Financial statement basics
Financial statements are often seen as the report card of a business – at least from a historical financial perspective. Understanding the information in the financial statements is an essential step to informed investment decision-making.
In general, the financial statements provide historical financial information about a company that is useful to existing and potential investors, lenders and other creditors in making certain decisions.
To support timely investment decision-making, public companies in Canada are required to publish quarterly and annual financial statements. In conjunction, with other reporting documents, this information aims to provide investors with a regular stream of financial information about a company’s financial performance, financial position and cash flow.
Components of the Financial Statements
Typically, a complete set of financial statements comprises:
- a statement of financial position
- a statement of profit or loss and other comprehensive income
- a statement of changes in equity
- a statement of cash flows
- notes, comprising significant accounting policies and other explanatory information
Statement of Financial Position
The statement of financial position (commonly referred to as the balance sheet) summarizes the company’s financial position at a point in time – like a photograph it captures the financial position at a specific moment.
The statement of financial position includes:
- assets — the measurable resources the company controls as a result of past events, from which it expects to generate future economic benefits (e.g. cashflow)
- liabilities — the measurable obligations the company has as a result of past events
- equity — the residual interest in its assets after deducting all liabilities (i.e., net worth).
Among other things, the statement of financial position can provide valuable information on financial condition, including the company’s ability to pay certain liabilities as they come due.
Statement of Profit or Loss and Other Comprehensive Income
The statement of profit or loss and other comprehensive income summarizes the company’s financial performance a period (usually a quarter or a year). This statement may have a variety of titles (perhaps referring to “operations” or “earnings” or similar) and may be presented separately as two different statements: one presenting profit or loss (often called the income statement) and one presenting comprehensive profit or loss.
The statement of profit or loss includes:
- Revenue – what the company earned
- Expenses – what it cost to earn the revenue and operate the business
- Net income – the resulting profit made (i.e., the “bottom line”).
Among other things, this statement can provide valuable information on financial performance, including whether the company is making a profit and the drivers of that profit (e.g., increased revenue, lowered expenses, one-time gains etc.).
Statement of Cash Flows
The statement of cash flows summarizes the movements in the company’s cash (i.e., the statement only reports actual inflows and outflows of cash).
Statement of cash flows includes:
- Cash flows from operating activities –arising from principal revenue-generating activities
- Cash flows from investing activities – arising from the acquisition and disposal of long-term assets and other investments
- Cash flows from financing activities – amounts received from or paid to providers of capital such as lenders or equity investors
Among other things, statement of cash flows can provide valuable information about how a company generates and uses cash. This is important because a company needs to have enough cash to pay varies parties such employees, suppliers, creditors to name a few. While the statement of profit or loss and other comprehensive income shows whether a company made a profit, the statement of cash flows shows whether the company generated actual cash.
Statement of Changes in Equity
The statement of changes in equity summarizes the changes in equity (i.e., net worth).
Among other things, statement of changes in equity can provide valuable information about the categories of transactions or events that caused equity to increase or decrease.
Notes to the Financial Statements
The notes to the financial statements contain information on the accounting policies applied in the financial statements, judgments and estimates used in the preparation of the statements and other important information relevant to understanding the statements.
Read 10 reasons to read the notes to financial statements.