What are the Components of Financial Statements?
The components of Financial Statements are the building blocks that together form the Financial Statements and helps in understanding the financial health of the business. and consist of Income Statement, Balance Sheet, Cash Flow Statement and Shareholders Equity Statement. Each component serves a purpose and helps in understanding the financial affairs of the business in a summarized fashion.
Top 4 Components of Financial Statements
The four components are discussed below:
#1 – Balance Sheet
Balance Sheet reports the financial position of the business at a particular point in time. It is also known as the Statement of Financial Position or Statement of Financial Condition or Position Statement.
It shows the Assets owned by the business on one side and sources of funds used by the business to hold such assets in the form of Capital contribution and liabilities incurred by the business on the other side. In a nutshell, the Balance Sheet shows how the money has been made available to the business of the company and how the company employs the money.
Balance Sheet Consists of 3 Elements:
These are the resources controlled by the business. They can take the form of Tangible Asset or Intangible AssetsIntangible AssetsIntangible Assets are the identifiable assets which do not have a physical existence, i.e., you can't touch them, like goodwill, patents, copyrights, & franchise etc. They are considered as long-term or long-living assets as the Company utilizes them for over a year. and can also be classified based on Current AssetsCurrent AssetsCurrent assets refer to those short-term assets which can be efficiently utilized for business operations, sold for immediate cash or liquidated within a year. It comprises inventory, cash, cash equivalents, marketable securities, accounts receivable, etc. (which are to be converted into cash within a year) and Non-Current Assets (which are not converted into cash within a year).
These are the amounts owed to lenders and other creditors. Liabilities are further classified into Current Liabilities Classified Into Current LiabilitiesCurrent Liabilities are the payables which are likely to settled within twelve months of reporting. They're usually salaries payable, expense payable, short term loans etc. such as Bills Payable, Creditors, etc. (which are payable within a year) and Non-Current Liabilities such as Term Loans, Debentures, etc. (which are not payable within a year).
Also known as Capital Contribution by the Owner. It shows the residual interest in the Net AssetsNet AssetsThe net asset on the balance sheet is the amount by which your total assets exceed your total liabilities and is calculated by simply adding what you own (assets) and subtract it from whatever you owe (liabilities). It is commonly known as net worth (NW). of an entity that remains after deducting its liabilities. It is also a sign of promoter’s skin in the game (i.e., business).
For each transaction in the Balance Sheet, the fundamental accounting equationAccounting EquationAccounting Equation is the primary accounting principle stating that a business's total assets are equivalent to the sum of its liabilities & owner’s capital. This is also known as the Balance Sheet Equation & it forms the basis of the double-entry accounting system. holds:
#2 – Income Statement
The Income Statement reports the financial performance of the business over some time and comprise of Revenue (which comprise of all cash inflows from the manufacturing of goods and rendering of services), Expenses (which comprise of all cash outflows incurred in the manufacturing of goods and rendering of services) and also comprise of all gains and losses which are not attributable in the ordinary course of business. Excess of Revenues over Expenses result in Profit and vice versa, resulting in Loss for the business during that period.
Under IFRS, Income Statement also comprises of Other Comprehensive IncomeOther Comprehensive IncomeOther comprehensive income refers to income, expenses, revenue, or loss not being realized while preparing the company's financial statements during an accounting period. Thus, it is excluded and shown after the net income., which consists of all changes in Equity except for shareholder transactions and, as such, can be presented together as a single statement. However, as per US GAAPGAAPGenerally accepted accounting principles (GAAP) are the minimum standards and uniform guidelines for the accounting and reporting. These standards prohibit firms from engaging in unethical business activities and enable for a more accurate comparison of financial reports to investors. guidelines, Statement of Comprehensive IncomeStatement Of Comprehensive IncomeStatement of Comprehensive Income refers to a financial performance statement prepared monthly, quarterly, or yearly, other than the Income Statement. It records the details of the company's unrealized revenue, income, expenses, or loss when a company prepares the financial statements of the accounting period. forms part of Statement of Changes in Equity.
#3 – Statement of Changes in Equity
This statement is one of the components of the financial statement which reports the amount and sources of changes in Equity Shareholders Investment in the business over a while. It summarizes the changes in the capital and reserves attributable to equity holders of the company over the accounting periodAccounting PeriodAccounting Period refers to the period in which all financial transactions are recorded and financial statements are prepared. This might be quarterly, semi-annually, or annually, depending on the period for which you want to create the financial statements to be presented to investors so that they can track and compare the company's overall performance., and accordingly, all the increase and decrease during the year when adjusted with the Beginning balance results in Ending balance.
The statement includes transactions with shareholders and reconciles the beginning and ending balance of each equity account, including capital stock, additional paid-in capital, retained earnings, and accumulated other comprehensive income. The statement shows how the composition of equity (share capitalShare CapitalShare capital refers to the funds raised by an organization by issuing the company's initial public offerings, common shares or preference stocks to the public. It appears as the owner's or shareholders' equity on the corporate balance sheet's liability side., other reserves, and Retained Earnings) has changed over the year.
#4 – Cash Flow Statement
This statement shows the changes in the financial position of the business from the perspective of the movement of cash into and from the business. The primary rationale behind the preparation of a cash flow statement is to supplement the Income Statement and Statement of Financial Position as these statements don’t provide sufficient insight into movements in cash balances.
The cash flow statement bridges that gap and helps various stakeholders of the business to understand the sources of cash and utilization of cash. There are three sections to the cash flow statementCash Flow StatementStatement of Cash flow is a statement in financial accounting which reports the details about the cash generated and the cash outflow of the company during a particular accounting period under consideration from the different activities i.e., operating activities, investing activities and financing activities., namely:
- Cash Flow from Operating Activities – It starts from Operating Profit and reconciles operating profit to cash.
- Cash Flow from Investing Cash Flow From Investing Cash flow from investing activities refer to the money acquired or spent on the purchase or disposal of the fixed assets (both tangible and intangible) for the business purpose. For instance, the purchase of land and joint venture investment is cash outflow, while equipment sale is a cash inflow.Activities – It comprises of all acquisition/purchase of long term assets and disposal/sale of long term Assets and other investment which are not included in cash equivalent. It also includes receipts of interest and dividends from investments.
- Cash Flow from Finance – It accounts for changes in equity capital and borrowings. It comprises of payment of dividends to the shareholdersDividends To The ShareholdersDividend is that portion of profit which is distributed to the shareholders of the company as the reward for their investment in the company and its distribution amount is decided by the board of the company and thereafter approved by the shareholders of the company. of the company, cash flows arising from the repayment of loans, and fresh borrowing and issue of shares.
Each component of the Financial Statements serves a unique and useful purpose and helps various stakeholders understand the financial health of the business in a more simplified manner and make better decisions, either an investor or a lender, and so on.
- The balance sheet statement has its utility lies in showing the position of the business on a particular date.
- Income Statement, on the other hand, shows the performance of the business during the year and provides a more granular view, thereby complementing the Balance Sheet.
- The statement of changes in Equity shows how equity capital changed during the accounting period and helps stakeholders understand the Owner’s perspective.
- Cash flow Statement provides information about the company’s cash receipts and cash payments during an accounting period, which provides meaningful information to analyze the liquidity, solvency, and financial flexibility of the business.
This has been a guide to Components of Financial Statements. Here we discuss the top 4 components, including income statement, balance sheet, cash flows, statement of changes in Equity with its format, and explanation. You may learn more about accounting from the following articles –