a firm through analysis of reported financial information, particularly annual and quarterly reports....

  • Comprehensive annual financial report
    Comprehensive annual financial report
    A Comprehensive Annual Financial Report is a set of government financial statements comprising the financial report of a state, municipal or other governmental entity that complies with the accounting requirements—generally accepted accounting principles —promulgated by the Financial Accounting...

  • Model audit
    Model Audit
    A model audit is the colloquial term for the tasks performed when conducting due diligence on a financial model, in order to eliminate spreadsheet error. . A study in 1998 concluded that even MBA students with over 250 hours of spreadsheet development experience had a 24% chance of introducing...


External links

The source of this article is wikipedia, the free encyclopedia.  The text of this article is licensed under the GFDL.
 
x
OK