1 Financial Statements and Business
The Statement of Comprehensive Income
Assets Economic resources
Liabilities Sources of financing for the economic resources from creditors.
Shareholders Equity Sources of financing for the economic resources from shareholders.
Investors Individuals who buy small percentages of large corporations.
Dividents Portion of what the company earns which is given to investors.
Financing activities When money is exchanged between lenders and owners of a firm.
Investing activities When a firm buys or sells property.
Cash flows from operating activities Cash flows that are directly related to earning income.
Cash flow from investing activities Cash flows related to the acquisition or sale of the companys
Cash flow from financing activities - Cash flows related to the financing of the company itself. They
involve both receipts and payments of cash to investors and creditors.
Share capital Investment of cash and other assets in the business by owners in exchange for shares.
Retained earnings Amount of earnings reinvested in the business (and thus not distributed to
shareholders in the form of dividends).
Other components Reflects the changes in the values of assets and liabilities over time.
Interpreting Assets and Liabilities and Shareholders equity on the statement of financial position:
Assets Important to owners and creditors as it shows whether the company has sufficient resources to
operate the business, and it is also important to creditors because they could be sold for cash in case
the firm goes out of business.
Liabilities Creditors look at this to determine whether or not the firm has sufficient resources of cash
to pay its debt obligations. Shareholders equity Legally, if a company goes out of business, the firm must sell its assets and pay
back the creditors, then the shareholders. Therefore, shareholders equity serves as a protective cushion
to creditors as shareholders provide resources for the company to use in future, with no promise of
receiving any money.
NOTES ON FORMAT FOR STATEMENT OF FINANCIAL POSITION/BALANCE SHEET
- Assets are listed either increasing or decreasing in their convertibility to cash.
- Dollar sign beside the first amount in a group of items (assets, liabilities, shareholders equity)
- A single underline is placed under the last item in a group, and a double line under the total
The Statement of Comprehensive Income
Revenue Income from goods sold (quantity times price) and is normally recorded on the income
statement whether customers have paid for it or not.
Expenses Value of resources the entity used up to earn revenues during a period.
Cost of sales/Cost of goods sold Total cost to produce the goods for sale. This includes cost of
ingredients, wages paid to factory workers, and even a portion of the cost of buildings, equipment, and
tools used (called depreciation).
Interest expense Reflects the cost of using borrowed funds.
Profit Excess of total revenues over total expenses incurred to generate revenue during a specific
period. Losses are normally noted by parenthesis around the reported figure.
Note: Profit normally does not equal the net cash generated by operations.
Analyzing The Income Statement:
Investors and creditors want to monitor a firm to see their ability to sell goods and services for more
than it costs to produce and deliver them. Investors buy shares when they believe that future earnings
will lead to higher share price. Lenders also rely on future earnings to provide resources to repay loans.
The Statement of Changes in Equity
Beginning retained earnings + profit Dividends = Ending retained earnings Interpreting Retained Earnings
Creditors watch a firms retained earnings because the firms policy on dividend payments to its
shareholders affects its ability to repay its debts. Investors also look at debt as every payment to debt
means theres less to give as dividends. Investors also examine retained earnings to determine whether
the company is reinvesting a sufficient portion of profit to support future growth.
The Statement of Cash Flows
+/- Cash flows from operating activities
+/- Cash flows from investing activities
+/- Cash flows from financing activities
Change in cash
Cash flows from operating activities Cash flows that are directly related to earning income. For
example when revenue is received and expenses.
Cash flows from investing activities Cash flows related to the acquisition or sale of the companys
productive assets. (Money that leaves from buying assets and money received from selling assets).
Cash flows from financing activities Directly related to the financing of the company itself. They
involve both receipts and payments of cash to investors and creditors. Interpreting the Statement of Cash Flows:
The statement can serve to predict future cash flows that may be available for payment of debt to
creditors and dividends to investors. Cash flows from operating activities can be used to look at how the
company generates more cash from operations than it uses, and its ability to generate cash to meet its
current cash needs and to repay debts or expand the company. Cash flow from investing activities shows
any significant purchases the company has made, like a new manufacturing capacity which is a good sign
if demand continues to increase. Cash flows from financing activities indicates that the firm was abl to
pay dividends to shareholders and repay part of its short-term debt and long-term borrowings because
it generated cash from operating activities.