Important Financial Statement Details

Three financial statements must be prepared monthly to gauge the business operations’ financial health. With such financial information at your disposal, it would be easy to monitor the functions of the business and make educated decisions regarding expansion.

When the business owner wants to know the financial health of the firm’s operations, glancing at the financial statements is the only way possible. This mammoth responsibility falls on the shoulders of the financial management and internal audit departments. Since many departments are involved in this process, the information flow must be flawless and automated. For the business owner, three fundamental types of financial statements must be at the fingertips. These three financial statements are the Balance Sheet, Profit and Loss Statement, and Cash Flow statement. Also, in this statement, two more statements are required annually, such as the auditor’s report (external) and a statement on a change in equity.

Before we plunge into these statements independently, it would be prudent that the owner of the business glances at their trends as well.

Balance Sheet

First, the balance sheet reflects the number and values of a particular data. Usually, it would be like Jan 30, Feb 28, Mar 31, etc. The balance sheet is mainly composed of three distinct categories: assets, liability, and equity. The summation number of liability and equity should equal assets.

Furthermore, the asset is broken down into three components, which are current assets, fixed assets, and long-term assets. To oversee the firm’s operational efficiency, the business owner circumvents the items exhibited in the existing assets, such as inventory, receivables, prepaid expenses, and cash or account balance.

Furthermore, deriving vital financial ratios will be next to impossible as making an educated decision. To further probe into inventory, the business owner needs to see the break-up of the inventory, such as the proportion of raw material, work in progress, and finished goods. It will give the owner a better idea of the inventory. It is essential if it is a dead stock or has a short shelf life. Aging of receivables is also crucial as it gives a break-up of the amount in which bucket and how much of the receivables are falling into lousy debt to ascertain the conversion of credit sales to cash.

Although there are other components, such as fixed assets, which include plant, machinery, warehouse, vehicles, equipment, etc., or any other type of asset that has an accounting cycle of more than a year, the third component is the other long-term assets, such as negative goodwill, long-term deposits, etc.

Without cross-matching, current assets with current liabilities will be a futile exercise. It is important to mention that all the existing assets should be financed with current liabilities. Finishing long-term assets with current liabilities in a good balance sheet is a mismatch in the world accounting and financial domain. It reveals the economic character of the person. Therefore, this anomaly should be avoided at all times. The key elements to look into the current liabilities are accounts payables, short-term bank borrowings, deferred liabilities, and the current portion of long-term debt. By doing a ratio comparison analysis of current liabilities and current assets, it will be easier for the business owner to see the company’s liquidity position.

The only thing in long-term liability, which is paramount, is the long-term liabilities. They can be of five types: long-term bank borrowing, long-term lease finance and director’s loan (subject to the fact that it is not subordinated), debentures, and bonds.

Equity is the third part of the balance sheet, which includes the owners’ capital, reserves, and retained earnings. It is crucial at the time when calculating the leverage and gearing ratio.

Income Statement

It is a statement for a particular period, such as Jan 01 – Jan 31, Feb – 01 to Feb – 28, etc. In this specific period, the owner of the business glances at the expenditure or revenue stream. Although, there are also non-cash items, such as depreciation and amortization.

Moreover, three financial ratios of paramount importance are derived from the income statement. These are gross profit margin, operating profit margin, and net profit margin. Also, it is vital to domicile the revenue stream from operating profit and non-operating income. This statement also provides the nature of taxes, whether they are deferred, payable, or incurred. It also includes the financial expenses, which the firm has paid to the lenders, providing the owner with the information of financial leverage.

Cash Flow Statement

All the non-cash expenses are added back in before coming to the start of the starting operating cash. The statement has three categories of cash flows: cash flow from operating activities, financing activities, and investing activities. The most preferred activity in which the owner is interested is operating activities, as it gives the entire balance of operating sources and operating needs.