Financial statements are a set of documents showing a company’s current financial status. Specifically, these statements indicate:
- How much money is being made and spent
- What the company owns and how much it owes
- Where money came from and where it went
- The amount of money kept in the company by the owners
Entrepreneurs need to know what to look for in financial statements and how to properly analyze them so they can make informed decisions about their business. Many insights are available at a glance while others require deeper analysis.
Financiers and investors read and conduct even deeper analyses to determine whether or not to put more money into a business or take it out.
Financial statements convey the results and financial position of a business.
- We use them to evaluate sales, profitability, cash flow, and other metrics
- financial statements are prepared on a quarterly and annual basis
Financial Statements Overview
- Balance Sheet
- Income Statement.
- Statement of Cash Flows
- Statement of Stockholder’s Equity
The Balance Sheet presents a Company’s assets, liabilities, and shareholder’s equity at a point in time
Assets represent future economic benefits i.e. office building, patents, or even inventory
Liabilities represent future economic sacrifices i.e. bank loans, accounts payable to suppliers.
Equity represents capital contributions to the business + cumulative retained profits (earnings)
Under the accounting equation: Assets = Liabilities + Equity
Current assets/current liabilities ¡ Assets/liabilities that will be consumed (or paid off/settled) within the next year ¡ i.e. accounts receivable, inventory, or accounts payable
Non-current assets/non-current liabilities ¡ Assets/liabilities that will not be consumed (or paid off/settled) within the next year ¡ i.e. production equipment, long-term bank obligation
The Income Statement summarizes the profit generating activities of a business
Most companies report a multiple-step income statement
Statement of Cash Flows
The Statement of Cash Flows shows how a company’s cash balance changed over a period
The statement classifies cash transactions into 3 categories:
¡ Operating Activities
¡ Investing Activities
¡ Financing Activities.
Operating activities represent cash inflows and outflows related to a Company’s main business activities
Inflows include: cash received from customers for the sale of goods/services, interest income, and dividends from investments
Outflows include: inventory, salaries/wages, other operating expenses, interest on debt, and income taxes
Investing activities include cash inflows/outflows related to the purchase and sale of non-current assets
Examples: ¡ Purchase/sale of long-lived assets used in the business
¡ Purchase/sale investments in stocks and bonds
¡ Acquisition or disposition of businesses.
Financing activities relate to the external financing of the Company (debt + equity)
(1) shares issued to owners
(2) borrowing money
Outflows: (1) dividends, (2) acquisition of shares, (3) repayment of debt principal
Shares are units of ownership in a business that provide for an equal distribution of profit or dividends
All public companies have shares that are traded on stock exchanges
Basic shares outstanding = the number of shares outstanding
Sometimes companies issue stock options or other equity awards to executives as compensation. This represents “dilution” to current shareholders
Diluted shares outstanding = the number of shares outstanding + any potential claims on common shares
Earnings-Per-Share (EPS) = Net Income / Shares Outstanding
¡ Represents how much profit the Company generates per share outstanding
Basic EPS = Net Income / Basic Shares Outstanding
Diluted EPS = Net Income / Diluted Shares Outstanding