In my previous post, I discussed the balance sheet, one of the four major financial statements. I further explained the meaning of Contributed Capital and Retained Earnings to clarify the equation (Asset = Liability + Equity).
Today’s post will discuss the other three key financial statements: The Income Statement, the Statement of Change in Equity, and the Statement of Cash Flow.
A business’s Income Statement (Profit and Loss Statement or P&L) is another key financial statement that summarizes its revenue and expenses over time. It presents the flow of a transaction (the income-generating transaction) over a period. It shows the income earned and expenses incurred by the company during operation. Also, it provides the details of those third-party transactions that resulted in an increase or decrease in Owners’ Equity (and net assets). These records provide information about a company’s ability or inability to generate profit by increasing revenue, reducing costs, or both. P&L statements are often presented on a cash or accrual basis. Company managers and investors use P&L statements to analyze a company’s financial health.
The Statement of Change in Equity
The Statement of Owners’ Equity is a financial statement that outlines the changes in retained earnings for a company over a specified period. This statement reconciles the beginning and ending retained earnings for the period, using information such as net income from the other financial statements, and is used by analysts to understand how corporate profits are utilized. This statement is often called the statement of retained earnings, as this is where you see what happened to retained earnings for the accounting period being reported. The items most commonly seen in this statement are Retained Earnings (or losses), which will either increase or decrease equity, dividends paid to investors, and withdrawals made by owners (both of which will decrease equity). The general entries to this kind of statement are:
- Previous balance
- Investments by Owners
- Net Income
- Distributions to Owner (The owner’s salary would go here)
- Ending Balance: Opening Balance of Equity + Net Income – Dividends +/- Other Changes = Closing B
The Statement of Cash Flows
A cash flow statement is a financial statement that provides aggregate data regarding all cash inflows a company receives from its ongoing operations and external investment sources. It also includes all cash outflows that pay for business activities and investments during a given period. The cash flow statement is believed to be the most intuitive of all the financial statements because it follows the cash made by the business in three main ways—through operations, investment, and financing. The sum of these three segments is called net cash flow. Profitable companies can fail to adequately manage cash flow, which is why a cash flow statement is critical for companies, analysts, and investors.
Financial statement analysis evaluates a company’s performance or value through a company’s Balance sheet, Income statement, or Statement of cash flows. By using several techniques, such as horizontal, vertical, or ratio analysis, investors may develop a more nuanced picture of a company’s financial profile.
Written by Tutty Tero